Theresa Grech Partner, Head of Corporate
Protecting businesses will give the economy the greatest chance of recovery
The Covid-19 pandemic has presented governments, financial markets and economies across the globe with challenges never faced before. Whilst Covid-19 is primarily and most terribly a public health crisis, its far-reaching consequences are devastating the global economy.
UK GDP is forecast to contract by as much as 12% in 2020 and a report from TheCityUK industry body estimates that by the end of March 2021 there could be c.£100bn of unsustainable debt held by UK businesses.
The UK Government has reacted quickly and dramatically to the economic challenge posed by the pandemic, implementing measures that include tax deferrals, the furlough scheme and government backed loan support schemes. Financial Regulators have followed suit urging lenders to carefully consider their responses to potential breaches of lending covenants arising from the Covid-19 pandemic
The Corporate Insolvency and Governance Act 2020 (“CIGA”), which received royal assent on 25 June 2020 has ushered in the most significant changes to the restructuring and insolvency regime since the Insolvency Act 1986. The overarching aim of CIGA is to provide businesses with ‘the flexibility and breathing space they need to continue trading’ and to help them avoid insolvency during this chllenging period. It introduces three permanent insolvency measures, two temporary insolvency measures and two temporary corporate governance measures. CIGA provides a framework for more collaborative working between businesses and their stakeholders and encourages more cooperative working between interested parties. Such collaboration is crucial if businesses are to survive the current crisis.
The free-standing moratorium period is available to certain eligible companies. The moratorium provides debtors with protection from creditor action and a payment holiday for certain debts falling due before and during the moratorium in order to allow the debtor the necessary breathing space to consider its options and restructure. The initial term of the moratorium is 20 business days, although it is possible to extend the period. Broadly, the moratorium is available in circumstances where both the directors of a company and an independent monitor are willing to certify a company’s impending insolvency and consider that the moratorium would result in the rescue of the company as a going concern. The monitor will then oversee the moratorium period and advise directors as to appropriate exit strategies. Should a monitor conclude the rescue of the company is no longer likely, the period must be brought to an end. By taking advantage of this moratorium companies will have much needed breathing space to explore restructuring options which could enable their survival.
Prohibition on Ipso Facto clauses
When a company enters an insolvency, rescue or restructuring procedure, suppliers often stop supplying the company, relying on so-called ‘Ipso Facto’ provisions. These contractual provisions allow for termination of contracts on the occurrence of an insolvency-related event. CIGA modifies the existing regime, prohibiting the termination of contracts to supply goods and services to a company or ‘doing any other thing’ as a result of the company entering an ‘insolvency procedure’. ‘Any other thing’ is broadly construed and likely refers to exercising existing contractual rights triggered by insolvency events. This significant change allows companies to retain key contracts, preserve value and remain operational during insolvency procedures, through ensuring the continuity of supply. The provision has exceptions, however. Suppliers can appeal to the court where inability to rely on an Ipso Facto clause would cause them hardship, the prohibition only applies to contracts for goods and services, and small suppliers are temporarily exempt during the Covid-19 pandemic. Whilst this measure will not receive universal acclaim from all suppliers, the exercise of Ipso Facto clauses restricts companies’ abilities to use restructuring procedures in order to save their businesses. A suspension on their use should make restructuring procedures a more attractive and more effective option for companies considering how best to rescue their business.
Statutory restructuring tool
The new statutory restructuring tool will make it easier, quicker and cheaper for a wider range of companies to implement myriad restructuring objectives including haircuts, extension of debt maturities, debt equity swaps and mergers. The key reason for that is that the tool provides for a mechanism to impose a restructuring plan on dissenting stakeholder classes, whether that be secured or unsecured creditors or shareholders. This reduces the scope for different stakeholder groups to hold up a restructuring. The new plan provides that, as long as 75% by value of any class of stakeholder with an economic interest in the restructuring approves a restructuring proposal, the court can impose the restructuring plan on all stakeholders. The protection for dissenting stakeholder classes, is that they cannot be left any worse off than they would be in the most likely alternative scenario if the restructuring were not to be implemented. In many cases, this alternative scenario will likely be an insolvent liquidation. This new restructuring tool is expected to be a game changer – it will be available to restructure companies which have encountered, or are likely to encounter financial difficulties that may impact their ability to carry on business as a going concern.
Temporary suspension of wrongful trading liability and use of winding up petitions
In addition to the permanent measures detailed above, CIGA has introduced the temporary suspension of wrongful trading liability and a restriction on the use of winding-up petitions and statutory demands. CIGA removes the threat of personal liability for wrongful trading for directors trying to keep their company afloat during the pandemic. Under the temporary measures, the court is directed to assume that directors are not responsible for any worsening of the financial position of the company or its creditors between 1 March 2020 and 30 September 2020 (the “Relevant Period”). This does not alter any of the other statutory or common-law duties of directors, and all other checks and balances on directors remain in place. This measure will provide some much needed reassurance to directors struggling with the difficult decision to keep trading during this unprecedented crisis. Directors are being forced to make very difficult decisions in a period of monumental uncertainty and this measure epitomises the ‘breathing space’ which Parliament wishes to provide to businesses through CIGA.
The temporary suspension on the use of winding-up petitions and statutory demands applies where debts are unpaid as a result of Covid-19. Winding up petitions that are presented during the Relevant Period will be assessed by the court in order to determine the reason for non-payment. Creditors may only present winding-up petitions where they have reasonable grounds for believing that Covid-19 has not had ‘financial effect’ on the company or, where the relevant insolvency condition would have arisen regardless of the pandemic. ‘Financial effect’ is to be interpreted widely; Covid-19 will be considered to have had ‘financial effect’ on a debtor if their financial position has worsened as result of it. Statutory demands will be void if served on a company during the Relevant Period. This measure should encourage collaborative discussions between businesses and their stakeholders and is designed to prevent aggressive creditor action, which often benefits no-one where stakeholder value is destroyed through insolvency proceedings.
Temporary governance measures
CIGA introduces two temporary governance measures, intended to reduce the governance burden on businesses and allow them to focus their attention on trading during the Covid-19 pandemic. Companies can hold AGMs by means not provided for in their constitution, as well as postpone them. Certain filing deadlines at Companies House have also been extended.
The far-reaching measures CIGA implements provide an essential lifeline for businesses struggling through the current coronavirus crisis and such decisive action is necessary if businesses are to weather the economic fallout from Covid-19. As can be seen through the measures detailed above, CIGA is designed to prevent creditors from acting solely in their own interests and pursuing a hard line against struggling businesses. It is clear that in the current economic climate, stakeholders need to work together to protect businesses from failing and give the economy the greatest chance of recovery. No one benefits if British businesses, unable to meet creditor demands, are forced to wind up, least of all those creditors who cannot recover the full value of their investments. The move towards a more collaborative restructuring environment is essential if we are to avoid the extreme economic fall-out that some commentators are predicting.
This article was also published on the Business News Wales website.