Corporate Insolvency and Governance Act 2020 – Company Moratorium

The new moratorium for companies will prevent creditor enforcement action being taken against a company while it considers options for rescue.

The intention is to provide a streamlined moratorium procedure that keeps administrative burdens to a minimum, makes the process as quick as possible and does not add disproportionate costs onto struggling businesses.

CIGA 2020 inserts Part A1 into the Insolvency Act 1986 (“the 1986 Act”). Part A1 is situated before Part 1 but within the First Group of Parts. The new Part is made up of 8 Chapters, which set out details for determining whether a company is eligible for a moratorium, how a moratorium is obtained, the length of a moratorium, the effects of a moratorium, details regarding the role of the monitor, and further miscellaneous and supplementary matters.

Schedule ZA1 is also inserted into the 1986 Act before Schedule A1 (Moratorium where directors propose voluntary arrangement). That schedule is repealed as it will no longer be required. The new schedule ZA1 sets out which companies are eligible for the moratorium.

This measure extends to the whole of the UK and commenced on 26 June 2020.

This forms a permanent change to legislation.

The moratorium is available to all companies, with some exceptions defined in new Schedule ZA1 of the 1986 Act for institutions such as banks and insurance companies.

A company is also excluded from eligibility if it is subject to, or was recently subject to, moratorium or an insolvency procedure. This means that:

• on the filing date, a moratorium for the company is in force, or
• at any time during the period of 12 months ending with the filing date, a moratorium for the company was in force, or
• on the filing date, the company is subject to an insolvency procedure, or
• at any time during the period of 12 months ending with the filing date, the company was subject to an insolvency procedure.

However, it is important to note that during the relevant period (ending on 30 September 2020), schedule 4 of CIGA 2020 suspends the prohibition on eligibility for companies that have been subject to a moratorium or an insolvency procedure in the previous 12 months.

The definition of “insolvency procedure” extends to voluntary arrangements, administration (including where an administration application has been made and an interim moratorium is in place), receivership, provisional liquidation, winding up, or the presentation of a petition for winding up under sections 124A-C of the 1986 Act.

It should be noted that the provisions do not appear to extend to Scottish LLPs. The moratorium will therefore be unavailable to a large number of professional services firms, such as solicitors and accountants, for whom the LLP has become the corporate vehicle of choice.

Entry into a moratorium is achieved by the directors of a company lodging ‘relevant documents’ at court. These are:

• a notice that the directors wish to obtain a moratorium.
• a statement from the proposed monitor that the person is qualified and consents to act.
• a statement from the proposed monitor that the company is an eligible company.
• a statement from the directors that, in their view, the company is, or is likely to become, unable to pay its debts.
• a statement from the proposed monitor that, in the proposed monitor’s view, it is likely that a moratorium for the company would result in the rescue of the company as a going concern.

If there is an outstanding winding up petition or the company is an overseas company, the granting of a moratorium is at the court’s discretion.

On the moratorium coming into force, the monitor must send notice to all known creditors of the company and to Companies House.

Importantly, as a temporary-measure, the “rescuability” criterion does not apply, to make it easier for companies which would be viable but for the COVID-19 emergency to access the regime. This concession is due to stakeholders’ feedback that “rescuability” in the current circumstances is a difficult judgement to make.

The moratorium lasts for an initial period of 20 business days beginning with the business day after the day on which the moratorium comes into force and cannot be extended once it has come to an end.

For example, if the moratorium came into force on 1 July 2020, unless it were extended, it would end at the end of 29 July 2020.

Once the first 15 business days of the initial period have lapsed, the directors are able to extend the moratorium for a further 20 business days by lodging with the court:

• a notice that the directors wish to extend the moratorium.
• a statement from the directors that any moratorium debts, or pre-moratorium debts for which the company does not have a payment holiday, that have fallen due have been paid or otherwise discharged.
• a statement from the directors that, in their view, the company is, or is likely to become, unable to pay its pre-moratorium debts.
• a statement from the monitor that, in the monitor’s view, it is likely that the moratorium will result in the rescue of the company as a going concern.

Any extension beyond 40 business days must be approved by creditors via a qualifying decision procedure. A moratorium may be extended via this method more than once. The revised end date is agreed with the creditors but can be no longer than one year from the first day of the initial moratorium period.

The documents referred to above for an extension without creditor approval must be lodged, along with a further statement from the directors that creditors’ consent has been obtained.

There is also the option for the company to apply to court to extend a moratorium for situations where seeking consent for an extension from creditors is impracticable.

