The Acquisition and Leveraged Finance Review: Australia
Australia has a long history of merger and acquisition activity, and consequently, the debt financing of these acquisitions is a well-trodden path for lenders and borrowers alike. Traditionally, the senior debt financing of acquisitions in Australia has been the domain of the banks, international and domestic, with the local 'Big Four' banks often taking lead roles in relation to the arranging and underwriting of these facilities. However, consistent with the European experience, the market has recently borne witness to the emergence and proliferation of non-bank, institutional lenders.
Traditionally, an Australian acquisition finance package will feature an amortising term loan A, together with a bullet term loan B, to fund the acquisition of the target group. These facilities will generally be accompanied by a pari passu revolving facility that is designed to meet the target's working capital or contingent instrument needs, or both, post-acquisition. Capital expenditure or acquisition facilities are often also included as required (generally on a committed basis). Subordinated debt provided by specialised institutions (usually in the form of mezzanine loans or local capital markets products) also often features where the acquisition is of a sufficient size. Recently, there has been a trend for mezzanine funding to be provided at a level above the bank group, being the holdco level. This enables sponsors and senior lenders to avoid much of the complexity that comes from having this subordinated debt provided at (or just above) the level of the senior debt. As a general rule, loan documentation in the Australian market is relatively standardised, thus enabling loans to be drafted, priced and syndicated to a wide pool of financiers.
Unitranche loans (a hybrid loan that rolls senior and subordinated debt into a single debt instrument) remain popular, particularly on the basis that they are nimble, flexible (from a covenant perspective) and relatively easy to execute.
As with 2021, the predominant influence on the Australian lending market (as with any other market) continues to be the global covid-19 pandemic and the lending market's response to the unprecedented effects of pandemic-related lockdowns and geopolitical responses to the virus. It was believed that 2021 would be a year of heightened M&A activity as financiers and sponsors sought to employ liquidity previously withheld from 2020. In line with expectations, the first part of 2021 was characterised by an increase in deal activity amid a global economic recovery following the widespread distribution of the covid vaccine and achievement of a relatively stable geopolitical context.
The value of Australian syndicated lending decreased by 31 per cent over the first half of 2021 (year on year) relative to the same period in 2020 and deal volume decreased by 24 per cent (US$34.8 billion from 81 deals in the first half of 2021, down from US$50.3 billion from 106 deals in the first half of 2020.2 The decrease in value in the first half is inconsistent with a global rise in syndicated lending by value (a 22 per cent global increase in value year on year with no change in deal volume year on year).3 The decrease in syndicated lending should also be considered from the perspective of the diminished values in 2020 where Australian syndicated lending reached US$77.33 billion and declined 13 per cent in value and 27 per cent in volume compared to 2019.4
As a measure of regulatory relief to the economic outlook, the Reserve Bank of Australia announced a reduction in the cash rate to 0.10 per cent as a policy response to establish and provide liquidity in the market. Consequently, we are now in an environment where people are becoming increasingly concerned about negative interest rates (similar to the experience in Japan in 2016). From a documentation perspective, this has led to a continued focus on interest rate floors in loan documentation, both in the leveraged market and more generally.
Despite the pandemic's dampening effect on M&A-related financing in 2020, private equity dealmakers demonstrated a clear willingness to put capital to work on large-scale M&A financings in 2021. For example, Square Inc's A$39 billion acquisition of Afterpay in 2021 was the largest public M&A transaction in Australia's history and the largest cross-border fintech deal globally. The resurgence of private equity in M&A has been accelerated by structural shifts in the liquidity and appetite of global credit markets that resulted from the lower leveraged loan volumes in 2020. These factors have manifested themselves in enhanced difficulty in valuing potential buy-out targets. M&A-related financing for the Asia Pacific region experienced low volumes in the first half of 2021 (volumes reached US$21.15 billion in the first half of 2021, down by 4.5 per cent from the same period the year prior).5 It is expected that the current low interest rate environment, together with the view that Australia remains a favourable jurisdiction for international dealmakers seeking opportunities in the Asia Pacific given its status as a mature economy with a sound legal system and response to the challenges of the pandemic,6 will continue to draw M&A-related financing activity to the local market led strongly by service-based and technology sectors.
As noted earlier, growth in the Australian unitranche market remains strong. Term loan B (TLB) financing constituted a larger market share for leveraged buyout deals (LBOs) in Australia. Of the total US$6.45 billion loans that funded LBOs completed in 2020, traditional bank loans 55 per cent, TLBs accounted for 32 per cent, and unitranche deals the remaining 13 per cent.7 Early signs for 2021 for TLBs are promising – with Australian TLB volumes in the first half of the calendar year already surpassing the volumes for the entire year of 2020.8
Following a string of substantial government privatisations in past periods (which included the privatisation of a majority stake in the WestConnex freeway project (A$9.26 billion), the New South Wales Land Registry Services (A$2.6 billion) and the Victorian Land Titles and Registry office (A$2.86 billion), 2021 has continued the trend from 2020 and seen a continued deceleration in the number of privatisations and new infrastructure projects with some of the more notable transactions involving the refinancing of existing debt. Despite the slowdown, asset privatisation remains an integral part of broader government strategy because it allows governments to unlock significant capacity to reinvest into new transport and social infrastructure projects, which in turn generates additional deal flow.
Notable projects in 2021 include Multiplex's successful bid for the Western Sydney International Airport (A$5.3 billion), the WestConnex financing (A$4.2 billion), PoWar consortium's acquisition of Tilt Renewables (A$3 billion), ESR Milestone Partnership's (a partnership between ESR and Singapore's sovereign wealth fund GIC) acquisition of the Milestone Logistics Portfolio (A$3.4 billion) and the new Royal Adelaide Hospital Project (A$2.2 billion).
Regulatory and tax matters
i Regulation of foreign investments in Australia
The Australian Foreign Acquisitions and Takeovers Act 1975 (Cth) (FATA) and its associated regulations (administered by the Foreign Investment Review Board (FIRB)) regulate the making of investments by foreign persons in Australian companies and assets (and in some cases offshore companies with the requisite Australian connection).
In general, the legislation regulates four kinds of actions: significant actions, notifiable actions, notifiable national security actions and reviewable national security actions.
Significant or notifiable action
The Treasurer has the power to make orders in relation to significant actions (including blocking them, or ordering divestments) if he or she considers the transaction to be contrary to the national interest. Approval only has to be sought for these if they are also notifiable actions or notifiable national security actions, but obtaining approval cuts off the Treasurer's powers (although he or she can in certain circumstances re-open approvals). Seeking approval is strongly advised. Notifiable actions are a category of transaction that requires approval. Most notifiable actions are also significant actions (meaning the Treasurer has the above powers).
Common significant, or significant and notifiable, actions are:
- the acquisition of 20 per cent or more of an Australian entity that is valued above the current monetary thresholds (currently A$281 million, or A$1216 million where a higher treaty threshold can be relied on, and the business is not a sensitive business);
- the acquisition by a foreign person that is a foreign government investor of 10 per cent or more (and sometimes less than 10 per cent) of an Australian entity or business (subject to a de minimis exemption, where the acquisition is of an offshore entity with an Australian subsidiary that meets certain tests);
- the acquisition of 10 per cent or more (and sometimes less than 10 per cent) of an Australian entity that carries on an agribusiness where the investment is valued above the then current monetary threshold;
- the acquisition of an interest in land valued above the then current monetary threshold (which varies depending on the kind of land and who the acquirer is), unless an exception applies; and
- the acquisition of 5 per cent or more of an Australian media business.
A foreign government investor (FGI) in general includes a foreign government or agency, sovereign wealth funds, state-owned enterprises, public pension funds, public universities and the like, or corporations, trustees of trusts or general partners of limited partnerships where, in respect of the corporation, trust or limited partnership:
- FGIs from one country hold 20 per cent of the interests; or
- FGIs from multiple countries hold 40 per cent or more of the interests, subject to an exception for passive investors (which does not apply to the 20 per cent limb).
Many PE funds are FGIs because of the amount of US state pension fund money in them.
Notifiable national security action
The Treasurer has the power to make orders in relation to notifiable national security actions (including blocking them, or ordering divestments) if he or she considers the transaction to be contrary to national security (which is narrower than the national interest test above). These actions require approval. An action is a notifiable national security action if the action is taken, or proposed to be taken, by a foreign person and the action is any of the following:
- starting a national security business;
- acquiring an interest of 10 per cent or more (and in some cases less than 10 per cent) in a national security business;
- acquiring an interest of 10 per cent or more (and in some cases less than 10 per cent) in an entity that carries on a national security business;
- acquiring an interest in Australian land that, at the time of acquisition, is national security land; or
- acquiring a legal or equitable interest in an exploration tenement in respect of Australian land that, at the time of acquisition, is national security land.
A national security business is one that is carried on wholly or partly in Australia whether or not for profit or gain and is publicly known, or could be known after reasonable enquiry, that the business:
- is an owner or operator of critical infrastructure assets as defined in the Security of Critical Infrastructure Act 2018 (SOCI Act) (currently the SOCI Act covers certain ports, water, gas and electricity, but is undergoing consultation and is likely to be significantly expanded at some point this year);
- is a carrier or nominated carriage service provider to which the Telecommunications Act 1997 applies;
- develops, manufactures or supplies critical goods or critical technology that are for military or intelligence use by Australian or foreign defence or intelligence agencies;
- provides critical services to Australian or foreign defence or intelligence agencies;
- stores or has access to information that has a security classification;
- stores or maintains personal information of Australian defence and intelligence personnel collected by the Australian Defence Force, the Defence Department or an agency in the national intelligence community, which, if accessed, could compromise Australia's national security;
- collects, as part of an arrangement with the Australian Defence Force, the Defence Department or an agency in the national intelligence community, personal information on defence and intelligence personnel, which, if disclosed, could compromise Australia's national security; or
- stores, maintains or has access to personal information as specified in the above dot point, which, if disclosed, could compromise Australia's national security.
National security land is any of the following that is in Australia, and is owned or occupied by the Commonwealth for use by the Defence Force or the Department of Defence:
- an area of land or any other place (whether or not it is enclosed or built on);
- a building or other structure;
- a prohibited area, within the meaning of the Defence (Special Undertakings) Act 1952;
- the Woomera Prohibited Area;
- land in which the Commonwealth, as represented by an agency in the national intelligence community, has an interest that:
- is publicly known; or
- could be known upon the making of reasonable inquiries.
Reviewable national security action
Reviewable national security actions are transactions with an Australian nexus that are not significant actions, notifiable actions or notifiable national security actions. These transactions, together with significant actions for which approval is not sought, are subject to the Treasurer's 'call in' powers for a period of 10 years if he or she considers that the transaction poses a national security concern. Like significant actions, reviewable national security actions do not have to be notified, but obtaining approval cuts off the Treasurer's powers (although he or she can in certain circumstances re-open approvals). The Australian government encourages seeking approval for certain kinds of reviewable national security actions.
