The Devil’s in the Detail - the impact of ipso facto laws

In June 2018, Lavan provided a summary on the impact of the Corporations Act (Act)¹ due to the ipso facto provisions implemented by virtue of the Treasury Laws Amendment
(Amending Act)².

The various teams at Lavan have been preparing for the impact of these reforms. We will be providing this update to the ipso facto law in three separate Lavan Updates.

Summary

This legislation renders almost all ipso facto clauses in contracts unenforceable, unless leave of the Court is obtained.

The Corporations Regulations (Amending Regulations)³ came into effect on 1 July 2018.  The Minister has also made the Corporations Declaration (Declaration)⁴.  These two documents, together with the explanatory statements for each, provide some direction as to what contracts are excepted from the automatic “stay” provisions under ss 415D, 434J or 451E of the Act (Exceptions).

Ipso Facto Provisions

To reiterate:

• The Act now prevents a party from enforcing “ipso facto clauses” in contracts by mandating an automatic “stay” on such provisions (unless an Exception applies or the clause is approved by Court order).
• Ipso facto clauses (in this context) are the contractual provisions that allow one party to suspend the performance of a contractual obligation or terminate the contract upon the occurrence of an insolvency event in respect of the other party.
• Under the Act, a “stay” will be enforced on any term that gives a contractual right to suspend or terminate as a result of almost all insolvency (or financial distress related) events, except liquidation.
• The length of any “stay” is consistent with the timeframes in the Act, including any extensions, that apply to the relevant clause based on the type of insolvency event.
• The stay provisions do not affect an ipso facto clause that is agreed to between the parties after a company experiences an insolvency event.

Property related transactions

In the context of property transactions, some of the Exceptions will apply and some may not apply. We are not addressing all of the Exceptions that apply, just those that are likely to impact property transactions.

Assignment, novation or variation of the pre-1 July 2018 arrangements

The assignment or novation of an agreement relates to existing rights.  However, the result of that assignment or novation is the creation of a new arrangement. The assignment or novation of arrangements entered into before 1 July 2018, and assigned or novated after 1 July 2018 but before 1 July 2023, are excepted from the “stay” provisions.

The same applies to variations to arrangements in place prior to 1 July 2018.  However, it is expected that at some point in time, a situation will arise where the Courts will need to determine if an extensive variation to an existing arrangement essentially constitutes a new arrangement, where the “stay” provisions would then apply. The “variation” Exemption could be misused as a mechanism to avoid ipso facto clauses being “stayed”.

Where the transaction is a lease, any renewal of a lease is, at law, the grant of a new lease.  It is not a variation to the original lease.  As such, any ipso facto clauses in a lease entered into before 1 July 2018, will not be enforceable upon the extension of that lease, even if that the further term was contemplated in the original lease document.

Similarly, if a lease is varied to add to, or remove part of, the leased premises, any variation to effect this change will amount to the grant of a new lease.  Therefore, a new lease is entered into and the ipso facto clauses that may have been enforceable in the lease entered into prior to 1 July 2018, will now be subject to the “stay” restrictions.

Contracts involving special purpose vehicles (SPV) that provide for a project finance arrangement

The explanatory statement accompanying the Amending Regulations sets out the rationale for the Project Finance Exemption as follows:

…the ipso facto stay does not apply to arrangements involving an SPV where those arrangements provide for project finance.

Project finance arrangements involve financial accommodation that funds a project, such as a loan, being repaid or otherwise discharged primarily from the cash flow of the project when the project starts generating such cash flow.  To secure this type of arrangement, the project’s assets, rights and interests are held as security for the financial accommodation.

There are a number of advantages of using a project finance arrangement for the completion of a project. Project finance arrangements will often involve an SPV, and, similarly to securitisation and PPP, involve sophisticated parties.  The SPV can be party to a web of contracts that support and are necessary for the project such as shareholders, lenders, operators, suppliers, procurement and construction contracts.

This suggests the likely sophistication of the parties participating in the arrangement has formed the policy basis for exempting these types of arrangements from the “stay” requirements, rather than the underlying nature of project itself.  The definition for an SPV that qualifies for this Exemption, is narrow and the apparent critical element as to what constitutes ‘project financing’ is that the repayment of the loan is to be made primarily from the assets of the project that is being financed.  Clearly, limited recourse financing of this nature will fall within this exemption.

Certain joint ventures and project management arrangements relating to the development of land, which include an SPV and a project financing arrangement, may fall within this Exception.

The same provisions also apply to SPV and “public-private partnership” (PPP) projects.  There is no specific definition included in the Amending Act or Act itself. It is anticipated that a PPP arrangement is one relates to public infrastructure and involves the provision of an on-going service to maintain or operate that infrastructure. Caution should be exercised in relying on this Exemption pending clarification on its scope.

Financial Products

A contract, agreement or arrangement:

• where a party is, or may be, liable to subscribe for (or procure subscribers for);
• that is or governs;
• that is for the sale of; or
• that is for the underwriting of,

securities and financial products, is an Exception.  This is of particular significance for property developers, syndicators and investors who operate managed investment schemes.  The issue of interests in managed investment schemes (typically unit trusts) are financial products.

Conclusion

While the exact scope of these provisions is still very much unknown, the laws apply regardless.  Before you contemplate entering in to a contract or enforcing an ipso facto clause, you should speak with us.