Sport, solvency and survival: Managing the legal and financial issues in 2022

Co-authored by Sophie Timms

The challenging economic environment faced by many Australian sporting organisations has resulted in senior management and directors having to pay greater attention to ensure sound financial management. Similarly to directors of Australian Stock Exchange (ASX) listed companies, directors of sporting organisations have a duty under the Corporations Act 2001 (Cth) (Corporations Act) to prevent insolvent trading. Financial distress describes when a company or individual cannot generate sufficient revenue to meet its financial obligations, whereas insolvency is not being able to pay its debts when they become due and payable. Sporting organisations are not immune to the threat of insolvency, with many examples locally and internationally, in which directors have had to contend with a range of insolvency and restructuring options.

In recent times, sporting organisations have seen a fall across multiple revenue streams including gate receipts, memberships, merchandise sales and sponsorships. Whilst not an exhaustive list, there are a number of key indicators that may suggest a sporting organisation is in financial distress including:

• Cash flow problems (a lack of cash to pay debts);
• Defaulting and/or not paying bills on time;
• Loss of a major sponsor and/or broadcasting arrangement;
• Reduced membership and/or participation numbers;
• Reduced sales of merchandise; and
• Over-reliance on borrowed funds.

The passion stakeholders have can be utilised to rescue a sporting organisation from significant financial hardship. In the early 2000s, the member and fans of the Carlton Football Club donated money to ensure the club’s survival following financial penalties from the Australian Football League for salary cap breaches during the prior decade. In circumstances where a sporting organisation is experiencing significant financial distress (even when it is not yet insolvent), a number of options are available to ensure ongoing survival as a going concern.

Voluntary Administration

In Australia, Voluntary Administration (VA) (commonly referred to as simply Administration) is an insolvency procedure under the Corporations Act. The objective of putting a company into VA is to maximise the chances of a company, or as much of the business as possible, continuing to exist.

The process of VA involves an independent administrator, a registered liquidator with Australian Securities and Investment Commission (ASIC), assessing the business to determine the best financial resolution for the company. The administrator may be appointed by the Board, the Creditors of the Company or in some situations, by the Court. Once a business enters into VA, the business is essentially frozen. Trading is temporarily paused, assets are frozen and therefore, creditors are not able to take legal action to enforce their claims. At the conclusion of the administrator’s enquiries into the viability of the business, one of the following three recommendations will be made:

• Return control of the company to the board of directors;
• Enter into a Deed of Company Arrangement; or
• Liquidate the company to pay creditors.

A Deed of Company Arrangement (DOCA), in essence, is an agreement between the company and its creditors. The purpose of employing a DOCA is to maximise the chance of the company continuing as a going concern. In order for a DOCA to succeed, when put to a vote of the creditors, it must obtain the support of at least half of the creditors who believe it is in their best interests as well as that of the company.

There are numerous benefits of undertaking the process of VA to the company, the directors and all stakeholders. An independent assessment of the financial situation can provide valuable insights to ensure the company continues to trade in the most efficient and profitable manner. The process also provides the company directors with the necessary time to fully assess the situation without the risk of the business trading whilst insolvent (an offence for which they can be found personally liable).

In April 2020, Illawarra Hawks Proprietary Limited who held the licence for the Illawarra Hawks in the National Basketball League (NBL) was placed into VA by creditors. The administration followed several years of poor financial performance and debts of close to $800,000. The administrator did determine that the licence-holder was indeed insolvent and a decision was made to place the company into liquidation. The unique nature of sport meant that the Illawarra Hawks were able to continue in the competition after the NBL secured a new owner to operate the licence. An advantage of entering VA is where it is not possible for the company to continue, it allows the best possible return for the company’s creditors and members.

Liquidation

If it is determined that a business is beyond the point of recovery, the company must go into liquidation. Liquidation involves converting all of a company’s assets into cash, and using those funds to repay, as much as possible, the company’s debts. While there are three different types of liquidation, only two are likely to occur in the case of a sporting organisation – creditor’s voluntary liquidation and court liquidation. The category not likely utilised by a sporting organisation is a members’ voluntary liquidation, which is a way for companies not experiencing financial difficulties to shut down.

A creditors’ voluntary liquidation is initiated by the company’s directors when they are concerned that the company is insolvent, or cannot pay all of its debts. A court liquidation commences as a result of a court order, usually made after an application by one of the company’s creditors. Once an independent ASIC-registered liquidator is appointed, they will undertake the process of liquidating the assets of the company and deregistering the company with ASIC.

While the liquidation of a sporting organisation is uncommon, it does not always mean the end of a franchise. However, following the ‘Super League War’ in Rugby League, the decision was made to wind up a number of teams including the Adelaide Rams, Perth Reds and Hunter Mariners.

Director Liability

Directors have a general duty to act in good faith and in the best interests of the company, and specifically to avoid the company trading while insolvent. Directors also owe a duty to creditors where the company is insolvent or nearing the point of insolvency. Under the Corporations Act, where a company breaches these duties, not only can they face civil penalties but where a director allows the company to incur a new debt, they can be personally liable for all of the new debts incurred.

Conclusion

Directors of sporting organisations should be aware of the tell-tale signs of financial distress to enable proactive action and to limit the possibility of individual liability. It is important that VA is not viewed as an option of last resort, but can provide critical time for the directors to consider the options. The organisation can undertake an independent assessment to determine all of the financial restructuring options to ensure the effective and efficient financial management.

It is important that insolvency practitioners understand that sporting organisations operate in a unique environment. A failure to understand the nuanced stakeholder management requirements across governments, governing bodies, athletes, staff, members and fans would likely limit the ability to get the best result for all involved.