In December, the Insolvency Service published a research paper on CVLs. It involved the analysis of c.2,000 2017 CVLs to explore the efficiency and effectiveness of the CVL process.
Because the researchers considered that efficiency and effectiveness are generally measured in terms of swift distributions to creditors, the conclusion was that CVLs seem neither efficient nor effective. They say: “A process that takes an average of 2 years to complete and an average recovery of 0% to the majority of creditors, is arguably, not efficient”.
But is that fair? Does that overlook other benefits of the process? Isn’t it unrealistic to expect most CVLs to generate a return to creditors?
The paper is at https://www.gov.uk/government/publications/creditors-voluntary-liquidation-cvl-research-report-for-the-insolvency-service.
In Summary
The main points arising from the research paper include:
- The median average CVL took 2 years to complete
- Fees incurred were, on median average, 163% of asset realisations
- IPs received a median average of liquidators’ fees of 21% of asset realisations or 14% of time costs incurred
- 86% of cases (excluding 6% of the total that were not yet closed) did not pay a distribution/dividend to any creditors
- 54% of D-reports were sifted in, of which 19% were targeted by the Insolvency Service for investigation, of which 49% – or 5% of all cases – led to a disqualification
In this article, I look at some of the reasons for questioning the robustness of these conclusions and some of my own suggestions as to why CVLs don’t appear to be performing well.
Why Conduct the Research in the First Place?
The 2016 Rules were said to have been produced “with the overall aim being to provide better outcomes from insolvency and increased returns to creditors”. The review of the 2016 Rules led to a commitment to examine CVLs, which are by far the most commonly used insolvency process.
However, the paper describes some other “concerns” about CVLs:
- Allegedly, pre-CVL fees are often paid pre-appt by the company or by another party and “the informal arrangements around pre-appointment fees are not fully transparent and subject to less control by creditors” than in ADMs
- Firstly, why should creditors control another party’s payment of fees? Secondly, who says that pre-ADM fees are never paid pre-appt without creditors’ approval? I picked four Nov-24 ADMs at random and the Proposals on one case disclosed a pre-appt payment.
- Later on, the paper says: “pre-appointment fees are an area of some concern to creditors as they have no control over them”. This is just not true: in many cases, the liquidator must ask creditors to approve them under R6.7.
- Allegedly, IPs appear to be the major beneficiaries of the CVL process
- Hearteningly, the paper recognises that “a careful balance needs to be struck as a certain level of IP remuneration may be needed to incentivise a good quality profession, which ultimately helps underpin confidence in the insolvency regime”.
- Allegedly, there are “burial liquidations” where “an unholy trinity of company director, local accountant and so-called ‘friendly’ insolvency practitioner quietly liquidate a company on a voluntary basis with no questions asked as to how the director might have ripped value out of the company for his own benefit prior to the liquidation” (the Lord Agnew of Oulton DL)
- I’m not going to dignify that suggestion with a comment.
- Allegedly, “CVL factories” operate in which costs have been driven down to such a level that it is questioned whether “full duties can be carried out”, particularly as regards investigations
- This seems a sensible question to ask, although surely in a competitive market there will always be pressure on costs. Isn’t that what the regulators are for, to say “this far and no further”?
That’s quite a to-do list! While I agree it is important to answer such allegations, it is questionable whether this research, which generally explores only IP fees, time costs and distributions to creditors, could ever be expected to provide answers.
How long is the average CVL?
The analysis resulted in a median length of time a CVL is “open” of 712 days (2.0 years). However:
- The researchers viewed a CVL as closed at the date of dissolution. Although I suppose this is technically correct, most people would view a CVL as closed when the liquidator vacates office, i.e. generally 3 months before dissolution. Therefore, the median is more like 620 days (1.7 years).
- I would also argue that the CVL is pretty-much done 8 weeks before this, when the liquidator issues notice that the company’s affairs are fully wound up (R6.28). This would reduce the median to 564 days (c.1.5 years).
- On the flipside, the original sample included 183 cases – 6% – that were not yet dissolved and thus were excluded from the analysis. Had these been included, it would have shifted the median to a longer period.
