The issue of companies failing only to be bought from an administrator, debt-free, can prove unpleasant for those who lose out. Sarah Carlton, Associate at Fox Williams LLP, looks at the law and offers advice
It’s a sad fact of life that businesses can and do fail and the fallout can impact upon many – owners, shareholders, employees, customers and suppliers alike. Often there is nothing underhand about the failure – the company is wounded fatally by a lost contract, a massive hike in a rent or rates, or has been unable to adapt to changing market conditions.
Occasionally, however, firms are set up to fail through the deliberate actions of their management with a view to defrauding creditors. In certain situations, directors of the failed company turn to what is known as a ‘phoenix’ company.
The rise of the phoenix
‘Phoenixing’, or ‘phoenixism’, are terms that describe the practice of carrying on the same business or trading successively through a series of companies which in turn becomes insolvent – the idea being that a new business rises from the ashes of an old one, hence the term ‘phoenix’. Each time this happens, the business of the insolvent company (but not its debts), is transferred to a new, but similar, phoenix company, usually through the use of a pre-pack administration. A pre-pack administration involves the business of the liquidated company being sold as a ‘going concern’, (i.e. as an operating business) through a process orchestrated by an appointed insolvency practitioner. The insolvent company then ceases to trade and might enter into formal insolvency proceedings or be dissolved.
Phoenixing often harbours negative connotations, mainly because of the actions of directors who force their companies into insolvency to then purchase back company assets through the new company, leaving behind any liabilities in the insolvent company. The process often involves financial loss being suffered by the creditors of the failed company – a practice that can both leave a nasty taste in the mouth and give phoenix companies a rather bad reputation.
There is no doubt that in rare circumstances, the directors of a company do set out to commit insolvency fraud and so will deliberately reform a business using a phoenix company to avoid paying creditors. They will ensure that the phoenix company is set up so that it appears slightly different from the insolvent company. The business will continue to trade and operate and the creditors of the insolvent company will not usually recover their debts as they remain with the insolvent company – a separate legal entity – and will not be transferred over to the newly formed company. The bad news for creditors and suppliers is that they will have no contractual claim against the new company for debts incurred by the old, defunct, company.[…]
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