This week’s announcement by Minister Robert Troy that the Government is set to put in place a long-promised process to allow troubled SMEs to restructure will be welcomed by many Irish companies. That they are to be put in place before the summer recess is especially heartening for the small and micro companies that comprise 98pc of Irish firms.

The need for this legislation was highlighted by the Company Law Review Group (CLRG) in 2012, and every government since has promised to deal with the issue. Unfortunately, the process as announced will not work for most troubled companies or their creditors.

Until now, the only widely used debt-restructuring option for companies was examinership. The CLRG said in 2012 that the examinership process was inadequate because the associated costs are prohibitive for small companies. In the same report, the CLRG recommended that an alternative to traditional examinership, involving non-judicial administrative procedures, be introduced for small companies.

Last October, a sub-committee of the CLRG, which included representatives of Government departments, the legal and accountancy professions, and business groups, expanded greatly on this theme. Their report proposed a restructuring process for small companies capable of achieving similar outcomes to examinership. In essence, the CLRG proposed a framework within which a troubled company could negotiate a rescue plan with its creditors.

According to Mr Troy, the general scheme of the new legislation will emanate from recommendations made by the CLRG in October 2020 and will mirror key elements of examinership. This is welcome. However, all of the deficiencies in the approach he has taken arise where it departs from mirroring examinership.

In examinership, all creditors are subject to the same rules, and their debts may be written down, notwithstanding their objection, to no less than what they would receive in a liquidation. The minister indicated that the new process would allow “State creditors” to opt out on yet-to-be defined grounds, including a “poor history of tax compliance”.

Given that Vat represents a fifth of most companies’ receipts, and PAYE / PRSI are almost half their payroll bills, it is rare for insolvent companies to have a good history of tax compliance. This provision seems likely to allow Revenue an option to prevent its debt being reduced as part of most rescue plans.

In essence, this means the entire burden of write-downs necessary to make a company viable will have to be borne by non-State creditors. From the perspective of ordinary creditors, who will suffer larger write-downs so that the State can be paid in full. This seems to be entirely unfair.

This provision also makes it more likely that ordinary creditors will suffer larger write-offs so the State can be paid in full. Ordinary creditors may also find their own solvency threatened. It is difficult to understand why this new opt-out – which doesn’t exist in examinership legislation, the process available to larger companies – is only seen as necessary when small businesses are restructured.

One of the most valuable features of examinership is the facility to repudiate onerous contracts, including leases at above-market rents. When faced with the alternative of repudiation, most landlords will agree to reduce rents to market levels.

The absence from the minister’s announcement of any reference to repudiating leases and other onerous contracts, as in examinership, will leave many small retailers and restaurateurs feeling let down. The new process will offer little respite to these businesses if they can’t exit unaffordable leases that are at above-market rents. This problem will only be exacerbated for small firms competing with larger businesses who may reduce their rent through examinership.

The CLRG report says that some members of the sub-committee felt repudiation was “too complex an issue to be dealt with in a simplified process aimed at smaller companies”, whilst others felt that “repudiation should be available where it is necessary to ensure the survival of the company”. It seems glib to suggest that repudiation is too complex for the 98pc of companies for which the new process is designed. However, if repudiation is too complex, the new legislation should simplify the process. The alternative is to preserve a situation where repudiation is reserved for larger businesses, that can use it to gain a competitive advantage over smaller competitors.

In examinership, legal fees comprise most of the costs incurred. Crucially, the minister has confirmed that the new process will not require any applications to court unless a rescue plan is approved but objected to by a creditor within a cooling-off period. In theory, this cuts the cost of restructuring from a minimum of €100,000 to as little as €10,000. Experience suggests that at least one creditor will object to the rescue plan, forcing the company into court and greatly inflating the cost.

Of course, the cost of the application will be borne by the creditors as a body through reduced funds being available to pay their debts. This creates an incentive for creditors whose debts are less than the cost of a court application to use the threat of vexatious objections to secure enhanced payment for themselves over the other creditors. Whilst drafting the legislation, the minister should consider imposing the costs of frivolous or vexatious objections on the creditor making them.

The new process as proposed may be perceived as having solved a long-standing and intransigent problem. In reality, without significant change, the proposed procedures are unlikely to be a viable alternative to liquidation for troubled companies.

Declan de Lacy leads the advisory and restructuring practice at PKF O’Connor, Leddy & Holmes