Why is the Small Business Restructuring Process a debtor-in-possession model, and why does this matter?

Estimated reading time: 5 minutes Small Business Restructuring

The introduction of the Small Business Restructuring Process in the Corporations Act has marked a significant shift in Australia’s approach towards company restructuring. Essentially, it moves towards a debtor-in-possession model, a concept that might appear foreign within the traditional creditor-in-possession system of Australia. Understanding why this change has occurred and its implications is critical for businesses navigating restructuring scenarios.

Creditor-in-possession versus debtor-in-possession

A Shift towards Debtor-in-Possession Model

In traditional bankruptcy scenarios, Australia’s system is creditor-in-possession based. That means when a company is insolvent, the control is vested in an external administrator appointed by creditors or directors, typically a liquidator or a voluntary administrator. This focus on creditor returns often came at the expense of business rescue, causing a skew in the balance of power towards the creditors. 

However, under Part 5.3B of the Corporations Act, the Small Business Restructuring Process has adopted a debtor-in-possession model. But what does this mean? In essence, a debtor-in-possession model allows the current management (the ‘debtor’) to retain day-to-day management control over the business during the restructuring process, instead of surrendering control to an external party. 

Significance of Debtor-in-Possession Model

You might wonder why this matters. Well, this shift towards a debtor-in-possession model is a strategic move that recognises the unique characteristics of small businesses. In small businesses, the owners and managers are the same individuals, possessing specific industry knowledge and skills necessary for the survival and growth of the business. They are essential to the continuity of operations, and maintaining their involvement in the business during restructuring is crucial to successful business rescue.

The 2017 amendments to Australia’s insolvency laws, including the introduction of a ‘safe harbour’ for directors, marked the beginning of this rebalancing process. It was a step towards recognising the importance of providing businesses with an opportunity to recover and continue trading where possible. The adoption of the debtor-in-possession model under Part 5.3B is a continuation of this trend away from Australia’s more punitive insolvency system. 

Role of Restructuring Practitioner in this Model

One of the crucial aspects of the debtor-in-possession model is the role of the liquidator or the Restructuring Practitioner. While they may no longer have direct control over day-to-day operations of the business, they still have an important function – to act as a monitor. They serve as a gatekeeper for the Australian Securities and Investments Commission (ASIC) and the broader business community, ensuring that the restructuring process is conducted lawfully and fairly. Their role is essential in providing assurance to creditors and maintaining confidence in the process.

Understanding the Powers of the Restructuring Practitioner under Sections 453E, 453F, and 453J

Another important dimension to understanding Part 5.3B of the Corporations Act is interpreting the powers of the Restructuring Practitioner as legislated under Sections 453E, 453F, and 453J. These provisions provide circumstances where the Restructuring Practitioner exercises their power, thus ensuring that the restructuring process is legally sound and is designed to protect the interests of creditors.

a. Section 453E – General Role of the Restructuring Practitioner

This section sets out the key functions and duties of the Restructuring Practitioner and this differentiates the role from that of a Voluntary Administrator, it provides that the functions are: 

  • to provide advice to the company on matters relating to restructuring; and
  • to assist the company to prepare a restructuring plan; and
  • to make a declaration to give assurance to creditors regarding any restructuring proposal made by the company.

b. Section 453F – Power to Inquire

Section 453F grants the Restructuring Practitioner the power to make inquiries and it requires company directors to attend upon and assist the Restructuring Practitioner. This power complements section 453E, enabling the Restructuring Practitioner to ask questions or demand explanations to better understand the information found in company books and records. It allows the Practitioner to get to the root of the financial difficulties and identify viable solutions. This process is crucial to ensure that the Practitioner is well-informed and that all decisions are made in the best interests of the company and its creditors.

c. Section 453J – Power to Terminate the Restructuring Process

Section 453J can be seen as a safeguard for creditors and the business community. It provides that the Restructuring Practitioner may (at any time) terminate the restructuring process if they have reasonable grounds to believe that it is in the interests of creditors. This section offers an added layer of protection to the business community because it gives the Restructuring Practitioner the power to quickly exercise a commercial judgment. 

Together, these sections provide a balanced framework where the debtor retains control, but with a level of oversight and intervention power by the Restructuring Practitioner to ensure that the process is fair, transparent, and adheres to legal requirements. These sections encapsulate the delicate balancing act that the new legislation has achieved – acknowledging the reality of small business operation, promoting business rescue, but ensuring that the rights of creditors are protected and that the process is conducted with integrity.

In essence, Part 5.3B of the Corporations Act embodies a comprehensive shift in insolvency legislation in Australia, adapting the strengths of both the debtor-in-possession model and the traditional creditor-in-possession model. By understanding and adhering to these key provisions, businesses and Restructuring Practitioners can navigate the restructuring process effectively, thereby fostering a more resilient business landscape.

The Way Forward

The shift towards a debtor-in-possession model under Part 5.3B of the Corporations Act is a significant step forward for small business restructuring in Australia. It reflects a growing understanding of the need for a more balanced approach to insolvency – one that prioritises both business rescue and creditor returns. In the long run, this change has the potential to contribute to a healthier, more resilient small business sector in Australia, ultimately benefiting the broader economy. While this new approach differs fundamentally from the Chapter 11 procedure in the USA, it marks a significant evolution in Australian insolvency law. It recognises the reality of small business operation and provides a tailored solution that acknowledges the unique challenges they face when it comes to restructuring.


Breach of trust - corporate trustee breaches duties

Breach of Trust: Definition and Recent Case Law

Estimated reading time: 16 minutes

In a trust, a trustee has strict obligations to beneficiaries. These are either set out in the trust deed, or apply via operation of law. Where a trustee does not act in accordance with those obligations there is a ‘breach of trust’. Here we take a deep dive into the concept of a breach of trust, and examine some recent case law.