Insolvency court directions made to facilitate administrators' use of the UK Government's furlough scheme

                            Erica Arcudi, Trainee Solicitor

A court¹ has approached the interplay between the Insolvency Act 1986 and the Government's furlough scheme so as to encourage and support the rescue culture and facilitate access to the scheme by administrators. It ruled that:

• employees consenting only to be paid the capped amount provided under the scheme could receive no more than the capped amount; and
• their contracts would be "adopted" by the administrators, so as to make their salary capped on this basis payable on a priority basis, on the earlier of the date of an application under the scheme or when payments are made to the employee following the receipt by the company of the furlough grant.

Background and issues raised

In his judgment on 13 April 2020, Snowden J provided the administrators of a company with directions concerning the basis upon which administrators might place a large number of the employees of the company on "furlough" pursuant to the Government's proposed Coronavirus Job Retention Scheme (the "Scheme").

The company, which operated a chain of Italian restaurants, entered administration on 30 March 2020 following the closure of the restaurants in compliance with the restrictions imposed by the Government in an effort to reduce the spread of COVID-19.

The administrators' strategy was expressed to be to "mothball" the company's business and, having received several expressions of interest, to seek a sale of some or all of the business. It sought to retain its workforce, but since the company had no money with which to pay continuing wages, it could only do so if  it could take advantage of the Scheme.

The Scheme guidance² provides that it is available to companies in administration, but there must be a "reasonable likelihood of rehiring the workers", as might happen on a sale of the business. Soon after their appointment, the administrators had made an offer to place the employees on furlough pursuant to the Scheme and asked them to confirm that their pay would be reduced to the capped amount payable under the Scheme for the period of furlough leave and would only be paid if and when a grant was received.

Issues for the court's determination arose first, because the administrators sought assurance that the company's liability to employees had been limited by the variations proposed to their contracts, where they were accepted.  Further, under the Scheme, the Government will pay any grant monies to the employer and not to the employee, and such funds are to be treated on receipt as "income". It does not indicate however, whether the salaries of furloughed employees received by employers from the UK government under the Scheme will have priority in the insolvency.  The administrators needed to know that they could use the grant monies to pay employees as promised, before they took the step of applying for grants. 

In addition, the administrators sought clarity as to the point in time that the contracts of employment would be treated as having been adopted by the administrators, such that wages and salary would have super priority status in the administration³ (ie be payable in priority to the administrator's remuneration and expenses, which in turn have priority over the claims of floating charge creditors and unsecured creditors). This was against the backdrop that employees were not able to attend their place of work and, while furloughed, were not providing services to their employer.

The outcome

Mr Justice Snowden reached the view that the relevant provisions enabled payments of grant monies received under the Scheme to be made by the administrators directly to the employees on a priority basis. He stressed: "if it is possible to do so, Paragraph 99(5) should be interpreted to permit the Scheme to be given effect, and thus support the rescue culture and the Government’s efforts to deal with the economic consequences of the COVID-19 pandemic".

In giving the directions to the administrators, including those summarized below, he commented:

In the instant case, a conclusion that because furloughed employees could not provide services, their contracts of employment could not be adopted under Paragraph 99(5) would have the unwelcome result that the main statutory provision dealing with the issue of employment in administrations would have no application and would not enable furloughed wages or salary to be paid as the Scheme plainly envisages. That would be entirely contrary to the rescue culture in the current situation in which such an approach may be needed more than ever before.

Directions made⁴

These included that the administrators could act on the basis that:

• With regard to employees that consented to the variation, their terms of employment would be varied accordingly, the liability of the company limited to paying the capped amount once the grant was received and their contracts would be considered adopted upon the earlier of the administrators making those payments or an application under the Scheme.

   

• The contracts of the objecting employees will not either be varied or adopted by the administrators, but will be terminated and the employees in question will be made redundant;

   

• Non-responding employees, whom the administrators continued to seek to engage with, can still accept the offer in the variation letter prior to the expiry of 14 days into the administration, in which case they will stand in precisely the same position as the consenting employees; but if they accept after the 14 days into the administration, adoption will take place when the administrators make an application under the Scheme for them, or when they pay their capped wages.If these employees continue to not respond, their contract is unvaried until terminated, and their claims under those contractwill be unsecured claims in the administration.

The court also considered that bearing in mind the facts and terms of the communications with employees, the administrators are under a duty to make a claim under the Scheme only in relation to those employees that agreed to the offer, but subject to the overriding requirement to achieve a better outcome for creditors than on a liquidation and there being a reasonable likelihood of the employees being rehired following the period of furlough.

Further comments

A related issue was brought in front of an English court this week, where the administrators sought to argue that because the employees had already been put in furlough before administration began, their claim under the Scheme and subsequent payment to the employees of the government grant monies, would not be sufficient to constitute adoption for the purposes of paragraph 99 of Schedule B1 of the Insolvency Act.

The English court did not find this to be the case, as the judge thought it likely that the participation of the company in the Scheme and payment after 14 days period would amount to adoption. Judgment is reserved and expected to be handed down this week.  The Judge also reserved his decision on the administrators' application for permission to appeal.