Innovation statement:confidence, not phoenix levels, will rise from bankruptcy changes.

Matthew Woods, Head of Restructuring Services, Deal Advisory
Matthew Woods, Head of Restructuring Services, Deal Advisory

The government’s Innovation Statement represented a watershed for insolvency law in Australia – and one which should ensure a more innovative and confident business community.

The headline change was the proposal to reduce the bankruptcy period from three years to one. This is in my view a common sense approach. Taking a bankrupt out of the market for three years is unnecessarily punitive. Sufficient protection already exists in the Bankruptcy Act for a Bankruptcy Trustee to seek to extend the bankruptcy period where the bankrupt is not complying with their obligations under the Act.

The current law significantly discourages risk taking and also results in personal brand reputation and credit profiling which can continue well past the three years. The majority of business ventures that fail do so because of circumstances other than the actions of the business’ owner/director.

Many commentators have compared Australia with the US in terms not only of insolvency laws but culture. I would agree we need to start celebrating our entrepreneurs and innovators as they do State-side, and stop seeing business failures as an irredeemable stain on your character. We don’t have the luxury of thinking that way in the new economy, where many start-ups will inevitably fail, but the ones which succeed could do so spectacularly.

But on the other hand we cannot incorporate the American system wholesale and I think the government has struck the right balance in not going the entire Chapter 11 route. That has led to more court involvement than is ideal. Put simply, creditors have rights too and we need to strike the right balance between encouraging risk taking by directors and giving protection to creditors from reckless insolvent trading.

This careful balance has been found by the government’s second major proposal – the introduction of safe harbour provisions into Australian Insolvency Law. This reform, which many of us have been long calling for, means directors can be guided by suitably qualified professionals through a restructuring process that has a reasonable potential to maximise the outcomes to all stakeholders.

This significant change will encourage earlier involvement of turnaround advisors into distressed businesses. As such it is welcome, though directors should not see any reform in this area as a means of diluting their director responsibilities.

I do not believe some commentators’ fears of an increase in so-called ‘phoenixism’ – when stricken companies miraculously emerge debt-free to carry on as before – will prove justified. In order for a director to rely on the proposed safe harbour provisions, they must have engaged a Restructuring Professional for advice. Restructuring professionals will need to advise on whether a turnaround of the business is a reasonable strategy, or where the company is hopelessly insolvent and the advice should be to place the company into administration or liquidation. The same protections under the Corporations Act will remain for the regulator or appointed liquidator to pursue directors for malfeasance, including phoenix activity.

While I warmly welcome the government’s proposals, they should not, however be seen as some sort of silver bullet for the start-up sector. Directors of start-up companies are faced with different risk-based decisions to those of mature businesses experiencing financial problems.

I believe directors are more focussed from the point of commercialisation on the potential loss of capital and reputation associated with business failure rather than personal liability from insolvent trading.

Business failure is an inevitable part of any economy. The insolvency regime plays an important part in the economy in a number of ways. It allows for the redistribution of efficient assets into the hands of new owners/managers as well as a means for an orderly wind down of unviable or obsolete assets and a repatriation of capital back to employees and creditors.

Last week’s announcement suggests the government is on the right path on insolvency reform – and while we should not set unrealistic expectations, it is a potentially valuable and long-needed contribution to entrepreneurship in Australia.

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