Welcome to the first edition of the Herbert Smith Freehills Guide to Restructuring, Turnaround and Insolvency, Asia Pacific .
The Guide provides an overview of the laws relating to corporate restructuring, turnaround and insolvency ("RTI") in 14 major jurisdictions across the Asia Pacific region . It aims to provide you with an understanding of the legal framework in each of these jurisdictions, as well as to address key practical issues commonly encountered when dealing with companies in financial difficulties . The information is presented in a concise and easily accessible manner and aims to answer questions clients frequently ask us .
At the outset, we would like to acknowledge and thank the other leading law firms which contributed chapters for this Guide on their respective jurisdictions . We appreciate the time and expertise they have given to this project .
For each jurisdiction the Guide covers:
· a summary of each of the key formal restructuring and insolvency procedures;
· the methods by which secured creditors can enforce their security;
· common issues encountered in the lead up to formal insolvency procedures, such as insolvent trading issues, statutory clawback, and lender and director liability;
· priority of distributions in insolvency;
· the prevalence of restructuring techniques such as credit bidding,
· pre-packaged sales and debt for equity swaps, as well as the ability of creditors to engage in debt trading; and
· the recognition of foreign restructuring and insolvency procedures .
Herbert Smith Freehills also publishes several other well-regarded legal guides, including the “Guide to Lending and Taking Security in Asia Pacific”, “Asia Pacific Guide to Dispute Resolution”, “Anti-corruption Regulation in Asia Pacific”, “Asia Pacific Employment Law Guide”, “Asia Pacific Competition Law Guide”, and several others . Visit us at www.herbertsmithfreehills.com/insights/guides/asia-guides for a full list or contact us at email@example.com for further information .
Should you have any questions relating to this Guide or RTI in the Asia Pacific region, please contact us or the authors of the individual chapters of this Guide . In particular, we would welcome any comments or suggestions for the next edition of this Guide .
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Australia has a comprehensive legal regime relating to restructuring and insolvency, predominantly contained in the Corporations Act 2001 (Cth) ("Corporations Act") .
The most commonly used restructuring and insolvency procedures in Australia are:
· administrations, including deeds of company arrangement;
· receiverships; and
· liquidations (also known as "winding ups") .
Schemes of arrangement remain uncommon, but are becoming more frequently used in respect of larger financial restructurings .
Australia's restructuring and insolvency procedures are generally considered 'creditor-friendly' and focus on protecting, and achieving a better return for, creditors .
The Australian Government has proposed changes in relation to insolvent trading laws and the voidability of ipso facto clauses in insolvency, but those changes are not yet in the form of draft legislation . There will also be changes to restructuring and insolvency procedures once the Insolvency Law Reform Act 2016 (Cth) comes into effect .
1. What are the main corporate reorganisation or rescue procedures?
The main corporate reorganisation procedures in Australia are: (i) administrations (including deeds of company arrangement); and (ii) schemes of arrangement .
Administrations are governed by Part 5 .3A of the Corporations Act and are the most common form of corporate reorganisation procedure in Australia . The process involves the appointment of an external administrator and is designed to resolve a company's future direction quickly . The administrator takes control of the company and its business with the objective of maximising the chances of the company or its business continuing in existence or, if that is not possible, to obtain a better return for the company's creditors and members than would otherwise be the case in the winding up of the company . This may include reorganisation in the form of a deed of company arrangement ("DOCA") .
The administration of a company commences on the day an administrator is appointed to it . An administrator may be appointed by way of written instrument by:
· the company, if the company's board resolves that the company is, or is likely to become, insolvent (i .e . if it is not able to pay its debts as and when they fall due) and to make such appointment . This is the most common way in which an administrator is appointed and is often referred to as a voluntary administration;
· a liquidator or provisional liquidator, if he or she thinks that the company is, or is likely to become, insolvent; or
· a secured creditor who has an enforceable security interest in the whole, or substantially the whole, of a company's property . However, secured creditors will typically prefer to appoint a receiver in such circumstances .
Supervision and control
The administrator has control of the company's business, property and affairs, and has broad powers, including to carry on, terminate or dispose of the business or any property of the company (subject to the exceptions described under "Business and asset sales" below) . In doing so, the administrator acts as the company's agent . If a creditors' committee is appointed at the first creditors' meeting, the committee may, among other things, consult with the administrator and approve the administrator's fees .
The appointment of an administrator once made cannot be revoked, although an administrator may be removed by the creditors at the first meeting convened, or by the court, where such a removal would be for the better conduct of the administration . There is limited, and in some instances no, court involvement in an administration, although applications can be made to the court during the course of the administration . Only registered liquidators may be appointed as administrators (who are subject to Australian Securities and Investments Commission ("ASIC") oversight and regulation)
Stages and timing
The two main stages of an administration are the first and second meetings of creditors . The first meeting must be convened within 8 business days after the administration begins . Two issues are to be determined at the first meeting: (i) whether the administrator should be replaced by another person; and (ii) whether a creditors' committee should be appointed (and if so, who are to be its members) .
The second meeting of creditors is the time at which the company's future is decided . The creditors resolve, following a consideration of a report prepared by the administrator, that: (i) the company execute a DOCA; (ii) the administration end and control of the company be returned to the directors; or (iii) the company be wound up . The meeting must be held within 5 business days before or after the end of the convening period (being 20 business days beginning on the day after the administration begins, though it may be 25 days, depending on the time of year the administration began) . It is common for that period to be extended by the court upon application by an administrator (sometimes for significantly longer periods), especially in larger or more complex cases, to allow sufficient time for a sale or reorganisation of the business to be developed and implemented .
An automatic stay applies throughout the period of the administration which prevents:
· the winding-up of the company;
· secured parties enforcing security interests;
· lessors or third parties taking possession of leased property or property owned by the third party;
· court or enforcement proceedings against the company or its property; and
· enforcement of guarantees given by a director (or their spouse or relative) in respect of the company .
