Why 'ipso facto' reforms have become essential knowledge for legal professionals

Some significant change has happened concerning the use of “ipso facto” clauses in Australia and legal professionals must pay attention, David Walter says. In fact, the Baker McKenzie partner deems the changes to be essential knowledge for lawyers.

Walter, who’s speaking in this year’s Contract Law Masterclass in Sydney, says that using “ipso facto” clauses enables a party to terminate a contract simply because the other party is insolvent, such as when the other party has entered into administration or receivership. Termination can be done without the need to establish a substantive breach or anticipatory breach or repudiation, he says.

“Reliance on these terms to terminate contracts destroys enterprise value in a formal insolvency process,” he says. “A company’s valuable contracts can be lost or heavily renegotiated, or duress payments are required in order to avoid a termination, placing pressure on already constrained cash.”

These issues have generated pushback on the increasing use of ipso facto clauses in formal insolvency in Australia, he says. Restrictions by way of a moratorium on using the clauses have been put in place, but not without exceptions.

“The reforms came into effect during 2018, with reference to new contracts made since commencement of the reforms. Those reforms – and the transitional arrangements for phasing in the reforms – are essential knowledge for legal professionals advising both troubled companies and also solvent parties dealing with distressed contract counter-parties,” Walter says.

So what are the challenges faced by lawyers when it comes to the use of these clauses?

“Fundamentally, lawyers advising on these clauses need to know whether or not the new moratorium applies to the contract in question  – that will be significant to the commercial position of their client in responding to a counterparty’s insolvency,” he says. “Three key issues present themselves: Is the kind of insolvency procedure in play one that attracts the moratorium? If so, do the transitional arrangements for phasing in the recent reforms mean that the stay or moratorium might apply to this contract? If so, because of the type of agreement or clause in question, do any of the exceptions to the moratorium apply?”

He advises fellow lawyers to not terminate immediately even if they can rely on the insolvency termination right.

“It is typically better to simply reserve your client’s rights to terminate and to then look at continuing the commercial relationship with the insolvent counterparty – the insolvency might present an opportunity,” he says.

Walter says that it’s important for legal professionals to attend events such as the Contract Law Masterclass because of the speed at which the legal market moves.

“In an increasingly competitive legal market, there is one thing that clients will always want – excellence. Staying on top of current developments is key to delivering that excellence – these events deliver that knowledge very effectively,” he says.

To be held at the Westin Sydney on 28 February, the masterclass features a full schedule. Book a seat now or obtain a Team Pass, which guarantees four seats for the price of one. Legal practitioners can claim up to 6 CPD points by attending.

David Walter