Supply chain contracts: Are you up to speed with new insolvency rules?

Recent changes to insolvency law have had a major impact on supply chain contracts across the industry. John Warchus, takes a closer look at the practical steps firms can take to ensure their contracts are best protected.

To enable businesses to continue trading in these uncertain times, the government has introduced several measures to help firms steady the ship. One of these being the Corporate Insolvency and Governance Act (CIGA) which brings in a raft of changes to how insolvency cases are treated to help company directors manage financial instability.

These changes, while ultimately intended to support struggling firms, have a significant adverse impact on the organisations that supply them.

What are the changes?

Historically, subject to a few exceptions, suppliers have stopped delivering goods or services to a company that has entered an insolvency process, typically to gain leverage to get previous debts paid. But the new CIGA regulations stipulate that, once an insolvency process has started and until it formally ends, a supplier, big or small, cannot exercise any termination or other contractual term that arises due to insolvency. In addition, it cannot require any pre-insolvency debts to be paid as a condition for continued supply.

Supply contracts typically include a contractual right for a supplier to terminate the contract if the customer enters a state of financial distress. The new CIGA takes away this termination right and apply to any contract where the insolvency perioded started after 26 June 2020.

Lastly, suppliers are unable to exercise any termination right which arose prior to the insolvency process and are prevented from imposing other restrictions due to the insolvency

What should business do?

  • Know your customers. It’s vital that businesses are more vigilant than ever in monitoring the financial position of their customers to spot any signs of financial distress. Being prepared to terminate a contract early before any insolvency procedure begins can help to mitigate against the new CIGA.
  • Spot the small print. New termination rights that arise after the insolvency period begins , such as non-payment, are not restricted under the new rules. Therefore, it’s important that business ensure their contracts are watertight and up to date to reflect the changing landscape.
  • Think ahead. Drafting agreements so that each supply is a new contract, shortening invoice periods or requesting advance payments from customers can ensure that any insolvency event affecting a customer will have a less damaging effect on the supplier.

While the CIGA is intended to protect businesses in financial distress, it includes potentially harsh consequences for suppliers. In some cases, it may encourage them to trigger any contract termination rights sooner, to avoid being caught out once an insolvency period begins.

In all cases, the importance of having robust contracts in place, that give suppliers the get-out they need, cannot be overstated.

Article first published here.