Rethinking corporate bankruptcy frameworks in response to COVID-19

COVID-19 RESOURCE HUB | Financier Worldwide

BANKRUPTCY & RESTRUCTURING

As COVID-19 spread across the world, governments announced financial measures to support individuals and companies through the crisis. These include changes to existing bankruptcy laws in some jurisdictions to help companies stay afloat.

In the US, the Coronavirus Aid, Relief and Economic Security (CARES) Act was signed into law in late March. The Act provides a $2 trillion economic stimulus package to support US businesses and individuals. The CARES Act includes revisions to certain provisions of the US Bankruptcy Code to provide better and more effective bankruptcy relief to small businesses and individuals.

In the UK, new bankruptcy rules allow companies undergoing restructuring to continue to access supplies and raw materials. Companies have also been granted access to a scheme which will allow them to claim back a percentage of furloughed workers’ salaries, in the hope of curbing redundancies and staving off insolvency.

In March, Germany’s parliament passed a bill “to mitigate the consequences of the COVID-19 pandemic in civil, bankruptcy and criminal procedure law”. The bill includes a temporary suspension of both the debtor’s statutory obligation to file for insolvency and the creditor’s right to request the opening of insolvency proceedings for insolvency reasons that occurred after 1 March 2020.

In Australia, the Coronavirus Economic Response Package Omnibus Act No. 22, 2020 will provide a safety net for businesses, allowing them to continue to operate during a temporary period of illiquidity, rather than enter voluntary administration or liquidation. For individuals, assistance will be provided which will allow them to manage debt and avoid personal bankruptcy where possible.

Though governments are taking important steps to protect businesses and individuals, the outbreak and the length of the lockdown measures required to stop the spread of the virus will continue to have a catastrophic impact on most industries.

Despite the measures implemented thus far, companies have already collapsed since the outbreak began. The UK’s Flybe is one of the most high-profile to fold, entering administration relatively early in the crisis. It is unlikely to be the last airline bankrupted by the crisis.

Indeed, the tourism, leisure and aviation industries are set to be among the worst affected. For airlines, cash reserves are running down quickly with fleet grounded and flights that do go ahead operating well below capacity, often less than half full. While certain airlines are pushing for government bailouts, to date there has been no coordinated effort to shore up the industry’s finances.

The retail industry has also seen a raft of companies file for bankruptcy or enter administration.

The longer the crisis continues, the more companies will fail and the more the economy will contract. According to Goldman Sachs, the US economy will shrink an annualised 34 percent in the second quarter of 2020.

Default rates are expected to soar. Based on assumptions of a two to three month lockdown in key economies, with a five to six week period of peak movement restrictions, Fitch Ratings has revised its baseline and downside scenarios for corporate defaults in the US and Europe in 2021-2022 to a range of 12-15 percent and 17-25 percent, respectively. 2019 ended with a 3.1 percent default rate.

Though initiatives have been introduced to support individuals and businesses, widespread distress will be unavoidable. A plethora of bankruptcies will result from the COVID-19 lockdown measures.

Questions are being asked about the suitability of existing corporate bankruptcy frameworks and procedures in the post-coronavirus economy. Will there be further, lasting, fundamental changes? Only time will tell.

Richard Summerfield