ThinkHouse Unlocked: Changes to insolvency law

Jasvir Jootla: Hello my name is Jasvir and I am a partner in the Gowling WLG Restructuring and Insolvency Team in the UK. It is good to be able to talk to you today about a significant piece of new legislation in the world of restructuring.

My talk has been prepared specially for general counsel team members, in-house lawyers, and provides an overview generally on the terms that you need to know under this new Act. It is not prepared for restructuring insolvency industry clients for which I would need to prepare a much more detailed session.

So with the onset of COVID-19 a number of initiatives were brought into effect to suspend creditor actions, suspend wrongful trading claims, suspend hearing winding-up petitions and there were commercial rent holiday provisions brought into play, all for a period of time.

In amongst all of this and not necessarily because of COVID or related to COVID, new laws were also brought into effect and were introduced providing for a new restructuring moratorium, court led reconstruction and wider prohibitions on terminating supply contracts.

So all of these new measures, these permanent introductions into statute, were brought about by the Corporate Insolvency and Governance Act 2020 (CIGA). The Act came into force on 25 June 2020.

I want to talk specifically about the new restructuring moratorium introduced under the new Act and say a little more about the prohibitions on terminating supply contract.

So the Act as I said came into force in June 2020, but there was talk long before that in the restructuring community about the fact that the UK needed and was missing a process by which the directors of a company in distress could have the room to assess the company's viability without the need for that company having to go into an insolvency process straight away, like a company voluntary arrangement or administration.

This new Act was brought into force for the first time in the UK, a freestanding stand-alone moratorium, as a way of offering protection to businesses that face difficulty trading due to cash flow insolvency.

The aim of the moratorium is to allow a company in financial distress that breathing space to explore rescue and restructuring options without the directors and the management team feeling the pressure of creditor actions.

So in summary format over the next 20 minutes or so I am going to try to bring out some of the key changes brought about by this new moratorium procedure and which may directly affect the assessment of your customers, the counterparties to which your organisations have commercial contracts with and just may start you thinking about what type of risk exposures and what type of checks and balances you ought to have in place, given that there is now the ability for company's counterparties to apply for this moratorium regime.

We will look at which companies are eligible to apply for the moratorium, how that is done, what it means if one of your contract parties has a moratorium in place, what can and cannot be done when a company is in a moratorium.

What is clear is the new process, the process for this new moratorium is meant to be a streamlined and quick process, and it is not necessary that the directors have at the outset the outcomes and the objectives that this moratorium is trying to achieve. The moratorium, this process, this procedure is designed to provide that breathing space, the freedom to allow the directors the time to consider what those outcomes and objectives could be for their company.

So we are looking at which companies are eligible to apply for the moratorium. As a general rule, a company will be eligible unless that company is specifically excluded from applying under the Act. The new Act lists a number of exclusions, a number of companies, a number of institutions which are specifically excluded from applying for the moratorium and these include institutions like banks, insurance companies, money institutions, companies which are party to market contracts and market contracts are also a defined category under the Act.

If you have any questions on exclusions, which companies are eligible, which are not, then please give your usual Gowling WLG contact a ring or give myself a call, I would be happy to go through those with you but I am not proposing to focus on those in this presentation.

So companies which are not excluded but which are already subject to some form of insolvency process or have been subject to an insolvency process in the 12 months before applying for a moratorium will also be ineligible. A full list of the ineligible companies is provided for under schedule ZA1 of the new Act.

So how is a moratorium obtained? The new Act requires the directors to file certain prescribed notices and statements with the Court. These statements include that the company is eligible for the moratorium, that the directors wish to obtain a moratorium, and in the director's opinion the company is or is likely to become unable to pay its debts - so it is likely to become or is cash flow insolvent.

Also required to be filed with the application is confirmation that a monitor is assisting the directors with the moratorium and this concept of a monitor is new. It's essential a monitor is someone who is a qualified insolvency practitioner and who agrees and consents to act in relation to the moratorium.

The monitor also has to file a statement that in his or her opinion the moratorium will result in the rescue of the company as a going concern.

So just to bring out a couple of key points there, the monitor has an overseeing role, the monitor is not in control of the company. The directors remain in day-to-day control of the company and they make the decisions in relation to the company, and the moratorium envisages that the company is able or will continue to trade during the period of the moratorium.

Also to note, is that a Court hearing is not needed to put the company into a moratorium unless there is a winding-up petition that has been issues. So once the notices and the statements have been filed, the company is in a moratorium. The monitor has to notify the Registrar of Companies and/or creditors that the moratorium is in place. It is more than likely that this will be the first time that you or your organisations will hear that one of your customers or suppliers counterparties is in a moratorium.

