After a long period of gestation, the principal provisions of the Insolvency Act 2000 came into force on 1st January 2003. It introduces the first protected ‘debtor in possession’ insolvency regime in the UK.

The key points of the legislation are:

  • Companies which are able to satisfy two out of the following three criteria:

- Turnover of less than £2.8 million;

- Net balance sheet of less than £1.4 million; or

- Fewer than 50 employees

may apply for an automatic moratorium for 28 days to prevent creditors taking steps against them pending consideration of their proposals.

  • As a result of the moratorium, no legal or other proceedings may be commenced, no forfeiture of leases by way of peaceable reentry may be effected and no steps can be taken to enforce security (including the appointment of LPA Receiver, administrative receiver or administrator) without leave of the Court.
  • A nominee (selected by the company’s directors) will monitor the company’s affairs during the moratorium to ensure that the company is likely to have sufficient cash during the moratorium to run its business and that the proposals have a reasonable prospect of being approved by creditors.
  • No notice of the company’s intention to apply for a moratorium need be given to its suppliers, bankers or customers. The first that a creditor will know of the moratorium is when it receives correspondence from the company indicating that it is in a moratorium and that a meeting of creditors is proposed.
  • At the creditors’ meeting, the moratorium can be extended for a further two months if in excess of 75% by value of the creditors present agree to do so.
  • subject to a limited right of challenge, all creditors will be bound by a voluntary arrangement even if the creditor had no notice that a voluntary arrangement was being proposed by the debtor company.

The introduction of a mechanism enabling companies to obtain an automatic moratorium without the need for a court hearing will clearly save costs at a crucial time for the company. However, there is a very real danger that the moratorium period could be abused by management to prolong the death throes of the company (and their jobs) rather than to provide a breathing space while the company seeks a genuine compromise with its creditors.

The nominee is to monitor what the company is up to during the moratorium period. However, that is solely for the purpose of ensuring that the company has enough money to meet its debts which are incurred in the moratorium period and that the proposal has a reasonable chance of being approved by in excess of 75% in value of creditors attending the creditors’ meeting. The nominee is entitled to rely on information provided by the directors unless he has reason to believe it is inaccurate. With the best will in the world, if a company has had inadequate financial controls prior to the moratorium, why will the quality of information improve during the moratorium?

The nominee must also consent to the disposal of any assets of the company not in the ordinary course of the company’s business and to the payment of any pre moratorium creditors. However, failure to obtain the nominee’s consent will not render any such transactions invalid, rather the officers of the company may be found liable to a fine and/or imprisonment. The courts, however, are reluctant to imprison directors for what they perceive as civil wrongdoing.

The fact that creditors will be bound whether they have received notice or not is a radical departure from the previous legislation. This makes it rather easier for directors to ‘forget’ difficult creditors who might sway the vote against the proposals. Any redress may be limited particularly if the voluntary arrangement has come to an end prematurely.

While an automatic moratorium will clearly benefit the company pending the consideration of its proposals by creditors there is clearly a danger that it could be abused. The Insolvency Act 2000 cannot deal with the two most often quoted reasons for company failure: poor management and insufficient financial controls.

The content of this article does not constitute legal advice and should not be relied on in that way. Specific advice should be sought about your specific circumstances.