In The Red: Decoding Australia’s Sudden Surge In Corporate Insolvencies

Australia is experiencing an unprecedented surge in insolvencies, predominately due to turbulent economic conditions and the coordinated withdrawal of government support that was maintaining the economy post-pandemic. In this article, Litigation and Dispute Resolution Senior Associate Lachlan Boyle and Law Clerk Riley Hickey explore the increasing momentum in corporate collapses and its implications for business owners struggling to navigate the current conditions in corporate Australia.

Corporate Insolvencies

With the RBA delivering consistent interest rate increases and consumers engaging with weaker spending practices, businesses are undoubtedly pressured to keep their doors open despite the less-than-ideal economic conditions. As a result, there has been a significant increase in insolvencies, with the figure almost doubling in the past year. In particular, March 2022 saw approximately 464 insolvencies reported to the Australian Securities and Investments Commission, compared to March 2023, with a whopping 828 insolvencies. In June 2023, the Australia Financial Review published that business collapses have hit the highest monthly level in more than seven years.

While numerous industries have been affected, the construction industry has been hit the hardest. It has been estimated that builders of 5200 residential construction projects worth a collective $2.2 billion have collapsed since 2021, marking a 9-year high. Industry leaders have testified that the current conditions are exceptionally grim, and businesses must hold on tight for at least another 18 months to see conditions equalise.

Other sectors feeling pressure include aged care, retail, hospitality, transportation, and logistics. Some recent household names to bite the dust include construction companies Porter Davis and Mahercorp. Amid the sea of businesses closing their doors, business owners watch on anxiously hoping that the unstable economic conditions will subside. In the interim, businesses must seek professional advice and support to navigate these difficult times and solidify their survival.

Corporate Insolvency Options

Directors must face the harsh reality of considering their options when a company faces financial distress.  We will briefly consider each of the various options available to directors below to give you a brief understanding of what is involved in each of the different processes.

Receivership

In the context of insolvency, receivership is a procedure for an individual secured creditor to allow them to recover a secured debt. Unlike other options, this is not a collective benefit but rather for the benefit of a single creditor. This involves the appointed receiver being appointed to realise a person’s property. Commonly in the insolvency context, a bank or other financier seeks to take security over the company’s property, and the appointment of the receiver results in the enforcement of that security in circumstances where there is a default under the relevant security agreement.

This creditor may seek to appoint a receiver through a private appointment, which may be under a mortgage or other security agreement. Alternatively, the appointment may occur via a court order, albeit this is a rare form and needs to be completed within the Corporations Act.

Liquidation

Liquidation is a process known as the ‘winding-up’ of a company, where it is shut down, its assets are sold, and the proceeds of the sale are used to repay its debts. Either creditors or members may appoint a liquidator in circumstances where a company is voluntarily wound up.  This allows the liquidator to gain control of the company’s affairs so that the company may be wound up in an orderly fashion in a way that benefits the existing creditors.

Voluntary Administration

Voluntary administration is the process that aims to rescue the company from financial adversity, where the powers of the directors are temporarily suspended, and an administrator is appointed to take control of the company to manage its affairs until creditors determine its course of action. The administrator then typically a course of action that they consider the preferable option to maximise the return to creditors.

It is typically initiated through a Resolution by the majority of the company’s directors. The objective of the process is to ideally wrap up the process in just over a month, at the end of which the creditors determine as to whether to place the company into liquidation or agree to a Deed of Company Arrangement (‘DOCA’).

Directors’ Duties

When a company enters an insolvency context, specific duties are imposed on the company’s directors to ensure that the best interests of the creditors are considered first and foremost. The Corporations Act imposes obligations on directors to prevent their company from incurring additional debts during periods of suspected insolvency. Directors must remain aware of the consequences of breaching this duty, as personal liability may be imposed on them.

It’s important to understand the legal implications of insolvency and the potential consequences for directors, significantly where a liquidator can recover losses from the director in their capacity if certain elements are established. Additionally, directors may also be subjected to action from creditors as well. It’s also worth noting that ASIC can commence civil penalty proceedings against directors, which can result in bans from managing corporations and orders for compensation. It’s essential to consult with legal professionals and conduct thorough research to understand the potential consequences of insolvency fully.

The ‘Safe Harbour’ Defence

Despite the above, there are various exceptions to the liability imposed by the Corporations Act, including the safe harbour defence from civil insolvent trading liability. The safe harbour defence was only introduced in 2017 and was designed to reduce the unnecessary appointment of voluntary administrators or liquidators. The defence itself provides protections for directors from personal liability. It may be invoked where a director who suspects that a company is insolvent, or may become insolvent, takes appropriate steps to mitigate the company’s financial situation by undertaking a suitable course of action to restructure the company outside of the insolvency process, that is, reasonably likely to lead to a better outcome for the company. In that regard, the director will be protected against any liability from the debts incurred by the company during that period.

Various factors that may be taken into consideration to establish a defence include whether the director:

• Takes appropriate steps to inform themselves about the company’s financial position
• Takes appropriate steps to prevent employee misconduct
• Ensures the company maintains appropriate financial records
• Obtains advice from a licensed insolvency practitioner or other qualified entity
• Is proactively developing a restructuring plan for the company for the purpose of improving its current financial position

RAMSDEN LAWYERS – HOW WE CAN HELP 

Navigating insolvency can be complicated for business owners, especially considering the challenging economic conditions. If you are concerned about your business’s financial position, we encourage you to seek professional advice to consider your options immediately.

If you are seeking legal advice, Ramsden Lawyers can assist you. We are happy to arrange an obligation-free initial consultation to assist you in navigating the relevant legislation for your circumstances. Our Litigation and Dispute Resolution Division has specific expertise in helping companies navigate insolvency and to assess what option may be the most preferable course of action.

The content of this article is intended to provide general guidance to the subject matter and must not be relied on as legal advice.  Specific advice should be sought about your circumstances.