Media criticism of the banking sector’s approach to restructuring clients is just the latest point of discussion in a long-running debate on the UK’s business rescue culture. Fred Crawley and John Brazier ask what can be done to limit public misunderstanding of insolvency
While professionals working in the field of insolvency, restructuring and turnaround may accept that this perception comes with the territory, there is little doubt that much could be done to improve public understanding – and trust – of their work.
Recent allegations by government entrepreneur-in-residence Lawrence Tomlinson about the conduct of RBS towards business customers – specifically, the bank’s supposed shutdown of healthy companies in order to move them into its restructuring arm and profit from the sale of their assets – have not helped the situation.
Currently, the industry is awaiting the results of a review into RBS’ conduct by law firm Clifford Chance, but whatever the outcome, the issue of perception must still be addressed. For Julian Cooper, managing director of restructuring advisory firm MPC Corporate Services, there are steps the banking sector might consider taking, regardless of whether Tomlinson’s allegations are found to have substance.
“I think two possibilities the industry as a whole could consider would be first to think carefully about whether clearing banks should undertake debt-equity swaps at all, and second whether to move away from operating ‘intensive care’ or restructuring arms as profit centres,” says Cooper.
“Both of these matters can create at least the perception of a conflict of interest and those conflicts of interest can be tricky to manage. Mitigating them might go a long way to addressing the issue of perception.
“On the other hand, debt-equity swaps, when undertaken as part of a consensual restructuring, can be an effective tool enabling banks to support over-indebted businesses. Likewise, if lenders are to maintain highly specialised intensive care teams – which most people would consider to be a good thing – then it is not unreasonable that the costs of this resource should be paid for by the businesses which use it.”
Nevertheless, he says, these changes are already under way for a number of reasons, among them the complicating effect that debt/equity swaps have in the context of the reporting requirements of Basel III, the international regulatory framework for banks.
As such, he argues, a natural correction can be expected over time without need for any intervention in the short term.
Yet more pre-pack discussions
Yet while it is the most current controversy touching the insolvency and rescue community, the Tomlinson report is far from the only reputational issue in play.
Closer to home for insolvency practitioners is the issue of pre-packaged administrations which, while certainly nothing new, is due for yet another round of debate when the government review of the matter led by Theresa Graham reports back in spring 2014.
Nick Hood, a former insolvency practitioner (IP) and now business risk analyst for Company Watch, says IPs are well aware of the fact that many public commentators see pre-packs as a “stich-up”, designed to help directors escape debts. As such, he argues that putting too much effort into emphasising the validity of “third party” pre-packs, or the difference they can make in ensuring business continuity and saving jobs, may be a waste of time.
“Every piece of ill-informed media coverage, often very localised, dilutes the PR impact of these positive messages,” says Hood. “But it’s still vital for the profession to keep putting the facts out there, and to make transparency a priority when executing a pre-pack. This means going further than just complying with disclosure rules on a tick-box basis, and being as open as possible about why and how a deal was done, as well as the benefits for creditors. IPs can’t defend the indefensible, but they can certainly explain pre-packs better.”
Tyrone Courtman, president of the European Association of Certified Turnaround Professionals and restructuring partner at PKF Cooper Parry, agrees that notwithstanding Statement of Insolvency Practice 16, the guidance which covers pre-packs, good communication surrounding pre-packs is critical “if stakeholders are to be supportive of the specifics”.
“Ideally I would like to see a distinction between who provides advice to management and the company prior to a pre-pack, and who, ultimately, the administrator is. At the moment those two tend to be one and the same, and I think we need to be aware how that may appear to the public and politicians – maybe there is a potential conflict which the industry should take steps to do something about.”
In terms of the sale process, Courtman says: “If communication is achieved properly, if the marketing is done in an open and transparent way, and all prospective interested parties are appropriately informed as to what is available, then a pre-pack can be very constructive, avoiding the consequential damage that often comes with a formal insolvency process. That is a very positive message to put out.”
The ongoing interrogation of the pre-pack process is, however, perhaps not the most practically soluble reputational issue facing the profession. The other area in which public and media commentators often suspect a stitch-up is that of the bank panel system.
The Tomlinson report states: “The relationship between the bank, IPs, valuers and receivers should undergo careful analysis. The interdependency of these businesses on banks for generating custom establishes a natural loyalty and bend towards the interests of the banks.”
