Report: Avoiding insolvency in midst of crisis

Report: Avoiding insolvency in midst of crisis

Insolvency has become a major threat across most UK markets, as businesses scramble for ways to avoid getting sucked under

As the entire world enters an economic downturn that can be classified as ‘once in a lifetime’ due to a once in a century pandemic, the UK government is attempting to keep the number of insolvencies to a minimum while companies across the country look to heal creaking cash flows.

The raft of measures outlined and implemented by Westminster – including paying large chunks of salaries, providing loan assistance and implementing rent and tax holidays have companies rushing to the front of the queue to apply: over 140,000 applied for the Coronavirus Job Retention Scheme (CJRS) on its first day.  But much more is being done.

“Businesses are asking about the Coronavirus Business Interruption Loan Scheme (CBILS), protective measures such as CVAs to help spread the payment of bills over a longer period and also guidance on the workings of the furlough procedure”, says Paul Reeves, managing director of global restructuring advisory at Duff & Phelps.

CBILS, which went live on March 23 provides businesses with turnover of no more than £45m to a loan of up to £5m for up to six years with the government paying the interest on loans for the first 12 months and guaranteeing 80 percent of each loan. Announced hastily, businesses and commentators said many details were lacking, forcing the government to bring clarity to a number of policies. They have continued to provide additional guidance on requirements and expanding lenders to include challenger banks.

Likewise, the CJRS, in which the government pays 80 percent of furloughed employees’ salaries (up to £2,500 a month) has also seen further expansion, in which the self-employed have become eligible and requirements of employment time loosened.

While these government schemes will help businesses with a cash injection, Blair Nimmo, UK head of restructuring and global head of insolvency at KPMG says it is essential businesses make immediate cost-saving measures.

“All the advice we’re giving businesses is to improve cash forecasting, cash preservation, taking costs out of business and to maximise their cash position over this period.”

“Most businesses recognised that themselves from the early days and they’ve taken all the sensible measures. Of course, the next stage was the government support schemes which were announced. Businesses wanted to understand as much about that as possible. We’ve helped clients interpret how these schemes work, how they access them, and how they access the cash.”

Businesses have had to take drastic measures in order to survive under the current circumstances. 25 percent have temporarily stopped trading and of those still operating 41 percent have temporarily reduced staff, according to the Office of National Statistics.

Meanwhile, the government has put forth billions of pounds to support businesses through the lockdown but much of the funding has still not made its way into businesses’ hands. According to the government, only 1.4 percent of 300,000 firms have had their CBILS loan approved, while the furlough scheme has only opened for application this week.

One immediate step that a business can take right now is to try to negotiate with its creditors, with many doing just that, says Jo Windsor, corporate recovery and insolvency partner at Linklaters.

“We see companies looking at deferring rental payments and there is evidence in the market that people have just not been paying rent to get that liquidity together. We are also seeing businesses who are modelling to see if they can get liquidity together through switching off bank interest, deferring bank interest payments, or through a payment in kind basis”, he says.

“Essentially, it’s a mixture of: ‘Can I borrow? And if I can’t borrow, can I get liquidity from other sources?’ Part of that operation comes from what’s available from the government. But what we’ve seen initially is a kind of business self-help exercise”.

Wrongful trading

Government measures have not been limited to financial support but include regulatory changes to insolvency as well. On March 28, for example, the government announced it is looking to suspend the wrongful trading provision. Stuart Evans, head of commercial ligation at BLM says the move to suspend wrongful trading is in part to help inspire confidence in directors that they should be doing all that they can to try to save their business.

“I don’t think this is a free pass for businesses to hang around for six months to see how they come through it all,” he says. “Fundamentally, it’s not going to revive the business that’s already in the mire. I think the court is going to give some more latitude to directors as a result of all this, but it’s not going to give them a complete pass.”

The suspension of the rule does leave room for abuse by less scrupulous directors, says Evans. But for most recovery and insolvency specialists, the proposed changes have done little to change how they are advising their clients.

“There is a messaging issue that needs to be made clear that [suspending] wrongful trading is meant to ease the pressure on a reasonable director doing the right thing and that is not carte blanche for anyone to run through”, says Windsor.

“When I’m personally advising a director, my advice to them will not be significantly different as a result of the [wrongful trading] suspension. The things they should be doing, having regard to looking at expenditure critically, considering the interests of that creditors, they all remain equally valid today, as they were before”.


“Pushing pause”

One sector that has been hit particularly hard is construction. Given travel restrictions, the industry faces significant hardship, but government measures have effectively ‘paused’ widespread insolvencies, says Ben Harwood, asset recovery director at Naismiths. “The new government measures have meant that no business is really going to go into insolvency within the next three or four months”.

