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New insolvency and restructuring measures promote small business recovery

Around 2.4 million businesses in Australia are ‘small businesses’. As a general observation, small businesses have been disproportionately affected by the Covid-19 pandemic and associated economic measures. They have less capital on which to draw while ‘hibernating’ and are more likely to have difficult adapting to an online trading environment.

JobKeeper and the temporary insolvency protections have temporarily masked many of the effects of Covid-19. JobKeeper however is being rolled back to payments of $750 or $1,200 per fortnight per employee for eligible participants from 28 September 2020 to 2 January 2021, and then to payments of $650 or $1,000 per fortnight per employee for eligible participants from 4 January 2021 to 28 March 2020 and the temporary insolvency protections will end on 31 December 2020.

In recent media reports, there have been predictions of mass insolvencies as these measures end and businesses face increased cashflow pressure. Australia’s current restructuring and insolvency regime is comparatively rigid and expensive to administer. All formal processes involve the directors of the business (in the case of a company) relinquishing their control to an administrator or liquidator. Most small businesses which are insolvent or approaching insolvency have insufficient funds or capital to restructure effectively, and so they typically enter liquidation (a ‘winding up’ where the business ceases immediately), rather than attempt to restructure and ‘trade out’.

The Australian Government has just released a proposal to implement a ‘debtor in possession’ model, which aims to give small businesses sufficient time to restructure, reach a compromise with creditors, and trade out of financial difficulty. The regime is due to take effect on 1 January 2021. Little is known about the detail yet as draft legislation has not been released, however, key features are:

  1. The regime will be available to businesses with less than $1 million in liabilities. In 2018-19, 76 per cent of companies which went through one form of external administration had less than $1 million in liabilities – so the potential for business to utilise this model is potentially great.
  2. Directors appoint a ‘small business restructuring practitioner’ (SBRP). The SBRP then confirms that the relevant business (company) is eligible to use the new regime. The precise qualifications needed to be an SBRP are yet to be released, but the standard will be less than that of a presently registered liquidator.
  3. Creditors are notified and a restructuring plan is devised within 20 business days. In a critical departure from existing insolvency processes, directors remain in control of the business during this period and the SBRP assists the business develop a restructuring plan which the SBRP certifies.
  4. The certified restructuring plan is presented to the company’s creditors, who vote on it within a further 15 business days. The plan should present a better outcome to creditors than liquidation. A majority of ‘unrelated’ creditors in value must approve the plan. The plan cannot be put to creditors unless all employee entitlements are up to date – which may cause pause for some small businesses looking to take advantage of the process. A relatively common feature of small business insolvency is a failure to pay all employee entitlements (eg, super guarantee) when due.
  5. If the plan is not approved, the debtor may choose another appropriate insolvency process.

Though the detail is yet to be released, overall the changes seem positive. The current regime does not allow for sufficient concessions for those small businesses which would be viable if it were not for the external shock of Covid-19. We will report more on the regime – and its implications for debtors and creditors alike – as its details are released by the Australian Government.

Should you have any questions, do not hesitate to contact us.