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Episode 109
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Substantive Law
Choppy Waters or Gently Rising Tide? Key Insolvency Issues for 2024
Law as stated: 15 December 2023
What is this?
This episode was published and is accurate as at this date.
Join Cowen Schwarz Marschke Partner Richard Cowen as he dials in to Curiosity from Queensland to chat to David about the return to a “new normal” in the insolvency market. Touching on the impact of COVID-19 on insolvency, the raw numbers, and just what we can expect to see in 2024.
Substantive Law| What area(s) of law does this episode consider? | Key insolvency issues for 2024. |
| Why is this topic relevant? | Against the backdrop of the COVID-19 pandemic, Australia witnessed the dynamics of its insolvency market go through an unprecedented shift. The economic fallout of the virus, coupled with policy interventions, created a swirling set of challenges for lawyers specialising in the insolvency domain. While the virus might have become endemic, many of those shifts have come to a natural conclusion. But is it really back to business as usual for insolvency and insolvency professionals? This episode aims to provide practitioners with a comprehensive overview of the key insolvency issues set to shape the Australian legal landscape in 2024 as we return to a ‘new’ insolvency normal. |
| What legislation is considered in this episode? | Corporations Act 2001 (Cth) |
| What are the main points? |
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| What are the practical takeaways? |
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DT = David Turner; RC = Richard Cowen
| 00:00:00 | DT | Hello and welcome to Hearsay The Legal Podcast, a CPD podcast that allows Australian lawyers to earn their CPD points on the go and at a time that suits them. I’m your host David Turner. Hearsay The Legal Podcast is proudly supported by Lext Australia. Lext’s mission is to improve user experiences in the law and legal services. And Hearsay The Legal Podcast is how we’re improving the experience of CPD. Before, during and after the COVID-19 pandemic, Australia has witnessed the dynamics of its insolvency market go through some unprecedented shifts. The economic fallout of the virus, coupled with some dramatic policy interventions during it, created a swirling set of challenges for insolvency lawyers in that domain. Now, while the virus might have become endemic, many of those shifts in the insolvency market have come to a natural conclusion. But is it really back to business as usual for insolvency lawyers and other insolvency professionals? In this episode, we aim to provide practitioners with a comprehensive overview of the key insolvency issues that are set to shape the Australian legal landscape in 2024 as we return to a new insolvency normal. Now, our guest today, Richard Cowen, Principal at Cowen Schwartz Marschke brings over 20 years of experience in insolvency, commercial litigation and negotiation. He’s played pivotal roles in some of Australia’s most significant insolvency matters, making him an unparalleled expert in navigating the challenges posed by this evolving insolvency environment. Richard, thank you so much for joining me today on Hearsay! |
| 00:01:45 | RC | Good morning. |
| 00:01:46 | DT | Now, before we dive into our topic today – the insolvency market in 2024, some of our predictions, – tell us a little bit about your journey in the legal profession and in particular your experience in the insolvency space. I think I mentioned in the intro to this episode, you’ve been involved in some pretty remarkable insolvency matters. |
| 00:02:03 | RC | Yes, I just started working for a judge who’s now retired, but he had a particular interest in insolvency. And then I started working after I finished there at some private law firms in the early 1990s. We were having the “recession we had to have” from Prime Minister Keating and 17% interest rates. So as I started insolvency was the new and sexy industry. We had Bond Corp, Tricontinental Banking Corporation, the appropriately named Pyramid Building Society, and a whole bunch of other interesting work. At the same time corporate and commercial and other work was drying up so people were losing jobs. So I thought insolvency sounds like a great place to keep permanent employment when times are tough. But it also had the most interesting work, clearing up billions of dollars worth of corporate messes. |
| 00:02:49 | DT | Absolutely. And I came to insolvency myself at a very different time, but I suppose an analogous one, I started working in insolvency post-GFC, right about the time that the mining boom had ended and the mining services companies were starting to feel the pain of those micro and macroeconomic shifts. TIP: Okay, quick refresher on the GFC or the global financial crisis for some of our younger listeners. It was a period in 2007 to 2008, considered probably the worst financial crisis since the Great Depression. In large part, it was caused by a pretty combustible mix of risky, perhaps even predatory lending practices and precipitous decline in real estate values in the United States housing market that had knock on effects around the globe in virtually every financial market. This financial contagion spread throughout the closely interlinked global financial system causing credit issues as far away as here in Australia, although we got out relatively unscathed compared to some of the worst victims in Spain and Greece. Having started in insolvency in the early 1990s, I suppose you’ve been witness to some of the pretty dramatic legislative and regulatory changes in insolvency over the past three decades, the beginning of the voluntary administration regime, probably one of the most significant there. And of course, the sweeping changes to corporations legislation in the early 2000s. Tell us a little bit about some of those changes that you’ve observed both from a legislative and regulatory standpoint. |
| 00:04:15 | RC | As you rightly pointed out, voluntary administration was probably the first major one that directly affected insolvency. Although it’s true to say that all the structural changes about the whole corporation’s regime were difficult and interesting at the time. But on the ground, I think the VA was the first major change. And one of the things it did was it changed the base level dynamic of the insolvency industry. Previously, insolvency, certainly at least in Queensland, was driven by bigger businesses like construction supply companies, the Borals, the CSRs, whose credit managers controlled a lot of debt, and they were the ones who drove insolvency because they drove windings up. Much of the business was either court ordered windings up or at the other end, the big bank work because banks drive the secured work. VA changed all that because it put the insolvency market back in the hands of directors and their immediate advisors, which at the small to medium business levels, often suburban accountants and the like, and dramatically reduced the influence that creditors and the court ordered liquidations had