Restructuring Options | Informal and formal

You may have a good business that, for whatever reason, has accumulated a lot of debt. It may be that it has a number of onerous contracts or leases that make an otherwise profitable enterprise loss-making. For example, we recently looked at a health food retailer that had 42 stores where 16 of the stores were very profitable, but the other 26 stores were loss-making.

Where there is a fundamentally good business, there are opportunities to restructure the business both operationally and financially, and therefore save it. This is more likely to be achieved if steps are taken earlier rather than waiting until the only real option left is to close down the business.

A restructure can either be done formally or informally. A formal restructure involves the appointment of an External Administrator to the entities that trade the business.  An informal restructure doesn’t involve the appointment of an External Administrator and it basically involves talking with the business’ key creditors and suppliers and cutting deals or renegotiating agreements to make the business profitable again. These negotiations usually start with the frank admission that if things don’t change, the business will need to close and that as a result, everyone will suffer a loss. If there are just a few suppliers to the business and there are good relationships then exploring an informal restructure is a good first step. It should be noted that the Tax Office will not renegotiate debt in this way, although it may waive interest and penalties if the underlying debt is paid in full. The Tax Office may, however, agree to a payment plan over time.

So, if an informal restructure isn’t possible what is the formal restructure option? The main one used is the appointment of a Voluntary Administrator to the business’s trading entities. As the name suggests this is done voluntarily by the company’s directors, although in some circumstances it can also be done by the company’s secured creditors.

Voluntary administration

The primary objective of voluntary administration is to maximise the chances of the company, or as much as possible of its business, continuing in existence. Then, if that isn’t possible, to get a better return for the company’s creditors and members than would result from an immediate winding up of the company.

An Administration typically runs for only about 4-5 weeks, although the timeframe can be extended if needed by the Administrator or the Court. In an Administration, control of the company and the business shifts to the Administrator who has the power to do pretty much anything with it. They can continue to trade, cease trading, terminate employees, disclaim onerous contracts and leases, sell the business and a whole lot more.

The Administrator isn’t acting on behalf of the directors who appointed him or her. They are acting in the best interests of all stakeholders in the business. This will include its creditors and suppliers, its employees and shareholders.

As well as looking after the business, the Administrator will investigate the company’s affairs and work with anyone who wants to put forward a Deed of Company Arrangement (or ‘DOCA’). A DOCA is effectively a proposal (or a deal) put to creditors which will usually see them getting a better outcome than they would get if they vote for the alternative, which in most cases is that the business is shut down and the company that trades it is wound up, or in other words, ‘liquidated’.

Towards the end of the Administration period, the Administrator sends a report to all creditors, which details the findings of their investigations, details of any DOCA proposals and includes an opinion by the Administrator about what they consider to be in the best interests of creditors.

A meeting of the company’s creditors is then held and creditors get to vote on the company’s future. There are three mutually exclusive options:

  1. That the Administration ends and control passes back to the company’s directors (although this rarely happens); or
  2. That a DOCA proposal is accepted; or
  3. That the company be placed into liquidation.

Whatever is voted on by the majority of creditors will then be binding on all creditors, with the exception of secured creditors.

Another option recently made available because of the impact of COVID-19 on small businesses is a Small Business Restructuring. This is similar to a Voluntary Administration, however, control of the business stays with the company’s directors while a proposal is put to creditors. Under this type of External Administration, if creditors don’t agree to the proposal the company doesn’t automatically go into liquidation, although that is probably where it will ultimately end up, as the Small Business Restructuring process is only supposed to be used by company directors when the company is considered to be insolvent.

There are also some eligibility requirements to be able to qualify for the Small Business Restructuring process. The key ones are:

  • Creditors are collectively owed no more than $1 million;
  • All tax lodgments are up-to-date;
  • All employee entitlements that are owing are paid up-to-date. And that includes superannuation; and
  • The companies and directors involved have not previously been through this process before within the last seven years.

Want to know more?

If you, or a client of yours, are experiencing financial distress and have a business that is worth saving – please contact Henry McKenna, our Insolvency & Reconstruction Director,  for a confidential consultation at no cost.

An Important Message

While every effort has been made to provide valuable, useful information in this publication, this firm and any related suppliers or associated companies accept no responsibility or any form of liability from reliance upon or use of its contents. Any suggestions should be considered carefully within your own particular circumstances, as they are intended as general information only.

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