The fourth Industrial Revolution will need a fundamental change in business thinking

the fourth Industrial RevolutionA day after my last blog, on skills shortages and Brexit, the Migration Advisory Committee published its analysis on migrant workers and the future.

The report, commissioned by the Government ahead of Brexit, suggested there should be no special status for EU migrant workers and extending access (called Tier 2 visas) for higher-skilled workers from non-EU countries should be extended to all countries.

It also said it was “not convinced there needs to be a work route for low-skilled workers” from the EU” with the possible exception of seasonal agricultural workers.

Not surprisingly employers and businesses gave the report a mixed reception, generally negative from those who depended heavily on low-skilled migrants for production line, hospitality and farm-related work.

But given that the world is at the start of what is being called IR 4.0, or the fourth Industrial Revolution, is this an example of politicians’ and businesses’ thinking being out of date and, along with trade wars, fighting the wrong battles?

This is the thesis of Paul Donovan global chief economist at UBS Wealth Management who argues that global trade has now hit its peak and, in the future, thanks to IR 4.0 everything, from supply chains to transportation will become much shorter, with locations of production much closer to their customers.

The reason is that with the advent of robotics, AI and automation much of the production of goods could be carried out locally and affordably without the need for the constant worry about sourcing enough low-skilled workers to carry out what are essentially tasks that could easily be automated.

This would reverse the offshoring trend of the past 20 years or so that was driven by the pursuit of lower labour costs. Indeed, the onshoring of manufacturing in US has been gathering pace due to automation, exchange rates, higher transport costs and lower energy costs.

The construction industry is an interesting example, where there have been shortages of skilled tradespeople for some years and it is currently using EU workers to fill the gaps.

In the last few days research published by Altus Group with 400 UK property developers postulated that we could soon see “armies of robot bricklayers” making up for the skill shortage.  Already there are trials taking place on some building sites. Drones, meanwhile, are being used for surveying, inspections and progress monitoring.

Of course, there would be a period of disruption during the transition and the World Economic Forum (WEF) has already predicted around 75 million jobs being displaced globally by robots by 2022, and not only in the most obvious sectors.  However, WEF also predicts that a technological revolution could create around 133 million new jobs. This prediction has also been backed up by PwC.

Professor Klaus Schwab, WEF Founder and Executive Chairman, in his book The Fourth Industrial Revolution, calls this a time of great promise and potential peril.  In his book he says: “decision makers are too often caught in traditional, linear (and non-disruptive) thinking or too absorbed by immediate concerns to think strategically about the forces of disruption and innovation shaping our future.”

This suggests that business leaders will have to begin questioning everything, from their strategies and business models, to making the right investments in equipment, training and disruptive R&D.

Arguably this revolution in thinking applies equally forcefully to governments.

Skills shortages and recruitment problems for SMEs amid ongoing Brexit uncertainty

skills shortages and recruitment problems not just for fruit pickersI try to avoid the dreaded “B” word in my blogs but on this occasion, I can’t avoid it as the chorus of business voices highlighting skills shortages and recruitment problems grows larger and louder.

It is no good for Government to assert that it will all be fine once negotiations on the UK’s leaving the EU are concluded when the situation is no clearer now than it was when all this started almost two years ago.

Somehow, businesses need to carry on in the interim as well as planning for the future.  Some things just cannot wait and high on the list is where and how they are going to source the people they need at all skill levels, whether or not they trade abroad.

Some facts about skills shortages and recruitment problems

Firstly, the most recent complete set of immigration figures, published by the ONS (Office for National Statistics) showed that, in 2017, more EU citizens, 139,000, left the UK than came here to work, 101,000. This was the lowest level for five years.

The independent “think tank” Global Futures calculated that the fall in immigration since the decision to leave the EU was already costing the UK public finances more than £1 billion per year and research by Scott-Moncrieff found that 51% of SMEs put Brexit at the forefront of their worries, with even those not trading abroad linking it to a decline in spending and to skills shortages.

This translates on the ground to data from the West Midlands Chambers of Commerce revealing in their quarterly report that 53% of their members were reporting recruiting difficulties and YouGov figures reporting that 23% could not retain EU nationals.

In East Anglia, the business section of one regional paper highlighted interviews with SMEs, one of them with a small local electrical contractor who had been searching fruitlessly for qualified new recruits for five months.

Equally, there are regular reports of a shortage of nurses, doctors and other health care professionals in the NHS and care homes too are finding it hard to get staff.

