The UK has a highly flexible corporate restructuring and insolvency environment and has, in the last decade, claimed its rightful place alongside New York as a key international hub for high value complex restructurings.
It remains to be seen, of course, to what extent this will be impacted when the Brexit transition period expires at 11pm on December 31. Recognition in the EU has been particularly relevant in the growth in the use of UK schemes of arrangement and will play a role in the new restructuring plan process (more below), which is being seen as a viable international restructuring tool. However, with the UK Court of Appeal recently affirming the inability of foreign restructuring processes to compromise English law obligations, the prevailing use of English (and New York) law debt in international finance and the certainty offered by the UK's court system and case law, the UK's restructuring and insolvency framework will remain attractive.
Legal developments in 2020 have largely been dominated by the government's response to the Covid-19 pandemic through a wide-ranging package of measures introduced by the Corporate Insolvency and Governance Act 2020 (CIGA), passed at the end of June. Its introduction of the new restructuring plan is aimed at keeping the UK relevant against other international reforms. Practitioners will watch with keen interest as jurisprudence develops in connection with the cross-class cram down mechanism.
In other non-Covid-19 related developments, public concern around the small minority of potential abuses and widely publicised cases dealing with pension issues have resulted in proposed new criminal offences in the Pension Schemes Bill. Their scope is broad and could deter efforts to undertake financial restructurings for a distressed group with a defined benefit pension. Further, in a move criticized by some in the restructuring and insolvency community, the Finance Act 2020 will make HMRC a "preferential creditor" for certain taxes owing to it that a business had already deducted from customers and employees before its insolvency (such as VAT or PAYE). While HMRC will still rank behind certain employee-related claims, they will rank ahead of floating charge holders.
Formal collective insolvency procedures under the Insolvency Act 1986 (the Act) consist of:
- company voluntary arrangements (CVA) – used to rescue a company. More recently, it has been used to deal with obligations under unprofitable leases. It is unable to bind secured creditors without their consent;
- administration – ostensibly a corporate rescue process, although more often used to rescue the business through a going concern sale – frequently arranged in advance of filing and known as a pre-pack; and
- liquidation – a terminal procedure typically resulting in the piecemeal sale of assets (rather than the business), distribution of the proceeds to creditors and dissolution of the company. In a solvent liquidation, surplus proceeds are returned to shareholders.
The Act also contains a standalone moratorium procedure – recently introduced by the CIGA reforms. It is available to distressed but viable debtors, focused on company rescue. Directors remain in place subject to the oversight of a "monitor". The procedure is likely to be restricted in practice to SMEs.
Liquidation (except for the solvent type), administration and the standalone moratorium require the company to be insolvent, tested on a current or near future inability to pay debts as they fall due or on a longer-term basis where the company's liabilities exceed its assets.
Receivership is a secured creditor's limited enforcement remedy.
Large financial restructurings are usually achieved without recourse to an insolvency filing, being implemented either consensually, by using a Companies Act cram-down mechanism or by using contractual powers under an intercreditor agreement, aligned with an enforcement sale.
The Companies Act 2006 contains two procedures for corporate restructuring: a scheme of arrangement; and a restructuring plan, as introduced by CIGA.
Although similar procedurally, only a restructuring plan may impose a solution on a dissenting class of creditors and its voting mechanics are simpler as there is no numerosity test. It is, however, new and its cross-class cram down provisions remain untested. Unlike a scheme, a debtor looking to use a restructuring plan must show it is experiencing, or likely to experience, financial difficulties and the purpose of the plan is to eliminate those difficulties. However, there is no requirement for a debtor to be formally insolvent to use the scheme or restructuring plan process.
English insolvency law operates along legal entity lines. There is no concept of a single group insolvency proceeding and limited scope for treating the assets of one group company as belonging to another group company.
Directors of English companies must comply with a range of statutory, common law and fiduciary duties, including a duty, where a company is facing financial difficulties, to have regard to the interests of creditors. This requirement is reinforced by statutory wrongful trading provisions, breach of which could lead to personal liability and/or disqualification. In particular, liability may arise if the court is satisfied that the director knew (or should have known) in pre-insolvency proceedings that the company had no reasonable prospect of avoiding going into insolvent liquidation or administration; and once that became clear, the director did not take every step to minimise the potential loss to creditors that they should have taken.