While FIRB approval is principally a matter of concern from an M&A perspective (where ownership in the shares or assets are actually being transferred), it is also relevant in a debt finance context given that 'obtaining an interest' also extends to the grant of a security interest over such shares or assets or the enforcement of such security.
In a finance context, there is an exception from this requirement if the interest is either held by way of a security or acquired by way of enforcement of a security, solely for the purpose of a money-lending agreement. This applies to persons whose ordinary business includes the lending of money (which is deliberately broad enough to capture institutions that are not authorised deposit-taking institutions (ADIs) and also captures a subsidiary or holding company of such a lender, a security trustee or agent, and a receiver or receiver and manager of an entity that holds or acquires the interest). This exception also applies to a 'foreign government investor', although in respect of an interest acquired by way of enforcement of a security, a foreign government investor is restricted in the amount of time it can hold an asset (12 months in the case of an ADI and six months in the case of a non-ADI, unless the foreign government investor is making a genuine attempt to sell the assets acquired by way of enforcement). The money-lending exception has more limited application where the security is over residential land, national security land or a national security business.
Where the acquisition is not politically sensitive, these approvals are generally provided as a matter of course, although the need for FIRB approval should be considered where security is being granted over material Australian entities and the imposition of conditions around tax, data handling and the like is becoming routine.
Other government approvals can also be required to take security over certain types of assets (such as mining and resource interests) that are subject to separate regulation.
Note that the above is a summary only. Australia's foreign investment rules are notoriously complex and are affected by non-statutory guidance, and legal advice should always be sought.
ii Interest withholding tax
Interest withholding tax (IWT) of 10 per cent applies on gross payments of interest (or payments in the nature of, or in substitution for, interest) made by Australian borrowers to non-resident lenders (except where the lender is acting through an Australian permanent establishment or where other exceptions apply). IWT is a final tax and can be reduced (including to zero) by domestic exemptions and the operation of Australia's network of double tax agreements (DTAs).
Under DTAs with Finland, France, Germany, Japan, New Zealand, Norway, South Africa, Switzerland, the United Kingdom and the United States, there is no IWT for interest derived by a financial institution unrelated to, and dealing wholly independently with, the borrower (subject to certain exceptions).
Under Australian domestic law, IWT may also be exempt where the debt satisfies the 'public offer' exemption (contained in Section 128F of the Income Tax Assessment Act 1936 (Cth)). Once the debt satisfies the public offer exemption, it is typically more marketable as an incoming lender remains entitled to the benefits of the exemption from IWT (subject to certain criteria being met). Broadly, the public offer exemption applies where an Australian company publicly offers certain debt instruments via one of several prescribed means, including (most commonly):
- the debt instrument is offered to at least 10 persons, each of whom is carrying on a business of providing finance, or investing or dealing in securities in the course of operating in financial markets, and are not known or suspected by the borrower to be associates of one another or of the borrower; or
- the debt instrument is offered to the public in an electronic form that is used by financial markets for dealing in debentures or debt interests.
Syndicated facility agreements can only satisfy the public offer exemption where the borrower or borrowers will have access to at least A$100 million at the time of the first loan (among other criteria).
An IWT exemption will not apply where the issuer (or arranger acting as agent for the issuer) knew or had reasonable grounds to suspect that the debt instrument will be acquired by an offshore associate of the Australian borrower, unless the associate acquired it in the capacity of a dealer, manager or underwriter in relation to the placement of the debt instrument, or a clearing house, custodian, funds manager or responsible entity of a registered scheme.
IWT relief also applies to certain foreign pension funds and sovereign funds. The IWT exemption will only apply to foreign pension and sovereign funds with (broadly) portfolio-like interests, being interests in an entity that are less than 10 per cent of total ownership interests and do not carry an ability to influence the entity's decision-making. Additionally, the IWT exemption for sovereign funds will only be available for returns on investments in Australian companies and managed investment trusts.
iii Thin capitalisation
Australia has a thin-capitalisation regime that can operate to deny income tax deductions for interest expenditure on overly geared Australian groups that have debt deductions over the de minimis threshold of A$2 million for an income year. There are three methods to calculate the maximum allowable debt of a taxpayer. Most Australian borrowers will rely on the safe harbour, which in broad terms allows for Australian assets to be funded by up to 60 per cent debt. In the context of an acquisition, these provisions allow for the funding of acquired goodwill.
In addition, there is an arm's-length debt test, which broadly allows Australian groups to be debt-funded up to the maximum amount a third-party lender would be willing to lend. This test has not typically been used as it is an annual test and requires an assessment of various quantitative and qualitative factors including the prevailing debt markets and general state of the Australian economy. Another test, the worldwide gearing test, allows an outward investing entity (which is not also an inward investing entity) to gear its Australian operations, in certain circumstances by reference to the gearing level of its worldwide group.
Security and guarantees
i Common security packages
The Personal Property Securities Act 2009 (Cth) (PPSA) sets out the principles applicable to the grant and perfection of security interests in Australia, principles that should be relatively familiar to anyone who has had experience in a common law jurisdiction.
The PPSA introduced a uniform concept of a 'security interest' to cover all existing concepts of security interests, including certain mortgages, charges, pledges and liens. It applies primarily to security interests in personal property that arise from a consensual transaction that, in substance, secures payment or performance of an obligation. It also applies to certain categories of deemed security interests, so that like transactions will be treated alike. 'Personal property' is broadly defined and essentially includes all property other than land, fixtures and buildings attached to land, water rights and certain statutory licences.
