Corporate Insolvency and Governance Act 2020 Comes into Force

In 1978, when the United States was faced with an earlier economic crisis, the U.S. Congress enacted a bankruptcy law that aimed to encourage creditors to recapture their debts over time and avoid the significant, abrupt job losses concomitant with liquidation. Among the more unique provisions of that law were:

• a self-effectuating injunction during which time the debtor may continue to trade;
• the power to “cram down” dissenting creditors who were receiving otherwise fair treatment; and
• the ability to force discharge of claims by creditors and shareholders that were “out of the money.”

The measures introduced by the Act borrow some of those U.S. bankruptcy concepts. The Act represents a shift toward a business rescue culture more in line with the U.S. insolvency and rescue tools. For example, the moratorium on creditor actions is more expansive and permits a debtor to trade, the creditors can be “crammed down” if the majority of a class accepts treatment, and the treatment of other classes is fair. Similarly, there is no obligation to obtain consent from every class—only fair treatment. Thus, creditors of a class that would not receive a distribution in a liquidation may be forced to accept a discharge with no payment.

Specifically, the Act has brought into force a series of permanent and temporary measures:

Permanent

• a new moratorium on enforcement action;
• a new “restructuring plan” process; and
• the disapplication of supplier termination of contract provisions for insolvency.

Temporary

• suspension of the wrongful trading rules;
• prohibitions on the presentation of winding up petitions;
• relaxation of moratorium criteria; and
• suspension of company meetings and filings.

Overview of the Permanent Measures

New Moratorium
The Act has introduced a moratorium to struggling companies to give them time to attempt rescue or restructure. Businesses will be able to trade in the ordinary course whilst the moratorium is in place. The new moratorium is not linked to any particular insolvency process and is now a free-standing tool that can be used by UK companies of any size.

The new moratorium will not be available to certain types of entity (e.g., insurance companies, banks) or to companies that have already commenced any insolvency proceedings (save for temporarily, as set out below).

A moratorium can be obtained by filing the following items at court¹:

• a notice that the directors wish to obtain a moratorium;
• a statement from an insolvency practitioner that they are qualified to act and consent to act as monitor to protect the creditors’ interests; and
• a statement from the directors of the company that, in their view, the company, is or is likely to become, unable to pay its debts; and
• a statement from the proposed monitor that the company is an eligible company and, in the proposed monitor’s view, it is likely that a moratorium will result in the rescue of the company as a going concern.

The moratorium will become effective upon filing, except in the case of companies that are subject to a winding up petition and overseas companies, where the moratorium will only take effect on the court’s ruling.

The Act provides for an initial 20 business day moratorium, with an option to extend by a further 20 business days (without creditor consent) or up to one year (with creditor consent or as ruled by the court).²

During this period, trade creditors and lenders will be prevented from initiating insolvency or other legal proceedings, and landlords will be unable to forfeit leases.

New “Restructuring Plan”
The Act introduces a new tool to the UK’s insolvency and restructuring compendium under a new Part 26A of the Companies Act 2006. This process is in addition to the existing creditor cooperation mechanisms available in the UK—the company voluntary arrangement and the scheme of arrangement.

The new Restructuring Plan is similar to a chapter 11 process in the United States. The key features of the Restructuring Plan, compared to Chapter 11 are set out here. 

Disapplication of Supplier Termination of Contract Provisions for Insolvency
The Act extends the disapplication of the rights of a supplier in relation to contracts “for the supply of goods or services” (i.e., it restricts a supplier’s ipso facto rights). The Act provides that where a contract includes a provision allowing the supplier to terminate the contract or “do any other thing” such provision will “cease to have effect” when the company becomes subject to the relevant insolvency procedure.³

The intention of these provisions is to protect companies’ supplies so that companies can continue trading while they are subject to the relevant insolvency procedure, subject to financial hardship protections for suppliers, increasing the chances of rescue.

This amendment also marks a shift towards the U.S. system, although notably the UK provisions apply only to supply contracts whereas the U.S. bankruptcy process treats all “executory contracts,” such as supply and requirements contracts as a special category that do not terminate based on an ipso facto clause and that may be assigned notwithstanding anti-assignment clauses.

Overview of the Temporary Measures

Suspension of Wrongful Trading Rules
The Act temporarily suspends the wrongful trading rule until 30 September 2020 (effective retrospectively from 1 March 2020) to give directors breathing space to trade during the pandemic without the risk of incurring liability in the event that the company becomes insolvent.⁴ The changes are intended to prevent companies from having to preemptively file for insolvency to avoid any personal liability risk on the part of its directors.

