By Janis Wilderspin
In March 2020 the Government announced that the long-expected and hotly anticipated changes to the UK' insolvency laws would, as a result of Covid-19, be rushed through Parliament with additional, supposedly temporary, provisions designed to help mitigate the impact of Covid-19.
The Bill itself is part of a set of comprehensive legislative reforms which were intended to enhance the UK's restructuring and rescue culture, and are the most significant insolvency reforms in 20 years.
The Bill is currently in the Parliamentary stages of approval but is intended to pass into law by late June or early July this year.
So what will this mean for both businesses, and for the professionals, such as insolvency practitioner's and lawyers who deal with Corporate insolvency and governance? The mechanisms to be introduced by the Bill when it passes into law are complex, and some will undoubtedly evolve once the new laws are in place, however, this note is intended to be a short guide to the main changes afoot.
Broadly speaking the Bill, soon to become law, introduces permanent changes - namely a moratorium on enforcement action, a new 'restructuring' process, and a disapplication of supplier termination of contract provisions for insolvency; along with temporary changes namely a temporary suspension of wrongful trading and changes to the processes for Winding Up Petitions and Statutory Demands. We will look at these in more detail below. However, it is fair to say that some of these changes will assist businesses who are struggling directly as a result of Covid-19, as they are designed to offer companies breathing space from creditors to enable them to attempt to formulate a rescue plan.
The 'Moratorium' which is possibly the biggest and most relevant change introduced by the Bill, is effectively a director-led process, which is intended to provide a company with a mechanism to ensure that certain types of enforcement or legal actions are restricted for some time. As referred to above, this gives the company concerned a 'breathing space' to either implement a restructuring process or an insolvency one.
Whilst the provisions relating to the new moratorium is complicated, in essence, the process, if successful, leaves the directors in-situ to continue the business with an insolvency practitioner acting as a 'monitor' overseeing their actions and the company's overall affairs.
The moratorium is to be a free-standing process which is not tied to any particular insolvency process, which is novel for our law in this area but will be available to ALL companies, except for:
- Financial services companies (for example insurance companies, banks electronic money institutions, investment banks and parties to capital markets arrangements);
- Companies which are already in the process of formal insolvency; and
- Companies that have been the subject of a Company Voluntary Arrangement (CVA), administration or otherwise in the 12 month period prior to the filing date.
A moratorium will be able to be obtained by the Directors either:
- Filing the necessary documents at court (referred to as an 'out-of-court process'), which will as a temporary measure be extended to companies which are the subject of a Winding Up Petition (to assist with the Covid-19 situation) who can use the out-of-court process from the date the Bill comes into force as legislation, until 30th June 2020 or one month after the Bill is enacted, if later; or
2. Making an application to the Court (the 'in-court process')
To use the in-court process, generally there must be either an outstanding Winding Up Petition against the Company or the Company must be an overseas company.
The potential for a moratorium should not be viewed as a process to be used speculatively to buy time for a Company which is not capable of being saved, an Insolvency Practitioner who may be appointed as a monitor must be of the professional view that any moratorium granted to a company is likely to result in the rescue of the company as a going concern, and as an officer of the court will have a duty to hold his or her opinion on this to a high standard.
The documents required to file for either an out-of-court process or an in-court application are the same, namely:
- A statement from the Directors of the company that they wish to obtain a moratorium and they are of the view that the company is, or is likely to become unable to pay its debts; and
- A statement from the monitor(s) that they are qualified, consent to act, that the company is eligible and that in their opinion it is likely that the moratorium will result in the rescue of the company.
If at any point during a moratorium a monitor becomes of the view that the company cannot be rescued they must make this view known and the moratorium must end.
If a moratorium is given, there are certain debts which the company the subject of the moratorium must continue to pay. If they do not do so, again the moratorium must end.
The debts are - newly incurred liabilities; payments for new supplies; rent in respect of the moratorium period; certain payments due to employees; and debts under financial contracts, including lending contracts.
The provisions for payment of rent are likely to cause some issues since the drafting within the legislation does not make clear how this is to be applied in practice, and what periods of rent will be included.
The rules on how a moratorium under the newly proposed legislation will work are many and complex. However fundamentally the breathing space for a rescue or restructure to be worked out is a period of 20 business days from the commencement of the moratorium, which may then be extended for a further period of 20 business days without creditor consent, or, up to one (1) year with the consent of the Company's creditors or by order of the court.
The 'Restructuring Plan' process
The 'Restructuring Plan' is a new option given by the Bill for companies who need to restructure their liabilities to survive. It is in addition to the existing processes available for reaching a compromise with debtors - the CVA and the Scheme of Arrangement (Scheme), and it will operate in a similar way to the current Scheme. It will be able to affect the rights of secured creditors without their consent.
