Administration sales and TUPE: normal service resumed

For many years, the accepted way 
to rescue the business of a company 
and thereby preserve employment, 
while paying the maximum return to creditors, has been administration 
followed by the sale of the business 
and assets to a purchaser (usually by a 
‘pre-pack’ these days). The automatic transfer of the employees to the 
purchaser under the Transfer of Undertakings (Protection of Employment) (TUPE) Regulations invariably applied to a business sale out of administration and the considerations for the buyer in relation to the employees of the business were relatively predictable. At least, that was the case until TUPE was amended in 2006. Given the opportunities that sales by administrators represent to many companies, it is important to business generally that there is certainty as to the effect of TUPE in relation to such sales.

The amendments to the TUPE regulations were based on the European Council Directive 2001/23/EC (the 2001 Directive), with the aim of bolstering employees’ rights. The introduction of the ‘new’ regime (TUPE Regulations 2006) had a certain disrupting effect on administration sales, due to the absence of the usual certainty concerning employees. This recent hiccough was not a crisis to rival the aftermath of Re Paramount Airways (No3) [1994] in the mid-1990s. However, the new regime introduced on 
6 April 2006 did result in a lack of certainty for purchasers, employees and administrators. Fortunately, the uncertainty has now been resolved by the clear decision of the Court of Appeal given in Key2Law (Surrey) LLP v De’Antiquis [2011].

The amended TUPE regime

A sale of the business and assets of a company acting by its administrator will usually necessitate consideration of the impact of the new TUPE regime by all parties. Obviously, it is important that the buyer from the administration company considers the effect of TUPE. Following Key2Law, buyers will usually expect that employees’ contracts will transfer across 
to them automatically.

TUPE applies where there is a ‘relevant transfer’. A relevant transfer includes a transfer of all or part of a business or undertaking where there is a transfer of an economic entity that retains its identity (a business transfer) (Regulation 3 TUPE). Provided there is a relevant transfer, the contracts of employment of those employees employed by the seller will automatically transfer to the buyer on their existing terms (Regulation 4(1) TUPE). The buyer will step into the shoes of the seller; inheriting all of the buyer’s rights, powers, duties and liabilities under or in connection with the transferring employees’ contracts. In addition, any acts or omissions of the seller before the transfer are treated as having been done by the buyer (Regulation 4(2) TUPE).

The transferring employees will also 
benefit from enhanced protection under Regulation 7(1) TUPE, which provides that certain dismissals are automatically unfair. The result is that both buyers and sellers of an insolvent business are severely limited in their ability to dismiss employees fairly when TUPE transfers occur. Regulation 7(1) provides that any dismissal of an employee with continuous employment of a year or more will be automatically unfair unless it is for an economic, technical or organisational (ETO) reason connected with the transfer.

A transaction falling within the scope of TUPE will also render void any variations to an employee’s terms and conditions of employment, regardless of consent, unless the sole or principal reason is an ETO reason (Regulation 4(4)).

Administration and the 
Regulation 8(7) exemption

From a TUPE perspective, the question 
of whether a business is subject to ‘terminal’ or ‘non-terminal’ insolvency proceedings is a key one. A business subject to terminal proceedings will be exempt from certain fundamental principles of TUPE, meaning that employees, and their employment-related liabilities, will not automatically transfer to the buyer and the employees will not have enhanced protection against dismissal. The rationale apparently being that to apply Regulations 4 and 7 to terminal insolvency proceedings (such as compulsory or creditors’ voluntary liquidation) would discourage potential purchasers from acquiring the business.

This exemption from the TUPE automatic transfer principle is contained in 
Regulation 8(7) TUPE and applies to ‘any relevant transfer’ where the transferor 
is the subject of ‘bankruptcy proceedings 
or any analogous insolvency proceedings which have been instituted with a view 
to the liquidation of the assets of 
the transferor’.

Non-terminal proceedings are defined in Regulation 8(6) TUPE as ‘relevant insolvency proceedings’ that ‘are not with a view to the liquidation of the assets of the transferor [company]’. These are governed by the key principles of TUPE, but under the 2006 regulations, the buyer has greater scope than before to vary the terms of employment for transferring employees and will receive assistance from the National Insurance Fund in respect of certain debts owed to employees.

