Stimulus may not stop avalanche of insolvencies

Australia faces an avalanche of insolvencies if small businesses simply defer rent, utilities and financing obligations and hibernate due to the impacts of COVID-19, with federal government stimulus packages announced to date not robust enough to save thousands of SMEs across the country.

That’s the call from one of Australia’s leading voluntary insolvency specialists, which has issued a blunt warning that businesses face an uphill fight if and when they open their doors again.

Much of the federal government’s COVID-19 stimulus has been designed to allow businesses to hibernate, with payment packages available to retain employees and maintain cash flow while firms deal with severely reduced or stalled revenue streams.

Australia’s big four banks have also offered assistance to firms affected by COVID-19, with businesses able to defer principal payments of commercial financing facilities as they work through the crisis.

However, a partner at national insolvencies group Jirsch Sutherland, which trades in Western Australia as WA Insolvency Solutions, warned that debt deferment without a comprehensive exit or recovery strategy would be fatal for many businesses.

The warning comes as concerns continue to mount that eligibility criteria for the federal government's JobKeeper wage subsidies may be too restrictive to assist many companies dealing with plunging revenue projections as the COVID-19 crisis escalates.

Jirsch Sutherland partner Sule Arnautovic said he expected insolvencies for the period from April 1 2020 to March 31 2021 to be at least double the circa-12,000 company failures experienced in 2018-19.

Mr Arnautovic urged businesses to consider their capacity to deal with much higher operating costs in a depressed post-COVID-19 economy before deciding whether to put off their rent and debt obligations.

“The federal government’s debt deferral strategy means that in, say, six months’ time there will be a proliferation of SME businesses getting into dire financial straits,” Mr Arnautovic said.

“Imagine having to pay six months of rent, utilities and financing costs, as a lump sum, before you can open your doors.  

“That’s what some businesses will be facing when we move from the crisis to a recovery environment.” 

He said business owners must consider that they might just be postponing the inevitable by deferring debts, particularly those experiencing financial stress prior to the novel coronavirus pandemic.

“If companies were struggling and having issues before the full effect of COVID-19 shutdowns and stimulus packages, I don’t think the stimulus should have been aimed at those sorts of parties,” Mr Arnautovic said.

“Essentially they are just taking more off the table than they should be. It should really be going to those businesses that have a sliver of hope of surviving this and getting to the other side.

“One of the lessons from the GFC is there will be a lot of businesses out there that will be eligible for the stimulus, but they’ve actually got no productive contribution to give to Australia. 

“I’m in favour generally with what the government has done because this is unprecedented and people need a hand, but what I’m suggesting is to take the stimulus support, pause, get some advice and determine if you can survive this and develop a recovery plan B.”

Mr Arnautovic said one of the critical issues for businesses coming out of the COVID-19 crisis would be the fact that they represented customers for many other companies.

“If those businesses start going broke and there are liquidations everywhere, you’re going to get contagion into the good businesses,” he said.

“For a lot of SMEs, the question will be how are they going to extend credit to people in six months’ time? 

“Are they going to fund someone else’s cash flow? The government has already given people six months' deferral in a lot of situations to pay debt, so when things improve in six months, are they going to be in a position to fund other people’s working capital by giving them trade terms?

“I suspect not, I believe there will likely be a lot of cash-on-delivery-type behaviour, and that’s going to cause a lot of pain.”

Mr Arnautovic said a range of measures was available to help businesses ride out the crisis or restart when it was over, including restructuring operations, creating a creditor’s trust to accelerate any exit from external administration, mergers or consolidations, implementing holding or hibernation Deeds of Company Arrangements or to liquidate now to minimise losses and facilitate a restart post-crisis.

“Assuming they can see a way out or a potential way out, they have to refine their business model, capital finance is going to be really hard at the back end of this,” he said.

“The concept of being a small or medium business and going to a bank in six months' time and having a generous overdraft and working capital facilities is going to be difficult. 

“There is going to be a real credit squeeze going on. People are going to be forced into second-tier lending arrangements, and those have their own risks.”