In a typical domestic secured lending scenario, security is most commonly taken by the relevant security providers entering into a general security deed which covers all of the relevant security providers' assets and undertakings (the local equivalent of a debenture). Such an instrument can attach to all forms of 'personal property' (both tangible and intangible) and operates in a similar way to a debenture or security agreement. Accordingly, all-asset security can be obtained from corporate grantors simply and effectively.
In an acquisition context, the general security deed is often supplemented, where necessary, by a specific security deed over the shares of an Australian target (i.e., a share mortgage) granted by its special purpose vehicle or offshore parent. This is often a necessary part of the security structuring where restrictions on the provision of financial assistance (dealt with further below) mean that direct target security cannot be obtained on closing the acquisition. In each case, these security interests are supported by corporate guarantees, which are typically documented in the credit agreement.
To ensure priority and perfection, each of these security interests must be registered on the Personal Property Securities Register (PPSR), created under the PPSA, within 20 business days of the security agreement that gave rise to the security interest coming into force (with some forms of security interest requiring registration within a shorter timeframe, including on or prior to the date that the security interest is granted by the security provider). It is possible for the secured party to register a security interest on the PPSR on and from the time that the secured party believes, on reasonable grounds, it is (or will be) a secured party in relation to the collateral. While not mandatory, registration will generally ensure that the security interest retains its priority against subsequently registered interests and that it remains effective in the event of the insolvency of a corporate security provider. It is possible (and advisable) for lenders to search the PPSR to determine whether there are any prior security interests registered against the relevant entities in the structure (including the Australian-domiciled holding companies and targets, together with any offshore parents of these entities).
Security can be granted over real property (both freehold and leasehold) by way of a registered real property mortgage. Such security is only generally sought where the real property in question has operational or economic significance. Unlike security interests that are dealt with under the PPSA, the grant of security over real property is dealt with on a state-by-state basis. However, from a practical perspective, there are few fundamental differences between the regimes in the various states. As with personal property and PPSR searches, the relevant land registries can, and should, be searched to determine what encumbrances or restrictions on title have been registered against the relevant property.
ii Issues with the grant of security
Section 260A of the Corporations Act 2001 (Cth) (Corporations Act) imposes restrictions on a company providing financial assistance for the acquisition of its, or its holding companies', shares. Financial assistance includes not only the granting of security, but also the provision of guarantees and indemnities (among other things). While a transaction that breaches this restriction is not invalid, any person involved in the contravention of this provision may be found guilty of a civil offence and subject to civil penalties. This liability can be criminal where a person is dishonestly involved in a breach. This liability (both civil and criminal) can theoretically extend to the lenders.
The general prohibition on the provision of financial assistance is subject to certain exceptions. The most commonly utilised exception is the exception set out in Section 260A(1)(b) of the Corporations Act (colloquially known as the 'whitewash' process), which enables the shareholders of the company to approve the proposed financial assistance. Given that an acquisition financing will invariably involve the grant of target security, the financial assistance rules are particularly relevant to this form of financing. For this reason, security over Australian target entities is generally granted within an agreed period post-closing (typically no less than 30 days) following the completion of 'whitewash'. That said, this restriction does not impact the grant of security by any Australian incorporated special purpose holding company, or any offshore parent over its shares in an Australian-domiciled entity, which can be provided in a more timely fashion.
Under Australian law, directors owe a number of duties to the companies to which they have been appointed. These duties are enshrined in the Corporations Act, as well as arising under general law, and include a fiduciary duty to act in good faith in the best interests of the company. In a secured lending context, these duties often come under scrutiny in circumstances where a subsidiary is asked to guarantee the debts of its parent or sister companies within the same corporate group. Where the party obtaining the benefit of a guarantee or security knows or ought to know that the directors have not acted in the best interests of the company in providing such credit support, the guarantee or security will be voidable against that party. For wholly owned subsidiaries that are considering guaranteeing the debt obligations of their parent, the above duties are often viewed in light of Section 187 of the Corporations Act, which enables a wholly owned subsidiary to adopt a provision in its constitution enabling it to act in the best interests of its holding company (and in so doing, will be deemed to be acting in the best interests of the company itself). Where Section 187 of the Corporations Act is not available, care should be exercised to ensure that the corporate security provider derives some benefit from granting the guarantee or security and that granting the guarantee or security is in the best interests of the corporate security provider.
A guarantee or security could be set aside by a court if that court finds that the directors of the security provider have breached their duties and the lender was aware of that breach.
'Administration risk' describes the risk for a secured party that its security becomes subject to a moratorium if an administrator is appointed to a corporate security provider (which the directors of that entity are likely to do if the company is or is likely to become insolvent). Subject to the consent of the administrator or court order, a secured party is not entitled to enforce its security during the moratorium. This will be the case unless one of the exceptions apply, with the key exception being where the secured party has taken security over all, or substantially all, of the company's assets and the secured party has enforced its security interest within the 'decision period'. The 'decision period' runs for 13 business days from the date the secured party was given notice of the appointment of an administrator or the date that the administration begins.
Due to the above, a secured party who holds perfected security over only certain assets (and those assets alone do not comprise all, or substantially all, of the company's assets) then that secured party will not be able to enforce its security during the moratorium. To address this risk where the primary collateral is limited to specific assets, a 'featherweight' security interest may be taken over all of the grantor's assets (other than the principal secured property) that secures a nominal sum.
Mortgage duty is no longer payable in any Australian jurisdiction. Further, while ad valorem duty is generally not payable on financing transactions, nominal duty will be payable on a finance document that contains a provision which effects or evidences a declaration of trust over non-dutiable property, and that document has been executed by any party in New South Wales or Victoria.
iii Australian insolvency regime and its impact on the grant of security
The Australian insolvency regime is codified in the Corporations Act and its associated regulations, and contains a number of provisions that can potentially affect the rights of a creditor of an Australian entity.
