Catherine Welch (left) is a partner in the construction and engineering team, and Tom Llewellyn is a partner in the dispute resolution team at the law firm RWK Goodman.
With the government’s COVID-19 furlough scheme and other forms of support no longer in place, contractors on the brink of a financial cliff can no longer suspend economic reality. They now face the inevitable consequences of managing lump-sum contracts as inflation costs for goods and materials soar, material shortages continue, and energy bills rise. If that wasn’t enough, supply chain volatility and insufficient numbers of skilled workers are tangible problems.
The financial well-being of contractors must be top of mind for all parties involved in construction projects.
Developers are well-versed in conducting a robust cross-examination of contractors’ finances before they are appointed, but must be vigilant during the construction phase for signs that contractors may be experiencing mounting financial difficulties. . This could include periodically reviewing contractors’ accounts, assessing construction delays caused by subcontractors’ non-attendance, and listening to rumors in the industry about late payments by subcontractors.
Two options to take control
If a contractor faces a meltdown on a live project, the developer generally has two main options to regain some control.
First, the developer could end the relationship and hire a replacement contractor to complete the works. In practice, however, another contractor may be unable or unwilling to take over the works within a reasonable time, resulting in project schedule delays, increased costs and potentially significant risks to the project. the scope of the substitute contractor’s guarantees for the works.
“While developers have a vested interest in keeping a struggling contractor afloat, at least until their project is complete, they should think carefully before providing additional financial support”
Alternatively, the developer may be willing to financially support the struggling contractor until the end of the project.
However, while developers have a vested interest in keeping a struggling contractor afloat, at least until their project is complete, they should think carefully before providing additional financial support to contractors when it is too late to bail them out of insolvency. inevitable. But if the developer makes timely financial intervention, it could prevent a contractor from collapsing.
The developer could agree to shorten the payment cycle to improve the contractor’s cash flow or implement direct payments to subcontractors. However, the contractor must be aware of how this will affect his own rights and obligations in his contract with the developer and in his subcontracts.
What can directors do?
For contractor company directors, receiving additional financial support from a developer and/or prioritizing payments to chosen subcontractors may have broader implications. While the directors of the contractor will generally owe a duty to the company, when insolvency seems likely their duties change and then they owe a duty to all creditors of the company on all other obligations. The contractor’s directors have a duty to minimize losses to creditors and manage company assets accordingly.
The directors of a company at risk of insolvency must decide whether to continue operating, declare the company in liquidation or administration, or appoint trustees. Directors must carefully assess the correct course of action at the appropriate time, and do so with the help of professional advisors at the earliest opportunity.
Directors may not defraud creditors, dispose of assets for less than their value, place one creditor in a better position than others (their duties are due to all creditors), or pay company funds improperly. If directors are found to have acted improperly when a company faces insolvency, they may be held personally liable and disqualified as directors.
Directors must be aware of the provisions of the Insolvency Act 1986, including illicit transactions (s.214), fraudulent transactions (s.213), malpractice (s.212), below-value transactions (s.238) and preferential transactions (art. 239). While these sections will not apply unless a company goes into liquidation, they do apply to the conduct of directors prior to that time.
When a contractor faces potential insolvency, directors should be aware of their obligations to the company’s creditors and the provisions of the Bankruptcy Act, and seek professional advice before deciding on the future of the business. They cannot seek to negotiate their way out of difficulties if such an outcome seems unlikely.