A recent academic article from the UK has reviewed proposed restructuring reforms announced by the government in August 2018, although yet to be implemented. These comprise a minimum 28 day moratorium for the debtor on creditors’ claims, a debtor-in-possession (DIP) arrangement with a monitor role rather than that of an insolvency practitioner (IP), a restructuring plan with cram-down rights and protection from ipso facto termination rights, with termination and other rights built in.
Solvency, the viability of the company’s rescue and access to money are some of the threshold requirements.
Such reforms should be on the table in any ‘root and branch reform’ that is talked about in Australia, but that is unlikely.
The author, Professor Rebecca Parry,[1] sees these reforms as potentially recalibrating the on-going ‘power dynamic’ in UK insolvencies in an attempt to invigorate the rescue culture.
From Australia’s perspective, the reforms propose the type of changes that have so far not been considered, in fact have been opposed.
Like Australia, there is in the UK some ‘significant distrust’ of company managers generally, including in DIP roles. The reforms therefore apply some ex ante safeguards that, as Parry says, make the procedures more costly and difficult to implement than might have been desired of a true alternative to the UK’s administration law. Hence these reforms would not meet the need of SMEs for streamlined insolvencies as had been proposed in Australia and as are being examined internationally.[2]
Debtor-in-possession
This significant change is said to be based upon an acknowledgment that an ‘outsider’ – an insolvency practitioner – can involve an ‘inefficient expense’.
‘As an outsider, [the IP] will need time to acquaint himself with the operations of the company first before taking any meaningful action. In a time-sensitive process such as a company rescue this may well prove to be counter-productive’.
Parry does acknowledge that an IP can however be needed where the management is struggling with viable ongoing trading.
Pre-packs no more?
Nevertheless, by placing greater powers in the hands of the existing management the proposals potentially alter the balance in favour of the company. One consequence of this may be to remove the incentives for ‘pre-packs’, Parry suggesting that the lack of management involvement in a trade-on under a moratorium led to the rise of the prepack. She asks ‘a key question’ whether these proposed reforms will facilitate ongoing trading in a way that the rise of prepacks indicates that administration has failed to do.
Conditions for entry – solvency etc
There are conditions on obtaining a moratorium, one being that the debtor is solvent or potentially insolvent if action is not taken, with a focus on companies facing “relatively minor short-term cash flow issues”.
A “prospective insolvency” test is proposed, aimed at reducing the stigma of insolvency and prompting directors to take early corrective action.[3]
That leads to other conditions, that a company must have prospects of rescue and have ‘sufficient funds to operate its business, meeting all its current obligations as well as those falling due during subsistence of the protection’. This provides a safeguard for both existing and new creditors but that again may present an obstacle for SMEs.
The monitor
The supervisory role of the monitor is required from the onset, having undertaken an assessment of the company beforehand, and then confirming that the eligibility tests and qualifying conditions are met.
The monitor is to be a licensed IP although there is a possibility of a wider range of professionals being eligible in the future.
During the moratorium, the monitor can sanction any asset sales and the grant of new security with any credit advanced enjoying “super-priority” status over any costs or claims. The highest priority will be afforded to suppliers who will have been prohibited from triggering ipso facto clauses.
But it remains a debtor-in-possession process and ‘the monitor is not running the company’.
The monitor will be expected to terminate the moratorium immediately if the qualifying conditions cease to be met. The monitor has statutory protection subject to good faith and a monitor cannot take a subsequent appointment to the company within 12 months.
Creditors
Creditors will be able to challenge the moratorium at any stage during its term on the grounds that the company is ineligible for the protection.
Restructuring plan
The plan will bind all creditors including those dissenting, through the use of a cross-class cram down provision but only if those dissenting creditors will not be worse off than in liquidation as a result of the plan.
‘For the first time within the UK’, directors will be able to ‘instigate a restructuring plan on their own volition at any time …’
After the moratorium period, with a plan in place, directors will be able exercise unfettered rights as a debtor-in possession throughout the tenure of the restructuring plan. As Parry explains, for the first time within the UK, the insolvency framework will enable company directors to instigate a restructuring plan on their own volition at any time, to extinguish pre-existing rights of any class of creditors without their consent, to trigger a cross-class cram down of dissenting classes of creditors and to determine the valuation of their own company estate.
Judges and practitioners
With insolvency systems relying much upon the quality and flexibility of the courts and the practitioners, Parry asks whether the proposals are ‘a good fit for [their] skills’, with the courts needing to play a greater role at the agreement stage and with IPs, and potentially others, occupying a safeguarding, rather than a managerial role.
Comment on Australia
Adopting that ‘balance of power’ theme, Australian law stands firmly in favour of creditors, and secured creditors, and with a regulatory and costly safeguarding process, though with limited court involvement.
Culturally, Australia goes further than the UK, and many other jurisdictions, in its level of corporate distrust, with directors, recently described as
‘those who led the business into insolvency’, being ‘sidelined’ with a liquidator taking ‘full control’ of their business, and with creditors becoming ‘the key stakeholders’. Hence, an IP is needed, Australia’s working under a ‘very strict’ code and ‘closely regulated’.[4]
A DIP model with monitoring by Australia’s IPs may be two steps too far.
That culture of distrust may have been reinforced in Australia in recent times with revelations of corporate and business misconduct and illegality in banking and finance, and also in many large and small enterprises’ dealings with their employees, taxes and more, all compounded by political misconduct.
How is this to be assessed anyway?
In the end though, how are the respective merits of different approaches to insolvency and business rescue to be assessed? The Australian government has rejected the need for better insolvency data and little is known of Australian insolvency outcomes, with the industry itself never managing to explain its achievements in any verifiable way, and the disciplines of economics and finance offering little.
In any event, assuming these UK reforms proceed, their merits or otherwise may be too difficult to assess within any reasonable time. We should however be grateful that law academics at least are making their contributions to assist us understand how the law may work, both in the UK and as potentially adopted elsewhere.
[1] Is the Balance of Power in UK Insolvencies Shifting? (2019) 7 NIBLeJ 2, Rebecca Parry and Stephen Gwaza.
[2] See Guiding the way: Recent developments in UNCITRAL’s Simplified Insolvency Regime [2020] Insolvency Law Bulletin, S Pacchiarotta and C Heaslip [forthcoming], commenting on the work of UNCITRAL Working Group V concerning MSE insolvencies.
[3] As to whether, as a pre-insolvency process, it would or should be recognized under the UNCITRAL Model Law, see The Characterization of Pre-insolvency Proceedings in Private International Law, (2020) Eur Bus Org Law Rev, Mevorach, I, Walters, A.
[4] See www.arita.com.au