Under Australian law, transactions will only be vulnerable to challenge when a company does, in fact, enter into liquidation. Division 2 of Part 5.7B of the Corporations Act provides that a liquidator can bring an application to the court to declare certain transactions void. While an administrator is required, in its statutory report to creditors, to identify potential voidable transactions that may be recoverable by liquidator (if appointed), the administrator does not have standing to challenge these transactions.
There are several types of transactions that can be found to be voidable:
- unreasonable director-related transactions;
- unfair preferences;
- uncommercial transactions;
- transactions entered into to defeat, delay or interfere with the rights of any or all creditors on a winding up (being 'creditor-defeating' dispositions of property often associated with illegal 'phoenixing' activity); and
- unfair loans.
Transactions in categories (b), (c) and (d) will only be voidable where they are also found to be 'insolvent transactions'; that is, transactions that occurred while the company was insolvent under Australian law, or contributed to the company becoming insolvent.
Each type of voidable transaction has different criteria and must have occurred during certain time periods prior to administration or liquidation. The relevant time periods are generally longer if the transaction involves a related party.
An unfair preference arises in circumstances where an unsecured creditor receives an amount greater than would have been received if the creditor had been required to prove for it in the winding-up of the relevant company, whereas transactions have been held to be 'uncommercial' where an objective bystander in the company's circumstances would not have entered into it.
In addition, the court has the power to determine a loan to be 'unfair' (and, therefore, voidable) if the terms of the loan (specifically the interest and charges) could not be considered to be commercially reasonable (i.e., they are 'extortionate'). In practice, this provision has been seldom used, and the courts in Australia are reluctant to intervene unless the commercial terms greatly deviate from typical market terms (taking into account the financial situation of the company).
Upon the finding of a voidable transaction, a court may make a number of orders, including orders directing a person to transfer the property that was the subject of the impugned transaction back to the company in liquidation and orders directing a person to pay to the company in liquidation an amount that fairly represents the benefit received under the impugned transaction.
iv Ispo facto stay provisions
With effect from 1 July 2018, provisions were inserted into the Corporations Act giving effect to an automatic stay on the enforcement of ipso facto clauses9 in certain contracts entered into on or after that date.
The automatic stay will apply where one of the following insolvency events occurs in relation to a company:
- voluntary administration;
- a receiver or controller is appointed over the whole or substantially the whole of the company's assets;
- the company announces, applies for or becomes subject to a scheme of arrangement to avoid a winding up; or
- the appointment of a liquidator immediately following an administration or a scheme of arrangement.
The automatic stay will not apply retrospectively (i.e., for agreements entered into prior to the new provisions coming into force). Relevantly, the automatic stay does not apply to other types of contractual defaults – for example, if the company has failed to meet its payment or other performance obligations under the relevant agreement.
The length of the automatic stay depends on which formal insolvency process applies to the company as follows (subject to a court order extending the stay):
- scheme of arrangement: the stay will end within three months of the announcement, or where an application is made within that three months, when the application is withdrawn or dismissed by the court or when the scheme ends or the company is wound up;
- receivership or managing controllership: the stay will end when the receiver's or managing controller's control ends; and
- voluntary administration: the stay will end on the later of when the administration ends or the company is wound up.10
Importantly, the automatic stay does not apply once, or if, a company executes a deed of company arrangement (DOCA). The automatic stay ends when the 'administration ends', that is when a DOCA is executed by the company and the deed administrator. Accordingly, if a company does execute a DOCA and needs the protection of the automatic stay, then subject to limited exceptions, it will need to obtain court orders.
The scope of the automatic stay, specifically what contract types, rights and self-executing provisions are excluded by the automatic stay are set out in the legislation.11 Relevantly, syndicated loans (and derivatives) are excluded from the operation of the automatic stay, and rights under those contracts will remain available to the parties should a trigger event occur. Accordingly, the impact of these changes on acquisition financings (which contemplate a customary security package) is likely to be minimal.
By contract, bilateral facility agreements are not excluded under the relevant legislation and as such the automatic stay provisions will apply to agreements entered into after 1 July 2018. The APLMA (Asia Pacific Loan Market Association) has issued a recommended rider clause for lenders to include in bilateral facility agreements to assist a lender in accelerating the loan as against a guarantor of that facility where the borrower is subject to a relevant insolvency process. It is important to note that this right to accelerate the loan as against the guarantor will not operate where the guarantor itself is also the subject of a relevant insolvency process under the Corporations Act.
In addition, the automatic stay does not prevent secured creditors from appointing a receiver during the decision period pursuant to Section 441A of the Corporations Act (if they have security over the whole or substantially the whole of the company's property) or enforcing security interests over perishable goods or prevent secured creditors or receivers from continuing enforcement action that commenced before the administration.
As the automatic stay provisions only came into operation from 1 July 2018 (and the provisions only apply to certain contracts entered into after that date), there has not yet been any judicial consideration of these provisions.
Priority of claims
i Priority of claims on insolvency
Generally, unsecured claims in Australia will rank equally on a pari passu basis. Section 555 of the Corporations Act provides that, unless the Corporations Act provides otherwise, all debts and claims in a winding-up rank equally, and if the property of the company is insufficient to meet them in full, these claims will be paid proportionately.
There are a number of exceptions to this general proposition (see Section 556 of the Corporations Act), including: (1) expenses properly incurred by a liquidator or administrator in preserving or realising property of the company, or in carrying on the company's business (as well as other costs and amounts owed to them); and (2) employee entitlements.