Depending on the nature of the stay, there are exceptions, including where a creditor obtains the leave of the court or the administrator's consent . Exceptions also apply to secured creditors who have taken certain steps to enforce the security prior to the beginning of the administration . A secured creditor with security over the whole, or substantially the whole, of the property of the company may also take enforcement action (including appointing a receiver) within the "decision period" (being 13 business days from notice of appointment of the administrator) .
The stay does not prevent counterparties from exercising contractual rights to terminate a contract, accelerate debt or make demands for payment .
Operation of the business
The administrator has the power to operate the company's business while it is in administration . The company can continue to incur debts and obligations, and sell products and services in the ordinary course of the business, although those acts must be authorised by the administrator .
The administrator is personally liable for debts incurred in performing his or her functions and powers for (i) services rendered; (ii) goods bought; (iii) property hired, used or occupied; and (iv) repayment of money borrowed (and related costs and interest) . However, the administrator is entitled to be indemnified out of the company's property for debts or liabilities incurred in the performance of the administrator's functions, and such indemnity is secured by a lien on the company's property . Whilst the lien has priority over unsecured creditors, it generally does not have priority over secured creditors (with the exception of circulating security interests in certain circumstances)
New money funding
The administrator has powers to borrow funds on behalf of the company and is personally liable for such debts, subject to a right to be indemnified out of the assets of the company (see the commentary in "Operation of the business" above) . It is common for administrators to borrow funds on this basis (or by the administrator specifically granting security to the lender) provided the company has sufficient unencumbered assets to support the borrowings .
Business and asset sales
The administrator has the power to dispose of the business and property of the company, with such sale conducted by the administrator (or parties authorised by that person) .
The administrator must not dispose of property subject to a security interest, or property of which someone else is the owner or lessor, unless (i) the disposal is in the ordinary course of the company's business; (ii) the written consent of the secured party, owner or lessor has been obtained; or (iii) leave of the court has been granted . The administrator must act reasonably in exercising a power of sale in such circumstances . Any net proceeds of sale of property the subject of a valid security interest must first be applied to any debts secured by that security interest . The purchaser will acquire the assets free of existing claims and security .
Implementation of a reorganisation or restructuring 'plan'
Before the second meeting of creditors, any person may propose a reorganisation by way of a DOCA in respect of the company and its creditors . A DOCA may provide for things such as a compromise or rescheduling of creditor claims, a further moratorium, a debt for equity swap, a sale of some or all of the company's assets, payment to creditors or the creation of a creditors’ trust .
Whilst there are few restrictions on what can be proposed in a DOCA, it must provide for a better return to creditors than would otherwise be available in a liquidation . It may provide for a different outcome among different classes of creditor provided there is a legitimate business reason to do so . The rights of secured creditors, owners and lessors of property will not in general be affected by a DOCA unless they voted in its favour or the court so orders (although this principle has been undermined to some extent by recent case law) .
The administrator will consider the DOCA proposal and prepare a report to the creditors, including his or her opinion as to whether it would be in the creditors' interests to execute the DOCA . The creditors vote on whether the company should enter into the DOCA at the second meeting of creditors . The DOCA will be approved if a majority of the creditors (by value and number) present and voting at the meeting vote in favour of the resolution .
If approved, the administrator must then prepare the DOCA, which must be executed within 15 business days after the end of the second meeting . If a DOCA is not approved, it usually means the company will enter liquidation .
The administrator will be the deed administrator, unless the creditors, by resolution passed at the meeting, appoint someone else . Once executed, the DOCA binds the company, its officers and members, the deed's administrators, and all creditors (subject to the comments above in respect of secured creditors, owners and lessors), insofar as the creditors' claims arose on or before the day specified in the deed .
Effect on stakeholders
The powers of directors and officers are suspended upon the appointment of an administrator . Employees continue in employment unless terminated by the administrator . Members are not able to transfer shares in a company under administration (subject to certain exceptions) .
Contracts do not automatically terminate upon the appointment of an administrator, although counterparties may have a right to terminate upon such an appointment under the terms of the contract . The administrator is generally not obliged to cause the company to perform any pre-existing contracts .
End of procedure
An administration will typically end shortly after the second meeting of creditors, at which the creditors vote on whether the company should: (i) enter into a DOCA; (ii) be returned to the control of the directors (rare); or (iii) enter liquidation .
A company will no longer be subject to a DOCA upon its termination (normally by reason of the occurrence of circumstances specified in the DOCA which result in termination, but can be by order of the court, by resolution of the creditors, or by notice given by the deed's administrators, depending on the circumstances) .
Schemes of arrangement
Schemes of arrangement in Australia may be creditors' schemes (i.e. schemes affecting rights of creditors of a company) or members' schemes (i.e. schemes affecting rights of members (shareholders) of a company) . In this part, we will only discuss creditors' schemes (and "scheme" and "scheme of arrangement" shall refer to a creditors' scheme of arrangement accordingly) .
A scheme of arrangement is a court approved compromise or arrangement between a company and its creditors (or any class of creditors) . The process is governed by Part 5 .1 of the Corporations Act .
A scheme is not strictly an insolvency process, and the company's directors remain in control of the company throughout the process, although an external officeholder known as the scheme administrator may sometimes be appointed to assist in the scheme of arrangement process (that said, a scheme of arrangement can also be undertaken by a company that is in a formal insolvency or liquidation process) .
Whilst the use of schemes of arrangement in Australia has been and remains less frequent than the use of DOCAs, there has been an increased use of schemes since the global financial crisis in connection with large and complex financial restructurings .
Initiation and stages
A scheme of arrangement is usually proposed by a company to its creditors (or to one or more classes of its creditors) . The process involves the following 3 main steps:
· an application is made to the court for an order to convene a meeting of a class (or classes of) creditors to vote on the proposed compromise or arrangement . At least 14 days' notice of the hearing of the application must be given to ASIC, who must have a reasonable opportunity to consider the terms of the proposed compromise (including the explanatory statement), and to make submissions to the court;
· the meeting (or meetings) of creditors is held at which creditors vote on the proposed compromise or arrangement; and
· if the creditors vote in favour of the proposed compromise or arrangement, the court then decides whether to approve the scheme .