Where a CVA has been proposed to creditors before the expiry of a moratorium, but the outcome has not yet been determined, a moratorium automatically extends until creditors approve or reject the proposal.

The moratorium terminates when the initial or any subsequent period expires without extension.

The moratorium also comes to end if a company enters into liquidation, administration, an administration interim moratorium, CVA or Scheme of Arrangement.

The monitor must also bring the moratorium to an end by filing a notice with the court if:

• the monitor thinks that the moratorium is no longer likely to result in the rescue of the company as a going concern.
• the monitor thinks that the objective of rescuing the company as a going concern has been achieved.
• the monitor thinks that, by reason of a failure by the directors to provide the monitor with required information, the monitor is unable properly to carry out the monitor’s functions.
• the monitor thinks that the company is unable to pay any of its moratorium debts or pre-moratorium debts for which the company does not have a payment holiday.

The moratorium is free-standing. It is not a gateway to a particular insolvency procedure (nor any process at all, if the company can be rescued during the moratorium without needing entry into an insolvency procedure). Possible rescue outcomes include:

• recovery of the company without further action/process.
• sale and/or refinancing outside insolvency.
• CVA under Part 1 of the 1986 Act.
• scheme of arrangement under Part 26 of the Companies Act 2006.
• implementing a restructuring plan under the new Part 26A of the Companies Act 2006.

While a company is in a moratorium, it need not repay debts arising from obligations incurred before the start of the moratorium, even if they fall due on or after the commencement of the moratorium (with some exceptions e.g. rent in respect of a period during the moratorium, employee wages and salaries and debts or other liabilities arising under a contract or other instrument involving financial services).

The moratorium is modelled on the same parameters as the administration moratorium. It prevents (except with the leave of court in some circumstances):

• insolvency proceedings being commenced against the company (except at the instance of the directors or special circumstances such as a public interest winding-up petition presented by the Secretary of State).
• the enforcement of security over the company’s property.
• the repossession of goods in the company’s possession under a hire-purchase agreement.
• a landlord exercising a right of irritancy in relation to premises let to the company.
• the institution or continuation of legal process (including legal proceedings, execution, distress and diligence) against the company or property of the company, except those before an employment tribunal (or arising therefrom), those relating to claims between an employer and a worker, or those with the court’s permission.

It is important to note that, during the moratorium, a company must display the name of the monitor and that a moratorium is in force for the company on each and every website and business document issued by or on behalf of the company. All business premises must also display notice of the moratorium.

The moratorium is a ‘debtor-in–possession’ process, with a company’s directors remaining in control of its operations.

However, creditors’ interests are protected through the involvement in the process of a monitor, in the form of a licenced insolvency practitioner, who is responsible for monitoring a company’s compliance with the qualifying conditions throughout the period of the moratorium.

As a company’s directors remain in control of a company’s operations during the moratorium, the role of the monitor is limited in scope to functions necessary to support the integrity of the moratorium process and ensure creditor interests are protected. The monitor will be responsible for:

• assessing the eligibility conditions at the commencement of the moratorium.
• assessing and monitoring the qualifying conditions at the commencement of and throughout the duration of a moratorium.
• where the qualifying conditions cease to be met during the moratorium, terminating it.
• sanctioning asset disposals outside the normal course of business and the granting of any new security over company assets.

A monitor has powers to request any information from the company they reasonably require in order to satisfy themselves that the eligibility tests and qualifying conditions are met at the commencement of the moratorium, and that the qualifying conditions continue to be met. Directors have a legal duty to provide this information.

In order for a monitor to reach a satisfactory conclusion as to the prospects of rescue, it is likely in practice that the company or the proposed monitor will have to undertake some level of consultation with key stakeholders in the restructuring process, before this can be determined.

The monitor’s fees are a contractual matter between the monitor and the company appointing them. If a company subsequently enters formal insolvency, an administrator or liquidator has an express power to challenge the monitor’s fees if they have cause to believe that the remuneration charged by the monitor was excessive. Section 246ZD of the 1986 Act has been amended to allow for this cause of action to be assigned.

The costs incurred during a moratorium are treated in the same way as an expense in an administration. Where a company exits a moratorium and subsequently enters administration or liquidation within 12 weeks of the end of the moratorium, any unpaid moratorium costs enjoy super-priority over any costs or claims in the administration or liquidation, including the expenses of such procedures.

Highest priority is afforded to fees and expenses due to the monitor, followed by any suppliers prevented from relying on contractual termination clauses, rent in respect of a period during the moratorium, wages or salary due, redundancy payments and lastly any pre-moratorium debt that arises under a contract or other instrument involving financial services.

