Terminating supply contracts – new client insolvency legislation

New client insolvency legislation recently introduced may have a significant impact on the ability of a recruitment business to terminate its supply of staff on the grounds of a client starting an insolvency process. The new rules contained in the Corporate Insolvency and Governance Act 2020 (CIGA) mean that contractual clauses in supply contracts that allow for termination upon insolvency of the customer will, except in exceptional circumstances, be unenforceable. In light of this what can employment businesses do in the event that they are supplying workers to a hirer who is in financial trouble or is in insolvency?

Where employment businesses supply their services to client/hirers who run into financial trouble, this will often send alarm bells ringing. The employment business must make a decision regarding the risks of continuing to supply temporary workers and contractors to a hirer where there is a high risk that the hirer may not be in a position to pay for those services, often leaving the employment business with the liability of the workers’ wages. In many cases, this liability could leave the employment business dangerously exposed.

Up until recently, an employment business could normally rely on termination clauses in agreements with hirers which allowed for immediate termination in the event of the hirers insolvency. However, provisions in the CIGA means that, in respect of any business that commences a relevant insolvency procedure on or after 26th June 2020, a supplier is prevented from terminating that supply or doing ‘any other thing’, such as amending payment terms, as a result of the customers insolvency. Suppliers are also prevented from terminating supply for contractual breaches that occurred prior to the insolvency or making supply conditional upon pre-insolvency arrears being paid. Termination will only be possible if it arises as a result of new breaches after the insolvency, with the agreement of the administrator or director, or where the court decides that continuation of supply would cause undue hardship. Small suppliers are also exempted until the 30th September. Therefore, once a client has entered into a formal insolvency process a business may find it difficult to terminate supply.

Whilst CIGA is aimed at ensuring that companies entering into insolvency processes will have a better chance of being able to trade their way out of trouble, it also leaves employment businesses in the situation where they may have to continue supply to a client that may not be in a position to pay. So what can an employment businesses do to limit their liability? In the first instance it is advisable to retain insolvency termination clauses in agreements, as they may want to apply to a court for permission. Acting swiftly will also be essential. The new provision in the CIGA do not prevent a supply from being terminated prior to the client entering into a relevant insolvency procedure, such as circumstances where the customer gives notice that they intend to appoint an administrator, rather than on the appointment itself. Robust commercial contracts will offer protection by allowing for termination in the event of late payment or a suspicion of cash flow or other damaging issues arising.

The new rules mean that carrying out financial due diligence on hirers is even more important, particularly where there are extended payment terms. Also keeping on top of credit control takes on added importance, keeping a tight rein on late payers will ensure not only that arrears of payments are minimised but also makes it more likely that customers in difficulty are spotted and action can be take prior to formal insolvency procedures being entered into and the moratorium period being triggered.

Lawspeed can assist with any contractual queries, disputes, unpaid fees, or making sure that your contracts offer you the best possible protection. Contact us on 01273 236 236 or [email protected] for assistance.

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