Insolvency law: where are we now?
After much anticipation within the insolvency sector, the Corporate Insolvency and Governance Act 2020 received royal assent on 25 June 2020 and came into force on 26 June 2020. The Act is the most significant change in insolvency legislation since the Insolvency Act 1986.
Its aims can be broken down into two distinct categories;
- temporary changes designed to address the immediate issues caused by the Covid-19 pandemic and
- permanent changes which introduce a greater degree of flexibility into the UK Insolvency regime to give companies facing financial distress a greater chance of survival.
Temporary changes
Suspension of wrongful trading
The Act introduces a temporary suspension of liability for wrongful trading. Under existing insolvency legislation a director may be liable for wrongful trading if, during a time when they knew, or ought to have concluded, that there was no reasonable prospect of avoiding insolvent liquidation they failed to take every reasonable step with a view to minimising the potential loss to the company's creditors.
The current suspension applies retrospectively and may offer directors breathing space during a period when it is difficult to assess the financial position of the company due to the unprecedented trading conditions brought on by lockdown.
Some businesses are excluded from the above suspension. These include most notably insurance companies and banks. Directors should also keep in mind that they continue to owe a number of other duties to both the company and its creditors during the relevant period so they cannot simply close their minds to the risks to company's creditors.
Prohibition and restrictions
The Act places certain significant prohibitions and restrictions on creditors' abilities to issue winding up petitions against companies for debts.
It stipulates that no petition for the winding up of a company can be presented on or after 27 April 2020 on the ground that a company has failed to satisfy a statutory demand, if that demand was served between 1 March and 30 September 2020.
While the above appears to have the effect of a blanket restriction on the presentation of winding up petitions between 1 March and 30 September 2020 the Court may still make a winding-up order based on a petition presented after 1 March 2020, as long as the Court is satisfied that the creditor has reasonable grounds for believing that Coronavirus has not had a financial effect on the company or that its inability to pay its debts would have arisen in any event.
The Act itself provides very little guidance as to what exactly constitutes a "financial effect". In addition there is some uncertainty as to what constitutes reasonable grounds in these circumstances. In the recent case of Re A Company (Injunction to Restrain Presentation of Petition) [2020] EWHC 1551 (Ch) Judge Barber confirmed that the threshold is intended to be low and that the evidential burden of showing that coronavirus had a financial effect on the Company before the presentation of a petition is on the company, not the petitioner.
Permanent changes
The new moratorium regime
The Act introduces a new moratorium regime which can provide a company with an initial 20 business day breathing space from most legal processes. This regime is intended to be a standalone procedure independent of any other insolvency process, perhaps to be used to take stock of the position and to consider the company's longer term options.
In order to benefit from this new moratorium a company can follow an out-of-court route or make a Court application, in circumstances where the company is either subject to a winding up petition or is an overseas company. In circumstances where there is a winding up petition, the Court must be satisfied that the moratorium would achieve a better result for creditors as a whole than would be likely if the company was wound up.
This moratorium can be extended without creditor consent, for a further 20 business days and with creditor consent for up to a year (including the initial period).
While the moratorium is in force, only directors can present winding up petitions, landlords cannot forfeit by peaceable re-entry and most importantly no legal process can be instituted, carried out or continued without the court's permission, save for limited employment-related exceptions.
The new "super priority"
The Act inserts a new form of a "super priority" for unpaid moratorium debts and some pre-moratorium debts that now have a payment holiday.
If winding-up or administration commences within 12 weeks of the end of any moratorium, then there is a super priority (ahead of all other claims, save for fixed charges, trust claims and financial collateral arrangements) for:
- moratorium debts; and
- priority pre-moratorium debts
The new restructuring process
The Act makes a new form of restructuring process available in circumstances where a company has encountered, or is likely to encounter, financial difficulties that may affect its ability to carry on business as a going concern and there is a compromise or arrangement which is aimed at eliminating, reducing, preventing or mitigating the effects of said financial difficulties
This new process has similarities to a scheme of arrangement. However, one significant difference between the two is that the new restructuring process can be used to cram down a dissenting class of creditors. Even if a class of creditors or members vote against the process it can be sanctioned by the Court provided that none of the members of the dissenting class would be worse off under a relevant alternative and at least 75% by value of a class of creditors or members, which would receive a payment or have a genuine economic interest if the relevant alternative was pursued, voted in favour.
Disapplication of contractual provisions for insolvent companies
The Act limits the scope for suppliers to terminate contracts and cease supplying goods or services to a company because it has entered into an insolvency process (including the new moratorium process detailed above). In addition, suppliers are also restricted from amending terms of supply on the grounds that the receiving company has become subject to an insolvency procedure.
Debts due to the supplier pre-insolvency will no longer be grounds for terminating a supply contract once the customer has entered an insolvency process. However, if the supplier's right to terminate arises after the insolvency procedure commences (as a result of non-payment for goods or services supplied during insolvency, for example) then that right can still be exercised.
There are limited exceptions based on consent or the permission of the Court, where it can be satisfied that the continuation of the contract would cause the supplier hardship. There is also a temporary exclusion in place for small suppliers until 30 September 2020.
Summary
It is clear that the impact of Covid-19 will be far-reaching and will continue to affect a wide variety of businesses for a long time. The permanent and temporary provisions introduced by the Act will not only provide companies with much needed respite while they tackle the numerous issues which business face at this time, but also offer more flexible alternatives to traditional insolvency processes moving forward.