Due to the ever-changing and volatile business environment which currently exists in England and Wales, corporate insolvency is a stark reality faced by many companies across various sectors.
The core corporate insolvency legislation is contained in the Insolvency Act 1986 (IA 1986). The IA 1986 does not define “insolvency” itself but rather embodies the concept in the phrase “unable to pay its debts”. Section 123 of the IA 1986 sets out when a company is deemed unable to pay its debts. The criteria include:
- Failing to comply with a statutory demand;
- Failing to pay a judgment debt;
- The court being satisfied that the company is unable to pay its debts as they fall due (the cash flow test); and/or
- The court being satisfied that the liabilities of the company (including contingent and prospective liabilities) exceed the assets of the company (the balance sheet test).
The onset of corporate insolvency can lead to formal procedures such as administration, liquidation, or company voluntary arrangements (CVAs), each with its own legal and procedural structure.
If a company becomes insolvent, legal professionals will be likely to play a vital role in relation to the insolvency - not just in relation to the need to provide advice in the run-up to a formal insolvency process to directors as to their personal position but in providing advice, assistance and protection to insolvency practitioners (IPs) and creditors, and in relation to the management of the insolvency process itself.
Key Functions of Legal Professionals
Solicitors and barristers specialising in insolvency and restructuring are critical in terms of advising, representing and guiding IPs, companies and stakeholders through what is often a complex and high-risk legal landscape. Their roles include:
Advising Directors on Duties and Risk
As soon as directors are aware that a company is in financial difficulty, they should seek external and independent advice.
Under section 172(3) of the Companies Act 2006 (CA 2006), company directors have a common law duty to consider and give appropriate weight to the interests of the company’s creditors in the context of an approaching insolvency (this is known as the creditor duty). The creditor duty, to act primarily in the interests of creditors rather than shareholders, comes to the fore when directors know or ought to know that either the company is insolvent or bordering on insolvency or where insolvency is imminent, or that an insolvent administration or liquidation is probable.
Legal professionals provide advice and guidance to directors to ensure they:
- Understand their fiduciary duties under the CA 2006;
- Try to avoid claims being brought against them under the IA 1986 and/or proceedings being commenced against them under the CA 2006 and/or the Company Directors Disqualification Act 1986 (CDDA 1986); and
- Maintain proper accounting and financial records and cooperate with IPs who are appointed over the companies in relation to which they are directors.
Navigating Formal Insolvency Procedures
Depending on the situation, legal professionals will often assist IPs in advising company directors, creditors and other stakeholders on the most appropriate formal insolvency route that a company should take, such as administration, creditors’ voluntary liquidation (CVL), compulsory liquidation, company voluntary arrangements (CVAs), receivership, schemes of arrangement or restructuring plans.
No matter which formal insolvency procedure is used, the role of the legal advisor is likely to include:
- Providing services which encompass advice and planning before a insolvency process is entered into, offering companies and their directors bespoke advice and guidance to help them to manage financial distress ahead of formal insolvency, supporting directors on their legal responsibilities and potential personal liabilities, ensuring directors navigate the complexities of a financially distressed company, which may include carrying out due diligence on the company’s liabilities, carrying out security reviews on existing or proposed secured loans and assessing the validity of the security in respect of any new lending in the face of a potential insolvency scenario.
- In connection with the appointment of IPs as office holders over a company, drafting all necessary legal documents required, depending on the insolvency process to be entered into.
- Ensuring procedural compliance in relation to the insolvency process(es) entered into.
- Liaising with all relevant parties including IPs, the company’s directors and shareholders, the court and creditors (depending upon the instructions and who they act for).
Acting for IPs
Legal professionals specialising in insolvency and restructuring often work closely with licensed IPs. IPs are individual(s) holding office, in relation to a company and, depending upon the formal insolvency process being used, as monitor, liquidator, provisional liquidator, administrator or administrative receiver or as a supervisor of a CVA. IPs have to be appropriately authorised to act as an IP under section 390A of the IA 1986. In the UK, IPs are usually qualified accountants.
Lawyers will assist IPs in:
- Drafting or reviewing their appointment documents, depending upon the relevant insolvency process to be entered into;
- Advising on the legality of any proposed business and asset sales and drafting the necessary legal documents, such as an asset sale agreement and other relevant ancillary documents;
- Carrying out security reviews on existing secured loans to establish their validity and enforceability in relation to the relevant insolvency scenario; and
- Providing advice on, and acting on the pursuit of, antecedent transaction claims. When a company has entered a formal insolvency process such as administration or liquidation, certain transactions that were entered into by the company before the commencement of the formal insolvency may be challenged under the provisions of the IA 1986. These are collectively known as antecedent or reviewable transactions. Antecedent transactions include transactions at an undervalue, preference payments, extortionate credit transactions, the avoidance of floating charges and transactions defrauding creditors.
