Restructuring and Insolvency: reality bites

What you need to know

Many businesses have been riding the wave of recovery of the Australian economy, supported by unprecedented business support measures introduced in response to the COVID-19 pandemic and high market liquidity, among other things. However, many of those measures have now expired, or are shortly expiring. The Australian Taxation Office has reinstated enforcement processes, which were halted in 2020 as a part of the package of COVID-19 support measures. Lenders are engaging in strategic reviews of certain customers who they supported through the COVID-19 pandemic. Concessions by landlords are coming to an end.

As we enter the post-COVID landscape, now is the time to consider how to best position your business strategically in this new landscape. 

What you need to do

1. Changes to the insolvent trading moratorium and safe harbour: consider duties to stakeholders and, if appropriate, take advice in relation to insolvent trading and whether you should seek out the safe harbour moratorium.
2. Financing and liquidity: consider existing relationships with financiers and engage as soon as possible in relation to any foreseeable issues including in relation to potential covenant breaches, upcoming interest or maturity dates. Now may be the time to take advantage of high market liquidity to address upcoming issues. 
3. Employees: consider your anticipated staffing needs and how these are best addressed, particularly if your business accessed the JobKeeper program.
4. Property: ensure you are aware of and prepared for any upcoming deadlines for deferred rental payments and if necessary, seek advice on potential further negotiations with landlords and your rights and obligations.
5. New opportunities: consider if you can take advantage of the flexibility in response to the COVID-19 pandemic to make strategic changes to your business.

There are positive signs to indicate that the Australian economy will continue to rebound more swiftly from the recession caused by the COVID-19 pandemic than most had expected. However, there have and will continue to be difficult times ahead for many businesses. In the last year or so, we have seen businesses lean on the support measures instituted by the State and Federal governments, together with concessions granted by financiers and landlords (among others). Many of those initiatives have now expired or will be wound back imminently. With restrictions easing, a vaccine rollout in progress, and consumer sentiment continuing to shift in unexpected ways, now is the time for businesses to consider the post-COVID landscape of 2021 and beyond.

Directors of businesses of all sizes should take stock and seek both strategic and legal advice where necessary. For more information on strategic considerations around restructuring in the current climate, we recommend this article by PwC. 

In this article, we discuss five key legal considerations for directors.

1. Insolvent trading moratorium and Safe Harbour

The government's legislative changes, introduced in March 2020, offered directors an important lifeline when navigating COVID-19. In accessing relief from personal liability for insolvent trading, many directors were able to continue to trade in circumstances where they may otherwise have taken the decision to place their business into administration. This enabled them to attempt to ride out the crisis in the hope that their business could survive the economic downturn.

However, these measures were always intended to be temporary and expired on 31 December 2020. In light of this and the support measures mentioned elsewhere in this article being wound back, directors need to take an honest look at their business, consider whether there is a risk that they could be said to be trading whilst insolvent in view of their forecasts for the next 12 months and be mindful of their duties to stakeholders to avoid this. Taking legal advice in these circumstances is imperative.

Safe Harbour continues to be available to directors in certain circumstances (for more information on Safe Harbour, please refer to our article "A Safe Harbour for Business in very Uncertain Times"). These provisions offer directors an exception from insolvent trading liability where they are working on a restructuring plan which is "reasonably likely" to lead to a better outcome for the company than administration or liquidation. To preserve the ability to make use of Safe Harbour, should it be required, directors should be particularly vigilant in the management of their business – that is, maintaining proper books, records and accounts, paying employee entitlements promptly and obtaining advice from a qualified restructuring practitioner.

2. Financing and liquidity 

In the context of assessing their cash flow and balance sheet position, directors should consider the arrangements in place with their financiers, particularly in cases where any form of relief (such as an interest repayment holiday) was agreed in light of COVID-19. Early engagement with financiers is key – whether there is an upcoming interest or principal payment which may be difficult to make, a need for additional liquidity, or potential or actual covenant breaches, directors should raise this sooner rather than later. 

We saw financiers act in a model fashion in supporting their customers through the COVID-19 pandemic, acting in a sensible, patient and cautious manner. Now, as business support measures taper off, the atmosphere appears to be changing: extensions to facilities previously granted by financiers may be coming to an end. While the significant market liquidity provides optionality for businesses, nevertheless we are seeing financiers strategically consider their positions and become more ready to consider enforcement action. It is therefore important for businesses to actively consider their position and pragmatically and proactively engage with their financiers.

3. Employees

The government's JobKeeper program, accessed by many Australian businesses to furlough staff during periods of closure or reduced activity, ceased on 28 March 2021. Businesses are no longer eligible to receive JobKeeper payments in respect of their employees and will not be able to rely on the more flexible JobKeeper enabling stand down directions.

With this in mind, businesses should be actively considering their staffing needs. If there is a need to continue to stand down employees outside of the JobKeeper program, or to permanently reduce or restructure the workforce, businesses will need to be aware of the relevant stand down requirements, redundancy pay and consultation obligations, effecting changes to terms and conditions of employment, and managing employee related claims, among other things. It will be important to take legal advice to manage this process effectively and in compliance with relevant regulations.

4. Property

Many businesses negotiated rent reductions or deferrals during COVID-19. Much like other support measures, these private support measures were always intended to be temporary. As the economy continues to recover, landlords are increasingly looking to wind back COVID-19 arrangements. 

Businesses should ensure that they are aware of and prepared for any upcoming deadlines and are in a position to meet deferred payments that have accrued during this period. If there is a risk that returning to pre-COVID arrangements will not be financially possible, directors should seek advice on further negotiations with landlords, and review their rights and obligations in circumstances where landlords may not be amenable to accommodating further extensions. 

In most cases, preserving an existing lease with a viable tenant will be preferable to a landlord rather than negotiating a new lease with a new tenant. On this basis, tenants should not consider themselves precluded from seeking to negotiate further relief simply because the statutory support regime ends or is not available. 

5. New opportunities

As many businesses have now dealt with the immediate critical issues created by COVID-19, now is the time to pause and consider whether there are opportunities to make fundamental changes to address the capital structure and cash flow needs of their businesses. 

Stakeholders have exhibited unprecedented support and flexibility for businesses throughout the COVID-19 pandemic. This, coupled with significant liquidity and activity in the market, creates an opportunity to effect changes which may otherwise be more challenging to implement. 

Depending on the end goal, there are a myriad of tools available to effect change through an informal, consensual restructuring; a formal insolvency process is often not required. An informal restructuring process may be as light touch as an amendment and extension to, or refinancing of, existing facilities; or may require more significant changes to the balance sheet such as a debt for equity swap, as in the recent success story that saw the consensual restructuring of the Ovato print business.

The chances of success are far greater if businesses engage in planning for a restructuring and stakeholder engagement before matters come to a critical point.

Whilst 2021 spells the end of some of the support and assistance that businesses have relied upon to survive the COVID-19 crisis, it is also a positive sign to see so many businesses rebounding strongly. To maximise the chance of being one of the success stories, now is the time for directors to redouble their efforts in considering the shape of all aspects of the business – including capital, property and employee issues. Whether a restructuring, turnaround or other process is a possibility, directors should seek advice early. Ashurst can assist directors with all aspects of this process, from finance, property and employment advice, through to a turnaround or balance sheet restructuring.

Authors: Alinta Kemeny, Partner; James Marshall, Partner; Emanuel Poulos, Partner; Michael Sloan, Partner; and Ross McClymont, Partner.