I have noted in past blogs the sectors where qualified people have been in short supply for many months, including in construction, the Tech sector and in engineering. The Daily Telegraph has calculated that half of all postgraduates skilled in AI had migrated overseas, 33% to leading US tech firms, 11% to North American universities and 9% to smaller US businesses – a new “brain drain” in the making?

As far back as July the Independent was reporting that six in 10 businesses have had to spend money on extra incentives, pay rises and bonuses ranging in value between £5,000 and £100,000 to persuade skilled EU workers to work for them.

What action has there been to address skills shortages and recruitment problems?

Doubtless the Government, if challenged, would say that it is listening to businesses although the message does not seem to be getting through or is being treated with some scepticism.

Given that the UK has near-full employment, even unskilled workers may be able to command a premium and there have already been warnings from farmers that recruiting enough seasonal fruit and veg pickers is a serious problem.

In late August the Home Office announced that it had developed an online “toolkit” to help UK employers to register EU citizens with a new immigration status following Brexit and to help those citizens to get their new immigration status. This has yet to be tested and given the government’s less than stellar track record on commissioning new IT solutions it remains to be seen whether it will be user friendly.

Then there is the apprenticeship levy and the Government’s target of having 3 million new apprenticeships in place by 2020. This has hardly been a resounding success with the numbers of places having slumped over the nine months of the 2017-18 academic year by 34% compared to the previous nine months. Last week the FSB (Federation of Small Businesses) revealed that there had been a further slump in new apprenticeships in the year to June, down by 28%.

Not surprisingly, the FSB, the CBI (Confederation of British Industry), the IoD (Institute of Directors) and the BCC (British Chambers of Commerce) have all called for the scheme’s urgent reform.

The question is whether the Government will do more than “listen” to business concerns and actually do something practical that works.

Predatory investors behaving like unscrupulous bankers

leopard with prey - a predatory investor?Ten years after the lending culture that resulted in the 2008 Great Depression it seems that the behaviour of some investors is no less predatory and unscrupulous than those of bankers 10 years ago.

Recently FanDuel, a fantasy sports site, was sold by its Private Equity investors to Paddy Power Betfair for $465 million. So far so good. However, despite the sale price the ordinary shareholders got absolutely nothing.

The background to the investment is that the business was regarded a Unicorn company (a privately-held start-up valued at more than $1 billion) with it having more than 6 million daily customers in America.

Two Private Equity investors, KKK and Shamrock Capital, provided funds, based on a valuation of at least $1 billion. However, I am sure that the actual investment was based on a mix of debt and equity with a tight agreement that included a drag-along provision that was binding on all shareholders and allowed them to force through the sale of 100% of the shares at the reduced valuation.

I speculate that despite investing in the equity at the higher valuation, the amount of equity was minimal and in any case the agreements provided for the shares having a preferential status and I am also sure provided for an uplift on the equity that ranked ahead of ordinary shareholders.

I am also sure that much of the investment was debt that will have ranked ahead of shareholders. Given the sophistication of the Private Equity investors I am sure they did well out of their pref. share uplift, fees and interest on the debt, albeit at the expense of the founders and other shareholders who will have created the $465 million value for which the company was sold.

Not surprisingly, the former owners and the ordinary shareholders are considering legal action on the grounds that the sale undervalued the business in the USA and ignored a US Supreme Court decision to relax sports gambling laws there. I don’t however believe they will be successful in pursuing a claim since I am sure that the Private Equity investors will have covered all the bases legally.

In my view this is similar to the ruthless, unethical behaviour that characterised lenders’ attitudes at the height of the lending crisis that led to the 2008 Great Recession.

The defence of such behaviour is that it is legal and one of ‘buyer beware’. Perhaps the ordinary shareholders should pursue their advisers who are culpable for leaving their clients so exposed to ruthless and unscrupulous investors.

Doubtless private equity companies, like banks, would argue that it is their job to maximise returns for themselves and their investors by whatever means, albeit within the law. However, the ethics of their behaviour and their reputation for fair dealing ought to be a concern if they are not to become regarded in the same way as bankers.

 

The current state of the UK commercial property sector

an unusual angle on commercial propertyThe UK’s commercial property sector covers everything from retail units to warehousing, office blocks to industrial units and it is no surprise that some sectors are performing better than others.