Sitting outside this regime are secured creditors, who will have priority over unsecured creditors. The security granted in their favour will entitle them to priority for payment of amounts outstanding from the proceeds and realisations of assets subject to such security interests. There is one exception to this, which is that employee entitlements have a statutory priority to the proceeds of assets subject to a circulating security interest (formerly, a floating charge) on realisation by a receiver or liquidator to the extent that the property of the company is insufficient to meet these amounts.
ii Subordination and the enforceability of intercreditor arrangements
Contractual subordination is a well-accepted tenet of secured lending in Australia; accordingly, intercreditor arrangements are commonly used in Australia to contractually clarify the relationship between two or more classes of creditor (including shareholder lenders and hedging counterparties).
Structural subordination is, however, less common (with a notable exception for holdco payment-in-kind instruments, which have been gaining popularity in recent times). Accordingly, second-lien structures are able to be accommodated relatively easily from a local perspective, where contractual subordination is typically documented via an offshore law-governed intercreditor arrangement.
Unlike that contained in the Loan Market Association suite of documents, there is currently no market standard intercreditor in Australia. A set of intercreditor principles (primarily applicable to leveraged transactions) has been circulated within the market, although they have not been universally adopted. Accordingly, a number of the provisions that these principles attempted to standardise (e.g., drag rights, standstill periods, mezzanine information rights and release provisions) remain hotly contested.
i Consent to jurisdiction
Australian courts will generally respect the submission of an Australian entity to the courts of another jurisdiction, provided the choice of jurisdiction was not entirely unconnected with the commercial realities of the proposed transaction (and that there are no public policy reasons to deny such a submission).
ii Enforceability of foreign judgments
In Australia, the enforcement of civil judgments obtained in foreign courts is generally covered by two regimes. The first is under the Foreign Judgments Act 1991 (Cth) (FJA), which applies to certain specified courts in prescribed jurisdictions. Where the relevant court is not prescribed by the FJA, the enforceability of the relevant judgment will be dealt with by common law principles.
The FJA provides a framework, based on registration, for civil judgments made in prescribed foreign courts to be enforceable in Australia. This regime applies to judgments made by certain courts in prescribed jurisdictions, for example, certain Swiss, French, Italian, German and UK courts. Under the FJA, a judgment creditor of a relevant foreign judgment may apply to an Australian court for that judgment to be registered any time within six years of the last judgment in the foreign court. The judgment may be registered if it is final and conclusive for a fixed sum of money (not being in respect of taxes, a fine or other penalty), and is enforceable by execution in the relevant foreign country. Registration gives the judgment the same force and effect as if the judgment originally had been given in the Australian registering court (subject to certain exceptions). Special rules are also applicable to the enforceability of New Zealand judgments. The registration may be set aside if the foreign court did not have the necessary jurisdiction over the judgment debtor, either because the judgment debtor did not reside or carry on business in the jurisdiction when the proceedings were brought or did not otherwise submit to the jurisdiction of the court.
However, in certain jurisdictions (such as the United States) where Australia does not have the benefit of a treaty that provides for the reciprocal recognition and enforcement of judgments in civil matters, there is no statutory recognition or statutory enforcement in Australia of any judgment obtained in a court in such a jurisdiction. Instead, a judgment made by a court of the relevant jurisdiction can only be enforced in Australia under the common law regime.
Under that regime, any final, conclusive and unsatisfied judgment of the relevant court that has the necessary jurisdiction over the judgment debtor that is in personam (that is, it imposes a personal obligation on the defendant) and is for a definite sum of money (not being a sum in respect of taxes or other charges of a like nature or in respect of a fine or other penalty) will be enforceable by the judgment creditor against the judgment debtor by action in the Australian courts (without re-examination of the merits of the issues determined by the proceedings in the relevant court). There are some exceptions, including where the proceedings involved a denial of the principles of natural justice, or the judgment was obtained by fraud or some other vitiating factor.
In seeking to enforce a foreign judgment under either regime, a practical difficulty often encountered if the foreign proceeding was not defended is proving that the foreign court has the necessary jurisdiction over the judgment debtor. Where the debtor is a corporation, the applicant will need to show that the debtor carried on business within the jurisdiction of the foreign court, either by maintaining a branch office or by employing an agent with the authority to bind the company and to conduct business there on its behalf.
In respect of recognition of foreign insolvency judgments, Australia has enacted the UNCITRAL Model Law on Cross-Border Insolvency in the Cross-Border Insolvency Act 2008 (Cth). Australian courts recognise the jurisdiction of the relevant foreign court in which the 'centre of main interest' is located and generally cooperate with foreign courts and insolvency practitioners.
Acquisitions of public companies
The Corporations Act limits the manner in which a person can acquire voting securities in a listed Australian company or managed investment scheme, or an unlisted Australian company or managed investment scheme with more than 50 members, where this would cause that person's (or someone else's) voting power in the relevant entity to increase above 20 per cent or to increase (by any amount) from a starting point between 20 per cent and 90 per cent. There are two principal methods of acquiring control of an Australian publicly listed company or managed investment scheme: takeover bids or schemes of arrangement.12
While there is no strict legal requirement for 'certain funds' financing, from a practical perspective, and owing to the increasing sophistication of both borrowers and lenders, financiers' commitments to fund are often provided on this basis (and indeed, this is desirable from an acquirer's perspective).
i Takeover bids
Chapter 6 of the Corporations Act provides the framework for takeover bids under Australian law. A takeover bid can be made on-market or off-market, and does not require the support of the target (i.e., a bid can be made on a 'hostile' or 'friendly' basis). For both on-market and off-market bids, a bidder must prepare and send to the target security holders a document (known as a 'bidder's statement') that includes details of the offer, information about the bidder and certain other prescribed information (e.g., in relation to the bidder's intentions). The target must respond by preparing and issuing a 'target's statement' including the target board's recommendation as to whether security holders should accept the offer, as well as any other material information.
