Protecting the supply chain

The Corporate Insolvency and Governance Act has introduced new rules that mean suppliers can no longer rely on terms within their contracts that allow the termination of an agreement on the grounds of insolvency.

Under the previous insolvency rules, there were existing protections that ensured companies in financial difficulty could continue to access essential supplies, such as utilities, communications and IT supplies.

However, the new act has extended protection to almost all supplies of goods and services to companies in almost all insolvency proceedings.

The new Act, brought into protect businesses effected by COVID-19, ensures that the suppliers of goods and services are not only prevented from ending a contract due to a customer’s insolvency but cannot do so on the grounds that a business is about to become insolvent (sometimes referred to as a pre-insolvency breach in some contracts).

The aim of these new rules is to allow continuity of supply and encourage businesses to continue to trade with a long-term view towards recovery.

This new rule only applies to customers that enter a “relevant insolvency procedure” in the UK and do not affect customers who are looking to terminate an agreement with an insolvent supplier.

It has also been confirmed by the Government that the new rules do not generally affect leases, licences and sale agreements for land or property.

It is only where there is an element of provision for the supply of goods or services within such an agreement that the particular element would be subject to the prohibition.

The new rule also does not affect smaller suppliers until 30 March 2021, if they meet at least two of the following criteria in their most recent financial year: turnover no more than £10.2 million; balance sheet of no more than £5.1 million; and/or no more than 50 employees.

There are similar exemptions for businesses that have been trading for less than a year. Where a customer or the supplier is involved in financial services, they may also be exempt, including insurers, banks, investment firms, payment institutions and operators of payment systems. 

Despite the changes to the rules, suppliers are still encouraged to include rights to terminate on a customer’s contract, as it will allow suppliers to apply to the court or ask the officeholder for permission to terminate the contract if the customer does subsequently enter an insolvency procedure.

As these procedures cannot always be relied upon due to the new prohibitions in the act, suppliers should also include other provisions within new contracts that allow for a reduction in contract terms and payment methods, part payment in advance or the provision of financial information on a regular basis, such as management accounts.

Suppliers should also be more mindful of the signs of business failure such as late payments, as these may indicate that a customer is in trouble.

They must remember that they will no longer be able to terminate a contract for a pre-insolvency breach after a company has entered insolvency proceedings.

There are other steps that suppliers of insolvent businesses can take in light of these new rules. To find out how you can protect your clients’ businesses from the insolvency of others, please speak to our team today.