UK insolvency landscape permanently changed by the Corporate Insolvency and Governance Act 2020 (“the 2020 Act”).
On 26 June 2020 the Corporate Insolvency and Governance Act 2020 (“the 2020 Act”) finally entered into force. Now it is in its final form, Simon Newman and Christopher Pask of 1 Chancery Lane’s Commercial, Chancery and Property team will be providing their views on its provisions and their impact over a series of updates.
In this update, Christopher Pask addresses the permanent changes to the insolvency landscape introduced by the 2020 Act which aim to provide rescue mechanisms for companies facing insolvency. The previous update looks at the changes to statutory demands and winding up petitions. The next update will look at the disapplication of termination clauses in supply contracts in cases of insolvency.
The 2020 Act introduces two permanent changes which are aimed at rescuing companies:
- A moratorium on legal action which gives companies protection from creditors and ‘breathing room’ outside of administration procedures.
- The introduction of a restructuring process which will allow a cross-class cram down of creditors for the first time in the UK (similar to Chapter 11 in the US).
The 2020 Act establishes a moratorium process independent of other established insolvency processes. The moratorium, if implemented, will protect the company from legal action for an initial period of 20 days, which can subsequently be extended (for up to 12 months). The process is designed to allow companies which have been left unable to pay debts, but which are otherwise sound and not beyond rescue some breathing room to ride out their immediate problems and may be a well suited mechanism for companies which were profitable pre-pandemic.
The eligibility of companies for a moratorium is dealt with by the insertion of Schedule ZA1 into the Insolvency Act 1986 which contains a list of excluded companies. The Schedule is found in Schedule 1 of the 2020 Act and largely excludes banks, insurance companies, investment firms and companies which have previously been subject to an insolvency procedure within the preceding 12 months.
Any moratorium must be overseen by an appropriate insolvency practitioner who acts as a ‘monitor’ and is responsible for monitoring the company’s affairs so as to form a view whether the moratorium will result in the rescue of the company as a going concern.
Importantly for creditors that issued, or companies facing, a winding up petition prior to the entry into force of the 2020 Act, companies which are already subject to a winding up petition can only obtain a moratorium by application to the court. The same permission of the court is also required in respect of a company incorporated overseas provided it can demonstrate a sufficient connection to the UK.
Where such an application is required because of an extant petition, the test for ordering a moratorium will require the Court to be ‘satisfied that a moratorium for the company would achieve a better result for the company’s creditors as a whole than would be likely if the company were wound up (without first being subject to a moratorium)’.
Other eligible companies can initiate a moratorium simply by their directors filing certain specified documents with the court (likely by e-filing). The relevant documents must be accompanied by i) a statement by the directors that in their opinion the company is unable to pay or is likely to be able to pay its debts and ii) a statement from the monitor that it is likely that a moratorium would result in the rescue of the company as a going concern.
In the circumstances, whilst this is likely to be a useful tool, directors will need to have done a certain amount of preparation in order to instigate a moratorium and it should not be viewed as something which can quickly be applied for and obtained to hastily buy time.
Once in place, a moratorium can be extended administratively where the creditor(s) agree, or by the directors filing further documents where there is no creditor agreement.
In addition to the protection from certain legal actions (such as the presentation of winding up petitions and actions by landlords), the moratorium process can also provide a payment holiday for certain debts incurred prior to as well as after the moratorium.
However, the following debts are excluded, and in most cases must continue to be paid as a condition of any extension of the moratorium:
- liabilities arising under a contract/instrument involving financial services, which include bank facilities, capital market arrangements (which captures arrangements involving guarantee or grant of security), and contracts secured by financial collateral arrangements;
- goods and services supplied during the moratorium;
- rent in relation to the moratorium period;
- wages, salaries and redundancy payments; and
- the monitor’s fees and expenses from the commencement of the moratorium.
It appears that companies may well still require significant cash reserves during a moratorium and companies which are heavily reliant on financing are unlikely to be able to take advantage of a moratorium. As such, whilst unlikely to assist larger companies wishing to restructure their finance creditors, it will be a helpful tool for SMEs.
The option of a moratorium is also a positive step as it provides protection to a company from its creditors before it crosses the insolvency threshold and the likely point of no return. It represents an important permanent change to the UK’s insolvency landscape and will remain a free-standing option for companies outside of the immediate impact of the pandemic.
The Restructuring Process
The 2020 Act introduces a new remedy by inserting a new Part 26A into the Companies Act 2006. The process will allow companies that have “encountered or are likely to encounter financial difficulties that are affecting or will or may affect their ability to carry on business as a going concern” the ability to come to an arrangement or compromise with its creditors or members or any class of them, but not all of them. This is similar to the Chapter 11 regime in the US.
Significantly this will help to overcome the objections of a small group of dissenting creditors as unlike a CVA, a restructuring scheme proposed under these measures can be approved by the court.
The process is available to a company which is not already in a form of insolvency procedure, or as part of an insolvency procedure.
Most significantly, the rights of secured creditors can be affected even if they do not endorse the proposals and the court can sanction a scheme even if not all classes of creditors vote for it.
Under Section 901F, the court can sanction an arrangement if a number representing 75% in value of the creditors or class of creditors or members or class of members (as the case may be) agree to the arrangement.
To be sanctioned, a compromise or arrangement which is proposed between the company and its creditors (or any class of them) or its members (or any class of them), must also have the purpose of the attempting to eliminate, reduce or prevent, or mitigate the effect of, any of the financial difficulties encountered.
If certain classes object but the Court is nevertheless satisfied that the plan is fair (because the creditors that object would be no worse off than if the company entered an alternative insolvency procedure) it will be able to override the votes of the dissenting creditors. This is referred to as “cramming down” a class of creditors.
The previous inability to cram down a class of creditors was seen as a hindrance in the rescue of companies and the approval of schemes of arrangement and as such the changes are a positive move. Creditors do also retain some protection from the 75% voting threshold, but the success of a restructure will is no longer as susceptible to the whims of a small group of creditors as it is with other methods.
The changes set out above represent significant (and in some cases overdue) changes to the UK’s insolvency regime.
Many companies will soon face challenging times when the temporary protections introduced by the 2020 Act in respect of winding up petitions (among other actions) cease at the beginning of October 2020. The Government’s Job Retention Scheme is also due to end at the end of October and therefore companies will need to be aware of the various ways in which they can protect themselves from creditors, recoup debts owed to them and start to rebuild.
For anyone who requires assistance with the enforcement of debts, understanding the Corporate Insolvency and Governance Act 2020 and its application to their business or needs assistance with insolvency matters more generally, members of 1 Chancery Lane are ready to assist.
 Section 1 and Schedule 1 the 2020 Act
 Section 1 Chapter 2 Subsection A4 the 2020 Act
 Section 1 Chapter 2 Subsection A6 the 2020 Act
 Set out in Section 1 Chapter 4 Subsection A20 – A23
 Section 7 and Schedule 9 the 2020 Act.
Articles in this series: