Court of Appeal decision increases vulnerability for suppliers

A Court of Appeal decision has increased vulnerability for suppliers in respect of payments received from companies in financial difficulties.

Upon the making of a winding-up Order (“WUO”) by the Court, any payment or transfer of assets made by a company in the period between the date of presentation of the winding-up petition (“WUP”) and the date of the WUO is automatically void pursuant to Section 127(1) of the Insolvency Act 1986 (“IA86”) unless validated by the Court. Accordingly, suppliers in receipt of such payments are at risk of a recovery action by the company’s liquidator. A supplier’s lack of awareness of the WUP is, of itself, insufficient to afford them protection.

The underlying purpose of Section 127 IA86 is to preserve the assets of the company for the benefit of its creditors and to ensure that all creditors within a class are treated equally (the pari passu principle). Suppliers therefore face potential difficulties where they have received payment in the relevant period only to discover after the event that the payment made to them by the company is void.

It is open to a company (against which a WUP has been presented) and/or to any interested party to a transaction with such a company (for example a supplier) to apply to Court for an Order validating the transaction, either prospectively or retrospectively, in relation to any given transaction.

Until recently case law had been generally interpreted to the effect that the Court would retrospectively validate payments made by a company in good faith, in the ordinary course of business and at a time when the parties were unaware that a WUP had been presented. However, the Court of Appeal has recently made clear in its decision in Express Electrical Distributors Ltd v Beavis and Others [2016] EWCA Civ 765, that Section 127 IA86 offers no statutory protection for third parties such as suppliers.

The Court of Appeal held that, save in exceptional circumstances, a retrospective validation Order should only be made where the relevant transaction is for the benefit of the general body of creditors, for example, by enabling the company to obtain the supply of goods without which the company could not have completed a profitable contract. Accordingly, it appears likely that, even if payments are made by a company in good faith, in the ordinary course of business and at a time when the parties are unaware that a WUP has been presented, the Court will need to be satisfied that there are special circumstances which justify overriding the pari passu principle.

John Bradshaw is a partner and head of the Business Services department at Barker Gotelee Solicitors.

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