on the insolvency market. So that was a really noticeable change. I think the other noticeable change at a practical level was that after the recessions in the 90s, receivership and bank driven administrations had cost so much money in professional fees that many of the banks thought they were better off leaving the directors in charge because they couldn’t possibly lose as much money as the insolvency process had cost. And a bunch of the people who were junior in banks in those days were now senior by the time the GFC arose. And there was much greater reluctance in the market to make formal appointments and a much greater emphasis on informal background influenced by banks, but trying to get companies and the directors to drive the process themselves. So it’s changed the way that the market works. And it changes the role of the insolvency professional who are often, rather than being formally appointed, had to work behind the scenes, as it were, because no one wanted to make that formal appointment and potentially destroy some value. I remember in the 1990s ANZ’s then financing arm saying to me that they could have repossessed about 30% of the private truck fleet in Australia, who were all in default of their loans. When I asked why didn’t they do that, they said, how would they ever sell a single truck if they repossessed 30% of the truck fleet? Wasn’t a market for the trucks, so they were literally worthless. They were better off leaving them in the hands of the operators and at least getting some payments. So I think by the time the GFC had rolled around and previous 20 odd years of experience, had people who lived through that, meant that there was a much greater focus on workouts and background influence rather than formal appointments. |
| 00:06:57 | DT | Absolutely. And you still sort of saw that reference for operating as a stakeholder in a independent voluntary administration process rather than as an appointed agent of the mortgagee or agent of the secured creditor or appointing a receiver all the way through the early to mid 2010s, I suppose. I certainly saw that from Australia’s big four banks then. But I suppose we’ve had another occasion to look back on the impact of the voluntary administration regime over the last couple of years. And that’s looking at voluntary administration as a kind of analogy for these new processes that were introduced in the midst of the COVID-19 pandemic, the small business restructuring regime and the simplified liquidation process. TIP: That small business restructuring process we just mentioned is available to companies with less than a million dollars in liabilities where all tax liabilities and employee entitlements have been paid. If you want to hear more about the small business restructuring regime, our episode on the topic is Episode 27 – At the Edge of The Insolvency Cliff: The New Small Business Restructuring Process with Mark Wellard and Professor Jason Harris. At that time, the small business restructuring process was still an exposure draft stage and it’s undergone a couple of changes since then. But it’s still a good primer on some of the limitations of the process, especially given those eligibility criteria that largely haven’t changed. Unfortunately, the comparison that’s often being made there between the voluntary administration regime when it was new and the small business restructuring regime when it was new tends to be an unfavourable one to the small business restructuring process. Can you tell us a little bit about how those changes came about and their impact on the insolvency landscape during the COVID-19 pandemic? |
| 00:08:40 | RC | Amongst insolvency professionals, both lawyers and accountants, there’s always been something of a divergence of opinion about this, but it was thought that one of the problems with the voluntary administration regime is that it’s one size fits all. Although you can tweak that by going to court or adjourning meetings and getting court orders to change things, that is an expensive and difficult process. So there’s been a long-term push for some way to differentiate between genuinely small businesses with, relatively speaking, small amounts of debt and a small number of creditors, so that the costs of the process don’t overwhelm the benefits. So that was, I think the impetus for a long time behind the small business restructuring regime was that although VA was effective and it seemed to work reasonably well in the middle market and the upper market, it was quite expensive to go through exactly the same process for a very small business. Hence, there was a lot of push in the business community and the insolvency community to try and find some solution. And the small business restructuring regime was what was suggested and legislatively, ultimately, came to be in force. It had a very slow start. The numbers early on were single digit across the whole country, administrations. So because a lot of businesses don’t qualify – too much debt or too many creditors or haven’t otherwise complied with the various pre-appointment checklists… |
| 00:10:08 | DT | Tax lodgements is a common one that disqualifies a lot of companies, right? |
| 00:10:11 | RC | Yeah, absolutely. Keeping employee obligations and tax up to date is difficult for most small businesses that are in trouble and that can be disqualified. But look, it seems to be increasing in popularity, probably significantly as an effect and a consequence of COVID and the pandemic. That is, I think that COVID and the pandemic had a, as it probably usually does, a disproportionate effect on small businesses. Because CBDs were closed and cafes and restaurants and sandwich bars and newsagents that were left and all those kind of small businesses lost all of their turnover. And although they may have survived, and it was none of their fault. I mean, the authorities closed down cities, so they had nothing they could do about it and it was difficult to survive. So they needed some form of restructuring and there was a great deal of sympathy for businesses in that circumstance. So that regime seems to have been successful in dealing with some of those kind of businesses. |