If the government were interested in improving the efficiency of CVLs measured simply by their duration, why not cut the 3-months-to-dissolution and the 8-weeks-to-filing-final-report provisions? After all, under the 1986 Rules, only 28 days’ notice was required for the final meeting and I don’t recall anyone claiming this wasn’t long enough.
I think that other inefficiencies in the current CVL process include:
- Creditor apathy as regards fee approval resulting in liquidators convening more than one decision procedure to get approval and in some cases resorting to a court application for approval; and
- Delays in establishing preferential pension claims. 22% of cases that had pref creditors (these pre-dated HMRC’s pref status) had a preferential distribution and I suspect that many of these cases took longer to close than should have been possible because of pension claim delays. I do think, however, that this area has improved recently.
Flawed Assumptions about Fee Payments
The researchers allocated 450 cases (17%) in the category: no pre-appt fee paid. However, their assumptions appear odd:
- They state that, “if a pre-appointment fee had been paid, it would be disclosed in either the receipts and payments account or included in the narrative of the liquidator’s report”. But would it? If a pre-CVL fee had been paid pre-appt, then it would not necessarily have been disclosed in an annual or final report as it would not have been paid in the reporting period.
- I struggle to imagine why an IP/firm would not charge a pre-appt fee unless they did not do the pre-CVL work and I do not expect this accounted for 17% of the cases.
- They also state that “83% (2,267) have a pre-appointment fee that is not subject to any approval by the creditors”. Is this really what they discovered? This suggests that none ofthe cases where they identified that a pre-appt fee had been paid involved a liquidator seeking approval under R6.7, which cannot be right.
The researchers appear to have made the opposite assumption about disclosure of liquidators’ fees:
- “A director or third party may have paid the agreed fee and so disclosure was not required”. However, in this case disclosure would have been necessary because such payment would have been made in the review period and thus SIP7 would have required it to be disclosed.
- The researchers suggest that the 34% pre-appt-fees-paid-but-no-liquidation-fees-paid cases “may indicate that the fees were paid by a third party or potentially paid upfront”. This seems a peculiar assumption. Surely a more likely scenario is that the asset realisations were insufficient to pay any liquidation fees, isn’t it?
What does a Liquidator do?
A significant assumption running through the paper is:
- “The liquidator’s duty is to achieve the best possible outcome for all creditors”.
Is this true? If it were, then why do liquidators do D-reports and help the Insolvency Service with their investigations? And why would liquidators deal with employee and pension claims via the RPS, as this work merely swaps out one creditor for another?
There are umpteen other tasks that chip away at maximising the return to creditors: Gazette notices; bonding; producing extremely detailed reports for creditors; seeking fee approval; seeking it a second time; maintaining files to the RPBs’ expectations as regards file notes, bank recs, case reviews…
I am not saying that these items are unnecessary and to be fair the paper does acknowledge to some extent liquidators’ CDDA work, but I do wish that there was more recognition of the fact that all these tasks cost money and it is perhaps this that leads to the perception that the only real beneficiaries are the liquidators. If the Insolvency Service is truly interested in enhancing creditor returns, then perhaps they could focus on reducing the regulatory burdens on liquidators.
Can Low Value CVLs Ever be made “Efficient”?
The paper includes:
- “the fees of the process are more than the assets realised in the majority of cases therefore the process is arguably not efficient”
“Fees” are pre-appt fees plus post-appt time costs, so this is not a statement about how much IPs are actually getting paid.
I think that the main reason why fees are so much greater than realisations in most cases can be found in the finding that the median value of assets realised is £5,798. Could the CVL process ever be stripped back to such an extent that cases like these would cover all their costs and perhaps even generate a return to any creditor?
The dataset also included 369 cases (14%) where no assets were realised. What would government prefer to be done with these cases? Would they prefer the directors to have applied to strike off the company or for more time and expense to be spent on winding up the company through the court? If there is an IP that is prepared to take on low value CVLs, seemingly at a loss (on the basis of time costs in any event), then is this something to be discouraged?