The time to effect a scheme of arrangement can vary significantly depending on the complexity of the restructuring . However, they typically take between 4-6 months (or longer) to negotiate, document and implement .
Approval and implementation
For a creditors' scheme of arrangement to be approved:
· a majority in number; and at least 75% by value,
· of creditors (or creditors of each class) present and voting (in person or by proxy) at the meeting of creditors (or of each class thereof) must vote in favour of the scheme .
If the creditors vote in favour of the scheme a further application must be made to the court to approve the scheme . The court may grant its approval subject to such alterations or conditions as it thinks fit . Once approved, the scheme can take effect in accordance with its terms .
Schemes can be used to bind secured creditors if the secured creditors are included as part of the compromise or arrangement .
Supervision, control and operation of the business
Whilst a compromise or arrangement is being proposed, the directors and officers continue to have control over the company and the process . Typically the scheme itself will have little impact on the operation of the business, as it generally relates only to a compromise or arrangement in respect of the company's financial debt (it is usually the case that a company's other creditors, such as trade creditors, are not affected and do not have their rights compromised by the scheme of arrangement) .
New money funding
In the period while the scheme is proposed and executed, the company can continue to borrow money and grant security in the normal manner .
There is no automatic moratorium when a scheme of arrangement is proposed . However, where a scheme has been proposed, an application may be made to the court to restrain further legal proceedings against the company .
2. What are the main (insolvent) corporate liquidation procedures?
An insolvent company may be liquidated through: (i) compulsory liquidation; or (ii) a creditors' voluntary liquidation . In Australia, the terms 'liquidation' and 'winding up' are used interchangeably .
Compulsory liquidation and creditors' voluntary liquidation
Compulsory liquidations (where the court orders the winding up of the company) and creditors' voluntary liquidations (where the
shareholders vote for the insolvent company to be liquidated) are governed by the Corporations Act . They are commonly used in Australia where an insolvent company is to be wound up, and involve the appointment of an external officeholder (the liquidator) to the company . The objective of a liquidation is to collect the company's assets, realise them and distribute the proceeds to creditors (in the priority prescribed by the Corporations Act) in an orderly manner . A liquidator also has broad powers to investigate the company's affairs and to challenge certain pre-liquidation transactions . Creditors' voluntary liquidations are the more common of the two .
In a compulsory liquidation, the procedure is initiated by an application to the court for an order that the company be wound up . Such an application may be made by various persons, including the company and its members, but is most often made by a creditor . There are a number of bases upon which a court may make an order to wind up a company, the most common of which is because the company is insolvent . Failure to comply with a statutory demand (being a demand served on a company by a creditor requiring payment of a debt within 21 days of service) is a ground upon which a company is presumed insolvent .
Creditors' voluntary liquidation
Members of an insolvent company can resolve to wind up the company by way of a creditors' (i .e . insolvent) voluntary liquidation (where no declaration of solvency is made by the directors), at which time a liquidator is appointed . If the members have resolved to wind up the company by way of a members' (i .e . solvent) voluntary liquidation (involving a solvency statement by the directors, together with a statement of affairs of the company), but the liquidator finds that the company is in fact insolvent, the liquidator may apply for the liquidation to proceed as a creditors' (i .e . insolvent) voluntary liquidation . A liquidator may also be appointed to a company in administration if the creditors have resolved at the second meeting of creditors that the company be wound up . It is usual in that instance that the administrator becomes the liquidator .
Supervision and control
The liquidator supervises and controls the liquidation process . The court has little or no involvement in the liquidation, unless applications are made during the course of the procedure, or the court appointed the liquidator .
The creditors are able to replace the liquidator at a meeting of creditors with another liquidator . The court may also, in appropriate circumstances, remove a liquidator and appoint another .
The liquidator has extensive powers, including the power to do all such things necessary for the winding up of the company, pay creditors or make compromises or arrangements with creditors, and sell property, although depending on the circumstances and the particular power to be exercised, the approval of the court, the committee of inspection, or a creditors' resolution may be
required . The liquidator also has the power to disclaim onerous property, including contracts .
At a meeting of creditors, a committee of inspection may be appointed . A committee can assist the liquidator, approve his or her remuneration and make directions to the liquidator (although the liquidator is not bound by those directions) . Liquidators must be registered, and are subject to ASIC oversight and regulation .
Stages and timing
In a compulsory liquidation, an application for a company to be wound up is to be determined within 6 months (or such time as extended by the court) after it is made . Once the court orders a company to be wound up, a liquidator is appointed .
In a creditors' voluntary liquidation, the creditors' meeting must be convened within 11 days after the resolution was made by members to wind the company up . Creditors must be given at least 7 days' notice of the meeting, and must receive a summary of the company's affairs, a statement of its assets and liabilities, and details about its creditors .
Following his or her appointment, the liquidator will take control of the company's assets, obtain its books and records, investigate the affairs of the company with the objective of collecting and realising assets, and deal with the company's creditors . The liquidator has regular reporting obligations to ASIC, and will hold creditors' meetings from time to time . The timing of a liquidation depends on a number of factors, including the complexity of the liquidation, the investigations into the company's affairs, and the length of any proceedings commenced against any third parties, but can continue for a number of years in some instances.
A creditor must file a proof of debt with the liquidator for any debts or claims owing by the company to be entitled to receive distributions made by the liquidator . The liquidator must either admit or reject the debt (or part of it) . Normally, liquidators pay any dividends towards the end of the liquidation process . Secured creditors are not entitled to prove for their secured debt except under certain circumstances, such as where a secured creditor surrenders the security interest for the benefit of creditors generally .
In a creditors' voluntary winding up, there must be a final meeting of creditors and members before the company is deregistered .
Except with the leave of the court (and on such terms as the court thinks fit to impose), a stay automatically applies throughout the period of the liquidation that prevents:
· court proceedings against the company; or
· attachment or execution against the company's property .
