I’m currently working on my submission for the Productivity Commission’s inquiry into reducing barriers to business dynamism and I’ve been speaking to a range of practitioners, industry groups and government agencies. One of the terms of reference (1(b)) is to investigate and evaluate ‘the design, operation and integrity of corporate and personal insolvency frameworks’, including the experience of small business in insolvency and whether insolvency law ‘supports the efficient allocation of resources across the economy in a manner that preserves system integrity and deters corporate misconduct’.  

I’ve spent most of my academic career evaluating particular insolvency laws, often comparing Australian law to other jurisdictions, looking for reform ideas to help improve our laws and produce better outcomes for stakeholders in insolvency. My PhD thesis (completed in 2022) was focussed on how we can improve restructuring in voluntary administration. The interviews and surveys I did during my thesis work suggested something about small business insolvency that changed the way I see the role and value of insolvency law. Insolvency isn’t the disease, it’s the symptom. To borrow from Warren Buffett, when the tide goes out (financial distress strikes), you see who’s been swimming naked (which businesses have poor cost control, a lack of accurate and timely information flows and inadequate systems to promote business health). 

We spend a significant amount of time and resources in Australia debating the mechanics of the insolvency legislation and regulatory approaches, often looking for efficiency tweaks, but we’re ignoring the top of the funnel.

We are placing more ambulances at the bottom of the cliff, when we need better road rules and guardrails to limit drivers going off the road in the first place.

Not every business can (or should) succeed in a capitalist economy. We need to recycle capital to spur on new business development, not just keep businesses on life support to ‘preserve jobs’. Many small businesses are insolvent on day one and never reach solvency, let alone profitability. Many ‘businesses’ are nothing more than providing a job for their owners, and often fail to provide even a liveable wage, with owners plowing in their savings and remortgaging their homes into a failing business. AFSA’s State of the Personal Insolvency System for FY24-25 notes that:

Business-related personal insolvencies accounted for 28.8% of new cases but represented 78.8% of new liabilities, highlighting the disproportionate impact of distress among sole traders and small business operators.

SME directors and other business managers (for unincorporated businesses) are navigating the complexities of financial distress with a lack of relevant information. Formal advice is seen as too expensive or too complex. This drives SME owners toward “Dr. Google”, untested AI tools, or unregulated pre-insolvency advisors pushing questionable practicies (such as 80% discounts on tax). My PhD empirical data showed many SMEs rely on their tax advisors for solvency and business strategic advice, because they don’t want (or simply can’t afford) to pay for multiple advisors.

If we want to improve business dynamism, we need to fix financial literacy and education for business owners and managers (including of course directors), well before distress hits. An ounce of prevention is worth a pound of cure. 

Should we be looking at a unified, single Insolvency Act and a single regulator? Yes, but rewriting the law won’t help a manager or director who doesn’t understand business fundamentals. The threat of insolvent trading liability isn’t driving behavior when you don’t know whether your costs are sustainable or not. Business rescue laws are targetted only to incorporated businesses, when a large number of SMEs are partnerships, trusts or sole-traders.  

Are we expecting too much from legislative tweaks when the real barrier is basic financial literacy? We need a better alternative than just asking AI or googling for answers. 

Providing a financial viability voucher and a register of trusted advisors, in partnership with industry groups and professional advisors, could help businesses seek advice on the health of their business before crisis hits. We need a GP for business health, not just an undertaker when the business dies.