Ten key learnings from the administration of Carluccio’s - a perfect storm of employment law, furloughed workers and insolvency

Carluccio’s Limited (in administration) [2020] EWHC 886 (Ch)

The devastating effects of COVID-19 and the imposed lockdown on businesses can all too readily be seen with collapse of restaurant chain Carluccio’s – one of the first businesses to call in administrators in the early days of the crisis.

In this article, we summarise ten useful takeaways for employees and insolvency practitioners from the High Court judgement in the Carluccio’s case.

Insolvencies can be difficult enough without the added impact of the current pandemic. Immediately on appointment, the administrators of Carluccio’s faced the challenge of tackling the evolving Coronavirus Job Retention Scheme (“Scheme”), employment law issues and the technicalities of insolvency law against the ticking clock imposed by paragraph 99 of Schedule B1 (“Paragraph 99”) of the Insolvency Act 1986 (“Act”). Paragraph 99(5) gives a super priority to certain wages and salary liabilities arising under a contract of employment adopted by an administrator before they leave office - these sums are paid in priority to the administrator’s own remuneration and expenses.

Importantly, Paragraph 99(5) provides that action taken within the first 14 days following the administrator’s appointment shall not amount to adoption of a contract and no account will be taken of any liability which arises in respect of anything done or which occurs before adoption of the contract of employment. This provision often leads to insolvency practitioners making certain redundancies in the early days of administration.

Facing this situation, and with the 14-day period since appointment running out, the administrators of Carluccio’s sought direction from the High Court of Justice on an emergency basis. On 13 April 2020, Mr Justice Snowden issued what would appear to be the first set of (non-binding) directions under paragraph 63 of Schedule B1 of the Act on the complex web of insolvency planning, employee rights and the Scheme.

The full judgement containing the background to the case and the full legal analysis can be found here. However, the background can be summarised as follows:

1. prior to appointment, all restaurants were immediately subject to the lockdown imposed by the UK Government. On appointment of the administrators, the employees therefore remained employed but were unable to work;
2. the administrators were keen to preserve the possibility of a sale in due course and the value of the business – it was anticipated that making employees redundant could be detrimental to the rescue objective being pursued;
3. there were insufficient funds in the administration to continue to pay employees during the period of compulsory closure. The administrators wished to avail themselves of the Scheme to enable employees to be retained and paid via funds from the Scheme, up to the relevant limits;
4. the administrators had issued a variation letter to employees seeking consent to vary their contracts of employment for the purposes of: (i) placing the employees on furlough in order to access the Scheme; (ii) to limit the wages of employees to the sums available under the Scheme; and (iii) agreeing that payment of wages would be made within seven days of receipt of the monies paid to the administration under the Scheme. Employees were asked to confirm their consent by a specified date prior to the expiry of the 14-day period;
5. some of the employees consented, some objected and others failed to respond;
6. the administrators were concerned regarding:
   
   1. whether there had been a valid variation of contract for the different categories of consenting, objecting or non-responding employees;
   2. the extent to which steps taken by them could result in the contracts of employment in these different categories being treated as adopted; 
   3. by consequence, the extent of the liabilities which would fall to have super-priority in the administration;
   4. how monies paid to the insolvent estate under the Scheme could be distributed to employees (it being a requirement of the Scheme that monies are paid to the employees) as, when paid, these funds would be intermixed with the wider administration funds; and
   5. protecting themselves against later criticism of their actions.

The administrators therefore sought directions from the Court.

The ten key points for employees and insolvency practitioners arising from the judgement are as follows:

1. The Scheme is open to employers in administration. However, in deciding to furlough workers, the expectation is that there is a reasonable likelihood of those workers being re-hired (this could be directly or, for example, via a sale of the business given that the guidance now confirms that the Scheme is available where TUPE applies). The Scheme guidance does not specifically refer to the Scheme being available to companies in liquidation and it remains to be seen whether in any circumstances it could extend to employers subject to liquidation proceedings.
    
2. It was considered that Paragraph 99 was the correct route through which the administrators would ensure that the Scheme funds, once received, could be passed to the employees without risk of them being lost to the wider administration. Paragraph 66 of Schedule B1 to the Act, which enables administrators to make certain distributions other than as set out in the Act where it is likely to assist achievement of the purpose of the administration, was not the appropriate provision to enable this.
    
3. Paragraph 99(5) of Schedule B1 does not restrict the super priority for liabilities under adopted employment contracts to apply only in relation to services actually rendered by the employees following adoption. If the contract is adopted, it does not matter that the employee does not carry out any work – the wages and salary liabilities will have super priority.
    
4. There is a difference between termination, continuation and adoption of a contract. Indeed, a failure to terminate an employment contract prior to the end of the 14-day period following an administrator’s appointment does not of itself amount to adoption of the employment contract by the administrator.
    
