As we come out of Covid-19 and with Brexit approaching fast, the second half of 2020 looks like being a challenging time for directors of companies already facing liquidity and solvency challenges due to circumstances beyond their control. Zara West, a commercial litigator specialising in tax and insolvency, offers some timely advice for business owners and directors who find themselves in this position.
“Directors of larger corporates should check whether they have directors and officers [D&O] insurance in place and get advice as to what it covers and does not cover,” she says. “D&O insurance is designed to protect directors against claims relating to their actions in the course of managing the company. The second half of the year is going to be choppy for many. Now is the time to check your policy. Don’t put that off. You want to know how much it will cover should a claim be made against you for damages and that it will cover the costs of any legal fees involved so that you do not have to look to your personal finances.”
Directors should beware the zone of insolvency, where there is uncertainty as to the solvency of the company. “If a company is entering the zone of insolvency, directors should take active steps so that they can demonstrate that they acted honestly and responsibly and in accordance with their fiduciary duties,” West points out.
Those include a duty to act in good faith and to exercise the utmost care, skill and diligence. There are a number of ways directors can prove they are fulfilling these duties, including holding regular board meetings, taking financial and legal advice and considering whether the company can avail of any of the Government supports provided as a result of Covid-19.
Two tests
West explains the two tests for insolvency in Ireland: the cash flow test and the balance sheet test.
“A company is insolvent on a cash flow basis if it is unable to pay its debts as they fall due. A company is insolvent on a balance sheet basis if the company’s assets are insufficient to discharge its liabilities. Neither one ranks higher than the other and whether a test comes into play or not is dependent on the circumstances in which a company finds itself.”
The tests can come into sharp focus when restructuring debts, and directors should take external advice to protect themselves. This is of particular importance as fiduciary duties are subject to change, with directors of solvent companies owing them to the company while directors of insolvent companies must also take the interests of creditors into account.
The main risk that a director of an insolvent company faces is restriction.
“This means that a director cannot act as an officer of a company for a mandatory period of five years unless that company meets minimum paid-up capital requirements,” West explains. “Earlier this month, the Office of the Director of Corporate Enforcement (ODCE) issued helpful guidance to directors on matters that it will take into account when considering whether to seek to restrict a director.
‘Comfort’
“While this guidance does not change the law as it currently stands, it provides some comfort to directors that the ODCE will have due regard to the impacts of Covid-19,” she continues. “In summary, it provides that a director is unlikely to be restricted if they can demonstrate that they acted honestly and responsibly, in good faith and that their decisions were based on objectively verifiable evidence.”
The other, less common risks that directors of insolvent companies face are disqualification and personal liability.
“The UK has introduced the Corporate Insolvency and Governance Bill, which includes a temporary suspension of personal liability for wrongful trading,” West notes. “As no legislative changes have been made in Ireland, directors should be mindful that normal rules continue to apply and there has been no suspension of the rules concerning restriction, disqualification or indeed personal liability.”
And there is still the not-so-small matter of Brexit. West advises business owners to look to the State in the first instance. “The Government has a lot of supports in place for businesses involved in cross-border trade. Check them out again as they may apply to you and save you money and provide you with a line of finance.”