A glimpse into the ‘new normal’ for the insolvency industry

Guest blog by Simon Gerrard, Head of Insolvency at Prosperity Law

“Coming down the mountain is often the most dangerous”. This was Boris Johnson’s message to the British people, as the country begins to edge its way out of an historic lockdown. Whilst intended to urge caution in the interest of public health, this adage aptly applies to the terrain that many British businesses need to navigate to recommence trading to avoid going bust.

Thus far, the insolvency market within the UK has been relatively stable. The much anticipated ‘tsunami’ of insolvencies has yet to materialise. Fear of the worst has been replaced with a sense of admiration for the bulldog spirit of businesses that have been able to stay afloat in choppy waters. Which begs the question: should the economy be bracing itself for an increase in insolvencies as we come out of lockdown?

Relief to businesses

In an effort to combat the economic pressures on businesses, the government has introduced unheard of measures to offer relief in the form of government backed loans, deferring tax payments, business rate holidays, grants to the self-employed and, most notably, the furlough scheme. Who would ever have thought that a conservative government would have stepped in to pay the wages of the public? These initiatives are, unquestionably, helping many businesses to stave-off insolvency.

Relief has also been introduced in the form of the temporary suspension of wrongful trading for businesses affected by COVID-19, thereby alleviating personal liability for directors by continuing to trade through this rocky patch, as well as the fast-tracking the extension of moratoriums for additional classes of businesses which need to undergo a financial rescue or restructuring process. These added protections provide a degree of immunity to businesses (at least, for the short-term). With the reputational damage of the previous financial crisis still fresh, lenders are also adopting a more flexible approach to breaches of covenants – often agreeing to variations or simply looking the other way.

These measures and approaches are giving businesses a fighting chance, but is it merely a case of papering over the cracks?

How effective are these measures and what awaits us in the ‘new normal’

The harsh reality is that it is difficult to envisage a scenario where there is not going to be an increase in insolvencies and restructuring.

Many businesses may well look to the way workforce’s have adopted to working remotely and determine conditions are ripe to take advantage of efficiencies by adopting more permanent flexible working policies. Some retail businesses may not be prepared to fund their high-street shop fronts and move to an exclusive online trading platform. The airline industry may no longer be able to offer the outrageously cheap flights to Budapest and decide to scale back its less profitable routes.

These are but some of the questions that the industry will be facing as we enter the ‘new normal’.

The relief highlighted above is largely comprised of measures which either defer payment or involve additional borrowing. Therefore, businesses will need to hit the ground running in order to generate enough revenue to keep paying their general overheads and to repay money borrowed and/or payments deferred over the past 3 months. Equally, the furlough scheme, whilst innovative and welcomed by many, offers relief to only one overhead of businesses – typically representing close to 30% of expenses.

A fast start may, however, not be possible for many (in particular, the retail, private dental, leisure and tourism industries), and what shape the ‘new normal’ takes and changes in consumer trends remain unknown.

In the same way that the last financial crisis set the tone for the industry for the next decade, this latest crisis will throw up new issues for lawyers and insolvency practitioners to tackle. We envisage that there will be litigation to determine the proper application of the suspension of wrongful trading – does it apply to those businesses that were already failing before the virus struck? Is there a longstop date for when directors can no-longer rely on this exclusion? There will also be challenges in subjectively assessing the reasonableness or otherwise of directors in an unprecedented set of circumstances.

Wrongful trading claims are, however, a relatively uncommon type of litigation due to the high evidentiary bar – more likely, we will see COVID-19 flavoured issues involving more traditional, clearer to establish claims, such as preference payments, transactions at an undervalue, repayment of dividends and the recovery of directors’ loan accounts. There will also undoubtedly be scrutiny on the ways in which businesses distributed their finances, particularly monies introduced through the government’s business loan scheme.

Conclusion

Coming down the mountain will be a treacherous time for UK businesses. A slow start to the easing of lockdown and changes in societal and consumer trends in the ‘new normal’ could prove fatal to many businesses.

It remains to be seen as to whether the relief granted will be enough to see many businesses safely into the ‘new normal’, or whether it has been a case of papering over the cracks. It is, however, difficult to see anything other than increased activity in the insolvency market – but perhaps not quite as sharp or as soon as many predicted.

For legal advice on any insolvency related issue, please contact Simon Gerrard at [email protected]