Increased support for businesses thanks to insolvency law changes

The Act introduces introduce long awaited changes to the UK’s insolvency framework as well as introducing temporary support for businesses facing financial problems as a result of Covid 19.

The Act runs to some 249 pages but the key points are below.

A new breathing space moratorium

If a company is unable (or likely to become unable) to pay its debts, the new legislation will enable it to obtain a 20 business day moratorium to give the company some time to deal with its debts.

Once in place, control of the business will remain with the directors during the moratorium and a payment holiday for certain debts will automatically take effect. Creditors will not be able to take legal action against the company during the moratorium, which can be extended beyond the initial 20 business day period.

In order to obtain a moratorium, an insolvency practitioner must agree to act as monitor and must confirm to the court that it is likely the moratorium will result in the rescue of the company as a going concern. It is the job of the monitor to, well, monitor the moratorium as it progresses as well as providing some safeguards for creditors.

A company may well be able to deal with its debts entirely during the moratorium without the need for any follow on action, for example by raising additional finance, rescheduling debts with the agreement of creditors or restructuring of the business.

If it proves not to be possible to deal with all of the debts during the moratorium period, a further insolvency procedure might be necessary. All liabilities incurred during the moratorium will incur “super priority” if a liquidation or administration follows within 12 weeks of the end of the moratorium.

In the right circumstances, a moratorium might help give viable businesses the space they need to deal with their debts and/or put together a viable plan. The need to have an insolvency practitioner on board should help minimise the potential for abuse.

Restructuring plan

An entirely new insolvency procedure has been introduced. The proposed restructuring plan is similar to the existing Scheme of Arrangement process found in the Companies Act 2006.

Essentially it involves the company putting forward a formal plan to the company’s creditors and members to deal with its affairs. The rules are flexible and the plan can deal with the company’s secured and unsecured debt as well as its shareholding.

Creditors and members will be split into classes and asked to vote on the plan. If 75% in value of those who vote are in favour, then the plan will be approved. Crucially, the rules also allow for “cross cram down” in certain circumstances so that even if a creditor class does not approve the plan the Court can nevertheless approve it. The court will only do so if the plan puts that class of creditor in no worse position than they would find themselves in any realistic alternative and other criteria are met.

Providing the statutory requirements are met, the new restructuring plan will prevent a minority of creditors (secured or unsecured) and/or members blocking a viable plan to deal with the company’s debts and rescue it as a going concern.

Restrictions on termination clauses

Contracts often contain provisions which allow a party to terminate as a result of the other party’s insolvency. The new Act seeks to limit the ability of the parties to do that as we all preventing termination on other grounds as well.

The new rules will only apply to suppliers of goods and services to companies (and there are some exceptions, like certain financial services). They kick in when the customer enters into an “insolvency process”, which includes liquidation, administration, company voluntary arrangements and the new moratorium and restructuring plan processes. In short:-

• Any provision which automatically terminates the contract on the customer entering into an insolvency process will cease to have effect.
• Any provision which allows the supplier to terminate the contract (or do various other things) because an customer is in an insolvency process will cease to have effect.
• If the contract allows the supplier to terminate because of “an event occurring before” the formal insolvency process of the customer began, the right to terminate cannot be exercised by the supplier whilst the insolvency process is ongoing; and
• A supplier cannot make payment of historic debt a condition to continuing to supply a customer that is in an insolvency process.

Creditors can in some circumstances apply to court to enforce the provisions of the contract notwithstanding these restrictions and there are provisions to make sure that ongoing supplies are paid for.

These changes should help businesses that are in a formal process to continue to trade by allowing them to secure the supply of goods and services whilst options to save the business are explored. However, these changes will undoubtedly be an added risk factor that suppliers will need to take into account when agreeing contractual terms with customers.

Covid-19 – additional temporary support

The Act contains a number of measures that are temporary in nature and are designed to help support businesses during the Covid-19 Pandemic. The principal measures are:

Relaxation of wrongful trading rules

The possibility of wrongful trading comes into play at a relatively late stage of a company’s life.

The wrongful trading rules are set out in section 214 of the Insolvency Act 1986. They allow a liquidator or administrator to apply to Court for an order requiring the directors to personally to pay money if at some point prior to liquidation or administration the directors knew (or ought to have concluded) that the company had no reasonable prospect of avoiding a formal insolvency. In those circumstances, the directors may be held responsible for any loss incurred after that date unless the directors took every step that they ought to have taken with a view to minimising the potential loss to creditors.

The Act introduces a provision to the effect that when considering wrongful trading claims, the Court is to assume that between 1st March and the 30th September 2020 the directors are not responsible for any worsening of the company’s financial position.

On the face of it, this new measure reduces the risks for directors who allow their businesses to continue to trade during these uncertain times. However, this will not make the directors bullet proof.

Firstly, this is states to be an assumption. What if it can be shown that the directors were responsible for the worsening of the position? It is also important to note that it is actually relatively rare for insolvency practitioners to successfully bring wrongful trading claims. It is much more common for insolvency practitioners to bring a claim because the directors have breached their general duty to act in the best interests of creditors as a whole. The rules relating to directors duties are not affected by these changes. Click here for more details of what directors should do to comply with their duties when a business is in financial difficulty.

Temporary changes to the ability of creditors to wind up companies

Between 27th April and 30th September 2020, creditors will be prevented from taking steps to wind up companies that owe them money unless (a) Covid-19 has not had “a financial effect” on the debtor or (b) the facts giving rise to the petition/order would have arisen even if Covid-19 had no financial effect on the debtor.

These temporary restrictions have since been extended to the 31st December 2020.

Click here for more details.

Temporary housekeeping changes

The Act gives power to the Secretary of State to make regulations in order to extend the time period allowed for the directors of companies to file information with the Registrar of Companies, such as confirmation statements or registration of new forms of security.

The Act also introduces temporary changes to the way in which meetings are held by companies, partnerships and other bodies during the pandemic – there is no requirement for any physical meetings to take place and all meetings can be held electronically and/or without people needing to be in the same place.

More temporary measures in future?

The Secretary of State will have the power to make new temporary regulations in addition to the above to help reduce the number of insolvencies and/or mitigate the effects of Covid-19.

So what does all of this mean?

The permanent changes introduced by the Act – a new moratorium, a new restructuring procedure and changes to insolvency termination clauses – are all designed to help rescue viable businesses that are in financial difficulty, which will no doubt be welcome by businesses across all sectors

If you have any questions or to discuss your own circumstances, contact one of the team.