Since the introduction of the Enterprise Act, IPs have been charged with responsibility for the whole body of creditors in an insolvency event. As a result, any agreement or alignment between firms and bank creditors is bound to be seen as creating a conflict of interest – especially when the objectives of major banks are not in tune with those of other creditors.
“Even where an IP is not on a bank’s panel or even well known to a bank, they can be beholden to the lender for agreement of their fees,” says Hood. “The profession feels there is nothing here
that can’t be resolved by an appropriately adult conversation.
“The public perception is somewhat different, however, highlighted by the reaction to recent research on major retail failures which showed unsecured creditors recovering less than 1p to the pound on almost £2bn of debt, while many hundreds of millions went to the banks and administrators concerned.”
While Hood accepts this as commercial reality, he argues that work is needed to establish a greater level of independence by IPs working on cases where they have been nominated or appointed by a bank.
Courtman asks a more fundamental question of the system: “Given the increasing mistrust of the banks, I think they need to think very seriously around the idea of the panel-appointed IP. The public and politicians are likely to be very suspicious of panel IPs in the light of our purported rescue culture. If you’re on a panel-appointed case, it must to quite a challenge to ensure you remain totally independent.”
Even without a formal panel system, Courtman recognises it would be unrealistic for banks not to have preferred appointees. This, he says, fuels the need for even greater transparency in the appointment process.
“The provision of secondees to the banks by some is questionable if they are to demonstrate that all of their dealings are at arm’s length. Some may ask why firms do this, and what favours it incurs; the question may be making something of nothing, but it is perception which is key. People have every reason to be suspicious in the light of recent controversies and banks need to be increasingly cognisant of that.”
Hood adds that increasing the size of the Prescribed Part reserved for unsecured creditors “might help, as could ending the disenfranchisement of unsecured creditors by giving them a say in the agreement of IP fees, even where they have no economic interest in the outcome.”
Income and costs
To many, the elephant in the room when discussing perception of the insolvency profession – by the public and by the businesses that interact with it – is the issue of fees and costs.¬ Outcry over hourly rates, or the percentage of recoveries absorbed in smaller insolvencies, is a common theme in the national media.
While the recent Kempson review of IP fees had several positive things to say about the way the profession makes its living, there is obviously still room for improvement. To Hood, the value proposition for IPs must change from one based on the argument of “because we’re worth it” to one based on “because of the value we preserve”.
He says: “The profession is no longer just selling time. It needs to be selling success, and timely success at that. Across the world there are many different models for rewarding insolvency experts for their efforts, with some rewarding time spent, others the speed of action and many the absolute amount of realisations.”
The answer to this particular issue of perception may not lie just in IP income models, but in their cost structures.
One aim of the Ministry of Justice’s recent Jackson Reforms was to build the concepts of proportionality and cost management for civil litigation costs into legislation. While the reforms have arguably driven many marginal providers out of the legal market and restricted access to justice, they have at least ensured tighter cost control and greater efficiency.
Hood feels there are lessons to be learnt here for IPs, who should “look at their costs and processes, so that the continuing downward pressure on fees doesn’t force them all into a ‘Mr Micawber’ mentality.”
Winners and losers
It’s inevitable that Clifford Chance’s findings at RBS will, whatever their content, trigger further debate on the way that insolvency events are handled in the UK.
And while banks will almost certainly end up with more work to do in terms of inspiring public confidence, there is also some hope that further scrutiny of the issues surrounding corporate failure might increase public understanding to a point of less endemic distrust.
“If you pursue the free market ideal, then there are always going to be winners and losers” says Courtman. “Those losers need to be dealt with in a civilised way, and there needs to be an order which everyone subscribes to as the way things need to be dealt with.”
In the meantime, says Hood, the profession “needs to embrace media interest, whether it’s critical or simply inquisitive, and not shy away from it as far too many IPs do. There are so many success stories to tell – jobs saved, communities rescued and businesses preserved, even if in someone else’s more capable hands. IPs provide a significant public service: taking control of imploding companies, counselling the over-indebted, recycling unproductive assets, and, most of all, providing clarity for stakeholders plagued by uncertainty.”
Insolvency professionals can only hope this message catches on in broadsheet editorials in 2014.