Asset Recovery and Litigation
A critical aspect of corporate insolvency in England and Wales is where an IP investigates the conduct of directors and the company’s transactions before the formal insolvency occurs. Depending upon the outcome of the IPs investigations, legal professionals may be called upon to initiate or defend claims, which may be essential in enabling the recovery of assets for the benefit of the company’s creditors, including:
- Wrongful trading under sections 214 and 246ZB of the IA 1986. Once a director or shadow director of a company concludes (or should have concluded) that there is no reasonable prospect of the company avoiding an insolvent liquidation or administration, they have a duty to take every step that a reasonably diligent person would take to minimise potential loss to the company’s creditors. If, after the company has gone into insolvent liquidation or administration, it appears to the court that a director or shadow director has failed to comply with this duty, the court can order them to make a personal contribution to the company’s assets.
- Fraudulent trading under sections 213 and 246ZA of the IA 1986. Where, during the course of the liquidation or administration of a company, it appears that any business of the company has been carried on with the intent to defraud creditors of the company, a fraudulent trading claim can be brought against those who were knowingly parties to the carrying on of the business in such a manner. Similar to wrongful trading, the court can make an order that any person guilty of fraudulent trading must make a personal contribution to the company’s assets.
- Antecedent transactions (please see section above).
- Director misfeasance under section 212 of the IA 1986. If, in the course of the winding up of a company, it appears that a present or former director has misapplied or retained, or become accountable for, any money or other property of the company, or been guilty of any misfeasance or breach of any fiduciary or other duty, the court may order the director to repay, restore or account for the money or property with interest or contribute such sum to the company's assets by way of compensation as the court thinks just.
Another potentially relevant area of focus for proceedings brought in relation to a corporate insolvency is in connection to director disqualification under the CDDA 1986. Under the CDDA 1986, a court may make a disqualification order against a person that the person shall not, without leave of the court, be a director of a company or in any way, whether directly or indirectly, be concerned or take part in the promotion, formation or management of a company for a specified period beginning with the date of the order.
“Director” is widely defined to include any person occupying the position of director, so it does not just apply to directors named at Companies House. The grounds for disqualification include general misconduct, unfitness, tax avoidance and competition infringements.
The court can also make a compensation order that the director must make a personal contribution to the company’s assets as a result of their conduct.
Advising Creditors
Legal professionals often act for creditors seeking to recover debts from companies or to participate in any formal insolvency process that results. The work carried out includes:
- Petitioning for a winding-up order in court;
- Advising on the powers of the IP dealing with the insolvency process;
- Assessing the recoverability of the debt owed to the creditor;
- Ascertaining what information creditors are entitled to from the IP;
- Advising on the formation of a creditors’ committee;
- Advising on and, if appropriate, challenging the basis and amount of the IP’s remuneration;
- Advising on and, if appropriate, challenging the IP’s handling of the matter; and
- Advising on and assisting with proof of debt procedures.
Having access to the appropriate legal expertise ensures that creditor rights are protected and pursued appropriately in order to maximise any return for creditors.
Conclusion
Given the challenges currently faced by many companies in England and Wales, the risks of not seeking timely professional advice have never been more apparent. Financial distress and insolvency can be very stressful to navigate and can present difficult scenarios for all involved in the management of a company. However, by seeking timely professional advice and experienced guidance, both companies and their directors may be able to successfully navigate the issues they are facing and can often find a positive solution to what may seem an intractable situation. Expert insolvency and restructuring legal professionals will almost always play a key part in this process.
Author Biography
Vicky Biggs - Legal Director in the Insolvency Team and Restructuring Team at Myerson Solicitors.
Vicky Biggs, Legal Director at Myerson, specialises in contentious insolvency, advising insolvency practitioners, directors, and individuals on complex corporate and personal insolvency matters, leveraging over a decade of high-level commercial litigation experience.
Vicky’s LinkedIn - https://www.linkedin.com/in/vickybiggs/
Myerson Solicitor’s LinkedIn - https://www.linkedin.com/company/myersonsolicitors/
Myerson Solicitor’s Website - https://www.myerson.co.uk/
