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Herbert Smith Freehills LLP


Posted: 26 May, 2020

The Government on 20 May 2020 published the Corporate Insolvency and Governance Bill, which contains the most far-reaching reforms to UK insolvency law in over 30 years. The Bill has been introduced on an emergency basis in an attempt to ensure that otherwise financially viable companies survive during a period of unprecedented interruption and turmoil.

Nevertheless, we consider that many of the proposed reforms could have been achieved with less radical amendments to the Insolvency Act 1986. Consultation with industry, practitioners or policy makers has been limited. Most fundamentally, the Bill introduces a debtor-in-possession insolvency procedure for the first time in English law. Introducing such sweeping reforms during a crisis risks unintended consequences. For suppliers particularly, the legislation increases the risk that customers and clients will not make payments when due – a creditor’s threat to serve a winding up petition has been weakened – which may push liquidity issues through the supply chain. Other reforms affect the balance between creditors and other stakeholders, with which the legislature has previously been cautious about interfering.

These reforms are likely to impact all companies, whether in financial distress or not, and may well alter the relationship between contractual counterparties as companies attempt to trade through this crisis.

In summary, the proposed reforms have effect as follows:

 

New company moratorium: A novel, free-standing moratorium (unconnected to any other insolvency process) giving up to 40 business days of protection even without court or creditor approval during which a payment holiday will apply to all pre-moratorium debts except certain limited categories (principally for liabilities to employees and financiers). The moratorium prevents legal processes against the company, including commencing a claim, commencing insolvency proceedings, crystallising a floating charge and forfeiture. Directors retain management control. An insolvency practitioner will be appointed as moratorium monitor, responsible for ensuring that the moratorium is at all times likely to result in rescue of the company as a going concern. The monitor’s consent will be required for many company payments. Liabilities incurred during the moratorium will be payable as expenses, and therefore effectively prioritised. Fixed and floating charge assets will be capable of disposal subject to certain limitations.

 

Restructuring plan: Effectively an enhanced scheme of arrangement with similar broad scope, the reform allows the court to impose a compromise on a company's creditors and shareholders, including a cross-class cram-down. The compromise would need approval by the court and 75% of the creditors in each class (although the court can override rejection by one or more class).

 

Winding up petitions: Winding up petitions cannot be presented if based on statutory demands dated 1 March 2020 to 30 June 2020. Creditors will also be prevented from winding up a company unless the creditor has reasonable grounds to believe that coronavirus has not had a financial effect on the company or that the company would have become insolvent even absent coronavirus’ effect, which will be a significant hurdle for most creditors. Winding up will now commence from the date of the order, meaning that transactions entered into between the petition and the order will no longer be void unless validated by the court.

 

Ipso facto (termination) clauses: Contractual clauses permitting a supplier of most goods or services to terminate supply as a result of the customer’s entry into an insolvency procedure will cease to have effect. The supplier will not be able to exercise any pre-existing right to terminate either. Suppliers will also not be able to withhold supply to the company in insolvency until pre-insolvency debts are paid, preventing ransom payments being sought.

 

Suspension of wrongful trading: When determining what contribution, if any, a director should make to a company's assets following a finding of wrongful trading, the Court must assume that a director is not responsible for any worsening of the financial position between 1 March and 30 June 2020. While otherwise directors may feel compelled to cease trading so as to take every step to minimise loss to creditors once they believe that there is no reasonable prospect of avoiding insolvency, directors can now take some comfort that they will not be liable for any deterioration since 1 March 2020. This reform may allow directors to continue trading though other duties of directors will continue to apply, including the common law duty to have regard to creditors’ interests when a company is likely to become insolvent. Given the purpose behind the reforms is to ensure that companies continue to trade even when they are insolvent or in financial distress, the need for directors to consider these common law duties become ever more important to avoid personal liability.

 

We intend to publish a more detailed analysis of each of the reforms in the coming days, including of potential unintended consequences that might arise. Our initial analysis of the proposed reforms when they were first announced can be found here.

We strongly advise companies to be aware of the proposed law and to understand how it may impact their business. If you wish to discuss the law further please contact Kevin Pullen


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