As a result of the Covid-19 pandemic, the Act provides that the Court should assume that a director was not guilty of wrongful trading during the period March 1 –September 30 2020. The blanket protection does not, however, extend to, among others, the directors of banks and insurance companies. Directors' other statutory and common law duties also continue to apply, so the relaxation is not as helpful as it appears at first glance.
Until recently, only suppliers of utilities, communications and IT-related services were affected by English insolvency law provisions imposing conditions and restrictions on a supplier's contractual rights on the customer's insolvency. CIGA has since introduced a provision applying to supplies of goods or services more generally. Taken together, insolvency practitioners now have broad powers to limit the terms suppliers can impose on insolvency and to restrict the exercise of existing termination rights. There are, however, limits to what the provisions can achieve in practice.
Filing for administration automatically gives rise to a broad stay preventing, for example, the commencement or continuation of legal proceedings or secured creditor enforcement action. The moratorium may only be lifted with the consent of the administrator or the court. It does not, however, apply to certain financial collateral arrangements.
After the expiry of the Brexit transition period, the position in the UK remains subject to final legislation
When a company enters the standalone moratorium procedure, the company benefits from a payment holiday for some "pre-moratorium debts" – although the company must continue to pay (among other amounts) scheduled finance repayments, rent for the period during the moratorium and employees. The company must also meet all new "moratorium debts" (for example, trading costs arising during the moratorium under a new supply contract). As well as a payment holiday, the procedure gives rise to restrictions similar to those found in the moratorium in administration.
There is a limited procedural stay in liquidation, but it does not prevent secured creditor enforcement. A CVA does not give rise to a stay, although the proposal voted on by creditors may provide for one.
The court has discretion to grant a temporary stay of creditor action where a scheme is being implemented and appears to have a reasonable chance of success with majority creditor support.
For large financial restructurings, financial creditors often contractually refrain from bringing disruptive action or agree to a temporary stay to assist stability during the negotiation of a consensual deal.
Priority, dissenters and asset sales
Insolvency expenses, which could include insolvency funding, rank ahead of (i) preferential debts (primarily, certain amounts owed to employees and, possibly from December 2020, certain amounts owed to HMRC); (ii) the 'prescribed part' (an amount, depending on the date of the charge but not exceeding £800,000, set aside from floating charge realisations to satisfy claims of unsecured creditors); and (iii) floating charge (but not fixed charge) claims and unsecured claims. In some circumstances, where a liquidation or administration follow an unsuccessful standalone moratorium, certain pre-moratorium debts and moratorium debts may take priority over the insolvency expenses.
A CVA can bind unsecured dissenting or non-voting creditors, but only a scheme or restructuring plan can bind secured claims. Creditors within a class may be crammed-down in a scheme and restructuring plan, but only in a restructuring plan – provided certain protective conditions are met – may the court sanction a plan notwithstanding the dissent of one or more classes (albeit a cross-class cram down is, at the date of writing, untested under English law).
A restructuring plan can in theory impose a solution on both creditors and shareholders without their consent. Notably, certain corporate provisions relating to pre-emption rights and allotment are disapplied in a restructuring plan which would seem to allow, for example, a debt for equity swap to be imposed without having to effect an enforcement sale/pre-pack.
A pre-pack sale is not a special type of insolvency procedure but generally refers to:
- a sale of the business and/or assets of an insolvent company (usually by an administrator);
- where the preparatory work (for example, identifying the purchaser, and negotiating the terms of the sale) takes place before appointment; and
- the sale is concluded almost immediately after appointment without court or creditor sanction, and often with little or no formal marketing of the business or assets being sold. Administrators must, however, be able to explain to the company's creditors why the insolvency sale was entered into.
In practice, a pre-pack to a secured creditor would usually involve the purchase by a SPV owned by the secured creditors. The consideration will likely involve a release and/or an assumption of all or some of the secured liabilities by the SPV (with the secured creditors, in effect, "bidding their debt").
It should be noted that modified insolvency regimes are typically found in the financial industry (such as the special resolution regime for banks) or the utilities, transport and health sectors. In some sectors or industries, special factors may become relevant in an insolvency situation, for example where the business operates in a highly regulated or politically sensitive area (for instance prisons, schools etc). The Act may also be modified in its application to certain types of company or bodies (partnerships or insurers), although they have no separate special insolvency regime as such.