| 00:11:02 | DT | Yes, I think I’ve come around a little bit on the small business restructuring regime. We did an episode in, I think, our first season on here, say, about the regime when it was then in the exposure draft stage that was fairly critical of the small business restructuring regime. What insolvency practitioner is going to want to take it on? If they have criminal responsibility for certain aspects of the restructuring plan being accurate, who’s going to want to take it on at a fixed price before you know very much about the matter? Who’s going to be eligible when you need to have fewer than a million dollars in creditors and all of your tax and superannuation responsibilities up to date? But I have come around a little bit. I think there was a lot of responses to the small business restructuring regime in its first six to 12 months about how few notices were published on the insolvency notices website of restructuring plans that have been submitted, how unpopular it was compared to, say, the number of voluntary administrations in its first year. But you’re right, I think there’s a confounding factor there in that there were a number of other changes to the insolvency landscape still operating at the time the small business restructuring regime was introduced. And a lot of the businesses that otherwise would have taken advantage of it – and now have – were reliant on temporary stays to essentially the entire insolvency law regime in Australia, or at least insofar as the regime was designed to motivate them to take action in response to financial distress. I think when the small business restructuring regime came in for the vast majority of its potential users, they were immune from the consequences of trading whilst insolvent, they were receiving a substantial amount of financial support from state and government subsidies. And so there was not the immediate impetus to use that tool that maybe voluntary administration was accompanied by. |
| 00:12:45 | RC | Yeah, I agree entirely. And frankly, most insolvency lawyers have little contact with the small business restructuring regime because there isn’t the budget in those kinds of matters to much retain lawyers. So it tends to be preliminary advice or perhaps advice to competitors, because obviously the insolvency practitioner’s not going to be doing much other than what’s required by the legislation. Because A, that’s the purpose of not having long complicated administrations, and B, there’s not the budget in it to spend a lot of money on legal advice or legal actions or that kind of thing. So most of us have very little contact with it, really. You do engage with insolvency practitioners from time to time who have questions. And I think the same as you were just saying, they were very cynical, but they have grown to accept that it’s got a place in the marketplace. I can’t remember the exact statistic, but a very significant number of companies in Australia do have less than a million dollars of creditors, at least certainly once you deal with only external third party creditors. So even though there’ll be other disqualifying factors in many cases, there are a number of companies that can take advantage of it. So it is growing. I think as practitioners get more used to doing it, we’ll see greater numbers and particularly because to a degree there’ll be, if I can say, an accelerated period post the pandemic where we’ve got to play some catch up to clean up some companies. |
| 00:14:05 | DT | And I think we’re talking there about this so-called – well, it’s been described with a variety of metaphors – a wave of insolvencies, a tsunami of insolvencies, a horde of zombie companies. And we heard these predictions of this kind of backing up of insolvencies of the companies that had to fail due to mismanagement or poor strategy or kind of fundamental flaws in their business model were supposed to fail in the period that small businesses were being supported in Australia, but were unable to because of the support provided to the business community during the pandemic. |
| 00:14:40 | RC | It’s interesting to look at the numbers. So I mean, the kind of high watermark in just the number of corporate insolvencies of any type in Australia peaked in about 2011, 2012, 2013 with the GFC. And that was a little over 10,000 companies per annum entering into some kind of insolvency administration for the first time. By just prior to the pandemic, that had dropped slightly, which is not surprising that GFC had gone by then. So by 2020, we’re talking about seven to 8,000 companies. In the first year of the pandemic that halved; it was 4,000 companies went into administration. And interestingly, 21, 22 was only slightly better. It was almost 5,000, but still way down on the seven or 9,000 immediately pre-pandemic. So all of those measures you mentioned earlier about legislative change to the statutory demand regime, extensions of time, various states in their property legislation, restricting landlords’ rights, obviously had a significant effect on reducing insolvency numbers. And you sit there and think, well, obviously, lots of businesses were suffering stress, even with the various government subsidies, there must have been many that couldn’t trade at all for long periods of time or were trading way below normal. So the surprising thing is you would expect the numbers to go up, but in fact, they halved. Put that in context, where’s that gone? According to ASIC’s figures, 2022-23 goes up to almost 8,000. So there was not an insolvency tsunami, but a much closer return to normal. Interestingly, in the first quarter of this year, it’s two and a half thousand. If that trend continues, that will get us back to 10,000 a year, which gets us back to pre-GFC levels, which is – maybe not a tsunami that’s a bit dramatic – but it certainly is a significant increase on the normal base level and suggests times of trouble. I don’t know it’s a time of trouble per se, I think there’s a large post-pandemic cleanup in all of that. And I think you can see that in principally the Australian Taxation Office activity. So I think in the first year of the pandemic, put it this way, the ATO normally winds up about two and a half to 3,000 companies a year. They’re the biggest single wind-up vendor because they’re accredited with everybody. In the first year of the pandemic, that was six, not 6,000 or 600, but one, two, three, four, five, six. Single digits. So they stopped collecting money and indeed they were busy pushing out government policy and government subsidies. I think in last Friday’s federal court list, they were trying to wind up 28 companies on that day. So their activity has gone from nothing back to more normal and higher levels. You’d also expect that they’re part of cleaning up that post-pandemic residue. So that would probably drive a higher number for a while. So, yeah, I don’t think tsunami is going to be quite the right word, but the cleanup is underway. It started last year. It’ll probably be bigger this year. Then after that, I think we will have worked through the pandemic effect and dealing with things arising from where we go now, what we’re doing now. |
| 00:17:40 | DT | I think that’s right. ARITA and its CEO, John Winter, have been at pains to describe the increase in corporate insolvencies as a return to normal, as you described it, and it is indeed a return to pre-pandemic levels. And I think if we see that increase to 10,000 corporate insolvencies a year, there’s some confounding factors there because, yes, there probably is a bit of post-pandemic cleanup in that, but we’re also seeing the end of the cheap money era. There’s a rise in the cost of capital, however you choose to source it. And while we’re probably not going to see the insolvencies at the bigger end of town arising from that change in the cost of capital this year, we may well see it at the smaller end of town more quickly and continue to feel those aftershocks of the economic environment we now find ourselves in, increasing the rate of corporate insolvency as well. |
