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The End may not be nigh: How the Corporate Insolvency and Governance Act 2020 limits the operation of JCT termination clauses
With effect from 26 June 2020, the Corporate Insolvency and Governance Act 2020 (CIGA) affects the ability of Contractors to terminate on grounds that the Employer has entered a formal insolvency procedure.
Here’s what you need to know:
Section 14(1) of CIGA inserts a new section 233B (Protection of supplies of goods and services: Great Britain) into the Insolvency Act 1986 (IA 1986).
This has significant implications for all existing contracts for the supply of goods and services in the construction industry, not just JCT contracts, as it will prevent many contractors, sub-contractors and suppliers from ending a contract where its “employer” is subject to any of the formal insolvency procedures set out in CIGA.
Termination by Employer
Under clause 8.5 of both JCT DB and SBC, the Employer may terminate the Contractor’s employment at any time if the Contractor becomes insolvent (as defined in clause 8.1).
From the date the Contractor becomes insolvent (whether or not the Contractor’s employment is terminated):
- No further payments fall due to the Contractor
- The Contractor’s obligation to perform the works is suspended
- The Employer may take steps to secure the site
These provisions are not affected by CIGA, though the JCT definition of insolvency does not include the two new insolvency processes introduced by CIGA designed to assist in the rescuing of financially distressed companies, namely:
- A statutory moratorium process
- A restructuring plan procedure
Therefore, without amending the definition of insolvency, the Employer would not be permitted to terminate the Contractor’s employment under the contract where either of these procedures apply.
Termination by Contractor
Under standard JCT drafting, the Contractor has a reciprocal right to terminate its employment where the Employer is insolvent (as defined in clause 8.1).
However, this right is ineffective under CIGA which provides that, if the Employer goes into a formal insolvency process, the Contractor is not entitled to terminate or cease supplying goods or services under the contract “or to do any other thing” simply because of the insolvency process.
Under new s.233B(3) of the IA 1986, any provisions that provide for this “cease to have effect”.
Therefore, if the Contractor wishes to terminate its employment it would have to consider the other options available to it, i.e. termination for Employer default under clause 8.9. Alternatively, CIGA does not appear to prevent a Contractor from exercising a common law right to terminate its employment under a JCT contract, though such steps should also be exercised with caution.
The Contractor’s ability to terminate under clause 8.9 of JCT SBC or DB may also be affected by CIGA. If the Contractor is contractually entitled to terminate before the Employer goes into a formal insolvency process because of an event occurring before the insolvency process, it cannot exercise that right to terminate after the Employer is in the insolvency process. The timing is therefore crucial.
In such circumstances, the Contractor would only be able to terminate:
- If the administrator, administrative receiver, liquidator or provisional liquidator appointed over the Employer agrees.
- Where the Employer is subject to a moratorium, a company voluntary arrangement (CVA) or a restructuring plan procedure, if the Employer agrees.
- The Court grants permission, being satisfied that the continuation of the contract would cause the Contractor “supplier hardship” (though this is not defined).
It’s worth noting that there is a temporary exclusion for small suppliers which lasts until 30 September 2020. Section 15 CIGA provides that section 233B IA1986 does not apply to suppliers where two or more of the following conditions applied at the time the Employer entered an insolvency process:
“Where the supplier is not in its first financial year at the relevant time, […] in relation to its most recent financial year—
- Condition 1: the supplier’s turnover was not more than £10.2 million;
- Condition 2: the supplier’s balance sheet total was not more than £5.1 million;
- Condition 3: the number of the supplier’s employees was not more than 50.”
There are further provisions for assessing the eligibility for small suppliers that are in their first financial year.
In either case, where a supplier continues to supply the Employer during an insolvency process, the supplier is prohibited from making it a condition of the continued supply that any outstanding payments must be brought up to date, so the supplier cannot hold the Employer to “ransom”.
Exercising rights of termination should always be exercised with extreme care, especially given the wide-reaching implications of CIGA. Incorrectly exercising termination procedures can result in repudiatory breach and a claim for damages. If in any doubt, always seek professional advice.