Despite the myriad of government, lender, ATO and landlord relief available for businesses affected by the coronavirus COVID-19, the reality is that many will not receive the level of assistance required to continue trading profitably.
For some companies, now is an ideal time to consider formally restructuring their business – in doing so best positioning themselves for a re-launch into a post-pandemic environment free of the legacy elements that have drained cash and value from the business.
The voluntary administration (VA) regime, introduced in the early 1990’s, polarises views. Some contend that it is an under-utilised tool that works well to support corporate restructure and to preserve value for a company that would otherwise remain unviable. Others see it as too inflexible under the current insolvency laws, therefore serving primarily as a temporary stop-over on the way to an inevitable liquidation.
The statistics suggest that a high proportion of voluntary administrations end up in liquidation. Admittedly, many companies with non-trading businesses have historically entered a VA process in order to access the interim protection available from landlords and lessors, before proceeding into liquidation as expected. But in reality, those stats don’t really reflect the merits of the VA process when it is used for good.
Take, for example, a viable core business buried within a company that is overburdened by debt, too many staff, poor management, onerous leases and other claims on a cash flow that could better be invested in preserving and growing the core business. In normal circumstances, with the momentum of an economy in full swing, it can be difficult for directors to consider, plan and implement a restructure that can see the core business continue viably – the pressure on directors in these situations from multiple directions can be overwhelming.
In the current environment, however, directors are to a large degree relieved of such pressures. There is a temporary moratorium on insolvent trading liability courtesy of the recent changes announced by the Prime Minister; banks are supportive and are generally agreeing to up to 6 months deferral on principal and interest payments, landlords are providing similar, if more varied forms of short term cash flow relief, and government funding has enabled many businesses to avoid redundancies, and to stand down and preserve their workforce in the short term while they consider options.
We have not seen a window of opportunity like this, with an effective pause in much of the normal business activity, that provides time and space to consider a well thought through VA solution since that regime was introduced almost 30 years ago.
The timing of the Virgin Australia administration may yet prove instructive for other company directors, advisors and their stakeholders as to how a successful corporate restructure can be facilitated during a slow-down (or shut-down) phase.
What role can a DOCA play?
The Deed of Company Arrangement (DOCA), accessed via a VA process, is a highly flexible arrangement that can accommodate most measures that might be required to successfully restructure a company’s affairs, including its shareholdings, to facilitate a recapitalisation. Creditor claims can be dealt with collectively, the workforce can be right-sized to fit the business, onerous or unwanted leases can be left behind, and new capital is more likely to be obtained to fund the ‘new’ business that emerges post-administration.
A ‘Holding DOCA’, a form of DOCA that allows the formal administration process to commence but provides more time to formulate a proposal in an uncertain environment, can bring more flexibility again.
One challenge for many businesses contemplating a DOCA, is how to fund employee entitlements. The government support scheme for employees of insolvent companies, known as the Fair Entitlements Guarantee, is currently only available in a liquidation. Therefore, in a DOCA scenario, funds must be set aside to pay for the termination entitlements of those employees who are not continuing under the newly restructured company – funds that could otherwise be used for working capital or investment in the company post administration.
Changes to enable FEG funding to be accessed, in the right circumstances, to support a DOCA proposal should be considered. There needs to be caution, however, about a blanket approach, so parameters would need to be put in place, for example:
- a requirement that a minimum number of employees (say 65%) must continue with the restructured company,
- funding at least equivalent to an agreed portion of the termination entitlements must be injected into the company as part of the DOCA proposal to fund working capital or future investment,
- a moratorium on dividends and related party distributions,
- plus continuation of the existing requirement that the financial return to creditors is better than the alternate liquidation scenario.
Expanding the remit of FEG funding in these circumstances warrants serious consideration and will likely see the regime used more for genuine rehabilitation of companies.
Critical to a successful DOCA proposal, is the need to win over the company’s creditors. One might expect, with a well thought out plan that supports continuity of employment and preservation of the core business, that the likelihood of support for a DOCA proposal by the ATO, banks and other key stakeholders must surely be enhanced in the current economic climate.