Average Creditor Recovery is Zero?
The paper’s executive summary illustrates the sad reality of most CVLs:
- “The median recovery rate for all creditors was 0%”
However, it’s not all bad news. The detail shows:
- 24% of cases with a fixed charge creditor resulted in a distribution to that creditor
- 22% of cases with prefs resulted in a distribution to those creditors
- 20% of cases with a floating charge creditor resulted in a distribution to that creditor
- 10% of cases with non-pref unsecured creditors resulted in a dividend to those creditors
The dataset pre-dates HMRC’s pref status, so I suspect that non-pref unsecured dividends are far less frequent now.
But is this really news to anyone? Insolvent companies with more salvageable businesses likely will go into ADM. From what I have seen, the typical CVL involves few, if any, tangible assets of any value, perhaps a smattering of book debts that are often aged or doubtful, and maybe an overdrawn DLA or other connected party claim that is due from someone on the brink of their own insolvency process. Any creditor return is unlikely from a company of this kind of profile. But I don’t think that this means that CVL is the wrong process.
So IPs are the Primary Beneficiaries then?
Apparently not. The researchers found that the median amount paid to IPs (in relation to post-appt fees) as a percentage of assets realised was 21%. The researchers suggest that this illustrates that the costs of the CVL process – agents, legal, insurance, advertising, bonding – take up the majority of realisations.
However, as this analysis relates only to post-appt fees, I wonder if a significant proportion of the realisations in low-value cases was spent on paying pre-CVL fees.
The researchers also examined time costs incurred -v- fees drawn and found that the median recovery rate of fees paid as a percentage of time costs incurred was 14%.
In fact, this paints an overly rosy picture. It is not clear how many mixed fee bases cases there were, but the researchers have included them in their dataset. Those cases would have under-reported the total time costs potentially by a large margin. I would have thought it sensible to remove those from the dataset and this would have dropped the recovery rate.
Reading Behind the Stats
The section, “Associations Between Quantitative Indicators of Efficiency”, was largely lost on me. However, I did clock these statements:
- “A longer duration for a case is moderately associated with higher returns to creditors”
- That’s good. I take that to mean that the lengthier cases are moderately likely to generate better outcomes to creditors. Lengthier cases usually mean complex investigations or sticky pursuits of assets and claims. It is heartening to read that this tends to generate something for creditors, rather than all the proceeds going to discharge the liquidators’ and solicitors’ fees.
- “Higher costs are relatively strongly associated with lower returns to creditors”
- Out of context, you might think that this means that the harder an IP works, the less there is for creditors. But this is not what it means.
- The paper explains that “cost” means pre-CVL fees plus post-appt time costs as a percentage of assets realised. This statement therefore makes sense to me: a low value CVL will generally have higher “costs” as there is a basic fee/time-costs quantum to these cases that has little to do with the assets and these low value CVLs just don’t have enough assets to pay creditors anything.
- “A longer duration for a case is associated with lower cost, but this association is weak”
- Again, we need to keep in mind that “cost” factors in the value of realisations. It is not uncommon for substantial asset cases to have a lower cost by this definition, because sometimes it costs almost as much to collect a £20,000 book debt as it does to collect a £2,000 one.
- As I said, lengthier cases usually mean tougher assets to realise, but it’s often worthwhile taking the extra time. This statement would appear to support that, although weakly: longer CVLs can result in realisations that are relatively high compared with the fee/time-costs incurred.
The Value of Investigations
The researchers do acknowledge that a key benefit of the CVL process is the disqualification of some directors. 5% of cases in the dataset led to a disqualification. But 54% of cases were originally sifted in. I know that the Insolvency Service is constantly working to tweak its rules engine, but it does appear that more could be done to reduce the number unnecessarily sifted in… or are worthy cases not proceeding satisfactorily..?
The researchers looked at the value of investigations from the creditors’ perspective. Unfortunately, I think their definition of realisations from investigations was too narrow. They identified only recoveries from transactions at an undervalue (1 case, i.e. 0%) and from preferences (13 cases, i.e. 0%). It appears that “commercial settlements” in relation to general misfeasance claims were not distinguished.
