Insolvency Law Reform in Australia

This assignment analyzes proposed reforms to Australian insolvency law as part of the National Innovation and Science Agenda. It examines submissions from various stakeholders, including the AICD, ASA, and legal professionals, highlighting arguments for and against changes to the Corporations Act 2001. The analysis delves into specific proposals like safe harbor provisions and restructuring options, considering their potential impact on business failures, innovation, and economic growth.

Name
Institution
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How the Exposure Draft differs from the Current Insolvency Trading Law
The current law on insolvent trading imposes a positive duty on directors of preventing insolvent
trading.1 By virtue of that law, a director is required to prevent a company from incurring debts if
it is already insolvent or if by incurring those debts, it runs into insolvency. Section 588G (1)
provides that there are reasonable grounds upon which a director may assume that the company
is running into debt. A director is deemed to have engaged in insolvency trading if that company
incurs debt and; becomes insolvent as a result of the incurred debt; there are reasonable grounds
to suspect that the company would become insolvent; the director has knowledge of those
grounds or a reasonable person in the same scenario would be aware; and the director did not
prevent the incurring of debt by the company.2 Section 95A defines insolvency as the inability to
pay all the debts as and when they become due.
The Australian Government’s Exposure Draft titled Treasury Laws Amendment (2017 Enterprise
Inventive No. 2) Bill 2017 makes proposals for amending the Corporations Act. The amendments
in the draft Bill under Part 1, will exclude company directors from personal liability for insolvent
trading by creating a ‘safe habour’ in cases where a company undertakes restructure in particular
1 See section 588G of the Corporations Act 2001 (Cth).
2 Ibid.
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circumstances. The intention of the Exposure Draft, particularly Part I of the same, is operating
as a carve-out from the duties of a director to prevent insolvent trading.3 Its objective is to save
businesses and nurture a turnaround culture.4 The major difference between the current
insolvency laws and the Exposure Draft is that the current law is focused on the creditor and
prefers the creditor to the rehabilitation of companies.5 To fully capture the differences between
the Exposure Draft and the current insolvency laws, the following section critically analyses the
effectiveness of Part I of the Exposure Draft.
Discussion on the Effectiveness of Part I of the Exposure Draft and Critical Analysis
Safe Harbour
The Exposure Draft has introduced a safe harbour from personal liability to insolvent trading.
This it has done by introducing section 588GA just below section 588G, which contains the safe
harbour provisions. The safe harbour is expected to operate as a carve-out to directors from the
section 588G (2) provisions of civil insolvent trading. This paper notes that the Exposure Draft
limits how the carve-out operates. For instance, directors must demonstrate that they were taking
reasonable steps likely to achieve a better outcome for the entirety of the creditors and company.
Directors are precluded from taking passive roles or from allowing a company to trade normally
during financially difficult times or undertaking recovery plans. Furthermore, directors can only
rely on the safe harbour if they were taking appropriate courses of action to ensure compliance
with the company’s duty of maintaining proper records and books, provision for entitlements to
3 H. Davis, ‘Insolvency Law Reform - Submissions of Henry Davis York’,
https://static.treasury.gov.au/uploads/sites/1/2017/06/C2017-010_Henry-Davis-York.pdf, 2017 (accessed 17
September 2017).
4 KordaMentha Restructuring, ‘Improving Corporate Insolvency Law – Exposure Draft 2017’,
https://static.treasury.gov.au/uploads/sites/1/2017/06/C2017-010_KordaMentha.pdf, 2017 (accessed 17 September
2017).
5 Westpac Banking Corp v Bell Group Ltd [2012] WASCA 157 CACV 52 of 2009 pp. 517-18.
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employees and tax reporting requirements. Where a liquidator has already been appointed,
directors who withhold books and records do not fall under the protection of the safe harbour.
The Exposure Draft also outlines a list of factors that a court may consider to establish that a
reasonable course of action was undertaken to lead to a likely better outcome for the company
and creditors thereof. It is important to note that the limits set in the Exposure Draft are not
intended at making provision for a company to trade past its viability. Accordingly, it is notable
that discretion is left to the courts to determine if the circumstances of each case are meritorious
for qualifying for the safe harbour. Also, it is noteworthy that the scope of mounting a defence
based on a company’s circumstances is considerable. The burden of proof is on a liquidator who
alleges that section 588G was contravened to argue and prove that the safe harbour is not
applicable since a director failed to take reasonable steps.
