Legal warning on insolvent customers

The government recently introduced a number of schemes, incentives and legislation changes as it seeks to drag the economy out of recession. Although many were simple, some changes are more complicated, with far-reaching consequences for the unwary.

One significant change appears 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 new legislation applies to all contracts for the supply of goods and (non-financial) services, but only applies to suppliers, with customers free to terminate a contract if it is the supplier that becomes insolvent. 

There is also an interim exemption (until the end of September) for ‘small suppliers’. A contract for the supply of services would include a haulage contract, so logistics and haulage providers will be caught by this legislation.

This could be a tough situation for hauliers, who are also prevented from demanding outstanding charges be paid as a condition of continuing to provide services, which will go against what many will consider good business practice.

When is a customer insolvent?

Before considering what can be done, it is worth looking at what conditions must apply for a customer to be considered to have become insolvent.

• A Part A1 moratorium comes into force for the customer, offering a short ‘breathing space’ to consider whether a rescue is viable.
• The customer enters into administration.
• An administrative receiver is appointed to the customer.
• A voluntary arrangement takes effect in relation to the customer.
• The company goes into liquidation or a provisional liquidator is appointed to the customer.
• The company enters into a Part 26A restructuring plan.

Section 233B is not triggered where a customer enters into a scheme of arrangement or where a fixed charge receiver (as opposed to an administrative receiver) is appointed over the customer’s assets.

When does it not apply?

Nothing prevents a haulier from terminating a contract in the period leading up to the insolvency proceedings, or terminating after the insolvency proceedings began for a reason not triggered by those proceedings.

A haulier can also terminate its contract with the consent of the insolvency administrator or with the permission of the Court, typically if continuing to provide services would cause the haulier hardship.

If a customer enters a formal insolvency procedure, a haulier can wait for a new reason to end the contract, like non-payment for services made after the commencement of the insolvency. They may also be able to exercise other contractual rights, like contractual set-off and netting rights.

A haulier may, if its contract permits, be able to terminate for convenience, as long as supplies continue to be made during the notice period. 

If the existing contract is a single-purchase order (i.e. the contract is for a one-off delivery, as opposed to one for multiple deliveries over a period of time), the haulier can reject new orders from the customer.  This would also apply if the contract is structured as a framework agreement and each new order constitutes a separate contract.

Suppliers can also refuse to renew an existing contract once it has expired and can negotiate with the insolvency office-holder to agree an end to the contract.

Considerations for new contracts

In future, the contract a haulier relies on to regulate its relationship with customers, must change to protect their own business. A few considerations might include:

• Reduce the contract term to ensure the haulier is not locked into providing services to the customer for a considerable period in any insolvency procedure (although this must be balanced against the commercial objective of securing a long-term customer).
• Structuring the contract as a framework agreement, ensuring each delivery / load is treated as a separate contract, which allows the haulier to accept or decline orders.
• Tightening the payment structure which may serve as an early warning of customers experiencing financial problems before insolvency is triggered.
• Requiring regular financial information from customers to assess continued solvency, including credit ratings and performance reports.
• As an interim step falling short of termination, a haulier could consider including a provision allowing it to suspend further deliveries / loads under the contract for repeated or lengthy periods of non-payment by the customer. 
• Allow termination for convenience. Ensure that the haulier can terminate for convenience and include as short a notice period as makes commercial sense.

Choosing your customers wisely

There will be hauliers impacted by the legislation changes and in future, choosing customers wisely may slow growth, but could protect hauliers from the consequences of continuing to supply customers trading insolvently.

Conducting deeper due diligence on a customer’s financial position before agreeing contracts and monitoring payment performance, to get an earlier warning of any likely difficulties, is also advisable.

It will be prudent for hauliers to train those managing contracts on the impact of the changes and how to spot the warning signs, including ensuring invoices are paid on time and possibly tightening debt collection procedures.

Every haulier must understand its contractual rights and be ready to promptly exercise them to stop providing services or terminate the contract promptly if a customer starts showing clear signs of financial distress.

And finally, it makes sense to review standard terms and conditions to ensure they still protect the haulier against a customer’s insolvency, as far as possible. It makes sense to seek expert legal advice as small changes now, could save a lot of trouble in the future.

Lindsay Ellis is a partner and head of the commercial law team at Wright Hassall.

For more information, visit www.wrighthassall.co.uk