Government says you must continue to supply insolvent customers

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As it attempts to re-start the economy in the post-COVID era, the government introduced a number of legislation changes earlier this year, with one of the most significant appearing in Section 233B of the Insolvency Act 1986 (introduced by the recent Corporate Insolvency and Governance Act).

The change now prevents a business from terminating supply to a customer on the grounds the customer has become insolvent. The new legislation applies to all contracts for the supply of goods and (non-financial) services, but only applies to suppliers.

However, customers are still able to terminate a contract if it is one of their suppliers that becomes insolvent. The situation for suppliers could be difficult, as they are also now prevented from demanding outstanding charges are paid, as a condition of continuing to supply, which for many will fly in the face of good business practice.

 

When is a customer insolvent?

First it is worth considering what conditions must apply for a customer to be considered to have become insolvent.

  • A Part A1 moratorium comes into force to offer a short ‘breathing space’ to consider whether a rescue of the company is viable.
  • The company enters into administration.
  • An administrative receiver is appointed to the company.
  • A voluntary arrangement takes effect in relation to the company.
  • The company goes into liquidation or a provisional liquidator is appointed to the company.
  • The company enters into a Part 26A restructuring plan.

Section 233B is not triggered if a company enters into a scheme of arrangement or where a fixed charge receiver (as opposed to an administrative receiver) is appointed over the company’s assets.

 

When does it not apply?

Nothing prevents a supplier from terminating a contract in the period leading up to the insolvency proceedings or terminating after the insolvency proceeding began for a reason not triggered by that proceeding. A supplier can also terminate their contract with the consent of the insolvency administrator or with the permission of the Court, typically if continuing to supply would cause the supplier hardship.

If a customer enters a formal insolvency procedure, a supplier can wait for a new reason to end the contract, like non-payment for supplies made after the commencement of the insolvency. They may also be able to exercise other contractual rights, like contractual set-off and netting rights. A supplier may, if its contract permits, terminate for convenience, as long as supplies continue to be made during the notice period.

If the existing contract is a single-purchase order, the supplier may reject new orders from the customer, particularly when the contract is structured as a framework agreement and each new order constitutes a separate contract. Suppliers can also refuse to renew an existing contract once it has expired and can negotiate with the insolvency office-holder to agree an end to the contract.

 

Look to future contracts

Your contract regulates your relationship with your customers and in light of the legislation change, a few considerations for your future contracts might include:

  • Reducing the contract term to ensure you do not have to supply a customer for a considerable period in any insolvency procedure.
  • Structuring the contract as a framework agreement, so each supply is treated as a separate contract, allowing you to accept or decline orders.
  • Tightening your payment processes which might warn you when customers experience financial problems before insolvency is triggered.
  • Requiring regular financial information from customers to assess continued solvency
  • A provision allowing you to suspend further supplies under the contract for repeated or lengthy periods of non-payment by the customer, which falls short of termination.
  • Allow termination for convenience and include as short a notice period as makes commercial sense.

 

Not all business is good business

The legislation changes are likely to impact many suppliers and in future it may become more important to choose good business over all business to protect suppliers from the consequences of continuing to supply customers that are trading insolvently.

Digging deeper into a customer’s financial position before agreeing contracts will be advisable, as will monitoring their payment performance, to try and pick up on any difficulties a customer might be starting to get into.

Suppliers should train those managing contracts about the changes, their impact on the business and the warning signs to look out for, like longer payment times.

It is critical that suppliers understand their contractual rights and are ready to exercise them to stop supply or terminate the contract promptly, should a customer show signs of financial distress.

Reviewing standard terms and conditions to ensure they still protect the supplier against a customer’s insolvency, as far as possible, is a wise move. For peace of mind, seek expert legal advice before any problems have arisen, as small changes now, could save a lot of trouble in the future.

 

About the author: Lindsay Ellis is a partner and heads the Commercial Law team at Wright Hassall. He advises on outsourcing, procurement and commercial contracts, across a diverse number of sectors including: technology, transport/logistics, public, automotive, engineering (including aviation) and retail.

About the firm: Wright Hassall is a top-ranked firm of solicitors based in Warwickshire, providing legal services including: corporate law; commercial law; litigation and dispute resolution; employment law and property law. The firm also advises on contentious probate, business immigration, debt recovery, employee incentives, information governance, professional negligence and private client matters.