Pre INSOL post
I am pleased to have had my topic accepted for presentation at the INSOL Academics Colloquium in Barcelona on 22 May 2025 – Insolvency and competition law – parallel universes, serving contradictory goals, without coordination.
My session is about the intersection of Darwinian economics and law, more precisely, between the economics of competition which determines that only the fittest of businesses should survive, and the law of insolvency and restructuring, which intrudes upon that process to maintain the survival of the less than fit.
This intersection has no coverage in Australia but is the subject of academic analysis overseas.
My assessment is that examination of the intersection reveals some shortcomings in insolvency law.
The economics
The following puts the economics side of insolvency law, quoting overseas and Australian commentary.
This intersection between the law of insolvency and restructuring and the law of competition has been described as resulting in a “clash, insolvency allowing an insolvent and possibly less efficient company to be restored to the market to compete unfairly, inconsistent with Darwinian processes of the promotion of an efficient market”
“A certain degree of distortion of competition is inherent [in] insolvency law, especially corporate rescue. Insolvent companies going through a rescue procedure inevitably improve their market position and consequently gain a certain competitive advantage over solvent competitors who cannot take the same route”.
Liquidation of firms, or business “exits”, are an indicator of a competitive and efficient economy. The Australian government in 2015 said that firms’ entries and exits “play an important role in fostering innovation, competition, and thereby driving productivity and economic growth. … Competition from new firms, or even the threat of potential entry, forces existing firms to be more efficient. The exit of inefficient firms can provide for greater allocative efficiency as their former resources can be put to higher value uses”.
More recently, the Productivity Commission at the 2023 PJC inquiry into corporate insolvency said that while restructuring was often a desirable outcome
“Insolvency and business exit play a very important part in maintaining the dynamism of the economy. They ensure that it’s an innovative and constantly changing economy. Whilst there’s an element of pain associated with financial distress, sometimes business exit is an important way for us [to] get economic growth through innovation and different business models, and in some industries in particular that is a mechanism by which innovation and productivity growth occur”.
Further, the PJC Report cites the OECD that a
‘well-functioning exit margin, which sorts successful market activities from unsuccessful ones, is vital to aggregate productivity growth’. … Moreover, ‘[t]he gains to aggregate productivity are magnified if the scarce resources once consumed by exiting firms – capital, labour, skills and ideas – can be reallocated to more productive uses’”.
While the PC acknowledged that there can be “an element of pain associated with financial distress”, the liquidation of a business can be an important way to promote economic growth. Also, the pain may be overstated and needs to be put in context. While 29,000 Australian businesses are said to have closed down in the last 3 years, 850,000 new businesses were established.
Further, the Reserve Bank of Australia reports are that over 90% of employees displaced by insolvency are re-employed by another business within a few months, or have been retained, and they have been able to recover their pre-insolvency earnings within a year. The Productivity Commission refers to US findings that that laid-off workers found new jobs at more productive firms and that the relatively high rates of US labour churn after the COVID-19 pandemic potentially assisted productivity growth, consistent with the views of the PC.
Overall, the numbers of insolvencies are very small compared with the 3 million businesses in Australia. Perhaps there should be more liquidations, although there are far many more default deregistrations, with assets of some or many likely transferred to a successor business.
The $34b owing in tax by small businesses would be a useful cohort with which to start. As the ATO has explained, those recalcitrant taxpayers are taking an unfair competitive advantage over their tax compliant competitors. The government also acknowledges the adverse impact of phoenixing on competition.
And the benefit of a corporate structure is that its liquidation is no impediment to its owners starting again; unlike bankruptcy.
All this suggests that liquidation of an insolvent business is the primary option. Any rescue option should be limited by stricter economics-based criteria; and other accountability conditions might be imposed. This calibration needs to be carefully set.
An examination of insolvency law from the broader perspective of the market in fact provides a sharper assessment of some of the claims of the restructuring process, for example with Part 5.3B and Part 5.3A.
As to those claims, we don’t know that much about how the rescue system works at present, with neither government, nor the industry, extracting relevant insolvency data to inform law reform; some academic efforts excepted. This deficiency extends back to ALRC 45 – [36]-[43]. Though we are not alone in this – “the most significant thing about the role of empirical research in bankruptcy policy has been its insignificance”.
More academic comments
Here are some more academic comments:
“If competition policy is based on its own strict criteria of the merits and efficiency of the firm … so too should insolvency law be decided according to technical and entrepreneurial assessments on the reality of the reorganization prospects, that is, on business merit”.
Insolvency law “has to constantly be aware of its impact on the rules of fair competition. Any of the ‘advantages’ that can be used in a [restructuring] type of proceeding need to be screened regarding their compatibility with competition law”.
Otherwise, in the EU context, the concern has been expressed that “insolvency law will eventually be recognized as an acceptable business method to get ahead of one’s competitors”.
That concern has otherwise been expressed that we “should be wary of creating a business environment in which corporate rescue can be used as a ‘business tool’ that circumvents the Darwinian process of competition [to the extent that] the trust in the insolvency system may be lost and the system may fall into disrepute and misuse”.
The suggestion is that there is a need for a modernisation of insolvency law to adequately address the efficiency in the market and thereby foster economic recovery and development and that “such modernization needs proper coordination between insolvency and competition law”.
Tentative view
These economic perspectives go to the PJC’s recommendation 2 that the appropriate principles and objectives of insolvency law be reassessed, here as to the limits of corporate rescue: Insolvency law – has corporate rescue gone too far? 30 April, Sydney Law School – Murrays Legal
Coming to an early view, the suggested rescue dividing-line for corporates should be based on new legislative restructuring criteria – an otherwise viable business, adversely impacted by some external force (although including mismanagement), that can be restored with a level of accountability and on-going contribution, etc. Misconduct should not be rewarded.
Some left field reform suggestions
- While we don’t want full market evidence required of an administrator or a court in recommending or deciding the validity of a DOCA, some market assessment criteria may need to be considered.
- Maybe there should be some on-going or future review of the debtor’s performance, to at least provide some accountability to the rescue process.
- Insolvency law gives much power to the creditors – pursuing their own interests. Perhaps we should consult the competitors, however defined, who may well know more about the debtor than the creditors.
- If rescue is pulled back, it may be that the liquidation process can be adjusted, beneficially, as well, to allow a more constructive outcome.
Law and policy and reform
Although insolvency cuts across many other bodies of law, it might be criticised for being insular in its close focus on the debtor and the creditors, to the exclusion of other stakeholders. While insolvency practice and policy are difficult to contain and define from a government perspective, the spread in Australia is quite wide. At least personal insolvency now comes under the Treasurer along with corporate insolvency, tax and competition law, small business, with employee claims remaining under Workplace Relations.
As to law reform, we are fortunate that there seems to be consensus that under any comprehensive review of insolvency law, as recommended by the PJC, these threshold issues raised by competition and other perspectives, will be determined.
For references, see Insolvency & competition law – INSOL Academics – 22.5.25 – References – Murrays Legal