| 00:18:29 | RC | I agree. You can easily think of a hypothetical example. Imagine a cafe that was badly affected during COVID and they would have deferred rent and deferred tax obligations and got some subsidies and perhaps they survived, but they came out of it carrying a heavy debt burden. So they need to make profit to pay that back. The new competitor who’s just set up in the other empty coffee shop from the one that went broke during the pandemic down the road, doesn’t carry into that debt. They can afford a higher cost of debt and a higher cost of capital because they’re not having to repay pre-existing debt. So a lot of businesses that survived will find it more difficult to compete in a higher cost environment. And we’re all experiencing that now. It’s a higher cost for labour, higher cost for money in terms of debt, therefore a higher cost of capital. So, yes, in a sense, they’re going to produce insolvencies from what’s happening now. But you’ve got to accept that some of that may well still be a pandemic hangover effect that will affect some of those businesses. It hasn’t come through in personal insolvency. So pre-pandemic, all forms of personal insolvency were up in about 28,000 appointments per year. I think last year was about 14,000. And according to AFSA, the government body that regulates personal insolvency, we’re not heading on track to increase that all that much. It might go up 10, 15 percent, but it’s not yet looking like it’s going to approach anything like pre-COVID levels. |
| 00:19:50 | DT | Now, that’s surprising to me because anecdotally, the kind of narrative that you hear is that we’ve got a lot of mortgage stress in the market. I don’t think anyone can doubt that. But that also we have a lot of highly levered, highly negatively geared property investors who maybe, I suppose, outside of Sydney and Melbourne might be facing the prospect of lower property values, unsustainable mortgage repayments and the need to de-lever or otherwise face some pretty serious personal financial consequences. It doesn’t sound like that’s really reflected in the data. |
| 00:20:22 | RC | Not in the personal data, no. As we were discussing, I think it does in the corporate data, but it’s difficult to know why for sure. There’s certainly, as I said, way down in terms of numbers. I suspect a couple of answers. One is, as you say, with homeowners or investors, at the moment, at least, there’s a ready market that’s still going up in many places for the property. So you can get out if you have to. And indeed, you might end up getting out ahead. That is to say, if you’re forced to sell because you can’t afford the interest rate, if, as has happened in some areas, the prices have continued to increase, you might be able to sell it for sufficient to pay off all of that debt and in fact be left with money in your pocket. Of course, there’ll be pockets where that doesn’t happen. But at the moment, there’s no evidence of a wholesale decline in housing prices. So I think that’s way out. I think on the consumer side now with some changes about increasing the threshold for bankruptcy notices and the recognition that the returns in personal insolvency aren’t great, that it’s now not really a creditor driven process very often. So it’s only if people decide to go bankrupt because of their personal position, mostly the creditors aren’t willing to force it, in part because there are significant costs. And I think the average return in Australia is around about one cent in the dollar. So not many creditors, even if they’re owed $50,000, are going to spend $10,000 in costs and all the trustees’ costs to try and recover one percent of their debts. So I think it’s become unpopular amongst creditors, principally for cost reasons. |
| 00:21:57 | DT | Yeah, no, that tracks. I think it definitely anecdotally accords with what I’m hearing in the market. Now, that’s what’s happened over the past three years. I want to ask you about some of your predictions, some of your issues to watch in 2024. But before I do that, we can’t really leave our discussion of the small business restructuring regime, some of the shortcomings of the bankruptcy regime, and our discussion, I suppose, of big legislative and regulatory changes in the insolvency market without talking about the PJC report that was handed down in August, tabled in July, published in August, on corporate insolvency in Australia, it had some pretty dramatic sweeping recommendations. One of those was a comprehensive review of the entire corporate insolvency regime and personal insolvency regime. And another one of those recommendations was a pretty urgent or pressing second look at the small business restructuring regime. Can you tell us a bit more about the report? What brought it on? What initiated the report and some of its recommendations? |
| 00:22:57 | RC | As to the genesis of why there was an inquiry and therefore ultimately report, there’s been a number of politicians who were concerned about some aspects of the insolvency regime, no doubt as a result of public and media attention and constituent issues, complaints and the like. And there’s no doubt that insolvency is obviously an environment where there’s lots of unhappiness, one could readily accept that creditors are unhappy, they’re not going to get all their money, that’s the whole point. And no one is happy with that. And professionals, highly remunerated professionals are having to clean up all the problems. And in effect, one can easily understand the public saying there’s a small pool of money left, it’s costing a lot to do this process, we end up with very little we’re unhappy with. There have also been some obvious gaps appearing over time, particularly the differences between the personal and the corporate insolvency regime. So there was some bipartisan support, I think, for a review. Also, it’s fair to point out from a technical point of view in the profession, both legal and accounting, the last comprehensive review we had was the Harmer report, which was in the late 1980s, early 90s. So it’s a long time and all of the changes that we brought in there have been tweaked, and there have been adjustments. and there have been some changes. But there’s not been a comprehensive review really about the effects of some pretty monumental changes that were done 20 to 30 years ago. |
| TIP: The Australian Law Reform Commission General Insolvency Inquiry Report number 45 1988, also known by the much shorter name, the Harmer report, was a landmark in Australian insolvency law reform. On its publication in 1993, after years of work, the report recommended significant changes to Australia’s insolvency landscape, including the introduction of the voluntary administration regime that we’ve already spoken about, and that changed Australian insolvency law forever. | ||
