A1 Moratoriums – a missed opportunity?
Since the Corporate Insolvency and Governance Act 2020 (CIGA) came into force in June 2020, it brought with it some of the biggest changes to insolvency law in the last 20 years.
One of the new procedures permanently introduced by CIGA into Part A1 of the Insolvency Act 1986 (the Act) is the ability for financially distressed companies to obtain a temporary moratorium from any enforcement action or insolvency proceedings in relation to certain debts that have fallen due (A1 Moratorium).
The A1 Moratorium is intended to provide a distressed company with some breathing space from creditor action whilst it attempts to formulate a rescue plan for the business.
However, despite the temporary modifications permitted during the pandemic to make it more available (now being extended to 30 September 2021) and the extraordinary impact that COVID-19 is continuing to have on the economy, recent reports from the Insolvency Service suggest that barely a handful of companies have filed for an A1 Moratorium since its introduction.
We recently advised the appointed Monitor for two of the few A1 Moratoriums that have been obtained – at the time that we did this, official figures confirmed that there had been only a handful of moratoriums applied for since CIGA was brought into law in June 2020.
So what explains the lack of interest or confidence in this new tool to help companies in distress?
On its surface, the A1 Moratorium appears to be an attractive tool for directors to consider, not least for the following reasons.
- It can be obtained swiftly and cheaply. The relevant documents which need to be filed (as set out at Section A6 of the Act) are straightforward, and the A1 Moratorium comes into force as soon as these documents are filed at Court. There is no Court Fee to be paid.
- It can (subject to certain conditions) be extended by a further 20 business days from the end of the initial period (also 20 business days) without the consent of the company's creditors or permission from the Court.
- In contrast to an Administration, the directors retain effective control over the company whilst the A1 Moratorium is in force, with a Monitor being appointed to review company's affairs throughout to ensure that they are satisfied that this will result in the rescue of the company as a going concern.
However, an A1 Moratorium does not provide a company with protection from all of its debts. Instead, the Act designates a number of "non-payment holiday pre-moratorium debts" which fall outside the scope of the A1 Moratorium. This includes any "debts or other liabilities arising under a contract or other instrument involving financial services" (Financial Debts) – effectively encompassing most forms of commercial lending.
In essence, this means that any company which is contemplating an A1 Moratorium needs to be aware that:
- this will not provide any protection from lenders (especially qualifying charge holders) who are still able to enforce a Financial Debt either before or during this period; and
- the very act of entering into an A1 Moratorium (which is still a formal insolvency process) could inadvertently trigger a default clause in a financial contract – meaning that a Financial Debt which was not otherwise due then becomes immediately payable and aggravates the company's distress.
The existence of a Financial Debt that is (or is about to become) due is not necessarily an insurmountable barrier to an A1 Moratorium, as a lender may be willing to restructure the Financial Debt, or at the very least agree to suspend any enforcement action for the short period of the proposed A1 Moratorium – particularly if it can be persuaded that this will increase the prospect of rescuing the business and the Financial Debt being repaid in full. However, any distressed companies should approach negotiations of this nature very carefully and ensure that a detailed review of any underlying contracts and an assessment of the potential merits of an A1 Moratorium (ideally with the proposed Monitor) takes place beforehand.
From the Monitor's perspective, the Act is lacking in any detailed guidance on how they should exercise their responsibilities, which is enormously problematic when they are required to certify that the objective of the A1 Moratorium can be achieved.
For example, Section A38 of the Act states that the Monitor must terminate the A1 Moratorium if, amongst other things, they think that the company is unable to pay any non-payment holiday pre-moratorium debts that have fallen due.
However, the question of whether a debt has fallen due is not always black and white – with disputes often arising between parties on this issue. The Monitor could then be faced with conflicting legal opinions from both sides – with the company expecting the Monitor to maintain the A1 Moratorium, and a creditor who is demanding that they terminate it.
In the absence of any guidance from the Act (or any legal precedent) on how the Monitor should deal with this issue, we consider it would be reasonable for the Monitor to accept the position taken by the company, providing that this is supported by credible legal advice from the company's advisors, which a Monitor can then refer to in support of its decision to allow the A1 Moratorium to continue (or be extended, as the case may be). However, if the Monitor is concerned that the company's position may be wrong/unsustainable (possibly because this cannot objectively be supported by the information which the directors have provided), then the Monitor may need to seek their own independent legal advice, the cost of which the company would be expected to bear.
Another alternative may be for the Monitor to apply to the Court for directions about the carrying out of their functions (as permitted under Section A37 of the Act), but again this neither a cheap or quick option, particularly in the context of an initial period which only lasts 20 business days.
A Monitor's decision whether to maintain or end a Moratorium could determine whether a creditor can push a company into another formal insolvency process, such as Administration. Given these decisions are open to challenge by the company's creditors (as well the company's directors and members), there is potential exposure for the Monitor on all sides if they cannot present a clear and credible audit trail to justify any decisions that are taken.
To minimise this risk, a Monitor should be:
- regularly assessing and recording the basis on which they have concluded that the A1 Moratorium can remain in force (or should be ended), quite possibly on a daily basis, depending on the specific underlying circumstances; and
- requesting all of the information from the company which they consider is necessary to carry out the above and all of its other functions under the Act (and making sure this information is provided).
Invariably, this will require an open and candid line of communication with the company's directors, which we recognise may be challenging given the financial pressure the company will already be under and that the directors' attention is likely to be focussed on formulating a viable rescue plan within a very short space of time.
Nevertheless, it is important that the company is made aware that:
- the Monitor is an officer of the Court, with the duty to act with integrity and independently from the company; and
- if the Monitor is unable to carry out their functions because the directors do not provide the information requested for this purpose, then the Monitor must bring the A1 Moratorium to an end under Section A38 of the Act.
As it stands, the undoubted potential for the A1 Moratorium to be a useful short term recovery tool for distressed companies is unfortunately limited by both its scope and the shortcomings in how the legislation has been drafted.
It is a half hearted remedy that is likely to remain largely irrelevant to distressed businesses unless the scope of the holiday payment provisions are extended to include the debts due to financial institutions.
Furthermore, the lack of clarity around the responsibility of the Monitor to assess the directors' representations about the financial position of the company to pay its debts has created enormous uncertainty and potentially creates a risk for any appointee. If they make the wrong call and the company loses significant value over the 20 or 40 day moratorium, creditors who suffer as a result will recognise that rather than pursuing an insolvent entity, the Monitor has insurance and therefore, would be a potential target for any claim.
Whilst government or Court guidance on this issue is much needed, the key question is whether the former is prepared to give the A1 Moratorium process teeth in the face of what will be vociferous opposition by lenders.
Unless and until these issues are addressed, it seems likely that the reluctance amongst companies and practitioners alike to follow this route will continue.