Looking to the future with a new UK insolvency regime
The Corporate Insolvency and Governance Act 2020 (the Act) promises to bring into effect a mixture of temporary measures to alleviate the problems created by the Covid-19 pandemic and some permanent reforms to the UK restructuring and insolvency regime.
Temporary Covid-19 measures
The Act introduces temporary changes to two important aspects of the insolvency regime; wrongful trading and statutory demands.
Wrongful trading
In the UK a director can be held financially liable for wrongful trading if he knew, or ought reasonably to have known, that there was no reasonable prospect of the company avoiding insolvency and did not take every step to minimise the potential losses to the company's creditors.
Although it was announced by the Government that the wrongful trading provisions would be temporarily suspended, in fact the Act instead removes liability from the directors for any worsening of the financial position of the company or its creditors that occurs between 1 March and 30 September 2020. Thus a court can still find that wrongful trading has occurred but will not ask the directors to contribute to the company's assets as a consequence. This temporary change means that although directors should still take every step to minimise losses to creditors, they are unlikely to be found personally liable if they are subsequently found to have wrongfully traded.
As explained above, these provisions do not really amount to a full suspension of the wrongful trading regime but instead effect an adaptation, making liability very unlikely during the relaxation period. Notwithstanding this temporary suspension, directors need to be aware that they remain subject to fiduciary duties under the Companies Act 2006 and may still incur other forms of statutory liability such as liability for fraudulent trading. In addition, directors can still be found liable under the compensation order regime whereby the Insolvency Service can apply to court for a compensation order where a director has been disqualified and their behaviour has caused a quantifiable loss to creditors of an insolvent company. Compensation orders may become more prevalent to prevent (or punish) behavior that abuses the relaxation of wrongful trading.
Statutory demands and winding up petitions
The Bill places temporary restrictions on the circumstances in which a creditor can bring a petition to wind up a company. Creditors are not able to bring winding up petitions based on statutory demands served between 1 March and 30 June 2020. This should give companies temporary respite from aggressive debt collection methods where the company's difficulties are short-term and caused by the Covid-19 pandemic.
Permanent reforms to UK insolvency law
The package of permanent reforms include a standalone moratorium, a new restructuring plan with provision for cross-class cram down and the prohibition of contractual rights to terminate on the grounds of insolvency.
Moratorium
The new moratorium will be a standalone procedure designed to give struggling businesses breathing space to come up with a rescue plan. While the moratorium is in force, the company is protected from creditor enforcement action and is provided with a payment holiday in respect of certain liabilities that were incurred before the moratorium came into existence.
Directors of insolvent companies, or companies that are likely to become insolvent, can obtain a 20 business day moratorium which will allow viable businesses time to restructure or seek new investment, free from creditor action. The moratorium, which can be extended in certain circumstances, will be overseen by an insolvency practitioner acting as a 'monitor' although the directors will remain in charge of running the business on a day-to-day basis subject to certain constraints. The intention is to provide a streamlined procedure that keeps administrative burdens to a minimum, makes the process as quick as possible and does not add disproportionate costs on to struggling businesses.
During the moratorium the company must continue to pay on-going costs of running the business in addition to certain pre-moratorium debts which do not benefit from a payment holiday during the moratorium including, notably, financial creditors such as banks and other lenders. Although there is no payment holiday in respect of liabilities owed to these financial creditors, the enforcement of security in their favour is not permitted. Whilst liabilities to financial creditors can be accelerated, the complicated rules relating to debt priorities mean that accelerated debt will not enjoy "super-priority" alongside other specified moratorium debts in any subsequent insolvency. Therefore, funders in particular, need to understand the implications of the new moratorium and how they may influence it, as the Government intends it to become a popular alternative to those restructuring tools already in use.
Restructuring plan
The new restructuring plan procedure is based on the existing scheme of arrangement with important distinctions. Unlike a scheme of arrangement, there is no requirement for a simple majority in number of creditors to approve the arrangement, votes on the restructuring plan will be calculated solely by the relevant debt or shares so 75% in value of the creditors or members of a class have to vote in favour for the restructuring plan to be implemented. The restructuring plan will, if approved by the court, enable companies to bind all creditors (including potentially both secured and other dissenting creditors) by "cramming down" their debts.
It is hoped that the restructuring plan will provide a flexible means of implementing a balance sheet restructuring whilst still needing court sanction to become effective. The "cross-class cram down", which is a new concept compared to schemes of arrangement, allows a degree of greater flexibility whilst the restructuring plan may also give more manoeuvrability to a creditor of a class who can pass the "75% value" test, without needing to also pass the "majority in number" test of a scheme of arrangement.
Contractual termination provisions
It is standard practice in the UK to include provisions in supply contracts whereby one party can terminate the contract if the other goes into some form of insolvency procedure. These clauses will now cease to have effect (except for a narrow set of exceptions).
Distressed situations – we have a team of experts on hand to help
Our distressed situation advisors consist of top-tier lawyers from our restructuring, financing and corporate teams. The team is complemented as needed by lawyers from our employment and real estate teams, allowing us to advise on all aspects of the restructuring process.
With this integrated team, we regularly handle distressed situations including emergency refinancings, administrations and CVAs, as well as internal restructurings and distressed acquisitions and sales. Our team has an enviable track record advising on a whole range of insolvency proceedings and distressed M&A.
The financing teams are also involved in the Covid-19 emergency funding measures set up by the UK government, including the Coronavirus Large Business Interruption Loan Scheme, the Covid Corporate Finance Facility and the Future Fund.
Originally published July 1, 2020.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.
