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Insolvency Reforms for Small Business Restructuring

1 min read

13 Oct 2020

Proposed Government changes to insolvency laws for SME businesses.

The Federal Government announced that it will introduce reforms to Insolvency Laws to assist small business, which will be effective from 1 January 2021.

The reform to the insolvency laws will allow small businesses to restructure or wind up faster. The proposed new laws will be available to incorporated businesses with liabilities under $1 million. For those small businesses experiencing financial difficulty this new process will be welcomed.

It is important for all businesses in this rapidly changing environment, especially those in the supply of goods, to ensure that:

  • Terms of Trade are updated;
  • PPSR registrations are up to date; and
  • Agreements & Contracts are carefully considered.

If your fundamental agreements are not effective, you can be left out in the cold trying to recoup funds and have difficulty repossessing goods.

It is important that small businesses and suppliers understand the ramifications that these proposed laws have on debt recovery. It would be wise for them to review their documentation and processes to ensure that they are as comprehensive as possible.

Currently, there are existing COVID-19 temporary insolvency protections, which allowed companies to trade whilst insolvent. These protections will end on 31 December 2020. The new laws will help businesses in financial difficulty to deal quickly with creditors with faster and cheaper options.

Overview of the proposed new small business restructuring process

A quick overview of the how the new process will work is below:

  • On commencement of the engagement of a small business restructuring practitioner, unsecured and secured creditors are prohibited from taking action against the company and guarantors for debt recovery. There is also protection from ipso facto clauses, which allow creditors to terminate contracts because of an insolvency event.
  • 20 business day period is allowed to develop a plan to restructure the debts and provide documents for creditor consideration.
  • Creditors have 15 business days to vote on the plan. The business must pay employee entitlements which are due and payable before a plan can be put to creditors.
  • If more than 50 percent of creditors agree on the plan it is approved and binds all unsecured creditors.
  • If the plan is approved the business continues and the practitioner administers the plan; if voted down the company goes into voluntary administration or liquidation (using the simplified liquidation pathway).

Three Key Elements of the debt restructuring process

The proposed debt restructuring process has three key elements:

  • New formal debt restructuring process to provide faster and simpler ways for distressed businesses to restructure their existing debts. This is aimed at maximising the chance of the business surviving and continuing to contribute to economic and jobs growth.
  • A new, simplified and lower cost liquidation pathway designed to increase returns for creditors and employees.
  • Measures to ensure that the insolvency sector can respond to and meet the short and long- term insolvency demands of small business.

One of the key aspects of the proposed new laws is that unlike voluntary administration the directors will remain in control of the running of the business. Quite often they are the most skilled at the running the business and know the business best.

This “debtor in possession” model means that the owners are able to trade whilst the plan to restructure the debts of the business is being developed and voted on by creditors.

Many of the ideas for these proposed insolvency laws have been adopted from the US Chapter 11 Bankruptcy process.

Some of the areas that the Government has attempted to address and rectify in the current processes are:

  • Voluntary administration – This is more suited to larger organisations and insolvency costs can consume most or all the value of a small business’ assets. The high cost has made it hard for businesses to restructure.
  • Cost of liquidation – The cost and duration of liquidation has meant poor outcomes for creditors and employees.
  • One size fits all – The process does not lend itself to the SME businesses. Outcomes such as the appointment of an external administrator and other complexities has disincentivised small businesses engaging with the process.

Proposed Small business restructuring practitioner

The new process seeks to streamline the role and powers of the small business restructuring practitioner compared to Administrators in voluntary administration.

They will help determine if a company is eligible for assistance; support the company to develop a plan and review its financial affairs; certify the plan to creditors; and manage disbursements once the plan is in place.

The practitioner will be independent and have obligations they must fulfil on behalf of creditors.

Key creditor rights will be preserved and secured creditor rights and similar debts are treated the same.

Creditors have the right to vote on the company’s proposed plan and the plan must achieve the requisite majority to be binding.

For more information you can read the Government’s fact sheet.

It is important that businesses understand the new changing landscape and what this means for them in restructuring and recovering debts. Businesses are both creditors and debtors; it is important to ensure that you act quickly to protect your business by reviewing agreements, trading terms and conditions and PPSR registrations.

If you require further advice on any of the issues regarding small business debt restructuring or how to ensure your business is protected please contact us on 1300 907 335.

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