The notice has to state the date that the moratorium started and when the moratorium will end. The moratorium will last for 20 business days starting the day after it came into force, unless it is terminated early or extended. The company, the directors and the monitor can extend the moratorium for a period in addition to 20 days with or without creditor approval, but also the moratorium can be terminated before the end of the 20 business days if the directors decide it is better to go into an insolvency process. So if you remember the moratorium is designed to give the directors that breathing space, that freedom to make the decisions that they need to make without creditor pressure and it may well be that they decide that having had that time, that they think that actually the company cannot avoid an insolvency and therefore needs to go into an insolvency process.

If that is what the directors decide the moratorium ends and an insolvency process follows.

The monitor, so the insolvency practitioner, he or she can also end the moratorium if the monitor thinks that it will no longer result in the rescue of the company as a going concern or if that rescue has been achieved within the 20 business days, and the monitor can also terminate the moratorium if he or she thinks that they cannot carry out their functions because the directors are not cooperating or the company is not cooperating with the monitor.

Also importantly, the monitor will terminate the moratorium if the moratorium debts and the pre-moratorium debts for which there is no payment holiday are not being paid by the company during the moratorium.

So there are a couple of key phrases in there that have been introduced by the new Act. What are moratorium debts, what are pre-moratorium debts and what is a payment holiday?

Now I will come on to explain what these categorisation of debts are, it is a key aspect of the new Act and we will come on to that a little bit later in the presentation.

So what does being in a moratorium mean for one of your customers, one of your suppliers, your counterparties, where you may be owed money by that company?

First of all, whilst there is a moratorium ongoing there are a number of restricted actions, so the Act imposes restrictions on what creditors can and cannot do against a company in a moratorium. There are also restrictions imposed on the company and the directors as to what transactions and disposals, sales of assets, that the company can undertake whilst it is in a moratorium, and there are also restrictions on payment to creditors who are owed money before the moratorium takes effect.

So, there are restrictions imposed in what payments the company in the moratorium can and cannot make. So the restrictions on the payments that the company can and cannot make create a waterfall of payments to creditors that is again one of the key aspects of the new Act.

So in terms of creditor actions and what are the restricted creditor actions, what this means is that if your organisation is owed money by that company that is in the moratorium, insolvency proceedings cannot be commenced against the company during the moratorium, except in very limited circumstances, for instance if the directors themselves want to put the company into an insolvency process.

Also, no steps can be taken without the Court's permission to enforce security over the company's property. So your organisation may have some type of security interest, you would not be able to enforce that security interest against a company that was in a moratorium.

There are also restrictions on an enforcement of legal proceedings including proceedings brought for rent that remains unpaid, so landlords cannot exercise forfeiture rights by peaceful re-entry. No other proceedings or legal process can be commenced during the moratorium accept in very defined categories, for instance if there is already an employment tribunal claim that is ongoing, or there are claims between an employer and worker that are ongoing. Or those claims that you have Court permission to continue with.

An interesting aspect of this is where do you stand if you have a valid ROT claim, when you want to get your goods back from a company that is in the moratorium and there is a question mark there, because of course the whole purpose of the moratorium is that the company is not constrained by creditor actions to ultimately decide what it wishes to do, it is to give the company that breathing space to understand whether it can survive and continue to trade as a going concern. So that will be an interesting development to understand what Court makes of ownership rights that you want to assert against a company in a moratorium.

There may be, if you have a floating charge over a company that is in a moratorium, you cannot take any steps to crystallise that floating charge or impose a restriction on the disposal of the company's property that is subject to that floating charge, but of course the company has to respect the charge holder, so the fact that there is security over that asset that it wishes to dispose, the Courts will say that the proceeds of that asset need to be paid to the charge holder.

There are also restrictions on the types of transactions that a company can enter into whilst it is in a moratorium. A company cannot obtain credit of £500 or more, unless the credit provider has been informed that the company is in a moratorium and the moratorium remains in force, this includes in relation to conditional sale agreements, hire-purchase agreements and advance payments of goods and services made in money or otherwise.

There are also restrictions on the granting of security during the moratorium. A company can only grant security during the moratorium to a creditor if the monitor consents, and again the monitor can only give his or her consent if he or she thinks that the security will support the rescue of the company as a going concern.

There are also certain prohibitions and offences under the Act that make it illegal for the directors to authorise the company to enter into a market contract or financial collateral arrangement, the granting of a market charge or system charge. A very narrow definition of market type contracts, again which are provided for under the Act. If you have any questions in relation to that do please get in touch with us, we would be happy to talk through those excluded type contracts.