The stay does not prevent:
· secured creditors from enforcing their security interests;
· landlords or owners of property from taking possession of such property; or
· counterparties from exercising contractual rights to terminate a contract, accelerate debt or make demands for payment.
Operation of the business
It is normal for the business of the company to be shut down upon or prior to the commencement of the liquidation . The liquidator's powers (referred to in "Supervision and control" above) include the power to carry on the business of the company, provided it is necessary for the beneficial disposal or winding up of the business . In doing so, the liquidator may incur debts, obligations and sell products and services.
Costs and expenses incurred by the liquidator in carrying on the business will receive priority over unsecured creditors and preferential creditors in any distribution made . Generally speaking, in the absence of misconduct, personal liability does not attach to the liquidator for acts and transactions performed or entered into in his or her capacity as agent for the company .
New money funding
The liquidator's powers (referred to in "Supervision and control" above) include the power to obtain credit (including on the security of the company's property) . It is possible for the liquidator to be funded by a creditor to undertake investigations or bring proceedings against another creditor, although that possibility depends on a number of variables, including the assets that may be recoverable to benefit the funding creditor .
The liquidator will not generally be personally liable for acts and transactions entered into in his or her capacity as agent for the company (including borrowing of funds), although if there is such a risk, the liquidator may require an indemnity from the persons providing credit . If a liquidator borrows against the security of company property, such security is subject to the rights of existing secured creditors . However, the court has the power to make orders in favour of certain creditors who have assumed a risk in giving certain indemnities to a liquidator, giving those creditors an advantage in the distribution of the company's property in consideration of the risk assumed by them .
Business and asset sales
The liquidator will conduct a sale of the business and assets of the company with a view to benefiting the creditors . The liquidator is at liberty to choose the nature of the sale, and does not need
creditor or court approval, but in doing so, the liquidator is required to exercise due care and diligence . Except as noted below in relation to sale of secured property and payments statutorily preferred, sale proceeds form part of the assets of the company available for distribution to the company's creditors (see Questions 10-12 below) .
If the liquidator sells secured property, the secured creditor will be entitled to be repaid from the proceeds of any sale in priority to other creditors . The liquidator does not have the power to sell assets free and clear of security (unless the security has vested, as discussed below) .
Effect on stakeholders
Directors' and officers' powers are suspended upon the winding up of a company . Whilst employees are not automatically terminated upon the commencement of a liquidation, typically, most employees will be terminated by the liquidator shortly thereafter (although the liquidator may retain key employees to assist in the winding up) . Subject to certain exceptions, members are not able to transfer their shares following the winding up of a company .
Contracts do not automatically terminate upon the appointment of a liquidator, although counterparties may have a right to terminate upon such an appointment . The liquidator is generally not obliged to cause the company to perform any pre-existing contracts, and has the power to disclaim unprofitable contracts .
End of procedure
The deregistration of a liquidated company signifies the end of the liquidation, and the end of the company . It is not possible for the company to survive liquidation .
3. Is there a corporate receivership procedure for security enforcement?
Secured creditors are entitled to (and commonly do) appoint external officeholders, referred to as 'receivers', to take possession of and sell the secured property for the purpose of repaying the secured creditor . A 'receiver and manager' will also have broad powers to manage the business whilst appointed, and will generally seek to sell the company's business as a 'going concern' .
Receiverships are governed by Part 5 .2 of the Corporations Act together with the security agreement between the company and the secured party (which will normally specify the secured creditors' right to appoint the receiver and the powers of the receiver once appointed) .
This section discusses privately appointed receivers only . The courts also have the power in certain situations to appoint receivers, but this is rarely done in practice .
A security agreement will typically grant the secured party the right to appoint a receiver in respect of the secured property once the security becomes enforceable (typically following the occurrence of an 'event of default') . The appointment is made by way of a deed of appointment entered into between the secured party and the receiver . Receivers usually also require an indemnity from the secured creditor in respect of costs and liabilities incurred in the conduct of the receivership .
If an administrator has been appointed to a company, a receiver may still be appointed if: (i) the secured party has security over the whole, or substantially the whole, of the property of the company; and (ii) the secured party makes the appointment during the decision period (generally within 13 days of the administrator's appointment) .
Supervision and control
Generally, there is little court oversight of receivers, although a court does have powers upon application to remove a receiver, fix a receiver's remuneration, and give directions to the receiver in relation to matters arising out of the receivership .
The powers of the receiver are contained in both the Corporations Act and the security agreement pursuant to which he or she was appointed . The powers set out in the Corporations Act are extensive, and include the power to take control of and dispose of the secured property, borrow money on the security of property, carry on the business, and bring or defend proceedings on behalf of the company, although those powers are to be used for the purpose of attaining the objectives for which the receiver was appointed .
There is no automatic stay or moratorium against creditor claims in a receivership . However, if an administrator is also appointed to the company, the administration moratorium will apply (see above), which the receiver can effectively benefit from .
Operation of the business
It is usual for the receiver to operate the business of the company during the receivership provided the receiver has been appointed over all the assets of the company (and the security agreement does not limit the receiver's power to do so)
The receiver can continue to incur debts and obligations for the purposes of realising the assets, but will be personally liable for debts incurred in the course of the receivership for: (i) services rendered; (ii) goods bought; or (iii) property hired, used or occupied . The receiver will also be personally liable for rent under pre-existing contracts that is attributable to the period beginning 7 days after the appointment for so long as the company continues to use the property (or the receiver remains appointed) . The receiver is entitled to be indemnified from the secured property in respect of such debts incurred (together with any other costs and expenses) and such amounts are generally entitled to be paid to the receiver in priority to moneys owing to the secured creditor (i .e . effectively giving such debts priority to the secured creditor) . The receiver is generally not permitted to deal with assets of the company unless they are subject to the security created by the relevant security agreement .
New money funding
The receiver will normally have the power to borrow money secured against the property of the company, and grant options over property on such conditions as the receiver thinks fit, but those powers must be exercised for the purpose of attaining the objectives for which the receiver was appointed . The receiver will be personally liable for repayment of such amounts, but the receiver will be entitled to be indemnified for such amounts from the secured property ahead of the secured party (therefore effectively giving the lender of additional funds priority to the amounts owing to the secured creditor) .
