Insolvency crisis paves way for legal reforms and business innovations.

1. The Crisis.

It has been the cruellest of years for people in business.

The number of insolvencies in this country is expected to break through the 1,400 mark. In the motor trade and construction sectors, ‘carnage’ is the word most people have on the tips of their tongues.

The impact of the aftershock from the financial crisis has extended far and wide. Many directors and professional advisors find themselves caught up in the downswell, sucked into a financial swamp.

Some solicitors face being forced out of practice due to a sudden escalation in the cost of professional indemnity insurance. 

Many professional people, some at the top of their profession, are in financial difficulty as a result of unwise investments made at the top of the boom. 

For the first time, we could be faced with a scenario where serious players at the top of their profession, & senior figures in the business world, could be faced with bankruptcy.

What this means is that they could be prevented from carrying on their trade or profession if forced into bankruptcy.

The Commercial Court has found itself under serious pressure, faced with an avalanche of winding up petitions and legal responses. During the summer, the tangled affairs of one high profile property developer, Liam Carroll, took up large amounts of the Court’s time, with teams of legal advisors presenting rival cases.

2. An early response to business meltdown:

It is worth recalling a previous crisis, the meltdown, in 1990, of the Goodman Group empire brought about as a result of the Iraqi invasion of Kuwait.

The legislative response was rapid: the lawmakers came up with the concept of the Examiner modelled, in part, on the US Chapter Eleven procedure.

The process allows soundly based companies to resist claims from hostile creditors for a sufficient period to allow the business to get back on its feet.

The Goodman examinership was a success. After a long drawn out workout period, Larry Goodman eventually regained control of his empire. He is, once again, a key player in business, fifteen years after the publication of the report of the Beef Tribunal.

The Examinership model was slow to become widely used, but continues to be admired by many insolvency experts.

Writing in ‘Accountancy Ireland’ magazine in 2006, Neil Hughes, managing partner, Hughes Blake, pointed to a 93% success rate for examinership over the preceding two years.

Mr Hughes lamented the fact that just two per cent of insolvent firms entered examinership. He believed that more would survive if they did.

Since then, the number of examinerships has risen, but the success rate has fallen.

According to the Sunday Business Post, (February 2009) fewer than one third of the companies that entered examinership at the start of 2007 are still in business.

The process has its critics. One expert argues that in times of painful transformation, destruction is a necessary prelude to regeneration. Examinerships, according to this view, may simply delay the day when a non viable entity is brought to an end.

Under this process of creative destruction, people with talent are released into other businesses or occupations where they can become much more productive.

The best guess is that examinerships will continue to have a role to play, but only in the case of businesses with long term potential faced with short term difficulty (due to unwise investments, or the sheer scale of the downturn).

3.  Creative legal thinking and the recovery :

A feature of the current recession has been the sheer savagery of its impact on a whole generation of overextended borrowers, both household and commercial. Irish people entered this crisis in a financially over extended state, many through no fault of their own.

However, the laws on personal bankruptcy in this country hail from another era.

There have been growing calls, in particular, for an end to the use of imprisonment as a means of enforcing the payment of debts.

Earlier this year, the High Court, in a landmark decision, struck down the District Court debt collection regime as being in breach of the Constitution.

Judge Laffoy argued that Section 6 of the governing Enforcement of Courts Act, 1940 was invalid.

This leaves the question of how best to tackle debt evaders.

The Laffoy judgement may have left a “serious gap in procedures”, according to lawyer, Genevieve Coonan (Law Society Gazette, July 2009 issue)

One possibility is a new system of deductions from wages or welfare payments to tackle what could otherwise become a real “moral hazard” problem, if defaulters were seen to “get away with it.”

It also remains open to the Government to reintroduce the possibility of imprisonment for debtors guilty of wilful refusal, or culpable neglect.  The burden of proving this would fall on the creditor  

Future reform?

Looking forward, the whole issue of reform of our outdated bankruptcy laws are now in play.

Many leading professionals in the field are calling for reforms similar to those introduced in the UK.  At present, a bankrupt is severely restricted here from acting in business for a period of twelve years. In practice, this means that bankruptcy is very much an option of last resort.

Insolvent people are left to operate in a kind of limbo, deprived of credit and the opportunity to ply their trade. In effect, the country is being deprived of the energy and skills of a growing number of entrepreneurs who could be contributing to the recovery.

One suggestion is the use of debt release orders in the case of people who can show that they did not act either fraudulently, recklessly, or negligently in the conduct of their affairs.

In times of crisis, innovative ideas are forced to the forefront. This crisis will surely turn out to be no different in this regard. Expect a new emphasis on business crisis management and prevention to be one of the legacies of the current downturn.

acknowledgements:

Sharon O Donovan, partner, McHugh Kinsella & Associates.

Tom Murray. Director, corporate recovery & insolvency, Friel Stafford Chartered accountants