The UK Corporate Insolvency and Governance Act – A Closer Look at Commercial Supply Contracts

July 22, 2020

As the Corporate Insolvency and Governance Act (CIGA), which we have published numerous articles on, has now come into force, we have decided to take a closer look at some of the knock-on effects that this significant piece of insolvency legislation may have.

As mentioned in previous briefings, the CIGA provides relief to businesses and directors faced with making difficult decisions brought about by the novel coronavirus outbreak (COVID-19). More specifically, the CIGA provides certain protections for companies facing insolvency both in the COVID-19 pandemic and beyond.

One of the key aspects of the provisions in the CIGA is in relation to commercial supply contracts. In this article, we will look at some of the broader implications for suppliers and customers in commercial supply contracts and how this may play out in the inevitably altered economic landscape post-COVID-19.

PROVISIONS ON COMMERCIAL SUPPLY CONTRACTS

The CGIA proposes a set of reformative and extensive measures to the UK insolvency law framework. Among the most fundamental provisions in the CGIA are the various reliefs and protections provided to companies from their suppliers.

The details

Suppliers are prevented from serving winding up petitioners on their customers unless it can be proved that the service of the petition was not due to, or in relation to, COVID-19.
When a company enters an insolvency procedure, certain contractual insolvency measures will no longer be enforceable.
When a company enters an insolvency procedure, suppliers will be required to continue ongoing supply regardless of outstanding pre-insolvency invoices, unless the continuation of supplies is detrimental to the supplier’s business.
Suppliers’ right to terminate the supply contract with the customer prior to the insolvency procedure to be temporarily suspended.
New moratorium procedure is available to customers which prevents suppliers from taking insolvency legal proceedings against the customer.
“Small suppliers” will be temporarily excluded from the provisions until 30 September 2020. “Small suppliers” can be defined as companies with a turnover of less than £10.2m, a balance sheet below £5.1m, and with less than 50 employees.
There are exemptions for suppliers of insurance services, banking, or other financial services.

The impact

The overarching effect of these provisions for suppliers is that their ability to threaten customers and debtors, both legislatively and contractually, is considerably diminished. Suppliers may balk at the thought of having to continue supplying a customer that is both in arrears to them and is undergoing insolvency procedures.

With these relatively bold reforms and ominous economic outlook, suppliers should make moves to protect themselves against the incoming regime. Suppliers will wish to examine the financial health of their clients and the existing contractual arrangements. In doing so, suppliers may wish to renegotiate contractual terms with their customers and contracts to be drafted should consider these new provisions. Suppliers should also seek to act by reducing the number of outstanding invoices, taking advance payments, and promptly engaging their express rights in the contract – prior to being caught by those insolvency protection arrangements.

In negotiating contracts, suppliers may wish to consider terms that tip the balance in their favour. Such terms could include an express right to withhold supply at an early stage for non-payment, seek reservation of title, and/or set out a fixed or rolling termination date rather than be exposed to an unlimited supply period. Guarantees and conversion of debts into loans may also assist.

If an insolvency procedure is entered into and a supplier finds itself compelled to supply, there is a route to seek permission to terminate the contract, but that requires the supplier to seek the permission of a court.

A supplier may terminate for failure to pay during the period in which the purchaser is in the insolvency process. This means that the company, or its administrator, needs to ensure that they pay the supplier through the insolvency, albeit that the supplier has an unpaid debt that arose prior to the start of the insolvency process.

With the integrity of supply chains at risk, customers should also be looking to mitigate risk with favourable contractual rights, guarantees, and extensive due diligence of their existing and prospective supply chains.

While temporarily helpful to companies facing insolvency, the wider context of these provisions is worthy of consideration. As more industries and businesses face growing pressure from the economy, it is likely that these measures will begin to have a disruptive effect in and of themselves, notably on supply chains.

The effect on supply chains

The COVID-19 crisis has revealed the vulnerability, but also flexibility, of many supply chains. Global food supply chains have been praised for their agility and strong performance during the pandemic.

“The overall food system has held up very well – it is quite resilient… In general, a more complex system creates more degrees of freedom for shocks to occur,” says Peter Alexander, lecturer in global food security at Edinburgh University.

But other systems have been shown to be more fragile and will be affected in the months and years to come. Further provisions such as those in the CGIA will no doubt attempt to address these fundamental problems spanning the globe.

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Should you have any questions about the topics covered in this Client Briefing, please get in touch with your usual Rooney Nimmo contact or any of the persons below.