Furlough Leave for Companies Entering Administration

Furlough Leave for Companies Entering Administration

Key Contact – Claire Knowles

Author – Adam Mcglynn

With so much employment law reform in response to Coronavirus it is almost surprising that we have not witnessed more judicial intervention and yet without any draft legislation available at this time it would be difficult for any member of the judiciary to comment. Mr Justice Snowden of the High Court is now the first to break this barrier by providing clarity on the interaction between furlough leave and insolvency law for companies entering administration.

Snowden J’s ruling came in response to the administrators of the restaurant chain Carluccio’s which entered administration on 20 March 2020 after closing its branches on 16 March. The administrators intended to retain the majority of its 2,000 employees while seeking a purchaser but would need to apply to the Coronavirus Job Retention Scheme (the Scheme) for support. The administrators distributed letters requesting employees agreed to be placed on furlough leave and only receive pay that the administrators would receive under the Scheme. The majority agreed while some preferred to be made redundant and some failed to respond.

Treatment of employment contracts when entering administration

Employment contracts are unaffected by the company entering administration until the administrators take some action to confirm whether the employee is being retained or dismissed. Where the administrators retain an employee and confirm this in their conduct, for example by paying them, the employment contract will be ‘adopted’. Adoption is an important aspect of insolvency law as it confirms the priority of the company’s liability to the employee. Adopted employees benefit from ‘super-priority’ meaning that they will be ranked above unsecured creditors, floating charge creditors, and even the remuneration and expenses owed to the administrators. In contrast, where the employment contract is terminated the liabilities owed by the company to the former employer will rank among other unsecured creditors. To ensure administrators have time to come to informed decisions they are granted a 14-day period from their appointment where their conduct will not amount to the adoption of any employment contracts. It is during this period that the furlough letters were sent, and clarity was sought from the High Court.

Judgement – Adoption of furlough workers

Fortunately for the administrators Snowden J responded to their concerns prior to the expiry of their 14-day breathing space with the following:

  • Administrators can use the Coronavirus Job Retention Scheme if there is a reasonable likelihood that the employees will be rehired following their period of furlough leave. In this situation this would seem to be the case as there is evidence that the administrators intend to sell Carluccio’s with the majority of the employment contracts intact.
  • The administrators validly varied the employment contracts of those employees who expressly agreed to be placed on furlough leave. These employment contracts will be considered ‘adopted’ by the administrators at the earlier of a salary instalment being paid to the employee or an application being made in respect of that employee under the Scheme.
  • The employees who rejected the offer of furlough leave did not have their employment contracts varied and these contracts will not be adopted at the end of the 14-day period. According to the administrators’ intentions these employees will, therefore, be made redundant and any liabilities owed to them by the company will rank among other unsecured creditors.
  • The administrators were under no obligation to make a claim under the Scheme or otherwise adopt the employment contracts of those employees who failed to respond. Those employees would not have their employment contracts varied and would remain on their current contracts until terminated, leaving them ranked as unsecured creditors along with those who rejected the administrators’ proposal. However, Snowden J ruled that if they responded before they were terminated, agreeing to the terms of the furlough letter, the administrators could adopt their employment contracts.
  • Grant payments made by the scheme are paid to the employer and therefore constitute company assets which trigger certain administrator duties including distribution to creditors in order of priority. However, those employees who have been adopted in order that they may benefit from the Scheme will have super-priority and so can be paid the grant payment intended by the Scheme.

Limits of the ruling

The High Courts ruling provides some much-needed reassurance for administrators trying to act within their duties while navigating the unprecedented legal complexities of furlough leave and the Scheme. However, Snowden J himself acknowledged the limitations of his ruling. Most importantly there was no draft legislation of the Scheme at the time of his judgement and so his ruling was based purely on government guidance which is liable to change at any time. Additionally, the ruling was always intended to be a statement of guidance in response to the query of the administrators. With no actual dispute to rule on Snowden J cannot bind any parties or set a precedent. Even if his ruling was considered to set a precedent it must be remembered that it would only be set at the High Court level and representatives of the Court of Appeal and Supreme Court could completely disagree with his conclusions. For now, administrators will need to remain vigilant but can take solace in the knowledge that the judiciary are considerate of their positions and open to “work constructively together with the insolvency profession to implement the government’s unprecedented response to the crisis”.

For more information, please contact our employment team.

Claire Knowles – Partner

Mark Alaszewski – Associate

Rebecca Mahon – Solicitor

Adam McGlynn – Trainee Solicitor

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