On Thursday 25 June 2020, the Corporate Insolvency and Governance Bill received Royal Assent and came into force on 26 June 2020.
The Corporate Insolvency and Governance Act 2020 provides measures to give flexibility to help struggling UK companies to react and adapt to the impact of COVID-19 on businesses and the economy. This article considers how the Act affects termination clauses in contracts for the supply of goods and services.
The new provisions include:
- a new statutory moratorium process;
- a new restructuring plan procedure;
- provisions invalidating contractual provisions in contracts for the supply of goods and services, triggered by insolvency proceedings;
- corporate governance provisions; and
- COVID-19 provisions, which aim to provide relief for directors and their companies from creditor action on debts due to the COVID-19 pandemic.
This article will focus on the Act's impact on contracts for the supply of goods and services. For more information on the other aspects of the Act, please read our general summary, review of the bill and what the Act means for the Real Estate sector articles by our Corporate, Business Restructuring and Real Estate teams.
Prohibition of clauses permitting termination for insolvency
Until now, English contract law has generally permitted the operation of "ipso facto" clauses, which allow one party to terminate a contract if the other party becomes insolvent. As noted above, the Act includes provisions invalidating clauses that allow suppliers to terminate an agreement or do any other thing (e.g. changing the payment terms) in the event of customer insolvency (section 14 of the Act inserts the new section 233B(3) into the Insolvency Act (IA) 1986). The insolvency procedures to which this applies are set out below.
Suppliers will also be prohibited from requiring payment for past supplies as a condition for continued supply (new section 233B(4), IA 1986). This means that contracted suppliers must continue to supply the goods or services (subject to exclusions), even where there are pre-insolvency arrears.
These changes will be of particular importance to suppliers who might otherwise have been entitled to terminate supplies or impose conditions for continued supply under their contractual arrangements.
This is a novel development in English contract law as, while amendments have been made in the past to compel the continuance of certain essential supplies such as electricity, IT services and other utilities, these will now extend to contracts for the provision of other goods and services.
The relevant insolvency procedures under the new section 233B(2), IA 1986 are:
- a new statutory moratorium;
- administration;
- the appointment of an administrative receiver (unless another administrative receiver was already in office);
- a company voluntary arrangement (CVA);
- liquidation;
- the appointment of a provisional liquidator (unless another provisional liquidator was already in office); or
- the court orders meetings to vote on a new Part 26A plan (introduced into the Companies Act 2006 by section 7 and schedule 9 of the Act and explained in more detail here under the 'Restructuring Plan' section).
Exceptions
Suppliers will be only able to cease supplying goods or services under the contract if:
- an administrator, administrative receiver, liquidator or provisional liquidator appointed over the insolvent company consents;
- a company consents (if subject to a moratorium, CVA or Part 26A plan); or
- the court grants permission, being satisfied that the continuation of the contract would cause the supplier hardship.
A supplier cannot demand payment of outstanding pre-insolvency charges as a condition of continuing supply (new section 233B(7), IA 1986). However, this will not apply to the ability of a utilities provider to ask the insolvency office holder to guarantee payment under section 233(2) of the IA 1986 (new paragraph 1(2), Schedule 4ZZA, IA 1986).
Exclusions also apply to certain types of suppliers including banks and insurers (set out in the new schedule 4ZZA to the IA 1986), certain types of "financial contracts" and potential set-off or netting arrangements (as defined by the Banking Act 2009).
Temporary COVID-19 provisions: exclusion for small suppliers
The Act includes a temporary exclusion for small suppliers, which runs until 30 September 2020. However, the Act (section 41) allows for the extension of this exclusion by further periods of up to six months each.
During this period, the prohibition of the termination of, or amendment to, a contract for the supply of goods or services to an insolvent customer will not apply to "small" suppliers (section 15 of the Act), meaning a supplier which meets at least two of the following three conditions:
- turnover of not more than £10.2m;
- aggregate assets on balance sheet of no more than £5.1m; and/or
- not more than 50 employees.
Section 15 of the Act contains more detail on how these conditions will be applied.
Practical steps for suppliers to take
This is a novel development in English contract law, which will be of particular importance to suppliers who might otherwise have been entitled to terminate supplies or impose conditions for continued supply under their contractual arrangements.
Suppliers may wish to consider taking some or all of the following steps to mitigate the impact of the change:
- Reduce your credit limits and/or shorten your payment periods to minimise the risk of non-payment due to insolvency.
- Review and consider strengthening your retention of title (ROT clauses) to improve your chances of being able to repossess goods which are not paid for.
- Review and consider expanding your termination clauses to provide increased rights for your organisation to terminate for convenience or any minor breaches of payment terms, which may provide a warning that a customer is experiencing financial difficulties.
- Consider whether to reduce the length of the termination notice that you must give.
While these steps have always represented good contract governance, the change in the law has made them even more important. Of course, your organisation's bargaining position will affect whether you are able to implement all of these suggestions in every contract.
If you have any queries regarding the above or general contractual queries, please do not hesitate to contact a member of our Commercial team.
This article was written by Hannah Nagel.