Across the commercial property sector, UK prime commercial property rental values increased 0.7% in Q2 2018, according to CBRE’s latest Prime Rent and Yield Monitor. It found that the Industrial sector was the top performer for the 7th quarter in a row with a 2.1% increase in prime rents. CBRE is the world’s largest commercial property services and investment company.

Clearly, a major concern for the commercial sector is the dramatic decline in demand for retail space in the light of the plethora of retail failures over the past two years. This has been attributed largely to the shift by consumers to online shopping, but also to the 2017 business rate revaluation that some argued had a disproportionate impact on smaller retailers although I think it has affected all non-domestic rate payers.

The most recent quarterly survey by RICS (the Royal Institute of Chartered Surveyors) also reports: “results show the downturn across the retail sector intensifying, with stores in secondary locations displaying particularly negative rental and capital value projections.”

While the demand for renting retail shopping units may have plummeted, however, demand for warehousing has soared – attributed largely to this shift to online shopping but also to the surge in popularity of the discount supermarkets such as Aldi and Lidl.

Here, CBRE reports that there has been a “near doubling in demand for warehouse space over the past 10 years” from 130 million sq ft in the previous decade to 235 million sq ft today. This is a mixture of both leased and purchased space. This is not uniform across the UK, depending as it does on efficient road and rail infrastructure and the East Midlands counties of Northamptonshire, Leicestershire and Derbyshire have benefited the most.

The BBC reported recently that “construction is under way of 11 mammoth units at the East Midlands Gateway, which is poised to host names such as Amazon, Shop Direct and Nestlé, as well as creating 7,000 new jobs”.

When it comes to office properties, again there has been some regional variation albeit that overall office prime rents increased 0.6% in Q2, up from 0.4% in Q1 2018, again according to CBRE.

However, Central London Office prime rents decreased slightly in Q2 thanks to a fall of -0.1% in the West End. By contrast South East and Eastern rents increased 1.1% and 0.9% respectively. Suburban London Offices also reported a 1.2% increase.

One interesting development is that some specialist office commercial property companies have been capitalising on the trend for flexible offices on short-term, flexible leases, in one case earning a 48% net rent premium on its flexible leases when compared with traditional lease deals.

It is perhaps surprising in the aftermath of the Brexit vote that as mentioned earlier has been the demand for industrial premises, which RICS’ survey says “continues to attract solid demand from both occupiers and investors”.

CBRE, too, reports that Industrial property continues to outperform all other commercial sectors and, as with office space, there is a regional variation in demand with the strongest rental growth in this sector in the North West, where rental values in Q2 increased by 5.9%.

Clearly, therefore, anyone interested in investing in commercial property would be well advised to pick their sector carefully and keep an eye on the shifting trends as the UK gets closer to the date for leaving the EU in March next year.

September Key Indicator – energy and fuel costs

energy and fuel costsWhile the biggest overheads for industrial and manufacturing businesses are generally staff, equipment and premises costs, energy and fuel costs also have a significant impact on profitability.

Indeed, for those in the transport industry, the cost of fuel can make the difference between profit and loss and is often difficult to pass on to customers.

UK businesses are particularly vulnerable to rising energy and fuel costs for several reasons.

Electricity and gas

Approximately 50% of the UK’s electricity is produced from fossil fuels, mainly natural gas and coal, most of which are imported.

21% comes from nuclear reactors however the UK’s nuclear power stations will close gradually over the next decade, with all but one expected to stop running by 2025.

24.5% of electricity currently comes from renewable sources, mainly wind farms.

As backup the UK imports electricity but it also exports some.

Gas, on the other hand is mostly imported.

Energy companies buy supplies many months ahead on the wholesale market. The UK’s six largest suppliers, nPower, British Gas, EDF Energy, Eon and Scottish Power have announced at least one price rise this year, by an average of 5.3%, and some have also announced a second rise. They are blaming these rises on higher wholesale and policy costs (such as Government requirements for the installation of smart meters).

According to most analysts the price trend is inexorably upwards and likely to remain so. It is not helped by the reduction in the value of £Sterling following the 2016 EU referendum outcome, which has made importing anything, from raw materials to goods and services considerably more expensive.

Petrol/Oil

Oil prices are vulnerable to supply and demand but here, too, there has been a steady upward trend, certainly for the last two years.

Brent Crude (from North west Europe) has risen from a per barrel price of $48.48 in July 2017 to $74.25 in July 2018. This is the source of much of the UK’s petrol and diesel. OPEC oil prices have also risen from a 2017 average $52.52 per barrel to an average of $69.02 in 2018.

