Getting your facts straight: preparing your business for ipso facto reform

In an insolvency context, ipso facto clauses generally refer to contractual terms that give a party a right to terminate, or alter the terms of, a contract on the basis that the counterparty enters a form of external administration.

From 1 July 2018, amendments to the Corporations Act¹ will limit your ability to enforce these ipso facto clauses where the counterparty becomes subject to certain types of external administration.

For a detailed discussion of the reforms click here.

Practically speaking, the reforms:

• will impact the effectiveness of contractual risk management mechanisms, such as default provisions, at mitigating the risk associated with a counterparty becoming financially distressed; and
• may encourage corporate restructures via formal insolvency appointments (such as voluntary administration and schemes of arrangement) because it will prevent loss of key operational contracts.

The below snapshot sets out what you need to know about these reforms and how Lavan can assist you in redeveloping your contractual risk strategy to provide adequate protection in light of the reforms:

Purpose of the reform

The reform is broadly aimed at maximising the chance of successful turnaround in voluntary administrations, managing controllerships (including, for example, where receivers and managers are appointed) and schemes of arrangement, by limiting the ability of a party to terminate contracts on the basis that a counterparty has entered certain forms of external administration, or the counterparty’s financial position when it is subject to those forms of external administration.

Finer details

The stay on enforcement will apply to an ipso facto clause that allows a party to terminate, or alter the terms of, the contract on the basis of:

• the appointment of a voluntary administrator to the counterparty;
• the appointment of a managing controller over all or substantially all of the counterparty’s property;
• the counterparty undertaking a scheme of arrangement for the purpose of avoiding being wound up in insolvency; or
• the counterparty’s financial position, if the counterparty is subject to one or more of the above forms of external administration.

Essentially, the length of the stay on enforcement is the duration of the particular type of external administration or, if the counterparty ultimately enters liquidation, until the end of the liquidation.

When does it kick in

The reform comes into effect on 1 July 2018 and applies to ipso facto clauses contained in contracts entered into on or after that date.

Importantly, it does not apply to ipso facto clauses contained in agreements entered into prior to 1 July 2018.

How Lavan can assist

Lavan can assist you in navigating the impact of these reforms on your business by providing:

• audits of your existing contractual arrangements and their effectiveness in light of the reforms;
• advice regarding your rights in the event that a counterparty enters one of the above forms of external administration;
• drafting of default provisions that will adequately mitigate risk associated with a financially distressed counterparty; and
• structuring contractual extensions and renewals to minimise the impact of these reforms on your operations.