Business and asset sales
The receiver has the power to sell the secured property (and related business) over which they are appointed . Whilst creditor or court approval is not required to undertake the sale, the receiver sells the property as agent of the company and therefore generally does not have the power to release any security over the assets being sold (this must be done by the applicable secured creditor) .
A receiver has a statutory obligation to take all reasonable care to sell the property at market value (or if the property does not have a market value, for the best price reasonably obtainable, having regard to the circumstances existing when the property is sold) .
Sale proceeds are applied according to the security agreement under which the receiver was appointed, but will normally provide for payment of the receiver's costs, expenses and remuneration first, then repayment of the secured debt . Any surplus must be paid back to the company . The security agreement will usually make provision for release of the security upon repayment of the outstanding debt to the secured party .
Effect on stakeholders
The mere appointment of a receiver does not terminate a contract, nor does it suspend the powers of the directors and officers . Receivers have the power under the Corporations Act to engage or discharge employees in attaining the objectives for which the receiver was appointed . Shareholders are generally unaffected by a receivership in that there is no moratorium or stay on the transfer of shares .
Relationship with other insolvency procedures
It is common for a receivership to co-exist alongside an administration or liquidation . The receiver generally has the power to continue to sell the secured assets and operate the business if an administrator has also been appointed . If a liquidator is appointed following the appointment of a receiver, the receiver can carry on the company's business with the approval of the court or the liquidator .
4. What are the main types of real and personal property security, and what types of assets can security be taken over?
In Australia, most land ownership is governed by the Torrens title system and security is generally taken by way of a registered mortgage over the freehold or leasehold interest in the land . Registration is not mandatory and a failure to register the mortgage will generally not affect the validity of security as against the grantor . However, registered interests generally have priority over unregistered and subsequently registered interests, and failure to register may lead to postponement and potentially extinguishment of the secured party's interest .
Security over personal property (including goods and chattels, inventory, shares and other investment instruments, bank accounts and intellectual property) typically constitute 'security interests' for the purposes of the Personal Properties Securities Act
2009 (Cth) ("PPSA") . As a general rule such security interests must be perfected either by: (i) the secured party taking possession or control of the collateral; or (ii) the secured party registering such security interests with the Personal Property Securities Register ("PPSR"), within the relevant time periods . Failure to perfect the security can void the security interest upon the formal insolvency of the grantor . The timing of any perfection (or failure to do so) can also affect the secured party's priority in respect of other security interests .
For more information on taking and enforcing security in Australia, please request a copy of the Herbert Smith Freehills' Guide to Lending and Taking Security in Asia Pacific .
5. Is it possible to take floating or general security over all of the present and after acquired property of a company (and is this common)?
Yes . It is common practice for security to be granted in the form of a 'general security agreement' under which a PPSA security interest is granted over all of the present and after acquired personal property of the company; and a charge or mortgage is granted over any other (non-personal) property, such as real estate .
6. What are the main methods of enforcing security?
Receivership is one of the main methods of enforcing security (please see the commentary to Question 3 above) .
Mortgagee in possession
If a mortgage has been granted over property, and the mortgagor has defaulted under the mortgage, the mortgagee may be entitled to exercise its powers, which may include taking possession of the property and exercising its powers of sale . Notice must be given to the borrower, and time must be given for the borrower to satisfy the demand, before powers of possession can be exercised . This is a self-help method where no court approval is required, and the powers of enforcement arise by virtue of the mortgage documents .
Normally, the mortgagee appoints an agent to enter into possession of the property and sell it . The mortgagee has a duty under the Corporations Act to take reasonable care to sell the property for not less than market value (or if the property does not have a market value, for the best price that is reasonably obtainable, having regard to the circumstances existing when the property is sold) . The mortgagee also has general law duties to act in good faith in relation to the sale .
7. With respect to share security, is it possible for the secured creditor or an appointee to exercise the voting power of the shares to approve transactions, replace directors or otherwise influence the operation of the debtor company?
Yes . It is common for security over shares to allow the secured creditor to exercise the voting powers of the shareholder once the security becomes enforceable .
8. What forms of security or quasi-security (e.g. retention of title) are commonly asserted by trade creditors or suppliers? To what extent are these recognised and enforceable in a formal insolvency?
Retention of title arrangements are common in supply agreements in Australia . However, under the PPSA retention of title arrangements are classified as security interests and therefore need to be 'perfected' (generally by a valid registration on the PPSR within the prescribed timeframes) in order to be enforceable in a formal insolvency of the company .
Trade creditors are also sometimes able to rely on liens that arise at law (although these are not particularly common in practice) . Contractual liens are treated as security interests under the PPSA, and therefore need to be perfected (by possession or valid registration on the PPSR) to be enforceable in a formal insolvency .
9. What are the main remedies and enforcement actions available to unsecured creditors in respect of unpaid debts (e.g. suing for debt, attachment/charging orders, petitioning for winding up)?
The main remedies and enforcement actions available to unsecured creditors in respect of unpaid debts include:
· issuing proceedings in the appropriate court seeking an order for repayment of the debt . Following judgment, a creditor may seek to use a number of enforcement processes . These include applying to a court for a warrant of seizure and sale, an order for attachment of debts (where a debt owing to the debtor is first applied towards the judgment debt in favour of the creditor), and an order for attachment of earnings (similar to an attachment of debts, although in respect of earnings of the debtor); and
· issuing a statutory demand . If the debtor is a corporation, and the judgment debt exceeds A$2000, a statutory demand may be issued against the company . If the judgment debtor fails to respond to the statutory demand within a prescribed period, it will be
· deemed to be insolvent and the judgment creditor can issue winding up proceedings and have the company placed into liquidation .
These actions will be curtailed upon the appointment of an administrator or a liquidator by reason of the moratorium on creditor claims upon such an appointment (see above) .