Some analysts are predicting that world prices will start to reduce into 2019, but the Brexit impact on exchange rates may mean UK still having to pay more for oil. In addition, geopolitical uncertainty such as the change in the US attitude to Iran and the threat of sanctions makes a drop in prices less certain.

This is easily monitored at the petrol pump which has seen a steady rise in the prices of both petrol and diesel, currently as high as 133.1p per litre in some petrol stations.

How can SMEs reduce their energy and fuel costs?

Each company is different and much will depend on how many vehicles you need, how many and how large your buildings are and how much energy is required to run your production processes and offices.

While domestic consumers are constantly exhorted to switch energy suppliers to reduce bills, much less attention is paid to business customers doing the same. According to the website Money Saving Expert, which also provides advice for businesses, it is possible to make substantial savings through switching and negotiating with suppliers, also through collaborating with others to achieve volume discounts.

It claims: “On average small businesses spend approximately £5,100 on electricity and £4,100 on gas per year” and shopping around can save £1,000s. There are a number of buying clubs and membership organisations that are negotiating volume deals for members which again can achieve significant savings.

So, it can make sense for a business to shop around for the best deal, albeit that dual energy tariffs are not available to businesses. It is, however, possible for businesses to get one to three-year fixed rate deals.

Similarly, it makes sense to ensure vehicles and buildings are as energy efficient as possible where there are a number of grants available, although many are EU grants so don’t delay if you want to take advantage of these. Useful sources of information about grants can be found at the Energy Saving Trust and from your local authority where the development officer is normally the best person to contact.

I welcome new insolvency proposals – albeit with a few observations

new insolvency proposals shift the balance towards rescueThe Government has at last published its proposals for changes to the insolvency regime after launching a consultation in March 2016.

The new insolvency proposals have been described as akin to the USA’s Chapter 11 system and have been broadly welcomed for the extra support they should provide to help businesses in financial difficulties to restore their fortunes rather than collapsing with often-catastrophic consequences for employees, suppliers and creditors.

Not only that but they also incorporate other Government initiative, to tighten up on scrutiny of directors and on corporate governance.

The new insolvency proposals – main elements

The insolvency proposals include the introduction of a moratorium, initially 28 days from filing papers with the courts. This is intended to allow viable companies more time to restructure or seek new investment to rescue their business free from creditor action. This would be supervised, most likely by an insolvency practitioner (IP). The proposals would only apply to businesses that are not already insolvent. While it isn’t yet clear how this will be different from the existing CVA Moratorium, it is hoped that it will be used where the CVA Moratorium has rarely been used due to the onerous obligations on a supervising IP.

Continuity of supply will be protected under the proposals with the introduction of a prohibition on terminating supply contracts to allow businesses to continue trading through the rescue and recovery process. This sounds similar to the historical essential service supply provisions but in practice was difficult to apply. It ought however to be useful as a tool for challenging ransom demands, in particular for dealing with service suppliers.

Creditors must be kept fully informed of the rescue proposals, which must also be filed with the court, and they and shareholders will be able to challenge them.

Approval of proposals will be based on classes of creditors that can also be defined although any who feel they are disadvantaged can be challenged.

For a class vote in favour of the proposal, 75% of a class by value (of the overall debt), and more than 50% by number must agree to the plan for it to be approved. This sounds similar to the existing class system in a Scheme of Arrangement.

Like existing CVA and Scheme of Arrangement proposals, once approved the proposal becomes binding on any dissenting minority.

In order to provide further protection for employees and other stakeholders the insolvency proposals also seek to enhance the Insolvency Service’s powers to investigate directors and will require directors to demonstrate how the pension pot and salaries can be covered before dividends can be paid. This makes sense as there is no such provision for CVAs.

Some observations

It is a welcome sign that Government is paying attention to businesses and their difficulties rather than posturing after high profile company failures.

The new proposals differ little from those in the 1982 Cork Report that followed a major review of UK insolvency law chaired by Sir Kenneth Cork. While that report led to the Insolvency Act 1986, its rescue proposals were significantly watered down as have been those for most of the subsequent reforms of insolvency legislation. My concern is that lobbying by IPs of the latest proposals will also result in them being watered down, indeed IPs have already established themselves as the main actors.

I would suggest that the term ‘insolvency’ contributes hugely to the demise of companies in difficulties such that I believe the proposals should be used to reform the Companies Act 2006.

