Supreme Court allows company to restructure under new small business restructuring reforms - Financial Restructuring

This week's TGIF looks at a recent decision of the Victorian Supreme Court, where a winding up application was adjourned to allow the debtor company to pursue restructuring under the recently introduced small business restructuring reforms.

Key takeaways

Under the new small business restructuring reforms, a court is to adjourn the hearing of a winding-up application if the company is under restructuring and the court is satisfied that it is in the interests of the company's creditors for the company to continue under restructuring rather than be wound up.
To be eligible for restructuring, the company's liabilities must not exceed $1 million. In the early stages of the restructuring process, the Small Business Restructuring Practitioner is not required to undertake a 'comprehensive detailed inquiry', but nevertheless must make a just estimate based upon reasonable grounds, including in assessing the value of any contingent claims against the company based on the factual material available.
A Small Business Restructuring Practitioner is not required to accept, uncritically, the quantum of a contingent claim asserted by a creditor in assessing the company's total liabilities.

The application

In a recent case before the Supreme Court of Victoria, a creditor's application to wind up Dessco Pty Ltd was adjourned based on the company's plans to pursue restructuring under the recently introduced small business restructuring reforms (Re Dessco Pty Ltd [2021] VSC 94).

The creditor applied for Dessco to be wound up on the basis of a failure to comply with a statutory demand. Dessco then filed and served an interlocutory application seeking an adjournment on the basis that it was restructuring.

The creditor contested Dessco's application for adjournment on multiple grounds, including that:

Dessco was ineligible for restructuring; and
even if it Dessco was eligible, restructuring would not be in the best interests of the company's creditors.

Applicable law

In this case, the Court was asked to consider the eligibility requirements for restructuring a company in order to avoid being wound up. The Court referred to the statutory regime, which sets out the conditions for obtaining an adjournment. The Court mostly focused on the following criteria in this case:

whether Dessco's liabilities exceeded $1 million (if they did, Dessco would not be eligible for restructuring); and
whether restructuring would be in the best interests of the creditors.

The Court's decision

The Court found that Dessco satisfied the required elements and accordingly granted an adjournment.

In assessing Dessco's eligibility for restructuring, the Court accepted the creditor's assertion that contingent liabilities had to be accounted for. However, as to the value of the company's contingent liabilities, the Court gave considerable weight to a report of the restructuring practitioner, who assessed the liabilities of the company as being below the $1 million threshold.

The assessment of the small business restructuring practitioner included a significant discounting of unquantified contingent claims by the petitioning creditor against the company to an amount that the restructuring practitioner considered reasonable. Without this discounting, the company's liabilities would have exceeded the $1 million threshold.

The Court reasoned that the early stage of the matter, combined with the short timeframe given to restructuring practitioners to quantify a company's liabilities, meant that it was not necessary for the restructuring practitioner to have undertaken a 'comprehensive detailed enquiry'. It was only necessary for there to have been a 'just estimate'.

The Court also noted that, in undertaking this assessment, a restructuring practitioner is not obliged to blindly accept the creditor's quantification of amounts owed and may validly dispute them. If the creditor disputes the restructuring practitioner's assessment of any alleged debt or claim, the new small business restructuring regime establishes a separate process for a creditor to challenge that assessment.

After accepting that the small business restructuring practitioner in this case had given a just estimate of the company's liabilities below the $1 million threshold, the Court turned to look at the final condition for an adjournment: namely, that restructuring be in the best interests of the creditors.

The 'best interests' of the creditors turned upon whether they would be likely to get more by way of payment for their debts through the restructuring process as opposed to a winding-up.

The Court stressed that this assessment ought to be based on the presence of 'sufficient possibility' rather than optimistic speculation. Since the creditors here were more likely to receive payment under a restructure (five cents in the dollar had been offered compared with zero return anticipated in a liquidation scenario), the Court considered that this condition had been satisfied.

Comment

The prospect of restructuring adds an additional layer of complexity to enforcement proceedings involving smaller companies.

While the bar for seeking an adjournment of a winding up proceeding does not appear to be particularly high, a distressed small business seeking to avail itself of the small business restructuring reforms must nevertheless persuade the Court that it is eligible for restructuring based upon a just and reasonable estimate of the company's liabilities (including contingent liabilities). It must also establish that the restructuring offers a sufficient possibility of a better result for creditors than the alternative liquidation scenario.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.