Creditors’ Voluntary Arrangements - Blake-Turner Solicitors
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Legal Considerations Before Entering into Creditors’ Voluntary Arrangements

Creditors’ Voluntary Arrangements can be a lifeline for businesses facing financial distress. It allows a company to reach a formal agreement with its creditors to repay all or part of its debts over a specified period. However, before entering into a CVA, directors and stakeholders must carefully consider the legal implications involved. A poorly handled CVA can lead to legal disputes, reputational damage, or even the company’s liquidation. This article outlines the key legal considerations that must be addressed before proceeding with a CVA.

1. Director Duties and Fiduciary Responsibilities

Directors have a legal obligation to act in the best interests of the company and its creditors, especially when the business is insolvent or nearing insolvency. Entering into a CVA may shift the focus of these duties. Failure to uphold fiduciary duties can lead to personal liability, including charges of wrongful trading or breach of trust.

Directors must ensure that any proposed CVA is viable and fair to all creditors. Seeking independent legal and financial advice is strongly recommended to avoid conflicts of interest and ensure transparency in the decision-making process.

2. Eligibility and Solvency Tests

Not all companies are eligible for a CVA. The business must be incorporated and insolvent or likely to become insolvent. Directors must work with a licensed insolvency practitioner (IP) to conduct a full financial review and prepare a viable CVA proposal.

The IP will assess whether the company has a realistic chance of recovery and can meet the proposed repayment terms. If the company cannot demonstrate future viability, a CVA may not be legally appropriate, and other insolvency procedures like administration or liquidation may need to be considered.

3. The Role of the Insolvency Practitioner (IP)

An IP plays a central legal role in preparing, reviewing, and proposing the CVA. They are legally required to act in the interests of all creditors and must ensure that the proposal is fair and not misleading.

Before submitting the proposal to creditors, the IP must prepare a report to the court and call meetings with the creditors and shareholders. Their neutrality and professional judgment carry significant legal weight, and their conduct is regulated under the Insolvency Act 1986.

4. Drafting the CVA Proposal

The CVA proposal is a legally binding document and must include detailed information, such as:

  • The company’s assets and liabilities
  • A repayment schedule
  • The duration of the arrangement
  • The proposed treatment of creditors
  • Details of any guarantees or third-party contributions

The proposal must be fair and reasonable to secure creditor approval. Any inaccuracies, omissions, or misrepresentations in the proposal can lead to legal challenges and may invalidate the CVA.

5. Voting and Creditor Approval

For a CVA to be legally binding, it must be approved by at least 75% (by value) of creditors who vote on the proposal. If approved, the CVA becomes binding on all unsecured creditors, even those who voted against it or did not vote at all.

However, secured and preferential creditors (such as employees and HMRC) may not be bound by the CVA unless they specifically agree to its terms. This creates a layer of legal complexity that must be addressed in advance through negotiation or alternative arrangements.

6. Treatment of Stakeholders

All creditors must be treated fairly and equitably. Preferential treatment of certain creditors can lead to legal disputes or the CVA being challenged in court. Directors must be cautious of any arrangements that could be seen as preferential, such as continuing to pay connected parties or directors’ loans outside of the agreed terms.

It’s also crucial to maintain open communication with employees, suppliers, landlords, and other stakeholders to reduce reputational risk and avoid breach of contract claims during the CVA process.

7. Potential Legal Challenges

Even if a CVA is approved, it can be challenged in court within 28 days by creditors, shareholders, or other affected parties on the grounds of:

  • Material irregularity in the process
  • Unfair prejudice to one or more creditors

Legal scrutiny increases significantly when creditors feel that they were misled, treated unfairly, or coerced into acceptance. Therefore, transparency and full disclosure during the process are essential to protect against legal challenges.

8. Regulatory and Reporting Obligations

Entering into a CVA triggers several statutory reporting obligations. The IP must file the CVA documents with Companies House, and the CVA status becomes a matter of public record. This disclosure may affect the company’s credit rating and its ability to trade with new suppliers or obtain finance.

Directors must also ensure ongoing compliance with the terms of the CVA. Failure to meet agreed payments or breaching terms can cause the CVA to fail, opening the door to enforcement action or winding-up petitions.

9. Personal Guarantees and Director Liability

If directors have provided personal guarantees for company debts, entering a CVA does not release them from these obligations. Creditors may continue to pursue directors personally, depending on the terms of the guarantees. It’s essential for directors to seek legal advice on how personal liabilities will be handled during and after the CVA.

Conclusion

While a CVA can provide a struggling business with much-needed breathing space and a path to recovery, it is not a decision to take lightly. The legal landscape surrounding CVAs is complex, and a misstep at any stage can lead to serious consequences for both the company and its directors.

Seeking early legal and financial advice, preparing a well-documented and fair proposal, and engaging openly with creditors are all vital steps in ensuring the success and legal integrity of a CVA. When approached correctly, a CVA can be an effective tool for corporate recovery that preserves jobs, protects value, and satisfies creditors over time.

For more information on Creditors’ Voluntary Arrangements contact Blake-Turner LLP.