Throwing business a lifeline

When the small companies administrative rescue process (SCARP) regime came into force in December 2021, introduced under the Companies (Rescue Process for Small and Micro Companies) Act 2021, the aim was to provide an  alternative to Examinership for small companies.

This article will look at how the process works. And with 21 SCARP appointments made over the course of 2022, and a similar volume of appointments so far in 2023, it will also consider whether the SCARP regime is doing its job – and helping employees hold onto theirs – by ensuring potentially viable but insolvent small companies stay in business.

How it works

SCARP offers lower costs, greater accessibility and shorter duration than Examinership. Eligibility is confined to small and micro companies, which must satisfy at least two of the following three criteria:

• turnover no greater than €12m
• balance sheet no greater than €6m
• no more than 50 employees.

SCARP has a 70-day timeline. It gives the process adviser (an insolvency practitioner appointed by the directors) 49 days to put together a rescue plan and have it approved by shareholders and creditors, followed by a 21-day objection period. That is shorter than the 100-day Examinership period.

It is also a primarily non-court restructuring process designed to eliminate cost hurdles. Its introduction during the Covid-19 pandemic was made with an eye to companies hit by severe reductions in turnover and consequential build up of liabilities.

Many such companies operate in the retail, travel and hospitality sectors, which have subsequently also faced difficulties in meeting fixed costs such as commercial rents and payroll, and are currently facing large warehoused tax liabilities. SCARP facilitates a restructuring of historic liabilities and unsustainable contracts, allowing companies with viable businesses to trade successfully into the future, protecting employment and customer goodwill.

Creditor protection

The process adviser’s report presents the directors’ statement of affairs on a going concern and a winding up basis, along with an opinion on whether the company has a reasonable prospect of survival and whether the creditors would be better off through a SCARP than a winding up.

A number of safeguards for creditors are built in, including state creditors such as the Revenue Commissioners being able to opt out of the rescue process within 14 days of it starting.

Meetings are convened by day 42 for shareholders and creditors to vote to approve or reject the rescue plan. There is a particular focus on getting impaired and unconnected creditors to agree to the proposals formulated by the process adviser.

While SCARP is primarily a non-court process, during the 21-day objection period following the approval of a rescue plan, creditors can have recourse to the courts to object on the basis of being  ‘unfairly prejudiced’ by the proposals.

To date, where the company is party to unsustainable obligations, such as onerous landlord leases and customer or supply contracts that cannot be fulfilled, the engagement from creditors has been mostly positive, with fewer objections and court challenges than expected.

Revenue can exercise the right to exclude its debt from inclusion in a rescue process where there is a history of non-compliance, an ongoing tax audit or intervention, or taxes are under appeal. The facility for state creditors to exclude their debt from the rescue process creates a very obvious weakness in SCARP’s ability to include all the company’s debts.

However, Revenue has committed to constructive participation with SCARP, and the experience of process advisers has mostly been that Revenue actively engages in the process, by including its debt in rescue plans and voting for those that involve debt write-downs. Clearly, the success of SCARP hinges on Revenue’s positive engagement – in particular where Revenue-warehoused debt accounts for a significant portion of SME debt.

Pattern of success

So far, the new regime seems off to a fairly positive start. The first 30 or so SCARP cases have seen more Revenue inclusion, less requirement for court stays on creditor proceedings during the rescue process, and fewer creditor objections in court than might have been anticipated.

Underpinned by the independence and professionalism of process advisers, who can offer insolvency experience, transparency and a fair approach to creditors, SCARP offers a strong chance of success where informal attempts to compromise debts have not worked.

Also key for a successful SCARP is the track record and integrity of the company directors. Creditors (including Revenue) will be influenced by their previous dealings with directors and whether the restructuring is a one-off event due to specific negative impacts on the company’s viability, or the continuation of a pattern of poor behaviour towards creditors.

Then there is the principle that a creditor must be no worse off in a SCARP than in a winding up. The process adviser will be keen to explain this properly to creditors and provide reassurance that they are better off supporting the rescue process.

Although the rescue process seeks to avoid court involvement, its statutory nature lends transparency and formality. This helps to reassure creditors and win their support. The process adviser is crucial here in persuading creditors to back the rescue plan and not go to court with objections.

The appreciation that all creditors are sharing the pain also gives comfort to creditors of a best outcome, as does the investment of ‘new money’ to meet enhanced creditor dividends and working capital.

Some creditors may attempt to better their position ahead of others through debt enforcement proceedings or objections to the rescue process. In these cases, the courts will need to assess the merit of each rescue plan quickly and efficiently, ensure creditors do not abuse their right of appeal, and generally help maintain the good start that SCARP has made to date.