Take Care When Supplying Insolvent Customers

The Coronavirus (COVID-19) pandemic has presented the care sector with perhaps the greatest challenge it has faced and despite the Government’s promise of enhanced support, it may come too late, with dwindling occupancy rates driving many care homes to the edge of insolvency.

The Government is trying to kick-start the economy and has introduced a number of legislation changes it hopes will improve the economic performance of the UK, or at least prevent it from becoming even worse.

One such change comes in Section 233B of the Insolvency Act 1986 (introduced by the recent Corporate Insolvency and Governance Act), which now prevents a business from terminating supply to a customer on the grounds the customer has become insolvent.

The legislation applies to all contracts for the supply of goods and (non-financial) services, but only applies to suppliers; customers can terminate a contract if a supplier becomes insolvent. There is also an interim exemption (until the end of September) for “small suppliers”.

WHEN CAN A SUPPLIER TERMINATE A CONTRACT

A supplier can terminate a contract in the period leading up to the insolvency proceedings, or terminate after the insolvency proceeding began, for a reason not triggered by that proceeding.

They can also terminate a supply contract with the consent of the insolvency administrator or with the permission of the Court, arguing that 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 sup- plies made after the commencement of the insolvency.

They may also be able to exercise other contractual rights, like contractual set-off and netting rights. If the contract permits, a supplier may be able to terminate for convenience, as long as supplies continue to be made during the notice period.

If the contract in place is a single-purchase order, suppliers can refuse new orders, particularly if the contract is structured as a frame- work agreement, when each new order constitutes a separate contract. Suppliers can also refuse to renew an existing contract once it has expired.

STRUCTURE NEW CONTRACTS CAREFULLY

Future supply contracts will be very different having been shaped by the new legislation and suppliers should consider the following:

• Reducing the contract term to ensure they are not tied into supplying the customer for a considerable period in any insolvency procedure – which must be balanced with commercial objective of securing long-term customers.

• Structuring contracts as framework agreements, with each supply treat- ed as a separate contract, which allows the supplier to accept or refuse new orders.

• Tightening the payment structure to provide an early warning of customers experiencing financial problems, before insolvency is triggered.

• Requiring regular financial information from customers to assess continued solvency.

• Falling short of termination, a supplier might include a provision allowing it to suspend further supplies under the contract, for repeated or lengthy periods of non-payment.

• Allowing termination for convenience, including as short a notice period as makes commercial sense.

WORK SMARTER NOT HARDER

Many suppliers will feel the impact of the legislation changes and will need to be more selective when agreeing supply contracts, as they attempt to protect themselves from the potential consequences of continuing to supply customers trading insolvently.

It will be advisable to undertake deeper due diligence on a customer’s financial position before agreeing contracts and keeping a close eye on payment performance to get an earlier warning of any likely difficulties.

Suppliers should train account managers to spot the warning signs, including ensuring invoices are paid on time and possibly tightening debt collection procedures.

Every supplier must understand its contractual rights and be ready to promptly exercise them to stop supply or terminate the contract promptly should a customer show signs of financial distress.

It also makes sense to review standard terms and conditions to ensure they still protect the supplier against a customer’s insolvency, as far as possible. And it makes sense to seek expert legal advice 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.