Evidential Burden of Proof
The Exposure Draft proposes the evidential burden mechanism. The Explanatory Memorandum
explains that directors bear the burden of proof. The onus is on a director to furnish the relevant
information, books and not to withhold any.6 Such evidences are examined by the liquidator who
then makes a determination of whether more material is required. For a director who seeks to
place reliance on the safe harbour provisions, the initial evidentiary burden is lowered.7 This
evidential burden is reasonable since it gives room for identifying issues that are relevant. In
addition, it is in line with the principle that a plaintiff establishes the wrong that a defendant is
alleged to have committed.
6 The Treasury, 2017. Explanatory Memorandum - National Innovation and Science Agenda - Improving corporate
insolvency law. Canberra: The Treasury, pp.5-18.
7 Supra, n 3.
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The safe harbour provision addresses numerous issues such as timing of insolvency. This gives
ample opportunity to directors for undertaking rational decision making processes devoid of fear
of liability. It also assists directors to make sure that the balance within the law is not
fundamentally altered while offering protections to the company and creditors from recklessness
where a company has already entered into debt.8 According to ARITA, the safe habour
provisions must not be deemed as relaxing the responsibilities of directors but one that heightens
them. Beneficial and positive governance thresholds must be met before invoking the business
judgement rule.9
The Restructuring Advisor
The Exposure Draft proposes the mandatory appointment of a restructuring advisor by a
company that is in insolvency. Such appointment should be a recommendation and not
mandatory to enable good corporate governance, which a company adopts voluntarily. This
mandatory requirement is flawed and may give rise to unnecessary problems since it
disempowers directors.10 A myriad of issues affect business performance, for example, business
cycles, international relations, demographic changes and the general economy, among other
factors. A company may have adopted an appropriate strategy and all that is needed to manifest
positive changes may be some more time or a few tactical changes. Engaging the services of an
external advisor too early may not be favorable to a company or creditors and only serves the
purpose of undermining the directors and not demonstrating confidence and trust in them. Hence,
8 Supra, n 5.
9 ARITA (Australian Restructuring Insolvency and Turnaround Association) 2014, A Platform for Recovery 2014,
Discussion Paper, October, p.13.
10 Australian Institute of Company Directors (AICD), ‘Improving bankruptcy and insolvency laws’,
Treasury.gov.au, 2016,
https://www.governanceinstitute.com.au/media/881308/final_submission_insolvency_law_reform.pdf (accessed 18
September 2017), p.5.
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the reputation and morale of a company is likely to be affected adversely. If the appointment is
mandated, it may only be a short while before it becomes mandatory to disclose the appointment.
Even if the restructuring adviser is to be appointed by the company, the requirement for
accreditation should be removed at the very least. The Australian Institute of Company Directors
in their submission of 2016, at page 5, recommend an approach that is principle based rather than
the prescriptive approach proposed by the Exposure Draft. Very business differs and under the
ever changing circumstances, there is a plethora of needs. No accreditation can ever suffice to
cater for the ever changing nature of business.11 Accordingly, the decision for appointment of a
restructuring adviser should be left at the discretion of the company if is so elects.
It is important that the Australian Securities and Investment Commission keep a register
containing the names and education, qualifications and codes of professional conduct of
restructuring advisors.
Viability
The policy objective underpinning the Exposure Draft proposals in introducing a safe habour is
provision of a moratorium where directors are able to turn around the business. The consequence
is better returns for creditors and the continual use of assets in a productive manner as opposed to
a “fire sale”. In this regard, this paper agrees that the restructuring adviser’s role would be
formulating an idea as to the viability of a company. However, although it is agreeable that the
test for viability should be avoiding insolvent liquidation, this paper does not agree that the
appropriate method of determining viability is “return to solvency”. This is more so in light of
the stringent test for solvency in the current law of the Corporations Act. In numerous instances
11 L. Dong, ‘Submission Regarding Insolvency Law Change’, 2017,
https://static.treasury.gov.au/uploads/sites/1/2017/06/C2017-010_Dong-Lin.pdf, 2017 (accessed 17 September
2017).