There are also restrictions on the sale of the property, so which property the directors can sell, which property the directors are prevented from selling unless they conform to certain requirements. So if the directors of the company in the moratorium wish to sell assets, free assets - assets that are not subject to charge, then they can only do that if the sale is the ordinary course of the company's business, and the monitor consents to the sale, it will support the rescue of the company as a going concern or with the Court's permission.

If the property is subject to a charge, a floating charge or other charge, again the directors can only sell that asset if it is in accordance with the terms of the security or whether they have the Court's permission, and the Court's permission will only be given provided that the proceeds of the asset is distributed to the secured creditor where the creditor has valid security over that asset.

In relation to hire-purchase properties, properties in the company's possession under hire-purchase can only be sold if it is, again, in accordance with the terms of the hire-purchase agreement or it is sold with the Court's permission, and the Court will give permission if the net disposal proceeds are applied in discharging the sum owed under the hire-purchase agreement.

There are also restrictions on the payment of some pre-moratorium debt. These are debts that the company has accumulated before it has gone into a moratorium. Now there is a cap on the total amount of payments in respect of pre-moratorium debts, which there is a payment holiday that a company can make during a moratorium and the cap is £5,000 or one percent of the value of the debts and other liabilities owed by the company to its unsecured creditor, whichever is the greater.

So not a huge sum. Any payment over that amount will require the consent of the monitor and the monitor will only give his or her consent if it supports the rescue of the company as a going concern.

So you will see those three categories of restrictions I have talked about, but you might be wondering well what type of pressure, if any, can you exert for your debt where you want to collect that debt from a company that has gone into a moratorium? At the moment, given the various measures under the Act and also other measures in other pieces of legislation, for instance the Insolvency Act, it is very unlikely that there is much pressure, if at all, that you can exert for what are termed pre-moratorium debts for which the company has a payment holiday.

The reason I say that is because there are also prohibitions or additional restrictions as far as creditor and counterparties to contracts with a company in a moratorium is concerned and these additional restrictions relate to prohibitions on termination of supply contracts. So you might remember under the Insolvency Act already, there exists a prohibition against terminating an essential supply contract and those measures were introduced to prevent the suppliers of essential supplies terminating that supply contract just because a company went into administration or liquidation or a CVA.

What the new Act does is extend that prohibition to general supply contract. Not just essential supply contract, it is any type of supply contract where the supply of goods and services is involved.

Now the new Act does not define what a supply of goods and services contract is, but in the Act there is a position reserved for government to define what it might be in the future. So at the moment all we can assume is that ordinary contracts for the supply of goods and services are the subject of this Act and you could not terminate a general contract for the supply of goods and services if the party you are supplying to is in a moratorium.

So these prohibitions on the termination of supply contracts apply to supply contracts irrespective of their date, so even if they were in force or signed up to before 25 June 2020. Very limited contracts are excluded from this prohibition and again there are very narrow category, defined category of financial type contracts, insurance type contracts, bank type contracts where the company or the supplier is a deposit bank, an investment firm, authorised payment institution and investment exchange for instance.

The prohibition also does not apply to contracts between an insolvent supplier and a solvent customer. So if you are relying on, for instance, supply and you are the customer of that supply but your supplier has gone into a moratorium, for instance, you could not ask that supplier to continue to supply to you.

So it does not apply to contracts between an insolvent supplier and a solvent customer. A customer is entitled, assuming your contract provides for this, to terminate if the supplier is insolvent.

The Act also prohibits making supply conditional on certain actions, such as payment of arrears or change of supply terms. So you may be supplying goods and services to one of your customers and your customer tells you that they are in a restructuring moratorium, and they are saying that the Act prohibits you from terminating your supply contract, and you turn around and you say, okay well we want to make the supply conditional upon you clearing down your arrears, making future payments on delivery or giving us up-front payment for supply, those kind of conditions again are prohibited by this Act.

So I said I would return to the topic of what debt can and cannot be paid if the company is in a moratorium. Now this is quite a key development because what it does is categorise the debts that the company that in a moratorium is subject to.

So you might learn that one of your counterparties, one of your customers, has gone into a moratorium but you are owed money by that company in the lead up to the moratorium and you are being asked to supply that company during the moratorium. So you have a number of categories of debt that you need to understand; which can be paid, which will not be paid and when can those be paid. This is all provided for in the Act, it categorises the debts that a company in the moratorium is subject to and it introduces terms such as super priority debts and the creation of payment holidays for the company that is in the moratorium and does not need to pay a certain category of debts whilst it is in the moratorium.

