British Home Stores sold its entire shareholding in BHS Group Limited to Dominic Chappell’s Retail Acquisitions Limited for only £1, in March 2015. It subsequently collapsed into administration in April 2016, with a reported loss of 11,000 jobs and a circa £570 million pensions black hole.
Ever since, there has been calls for reform and three separate consultations have looked into improving the insolvency framework, which has remained largely unchanged since 2004. Tackling corporate insolvency was also on the agenda of the Autumn Budget 2017 and the Spring Budget 2018. We are on the cusp of significant changes to insolvency procedures and on 26 August 2018, we got an indication from the government as to what reforms are likely to be introduced.
- Improve the insolvency framework in cases of major failure
- Increase protection for creditors and achieve a fairer balance in insolvencies
- Strengthen corporate governance in pre-insolvency situations.
|Protection for businesses
- Greater accountability of directors when selling subsidiaries in distress
- Legislating to enhance existing recovery powers of insolvency practitioners in relation to value extraction schemes
- Legislating to give the Insolvency Service the necessary powers to investigate directors of dissolved companies
- Creating alternative procedures to support business rescue
|Protection for creditors
- Creating a new moratorium to help business rescue
- Prohibiting enforcement by a supplier of termination clauses in contracts for supply of goods and services
- Creating new restructuring vehicles
- Strengthening transparency in complex group structures
- Enhancing the role of shareholder stewardship
- Strengthening the UK’s framework in dividend payments
- Improving board-room effectiveness
New liability for parent company directors
This new liability for parent company directors arises when selling a subsidiary, if that subsidiary enters liquidation or administration shortly after the sale.
It will be applied to a ‘look-back period’ of 12 months, from the date of the sale, as to whether directors believed the sale would deliver no worse an outcome than administration or liquidation.
The change is also seeking to address ‘phoenixing’, where a company is dissolved and another is created soon after to avoid payment of liabilities, and the government will work with industry, to develop guidance for directors when considering the sale of an insolvent subsidiary.
This proposal does not address the scenario where there could be a conflict between the holders of the parent company and those of the subsidiary. As a result, these measures may drive parent directors to put companies in administration, or run approved pre-packs, as the safest way of discharging their obligations.
This allows financially distressed but solvent companies, a period of time to make preparations to restructure or seek new investment, with a view to preserving value and safeguarding jobs.
Eligible companies must be able to carry on business and meet current obligations during the moratorium, which will initially be for 28 days, but can be extended. Creditors will have the ability to object to the moratorium.
Despite the helpfulness of this new moratorium, a board may be more willing to put the company into administration, as the company will always need to meet debt service and suppliers, so the company has to hold cash to deal with the knock on effects of the moratorium.
New Scheme of Arrangement
This will allow a company to bind all creditors through the use of a cross-class cram down provision. Solvent and insolvent companies will be able to use the process, which requires the company to propose plans, with creditors and shareholders able to counter-propose.
The scheme requires creditor approval - more than 75 % in monetary value, and at least 50% of unconnected creditors in each class of creditor to agree to the plan.
Suppliers of goods and services
The government plans to prevent suppliers of goods and services from enforcing termination clauses on the ground that the company has entered into a formal insolvency procedure - new moratorium or new restructuring plan.
If the supplier can establish a significant adverse effect on its own business as a result of continuing the supply, then it can apply to court to be exempted from the prohibition.
The UK is traditionally viewed as a lender-friendly jurisdiction and the government’s proposal is seeking to redress some of this, whilst maintaining some flexibility in the processes and protecting minority creditors. Post-Brexit this becomes critical, as the government will be keen to ensure the UK maintains its position in the global market as an attractive jurisdiction in which to invest and do business.
As yet there is no definite timetable for the introduction of these reforms and the proposals are currently expressed in high level terms. The detail of the legislation will become clearer once the parliamentary process is pursued, but if implemented as currently envisaged, directors will need to be vigilant to eliminate, or minimise, their exposure to new forms of personal liability.
Read other items in Commercial Brief - January 2019