Time is almost up on the ipso facto grandfathering clock

Incredibly it has been almost 5 years since the introduction of the ipso facto reforms to the Corporations Act 2001 (Cth) (Act).  Most commercial contracts will typically include a clause that allows one party to terminate or modify the contract if the other party becomes insolvent, even if there is no other default. The ipso facto reforms prevented the enforcement of such contractual rights because the company was in voluntary administration (section 451E), receivership (section 434J) or subject to a scheme of arrangement (section 451D).

More broadly the stay mechanism also provides against termination based on the ‘financial condition’ of the company in these circumstances, with the aim of increasing the chances of a distressed company trading out of insolvency. The stay does not apply by reason of a company entering liquidation, amongst other insolvency regimes not specified.

The grandfathering period

The Corporations Regulations 2001 (Cth) specify types of contracts and contractual rights that are excluded from the ipso facto regime, but some of these exemptions are now expiring. From 1 July 2023, the ipso facto regime will apply to:

• contracts, agreements or arrangements that were entered into prior to 1 July 2018 and which are varied, novated or assigned after 1 July 2023 (regulation 5.3A.50(2)(zn) only exempts such contracts if the variation, novation or assignment occurred prior to 1 July 2023) – ending the “grandfathering period” which assisted in transitioning in the reforms; and
• contracts, agreements or arrangements for building work, construction work or related arrangements, with total payments of at least $1 billion (regulation 5.3A.50(2)(zo)).

Other exclusions, including for holders of security over all or substantially all of the property of a company, will continue to apply.

The first reported decision on the ipso facto stay

We also nearly reached the end of the grandfathering period without any reported judicial consideration of the ipso facto provisions. However on 24 January 2023, O’Bryan J handed down a decision considering section 451E of the Act. In Rathner, in the matter of Citius Property Pty Ltd (Administrator Appointed) [2023] FCA 26, the Administrator sought orders that should the administration of the company (Citius) come to an end with it entering liquidation, that the stay on the enforcement of certain contractual rights described in section 451E(1) continue until the winding up of Citrus was complete.

The basis for the administrator seeking this order was a perceived potential anomaly that the stay was available to companies in administration that later enter liquidation, but not to companies that had not been in administration immediately prior to the commencement of the liquidation. 

Justice O’Bryan found that there was no such anomaly and that the language and purpose of section 451E(1) is clear on its terms and operates:

• to restrain a counterparty from exercising rights arising by reason of the fact of a company’s entry into administration or its financial position during the period of administration; and
• for the length of the administration and, if the administration concludes because of a resolution or order for the company to be wound up, until the winding up is complete.

His Honour’s judgment makes it clear that the stay under section 451E of the Act does not apply to contractual rights that may arise by reason of the winding up. In other words, rights that arise by reason of a company’s liquidation are not stayed. While this is uncontroversial, it serves as a reminder for parties to be clear in their contractual drafting and to specifically list the appointment of a liquidator as a separate event of default.