| 00:24:44 | RC | So that was the kind of the genesis of it. Disclosure that the Law Council of Australia’s Insolvency Committee, which I’m on and a former chair of, made a significant submission, as did the insolvency professionals organisation, ARITA. In fact, they were one of the main contributors. And I think it’s fair to say that both the Law Council and ARITA didn’t coordinate, but had very similar views and supported each other’s views on many of these things. And a part of that was, it’s probably appropriate after such a long time, after the Harmer report, and all of the changes that resulted, and all of the piecemeal changes that have come in since then, to have a review and reconsider. Remembering that some parts of the corporate regime really have their genesis in the old Companies Code came out of effect in the late 1980s. So that’s a long time ago. And the Bankruptcy Act came into force in 1968. And yes, it’s been changed quite a lot. But again, there hasn’t been a comprehensive review, there have been lots of amendments piecemeal. And last, rightly or wrongly, the corporate regulator ASIC; it has a big task. It regulates not only insolvency, but also everything for companies from their registration, birth, deaths and marriages, as it were. They have a broad purview. They get some criticism of the insolvency side because, as we were discussing earlier, seven, eight, nine, 10,000 companies a year go into liquidation. And a relatively small number of directors are ever prosecuted through the courts by ASIC. You can readily accept ASIC has obvious resource issues, it can’t prosecute 10,000 company directors, nor probably should it. But that’s been the cause of kind of some public unhappiness is people being seen to get away with it. AFSA, on the personal insolvency side, seems to have been thought by the public to be more effective at their regulation role, both in regulating practitioners, and in prosecuting breaches of the bankruptcy legislation. Personally, they regularly go to court and secure a conviction. And they have a comprehensive review process for private trustees in bankruptcy where they regularly come and review their files and check their compliance and make sure that they’re being involved. And when they’re accredited as meetings, they regularly send representatives. So it’s thought that they’re more effective at being seen to regulate that space. |
| 00:26:54 | TIP: That PJC report we just mentioned, the Parliamentary Joint Committee on Corporations and Financial Services report, called the Corporate Insolvency in Australia report, is probably another watershed moment in Australian insolvency law, a bit like the Harmer report. Coming in nearly 30 years since the Harmer report, it similarly recommended sweeping changes to Australia’s insolvency regime. The committee’s final report was presented to the Senate on the 12th of July 2023, and was tabled in the House of Reps on the 1st of August. | |
| 00:27:27 | RC | So that’s the genesis and the process of the report. And unsurprisingly, the headline recommendation is there should be another comprehensive review of all insolvency regimes. That would be a long process. Such a process would have to be set up. You’re going to find some commissioners. They’re going to have to engage in detailed inquiry. There’ll be a lot of experts required to do all that. If there’s a legislative redrafting process that comes out of that, that’ll be pretty comprehensive. There’ll lead to the extensive consultation. If it started tomorrow, one couldn’t see legislation coming into effect in probably less than about five years. Hence, sensibly, the report recommends a bunch of interim things from the priorities to the less urgent that should be done in the interim. |
| 00:28:06 | DT | Yeah. And those changes, the sort of interim changes between now and when a comprehensive review is completed. Well, they read to me a bit like a wishlist of some of the corporate insolvency pain points that I can imagine the Law Council of Australia and ARITA were alive to from issues in practice. For example, the treatment of corporate trustees and insolvency being one of those recommendations to amend the Corporations Act to expressly clarify how trusts with insolvent corporate trustees are treated. To take a second look at how unfair preferences are treated, we’ve had some game changing common law in that area over the past few years. It makes sense to take another statutory look at it. Insolvency for franchisees or franchisors, including that the government have a look at how FEG, the Fair Entitlements Guarantee, is working in the market to ensure that its policy objectives are being met. TIP: The Fair Entitlements Guarantee, or FEG, that acronym being used to both refer to the guarantee itself and the government body that administers it, is a scheme of last resort that provides financial assistance to former employees for unpaid employee entitlements in the event that the employer is insolvent and doesn’t have sufficient assets to pay those entitlements itself. Governed by the Fair Entitlements Guarantee Act 2012, one of the objects is that the Commonwealth is to pay advances on account of unpaid employment entitlements of former employees of employers in cases where the employers are insolvent or bankrupt. When FEG pays out employee entitlements, it then stands in the shoes of those employees and gets repaid in the same priority as those employees would. If it’s not repaid at all, sometimes FEG will bring litigation to attempt to recover the money it’s owed. One of FEG’s highest profile matters was its appointment of a special purpose liquidator to Queensland Nickel to bring proceedings against its director, Clive Palmer, for the recovery of $74 million worth of unpaid Queensland Nickel worker entitlements that the FEG paid out, the largest payout the FEG had ever made in its history. FEG, corporate trustees, unfair preferences, these are all issues that have caused some consternation for insolvency practitioners and their lawyers over the past few years. |
| 00:30:13 | RC | Yeah, absolutely. And corporate trustees and insolvency is a great example. The fact that there have been so many differing decisions across so many jurisdictions in Australia over 100 years on this issue demonstrates that even great minds can differ. And it creates a level of complexity and therefore cost that could be easily clarified in legislative amendment. Corporate trustees is the obvious one. If it’s the case, as has been suggested in some decisions, that a liquidator of a corporate trustee in every case should make an application to the court to also appoint himself as receiver of the trust. You’re adding a layer of cost and complexity to a vast number of administrations that seems to be something that can be fixed with the legislative stroke of the pen. And as you say, rightly, even last year, as the first two decisions of the year, there were two High Court decisions on preferences and how they operate. And interestingly, one of those, the running account argument, at least, suggested that the legislative change, when we codified in the corporation’s legislation, some parts of preferences had in fact changed the previous common law is what was understood about that. And apparently none of us had realized for 25 years that that had happened. And indeed, a large number of the judiciary didn’t notice that the High Court did and handed down their decision, as I said, number one and number two of last year. So yeah, things that could presumably be dealt with and easily fixed. The running account one is a good example because although the court said the previous understanding about when a liquidator could pick his starting point was wrong, the court left open as to exactly how you could do that. Perhaps there’s a litigation where ironically you say, great, there’s another set of High Court litigation working all that out. And there’d be a lot of fees and all that. Again, something that could be legislatively easily fixed. And those are just two examples. There are many more and a lot of mechanical things that particularly the insolvency profession on the accounting side think should be clarified. And some of them are quite obvious and quite simple. Just inconsistencies that have crept in over all of the changes over the last couple of decades. |