10. When are distributions made to secured and unsecured creditors in reorganisations and liquidation procedures?
Liquidators have the power under the Corporations Act to make distributions to secured and unsecured creditors . Distributions can be made as interim and final dividends, as and when the liquidator decides .
Distributions are not made in administrations, unless a DOCA is entered into which results in a distribution to creditors (often at a substantially lower amount than the value of their debt) .
Receivers will only make distributions to the secured creditor which appointed them, and any surplus will be paid back to the company .
11. What is the normal priority regime for recoveries and distributions in an insolvency in your jurisdiction?
Generally, the order of distributions in a winding up is as follows:
· costs and expenses associated with the external administration of the company;
· employee entitlements, including wages, superannuation, leave entitlements and retrenchment pay; and
· unsecured creditors (on a pari passu basis) .
The proceeds of secured property will generally be applied separately in satisfaction of the secured debt (provided that the proceeds of a circulating security interest must be used to pay certain debts ahead of the secured creditor), with any surplus being distributed in the order set out above if the company is in liquidation .
12. Are there any classes of unsecured creditor that have preferential treatment in a reorganisation procedure or liquidation procedure?
Yes . Employee entitlements (including wages, superannuation entitlements and injury compensation) receive preferential treatment over other unsecured creditors . Where the property of a company is insufficient to meet these payments (except for those related to injury compensation), payment must be made to employees entitled to them in priority over the claims of a secured party in relation to a circulating security interest . There are also provisions granting priority to proceeds of contracts of insurance for a liability incurred by the company at a certain time .
13. What transactions can be set aside in a liquidation or reorganisation procedure?
A liquidator may apply to the court to set aside the following types of transactions occurring prior to a liquidation:
· an unfair preference, being a transaction between the company and a third party which results in the third party receiving from the company more in respect of an unsecured debt than it would receive in respect of such debt if the transaction were set aside and the third party were to prove for the debt in a winding up of the company;
· an uncommercial transaction, being a transaction that a reasonable person in the company's circumstances would not have entered into, having regard to the relevant benefits and detriments of entering into it, and any other relevant matter (generally, uncommercial transactions are often those where the company's assets are sold at an undervalue);
· an unfair loan, being a loan where the interest or charges was/were or have become extortionate; and
· an unreasonable director-related transaction, being a transaction where a director (or his or her close associate) has/ have received a benefit from the company where, having regard to the benefits and detriments of the transaction (and any other relevant matter), a reasonable person in the company's circumstances would not have entered into the transaction .
In addition, a circulating security interest created within 6 months of the 'relation back day' (see below), will be void against a liquidator except to the extent it secured advances, guarantees, other amounts incurred at the time (or following) of the granting of that security (unless the company was solvent at the time) .
An unfair preference or uncommercial transaction can only be set aside if (among other things) the company was insolvent at the time it was entered into or at the time an act is done or omission is made for the purpose of giving effect to the transaction .
The court has the power to make a number of orders to set aside a transaction, including an order directing a person to pay money back to the company, or transfer property to the company .
Certain defences are available to third parties subject to a claim to set aside a transaction, including what is known as a 'good faith' defence, where the person received the benefit of the transaction in good faith and without actual suspicion of (and no reason to suspect) the insolvency of the company .
14. Is there a 'suspect period' prior to formal insolvency during which transactions are potentially vulnerable to being set aside on the basis set out above?
Yes . The Corporations Act provides that the 'suspect period' is 6 months to 10 years, depending on the nature of the transaction (and a number of factors) . The exception is an unfair loan, which is vulnerable to being set aside if made at any time . The 'suspect period' is calculated having regard to the 'relation-back day', which is determined by reference to how the company went into external administration (such as the day on which the winding up application was filed, but it can be a different day depending on the circumstances of the company) .
15. Are there circumstances where companies are required to commence insolvency proceedings? What are the consequences of failure to do so?
There are no circumstances in Australia which require a company to commence insolvency proceedings . However, there is a positive duty on directors not to trade a company whilst insolvent, which can 'force the hand' of directors to place the company into administration .
16. Can directors or management be subject to any civil or criminal liability for continued trading while insolvent or other analogous concepts?
Yes . Australia has some of the strictest insolvent trading laws in the world (which is one of the reasons for recent proposed 'safe harbour' reforms of those laws) . If a company incurs a debt whilst insolvent, and there were reasonable grounds for the director to suspect the company either is or would become insolvent by incurring that debt (in isolation or with other debts at that time), the director can be personally liable in respect of the debt so incurred (to the extent the applicable creditor suffers loss if the company subsequently enters liquidation) and subjected to both civil penalty provisions and criminal prosecution (for the latter, only if it can also be established that the director's failure to prevent the company from incurring the debt was dishonest) .
Whilst there have been very few successful prosecutions of directors for insolvent trading, the risk of insolvent trading claims is a common catalyst for directors to place a company into administration .
17. Do directors owe any enhanced duties in respect of creditors once a company is insolvent or in financial distress?
The generally accepted position in Australia is that directors owe their duties to the company to which they are appointed. Accordingly, directors do not owe duties to creditors, and creditors cannot take direct action against directors for a breach of duties .
Directors are required to consider the interests of creditors in the 'twilight zone', namely, the time during which the company is in or is nearing insolvency, as those interests are directly relevant to the interests of the company . Furthermore, the precise ambit of directors' duties in such circumstances continues to be subject of some debate in Australia following the Bell Group decision where it was suggested that the directors must go beyond mere consideration of creditors' interests but also ensure that creditors' interests are properly protected (in that case it was held that one group of creditors should not have been preferred through the granting of security at the expense of the rest) .
Failure to comply with the duty does not provide creditors with a directly enforceable right against directors for a breach of directors' duties or for the debt claimed by the creditor against the distressed company . However, an action for breach of the duty can be taken by an administrator or liquidator of the company .
18. Is there a concept of 'shadow directorship' that can lead to creditors becoming liable for actions of the debtor company or the directors?
Yes . Section 9 of the Corporations Act provides that a director includes (in addition to someone actually appointed to the position of director) a person in accordance with whose instructions or wishes the directors of the company are accustomed to act .
