Managing the Carillion meltdown

Ed Husband, partner at law firm VWV specialising in litigation and recovery, spoke to about some of the legal ramifications of Carillion’s demise.

Carillion, the UK’s second largest construction business, has gone into compulsory liquidation following unsuccessful talks to agree a rescue package between it, its lenders and the government.


Its failure followed the loss of vast sums of money on big contracts and accumulated debts of over £1.5bn, including a £587m pension shortfall and £900m owed to RBS, Barclays, HSBC, Lloyds and Santander.


Given the scale and manner of Carillion’s operation, the formal liquidation will have a significant impact on a number of stakeholders, including its employees, suppliers and sub-contractors (as well as government departments for which Carillion provided services in a wide range of sectors). The question that many will be asking is what should they do to limit the financial fall out from Carillion’s failure?


The process of liquidation

Liquidation (also known as winding up) is a procedure by which the assets of a (usually) insolvent company are realised and distributed to creditors in satisfaction of debts they are owed in the order of priority as set out in the primary piece of insolvency legislation, the Insolvency Act 1986.


Unfortunately, it is common for ordinary trade creditors or suppliers to be ranked as unsecured creditors and to be last in line for any pay out – this heightens the need for prompt action.


A company can be wound up compulsorily or voluntarily, and will be subject to the control of a liquidator.


Compulsory liquidation is a court-based procedure and occurs when a court orders that the company should go into liquidation. A company is usually placed into compulsory liquidation following a petition presented by one of its creditors, although the company itself or its directors may also present a petition. The court will normally make a winding-up order if satisfied that the company is unable to pay its debts.


Carillion has gone into compulsory liquidation. It is relatively unusual for a group of Carillion’s scale to enter into liquidation rather than administration which is the more commonly used procedure when seeking to rescue large groups of companies. It seems likely that this is primarily due to the strategic significance of Carillion and the need for government intervention in the wide range of public projects with which it is involved, but this may also reflect the limited likelihood of the Carillion businesses being successfully rescued.


Which Carillion companies are affected?

It is important to check whether your contract is with one of the Carillion companies that has entered liquidation. At this early stage, the Insolvency Service is reporting that Carillion Plc and a number of its subsidiary companies have entered into liquidation. Further details will no doubt become available shortly.


Effect on third parties

The scale of this liquidation is sending shockwaves among the private and public sectors and the ripple effect of Carillion’s failure is likely to have a significant impact on the many businesses and individuals connected to it, whether directly or indirectly.


It is clear that the ramifications will be felt far and wide, not just in the construction industry but among others providing goods and services to Carillion and its subsidiaries – from its employees and hundreds of sub-contractors through to individual trades such as plumbers and electricians, and in sectors such as education, recruitment and catering.


For many sub-contractors and suppliers, a contract with Carillion will have been, if not their largest, then certainly one of their most significant sources of revenue. With those contracts at risk, these businesses face an uncertain and potentially catastrophic future. This also means that directors of companies providing services need to understand their personal duties (and potential liabilities) in the face of their company’s resulting financial difficulties.

What can sub-contractors/suppliers do?

Sub-contractors and suppliers to Carillion will most probably be left in the unenviable position of being owed substantial debts (for which they must claim in the liquidation as creditors and are likely to receive very little or nothing at all by way of a dividend) and a loss of future revenue. At the same time, any recourse normally available to them against a solvent company is unlikely to be appropriate or legally possible.


While compulsory liquidation does not prevent a secured creditor enforcing its security, existing legal proceedings are suspended and a creditor cannot begin new legal proceedings against the company unless it has permission to do so from the court. Enforcement options are limited.


Set-off is provided for in liquidation, meaning that a sub-contractor or supplier who owes money to the insolvent company may, in certain instances, offset against that debt against money it is owed, with the balance being either payable to it by the insolvent company (as a dividend in the liquidation if there are sufficient funds) or by it.


Sub-contractors and suppliers of goods or services (whether to companies or other types of business entities) should review the terms of their contracts carefully, and regularly. Changes to insolvency legislation and processes mean that many older contracts are often simply not fit for purpose.


A well drafted contract will include provisions governing what is to happen on the insolvency of either party; it should, for example, clearly state whether the contract is to terminate automatically or only at the instigation of the other party.


A contract for the supply of goods may include a so-called ‘retention of title’ clause. One of the main aims of a retention of title clause is to give the supplier of goods priority over secured and unsecured creditors of the buyer if the buyer does not pay for the goods, more often than not because it is insolvent. A properly drafted clause should allow the unpaid supplier to retain ownership of and reclaim possession of its goods.


Of course, there is a limit to what can be achieved in documentation, and if practicable any party entering into a commercial contract should ensure that a proper credit control system is in place. Where the sub-contractor or supplier has concerns as to the financial position of the company it should also consider reducing the period and/or amount of credit allowed, obtaining alternative forms of security (for example a bank guarantee or letter of credit) and taking out credit insurance.


Finally, you should consider whether the agreement that you have with a Carillion company affected by liquidation can be transferred to another contractor who is willing to step in and perform the project on which you are employed.

Employees of sub-contractors/suppliers

Employees of sub-contractors or suppliers also face an equally uncertain time. Frequently, employees will be among the last to know when their employers are facing liquidation – generally it will be in the employer’s best interests to maintain employee morale and keep its workforce engaged with the tasks needed to stave off liquidation. Employees will be concerned at the risk of being made redundant.


The majority of money that employees will be owed in the event of their employer’s insolvency will be unsecured, meaning that they also rank low in the order of priority when their employer’s assets are distributed in an insolvency situation. Employees should, however, be aware that they may be able to recover some of the money owed to them through the National Insurance Fund. Employees whose employer is insolvent and whose employment has been terminated can pursue claims through the Redundancy Payments Service (RPS) for some unpaid debts owed to them by their employer, specifically Statutory Redundancy Pay, arrears of pay (capped) and statutory notice pay. Employees in this position should investigate their rights carefully and swiftly following termination of employment.


Unfortunately, and ultimately, those employees who find themselves in a position where their continued employment is precarious, or their employer is facing significant debts and reduction in revenue, may be best advised to look at alternative employment opportunities.


Finally, take advice

Businesses affected by Carillion needs to take action now to prepare for the worst and minimise the fallout. This means getting advice from experienced insolvency professionals to review contracts and options available in the event all or a significant part of their revenue dries up, or they find themselves with a large non-collectable debt. A ‘wait and see’ approach will likely mean that a business will be forced into a much more difficult position at short notice with fewer and more limited options.


The same applies to sub-contractors of, and suppliers to, other trading partners, particularly where the contract forms a significant part of their revenue. Acting at the outset of the relationship, or before problems arise, is always the best advice.


About Fiona Russell-Horne

Group Managing Editor across the BMJ portfolio.

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