New corporate insolvency legislation to support UK economic recovery
The Corporate Insolvency and Governance Act 2020 (“the Act”) introduces major new measures aimed at reinforcing the rescue culture during this period of economic uncertainty. These changes will provide crucial support to the country’s economic recovery and a significant and historic change to insolvency law in the UK
These wide-ranging measures are not sectors specific. They are available to companies generally. They consist of a set of permanent, structural changes to the regime as well as some temporary COVID-19 related relief. They give a significant boost to the UK’s culture of company rescue and survival.
New Moratorium – Permanent Change
The Corporate Insolvency and Governance Act introduces a new moratorium available to companies in financial distress, which gives those companies a minimum of 20 business days’ breathing space from creditor enforcement action whilst they seek a solution to their difficulties such as to enable them to deal with their problem debts or seek a rescue.
A key aspect of the moratorium is the appointment of a licenced insolvency practitioner as monitor to protect the interests of creditors including considering whether a rescue of the company as a going concern is likely
The directors of eligible companies may apply to court for a moratorium and, as a “debtor-in-possession” process, the directors maintain control and decision-making responsibility for the company during the moratorium. The moratorium is a standalone pre-insolvency process – it need not be linked to any insolvency procedure and there is no need for creditor consent.
The moratorium is overseen by a licenced insolvency practitioner who has certain statutory duties including the duty to end the moratorium if rescue of the company is no longer likely, or if the company is not paying the debts that it must pay within the moratorium.
After the initial 20 business days, the directors can extend the moratorium up to 40 business days or, with creditor or court approval, up to 12 months.
Ipso Facto Regime – Permanent Change
There are new measures providing for the continuation of supply to companies in the moratorium or subject to insolvency proceedings, extending the current regulations around continuation of essential supplies.
This is achieved by the Corporate Insolvency and Governance Act including a ban on “ipso facto clauses” in supply contracts. Ipso facto clauses are termination provisions that entitle a supplier to terminate a supply contract upon a customer’s insolvency.
Suppliers have traditionally been able to take advantage of such provisions in supply contracts in order to negotiate favourable terms when dealing with customers in financial distress, for example, by threatening or refusing to supply them.
The ban aims to prevent suppliers from jeopardising a rescue by preventing a customer getting the supplies it needs and it aims to tilt the balance in favour of company rescue. Suppliers can apply to court if continuing to supply would cause hardship to the supplier.
Restructuring Plan – Permanent Change
In order to assist viable companies that are likely to become financially distressed, the Corporate Insolvency and Governance Act introduces this new restructuring procedure. It is in effect a further “debtor-in-possession” process pursuant to which the directors of the company retain control. The procedure is similar to a scheme of arrangement but with a simplified voting structure. Scheme of arrangements have been widely used and accepted as a successful restructuring tool of companies in financial difficulties in the UK.
The plan is ultimately court sanctioned and, if approved, binds creditors to it. While creditors may vote on the plan, the court can impose it on dissenting creditors.
Interestingly, the Act introduces a measure which like in the United States of America prevents dissenting creditors from blocking the plan in a Chapter 11 bankruptcy. This is not likely to be used by smaller companies as it is likely to be expensive given the necessary involvement of lawyers and the court.
Suspension of Wrongful Trading Rules – Permanent Change
Under the Act, the existing rules on wrongful trading by directors are suspended until 30 September 2020 (unless the government further extends them). As such, a liquidator or administrator of an insolvent company may not claim against the directors for losses to the company or its creditors resulting from the directors continuing to trade the business during the period when the suspension is in effect.
The suspension of the offence of wrongful trading is intended to ensure that, in the current uncertain COVID-19 environment where many businesses may be nearing insolvency, directors are able to take decisions to continue to trade and incur additional debt, including under the new government funding initiatives, without the threat of potential personal liability in respect of wrongful trading should the company ultimately fall into insolvency.. Directors must still pay attention to their general duties as directors including the solvency or otherwise of the company.
Statutory Demands and Winding Up Petitions – Short Term change
“Statutory demands” is a procedure which you won’t find in other European countries.
It is a precursor to a winding up petition have been frequently used as a method for collecting debts from a company. Indeed the threat of having an insolvency petition filing at court can incite a company to agree a financial arrangement with a creditor. The threat for the company is that it may not want others to be on notice of its financial situation and refuse to deal with it.
As a temporary measure, the Act provides that statutory demands may not be used as the basis for a winding up petition where the company’s inability to pay is related to the pandemic.
As a result of the Act, it will be difficult for creditors to show that the insolvency of a company is not related to the pandemic. The Act will force the parties to find an arrangement.
CVAs are recognised in the Act as an effective tool supporting the UK’s rescue regime and the wider economic recovery.
Finally, it should be noted that publicity required to be effected as part of the winding up petition will not take place until the court is satisfied that the company’s financial difficulties are not related to the pandemic. Creditors may feel that using a “Statutory Demand” as a threat seems somewhat to have lost its purpose for now.
The Act came into force on 26 June 2020.