The categories of debt created in connection with the moratorium are as listed. So you have pre-moratorium debts, these are debts which a creditor is owed from a company that has gone into a moratorium process, before the moratorium has commenced.

Then there are pre-moratorium debts for which a company has a payment holiday. The Act goes on to say that where you are owed money from a company that is in a moratorium and that debt has been incurred before the moratorium has come into force, those debts have a payment holiday so those debt do not need to be paid by the company in a moratorium.

Then there is a category of pre-moratorium debts for which the company does not have a payment holiday. So there is a category of debts what are owing before the moratorium has come into force but which the company has to pay and it is a very narrow category, I will come on to explain.

Then there are moratorium debts. So these are debts that are incurred during the period that the company is in the moratorium, so that initial 20 business day period that the company is in the moratorium.

Then there is a priority pre-moratorium debts. The latter two categories have been categorised as super-priority debt in any subsequent insolvency. So that means if the company after having been in a moratorium, then goes into a formal insolvency process within 12 weeks of the moratorium having ended, moratorium debts and priority pre-moratorium debts will be paid first out of that insolvency, they are super-priority debt.

So the Act provides these distinctions in order to establish which debts can be paid during the moratorium and in the case of moratorium debts and priority pre-moratorium debts creates this new category of super-priority debt relevant in a subsequent administration, CVA or liquidation.

So just to say a little more about the categories of debt. Pre-moratorium debt, this is any debt or liability to which a company becomes subject before the moratorium came into force, so this will be your running up a credit balance with your customer and there is a line drawn once that customer goes into a moratorium and whatever that amount is, up to the date of the moratorium, will be a pre-moratorium debt.

Also included within pre-moratorium debt is any debt or liability to which the company has become or may become subject during the moratorium by reason of an obligation incurred before the moratorium. So this is if you have entered into a contract well before the company went into a moratorium and maybe your supplier, maybe your goods and services are payable in instalments and one of the instalments is due after the moratorium has come into effect.

So that will mean because you have entered into a contract pre the moratorium which provides for a liability that the company in the moratorium becomes subject to join the moratorium that is still a pre-moratorium debt.

Then there is a category of pre-moratorium debt for which the company has a payment holiday, so this is again a pre-moratorium debt that fallen due before the moratorium or a pre-moratorium debt that falls due during the moratorium.

So that category if your debt falls into those categories then that category of debt is subject to a payment holiday, that means that the company in the moratorium, that owes you that pre-moratorium debt does not need to pay that debt whilst it is in the moratorium.

Then we will look at pre-moratorium debts that are not subject to a payment holiday, so these are debts in the lead up to the moratorium which the company has to pay during the moratorium and of course category of these payments that the company has to pay during the moratorium, these categories of debt are very narrow and very defined and they include the monitor's remuneration and expenses, goods and services supplied during the moratorium, rent for the period during the moratorium, wages and salaries under an employment contract for the period of the moratorium and redundancy payments.

So if you are supplying goods and services during the moratorium and the liability to pay for those goods and services is incurred during the moratorium, then the company in the moratorium would have to pay those debts.

So we will look at the moratorium debt. Now moratorium debt is defined as any debt or liability to which the company becomes subject during the moratorium, so this is how your goods and services are supplied during the moratorium and any debt or liability to which the company has become or may become subject after the end of the moratorium by reason of an obligation incurred during the moratorium. So that is if you have entered into a new contract or new terms with the company whilst it is in a moratorium, and it has not paid you during the moratorium or the liability to pay you is post the moratorium.

The last category of debt is called priority pre-moratorium debt. So what is a priority pre-moratorium debt? This is any pre-moratorium debt which is payable in respect of the monitor's remuneration or expenses, goods and services supplied during the moratorium in respect of the period during the moratorium, wages or salaries arising under a contract of employment during the moratorium, and these, so the moratorium debts and the priority pre-moratorium debts are categories of debt that are protected in the event that after the moratorium the company goes into insolvency.

So all moratorium debts and pre-moratorium debts for which the company does not have a payment holiday continue to be payable during the moratorium.

So I know, even for me, to get your head around all of this is complicated. What I am trying to bring out in this presentation and I think what you need to take away is that a red flag should come up as soon as you hear that one of your counterparties is in a moratorium.

Not in administration, not in a CVA, not in liquidation but in a moratorium, and then I think you have to sit down and discuss, give us, give your usual Gowling WLG contact a ring, to really understand where your debt falls, what is your debt, is there debt in the run up to the moratorium, how has that debt been incurred, is the company that is subject to the moratorium asking you to continue to provide goods and services during the moratorium, do you have a choice in that matter and if you do not have a choice in the matter, which may well be the case, how do you protect yourself in terms of ensuring that your continued supply of goods and services is being paid for during the moratorium.