Insolvency procedures work well when a company ceases to trade however they do not work well as turnaround or rescue procedures.

The Scheme of Arrangement as a Companies Act restructuring procedure is what needs updating, indeed may of the new proposals are similar. I accept Schemes have not adopted for use by smaller companies but this is easy to overcome by having templates to remove the existing dependency on those few lawyers who are familar with such restructuring. I would even advocate that IPs should run Schemes or the new proposals as revised Schemes since their existing software helps reduce the cost of administering creditors.

I am however concerned that rescue procedures ‘require’ the involvement of IPs. There are other professionally qualified people who might have more experience or at least have a greater interest in the saving of businesses.

My concern is that the new proposals become like CVAs where all too often it is in the interests of an IP that a company considering a rescue fail, or for them that a CVA proposal be rejected, or a CVA fail where failure means they can be appointed as administrator or liquidator. Indeed few IPs have believed in CVAs and I suspect few really believe in rescue and almost no IPs have ever run companies in a CVA.

In view of my comments the role of IPs needs to be carefully considered if the new proposals are to work.

Use the Fraud Triangle to understand Business Fraud

is your company vulnerable to business fraudBusiness fraud can do massive damage to a SME, not only financially but also to its reputation. It can be defined as a knowing and wilful act of dishonesty by a perpetrator designed to bring them some benefit, usually financial.

Perpetrators can be customers, suppliers, employees, contractors and, of course, the various email and internet-based attempts to extract money or information, such as its database of customers, from a company by activities generally known as phishing and hacking.

What is the Fraud Triangle?

The Cressey Fraud Triangle was devised by American criminologist Donald Cressey and explained the three factors that need to be present to make a business vulnerable to fraud: Opportunity, Pressure and Rationalisation.

Opportunity is about weaknesses in your business processes that lead a potential fraudster to believe there is a low risk of being caught.

Pressure can come from such things as a financial or emotional source, such as debt, a gambling habit, addictions, or overwhelming bills, or perhaps a sense of injustice in the perpetrator, such as an employee who does not believe they are treated fairly.

Rationalisation is about the perpetrator finding justifications for their fraudulent behaviour such as “just borrowing” money or items for a short time, or that it is acceptable to take money from a big corporation.

Use the Fraud Triangle to protect your SME from business fraud

You can use the Fraud Triangle as a tool to establish whether, and where, your SME may be vulnerable to business fraud and to then establish protocols to minimise the risk.

The elements needed for your business to minimise the risk of business fraud are not only about personal behaviour but also about separating various functions – who is responsible for carrying out various elements of the business process. It is not uncommon in a small business for people to have to multi-task, but wherever possible tasks should be separated and assigned to different people and especially those that relate to money.

For example, having a single person responsible for administration, book keeping, order processing and invoicing, or to have the same person responsible for managing accounts payable and accounts receivable will make your business vulnerable to fraud.

A business fraud protocol is also about defining expectations for excellent record keeping and checking mechanisms and making it clear that should be actually acted upon, not simply written down somewhere.

Once clear guidelines are set about how people are expected to behave and are provided in writing to everyone in the business, you should also require a written signature to ensure they have been read, understood and accepted.

If a fraud is subsequently identified the perpetrator will not be able to rely on the defence that they were not informed that such action was a problem.

You should be alert to any “alarm bells”, such as a change in a person’s behaviour where they have otherwise seemed to be reliable. This can include misplacing files, regularly working late, paying undue attention to a specific customer, never taking holidays or owed time off and refusing help with projects.

You should also have a system of checks in place, this isn’t about reconciling the pennies but monitoring and regularly checking cash payments and receipts, purchase orders, invoices, discounts, credit notes and write-offs, and using ratios to track margins and trends.

Having a business fraud protocol is not enough on its own.  You should also build regular scrutiny of records and transactions into your business processes.

HMRC aggression and heavy handed use of powers

HMRC aggression when your house is burnt downThere is no doubt that the Government is putting pressure on HMRC (HM Revenue and Customs) to improve its tax collection rates.

Recently, it launched a consultation, very quietly it should be noted, into a proposal to increase HMRC information-gathering powers while removing some of the protections for those on the receiving end.

Justified as a measure to bring HMRC’s powers into line with those in other countries, the proposal would allow HMRC to demand tax payers’ bank account and other financial information without first having to get the permission of the Tax Tribunal.