Employees, pension trustees, government or regulatory bodies could all have an impact on the outcome of a restructuring depending on the situation and what is proposed.
The Act enables a liquidator or administrator to set-aside a range of pre-insolvency transactions, including transactions at an undervalue, preferences, extortionate credit transactions, certain floating charges and transactions defrauding creditors. The 'look-back' period during which transactions are at risk ranges from six months to two years depending on the circumstances. That may, in effect, be further extended by six months in certain compulsory liquidations based on winding-up petitions presented between April and September 2020 (this is a specific amendment).
The English court has the ability to wind-up a foreign debtor based on a "sufficient connection" test. It is not a particularly difficult threshold to satisfy, as there is no minimum asset requirement and being party to English governing law documents may suffice. However, during the Brexit transition period, the English court's insolvency jurisdiction is restricted by Regulation (EU) 2015/848 on Insolvency Proceedings (EIR). Where the EIR applies, jurisdiction and the recognition and effect of insolvency proceedings throughout the EU must be determined by the location of a debtor's centre of main interests (COMI) or the existence of an "establishment". COMI is the place where the debtor conducts the administration of its interests on a regular basis and which is ascertainable by third parties. For a corporation, there is a rebuttable presumption that its COMI is the place of its registered office. Ultimately, COMI is fact specific and is a more stringent test than "sufficient connection".
After the expiry of the Brexit transition period, the position in the UK remains subject to final legislation. As a starting point, the English court will be able to base jurisdiction on the simple "sufficient connection" test. While the EIR is expected to become retained UK law, the majority of its provisions will likely be repealed. Rather than restrict the English court's insolvency jurisdiction, the retained EIR will afford the English court the flexibility to base jurisdiction for the opening of English insolvency proceedings on a debtor's UK COMI/establishment. If jurisdiction were based on a UK COMI/establishment, rather than simply "sufficient connection", this could improve the chances of a UK insolvency process obtaining recognition in an EU27 state, for example.
In addition, it may be possible to commence insolvency proceedings by the provision of assistance under the three methods listed below.
Before the end of the Brexit transition period, the EIR will continue to apply in the UK as regards recognition of EU proceedings. The English courts may also assist in insolvency matters by way of:
- section 426 of the Act which enables the English court to give wide assistance to the courts of certain designated jurisdictions (mainly common law countries; they do not include the US), subject to judicial discretion;
- the Cross Border Insolvency Regulations 2006 (CBIR) which focus on the recognition of and co-operation between foreign insolvency proceedings, but unlike the EIR do not allocate insolvency jurisdiction; and
- the court's inherent power to recognise and grant assistance to foreign insolvency proceedings under the common law, although recent judicial authority has shown it is limited in scope.
Covid-19 and beyond
Insolvency levels (as at summer 2020) remain suppressed due to the various support measures taken by the UK government. On their expiry, however, a significant uptick in restructuring and insolvency situations is widely expected.
The UK Government has implemented a broad array of support measures in response to Covid-19. These include, for example: providing direct support to corporates through a range of targeted financing and asset purchase facilities; offering credit support schemes to encourage bank lending to both SMEs and larger corporates; creating a job retention scheme supporting the use of furlough by employers; various sector focussed stimulus packages; reducing HMRC enforcement activity; restricting the use of remedies available to commercial landlords; and temporarily easing account and other filing obligations.
The recent restructuring and insolvency reforms introduced by CIGA will need time to fully bed themselves in. There may also be further changes required as any practical issues arise owing to the speed with which the legislation was enacted. The new restructuring plan has the potential to offer a one-stop solution for large businesses seeking to effect a financial and operational restructuring and we expect jurisprudence to develop in this area.
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Rebecca Jarvis is Linklaters' global co-head of restructuring and insolvency. She has experience in all aspects of non-contentious reconstruction and insolvency work acting for banks, financial institutions, other creditors, corporate clients and insolvency practitioners in relation to recovery, reconstruction or distressed debt problems.
Jo Windsor has been working in the field of restructuring and insolvency for over 30 years, specialising in complex cross-border matters. He has been involved in the restructuring of companies in more than 30 different jurisdictions and is the author of many articles addressing specific issues relating to restructuring and insolvency.
Paul Sidle is a senior professional support lawyer at Linklaters. His focus is on English and international restructuring and insolvency, including the resolution of financial institutions.
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