“If a business was already experiencing difficulties these new measures have meant that they’ve actually been given a lifeline for a few months. But in reality, what’s going to happen is those businesses are just about to fall over got a little bit further down the line instead, if they were struggling before, what this has done is delayed their issues.”

Even before coronavirus, construction was already an industry where insolvencies were growing. In the 12 months ending Q4 2019, according to The Insolvency Service, the construction sector had the highest number of insolvencies in England and Wales out of the major sectors tracked. Over 3,000 construction businesses became insolvent in 2019.

Harwood says some businesses are using the government support measures to continue trading despite their precarious situation.

“All of the jobs which we had, which were either going to be potential insolvencies coming up, or jobs that we were already working on, have now either stopped or been delayed.”

Unlike other hard hit sectors like retail and hospitality, most construction sites remain open since there is no government guidelines to the contrary. Harwood estimates that only around 20 percent of sites have closed, but warns that while the construction sector is still operating, it does not operate in a bubble and expects problems within weeks.

Harwood is advising clients on a difficult question: whether to stay open or mothball.

“What we’re trying to advise businesses or specific sites is to try and understand where this is going to leave them. It could be that the right course of action is actually to close the site and to furlough staff. Or it could be that the right course is to carry on because you’ve got enough stock and products ready to be utilised.

Most creditors Harwood has dealt with have been fairly understanding and that for now, most are willing to defer payments. “Right now, as an industry, we’re being very nice to each other in terms of [debt collection]. Everybody is saying, ‘No, no, it’s okay’. That we are all in this together and we will need to work around the disruption.”

In general, most creditors acknowledge that asking their debtors for payment may put them in an impossible position – and in the long term, could be detrimental to their own business. “I think for the most part, companies and the creditors have been behaving sensibly about it, clearly [creditors] have to protect themselves, they’ve got to try to collect their debts”, says Nimmo.

“If [a creditor] tries and petitions for a business’s winding up. I don’t think that’s going to be terribly helpful to the either business or the collection of the debt”.


Coming out on the other side

The general consensus is that measures implemented by the government will help keep most businesses afloat for the foreseeable future. However, it is also becoming increasingly clear that economic activity will not pick up immediately as governments around the world are only slowly easing social distancing measures and that a return to normalcy may be months away.

Therefore, it is important to look at how the government supports the private sector where and when the UK leaves its state of lockdown. House of Lords Peer, Lord Howard Leigh says there are other areas the government should consider.

“I would like to see the government go further to help small and medium businesses by introducing a temporary PAYE/NI waiver scheme, or at the very least a deferment for a set period of time.”

He also believes that the requirements for employees to be put onto the furlough scheme are unnecessarily restrictive and counterproductive.

“The concern with the existing furlough scheme is that it forces employers to effectively tell employees to do nothing, when in fact we need to do the opposite and stop wasting valuable resources and productivity at this critical juncture.

He added that business support measures should not be limited to existing businesses and he hopes the government will provide additional tax relief for start-ups as well.

“I certainly think that the current Enterprise Investment and Seed Enterprise Investment schemes should be widened to give 50-60 percent tax relief on equity investment. This will give SME businesses extra breathing space by broadening their scope to raise funds from friends and family during the start-up process.”

Measures like VAT deferment and the job retention scheme are slated to end in June, and among insolvency practitioners there is agreement that a tapering off of support schemes is needed.

Reeves of Duff & Phelps warns that the biggest risk period for businesses is when the economy begins to reopen.

“[The relaxation of lockdown measures] may be the riskiest for any business as the economy restarts and suppliers are more likely to want early repayment as they battle their own issues.”

In order to prevent a spike in insolvency come the summer months, he says a hold should be placed on winding up petitions.

“A moratorium on the ability of creditors to petition for the winding up of a business but with directors’ liability returning to include wrongful trading. This should provide conscientious directors some breathing space to enable them to restart their own business.”

Nimmo says it will be important to watch how the job retention scheme in particular is ended.

“On the CJRS, it will be interesting to see if they have a phased out tapered arrangement,” he says. “If so, how does the government monitor and protect themselves from people who may use it for the wrong reasons?”

“Some Chinese firms have reported a very quick return to normal and have an optimistic view for the future. Whether that plays out in the medium term and whether that’s replicated in other countries like the UK remains to be seen. At this moment, I’m a little bit sceptical on that, but we’ll see what actually happens,” says Nimmo.


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