The Federal Government has called for submissions by 2 March 2010 on its proposals for reform of the current insolvent trading laws. While it is early days and the reforms are far from finalised, the discussion paper, Insolvent Trading: A safe harbour for reorganisation outside of external administration confirms that promoting options for corporate rescue outside of external administration is on the Federal Government's agenda.
The Government wishes to explore three options:
- No change
The first option is to maintain the status quo. Despite acknowledging that the current insolvent trading regime may discourage directors from pursuing opportunities for an informal work-out, the current law also discourages overly risky behaviour by directors and encourages companies that are concerned about solvency to attempt reorganisation under external administration where the process is more tightly regulated.
- Business judgment rule for insolvent trading
This option seeks to introduce a form of relief for directors who discharge their duties of due care and diligence in seeking a work-out, but in doing so breach the duty not to trade while insolvent.
The proposed rule would be satisfied if:
- the financial accounts and records of the company presented a true and fair picture of the company's financial circumstances at the time that the rule was invoked
- the director was informed by restructuring advice from an appropriately experienced and qualified professional with access to the accounts and records about the feasibility of and means for ensuring that the company remains solvent or that it is returned to a state of solvency within a reasonable period of time
- it was the director's business judgment that the interests of the company's body of creditors as a whole, as well as members, were best served by pursuing restructuring
- the restructuring was diligently pursued by the director.
This proposal places a great deal of responsibility and discretion in the hands of the directors as well as the insolvency practitioner advising on the restructuring options. The potential for abuse as well as the uncertainty in application heavily impacts on this kind of reform.
- Moratorium
Option 3 involves invoking a moratorium on the prohibition against insolvent trading while an informal work-out is attempted. The moratorium would require the company to inform the market that the company was insolvent (and that it was seeking to implement a work-out and avoid external administration). In addition, time limits, extensions and termination of the moratorium would be in the hands of the creditors as opposed to being completely controlled by directors.
While in theory the moratorium is an attractive option, there is some doubt about the level of regulation and monitoring required in order to make the moratorium a "safe harbour" for directors. There must also be some consideration about whether a moratorium in the form currently proposed will present any real alternative to voluntary administration, for example, it is likely that financiers and creditors will include entering into the moratorium as an additional event of default under various contracts.
Given that the proposals are only at the stage of calling for submissions there is some way to go before any reform will have any force. However, the proposals do require attention from financiers and creditors to ensure that the risks of the proposed reforms are minimised.
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