Note the financial services debt must have fallen due before or during the moratorium and cannot be a relevant accelerated debt i.e. a debt that was accelerated during the period beginning with the day on which the monitor states that it is likely that a moratorium for the company would result in the rescue of the company as a going concern, and ending with the last day of the moratorium.

A creditor, director, member of the company or any other person affected by a moratorium is able apply to the court on the grounds that an act, omission or decision of the monitor during a moratorium has unfairly prejudiced the applicant. The court may confirm, reverse or modify an act or decision of a monitor; it may give a monitor directions; or it may make any other such order as the court sees fit (although it may not order that a monitor pay compensation). Such an application may be made during the moratorium or after it has ended.

Following termination of the moratorium, creditors again have full rights to enforce their debts.

To address the risk of legal action being brought against a former monitor by a company where that monitor made an error in their assessment of the qualifying conditions, the court must have regard to the need to safeguard the interests of persons who have dealt with a company in good faith and for value.

This approach is designed to avoid monitors acting in an overly cautious manner to the detriment of creditors and suppliers.

When considering whether it is appropriate to act as monitor, insolvency practitioners should refer to the Code of Ethics to identify threats to compliance with the fundamental principles; evaluate the threats identified; and address the threats by eliminating or reducing them to an acceptable level. Insolvency practitioners must exercise professional judgement; remain alert for new information or changes to the facts or circumstances and re-evaluate if necessary; and apply the “reasonable and informed third party test”.

There is no prohibition on an insolvency practitioner acting as a monitor providing additional services to a company in a moratorium, such as restructuring advice or consultancy services. A monitor is also not prevented from taking up a subsequent appointment. However, this is subject to the insolvency practitioner making an assessment of any threats to compliance with the fundamental principles of the Code of Ethics.

It is important that no conflicts of interest arise in the course of a monitor’s duties or, if they do, they are managed appropriately within the existing regulatory regime and the Code of Ethics.

To ensure that a monitor can carry out the role with objectivity and independence, it is vital that any conflicts of interests are avoided or managed appropriately to safeguard the interests of all stakeholders. A monitor will need to have close regard to the newly revised Insolvency Code of Ethics.

An insolvency practitioner also needs to have regard to the Code of Ethics in relation to accepting an appointment as monitor following any pre-appointment engagements or prior insolvency appointments when assessing whether the circumstances give rise to a significant professional relationship with a company that wishes to obtain a moratorium.

The role of monitor has been added to section 388 of the 1986 Act. Therefore, an insolvency practitioner acting as monitor needs to ensure that an appropriate specific penalty bond is in place for each appointment in line with the Insolvency Practitioners Regulations 2005.

The introduction of a moratorium, on the face of it, provides a mechanism to allow a company in financial distress a breathing space in which to explore its rescue and restructuring options free from creditor action.

Unfortunately, the involvement of the courts in the process may prove to be a barrier to entry into a moratorium for Scottish companies at the moment, in view of the issues currently being encountered by ICAS members.

Entry may further be complicated by the requirement for a statement from the monitor that it is “likely” that a moratorium for the company would result in the rescue of the company as a going concern (although it is noted that there is a temporary relief from that requirement).

That statement is problematic for two reasons. Firstly the use of “likely” sets a relatively high bar to achieve and it would perhaps be more appropriate if “reasonably likely” was the terminology adopted, in line with that used in Schedule B1 of the 1986 Act to assess the prospects of an objective being achieved in Administration.

Secondly, it is important to note that it is the company itself that needs to be salvageable as a going concern i.e. the equivalent of an ‘objective A’ administration. Simply rescuing the business of a company will not be sufficient to meet this test which will significantly constrict the available options.

Finally, the inclusion of the role of monitor in section 388 of the 1986 Act unfortunately leads to the requirement for insolvency practitioners to have bonding in place in relation to each case. This will lead to potentially significant additional costs as the companies in question need to be salvageable and may therefore be asset rich.

The bond will, in any event, only cover liability for losses caused by the fraud or dishonesty of the insolvency practitioner whether acting alone or in collusion with one or more persons or the fraud or dishonesty of any person committed with the connivance of the insolvency practitioner.

As a moratorium will be a debtor-in-possession process, the value of the cover provided by the bond is consequently not immediately clear.

While well-intentioned there is an argument that the entry criteria, level of insolvency practitioner involvement, costs and perception of the moratorium as another insolvency procedure will lead to it being under-utilised.