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where corporate groups have been successfully restructured, there are companies that were
wound up when their business assets were sold, and this exemplifies a rescue of a business that is
viable by selling it to a new owner.
Disclosure
This paper considers that any reforms made to the personal liability for directors for insolvent
trading must not be at the expense of suppliers, customers, employees and innocent creditors
who are bona fide in their dealings with the company assuming that it is solvent. In other words
law reform on duties of directors as relates to insolvent trading should not be at the sacrifice of
protection of creditors. Informed markets should necessarily be the cornerstone of approaches to
laws on insolvency trading.12 Under the Exposure Draft, directors are not required to reveal
whether they are carrying on business in a safe harbour. Under the current law as constituted,
confidentiality applies to situations where there are work-outs and restructurings. With regard,
therefore to disclosure, there is no change between the proposals and the current law as creditors
are still uninformed. It is noteworthy that trade supplier creditors are required to be secured by
virtue of the provisions of the Personal Properties Securities Act 2009 (Cth). Hence even though
the safe harbour provisions to directors in insolvency are introduced creditors who fail to protect
themselves will lose their goods. With respect to public listed companies, the Exposure Draft is
neutral, since it leaves the decision to disclose that the company is in a workout under the
continuous disclosure rules to the public to the directors. This position is arguably reasonable
since it would not be reasonable for a company to disclose such information at a time it is
undertaking a business rescue.
12 Governance Institute of Australia, ‘Insolvent Trading: A safe Harbour for Reorganisation Attempts Outside of
External Administration’, Treasury.gov.au,
https://www.governanceinstitute.com.au/media/37076/Final_submission_revised_business_judgment_rule_insolven
cy.pdf, 2010, p.2.
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Effectiveness of the Exposure Draft
Based on the above discourse, the question is how effective is Part I of the Exposure Draft. The
answer to this question is not as straight forward as it may seem. It is a matter that is subject to
much ongoing deliberation and analysis. The Australian Institute of Company Directors (2017,
p.1) has noted that if the proposed reforms are effectively designed, they will foster innovation
and entrepreneurship by encouraging directors and companies to take responsible risks.
Accordingly, whether Part I of the Exposure Draft is effective or not is dependent on how
effectively they will be designed. The design of the proposals will be achieved through
incorporating the various views expressed by the respective stakeholders as above-discussed and
thus making necessary adjustments to the law. However, overall, this paper strongly supports the
reforms to Australia’s insolvency laws which are considered to be among the world’s strictest
insolvency laws.
Conclusion and Recommendations
To answer the question as to: whether the amendments should proceed as drafted; or if the
current law should remain; or if other amendments should be made, this paper answers as
follows. There is no doubt, need for the proposed amendments as the current insolvency law is
draconian, especially when benchmarked against global insolvency laws. The changes are
needed to implement a cultural shift and minimize the impact of the stigma that attends to
business failure.13 Indeed, changes are necessary to strike a balance between creditor protection
and encouraging entrepreneurship.14 However, further amendments should be made to the
13 Law Council of Australia, ‘Submission in response to the Treasury National Innovation
and Science Agenda – Improving bankruptcy and insolvency laws’, Treasury.gov.au,
http://www.lawsociety.com.au/cs/groups/public/documents/internetpolicysubmissions/1176437.pdf, 2016 (accessed
18 September 2017), p.1.
14 The Treasury, Improving bankruptcy and insolvency laws Proposals Paper, 2016, Canberra:
The Treasury, pp.10-15.
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Exposure Draft proposed amendments to fine tune the law and make it more economically
viable. The following are the recommendations this essay makes.
Bibliography
ARITA (Australian Restructuring Insolvency and Turnaround Association) 2014, A Platform for
Recovery 2014, Discussion Paper, October, p.13.
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Davis, H, ‘Insolvency Law Reform - Submissions of Henry Davis York’,
https://static.treasury.gov.au/uploads/sites/1/2017/06/C2017-010_Henry-Davis-York.pdf, 2017
(accessed 17 September 2017).
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(accessed 17 September 2017).
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Westpac Banking Corp v Bell Group Ltd [2012] WASCA 157 CACV 52 of 2009 pp. 517-18.
Winter, J, ‘Improving bankruptcy and insolvency laws – Proposals Paper April 2016’, p.15.
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