Under one of a number of options in the consultation document, Amending HMRC’s Civil Information Powers, the information orders requesting this sensitive financial information could be demanded not only from banks but also from building societies, accountants, lawyers and estate agents.

Furthermore, these institutions could be banned from informing their clients that they have been ordered to provide the information and there would be no right of appeal.

The consultation closes on October 2, 2018 and already there has been criticism that if these powers were granted HMRC would be likely to use them more frequently than can be justified, despite assurances that they were not expected to be used in more than “a few hundred cases”.

This is an alarming development given that HMRC has already been seen to be increasing its willingness to litigate, according to the CIOT (Chartered Institute of Taxation), which has raised its concerns with the Government’s Treasury Sub Committee.

CIOT notes in its submission that there is already “an overwhelming number of cases in the tax tribunal system”.

It also argues that often these cases are about HMRC’s “categorising genuine errors as carelessness, or carelessness as dishonesty” and that there is a better alternative in resolving disputes via ADR (Alternative Dispute Resolution).

There is also concern about the cost of defending such claims where HMRC is likely to adopt an attrition strategy to force settlement without them having to prove their claim as this will be the only way for recipients to avoid incurring the significant costs of defending a claim.

The fightback against HMRC aggression

The law firm RPC has been monitoring legal challenges to HMRC for some time and reports that there has been a 184% increase in judicial reviews against HMRC in the last three years. The increase was 36% in 2017 alone.

According to RPC these judicial reviews generally relate to claims that HMRC has overstepped its authority or acted unfairly often because of its increase in the use of APNs (Accelerated Payment Notices) demanding payment of tax within 90 days without the right of appeal, where the recipients are suspected of tax avoidance.

RPC reports that many such cases are caused by “simple errors” by HMRC and a “dogged refusal to correct them”.

The costs of defending such claims are generally huge and unrecoverable.

Given the alarming proposals outlined above and the reported increase in HMRC’s willingness to pursue cases through the courts it would be no surprise if beleaguered SMEs already under pressure also turned to the courts for help.

It all seems like your house having burnt down and then having to spend years in court to pursue your claim.

Why do so many CVAs fail?

failed CVAs? boarded up shopsMy blog earlier in the year (17 May) asked whether the use of CVAs was “a triumph of hope over reality” as they had been increasing noticeably in the High Street retail sector, which has suffered an escalating rate of insolvencies.

A CVA (Company Voluntary Arrangement) is generally used to help a company in financial difficulties by restructuring its balance sheet and reorganising its operations to survive and trade its way out of insolvency. A key aspect of the financial restructuring is reaching agreement with creditors for payment of a lump sum or regular payments over a defined period which is typically three to five years where the payments may be less than the amount owed.

Instigated by the directors, approval of a CVA requires 75% of unsecured creditors where the payment terms are binding on any dissenting creditors providing they are less than 25%. Generally, the earlier a business enters a CVA the better, although they can be used as a means of dealing with a minority creditor who has lodged a Winding Up Petition (WUP) in the courts.

It is too early to say whether this latest crop of retail-related CVAs will succeed or terminate early, but R3, the trade body for the insolvency profession, has published a comprehensive, 90-page, report that examined 552 CVAs started in 2013 to determine success and failure rates and analyse the reasons behind them.

It found that CVA use was “dominated by SMEs, with 514 of the 552 companies reviewed classified as small (or micro) based on Companies House records.” Of these the early termination (generally failure) rate was 65.2%, with early termination in certain sectors dominating: Construction (64.8%), Repair of motor vehicles (73.6%), Manufacturing (66.2%) and Administrative and Support Services (70.5%).

The research also conducted interviews with creditors of companies involved in CVAs, to add some depth to its findings.

What are the main reasons for early termination or failure of CVAs ?

As I said in my earlier blog a CVA will only work if the CVA proposals and any agreed modifications are realistic, achievable and sustainable. Essentially my argument was that most CVAs need fundamental change based on a reorganising the business and often the business model.

The R3 research tends to support my view; its findings are summarised as:

The viability of the terms of the CVA agreed at its outset (or subsequently varied) was often questionable.

Often directors did not implement necessary changes or failed to identify and tackle fully the problems identified in the CVA.

Companies failed to make regular contributions and those contributions that were made simply covered the costs of the CVA process.

Some CVAs returned very little to creditors over their lifetime; either because contribution payments were repeatedly missed or because contributions were only sufficient to cover the costs of the process.

