Carillion crisis—restructuring and inevitable insolvency
Stephen Young, consultant solicitor at Keystone Law, explains why Carillion entered compulsory liquidation rather than being placed in administration, and considers the wider implications of its collapse.
Why did Carillion enter compulsory liquidation rather than administration?
For an administrator to be appointed over a company, the proposed appointee must be satisfied that if appointed, they will be able to achieve one of the three statutory purposes:
- rescuing the company as a going concern
- achieving a better return for creditors as a whole than if it were wound up, or
- realising property of the company in order to be able to make a distribution to one or more secured creditors
Entering administration does not automatically shut down the company, as the process does give the appointee the ability to trade the business in order to see if all or part of it can be rescued.
By comparison, when a company enters compulsory liquidation, it immediately ceases to trade because normally there is no viable business left to save. Instead the liquidator will go in and realise any remaining assets of the company and distribute them to creditors.
Normally it takes several weeks between petitioning the court to wind up a company and an order being made, as actions must be taken within certain time limits.
Therefore, the fact that Carillion did not appoint administrators, but instead persuaded a judge to waive the statutory time limits and make a winding-up order during an out-of-hours telephone hearing on a Monday morning, demonstrates how desperate the position with Carillion must have been. The company obviously had no viable business to save, and I suspect that many of the contracts it had been awarded in recent years had margins so tight that no other business would be prepared to take them on. This meant that those advising the company immediately prior to the liquidation must have decided that none of the statutory administration purposes could be achieved.
There is also the issue of a report that the company only had about £29m of cash available, and that two of the ‘big four’ accountancy firms deemed this insufficient for them to fund an administration.
Carillion had a large number of public sector contracts, such as with schools and prisons. Immediately after it was wound up, those contracts were transferred back into public ownership, and liquidation is likely to have been allowed in order for those contracts to be terminated, thereby facilitating that transfer back into government control.
Unlike an administrator, a liquidator also has the power to disclaim onerous property, such as unprofitable contracts. Given that it was reported that Carillion had a number of such contracts, the power of disclaimer would clearly be useful in order for those contracts to be dealt with quickly.
Although an administrator does have some protection from some personal liability when they are appointed, they would not have been protected if some of the Carillion contracts exposed them to potential health and safety and environmental liabilities. Those liabilities may have been of a nature which meant that obtaining insurance cover was either costly or not feasible. If this was the case, that too would have deterred the appointment of an insolvency officeholder from a private practice.
To what extent did the government affect this outcome?
Prior to the liquidation, there had been high-level discussions between Carillion, its banks, its advisors and the government. The government was concerned at what effect any collapse of Carillion would have on the infrastructure contracts it had been awarded, including those awarded to it—despite it issuing profit warnings since last July—on the provision of those services and jobs. As the banks were seemingly not prepared to write off or restructure their debts, the only way it seemed likely that Carillion would avoid insolvency was if the government bailed out the company in a similar way it had done with the banks during the credit crunch ten years previously. When it was clear that the government wouldn’t bail it out, insolvency was inevitable.
Therefore, the appointment of the Official Receiver (OR)—who is a public official within the Insolvency Service—means that the government has a high level of control over both the liquidation (which it would not have had if the liquidator had been from a private practice) and the amount of taxpayers’ money spent on the process.
The appointment also allows the government to have more control over any investigations into the conduct of the directors and facilitating the task of the Pension Protection Fund (PPF) to deal with the company’s reported £500m pensions.
What is the role of the special manager?
The special managers are six partners of PwC who were appointed on the application of OR, acting as liquidator of Carillion, to assist and advise the OR to carry out their function as liquidator. Their functions should not be confused with those conferred on an administrator or a liquidator. The powers of a special manager are determined by the court on a case-by-case basis.
In this matter, the special managers were appointed as the Insolvency Service probably did not have the available resources to run the liquidation on its own. Therefore, the special managers are acting on the instructions of the OR to deal with the orderly operation and/or shutdown of parts of the business.
Why was the company unable to restructure its debts?
Initially Carillion issued profits warnings in July 2017 after the company had incurred large debts and had to write down the value of a number of older contracts. That warning started a significant decline in the share value of the company. Initially it sought to sell some shares, restructure some of its debt, and offload its healthcare business in order to restructure its business. It also won new contracts from Network Rail valued at £200m. However, Carillion announced a further profit warning in November 2017, and warned that it needed a fresh injection of capital.
Although some further debt restructuring was achieved, by January 2018, it was reported that the only way the company could survive was if its main bankers (Santander, Barclays, Lloyds, RBS and HSBC) agreed to increase their banking facilities to allow the business to receive a cash injection of £300m. Prior to liquidation, Carillion presented the banks and the government with details of its plans to restructure the business. When the banks rejected the plan, Carillion turned to the government for a ‘bail out’. When that was refused, insolvency was inevitable.
What are the wider effects of the liquidation?
There are a number of issues that have followed the liquidation of Carillion, including:
- There has been the fear of a domino effect on those businesses that either were suppliers of Carillion or engaged as sub-contractors. Many of these were already subject to reported 120-day payment terms, and now their loss of income will cause additional cash flow issues. That in turn may lead to redundancies and further business failures.
- The government has announced that the Secretary of State will ‘fast-track’ its investigations into the conduct of Carillion’s directors. The Insolvency Service is already under-resourced, so the likelihood is that by focusing their attention on this case, investigations into other insolvencies, involving equally or more culpable directors, may be delayed or affected.
- The PPF will step in to rescue the pension fund, which has a reported deficit of over £500m. It will also investigate whether to exercise its moral hazard powers to compel anyone deemed to have been culpable for causing the deficit to make a contribution towards it. Questions will also be asked of the PPF as to how long it has known about Carillion’s pension deficit and what steps it could have taken earlier to limit it.
- The government itself has also announced that, in light of the pension issues in Carillion, they will consult on whether pensions liabilities should be given priority status as a creditor in future insolvencies.
- KPMG, Carllion’s auditors, will also come under scrutiny of their work, given the allegations that Carillion has been financial mismanaged for some time.
There will be further scrutiny of the use of private outsourcing companies undertaking public sector contracts. Companies such as Capita and Interserve are already coming under scrutiny, with Capita only last week announcing a profits warning, causing a sharp decrease in the company’s share price. The ongoing use of private finance initiative contracts, a legacy from the 1990s/2000s, will also be reviewed.
Interviewed by Jenny Rayner.
The views expressed by our Legal Analysis interviewees are not necessarily those of the proprietor.
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