The Government has published the Corporate Insolvency and Governance Bill setting out the measures it intends to bring in to help businesses survive the economic shock caused by Covid-19, together with important reforms to insolvency.
In this article, Meriel Hodgson-Teall and Daniel Mills of Enyo Law, and Saaman Pourghadiri of Outer Temple Chambers consider what those measures mean for directors and suppliers to companies.
This article updates a note the authors wrote when measures to assist businesses were first announced. That note can be found here.
Overview of the Bill
The Corporate Insolvency and Governance Bill (the "Bill") introduces temporary measures to respond to the Covid-19 crisis and permanent additions to the UK insolvency regime. As at the date of writing, the Bill has seen its first reading in the House of Commons.
The terms of the proposed reforms are further reaching than anticipated, including both temporary and permanent measures.
Suspension of Wrongful Trading
The suspension of wrongful trading was much heralded by the Business Secretary when Government support for businesses during the pandemic was first announced.
As we anticipated (here), the measures are limited in time and scope and certainly do not offer a panacea for directors seeking to trade through this difficult economic time.
The Bill removes the threat of personal liability arising for wrongful trading for directors trading through the Covid-19 crisis. In any case where the court is considering the wrongful trading provisions the court is required to assume that the director is "not responsible for any worsening of the financial position of the company or its creditors that occurs during the relevant period." There is no need for the director to show that the worsening financial position during the relevant period was due to Covid-19. Certain companies are exempted from the provisions, principally business in the financial services sector and public-private partnership companies.
The "relevant period" is defined as beginning on 1 March 2020 and ending on the later of 30 June 2020 or one month after the Bill becomes law. The Bill includes provisions enabling the Government to extend the relevant period without fresh primary legislation. One would expect that if we are faced with the dreaded "second wave" the government would exercise those powers.
However, as we anticipated, the Bill does not affect the other remedies creditors and insolvency practitioners can seek against directors. In particular, it will remain the case that a director of a company which is likely to become insolvent is subject to a duty to treat creditor's interests as paramount in their decision making. The powers of an Insolvency Practitioner to bring an action for breach of this duty pursuant to s.212 Insolvency Act 1986 will also remain unaffected.
Restrictions on Presenting Winding Up Petitions
The Bill introduces temporary limitations on creditors' ability to bring a winding up petition on the basis of a company's failure to pay a statutory demand or satisfy a judgment. At present a creditor can serve a statutory demand requiring payment of a debt. If that debt is not paid within 3 weeks it can apply for the debtor company to be wound up. The Bill introduces two overlapping restrictions on that process.
First, there will be a blanket prohibition on presenting a winding-up petition where the statutory demand was presented during the relevant period. ("Relevant period" has the same definition as set out above in relation to the suspension of wrongful trading). This prohibition is said to apply to any winding up petitions presented on or after 27 April 2020.
Second, there is a more nuanced Covid-19 related restriction on seeking the winding up of a company. The principal practical applications of this restriction are where a statutory demand has been served prior to 1 March 2020 and/or where a creditor can show that the debtor company is unable to pay its debts as they fall due.
In such cases, in order to present a winding up petition, the creditor must satisfy the court that either coronavirus has not had a financial effect on the company, or that the facts giving rise to the statutory demand and/or the company's inability to pay its debts would have arisen even if coronavirus had not had a financial effect on the company.
The practical difficulties of disaggregating the effects of coronavirus from a company's general financial condition will mean that this will be a challenging test to meet, requiring careful and forensic focus on a company debtor's finances.
Finally, the Bill makes provision for the court to reverse any winding-up order made where a winding-up petition was presented after 27 April 2020 but before the Bill came into force.
Whilst the Bill is not yet law, it is difficult to predict how the courts will respond to petitions which would be prohibited if the Bill becomes law, but which are presently lawful. We anticipate that courts will stay application to wind-up companies, pending the passage of the Bill.
Permanent changes to the application of termination clauses in supply contracts
One permanent change which the Bill introduces is that clauses in supply contracts permitting the supplier to terminate their contract, or supply, where its customer has suffered an insolvency event will cease to have effect.
It is already the case that suppliers of critical utilities cannot rely on such clauses. The Bill changes the law such that all suppliers of goods and services are now prevented from relying on such clauses. The provision also prevents a business which had a right to terminate which arose because of an event occurring before the insolvency period, from exercising that right during the insolvency period.
The Bill also prohibits a supplier from requiring payment of its prior invoices before continuing to supply a company subject to an insolvency procedure.
This is intended to be a permanent change which reflects the position in other jurisdictions such as the Chapter 11 process in the US.
Such termination clauses, providing that a supplier may terminate in the event of an insolvency, are included in many supply contracts. The benefit of such a clause for a supplier is obvious - continuing to perform a contract (supplying goods or services) to a party who is insolvent puts the supplier at risk of losing money.
The effect of the provision is therefore substantial and will impact not only companies which are in financial distress but also those which are not.
If this change is enacted, suppliers are likely to need to take a much more robust view of their customers' financial health, they may become stricter on payment terms prior to an insolvency event and will want to consider exercising termination rights in contracts with companies of doubtful solvency as soon as those rights arise.
There is a temporary exemption on the requirement to supply which will apply to small suppliers during the relevant period. Small suppliers are defined as those meeting at least two of three criteria (i) annual turnover no more than £10.2m; (ii) balance sheet of no more than £5.1m; (iii) fewer than 50 employees. The "relevant period" is the day the temporary exclusion comes into force and ends on the later 30 June 2020 or a month after the provision comes into force. The Government has the power to temporarily extend this period.
A supplier need not continue supply if the insolvency practitioner agrees or if they apply to the court which is satisfied that they will suffer undue financial hardship if they are required to continue supply. In practice that is likely to be a cumbersome process which will prove difficult for suppliers who may themselves be in financial distress.
Corporate Governance – Extensions of Time
The Bill introduces extensions of time for companies to prepare their accounts and make various other filings at Companies House. The Bill also modifies the position in respect of company AGMs. It will enable AGMs to be held virtually, even where a company's constitution would not allow this, and the Bill extends the period within which companies can hold their AGM.
Permanent Reforms to the UK Insolvency Regime
In addition to the matters set out above, the Bill introduces significant and substantial additions to the UK insolvency regime. These changes have been the subject of extensive discussion and consultation since 2016 and we only briefly touch on them here.
The first permanent change is a new moratorium period to give financially distressed but still viable companies breathing space to arrange for some form of rescue. The moratorium would prevent creditors from taking legal action against the company without the leave of the court.
The second change is the introduction of a new restructuring plan than could enable dissenting creditors to be crammed down, albeit subject to court approval.
Whilst we can understand the desire to introduce new insolvency measures, which are thought to introduce greater flexibility, in order to respond to the shock of Covid-19, we question the wisdom of seeking to introduce these permanent changes in a Bill which is needed to bring in temporary emergency provisions. It would be most unfortunate if the desire to quickly introduce those emergency provisions reduced the scrutiny given to these permanent changes to the law, or if the scrutiny necessary for the permanent changes delayed the implementation of the temporary provisions.
The Bill introduces a number of measures to assist companies facing the economic shock of Covid-19. The changes are significant and important, but fundamentally only offer a temporary respite to stricken companies, and little comfort to directors facing difficult decisions around the trading future of their companies.