What are the benefits of the Small Business Restructuring Process compared to Voluntary Administration?

Corporate insolvency in Australia underwent a seismic shift in 2021 with the introduction of the Small Business Restructuring Process (SBRP) under Part 5.3B of the Corporations Act. This new process aimed to provide a more cost-effective and simplified debt restructuring pathway for insolvent small businesses, compared to the existing Voluntary Administration (VA) regime under Part 5.3A. But what benefits does the SBRP hold over VA? Key benefits include the directors maintaining day-to-day control over the business during the process, lower professional costs, higher success rates, less detail in processes and simpler restructuring plans.

Benefit 1: Directors Maintain Control

One of the most prominent advantages of the SBRP over VA is that only the directors can choose to initiate the process. This stands in contrast to VA, where secured creditors can also instigate proceedings. 

Further, the SBRP is the first debtor-in-possession restructuring process in Australia. It means that during the SBRP process the directors maintain control of the business and they are expected to run it day-to-day (s453K). This means that the Restructuring Practitioner (RP) they appoint is a monitor of the process rather than an administrator of the business. The limits of the powers of directors are that the directors can’t enter into transaction out of the ordinary course of the company’s business without the approval of the Restructuring Practitioner (section 453L). 

On the contrary, under VA, the voluntary administrator assumes full control of the company, often continuing trade, but not guaranteeing it (s437). The directors lose their powers and are prevented from dealing with the company’s assets and affairs without the administrator’s consent. This loss of control can be disconcerting for many directors, making the SBRP a more appealing option. Voluntary administrators are paid on hourly rates so they don’t have any strong incentive to trade a business and take any risk.The SBRP is an acknowledgment of commercial reality, that even during a VA process the directors will need to continue to contribute to day-to-day management and offer support to the voluntary administrator. 

Benefit 2: Lower costs 

Financial considerations play a significant role in insolvency proceedings. For example, one of the main criticisms about the Chapter 11 process in the United States is its high costs. SBRP offers two advantages, first, the costs of the restructuring are fixed and therefore, unlike VA, cannot be revised upwards and second, the latest ASIC research shows that costs of SBRP are much lower than VA.

SBRP offers fixed costs as opposed to time billing under VA, making it a more reliable option. In VA, costs are typically calculated on a time cost basis, and they are usually higher due to administrators assuming control of the company and therefore doing more professional hours of work. SBRP, however, operates on a fixed fee agreed upon prior to the appointment of the RP by the directors. The initial cost estimate given to directors in a VA process is usually revised upwards.

The ASIC report 756 found that the median total cost of SBRPs (including completing the restructuring process) was $22,055. Whereas research undertaken by Mark Wellard in 2014 found that typical costs for VAs (including restructuring through a deed of company arrangement) were in the order of $60,000. However, the author’s view is that costs have increased significantly in the last decade in the VA process to take the median VA into six figures.

Benefit 3: Streamlined process 

The SBRP provides a streamlined process with minimal reporting to creditors. This gives the directors of an insolvent company a significant advantage because the creditors will be given basic information rather than an inquisitorial report. This will be likely to take the heat out of the process because they won’t be accused of potential insolvent trading and otherwise put through a grilling. 

The RP investigates and verifies the company’s business, property, affairs, and financial circumstances. However, unlike VA, there’s no requirement to report these findings through a detailed report to creditors. Rather than providing a recommendation to creditors, unlike VA, the RP of an SBRP is only required to make a formal declaration as to whether the company will likely be able to discharge obligations under the proposed plan. The role of the RP is to provide assurances to creditors regarding the process and if they are not comfortable or find anything improper they are expected to terminate the restructuring.  

Under the SBRP, creditors’ meetings are not required and creditors vote by submitting a written statement indicating whether the restructuring plan should be accepted. This contrasts with the VA process, which mandates at least two meetings, adding to the time and complexity of the process. This may take the steam out of the insolvency process because creditor meetings often break down into argument and accusation.  

Benefit 4: Simpler restructuring plans

The SBRP allows for simpler restructuring offers, limiting them to cash-only offers to creditors. It also prohibits directors from discriminating between creditors and it precludes the directors themselves from voting or receiving monies from the restructuring plan. These restrictions provide a straightforward and easy-to-understand mechanism for both creditors and the company. The creditors know that the company is insolvent and therefore they will not receive their full debt claims so they can decide whether to accept the compromise put by directors by way of cash payments. 

On the other hand, a VA process can become very complex because it involved a proposal put by directors that has few limits. Directors can often control the voting process through related party votes, they can discriminate between creditors and they can propose opaque arrangements that are impossible for creditors to discern. The reality is that the voluntary administrator has a relatively short period of time to get a grip on the company’s affairs and so their investigations may not have depth. Therefore an expectation that a voluntary administration will be thorough may be unwarranted and, as the company is insolvent, there the creditors will ultimately need to accept a large haircut on their debt claims nevertheless.

Benefit 5: ATO support for process 

Additionally, the Australian Taxation Office (ATO) has shown support for plans that provide better outcomes for creditors than a liquidation scenario. This backing from a significant creditor in most small business insolvencies is another key advantage of the SBRP. The ATO may also support VAs but the anecdotal evidence is that the ATO likes to support genuine businesses through a quick SBRP at much higher rate than VA. The ATO is developing its own policies about which SBRPs it chooses to support but the overall direction it has is to support real businesses that have a track record of tax compliance and up-to-date entitlement records and payments. 

Benefit 6: No Automatic Liquidation if process doesn’t succeed

In the SBRP, if creditors vote against the restructuring proposal, they do not get to vote for a liquidation, unlike VA. In VA, creditors decide the outcome for the company, including resolving to liquidate it if they vote against a restructuring through a deed of company arrangement. However, under the SBRP, if the simple majority in favour of a restructuring proposal (by dollar value) isn’t achieved, the restructure ends, and all creditor claims once again become due. There is no automatic roll-over into liquidation, although shareholders can resolve to wind up the company if they wish. 

Benefit 7: Better success rates 

The SBRP has shown promising signs of success since its inception, with a high proportion of businesses using the procedure successfully. This track record evidences the effectiveness of the SBRP and its higher success rate is a key benefit over the VA process. 

Overall, the contribution of Voluntary Administration to wholly successful restructures may only be 1% of insolvent companies in Australia. This ‘back of the envelope’ calculation from statistics is as follows:

1. 13% of insolvent companies appoint Voluntary Administration over liquidation (pre-COVID ASIC statistics);
2. 29% of Voluntary Administrations entered into a deed of company arrangement as opposed to going into liquidation (Mark Wellard research paper)
3. The author’s estimate of the percentage of successful deeds of company arrangement is 25% of all Deed of Company Arrangements entered into;
4. The multiplier effect is 0.13*0.29*0.25= 0.01

Let that sink in — the percentage of insolvent companies that successfully restructure through Voluntary Administration could be as low as 1%. It is no surprise, given the poor success rates of VA, that lawyers and the wider public see it as “glorified liquidation”. 

Despite the low number of appointments over its first 18 months of operation (2021-mid 2022), the proportion of restructuring plans approved by creditors in SBRPs is remarkably high at 87% (source: ASIC research report 756). This high approval rate indicates that the SBRP has been effective in helping small businesses restructure their debts and reach agreements with their creditors.

In conclusion, while both the Small Business Restructuring Process and Voluntary Administration have their place within the Australian insolvency framework, it is clear that the SBRP offers several key advantages for small businesses. This simplified, less contentious, and more cost-effective process gives small businesses a better chance of recovery and survival, thus contributing to the overall health and diversity of the Australian economy.