This month we will be looking at a business affected by one adverse event after another in our popular case study format.
Our client, Andrew, operated a successful bus company. Prior to the Covid-19 pandemic the business has been embroiled in a dispute with a Government body over certain compliance aspects of its operations. Our client was confident they were compliant and that the matter could be resolved. At that time cashflow was good, and the company was up to date with all finance, creditor and ATO payments. Then the decision of the Government body was handed down…
Andrew was stunned when he learned that his operating license had been suspended. This left him in a position where he could not trade the business. Contracts were hurriedly assigned to a licensed operator, with the company to receive a fee from the new provider. The payment under the license agreement still enabled the company to meet its commitments, but things were getting tighter and Andrew grew concerned. Based on legal advice, Andrew decided to litigate against the suspension of his license and seek damages for his loss. Then Covid-19 hit.
Payments under the license agreement dried up. This was due to the nature of the license agreements, which were linked to the revenue generated under the contracts. As he was unable to operate his business, Andrew was not able to generate any alternate revenue from the contract or by utilizing company assets. Cashflow went from a steady stream to a trickle. Creditors fell into arrears. Still, Andrew’s advice was that his legal claim was strong, with damages potentially running to $5m to $6m to date. Then a creditor issued a Statement of Claim for an overdue debt...
Andrew knew that under current Covid-19 provisions the creditor would be unable to issue a Winding Up Application for some time. However, he was concerned that the creditor could take steps towards this action, and then proceed if Covid-19 measures were lifted. This would have left the company facing an immediate problem and without the time to pursue the legal claim.
At the time Andrew met with de Jonge Read the company’s financial position looked like this:
Bus Fleet (under finance) - 1,000,000
Bus Fleet (no specific finance) - 400,000
Trade debtors - 100,000
Sundry assets - 100,000
Total - 1,600,000
Vendor Finance from Purchase (Mr Arthurs) - 2,000,000
Finance contracts (bus fleet)- 1,200,000
Bank facilities - 300,000
Trade creditors - 570,000
Australian Taxation Office (ATO) - 300,000
Fintech Lender - 230,000
Legal fees - 400,000
total - 5,000,000
Importantly, Andrew had no assets in his personal name that creditors could pursue under personal guarantees he had provided. Further, while some fleet assets were not subject to specific finance, they were still captured by other securities held by Andrew’s bank and Mr Arthurs, the vendor financier.
So, what could Andrew do. Some options considered were:
Restructure the business to a new trading entity.
Manage a controlled exit from the business.
Enter into Voluntary Administration with a view to proposing a Deed of Company Arrangement (DOCA)
In view of Andrew’s specific circumstances and goals we recommended Voluntary Administration. This would provide him with the opportunity to pursue his legal claim and return to full operations if this was successful.
A DOCA can be an excellent tool in managing the company’s unsecured creditors. If successful, the DOCA effectively ties all unsecured creditors to it, preventing them from taking any further action against the company. As it currently stands, one aggressive creditor could take recovery action and jeopardise Andrew’s plans. Andrew saw the value in our proposal, and why other options he had been advised to pursue, did not meet his needs.
What do we do now?
The first step was to appoint the Voluntary Administrator (VA). On appointment an unsecured creditor is unable to progress any recovery action that may be underway. This was important in Andrew’s case due to the current claim.
The next step was to formalise the DOCA offer. A DOCA can provide for very flexible offers, such as payments over a period of time or a share of the sale of an asset. In this case the offer would be that unsecured creditors would receive a share of the proceeds from the successful completion of the litigation.
When the Administrator reviewed the company’s position, he determined:
There would be no return to unsecured creditors in liquidation due to security positions.
Pursuit of the legal claim would be problematic if the company was liquidated.
As Administrator he would recommend acceptance of the offer to creditors.
We do not propose to discuss the voting process for DOCAs in this article. Please feel free to ring one of our strategists if you would like to discuss. However, suffice to say, that the support of the vendor financier, Mr Arthurs, and the lenders was crucial. Unlike some other creditor votes in insolvency, secured creditors are entitled to vote for the full amount they are owed in a DOCA, irrespective of their security position. Generally, banks and asset financiers will abstain from such votes for a number of reasons. This made Mr Arthur’s support crucial. Given the amount he was owed he was in a position to exert considerable influence over the outcome.
After we had formulated an offer Mr Arthurs was approached to discuss the situation. He had run that business himself for many years and was very familiar with the issues relating to the cancellation of the license and the resulting litigation. Mr Arthurs saw nothing wrong with what Andrew had done and agreed that the company should not have lost its license. Mr Arthurs also knew that the bank had priority over his security interest, and this could potentially impact his outcome unless the DOCA was successful. Mr Arthurs agreed to support the proposal.
Our firm then ensured that all amounts owed to supportive creditors were accepted for voting purposes and all proxies submitted to vote in favour of the DOCA. In this case, Mr Arthurs and Andrew’s lawyers were supportive of the proposal.
What happened this time?
At the meeting of creditors Mr Arthurs and Andrew’s lawyer voted in favour of the proposal. Other creditors, including the creditor taking legal action, voted against the proposal and the Administrators recommendation. The bank and asset financiers did not vote. Due to the steps discussed above the proposal was approved. What happened? Well, it all went as de Jonge Read expected, and as outlined in our detailed written recommendations.
• Creditors agreed to the DOCA proposal
• Control of the company was returned to Andrew
• All unsecured debts were dealt with under the DOCA
• Andrew remained in control and was able to pursue his legal claim
• Available cashflow was able to maintain payments to secured creditors
Will Andrew win in Court? We hope so. At least now he has a chance. The important point to note here, is that Andrew could have sat back and waited. The hostile creditor could not have had the company liquidated in the short term. Doing nothing though would not have solved Andrew’s problems. By acting proactively, he has now maximised his opportunity to be successful in the future.
Good luck in Court Andrew!
Want to know more about our DOCA strategy? We will be presenting this case study as a webinar on Thursday 9th July 10 am. Register now >>