Safe harbour provisions for distressed companies

On 11 September 2017, parliament passed legislative reforms designed to provide relief to distressed companies to improve the prospects of implementing a successful turnaround strategy. These amendments are contained in the Treasury Laws Amendment (2017 Enterprise Incentives No. 2) Act 2017 and alter the Corporations Act 2001 (Cth) (‘Act’). The safe harbour reforms commenced upon the Act receiving royal assent.

Safe Harbour Provisions

The new legislation creates a ‘safe harbour’ for company directors from becoming personally liable (as is usually the case) in the event their company engages in insolvent trading where the company is undertaking an informal ‘legitimate restructure’.

The amendments are designed to reduce the need for directors to appoint administrators or receivers to their company for fear of contravening insolvent trading laws to encourage successful turnarounds.

For the duration of the safe harbour a director will not be personally liable for debts related to the company’s legitimate restructure attempt, subject to the below requirements.

Safe Harbour Requirements

The safe harbour provisions may only be relied upon where directors start developing one or more proposed courses of action that are, if actioned, ‘reasonably likely’ to lead to a ‘better outcome’ for the company than if it were to simply enter administration/liquidation (‘Turnaround Plan’). In addition, directors seeking to enter the harbour must take steps necessary to ensure their company has:

1. paid entitlements owed to employees as and when they fall due;
2. maintained appropriate financial records consistent with the size/nature of the company; and
3. upheld necessary tax reporting obligations (such as returns, notices, statements, applications, etc).

How can safe harbour protection be maintained?

In order to rely on safe harbour protection directors are expected to:

1. engage ‘appropriate advisors’;
2. develop, adopt and action the Turnaround Plan (with timetables);
3. assess whether each debt is incurred directly or indirectly ‘in connection with the courses of action’ proposed in the Turnaround Plan (this is necessary as any unrelated debts are not subject to safe harbour protections);
4. preventing employee misconduct;
5. determining whether a ‘standstill period’ can be agreed by stakeholders to allow some or all of the Turnaround Plan to unfold; and
6. continuing to maintain financial records.

While who amounts to a professional adviser is not specified in the amendments, general industry sentiment is that this includes (in broad terms) those with appropriate qualifications, expertise, demonstrated relevant experience and compliance with applicable codes of ethics and professional development requirements.

When does safe harbour protection begin and end?

Assuming the above criteria are satisfied, the safe harbour protection applies from the time the directors begin developing their turnaround plan.

Importantly, the requirement that a better outcome is reasonably likely is an ongoing test that directors must apply on a continuing basis. Once the directors conclude that a course of action is no longer reasonably likely (and therefore cannot deliver a better outcome), the safe harbour protection is at an end and directors are expected to then appoint and administrator/receiver for the company to be wound up.

Essential to the safe harbour protections is the diligent and continuing documenting of decision making processes, outcomes and plans generally. This is to ensure that evidence is maintained indicating compliance with important criteria, particularly in support of concluding that a particular outcome was at the relevant time reasonably likely to produce a better outcome than traditional insolvency steps.

What is a ‘better outcome’?

The Act defines ‘better outcome’ as being an outcome better than would be achieved via the immediate appointment of an administrator or liquidator.

What is ‘reasonably likely’?

What amounts to being reasonably likely is not defined in the amendments, meaning directors will have to interpret whether a course of action is probable using their discretion. Importantly, directors are only expected to determine what is reasonably likely at the time the decision is made (rather than with the benefit of hindsight).

Impact of the reforms

The proposition behind the safe harbour reforms is that reducing the personal risk for directors in undertaking informal turnaround strategies will achieve better outcomes for companies, employees, creditors and the economy generally. This is based on the idea that directors are incentivised to consider riskier alternatives to formal insolvency procedures which they otherwise may have avoided. Conversely, critics argue the amendments encourage distressed companies to ‘gamble’ with creditors money in circumstances where an adverse outcome is a material risk.

Due to last minute changes prior to the amendments being passed, the safe harbour reforms are now subject to independent review after two years.

Ramsden Lawyers’ are experts at advising the directors of distressed companies considering entering the safe harbour. Should you require our assistance please feel free to contact Ramsden Lawyers’ business team on (07) 5592 1921 or alternatively via our online enquiry system.