Introduction

Since its declaration by the World Health Organization as a global pandemic, Covid-19 has had devastating effects on businesses all over the world. Courts in many jurisdictions including the USA have recognized the pandemic as a natural disaster with far reaching effects. Parties to contracts have had to establish whether the Covid-19 pandemic falls within the scope of the force majeure clause; as well as whether the doctrine of frustration can be relied on for one to be relieved of their contractual obligations. We discussed these two doctrines in our earlier article available here.

Locally, the Government of Kenya has put in place various legislative and policy measures to cushion both citizens and businesses from the ensuing economic hardships. Such measures include reduction of the Central Bank Rate to 7%to enable commercial banks lend to consumers at affordable interest rates, reduction of VAT rate from 16% to 14% leading to reduction on the price of vatable goods and services and reduction of Cash Revenue Ratio to 4.25%. The reduction of the Cash Revenue Ratio by the Central Bank is intended to increase liquidity among commercial banks. This will in turn avail more cash to the banks to continue advancing credit facilities to businesses and other consumers during the pandemic. 

Despite the various measures put in place by the government to cushion businesses and consumers from the economic effects of the pandemic, many businesses have experienced and continue to experience reduced turnover. This development has hampered many businesses’ ability to service their credit facilities timeously. This may in turn result in drastic measures by creditors such as commencement of insolvency proceedings which would negatively impact the ability of businesses to operate as going concerns in the long term. Conscious of this, many businesses are struggling to keep their doors open and lights on. In this publication, we explore the various options available to both businesses and creditors for purposes of increasing capital flow so that the businesses can remain afloat while at the same time meeting their financial obligations towards their creditors.

Insolvency: When does it happen?

Insolvency is a financial position where a company is unable to meet its financial obligations as and when they become due. More likely than not, an insolvent company’s liabilities are more than its assets. Under the Insolvency Act, 2015, a business is insolvent if a demand to pay its debts has been issued and the notice period has lapsed without the company honouring the same. At this point, a creditor has the statutory right to lodge an insolvency petition in court for the assets of the company to be liquidated as a way of recovering its money. 

It is important to note that Kenyan courts have ruled that insolvency is not a measure of last resort in debt recovery. On the same note, Kenyan courts have also ruled that where the debtor has made proposals to liquidate the debt, such proposals should not be taken as inability to pay the debt and therefore an insolvency petition presented where such proposals exist will be declined. Similarly, courts frown upon creditors who present insolvency petitions for the sole purpose of coercing debtors to pay debts. Consequently, it is important for both creditors and debtors to consider arrangements that provide for adequate capital to run the business while at the same time servicing the debts. That notwithstanding, many companies may find themselves dealing with insolvency petitions during this pandemic. However, as discussed below, there are various options in law which both the debtor and the creditor may explore to achieve a win-win situation in the long term instead of liquidation. A snippet of each of these options is outlined below.

Legal options for both creditors and borrowers to raise capital during insolvency.

There are several options that ought to be considered where businesses are in dire need of capital and deteriorating performance. Each case is unique and we present some of the options available in law that companies in financial distress and their creditors should consider during prevalence of the Covid-19 pandemic, alongside the various Covid-19 reliefs the Government of Kenya has implemented.

1. Company voluntary arrangements
2. Schemes of arrangement and compromise
3. Administration
4. Balance sheet reorganization