An on-market bid is made through a broker and can only be used to acquire securities in a listed entity. On-market bids are far less common than off-market bids because they require the consideration to be 100 per cent cash and, importantly, cannot be subject to any conditions. Accordingly, it will often be the case that an on-market bid is not a viable option, for example, because the bidder requires regulatory approvals or other conditionality, or because the bidder's financing arrangements require security to be taken over the target's assets (which can only be assured in a 100 per cent ownership scenario).
An off-market bid essentially takes the form of a written offer to security holders to purchase all or a specified proportion of their securities. The consideration can take the form of cash, securities or a combination of the two. The offer must be open for acceptance for a period of not less than one month and not more than 12 months. All offers made under an off-market bid must be the same.
An off-market bid may be subject to any conditions the bidder chooses, other than conditions that are solely within the control of the bidder (or turn on the bidder's state of mind) and certain other prohibited conditions.
Typical conditions include those relating to the non-occurrence of certain statutorily prescribed events (including certain insolvency type events), the non-occurrence of a material adverse effect, the obtaining of any necessary regulatory approvals, the absence of any legal restraints or prohibitions to the acquisition completing, and the receipt of a minimum number of acceptances (usually 50 or 90 per cent, the latter corresponding to the threshold for the compulsory acquisition (or 'squeeze-out') of minorities).
Unlike the position in the United Kingdom, there is no legal requirement in Australia for 'certain funds' financing. However, the Corporations Act does prohibit persons from making an offer if they are unable, or are reckless as to whether they are able, to complete the offer. The Australian Takeovers Panel has separately indicated that it expects that where the bid is debt-funded, a bidder would have binding commitments from its lenders at the time of announcing its offer and would not declare its bid unconditional unless it is highly confident that it can draw down on these facilities (i.e., binding funding arrangements are documented in final form and commercially significant conditions precedent to draw down have been satisfied or there is no material risk such conditions precedent will not be satisfied).13
ii Schemes of arrangement
A scheme of arrangement is a court-approved arrangement entered into between a body (i.e., the target) and all, or a class, of its members. For a scheme to become binding on the target and its members (or the relevant class thereof), it must be approved by more than 50 per cent of members who vote on the scheme and those members must represent at least 75 per cent of the votes cast on the scheme. If these thresholds are met, the scheme is binding on all members (or all members in the relevant class), including those who vote against the scheme or do not vote at all. The test for identifying classes for the purposes of a scheme is that a class should include those persons whose rights are not so dissimilar as to make it impossible for them to consult together with a view to a 'common interest'. However, the decision in In the matter of Boart Longyear Limited (No. 2)  NSWSC 1105, suggests that courts may be willing to stretch the boundaries of what would ordinarily be considered to be the composition of a class and, in doing so, may agree to put persons in the same class even where such persons appear to have objectively distinct interests.14
The typical operation of a scheme in the context of a control transaction is for the scheme to effect the transfer of target securities to the offeror in exchange for a specified consideration.
A scheme of arrangement is essentially a target-driven process, with the target preparing the necessary security holder materials and seeking the necessary orders from the court. As such, a scheme requires the support of the target's directors and therefore is only a viable option in 'friendly' transactions.
There is no statutory requirement for 'certain funds'; however, as part of the court process, the offeror will be required to satisfy the court that it has sufficient funds to pay the scheme consideration and consummate the transaction. On a practical level, and in addition to giving the target's board comfort as to their ability to execute the transaction, this often results in offerors seeking certain funds funding from their financiers.
The consideration under a scheme can be structured such that security holders receive cash, securities or a combination of the two. There is more flexibility under a scheme with respect to the structure of the consideration as, unlike in a takeover bid, it is not necessary for all offers under a scheme to be the same, more easily facilitating differential treatment of security holders. Schemes can also be used to implement corporate restructures, demergers and debt-for-equity transactions. Specific to creditors' schemes of arrangement, on 3 May 2021, the Federal Government announced that it would consult with industry on improving creditors' schemes of arrangement to better support businesses, including by introducing a moratorium on creditor enforcement while schemes are being negotiated. The consultation aims to assess whether the current creditor scheme of arrangement process is useful as a means of restructuring insolvent companies. In its current form, the schemes of arrangement are typically used in relation to complex restructurings of large corporate groups, involve a high level of court involvement and, unlike other insolvency processes (such as voluntary administration), there is no automatic moratorium to prevent creditors from bringing claims against the company during the negotiation and formation of the scheme. The consultation also seeks input on the efficacy of the current scheme of arrangement framework generally. Submissions are due by 10 September 2021.
As with 'off-market' bids, schemes can be subject to conditions, and it is common to see schemes being subject to the receipt of any necessary regulatory approvals, together with the non-occurrence of any material adverse effect with regards to the target. In addition, there are standard conditions relating to the necessary shareholder and court approvals.
The year in review
See the first paragraph of Section I.i.
While Australia has remained relatively isolated from the global pandemic, it has not been able to do so without the adverse impacts associated with trying to stave off the pandemic and certainly the Australian economy is not immune to the effects of the global covid-19 pandemic and the post-covid aftermath. Political and regulatory responses from the state and federal governments have aimed to create market certainty with various budgetary and stimulus policies. With the resurgence of the virus, these political and regulatory responses will again come into the foreground when considering market confidence in the Australian proposition.
