The Corporate Insolvency and Governance Act came into force on 26 June 2020 introducing a number of reforms aimed at providing protection to companies in financial distress, particularly as a result of the COVID-19 pandemic. Notwithstanding the fact that the reforms present a number of potential problems to suppliers, it should help to enhance rescue opportunities for financially distressed companies. Insolvency Practitioners and their clients will likely benefit from suppliers being unable to end supplying integral supplies.
Suppliers and Insolvency Practitioners should not delay in seeking legal advice in relation to existing supplier contracts, especially in light of the changes brought by Corporate Insolvency and Governance Act.
We are a specialist City of London law firm made up of Solicitors & Barristers and based in the Middle Temple Inn of Court adjacent to the Royal Courts of Justice. We are experts in dealing with matters surrounding insolvency in particular issues. Our team have unparalleled experience in dealing with supplier contracts and disputes, serving statutory demands, negotiating with debtors/creditors, setting aside statutory demands and both issuing and defending winding up petitions.
How does the Act impact supply contracts?
These measures have had a significant impact on the position of creditors and their existing rights to seek repayment of overdue indebtedness. The Corporate Insolvency and Governance Bill weakens and even removes two of the most effective options available to unpaid suppliers, i.e. threat of termination of the contractual agreement and commencement of insolvency proceedings (which is a relatively cost and time effective procedure if the debt is not disputed).
If a company enters a formal insolvency process, the new pre-insolvency moratorium procedure prohibits termination of contracts on the grounds of enforcement of termination clauses in contracts which trigger upon the financial condition or formal insolvency of a debtor company. The counterparts will, therefore, have to continue to fulfil their contractual obligations.
It should be noted that this prohibition will not prevent termination for reasons of non-payment or the exercise of any other right to terminate that might exist under the relevant contract. Perhaps inevitably, that balance is likely to favour debtor companies more than creditors and that is bound to be of concern to creditors whose businesses are in need of a cash injection.
In addition to this, if the customer enters into an insolvency procedure, it may be that the unpaid supplier is obliged to continue supplying the customer, without payment of prior invoices and on existing terms.
What is the 2018 Moratorium Proposal?
The UK government has announced that it will fast-track legislation to implement the insolvency reforms announced in August 2018. These proposals followed on from its 2016 and included:
- A new moratorium allowing solvent companies (that would otherwise risk becoming insolvent) a period of time in which creditors cannot are not able to take action against them. This will allow the companies time to commence restructuring or alternatively procure investment. The moratorium would be triggered by a court filing and have an initial 28-day life, capable of being extended by another 28 days (any extension beyond 56 days will require approval of majority of secured and unsecured creditors or the Court).
- A prohibition on suppliers exercising termination rights in contracts for the supply of goods and services on the grounds that a counterparty has entered a formal insolvency procedure, the new moratorium or a restructuring plan.
- A restructuring “plan” which will bind all dissenting classes of creditors.
What should suppliers do?
During these unprecedented times, suppliers may want to review their existing contractual arrangements with customers who are likely to become financially distressed. Supplies may utilise their termination rights to negotiate new beneficial terms, such as:
- seeking payments on account rather than payment upon receipt of the supplies;
- arranging short term contracts with fixed termination dates which will prevent suppliers from being locked in to supply for a considerable period;
- including an express right in the contract to withhold supply of goods and services in the event of any non-payment;
- considering the termination rights in their contract, to allow for earlier termination where possible (e.g. if the other party’s credit rating drops below an agreed threshold);
- seeking personal guarantees from the customer’s directors or persons in-charge;
- reducing payment periods to reduce financial exposure, particularly if the supply contract is short but high value
- using project bank accounts or escrow accounts, to protect the pot of money allocated to the supply contract;
- in the event of payment problems, reviewing the contract early so that any termination rights can be considered early and before the company enters into insolvency proceedings (at which point CIGA’s restrictions on termination will apply).
Contractors and suppliers need to keep an eye open for any warning signs around a company’s solvency and to seek advice quickly if they have any concerns.
What does it mean for Insolvency Practitioners?
The new measures introduced by the Corporate Insolvency and Governance Bill should assist financially distressed companies by enhancing rescue opportunities available to them. Insolvency Practitioners will likely benefit from suppliers being prevented leveraging their position in the insolvency process by refusing to supply or from ending integral supplies altogether. This will be particularly beneficial for administrators looking to continue trade companies.
Suppliers are able to seek consent from the Insolvency Practitioner to end their supply to the company; this provides Insolvency Practitioners with an opportunity to consider if the continuation of the supply is integral to the company and if so, they are able to refuse to such termination. Alternatively, Insolvency Practitioners are also able to provide such consent in order to end supplies which are no longer financially viable in the long-term or required for the purpose of a sale.
It is important for Insolvency Practitioners to carefully review the terms of the supply agreements in place to assess whether the new provisions apply. It is likely that suppliers may seek to re-negotiate the terms of their existing contracts in light of the new measures. Insolvency Practitioners should not delay in seeking legal advice in relation to existing supplier contracts, especially in light of the current changes.
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