I suspect that investigations leading to recoveries of overdrawn DLAs and unlawful dividends are far more common than TUVs and preferences. I also suspect that on the whole these generate more bang for liquidators’ bucks. I wonder what might be revealed if the researchers had compared recoveries to SoA EtoRs especially as regards DLAs. I think this is where liquidators can prove their worth: even if sadly recoveries are insufficient to pay a dividend to creditors, do they not gain some satisfaction from learning that a director or other connected party has been forced to pay something back?
We also ought not to forget the 183 cases (6%) that were ongoing. I expect that many of those involved liquidators continuing to pursue the fruits of their investigations.
Are Some Liquidators Short-cutting Investigations?
What about that allegation that some liquidators don’t do investigations justice either because they’re too cosy with the directors or accountants or because there isn’t enough incentive fees-wise?
The researchers tried to explore this in a few ways:
- How much time was spent in investigations?
- The researchers discovered that the median time spent on investigations (where the liquidators’ reports provided this level of detail) was 7 hours or 15% of the total time recorded.
- I’m not sure this gets us very far, not least because this median calculation was based on cases including 50 that recorded no investigation time at all. This surely indicates that not all investigation time is being clearly categorised in liquidators’ reports.
- Is there a relationship between pre-CVL fees and sift-in rates?
- Personally, I struggle with this as the researchers seem to assume that, if the liquidator’s report does not refer to the payment of any pre-CVL fees, then this means no such fee was paid. As I mentioned above, I think this is wrong.
- In any event, the paper reports a “negligible positive relationship which is not statistically significant”.
- Is there a relationship between the quantum of pre-CVL fees and investigation time costs?
- In other words, I think, could it be that a large pre-CVL fee has an effect on (or at least a correlation with) how much investigations are done?
- The paper reports a weak association, i.e. the higher the pre-CVL fee, the lower the investigation time… “as a % of total hours”. That last bit is important: rather than suggest that a high pre-CVL fee influences the liquidator to do less investigations (and of course this would confuse an association with a cause-and-effect), it could be explained as high pre-CVL fee cases resulting in high time costs for tasks other than investigations. High pre-CVL fees often suggest a more complicated SoA, i.e. more assets and perhaps more creditors, which could attract disproportionately more time costs.
- Is there a relationship between total fees incurred and sift-in rates?
- The researchers found a statistically significant result in that fewer cases with fees (i.e. pre-CVL fee plus post-appt time costs) <£10K were sifted in than would be expected if there were no association.
- Does this support a suggestion that some liquidators are not doing enough work to identify misconduct?
- Or is it simply that, if a liquidator’s SIP2/CDDA work comes up clean, then their time costs incurred (plus pre-CVL fee) are more often <£10K? If a liquidator does identify misconduct, then it seems to me that they are more likely to incur time costs (plus pre-CVL fee) greater than £10K precisely because they are doing more investigation work, so doesn’t this just illustrate that cases with misconduct result in higher time costs?
- Is there a relationship between total fees paid and sift-in rates?
- The researchers found that the relationship between total fees paid and sift-in rates was not statistically significant.
- I think the paper is saying that the sift-in rates are pretty-much the same whether an IP is paid less than or more than £10K. Therefore, I take this to illustrate that liquidators are not short-cutting investigations on cases with few assets.
Research Conclusions
Perhaps unsurprisingly, the paper concludes by describing potential areas for further research.
My personal view is that, while it is good to see researchers taking an interest in CVLs, some expectations about CVLs appear unrealistic, especially given the asset profile of the typical insolvent company, and there seems to be a lack of appreciation for the wider benefits of the process.
My fear also is that the response to a cry of lack of transparency tends to be more requirements for IPs to provide more information to creditors. But surely insolvency is already characterised by information overload, isn’t it? If the consensus calls for greater creditor returns, then I suggest the focus needs to be on lifting some of the current regulatory burdens that make the process so costly.