Stay on rights to terminate for certain insolvency events

The Treasury Laws Amendment (2017 Enterprise Incentives No 2) Act 2017 (Cth) received royal assent on 18 September 2017.

The Act amends the Corporations Act 2001 (Cth) by including two new sets of provisions relating to insolvent companies:

• The ‘safe harbour’ provisions in Part 1 of Schedule 1 of the Act commenced on 19 September 2017. They protect directors who suspect a company is insolvent and start developing a course of action that is reasonably likely to lead to a better outcome for the company. The director will not breach their duty to prevent insolvent trading in relation to debts incurred in connection with the course of that action.
• The provisions in Part 2 of Schedule 1 of the Act will commence on 1 July 2018, unless an earlier commencement date is proclaimed. They prevent a party from enforcing certain contractual rights against a body if the right arises because of specified insolvency events.

This legal update focuses on the Part 2 provisions.

Termination for insolvency events – what’s changing?

Commercial contracts often contain clauses that allow a party to terminate or vary a contract if an ‘insolvency event’ occurs in relation to the other party. Insolvency events are often drafted broadly to include liquidation, winding up, arrangements with creditors, voluntary administration or the appointment of a managing controller.

The amendments to the Corporations Act will prevent a party from relying on a contractual right that arises because of certain insolvency events, namely:

• making, or announcing an intention to make, a compromise or arrangement under s 411 of the Corporations Act;
• appointment of a managing controller; or
• voluntary administration.

The new provisions operate as a stay on the enforcement of the relevant provisions. That is, a party cannot enforce a right to terminate a contract for the specified events while the stay remains in force. Self-executing provisions that provide for a contract to automatically terminate due to these events will also be caught.

Regulations can be made to prescribe other reasons for termination relating to these events. Also, there is a catch-all provision that prohibits enforcement of a right if, in substance, it is contrary to the intention of the Act.

Although not specifically limited to the right to terminate, termination clauses will likely be the most common contract condition affected by these provisions. However, it is important to remember that these changes will not affect a right to terminate for breach of another provision in a contract or a termination for convenience clause.

What does this mean for government agencies?

Many government contracts include clauses allowing termination for insolvency events. The new provisions only apply to contracts entered into after commencement – existing contracts will not be affected.

It is important for government agencies to understand these changes when drafting and managing contracts, particularly those that will be finalised closer to commencement of the provisions. Precedent documents should be reviewed to ensure they reflect these changes.

Care should also be taken when issuing a notice of termination in relation to an insolvency event. If a notice of termination is improperly given, that may be construed as wrongful repudiation entitling the other party to terminate and seek damages against an agency.

If you have any questions about termination clauses or contracts generally, please contact Chris Maxwell, A/Assistant Crown Solicitor of our Commercial and Property Team on 3239 6996 or at chris.maxwell@crownlaw.qld.gov.au or Catherine Jackson, A/Senior Principal Lawyer on 3404 3518 or at catherine.jackson@crownlaw.qld.gov.au.

^{The information in this publication is provided for general purposes only. It is not to be relied on as a substitute for legal advice. Crown Law and the Department of Justice and Attorney-General accept no liability for losses caused by reliance on the material in this publication. Formal legal advice should be obtained for particular matters.}