As evident from current approach to policy, policymakers are expected to take active measures to ensure an easing of effects of the pandemic, and drive growth in Australia. The Reserve Bank of Australia has established monetary stimulus policy with lowered cash rate. It is hoped that the record low interest rate will encourage companies and bidders to make use of the available cheaper debt to fuel expansion with a positive impact on M&A activity and growth, and an increase in debt facility requirements.
Notably, Australian regulators remain reinvigorated to consider and scrutinise transactions more closely following the findings and learnings from the Royal Commission into Misconduct in the Banking, Superannuation and Financial Services Industry. In addition, the recent changes to the foreign investments regime in Australia mean that the Treasurer will place increased scrutiny on certain sectors and transactions that pose a national security concern.
ESG considerations are expected to become an even more common feature in M&A activity as various stakeholders demand that companies operate in a sustainable way. These stakeholder demands have materialised in multiple ways, including, for instance, incoming ESG-focused investors and investment funds seeking out suitable investments for their capital, and this is also true for the debt finance market where financiers are prepared to offer financing with better pricing to borrowers that agree to ESG-related covenants. In juxtaposition to these sustainable outcomes, it is also expected that ESG considerations will drive M&A activity where incumbent shareholders apply pressure on companies to divest dirty assets that would have otherwise been tightly held, but have now become available on the market.
We anticipate that the forces that will shape the next 12 months will be political and regulatory responses to the pandemic and its resurgence through different variants. M&A-related activity will be driven by a search for stability. Market sentiment towards Australia remains optimistic as dealmakers recognise that while the current uncertainty is a short-term obstacle, Australia has attractive features (including legal certainty, political stability, a relative low risk compared to regional markets and dynamic industries) that remain intact even during the current pandemic.
1 John Schembri and David Kirkland are partners at Gilbert + Tobin. The authors would like to thank Alex Kauye, Peter Bowden, Anna Ryan, Mark Nichol, Venthan Brabaakaran, Deborah Johns, Julien Cheng, Matthew Watkins, Alina Sedmak and Hanh Chau for their assistance with the preparation of this chapter.
2 Source: Refinitiv, 'Global Syndicated Loans Review – First Half 2021.
3 Source: Refinitiv, 'Global Syndicated Loans Review – First Half 2021.
4 Source: Refinitiv, 'Global Syndicated Loans Review – Full Year 2020.
5 Source: Debtwire, Asia Pacific (ex-Japan) Loans League Table Report 1H 2021.
6 Source: Pitcher Partners, 'Dealmakers: Mid-Market M&A in Australia 2021'.
7 Source: Debtwire Par – 'APAC Chart of the Week: Traditional bank loans outpace unitranches/TLBs in PE-linked Aussie, NZ LBOs in 2020' Jason Huang Jones, 26 January 2021.
8 Source: Debtwire Par – 'APAC Chart of the Weel: APAC (ex-Japan) TLB volumes hit new high in 2021 helped by Grab, OYO' Jason Huang Jones, 20 July 2021.
9 An ipso facto clause is a contractual clause that allows one party to enforce a contractual right, or terminate a contract, upon the occurrence of a particular event; usually upon insolvency or a formal insolvency appointment (for example, the appointment of a voluntary administrator).
10 See Sections 415D(2)–(3), 434J(2)–(3) and 451E(2)–(3) of the Corporations Act 2001 (Cth).
11 These are contained in the Corporations (Stay on Enforcing Certain Rights) Regulations 2018 (the Regulations) and the Corporations (Stay on Enforcing Certain Rights) Declaration 2018 (the Declaration). The Regulations prescribe 42 types of contracts, agreements or arrangements that are excluded from the operation of the automatic stay, and rights in those kinds of arrangements remain available to the parties to those arrangements should a trigger event occur. Among the agreement types listed under the Regulations are, but are not limited to: (1) contracts, agreements or arrangements that are a licence or permit issued by federal, state or local government; (2) contracts, agreements or arrangements that are or are directly connected with derivatives and securities financing transactions; (3) contracts, agreements or arrangements for the underwriting of an issue or sale of, or under which a party is or may be liable to subscribe for securities, financial products, bonds, promissory notes or syndicated loans; and (4) contracts, agreement or arrangements that are or govern securities, financial products, bonds, promissory notes or syndicated loans. The Declaration declares 11 kinds of rights (including selfexecuting clauses that, when executed, provide those rights) as excluded from the operation of the automatic stay, and those rights remain available to the parties should a trigger event occur. By way of illustration only, the kinds of rights excluded by the Declaration include, but are not limited to a right: (1) to terminate under a standstill or forbearance arrangement; (2) to change the priority in which amounts are to be paid under a contract, agreement or arrangement; and (3) of set off, combination of accounts or to net balances or other amounts.
12 The authors also note that pursuant to Section 444GA of the Corporations Act, a deed administrator may transfer shares in a company that is subject to a DOCA, with leave of the court. Such leave will only be granted if the court is satisfied that the transfer would not unfairly prejudice the interests of members of the company. Section 444GA operates in parallel to all other prohibitions set out in the Corporations Act, such that if the acquisition of shares in the company that is subject to a DOCA will result in a person or their associate acquiring more than a 20 per cent interest in the company, an exemption granted by the Australian Securities and Investments Commission must be sought.
13 Australian Takeovers Panel 'Guidance Note 14 – Funding arrangements'.
14 See In the matter of Boart Longyear Limited (No. 2)  NSWSC 1105 and First Pacific Advisors LLC v. Boart Longyear Ltd  NSWCA 116.