However, the mere fact that a person gives advice in the proper performance of functions attaching to that person's professional capacity or business relationship with the directors does not mean that person is a "shadow director" .
The consequence of a creditor being found to be a shadow director is that the duties imposed by the Corporations Act on directors will also be imposed on that creditor, including the positive duty to prevent insolvent trading, as will any penalties associated with a breach of those duties .
19. Are there any other key liability risks for creditors to consider when engaging with debtor companies and directors in pre-insolvency restructuring negotiations?
Yes . There is some authority in Australia that a creditor may be at risk if they had knowledge of, or deemed to have knowledge of, a breach or potential breach of a director's fiduciary duties when the company transacted with the creditor. The creditor may be at risk of being liable to account for any property disposed of by reason of the breach .
Further risks are those associated with voidable transactions, whereby certain transactions entered into are vulnerable to being set aside by a court, as detailed in the commentary to Question 13 above . Creditors should be aware of the potential clawback, particularly in relation to transactions where there is a loan, security is granted, or where payments are made to the creditor .
20. Is it possible for a secured creditor to acquire a secured asset in an insolvency, reorganisation or security enforcement sale process, and offset the secured debt against the purchase price?
There is no formal recognition of credit bidding under Australian law .
However, a credit bid can effectively be achieved through transaction structuring (in the right circumstances) . It is generally possible for a secured creditor to bid for an asset (either directly or indirectly through a newly formed company) being sold through an insolvency process . If the secured creditor has first ranking
security over the asset (and it is not a 'circulating security interest' in respect of such asset) then the secured creditor could normally expect that most, if not all, of the sale proceeds would be paid to it from the sale process in satisfaction of the secured debt (for example costs, expenses and taxes may still need to be deducted) . In some circumstances it can be possible to structure this money flow to occur without requiring actual cash payments (other than
to meet the "leakage" amounts payable to third parties as part of such transaction (such as costs, expenses and taxes), where the money is essentially "going in a circle" . In structuring any sale to a creditor consideration must also be given to the duty on receivers and mortgagees when exercising a power of sale to take all reasonable care to sell the property for market value (or if the property does not have a market value, for the best price that is reasonably obtainable, having regard to the circumstances existing when the property is sold) .
Credit bids are not particularly common in Australia, although they have increased in recent years due to greater numbers of distressed investment funds pursuing loan to own strategies in the Australian market .
21. Are there any rules regarding 'self-dealing' that restrict the ability to credit bid?
Under Australian law a mortgagee exercising its power of sale may not sell the property to itself . However, the scope of this rule is fairly narrow in practice, as it does not prevent a sale by the mortgagee to its subsidiary and does not apply to sales by receivers, administrators or liquidators .
22. Is it possible for parties to negotiate, document and consent to a sale of the business and assets of a company prior to a formal insolvency procedure, such that the sale can be rapidly implemented following the commencement of the insolvency procedure?
Pre-packaged insolvency sales (as practised in United Kingdom) are unusual in the Australian market for a number of reasons, including:
· that receivers (and mortgagees) are subject to a statutory duty to take all reasonable care to sell the property for 'market value' (or if the property does not have a market value, for the best price that is reasonably obtainable, having regard to the
· circumstances existing when the property is sold) . This has been interpreted by the courts as requiring a focus on the process followed by the receiver to value and market the property (rather than the price obtained);
· that administrators and liquidators are subject to duties of independence, which prevent them from having a 'substantial prior involvement' with companies prior to their appointment;
· the relative stringency of Australia's insolvent trading laws; and a general reluctance by administrators to effect sales without creditor approval (whether under a DOCA or otherwise) at a creditors' meeting, or with court approval .
23. Is it possible for creditors and the debtor company to pre-agree a reorganisation or restructuring prior to commencing a formal reorganisation process?
It is possible (and the normal practice) for a majority of the relevant group of creditors and the company to pre-agree a restructuring to be effected by way of a scheme of arrangement . Typically this would be done through agreeing a restructuring or lock-up agreement that binds creditors to vote in favour of a scheme of arrangement, the terms of which are appended either in summary or long form . Ideally such an agreement would be signed by 75% (or more) in value and a majority in number of the relevant creditors (to ensure the scheme is passed) . In practice it may be difficult to secure the majority in number of creditors if there are a large number of small holders .
There can also be a degree of pre-planning involved in formulating the DOCA to be proposed by a director or creditor in an administration . Typically however this is less formal than the practice involved ahead of schemes of arrangement, in part because it is not possible to propose or approve a DOCA at the outset of an administration, but instead this must wait for the second meeting of creditors (please refer to "Stages and timing" under Question 1 above in relation to the timing of that meeting) . It is also complicated by some of the factors referred to above in respect of pre-packaged sales .
24. Is it common for loans, bonds or other debt claims of distressed companies to be traded?
Yes . It is common for corporate loans, bonds and other debt claims to be traded in Australia where a company is distressed, and there is an active secondary debt market .
25. Are there any legal restrictions on who can acquire loans, bonds or debt claims in respect of corporate borrowers, or any process that must be followed?
There are few legal restrictions on acquiring corporate loans, bonds or other debt claims in Australia (although there may be restrictions under the terms of the finance documents themselves) .
Depending on the nature of the instrument, withholding tax may be payable on interest payments to offshore lenders/transferees . Generally the withholding rate is 10%, unless reduced under an applicable tax treaty .
A loan or debt claim may be an "account" for the purposes of the PPSA . If so, a transfer of the loan or debt claim is treated as a security interest even where it is an absolute transfer (and not a transfer made by of security), and in that case the transferee should register against the transferor on the PPSR . In some circumstances a failure to register can result in a loss of priority rights to the transferred loan or debt claim .
