Following the closure of a Government consultation into the corporate insolvency framework, new legislative measures could be on the way, designed to aid the restructure and recovery of businesses in financial distress. Although well intentioned, any moves to aid ailing businesses must be analysed for their impact on creditors and the wider business community. In this time of economic uncertainty, policy makers are hoping that changes to well-established insolvency legislation will provide much-needed relief to struggling firms. However, many insolvency practitioners believe that the current framework is more than sufficient and that the focus should be shifted to other areas such as access to advice, education and the wider tax regime to achieve business prosperity.
What are the proposed changes?
The first potential measure listed in the consultation, is the introduction of a moratorium for distressed businesses. Lasting three months, with the possibility of an extension, this provision would protect firms against any legal action from creditors, allowing business leaders to focus their full attention on available rescue options.
While theoretically this seems a reasonable suggestion, in practice, only a very small cross-section of businesses are likely to benefit from this – other existing insolvency procedures such as administration proceedings and Company Voluntary Arrangements (CVAs) already offer temporary protection from creditors. Furthermore, prohibiting legal action for the rather lengthy period of three months could cause significant cash flow issues for businesses chasing payment, as well as reducing the availability of credit.
Secondly, the Government has pledged to explore new measures which help businesses to continue trading through the restructuring period. If implemented, these guidelines would bolt-on to historical provisions which require utility companies to continue supplying a business during their period of insolvency, as long as a payment schedule has been agreed.
Current rules include traditional utilities companies which supply gas, electricity and water, however, legislators will likely move to expand the scope of what is defined as an ‘essential supply contract’. For example, the preservation of IT systems is essential for the running of many businesses, so this could reasonably be deemed an essential contract. Furthermore, a construction firm which is in financial difficulty would require that raw material suppliers and contractors continue to provide them with goods and services so that projects can be completed to aid their recovery.
This obligation to supply will of course put a strain on supplier relationships and for some smaller firms that do not possess the scale or reserves of traditional utility companies, it would have a detrimental effect on working capital. The protection of key contracts during insolvency is vital for struggling businesses and expanding the scope of this measure would provide a significant boost to insolvent firms.
The third proposal listed in the consultation seeks to develop a flexible restructuring plan, which would allow businesses to bind secured and unsecured creditors, introducing a ‘cram down’ mechanism which would improve their ability to achieve the best rescue solution available. More akin to the insolvency model currently adopted in the USA, this measure is however very costly and can be protracted as it requires court approval.
Finally, the Government is exploring options for rescue financing, with the aim of encouraging investors to free up funds for businesses in distress. One suggested measure is ‘super-priority’ financing, wherein those providing funds to insolvent businesses would be given security ahead of existing creditors. Whilst this change would have the effect of freeing up cash for businesses, it could mean that existing funders are pushed out of the picture, which if implemented could increase the cost of lending for all businesses.
Although amendments to the corporate insolvency framework have the potential to improve conditions for business recovery, the Government must focus on preventing business failure altogether, rather than merely facilitating a legislative ‘cure’. BIS (Department for Business, Innovation & Skills) should take steps to improve business’ access to advice and introduce a system where firms are connected with entrepreneurs or industry experts that are able to intervene at an earlier stage.
This focus on modernising strategy and prudent financial planning will prove extremely beneficial in the long-term, while the introduction of a more favourable tax regime, including the Government’s pledge to reduce Corporation Tax to ‘below 15%’ will encourage investment. As Brexit negotiations begin and confidence remains unstable, new legislation must send the message that the UK is open for business, rather than focusing exclusively on saving firms that are in financial difficulty.