Building towards an uncertain future: COVID-19 and insolvency issues
The COVID-19 pandemic has caused a period of great upheaval and uncertainty. Not only has the onset of the pandemic been rapid and fluid, but governments have been forced to develop unprecedented policies and restrictions to combat the virus.
It is in this context that developers, like all Australians, must now review the way they conduct business. For example, being across their rights and restrictions when dealing with counterparties, such as contractors and suppliers, that may be struggling is crucial for developers (and that is equally relevant to any existing agreements in place and any new agreements being negotiated). Some of the most relevant developments from an insolvency perspective are summarised below.
Relevant stimulus and measures
The most prominent of the new policies brought in to combat the economic impact of the virus has been the Jobkeeper payment. It is worth nothing that the Federal Government has recently amended the operation of the Jobkeeper scheme to extend it, in a cascading form, until 28 March 2021.
As a further protection to businesses during the pandemic, the Victorian Government introduced legislation and regulations implementing the leasing principles contained in the National Cabinet Mandatory Code of Conduct – SME Commercial Leasing Principles During COVID-19 (Rental Code). The regulations specify that a landlord and tenant under an eligible lease must cooperate and act reasonably and in good faith in all discussions and actions associated with matters to which the regulations apply, namely, negotiating rent relief in accordance with the regulations. Landlords are restricted from exercising various rights, including rights to call on bank guarantees, increase rent payable under a lease and evict tenants due to non-payment of rent.
Developers are no doubt across their eligibility to apply for Jobkeeper if necessary. In circumstances where market conditions in the property market are difficult and construction is severely impacted by the implementation of Stage 4 restrictions in Victoria, it is also important to be aware that Jobkeeper and the Rental Code may be artificially supporting contractors and suppliers who would otherwise be in external administration, referred to as “zombie” companies.
As explained below, other measures have heightened the risk of unknowingly dealing with an insolvent counterparty in the current environment.
The Federal Government also introduced the following temporary measures for financially distressed businesses:
- increasing the minimum amount for a creditor to issue a statutory demand to a company from $2,000 to $20,000. A statutory demand is a formal demand made on a company which if not satisfied may give a basis for the creditor to take steps to wind up the company;
- increasing the threshold at which a creditor can initiate bankruptcy proceedings from $5,000 to $20,000;
- increasing the time both companies and individual debtors have to respond to statutory demands or bankruptcy notices from 21 days to 6 months; and
- relieving directors from their duty to prevent insolvent trading with respect to any debts incurred in the ordinary course of the company’s business. In effect, absent some “egregious dishonest or fraud”, directors may avoid personal liability for insolvent trading regardless of whether they have been taking “safe harbour” steps. However, directors’ other duties remain unaffected.
Developers should be aware that these measures, which were originally only intended to apply until 25 September 2020, have now been extended until 31 December 2020 as a result of Victoria’s ongoing Stage 4 restrictions. These moratoriums significantly impact how developers can seek to enforce their rights in relation to outstanding amounts owing to them.
It is worth mentioning that no similar changes have been made to the voidable transaction regimes in respect of insolvent companies and bankrupt individuals. Those regimes allow the insolvency practitioner to unwind certain transactions and demand that creditors repay monies they received. This is of particular note in circumstances where many businesses are forced to close their doors and it is likely to be difficult for a creditor to argue that they have not received an unfair preference payment and have no grounds to suspect that the debtor was insolvent. Creditors need to be mindful of this risk and consider taking steps such as receiving payment from a third party (see Maddocks’ recent alert: Third-party payments and unfair preference claims- effective shield or not?).
Where to from here?
The only certainty businesses can have during this period is that the economic outlook for the foreseeable future is very uncertain. The current environment is a reminder to all businesses to proactively consider risk management steps. This could involve developers:
- Reviewing contracts and agreements, including any security agreements, to ensure they are aware of their rights and obligations and aligned with the government stimulus measures;
- Where necessary, seeking advice on whether any agreement needs to be amended as a result of the pandemic;
- Considering whether their position may be better protected by, for example, taking out further security; and
- Carefully considering their dealings with potentially insolvent counterparties and the potential implications if those counterparties were to become externally administered.
There is also an opportunity for developers, and indeed many businesses around Australia, to restructure their affairs. Developers could take advantage of the stimulus measures listed above to have the breathing space to enter into either informal or formal restructuring. Where insolvency is imminent, steps such as entering into voluntary administration should be considered. The flexibility and time given by the voluntary administration process (particularly adopting a holding deed of company arrangement) gives directors time and space to meaningfully restructure a company’s affairs to ensure a viable business in the future.
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