So I'm not expecting everyone to understand this immediately, but it is just to flag that there are areas where I would expect that you would need to pick up the phone to us and just, even to chat through, as to where you stand with continued supply and where your categories fall in the moratorium.

In general terms, I would expect that the supply for any goods and services that you've supplied, up to the period of the moratorium, that will probably be a pre-moratorium debt, is subject to a payment holiday. Goods and services supplied during the moratorium are probably payable during the moratorium period and then, you want to make sure that you keep a track of what happens after the moratorium has ended. Has the moratorium been extended? Has the moratorium been terminated early? Because if it is, and the company then goes into an insolvency process shortly afterwards, then any money that you are owed during the moratorium, you have protections for that money. It has a priority status in any subsequent insolvency. So these are the intricacies that you would need to unravel and try to establish where you are and where you stand in relation to that debt.

You might think a lot of rights and a lot of leverage, a lot of pressure, commercial pressure has been taken away by this Act, and that is to some degree true. The measures that are being introduced by this Act, especially in relation to a restructuring in relation to a moratorium, are meant to provide directors and the management team and the business that freedom to decide what it is that they want to do in relation to the company without creditors banging on the door, without creditors taking action, so it is meant to take those leverages, those commercial pressures away from creditors for a period of time.

Just to look very briefly at what you might be able to do if one of your counterparties, one of your contract parties in a moratorium, is there anything else that you can do, that you can consider? I have just highlighted a couple of potential actions, potential challenges. So, a creditor can apply to the Court during or after the moratorium on the grounds that its interest had been harmed by something done or not done by the monitor during the moratorium. This could mean for example that you challenge the monitor, because the monitor has not terminated the moratorium as quickly as they should have done, on the grounds that he or she ought to have known as a qualified insolvency practitioner, that the company was no longer rescuable, so the Act does provide for you to be able to challenge the monitor's action during the moratorium.

A creditor can also challenge the monitor's remuneration. There are, if the company falls into a subsequent insolvency, a subsequent administrator or liquidator of the company can also challenge the monitor's remuneration on the basis that it was excessive.

It's also possible for creditors to apply to the Court during or after the moratorium to challenge the actions of the directors on the grounds that the company's affairs, its business and property have been managed during the moratorium in a way that's unfairly harmed the interests of creditors, or the directors did something or haven't done something during the moratorium that has caused harm to the creditor, so it is important that you monitor what is going on in relation to the moratorium.

There is nothing in the Act that prevents you from picking up the phone to the directors, asking them what the objective of the moratorium is, whether or not it's going to be extended, how long is the moratorium going to go on for? What is it that they are trying to achieve? Are they going to go into an insolvency process? There is nothing to prevent that type of questioning, that type of probing, to really understand what direction the company is going in, and it will be important if it's a strategic relationship of yours, you would hope that the company would talk to you before that, but there is nothing laid out in this Act that says creditors have to be consulted or the monitor has to consult key creditors, but if you find yourself in this situation, there's nothing to prevent you from trying to get information and sort of applying just normal pressure to understand that the purpose of the moratorium is.

The other areas where you could also take proactive steps before, perhaps, the moratorium takes effect is be aware of profile, payment history of your customers, keep on top of their payment profiles. Listen to market intelligence, as well - I mean, you might hear of other customers who have heard, other creditors who have heard about the customer perhaps having difficulties or considering applying for a restructuring moratorium - just be aware of that, and again, there's nothing to stop you from picking up the phone to the company and asking about what you've heard.

As I said, monitor the developments in the moratorium, hassle for information, and then look to see whether or not this is going to have an impact on your cash flows, your ability to meet continued supply or having to wait for your debt to be paid off, the 20 business days for instance, or if the moratorium is extended for a period afterwards because your debt is subject to a payment holiday. If you can understand these matters as early on, then you might be able to manage any potential risk that seeps into your business.

This Act is new. There's only been one restructuring moratorium since the Act has come into force and there are a lot of developments still to take effect as this process is used more and more over coming months. We're very happy to talk to you about any aspect of the new Act, any area that you want to prepare for, if you want some training to your teams, very happy to come and speak to you about that. Do talk to us. Do find out more. Speak to your usual Gowling WLG contact. Your usual contact will know the members of the restructuring team, and can put you in touch with us and we work as one team, so we're very happy to help you if needed.

Thank you very much for listening. Many thanks.