Corporate insolvency law in a time of crisis

Content Summary

Author: Dr John Purcell, Policy Adviser Environmental, social, and governance ‘ESG’, CPA Australia

In its January 2020 annual survey of perceptions of thirty global risks, the World Economic Forum (WEF) ranked infectious diseases tenth in terms of impact, though well down in the bottom-half of expected likelihood. There is no need to repeat here how 2020 has tragically unfolded.

Pandemics fall into that hugely problematic economic phenomenon of ‘black swan’ events for which there are few ‘playbooks’ at hand for governments, policymakers and regulators to manoeuvre through the crisis. Other ‘black swan’ events include cyberattacks, terrorist attacks and extreme weather events.

It would be naïve to suggest that our systems of economic regulation and market oversight could be engineered to futureproof against eventualities both indeterminant and incalculable. Nevertheless, what the coronavirus pandemic has laid bare is the piecemeal fashion in which law reform is undertaken, along with the risks of winding down institutional and system-wide capacity.

Insolvency law is in the frontline of these stresses. It performs a pivotal economic role working through the multiple consequences of corporate collapse and transmitting to individuals – creditors, directors and owners – the financial, and in turn human, consequences of irreversible and irretrievable losses. Whilst also providing means of ‘rehabilitation’ for both assets and persons.

Business financial stress and collapse is inevitable; an expected, acceptable and necessary outcome in any market economy. Australia’s corporate insolvency laws and system has handled the ebb and flow of corporate failure associated with the impact of economic cycles and those instances of significant individual corporate collapse. Two interrelated matters of significant tension have now, nevertheless, become apparent as the coronavirus-related economic crisis unfolds:

  • The temporary changes to insolvency law announced in March are holding back the floodgates of a now widely expected surge in insolvencies. This poses systems challenges extending into the future, which if not adequately addressed, will leave a legacy of a large number of ‘zombie’ companies dragging on the economy.
  • Whilst the external administration provisions of the Corporations Act have been progressively revised and augmented, the broad structure of the system is still that introduced in 1993; the cornerstones of which are the voluntary administration/deed of company arrangement, insolvent trading and statutory demand provisions. The insolvency system will play a key role in Australia’s path to economic recovery and, if it wasn’t already apparent, a deeper wide-ranging review is much needed.

Deeper challenges and opportunities are around: (i) where emphasis is placed, (ii) what the most suitable statutory and administrative mechanisms might be, recognising the diverse nature of the Australian economy whose participants are of widely differing size and complexity, and (iii) what are acceptable trade-offs acknowledging that there can be no perfect solution.

Given the overarching reality of insolvency law, the following are some of the issues which might be considered in a review:

  • As part of a framework which has wide economic and social implications, the funding of the insolvency system may need greater orientation towards ensuring adequate capacity in terms of professional and technical resource at both the regulator and practitioner level. This means funding that incentivises and places a fairer burden on that which is the subject of regulation – the broad body of registered companies.
  • There is longstanding concern about the dual, but interrelated, realities of applying ‘one size fits all’ business recovery and liquidation processes, and the increasing frequency of either asset-less or minimal liquidated asset insolvencies. These longstanding challenges warrant a ‘whole of system’ approach.
  • As the impacts of the pandemic progress, government policy will increasingly be focused on rebuilding the economy. The challenge in reshaping insolvency law may involve balancing the urge for a more laissez faire approach to corporate conduct, with a broader opportunity to rethink the inclusiveness of our capitalist market system. Such matters are far more than esoteric contemplation, affecting the shape and future direction of key areas of the law, including the enforceability of secured rights and safe harbour protection from director personal liability for insolvent trading.

If the Global Finance Crisis (GFC) is seen as an appropriate reference, COVID-19 could trigger well in excess of 10,000 corporate insolvencies working their way through the system on an annual basis. These daunting numbers will place significant stress on both the insolvency system and the economy more broadly; potentially impeding recovery.

A fatalistic view would regard this as consequence of the ‘black swan’ character of the pandemic. Nevertheless, what might actually be revealed is a failure of collective will to positively influence this critical part of our legal and economic system.

As many of the lessons from the GFC seem to have been forgotten, it would be a tragedy to likewise not grasp the opportunity at hand to build a better corporate insolvency system.

CPA Australia has a range of resources and guides to support accountants and business. View these resources on our COVID-19 hub including specific guidance for businesses in distress.