Following recent changes to the Corporations Act 2001 (Cth), parties to a contract may be unable to rely on a contractual right to terminate or modify the operation of a contract on the occurrence of certain insolvency-related events of a counterparty to the contract (commonly known as an "ipso facto" provision).
The recent release of the Corporations Amendment (Stay on Enforcing Certain Rights) Regulations 2018 (Cth) (Regulations) clarifies the application of the new "ipso facto" stay regime, including in respect of mergers and acquisitions transactions.
Impact of the new Regulations
Parties entering into subscription agreements, share sale agreements and business sale agreements may still be able to rely upon a contractual right to terminate for insolvency-related events affecting a counterparty. Drafters of such agreements need to ensure the provisions are drafted in a manner which is enforceable. Also, parties may need to consider other agreements or arrangements contemplated by, or ancillary to, such agreements. Parties may need to include appropriate contractual mechanisms (such as, for example, acknowledgements, representations and warranties as to financial position and/or conditions precedent, specific and clear payment obligations, etc) to ensure these are also addressed.
The "ipso facto" regime stays the enforcement of certain contractual rights which entitle a party to terminate or amend an arrangement on the occurrence of specified insolvency-related events, being the entry into a scheme of arrangement for the purpose of avoiding insolvent liquidation, the appointment of a managing controller (including receiverships), or coming under voluntary administration, and even where the counterparty continues to perform its contractual obligations.
The regime's intent is to preserve the enterprise value of a business undertaking a formal restructure process.
On 1 July 2018, the "ipso facto" provisions (which amended the Corporations Act 2001 (Cth)), the Regulations and an associated declaration as to exempted rights all came into force.
Application of the Regulations to M&A transactions
The Regulations prescribe the types of contracts, agreements or arrangements which are exempted from the "ipso facto" stay provisions. Among other things, the Regulations exempt the following:
- a contract, agreement or arrangement under which a party is or may be liable to subscribe for securities
- a contract, agreement or arrangement for the sale of all or part of a business, including by way of the sale of securities.
This means that, in the context of mergers and acquisitions, a party to such a contract will be able to enforce a contractual right to terminate or amend a subscription agreement for shares, or a sale agreement (for assets or shares), in circumstances where one of the formal restructure processes occurs and regardless of the counterparty's continued performance of its contractual obligations.
The explanatory memorandum to the Regulations states that the exemption for business sales is intended to avoid an impact on the sale price, given that the sale of a business in financial trouble is often negotiated as an alternative to a formal insolvency process (this is a tacit admission that a restructure may not eventuate in these circumstances). The explanatory memorandum goes on to state that the stay provisions, if enforced to business sales, could have a significant negative impact on the sale price as a prospective purchaser would factor in the risk of having to complete the transaction where a formal restructure occurs.
Issues to consider
As always, the devil is in the detail and it remains to be seen how the regime will apply to, for example, contracts with other subject matters which contain rights to subscribe for or sell shares. A further area of potential uncertainty resides in put and call option arrangements where there is in effect no sale until exercise of the put or call. Contract parties should also consider the impact of the regime on ancillary agreements to mergers and acquisition transactions (for example, transitional services agreements) and consider the inclusion of conditionality between the sale agreement and ancillary agreement. For good practice, contract parties seeking to enforce termination rights may also consider including information rights and/or warranties and representations regarding the financial position of the counterparty business.
Further, the "ipso facto" regime contains a large number of other exempted contracts, agreements, arrangements and rights. Companies should be aware of the full extent of the regime and how it impacts on contractual arrangements with third parties including suppliers of goods and services. In particular, contracts entered into after 1 July may require redrafting to ensure they comply with the regime.
This publication does not deal with every important topic or change in law and is not intended to be relied upon as a substitute for legal or other advice that may be relevant to the reader's specific circumstances. If you have found this publication of interest and would like to know more or wish to obtain legal advice relevant to your circumstances please contact one of the named individuals listed.