HMRC was seen as the most engaged creditor and the one most likely to vote against a CVA whether for policy or commercial reasons.

Creditors also questioned the length of some CVAs, suggesting that five years was too long, and the competence and objectivity of the nominee(s) – usually an Insolvency Practitioner – overseeing the process.

In 2016 the Government launched a consultation on proposed changes to the insolvency regime, which included a mandatory pre-insolvency moratorium to give time for the details of a CVA to be defined and mandatory protection for suppliers.

Given R3’s research findings and the policy intention of a greater focus on helping businesses to restructure and survive I would argue that it is now time for action to improve and refine the insolvency regime.

The missing research into CVAs

My own assumption about CVA failures focuses on a lack of realism when considering the operational reorganisation necessary to achieve a viable business and then the lack of experience with implementation. The issue therefore is who is best placed to help the directors given that CVA proposals are the directors’ proposals.

I have for some time advocated a distinction between those who prepare and implement CVA proposals and those who act as Nominees and Supervisors of the CVA. All too often CVA proposals are prepared by the Nominee albeit in consultation with the directors. Setting aside the conflict of interests of an insolvency practitioner developing a plan that they will then police, the issue is one of who is best placed to plan and implement change to achieve a viable business. The skills and experience needed for this are more to do with start-ups and investment which are rare among insolvency practitioners.

Replacing directors might seem an obvious answer and in larger companies this may be the right one but I would advocate that CVAs for owner-managed SMEs need independent turnaround specialists.

For those interested in learning more about how to achieve a successful CVA, you might like a copy of my free guide, please follow the link: Guide to Company Voluntary Arrangements.

 

Could proposed new rules on foreign investment in UK damage SME prospects?

foreign investment in businessThe Government recently proposed expanding its powers to review and intervene on foreign investment in UK businesses.

Under the proposals, which are subject to consultation, the Government’s remit would cover all UK businesses including SMEs, where previously it could only review proposed deals where there were national security implications. It would include powers to block takeover deals across all sectors of the economy.

The UK’s plans are reportedly in line with efforts in the United States, Germany, France and Australia and relate to concerns that China and other rivals are gaining access to key technologies.

How does foreign investment affect the UK economy?

The UK’s current account is a measure of the economy’s health.

It is calculated by adding up the goods and services of our exports and the income earned by the UK from overseas investments and subtracting those goods and services we import, income paid overseas for investments in the UK and the payment of things like international aid.

If this figure is negative it means that the economy has a deficit which can act as a disincentive to foreign investment in the UK, especially now, while business is beset by uncertainty and the prospect of exports being stifled by Brexit.

The most recent Office for National Statistics (ONS) figures, for January to March 2018, show that the current account was a deficit of £17.7 billion (3.4% of gross domestic product (GDP)) albeit this is a reduction of the gap for the third successive quarter.

How does foreign investment affect UK productivity?

According to ONS figures published in July this year British businesses, including SMEs, with foreign owners are up to three-times as productive as those with only UK investors.

It is not clear whether this is because overseas investors choose to put their money in the most productive UK businesses, or those which are already intensively involved in export, but there is also an argument that foreign investment comes from businesses that are already expert in the latest and most productive techniques of management, the organisation of work and the application of new ideas.

Readers might like to see a guide I recently produced on this topic: Guide to Productivity Improvement.

Why does a change in foreign investment scrutiny matter to SMEs?

The proposals have already raised concerns among MPs and notably the Institute of Directors (IoD) whose policy director Edwin Morgan said: “…the wide scope for intervention set out in the white paper could have a chilling effect on foreign investment in growing sectors of the economy”.

Oliver Welch, of the manufacturers’ trade body EEF also warned that even those companies not seen as a security risk “could end up caught in red tape”.

As many as 4 million UK workers are employed by companies with foreign investors, so a reduction in foreign investment could also have a significant impact on jobs.

More significantly, for SMEs hoping to grow and expand into overseas markets, many of whom are in the tech sector, access to investment is essential. Equally, as mentioned by the EEF, the last thing SMEs need is to have to engage with yet more Government red tape which is already a burden.

If the Government is proposing to widen its scrutiny of foreign investment to include key technologies on national security grounds, how does this square with its exhortations to SMEs to step up their efforts to seek more export opportunities?

Joined up thinking is not much in evidence here. We need policies that promote us abroad, not ones that isolate us from the rest of the world.