| 00:32:18 | DT | Yeah, absolutely. And I suppose on the accounting side, there’s also a few recommendations in that report to deal with, I suppose, the sustainability of some of the economics in that market, in particular, insolvency practitioners on the corporate side who are doing work for substantially no fee for assetless administrations in the public interest. And you can compare that to the personal bankruptcy environment where we have an official receiver, where we have a government department responsible for handling those assetless administrations that are unlikely to have any return for the practitioner who’s performing them. |
| 00:32:54 | RC | Yes, that’s a general social policy issue. Insolvency practitioners charge what some would think are high fees. But as you observe quite rightly, they don’t get paid, or at least don’t get paid in full on a lot of jobs, which means they need to make a return to be able to do that work on other matters. Is that fair that in effect, we’re robbing Peter to pay Paul? Well, that’s what we’ve been doing for 100 years. Should we socially fund that through some levy? They’re political questions, probably not technical ones. As you say, there’s always been a last resort trustee. However, in personal things, the government official receiver can step in and administer personal bankruptcy if there’s no commercial return to be had. So that’s something a broader inquiry could look at, what be the models of funding, those kinds of things. We have an interim thing, but again, that’s been brought in piecemeal. So the assetless administration fund, which is not unlimited and is not for every case, but can give some funding. Interestingly, FEG, the Fair Entitlements Guarantee body has been instrumental in developing some insolvency at law because they’ve been using their power and obligation to pay out employee entitlements and then trying to fund recovery actions. So they’ve been active and have helped resolve a number of outstanding insolvency questions because they’ve taken these issues to court. But there are obviously others, again, that could be dealt with legislatively. So that’ll be policy, which is why a comprehensive inquiry is a good idea because that can address not only all those technical issues we were talking about, but also policy issues like how should we fund these things. |
| 00:34:25 | DT | Absolutely. Now, in terms of our predictions for 2024, as we’ve said, one thing that we can say with some degree of certainty is that the comprehensive review of the Corporations Act and its insolvency provisions will not have much of an impact on the profession in 2024. Although some of those interim measures around unfair preferences, corporate trustees, as we’ve just mentioned, may well come into play mid to late next year. Richard, what do you see as some of the key insolvency issues that legal professionals should be looking out for in 2024? |
| 00:34:52 | RC | I think we’ll see a return to normal. These things, in my experience over 30 years, are cyclical. And it cycles with the economy. And there’s nothing surprising about that as a proposition. Normally, insolvency is driven by business failure, which is driven by imbalances in the economy. So fundamentally, when you’ve got particular constraints in the economy, business ceases to operate effectively. We’re now seeing all those things develop. COVID was unusual because it was a specific government response to an unexpected and surprising issue. And it threw a spanner into the normal cycle. And it’s still going to have, as we were talking about earlier, some residual effect. I think, however, we look at what’s going to happen in the economy, and there are imbalances developing. And so therefore, we’re going to see drivers of insolvency. We’ve seen it in the building industry demonstrated so far. The building instruction industry, depending how you measure it, is about eight to 10% of GDP in Australia. It’s about 20% of insolvency. And it’s probably a bit higher than that just at the moment, probably 22%, 23%. Those aren’t precise statistics, but close enough for present purposes. So when you see those imbalances, which were a lot of work, government subsidies to get the work and insufficient labour and resources to do it, we’re seeing interest rates rise. Obviously, everyone’s seeing that. And we’re seeing labour shortages across the economy. So businesses are now facing increasing labour costs, increasing debt costs, increasing rental costs. That’s fine, as long as they can pass on those costs. As soon as sufficient competition develops, and they can’t, we’re going to see margins shrinking, risk increasing, and insolvency being driven. Where’s that going to come in next? It’s difficult to say precisely. My predictions would be tourism, hospitality businesses. There’s a huge boom in tourism, particularly post-COVID. A lot of people did it domestically, because it was safer and convenient post-COVID. But there’s been a big increase in those who can afford it going overseas now. And for those who are income-constrained, there’ll be less holidays. The predictions; I think tourism will decrease. And I don’t think the foreign market will take that up. We’re also going to see anything affected by immigration. I mean, Australia’s immigration numbers are extraordinary. We’re bringing in something like 600,000 people a year. That’s a city the size of the Gold Coast that we need to build every single year. We’re not doing that. So anything that has constraints like that, we can’t fit them into the present cities without building more infrastructure and resources. Governments are trying to do that, but that’s causing its own constraints because infrastructure is very specialised, labour heavy and capital heavy. So there’ll be opportunities, of course, for businesses around those areas. But a lot of businesses are going to find themselves resource constrained because of that. Queensland, of course, has got the Olympics coming up in 2032. That’s going to suck up a lot of resources to prepare for and conduct that. Pre-2000, there was a huge construction boom and a set up for the Olympics boom in Sydney. And there’s always a hangover after every year. And there was after 2000. So we can expect there’ll be resource constraints in Queensland, which means choices have to be made. Do governments and