5. Adoption will depend on the facts and conduct of the administrator, as well as whether the administrator can legitimately be treated as having elected to treat the contract as adopted and create a super priority in respect of the wages and salary liabilities covered by Paragraph 99(5).
    
6. Variation of the employment contract, whether by consent prior to expiry of the 14-day period or after the 14-day period, will not automatically result in adoption of the contract by an administrator. There needs to be some form of active conduct on the part of the administrator, for example, submitting a claim to the Scheme and paying sums received to the employee.
    
7. Equally, a failure on the part of an employee to respond to a request to vary their employment contract, or to object to that variation without the employee being made redundant by the administrators prior to expiry of the 14-day period, will not result in automatic adoption of the contract by the administrator. Further, a failure to respond to the variation letter issued in this case was not sufficient for the Court to determine that there had been an implied variation of contract for non-responding employees. The variation letter made no suggestion that a failure to respond would result in a deemed variation of the employment contract, which the High Court considered significant. The legal position of implying a variation to employment contract terms would require careful analysis in any particular case but the High Court did not rule out this possibility in other cases if the employer communication is worded differently.
    
8. There was no absolute duty on the administrators to apply to the Scheme for the consenting, non-consenting or objecting employees in this case. While in relation to the consenting employees there could be an implied duty on the administrators to make a claim under the Scheme, any such duty needs to be viewed against the availability of the Scheme and the wider restrictions and duties of the administrators under the Insolvency Act 1986. In relation to non-consenting employees, it was noted that there is no reason as to why the administrator should risk incurring a super priority liability that might not be covered by the Scheme. However, it was considered appropriate for the administrators to continue to try and make contact with the non-responding employees.
    
9. For employees, it is important to note that the super priority does not cover all liabilities under the employment contract. It is restricted to those liabilities specifically set out in Paragraph 99(6) of Schedule B1 with any other sums being unsecured liabilities.
    
10. Finally, the inclusion of wording to the effect that contracts would not be treated as adopted was considered to be a mistake and ultimately of no effect in circumventing the provisions set out in Paragraph 99(5) of Schedule B1.

The above judgement was issued at a point in time when the guidance in relation to the Scheme was (and still is) continuing to evolve. What has changed since then?

Since the High Court’s pronouncement in Carluccio’s, the Treasury has issued a direction to HMRC providing the legal basis on which the Scheme is to operate. This conflicts in a number of areas with the guidance the UK Government has published for employers over the last few weeks. 

A key area of conflict is reference in the Treasury Direction to the need for a “written agreement” between employer and employee to qualify for subsidy under the Scheme. The UK Government updated its guidance for employers again on Friday 17 April. The updated guidance, like previous iterations, does not contain the same requirement. Under the guidance issued on 17 April:

“to be eligible for the subsidy employers must confirm in writing to their employee that they have been furloughed. If this is done in a way that is consistent with employment law, that consent is valid for the purposes of claiming the Coronavirus Job Retention Scheme. There needs to be a written record, but the employee does not have to provide a written response. A record of this communication must be kept for five years”.

This is a helpful clarification. However, there remains a potential clash between the Treasury Direction to HMRC, which states an “agreement in writing” is required, and the guidance to employers on the Scheme which states the position as set out above. Given the purpose of the Scheme, if the Treasury Direction is not updated (which has not yet occurred) we consider it reasonable to read the Treasury Direction’s reference to “written agreement” in a way that is consistent with the guidance – i.e. we consider “written agreement” can be interpreted as being satisfied if the employer has confirmed in writing to the employee that they have been furloughed and this is done in a way that is consistent with employment law. Accordingly, provided the employer has a written record there is no need for the employee to have provided a written response. This interpretation would include the ability for “written agreement” to be achieved by implied consent if the circumstances support this, which would provide a result consistent with the approach taken by the Court in Carluccio’s.

If “written agreement” is instead interpreted as requiring a bi-lateral agreement in writing, even though agreement by email is permitted, the value of the Scheme for thousands of employees across the country is likely to be materially undermined. Given the announcement by the UK Government to do everything it can to support businesses and employees – and its specific announcement on Friday of the extension of the Scheme to the end of June – this cannot be thought to be the UK Government’s intention.

Claims under the Scheme can be made from today (Monday 20 April); HMRC’s practical application of the Scheme will be known shortly.

Allana Sweeney is a Senior Associate in the restructuring and business advisory team and Neil Maclean is a Partner and Head of the Employment Practice Group at Shepherd and Wedderburn. For more information, contact Allana on 0141-566 7215 or at allana.sweeney@shepwedd.com or Neil on 0131-473 5181 or at neil.maclean@shepwedd.com.