‘Mothballing’ a business – is it an option?

Published by James Hopkirk on 20 March 2020

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For businesses that have seen the demand for their goods or services change overnight due to the impact of the Coronavirus Pandemic, could mothballing their business and closing the doors temporarily be a viable option?

Many business owners, particularly those in the entertainment, hospitality, tourism and retail sectors have seen significant changes and those that supply these sectors might be facing a higher level of default on outstanding invoices. For those facing months with a much reduced income, employees to pay, rent quarters due and creditors to pay, what can they do?

In most economic circumstances a business facing these challenges with much reduced income would consider liquidation. In the current climate where a business may have also built up goodwill by trading for a number of years and we are told that the current circumstances will be a temporary issue, then there may be other options. One of these may be to reduce the business costs drastically by agreement with employees, suppliers, landlords and others and reassess the business when the economic climate becomes clearer.

These discussions may be difficult as each stakeholder will be experiencing their own pressures and stress but commercially, the mothballing of a business may give all parties the best opportunity to recover and create value in the future.

Whatever the final outcome, it is important for company directors to continue to engage with its stakeholders on an ongoing basis so that they understand the situation and the decisions which are being taken.

It is also important for company directors to have an understanding of wrongful trading to avoid any issues arising at a later date. Decisions which are taken now might have an important impact later on.

It is acceptable for companies in financial difficulty to continue to trade as long as the following issues are taken into account and provided that the directors have a strategy which is reasonable and effective to prevent matters from getting worse.

Act in good faith

Directors have a general duty to act in a way they consider, in good faith, would be the most likely to promote the success of the company, to exercise independent judgement and to exercise reasonable care and skill. In solvent situations, these duties are owed to the company for the benefit of shareholders. However, in situations of financial distress, these duties shift so that they are owed to the company for the benefit of creditors as a whole.

Have creditors interests at heart

It if becomes clear that the company cannot settle its liabilities, the directors should bear in mind the position of creditors when making any decision, however insignificant that decision might seem. If directors breach their duties, they can be personally liable to compensate the company for any loss suffered as a result of that breach.

Don’t go on trading beyond the point of no return

Wrongful trading arises where a director of a company knew or ought to have concluded that there was no reasonable prospect that the company would avoid going into insolvent liquidation and they failed to take every step possible to minimise losses to creditors. In those circumstances, the insolvency practitioner appointed over the company can ask the Court to order the director to contribute to the assets of the company in such a sum as it sees fit and which is usually the increase in the deficit to creditors as a result of the continued trading.

To minimise the risks of being accused of wrongful trading, directors should:

  • Hold regular (weekly) board meetings and properly minute decisions of the directors. It is important directors reach their decisions at board meetings independently on the basis of the financial and legal information and advice available to them and it is important to ensure that they have up to date information at all times. A key question is “ is it reasonable and in the interests of creditors to continue with the current business strategy”.   If that question cannot be answered positively, it may be necessary to consider placing the company into an insolvency process.
  • Carefully consider and take advice on incurring further credit. Ideally it should be avoided but may be justifiable in certain circumstances if it enables the business to recover. Communication with the suppliers involved is key.

As a practical step, businesses in some of the most affected sectors could review employment contracts. A ‘shortage of work’ clause could help allow businesses to retain employees but on a lower rate of pay to help reduce business overheads in the short term.

Clearly there is a lot for all business owners and directors to take in at the moment, so get in touch to discuss options available to you and your business.

How can we help?

Our team is well resourced and experienced in advising companies and not-for profit organisations, allowing you to focus on managing your business during this trying period. We are set up to work from home so you can expect the same level of service, albeit remotely rather than in-person. We have:

  • A team of debt advisory and corporate finance experts used to working with banks and other lenders, and can support you with CBILS and CCFF scheme applications. We understand how lenders are currently making credit decisions, and with the majority of the government lending schemes due to close at the end of March we can help with your application.
  • Our restructuring and insolvency experts can advise businesses under stress about the options available to them.
  • Our tax experts will also be on hand to advise you on applications to HMRC for the Time to Pay initiative, for corporate tax advice and R&D tax claims. We also have VAT & Duty experts who can support you in revising your VAT position.

Do call us on 0330 124 1399, via our enquiry form or speak to your usual Kreston Reeves contact.

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