people spend money on particular projects that might be good for the Olympics, or do you spend them on projects that are economically efficient? Would you try and find the money to do both? That’s going to be problematic because of the inflation rate. So I think there’ll be definitely at least a return to normal. And we’re seeing that. I think we’ll probably see, in fact, a general pick up. And property is another good example. Prices are rising fast. Approvals for development are dropping. That’s because presumably developers don’t want to take the risk on a high interest rate, high cost, high building cost risk project when the returns are uncertain if prices stop increasing. And traditionally in Australia, property and particularly residential property is a big driver of our economy and it’s a big driver of insolvency. And if we start to see residential property price drops, that’s going to have a very significant effect on a whole bunch of industries, not just building, but everything that goes with that. The retail necessary to fill new houses with furniture and appliances and all those kinds of things. I suppose the good news is I think that the insolvency profession thinned out during COVID. I think there’s going to be a lot of work for those that remain in the profession over the next few years. |
| 00:38:51 | DT | I think that’s right. Something I’ve also noticed, at least anecdotally, I don’t know that I have any data for this, is a kind of fragmentation of the insolvency profession as well. I’ve noticed a lot of insolvency teams in some of the large consulting businesses in some of the cross-disciplinary accounting practices, moving out into the smaller boutique practices that only five years ago or so were being acquired by those same large consulting practices to give them some insolvency capability. So when I see that, when I see that kind of fragmentation, smaller insolvency practices of three, four partners, it makes me think of a retargeting towards the mid market or even the small business market. And I wonder if that tracks with your predictions about where we’re going to see some of that pain in the economy. |
| 00:39:34 | RC | Yes, I think so. Certainly from the accounting side, the profession was hollowed out a bit by COVID because there was such a dramatic drop in work in a very quick, sudden shock. Why? Because of the pandemic and because of the government response to the pandemic. Commonly, a lot of people from the insolvency profession on the accounting side who leave it don’t come back. And it takes a long time to grow professionals specialised in an area like that, take years of experience. I forget the recommendation under the present regime about getting a registered liquidators’ ticket, but I think it’s something like five or 10,000 hours of experience. That’s years. So you can’t make those people quickly. It takes a long time. You can try and drag people back, but people have left. Often they will have had a bitter experience about that. They left because they were forced to leave. They’re not going to go back in a hurry in a number of cases. So where is the insolvency profession going to find those people? Some they can try and get back, some they can breed, some you can drag across from similar fields. Audit traditionally has been one exam. So I think there’ll be a struggle for insolvency practitioners to resource their work. Lawyers, probably it’s a bit easier to move around. Litigation tends to be a flip side of the same coin of insolvency. A lot of insolvency work is litigation based. So lawyers who do commercial litigation as well can shift readily and reasonably easily. A bit harder on some of the specialist things, but perhaps we can learn a bit more quickly. We don’t have those kinds of hours, numbers and things to do. So I think it becomes popular in a recession. Everybody’s an insolvency lawyer. They’re not so keen in boom times, but I think there’ll be plenty of work around. I would also say my historical experience is the more governments create legislative change, initially, the more uncertainty they create. Everything that was previously known is replaced. How that’s going to work is therefore an unknown and therefore there’s uncertainty issues for dispute or that kind of thing. Of course, those things settled down at the time, but any change in an ironic sense, but a true sense is good for lawyers. |
| 00:41:30 | DT | That’s true. So to recap, I suppose we’re likely to see a return to normal across the market, probably some acute pain in tourism and probably continuing in residential building. Depending on some of the other indicators, we might see that spill over into residential building development and all of the ancillary industries that go along with that. And for lawyers, for our listeners, we can expect to see more insolvency litigation work, which is good news for anyone who’s working in a litigation related field and probably more advisory work on some of these legislative changes that are coming through. |
| 00:42:05 | RC | Yes, I agree with that a hundred percent. I would also say, however, remember insolvency in a legal sense is a broad church. You have to have access to, or know, a wide range of things. When the liquidator gets into a business, he’s got to deal with the employees. So you need to have access to someone who knows something about employment law. You’ll need to sell assets. So you need commercial people who can do business sales and real estate sales. If you’re into bankruptcy, you might end up with a bankrupt having an inheritance. You might end up with something about wills and estates. So in one sense, it’s a specialist field, but in a very real sense, it’s a very generalist field because almost every other aspect of the law has an insolvency impact at some point in time, which is frankly, one of the reasons why I find it’s one of the most interesting areas to practice in because you can say you’re a specialist, but you can get, do a bit of everything. So I think that adds a level of interest to this field. Certainly an area that’s given me interest and satisfaction, and it keeps you interested. A good example is you get into being involved with a wide range of businesses. I’ve done; working from everything from prawn farms and worked out how long our supermarkets keep frozen prawns for, which is a frightening number. You don’t want to know, trust me, you’ll never buy prawns from a large chain again But building construction, we sold the old IKEA centre once in a receivership, property development, earth moving, you learn about excavators, things you never thought you’d have to know as a lawyer. You get to have to learn about quickly to solve insolvency problems. I think that’s one of the reasons it’s a genuinely interesting part of legal practice. |
| 00:43:35 | DT | I couldn’t agree more. When you get those trade on matters and you’re very quickly parachuted in with the voluntary administrator or the receiver to keep a business that you’re unfamiliar with running. That’s one of the most exciting parts for me. I remember advising on a trade on at a beach side resort, nationwide electronics retailer. You come to learn the mechanics of the business and some of the operational issues really quickly. And you do have to be both a specialist and a generalist at the same time. |
