Part B - Should New Zealand Adopt a Business Rehabilitation Regime?
Economic Development Policy Objectives
51. In February 2002 the Government released its policy framework for economic transformation in New Zealand - Growing an Innovative New Zealand. This framework forms the broader policy context in which the Government will consider the possibility of New Zealand adopting a new business rehabilitation regime.
52. Growing an Innovative New Zealand states that the next phase of New Zealand's economic development must be characterised by innovation. We must become a nation known internationally for our innovation, our creativity, our skills and our lifestyle. In order to fulfil this objective the Government is committed to working in all parts of the economy. Growing an Innovative NewZealand states that the Government intends to continue giving priority to maintaining the integrity of the economy by ensuring:
- A stable macroeconomic framework;
- An open and competitive microeconomy;
- By improving the conditions for New Zealand businesses, including reducing compliance costs.
- By providing programmes to help businesses grow.
53. A new business rehabilitation regime could arguably assist in the Government meeting these objectives by providing an opportunity for some businesses verging on insolvency to develop a plan to trade on, rather than liquidate. Business rehabilitation could therefore in some instances improve the overall operating environment for New Zealand businesses and could enable New Zealand business to grow and be internationally competitive. This would have social and economic benefits and would foster economic development.
Does the Current Law Achieve Business Rehabilitation Outcomes?
Description of the Current Law
54. Part XIV (Compromises with Creditors) and Part XV (Approval of Arrangements, Amalgamations, and Compromises by Court) of the Companies Act 1993 allow companies to enter into agreements with their creditors (including the continuation of businesses) as an alternative to liquidation. These legislative provisions form New Zealand's current business rehabilitation regime.
Part XIV of the Companies Act 1993 (Compromises with Creditors)
55. The major corporate rehabilitation procedure in New Zealand is contained in Part XIV of the Companies Act 1993. The key elements of the current business rehabilitation regime set out in Part XIV of the Companies Act are:
- Either a company's directors, its receiver or liquidator, or a shareholder or creditor of the company (with leave of the Court) may propose a compromise between a company and its creditors;
- The proponent of the compromise must call a meeting and provide detailed information to the creditors about the proposal and its effect. Pending the meeting there is no automatic stay, although one may be sought from the Court. Such a stay cannot be ordered against secured creditors and is only available from a date that is not earlier than the date on which the notice of the proposed compromise was given, and not later than 10 working days after the date on which notice was given of the result of the voting on it. No stay can be obtained to enable a proposal to be prepared;
- If different classes of creditors have different interests, it is usually necessary to hold separate meetings for each class; and
- A compromise is binding on all creditors (including secured creditors) that received notice of the proposal if 75 percent at each meeting vote in favour (unless there is provision in the compromise for classes of creditors to be separately bound). There is no need for the Court to approve the compromise, however, a creditor may apply to the Court for relief on certain prescribed grounds (insufficient notice, irregularity in obtaining approval, unfair prejudice).
Part XV of the Companies Act 1993
56. Part XV of the Companies Act 1993 permits an application to be made directly to the Court by the company, a shareholder, or a creditor for an order that a compromise is binding on the company and "on such other persons ... as the Court may specify ... on such terms ... as the Court thinks fit."5 The legislation gives no further direction as to how the Court should exercise its direction, though some guidelines have been developed through subsequent case law.
57. Part XV gives the Court power to make initial orders regarding the provision of information and reports to shareholders and the calling of meetings. It is usually appropriate for such orders to be made before considering whether a final order should be made.
Receiverships
58. A receiver may be appointed in respect of the property of a person by, or in the exercise of a power conferred by, a deed or an agreement to which that person is a party. The receiver acts primarily in the interests of the creditor who appointed him/her. Their purpose is not to act in the collective interests of creditors.
59. Receivership can work as a rescue procedure where it is in the interests of a debenture holder to maintain the business as a going concern. The receiver acts to recover debenture holders debt as quickly and expeditiously as possible at lowest cost. Once this is done the receiver's role is complete. Post-receivership the debtor is often on the brink of liquidation, so in effect, receivership asserts the interests of the debenture holder above those of other creditors.
Problems with the Current Legal Regime
Individual v Collective Creditors' Interests
60. The lack of an easily initiated stay on all debt recovery measures effectively inhibits business rehabilitation except in those few cases where all parties agree. This means there are situations where a minority of creditors, in seeking to recover their debts, can put their interests ahead of the majority. These creditors do not factor the external cost or loss of value to creditors overall of not continuing the business as a going concern, in part or as a whole, into their decision to proceed with individual debt recovery.
High Transaction Costs
61. The Part XIV procedure has not been greatly used.6 Anecdotal evidence suggests it is not well understood and, in the absence of an automatic stay, rehabilitation may be defeated by the high cost of defending actions by creditors pre-proposal.
62. The transaction costs associated with the current procedures include not only the costs of a proceeding, but also the costs incurred by the promoter of a proposal in defending the debtor business against actions by individual creditors seeking to recover their debts. The expense of seeking to have statutory demands set aside will often be enough to deter an individual creditor from acting for the collective benefit of all creditors and seeking rehabilitation. Stakeholders have previously noted current use of the statutory demand process in this way, especially in the case of SMEs (Small to Medium Size Enterprises) with a large number of unsecured creditors.
Problems with Part XV Companies Act
63. The main reasons why the current procedure in Part XV of the Companies Act 1993 is used infrequently appear to be:
- The need to apply to the Court for a stay (thereby imposing costs and time delays);
- A stay is only available once a proposal is developed and distributed;
- A stay cannot bind secured creditors.
64. At present, a stay is only available from the date the notice of the proposed compromise was given. Where it would be the most effective would be during the period where the proposal is being developed.
Questions for Submissions
- Do you agree with this assessment of the problems with the current Companies Act provisions?
- Can you identify any other problems with the current business rehabilitation regime not covered in this section?
Rehabilitation v Liquidation
65. Business rehabilitation law is about minimising the costs of failure.7 The key issue regarding business rehabilitation in New Zealand is whether, in the absence of an informal workout between the concerned parties, the current insolvency law regime provides a viable alternative to liquidation for a failed business.
66. As noted above, the lack of a general stay on all debt recovery measures effectively inhibits business rehabilitation under the current legislative procedures except in those few cases where all parties agree. Therefore, in effect, the current legislation promotes liquidation.
67. The advantages of a regime which favours liquidation are that it:
- Encourages individual creditors to monitor debtors and to act early when repayment issues arise;
- Encourages the movement of resources from poorly performing management and firms to more efficient firms; and
- Is in many cases shorter, administratively cheaper and simpler than rehabilitation.
68. The main benefit of a rehabilitation regime with a stay or moratorium that binds all creditors (including secured creditors) is that it could allow economically viable businesses to continue rather than liquidate, thereby increasing overall returns to creditors in those cases. The other benefits of rehabilitation are that it could:
- Preserve value in the business as a going concern for all stakeholders including creditors, employees, suppliers and owners;
- Minimise the loss for those who deal with the insolvent business in having to re-establish business relationships with another entity, e.g. employees, creditors and suppliers;
- Reduce the number of formal insolvencies and associated costs e.g. voidable transactions and the disposal of assets; and
- Force reluctant debtors and creditors to communicate and explore whether rehabilitation of the business will maximise returns to creditors.
Questions for Submissions
- Do you consider that the current regime favours liquidation over rehabilitation?
- Keeping in mind the Government's economic development objectives, do you consider the benefits of favouring liquidation over rehabilitation outweigh the costs?
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