Notably, the government has left all other director misconduct measures in place as a deterrent against director misconduct (including fraudulent trading and the threat of director disqualification). Furthermore, the provisions on transaction avoidance under the Insolvency Act 1986 (including transactions at an undervalue, preferences, transactions defrauding creditors etc.) will continue to apply. It is therefore likely that any circumstances that would have triggered a wrongful trading claim will be caught within another basket. As a matter of best practice, and in particular during these uncertain times, it is vital that directors continue to act in the interests of the company and to accurately document all decisions—even where this means winding up a company.

Under the U.S. law, there is no restriction against trading while insolvent, though when an entity becomes insolvent, the duties of the board and officers expand to include creditors as well as shareholders. Thus, as under the Act, if a director trades while insolvent in good faith, she may not be liable; she would be liable if she deliberately wasted or concealed assets available for creditors. Preferential payments of legitimate debts do not normally give rise to breach of duty claims under U.S. laws, but the transfer may be reversed under U.S. bankruptcy laws if made within 90 days before the bankruptcy (within one year if the recipient is an insider).

Temporary Prohibition on the Presentation of Winding Up Petitions
The Act prevents creditors from presenting a winding up petition on the basis of an unsatisfied statutory demand served between 27 April 2020 and 30 September 2020 unless the creditor has reasonable grounds for believing that (i) coronavirus has not had a financial effect on the company, or (ii) the company would have been unable to pay its debts even if coronavirus had not had a financial effect on it.⁵

There is no guidance given on the meaning of “financial effect,” but this appears to be a low threshold. In practice it will likely be difficult for a creditor to prove that the coronavirus has not had a financial effect on a company; with the onus on the creditor to prove that this was its reasonable belief. The effect of the prohibition is that any relevant winding up petition that does not satisfy the exclusions will be void.

This restriction is particularly relevant to commercial landlords who have been criticised for relying on statutory demands to coerce tenants into satisfying their rent payment obligations. The prohibition in the Act is substantively similar to the wording in the draft bill which has already been considered in the English courts. Mr. Justice Morgan granted an interim injunction against a landlord’s presentation of a winding up petition on a tenant who failed to meet its rental payments. Mr. Justice Morgan confirmed that the intention of the bill was such that “the court can only wind up the company if it is satisfied that the facts on which the petition is based … would have arisen even if coronavirus had not had a financial effect on the company.”

Temporary Moratorium Relaxation
The Act temporarily relaxes certain conditions for obtaining a moratorium. The new moratorium (set out above) will be temporarily available to companies that are currently subject to winding up petitions. Additionally, companies are able to apply for an extension to a moratorium, disregarding any “worsening of the financial position of the company for reasons relating to the coronavirus.” This moratorium will apply from the date of the Act until 30 September 2020.⁶

Suspension of Company Meetings and Filings
Finally, the Act grants an extension to the account filing deadline for public companies. For public companies with a filing deadline that falls between 26 March 2020 and 29 September 2020, the deadline will be extended to the earlier of 30 September 2020 and 12 months from the end of the company’s accounting period.⁷

It also relaxes conditions relating to meetings for companies and other bodies, including extending the period for annual general meetings. The relaxation of these provisions will apply from 26 March 2020 until 30 September 2020.⁸

It is noteworthy that the Act has not provided for any staggered phase out of the temporary measures, which all end contemporaneously on 30 September 2020. It will be interesting to see how creditors respond to their lapse and the appetite of companies and creditors to utilise the new permanent tools available under the Act.

Pillsbury’s experienced multidisciplinary COVID-19 Task Force is closely monitoring the global threat of COVID-19 and providing real-time advice across industry sectors, drawing on the firm’s capabilities in crisis management, employment law, insurance recovery, real estate, supply chain management, cybersecurity, corporate and contracts law and other areas to provide critical guidance to clients in an urgent and quickly evolving situation. For more thought leadership on this rapidly developing topic, please visit our COVID-19 (Coronavirus) Resource Center.

^{[1] Article A6 of the Act.}

^{[2] Article A9 of the Act.}

^{[3] Article 233B(3) of the Insolvency Act 1986.}

^{[4] Article 12 of the Act.}

^{[5] Schedule 10 of the Act.}

^{[6] Schedule 4 of the Act.}

^{[7] Article 38 of the Act.}

^{[8] Schedule 14 of the Act.}