In some cases, a transferee that acquires a loan or debt claim must register with the Australian Prudential Regulatory Authority ("APRA") under the Financial Sector (Collection of Data) Act 2001 (Cth) . The transferee is obliged to register even if it is not carrying on business in Australia . The requirement to register applies, for example, if more than 50% of its assets in Australia are 'financial assets' (as defined) and its total assets in Australia exceeds A$5 million . When its assets exceed A$50 million the transferee must lodge periodic reports with APRA .
A transferee that carries on business in Australia (or which is a subsidiary of an entity that carries on business in Australia) may provide a designated service (for example, advancing further loans) for the purposes of the Anti-Money Laundering and Counter Terrorism Financing Act 2006 (Cth) . This may require enrolment with the Australian Transaction Reports and Analysis Centre .
Foreign investment laws may also apply, depending on the circumstances of the case .
26. What process and consents are typically required for a company in your jurisdiction to issue shares to a creditor as part of a debt for equity swap outside of a formal reorganisation procedure?
Any issue of shares by an unlisted company (whether a public or a proprietary company) must comply with the Corporations Act, as well as with any applicable provisions in the company's constitution and in any shareholders' agreement .
The Corporations Act contains a provision (which can be replaced in a company's constitution) to the effect that any share issuances for proprietary companies must first be offered to existing shareholders on a pro rata basis . There is no equivalent provision in the Corporations Act for unlisted (or listed) public companies .
Subject to the terms of a company's constitution and any shareholders' agreement, the power to issue shares resides in the board of directors . The nature of the board and/or shareholder resolutions that are required to issue shares will depend on the terms of the company's constitution and any shareholders' agreement .
Listed companies must be public companies (a proprietary company cannot be listed) . Subject to the terms of a company's constitution, the power to issue shares resides in the board of directors . However, shareholder approval may also be required in certain circumstances, under either the Australian Securities Exchange Listing Rules or the Corporations Act (as applicable), to issue shares, including where:
· the shares would cause the company to exceed its 12 month 15% placement capacity;
· the shares are being issued as part of a creditors' scheme of arrangement and would cause the company to exceed its 12 month 15% placement capacity; or
· a recipient of the shares would (either alone or together with its associates) emerge with voting power in excess of 20% in the company, unless the issuance is occurring as part of a creditors' scheme of arrangement .
27. To what extent can a debt for equity swap be implemented without such processes or consents in a reorganisation procedure?
In any reorganisation, the terms of the company's constitution and any shareholders' agreement will need to be considered . The following points assume the company's constitution and any shareholders' agreement do not contain any relevant restrictions on the issue of shares .
Shares can be issued as part of a creditors' scheme of arrangement, without the need for shareholder approval, provided that the company (assuming it is a listed company) would not, as a result of the issuance, exceed its 12 month 15% placement capacity (the 12 month 15% placement capacity only applies to listed companies) .
Shares can be issued as part of a DOCA, without the need for shareholder approval, provided that (i) the company (assuming it is a listed company) would not, as a result of the issuance, exceed its 12 month 15% placement capacity; and (ii) no recipient of the shares would (either alone or together with its associates) emerge with voting power in excess of 20% in the company .
Already issued shares can be compulsorily transferred from existing shareholders to new shareholders under a DOCA, without the need for shareholder approval, provided that the court approves the transfer and no transferee of the shares would (either alone or together with its associates) emerge with voting power in excess of 20% in the company .
28. Are informal financial restructurings (outside of a formal process) of distressed companies common in your jurisdiction?
Informal financial restructurings are very common in Australia . Australia's insolvent trading laws (which generally require a company to maintain solvency during any attempt at a workout outside of external administration) often pose a problem to achieving an informal restructuring . Therefore, informal financial restructurings in Australia often involve interim standstill or forbearance arrangements to provide directors with additional comfort with respect to solvency .
29. Has the UNCITRAL Model Law on Cross Border Insolvency been adopted, and are there any significant modifications to its application, in your jurisdiction?
Yes . The UNCITRAL Model Law on Cross Border Insolvency ("Model Law") has been adopted in Australia pursuant to the Cross-Border Insolvency Act 2008 (Cth), with the Model Law set out in Schedule 1 of that Act . In the case of inconsistency between the Model Law and existing cross-border provisions in the Corporations Act, the Model Law is deemed to prevail .
There are no significant modifications to the Model Law . Some amendments have been made, which are confined to either adopting alternative wording (in relation to Article 13 of the Model Law), or imposing additional requirements to ensure notification of the court of any proceedings or relevant matters under Australian law (in relation to Articles 15 and 18 of the Model Law) .
30. Are there any other grounds upon which assistance or recognition can be granted to foreign insolvency processes in Australia?
Yes . Section 583 of the Corporations Act allows for foreign companies and unregistered companies that carry on business locally to be wound up by an Australian court, and section 601CL provides for ancillary liquidations of registered foreign companies .
Sections 580 and 581 of the Corporations Act allow for the issuing and receiving of letters of request for assistance in insolvency matters from courts in certain other countries . In the case of prescribed countries, courts are required to act in aid of and be auxiliary to the foreign courts, and in the case of other countries, courts have a discretion whether to provide assistance at all . The prescribed countries are the Bailiwick of Jersey, Canada, Papua New Guinea, Malaysia, New Zealand, Singapore, Switzerland, the United Kingdom and the United States of America .
31. Is any significant law reform anticipated in respect of the law in your jurisdiction relating to insolvency, restructuring or security?
Yes . On 19 April 2016, the Australian Government released a Proposals Paper, proposing changes to insolvent trading laws (to allow for a safe harbour for directors) and to make void ipso facto clauses in certain external administrations . The Australian Government has not yet initiated legislation following submissions made to the Proposals Paper . Whilst such reforms, if made, will be a positive step for Australia's insolvency laws, they do not address other areas that are in need of significant reform .
In early 2016, the Commonwealth Parliament passed the Insolvency Law Reform Act 2016 (Cth) which made changes to Australia's insolvency laws, including changes to the laws relating to the remuneration of external administrators, increasing creditor visibility over administrations and liquidations, and providing liquidators with the right to assign certain causes of action (including those in relation to voidable transactions) . The regulations which form part of this Act have not yet been introduced into parliament .