Ipso Facto stay provisions commence

We have previously written about the legislative reform which effects the stay on exercise of contractual rights following an insolvency appointment.¹ The new laws commence operation on 1 July 2018.

Additionally, the Regulations and Ministerial Declarations,² providing for various exclusions have been finalised, and released (in the last week of June).

The Ipso Facto Provisions were introduced to promote successful restructures by preventing the termination of contracts (or the exercise of other rights).

The practical issues which emerge include:

• Identifying the circumstances where the provisions apply – the stay will apply only in the limited event that there are no other defaults, and the exclusions are extensive; and
• Managing the risk of a wrongful exercise of rights.

The stay

The stay only applies to rights triggered by the insolvency event. It does not affect other rights, including rights arising from non-performance of the contract, eg, non-payment. The stay applies where:

• The right arises by an express provision in the contract; and
• That right is stated to be exercisable in one of four circumstances. They are:
  • by reason of the external appointment;
  • because of the company’s financial position while under external appointment;
  • a reason prescribed by the regulations that relates to the above 2 events; and
  • a reason that, in substance, is contrary to the provisions.

The first of the reasons is self-evident; the fact of an external appointment.

The remaining three reasons were inserted to prevent the provisions being circumvented by drafting or other avoidance mechanisms.

The period of the stay

The stay only applies to contracts entered into after 1 July 2018. The stay does not immediately apply to contracts novated, varied or assigned after 1 July 2018, but the Regulations provide a ‘sunset’ period of 5 years on this exclusion. This provides a 5 year period for parties to structure their affairs.

Unaffected rights and exclusions

The fundamental concept is that rights flowing from non-performance can still be pursued. In practice, this may mean there are limited circumstances where the ipso facto provisions apply.

Parties with security over all or substantially all assets can still enforce their security.

Further, a party that is subject to the stay cannot be compelled to comply with an obligation to provide a new advance of money or credit.

The Regulations and Ministerial Declarations provide for wide-ranging exceptions; the Regulations prescribes certain types of contracts, agreements or arrangements (Arrangements) are excluded, whilst the Ministerial Declarations prescribe certain types of rights excluded (Rights).

The types of Arrangements excluded include:

• Arrangements with government entities;
• Various financial and derivatives arrangements.  This includes securities, financial products, debt factoring agreements, agreements for the sale of securities and margin lending facilities;
• Arrangements involving a Special Purpose Vechile and that provide for securitisation or a public-private partnership;
• Arrangements for the escrow of code or passwords;
• Arrangements relating to payment systems;
• As indicated above, an arrangement for the novation, variation of assignment of a contract entered into prior to 1 July 2023; and
• Building contracts, worth in excess of $1billion, and entered into prior to 1 July 2023.

The types of Rights excluded include:

• A termination right under a standstill or forbearance arrangement;
• A right to change the priority of payments (a ‘flip clause’);
• A right to assign, novate or transfer rights (eg, debt-trading);
• Step in rights;
• Rights of set-off; and
• The right to appoint a controller.

Conclusion – practical Implications for contracts

In practice, there may be limited circumstances where the ipso facto provisions apply. Where they do apply, however, the consequences can be significant.

In general it seems preferable to retain ipso facto clauses in a contract. The key practical issue is awareness – there is no one size fits all response. Parties should consider:

• The potential likelihood of being bound by a continuing contract with an insolvent counter-party, and the potential impacts on the business model;
• The potential operational risks in those circumstances. This is particularly relevant to contracts administered ‘in the field’. Risks arising in seeking to terminate contracts (or exercise other rights) if the ipso facto provisions may apply; and
• Rolling over or extending existing contracts rather than entering new contracts. However, this option will not be available after 2023.

This article was written by David O’Farrell, Partner, in our Brisbane office.

Publication Editor: Grant Whatley.

¹ See publications dated 12 October 2017 and 23 November 2017.
² Corporations Amendment (Stay on Enforcing Certain Rights) Regulations 2018 and Corporations (Stay on Enforcing Certain Rights) Declaration 2018.