| 00:44:03 | RC | I agree. I mean, I think my favorite story about how broadly spread it can be is my now wife and I were having a picnic outside Biloela. And she was telling the friends who are at this picnic; “he seems to get involved in all these businesses everywhere”. And one of them said “well, at least we know here at a picnic in Biloela, there’ll be nothing here’. And I said; “except the earth moving company that built this dam that we’re picnicking around. I did the liquidation of that as one of my first jobs”. A couple of years later, she was telling that to a friend in a shopping centre in Mackay, as we were walking through it, that “he says he’s involved with everything. And there was this story in Biloela. And even there, there was some connection”. Person in question said, “well, I know that here in this shopping centre in Mackay, there’ll be nothing”. I said, except that franchise over there, we’re liquidating the franchise. So you can always drive down a street somewhere and say you’ve had some involvement with some of these businesses or something that affects it as insolvency. Again, that’s why it’s a bit interesting. |
| 00:44:55 | DT | Absolutely. One of your predictions I wanted to dive back into, you mentioned that if we see that continuing stress in the residential building market, then dependent and secondary industries that rely on activity in that market for revenue, like the retailers that fill those new houses with nice furniture and appliances might feel the pain as well. I think retail has been one of these industries that people have been predicting a high rate of insolvency and a deal of financial pain for years. And there’s been a whole range of different reasons why retail has been the subject of those predictions, e-commerce and online shopping. Then it was the pandemic. Then it was lower consumer confidence. Now it’s inflation and households tightening their belts. Do you think we’re likely to see a higher degree of insolvency in the retail space? |
| 00:45:51 | RC | I wouldn’t say a high degree, but I’d say an increased degree. Everything you just said is correct. And the headline number is that retail spending is about 22% higher than it was pre-COVID. So in three years, it’s increased by a quarter, which is a massive increase. However, if you factor in population growth, all of which has happened in the last 12 months and inflation, it’s only 5% above 2020 levels. So immigration and increased numbers of people coming in and students and they get jobs and they live here have boosted some of these headline numbers and put stresses in the economy on a supply side and the like, and boosted inflation and prices. First, that won’t continue forever. And second, as I said, you always find when you put stresses into the economy, imbalances happen, and that’s going to cause problems and opportunities. So if interest rates go up some more and a lot of households stop spending, retailers have geared up for what’s been a headline 22% increase in three years, might suddenly find that they’ve over expanded and bought stock, overpaying wages, and suddenly their costs increase at a level that they can’t make a profit anymore. And bit like building. I mean, they’re probably a good example. The same for many builders as they’ve been in a profitless boom. There’s lots and lots of work, but they can’t get the people and resources to do it. |
| 00:47:08 | DT | Richard, we’re nearly out of time. We’ve had a pretty wide ranging conversation today, the impact of some of the legislative and regulatory changes to the insolvency space over the last few years, the economic impacts of the pandemic and the post-pandemic period, some of our predictions for 2024, the industries to watch, and some of the issues we expect to dominate the time of insolvency lawyers next year and the PJC report and some of its recommendations. Before we go, though, I wanted to ask you a question on behalf of our student and young lawyer listeners. If there’s a listener who’s heard this episode and wants to practice in this insolvency area that you and I find so interesting, that we both seem to enjoy so much, what would you recommend they do? What’s your one tip for someone looking to break into insolvency work? And I suppose we can make that tip one for someone who’s just starting out in the profession or someone who’s looking to capitalise on an increase in this sort of work next year. |
| 00:48:00 | RC | The good part about insolvency law practice is it’s both a specialist area, but touches almost every other field of the law. My advice to anybody looking to get into this side of legal practice would certainly be to find a position in a firm that has some specialisation and reputation in it and try and attach yourself to the section or a part of the firm that does that work. Like all professional practice, experience is everything. Obviously, one can do the specialised subjects. at university, you can do master’s degrees, but at the end of the day, you’ll have to have some practical experience. You need to do that in a firm that does it. Jokingly, everybody is an insolvency practitioner or insolvency lawyer during recessions and boom times. Not all firms do it all the time. Try and find a firm and there are a large number that do it regularly. Get in, show an interest in it, and I think you’d be rewarded over the long term. It’s an interesting part of the profession. |
| 00:48:52 | DT | Absolutely. Well, Richard, thank you so much for joining me today on Hearsay. |
| 00:48:55 | RC | Alright, thanks very much. |
| 00:49:06 | DT | As always, you’ve been listening to Hearsay, the legal podcast. I’d like to thank my guest today, Richard Cowen from Cowen Schwarz Marschke for coming on the show. Now, if you want to listen to more content like this, well, we’ve got a lot of insolvency law episodes in our back catalogue. So pick from any of those. For something different, though, why not try a practice management and business skills point with episode 106 from this season, The Valuation Game, which is all about how an expert valuer would value our own law practices. If you’re an Australian legal practitioner, you can claim one continuing professional development point for listening to this episode, whether an activity entitles you to claim a CPD unit is self-assessed, as you know, but we suggest this episode entitles you to claim a substantive law point. More information on claiming and tracking your points on Hearsay in all jurisdictions of Australia can be found on our website. Hearsay the Legal podcast is brought to you by Lext Australia, a legal innovation company that makes the law easier to access and easier to practice, and that includes CPD. Hearsay is recorded in Sydney on the lands of the Gadigal people of the Eora nation, and we would like to pay our respects to elders past and present. Thank you for listening and see you all on the next episode of Hearsay. |
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