What are the downsides to doing a Company Voluntary Arrangement?

COMPANY DEBT ANALYSER

What are the downsides to doing a Company Voluntary Arrangement?

Company voluntary arrangements are used widely to save businesses in financial difficulty. However before going ahead with this type of solution, directors should be fully aware of the potential pitfalls.

A company voluntary arrangement (CVA) is an agreement with creditors to settle the debts owed by a business. While the arrangement is in place (normally for five years), the company repays as much as it can afford to its creditors.

Then at the end of the agreement, any outstanding debt including that owed to HMRC is written off.

At first glance, a CVA looks like a “no brainer” for a company with financial difficulties. However, the process is not a magic wand and the possible pitfalls need to be fully understood.

What to watch out for

Credit rating affected – Once a company voluntary arrangement is in place, this is recorded on the company’s credit file and will have a negative effect on its credit rating. This will of course make borrowing in the future more difficult.

However, a less well known side effect is that this may also jeopardise new business relationships. Before starting up a new relationship with you, other companies will often check the financial viability of your business. If they see that a CVA is in place, they may worry that the company is financially unstable and take their business elsewhere.

No forced change to company procedures – Generally speaking when a company voluntary arrangement is implemented, there is no requirement for management changes. The same directors and managers will continue to run the business.

This could be a significant risk to the success of the CVA for if there are no changes and no fresh ideas, the company is likely to continue to make the same mistakes and run into trouble again.

Failure leads to liquidation – Before agreeing the terms of a CVA, the company directors must be satisfied that the payments can be met. If they are not and the agreement fails, the company is likely to be liquidated perhaps leaving the directors personally liable for company debt if they are found to be guilty of wrongful trading.

CVA Benefits need to be weighed up

Of course, a company voluntary arrangement brings considerable benefits to a company in trouble.

No additional capital required – Compared to other company rescue solutions such as pre pack administration, little upfront investment is required. The fees charges by an insolvency practitioner for implementing and managing the arrangement are largely taken from the monthly payments made by the business.

Legal protection from creditors – The business is legally protected from further action by its creditors to collect their debts. As such, country court judgements (CCJs) and importantly winding up petitions cannot be issued against the company.

Debt written off – If the CVA is completed, a large amount of the company’s debt (often 50% or more) including debts to HM Revenue and Customs is written off. This leaves the business in a much better position to trade profitably and grow in the future.

The benefits of carrying out a company voluntary arrangement are significant. Undertaken properly they will enable a business which is being dragged under by its debt to be saved from closure.

This is why the solution is so widely used and indeed is being considered as the way forward by the administrators to manage the  debt currently of many public interest companies.

However, before deciding to implement a CVA, it is very important for the directors to understand the potential pitfalls and make sure that strategies are in place to prevent these happening.

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