As the statutory purpose of administration is to rescue the company as a going concern, it was widely assumed that administrations would fall within the Regulation 8(6) definition as non-terminal proceedings. This was also the view of guidance published by what is now the Department for Business Innovation and Skills in 2006.

In fact, the Insolvency Act provides, 
in relation to administration, for the 
single statutory purpose of rescue to be achieved via the hierarchy of objectives in paragraph 3(1) of Schedule B1. Administrators must have regard to the interests of the company’s creditors as a whole1 and must then consider, whether the company can be rescued as a going concern. If that is not reasonably practicable, or if they think a better result can be achieved for the creditors as a whole, they must pursue a better result for the creditors than would be likely in liquidation2. However, if the administrator thinks neither a rescue nor a better return for the creditors than in liquidation is possible, they are entitled to realise the company’s property in order to make a distribution to the secured or preferential creditors3. In practice, an administration having the third objective is usually liquidation in all but name.

The Conflicting Decisions

The Employment Appeal Tribunal case of Oakland v Wellswood (Yorkshire) Ltd [2009] concerned the transfer of a business as part of a pre-pack administration sale. In such circumstances, the sale of the business is negotiated before the appointment of an administrator with a view to saving time and professional costs, while attempting to preserve the goodwill of the company. The purpose of the administration was the pre-planned disposal of the company’s business as a going concern with the objective being a better result for the creditors than in liquidation.

In Oakland, as in all pre-pack sales, the business was not traded at all by the administrator and was immediately sold on his appointment. In a decision widely thought to be incorrect, the EAT upheld 
the tribunal’s conclusion that the transferor employer had been subject to a terminal proceeding within the Regulation 8(7) exemption, that is: ‘bankruptcy proceedings or any analogous insolvency proceedings that have been instituted with a view to 
the liquidation of the assets of the transferor’.

However, in OTG Ltd v Barke & ors [2011], the EAT reached an entirely different decision by favouring what was called the ‘absolute approach’. It held that administration proceedings can never constitute insolvency proceedings instituted with a view to the liquidation of the assets of the transferor. Therefore, TUPE would apply and Regulation 4 would operate to automatically transfer the employees to the purchaser. Regulation 7 would protect such employees from a transfer-related dismissal.

In reaching this decision, the EAT referred to the decision in Oakland as a ‘fact-based approach’ where the tribunal’s scrutiny of the individual circumstances of each administration would determine the 
operation of the automatic transfer 
principle. The EAT believed this approach 
to be unsatisfactory, given that the purpose of TUPE is to protect employees and the resulting uncertainty would lead to disputes over which party was liable for the seller’s obligations and leave many employees without the required protection. The result was the unsatisfactory position of two conflicting EAT decisions.

Key2Law (Surrey) LLP v De’Antiquis

In this case, the appellant was Key2Law, a firm of solicitors. The respondent was a former assistant solicitor of Drummonds Kirkwood LLP (DK). On 21 July 2008, DK dismissed the respondent and several other employees on the grounds of redundancy. Four days later, DK went into administration on the application to court of HM Revenue & Customs.

A pre-pack administration was foreseen but did not materialise. As a consequence, a few days after the administration order, the administrators caused the company to enter into a management contract with Key2 in relation to two of its offices, including the Epsom office, where the respondent was formerly employed. Key2 was engaged on a commission basis for a term of one year to finish DK’s work in progress. The respondent employee claimed that as a transferee of that part of DK’s undertaking, Key2 was liable to her under Regulations 4 and 7 of TUPE.

At first instance, Freer J held that 
there was both a transfer to Key2 of 
part of DK’s undertaking and a service provision change. Key2’s argument that, as DK was in administration, it was subject to insolvency proceedings analogous to liquidation was unsuccessful and the Regulation 8(7) exemption did not apply. However, in reaching this decision Freer J applied the ‘fact-based approach’ of the 
EAT in Oakland.

Key2 appealed to the EAT and the matter was heard with four other appeals. The EAT president, Underhill J, described the issue as being whether administration proceedings under Schedule B1 of the Insolvency Act 1986 constitute ‘insolvency proceedings which have been instituted with a view to the liquidation of the assets of the transferor’ within the meaning of Regulation 8(7) of TUPE.