A Restructuring Plan will need the consent of 75% of each class of Creditors of a Company. Approval by the courts (unlike a CVA), however, the key difference is that a Restructuring Plan can, subject to specific criteria, be sanctioned by court (at the courts own discretion) even if not all classes of creditors vote for it.
The 'Disapplication of supplier termination of contract provisions for insolvency'.
This disapplication of the rights of a supplier to either terminate a contract or do any other thing, as a result of a company's insolvency is an extension of the current protection provided by the law for insolvent companies against certain suppliers (e.g., utility providers and IT services) and broadens the scope of the restrictions to a wider range of suppliers. This, of course, means that subject to certain exemptions suppliers may have to continue to supply goods or services to an insolvent company, even if they already owe the supplier a considerable sum of money. That will likely be a controversial topic since it extends not only to companies which enter into administration or are subject to a CVA but also to those who enter into liquidation or are subject to the new moratorium process and other prescribed insolvency processes.
The only exemptions appear to be those suppliers/companies involved in providing financial services, and those already protected by existing legislation as referred to above. Although there is a temporary reprieve for those suppliers deemed to be 'small entities', but again only until the later of 30th June 2020 or one month after the coming into force of the new legislation.
The overall broadening of these restrictions on suppliers, while likely to be unpopular with suppliers, are generally thought to measure which will support the ability of businesses being able to restructure, and is consistent with the business rescue theme running throughout the proposed new legislation.
The temporary changes to be introduced to assist with the situations that have arisen as a result of the Covid-19 pandemic are;
- A temporary suspension of the offence of Wrongful Trading; and
- Changes to the Winding Up Petition and Statutory Demand Processes.
The proposed new legislation will temporarily suspend the wrongful trading provisions for a period of three months (with retrospective effect) from 1 March 2020 to 30 June 2020, or one month after the legislation comes into force. A court will be able to assume that "the person is not responsible for any worsening of the company's financial position or that of its creditors that occurs during the relevant period", in connection with any action brought against a person for wrongful trading.
It is interesting to note, however, that there is no current clarity on the basis for such an assumption, nor whether the assumption is capable of rebuttal, and it remains to be seen whether this changes.
The suspension does only apply to the offence of wrongful trading and has no impact on the other duties of directors as a company moves close to insolvency. It is therefore likely that the reality of the suspension is that it will not change a great deal practically speaking since a number of the considerations that need to be taken by directors will be picked up by other duties that the directors owe, even if they are no longer vulnerable to wrongful trading.
Directors will still need to assess whether a company has a reasonable prospect of avoiding insolvency, since if they do not when the temporary measure put in place to lessen the impact of Covid-19 is lifted , they may need to be able to prove that every step has been taken to minimise losses to the company's creditors.
Changes to the Winding Up Petition and Statutory Demand Processes
This has been another area of keen focus since the start of the Pandemic and lockdown in the UK, as many companies have faced aggressive actions by creditors following delays and deferrals in payments due to Covid-19.
It has predominantly been believed to be only relevant for landlord petitions for non- payment of rent and service charges, however, whether this is the case is currently unclear.
The Bill introduces the following provisions:
- No petition for the winding up of a company may be presented on or after 27 April 2020 on the ground that the company has failed to satisfy a statutory demand if that demand was issued and served between 1 March 2020 and 30 June 2020 or one month after the Bill comes into force, whichever is the later date.
- No petition for the winding up of a company may be presented on or after 27 April 2020 until 30 June 2020 (or one month after the Bill comes into force, whichever is the later date) by a creditor, unless the creditor has reasonable grounds to believe that (a) Covid-19 has NOT had a financial effect on the debtor; or (b) the debtor would have been unable to pay its debts event if Covid-19 had not had a financial effect on the debtor.
'Financial Effect' is referred to as the "worsening of the debtor's financial position in consequence of. Or for reasons relating to Covid-19", which is a fairly low threshold to be established, however, it is yet to be seen how the courts interpret this in practice.
Overall, the Bill is a mixture of the long-awaited permanent changes to the insolvency regime in the UK, and the slightly more panic-driven temporary changes to help businesses through the unprecedented issues which have arisen as a result of the Covid-19 related lockdown.
The permanent changes proposed in the Bill will undoubtedly be welcome to a generation of companies who face the uncertainty of a recession, unlike any other, we have seen.
The temporary changes proposed while likely to provide short term relief to debtors during this crisis are unlikely to be popular with creditors who are owed money.
The best that the temporary measures can achieve is to provide a hiatus for vulnerable businesses, to enable them to survive until either the economy improves or recovers, or they can avail themselves of the new permanent measure introduced by this Bill.
Whilst this is the current scenario until the Bill is passed, further changes are possible, although unlikely, and it will be interesting to see how this progresses.
Fletcher Day has a wealth of experience, if you would like to know more, please contact Janis Wilderspin on 020 7632 1431.