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Ipso Facto Clauses

Friday, January 27, 2017 - Posted by Michael McCulloch

Ipso facto clauses allow one party to a Contract or Agreement to terminate or vary a Contract typically upon an insolvency event, such as the appointment of a company administrator. This is regardless of continued and historical performance under the contract - ie payments are still being made with no amounts outstanding for payment.

The operation of these clauses diminishes the value of a business when an insolvency event occurs and may reduce the scope for a successful restructure or prevent the sale of the business as a going concern, with consequential impact on the returns to Creditors in any subsequent liquidation. This was particularly the case with the collapse of One.Tel in May 2001 where once ispo facto clauses were invoked, services were unable to be provided.

The lack of protection from the operation of ipso facto clauses has been a key criticism of the voluntary administration regime contained in Part 5.3A of the Corporations Act 2001.

In the 2015 report on Business Set-Up, Transfer and Closure, the Productivity Commission recommended that the Corporations Act 2001 be amended such that ipso facto clauses that have the purpose of allowing termination of Contracts solely due to an insolvency event are unenforceable if the company is in voluntary administration or in the process of forming a scheme of arrangement with Creditors.

For reasons of practicality the Government considers that this approach should be extended to include other types of ipso facto clauses (such as clauses that vary terms of a Contract) which may be disproportionately detrimental to companies undertaking a restructure.

If the recommendations made are implemented later this year there will be a requirement for adequate safeguards to ensure that they are not abused and to protect Creditors however the adoption of the recommendations would provide  a more balanced approach for a company that is undergoing financial distress and lead to a better result for all parties.

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