The EAT concluded that administration proceedings could never fall within the Regulation 8(7) exemption and that 
Oakland had been wrongly decided. Despite arriving at the correct decision, Freer J had adopted the incorrect ‘fact-based approach’, which the EAT rejected in favour of the ‘absolute approach’.

Permission for an appeal by Key2 was given on the basis that it would raise an important point under the 2001 directive, to which TUPE gives domestic effect.

Key2 – The Court of Appeal’s Decision

The Court of Appeal referred to Regulation 8(7) as giving domestic effect to Article 5.1 of the 2001 directive, adopted almost verbatim. The result is incorporation of terms that have a different meaning in the jurisdiction of England and Wales from other member states. Principally, the term ‘bankruptcy’ refers to the insolvency of an individual, whereas TUPE is most commonly concerned with corporate insolvency. This creates concern over how wide to cast the net when considering the meaning of ‘analogous insolvency proceedings’. However, these concerns were dismissed with a warning as to adopting too literal a semantic interpretation of the relevant language – the approach must be purposive said the court.

The ‘absolute approach’ favoured by the EAT focused on the purpose of administration appointments generally, as explained in paragraph 3 of Schedule B1. However, the ‘fact-based approach’ favoured by Clark J in Oakland and Freer J looked at the purpose of that particular administration appointment. It was, of course, necessary to identify the purpose of the administration as Article 5.1 poses the question of whether the ‘relevant insolvency proceedings’ have been instituted ‘with a view’ to the liquidation 
of the assets of the transferor.

Giving the leading judgment, Rimer LJ indicated that the uncertainty surrounding evidence leading up to the appointment of administrators meant it was unsatisfactory to depend on such evidence when deciding whether or not administrative proceedings are ‘analogous insolvency proceedings’. He went further in saying that considering such evidence to identify the purpose of an appointment is wrong in principle and that the suggestion these factual considerations conclusively identify the objective of ‘with a view to liquidation’ was a ‘fallacy’.

The Court of Appeal held that a more accurate summary would be that an order was made with a view to the administrator performing his duties under paragraph 3 of Schedule B1 of the Insolvency Act. Schedule B1 has a single purpose, based on a priority of objectives, with the starting point always being to rescue the company as a going concern. It was not possible to conclude that the making of an administration order is made with a view to the liquidation of the transferor’s assets. Therefore, in the interests of legal certainty, the Court of Appeal agreed with the ‘absolute approach’ of the EAT.

Conclusion: the return of certainty

The Court of Appeal’s definitive ruling 
has provided much needed clarity to the rights of employees in the sale of a business by a company in administration. Administrations, including pre-packs, will always be non-terminal insolvency proceedings as far as TUPE is concerned.

It follows that the core principles of TUPE will apply to administration sales and potential buyers will only benefit from the non-transfer of certain pre-existing debts in Regulation 8(5). This means that employees with claims who transfer to the purchaser will be paid out of the National Insurance Fund, up to the prevailing statutory limits in respect of the period before the insolvency, for arrears of wages and holiday pay. However, if such employees are subsequently dismissed, the purchaser/employer rather than the secretary of state will be liable for any consequent redundancy payment.

Potential buyers from administrators will need to factor in the additional TUPE-related costs. The buyer will not usually be able to cherry-pick the employees it would like to employ following the purchase, since the existing employment-related debts or liabilities will transfer to the buyer and restrictions will apply to any variations of employment terms. In broad outline, the Regulation 8(6) regime that will now apply 
to all administration sales, including 
pre-packs, is a return to normality. While some buyers may be put off, the majority would most probably have been making their bid calculations on the basis that they would be responsible for all the employees’ contracts. Therefore the Court of Appeal’s clarification of the TUPE regime as applicable to sales by administrators is to be welcomed as bringing back certainty for purchasers, administrators and employees alike.

In summary, the possibility of post-transfer TUPE disputes has been significantly reduced, although it is worth mentioning that the Department for Business Innovation and Skills has asked whether more should be done to clarify the application of TUPE in insolvency situations. In light of the recent authoritative Court of Appeal decision, it currently seems unlikely that any legislative changes or further detailed guidance will be required.