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A fight to survival: what exactly are your directors’ duties here?

23 June 2020
Written by Abigail Curtis and Olivia Christensen
Read Time 3 mins reading time

Professional directors typically have a good understanding of the fundamentals of “director duties”. The duties themselves are not overly complicated. It’s the factual overlay that produces a myriad of permutations and intricacies – and COVID-19’s unprecedented shut-downs and restrictions have delivered complexity in spades.

There have been no shortage of articles prescribing shopping lists of things for boards to consider in responding to the immediate crisis. These valuable tools have been a lifeline.

But it’s time to take a breath, and a moment to consider the bigger picture. (Hopefully) initial response plans are in swing and you’ve expertly guided management teams to put out the fires and find a “new norm” – at least for now.

The overarching role and responsibility of the board extends further than this. Critically you are tasked with strategic direction – that is, the longer term view.

An implied duty to survive?

Perhaps one of the most touted directors’ duties is to act in ‘good faith’ and ‘in the interests of the company as a whole’. This is colloquially understood to refer to acting in the best interest of shareholders – but in fact, the duty is much wider than this.

There are reams of case law on this; and as it stands today the concept of “company as a whole” can require consideration of the interests of creditors[1], employees, customers, contractors and the community.  In many contexts it can also require consideration of a company’s future requiring directors to consider the interests of existing members having regard to their future interests.

Consider a takeover.  It may yield a good result for current members in the short term (so take it?) – but what if the directors have another plan in the wings that could deliver even better longer term success and value? Balancing a long term versus a short term view requires an understanding of the preferences of your shareholder base and likelihood of success of your alternate plan.  This balancing act is also borne out in other emerging risk areas, such as climate risk and COVID-19.

The immediate threat here is likely to be creditor enforcement action and pending insolvency. You may be highly leveraged, in financial hardship and under pressure. In (recent) better times, your organisation may have undertaken strategic acquisitions and taken risks, or maybe the “good time vibes” meant that management was less than tight and you’re carrying extra weight.

What’s holding you back?

Many directors may fear the personal liability that can come from breaching insolvent trading laws. They can feel backed into a corner and out of options; and all too commonly, this can result in premature steps to put the company into liquidation. The liquidation process is expensive, and once liquidators’ fees and expenses are paid for, the cents in the dollar return for creditors is often unappealing, and even worse (or non-existent) for shareholders.

Others may shy away from voluntary administration, fearing the “black marks” they may retain as a result of being associated with a perceived “failed” corporation.

Whatever choice you make, the key question is – was it really the right decision, taken in good faith (without regard to your own skin) and in the ‘interests of the company as a whole’?  Unless you’ve diligently explored all of your options, the answer may well be a resounding no.

So what should you have done?

Section 189 of the Corporations Act provides that a director is permitted, and should seek out expert or professional advice. Such advice-taking can also go a long way toward establishing a defence for your actions and decisions.

Whilst COVID-19 has been extraordinary – so has the Government and legislative response.

There is now not one, but two safe harbours from insolvent trading liability. The new defence sits alongside the existing one (as an alternative) and was introduced for the specific purpose of encouraging business to continue trading without undue risk from insolvent trading laws.

It provides temporary relief due to coronavirus from personal liability for any debts incurred in the ‘ordinary course of the company’s business’ whilst insolvent.[2]  The Explanatory Memorandum to the legislation provides additional guidance on the term ‘ordinary course of business’ with a key focus on facilitating the continuation of business.

Social licence to operate

Vast amounts of Government support packages and initiatives are also at play. Most notably, the JobKeeper payments and the extended JobKeeper package introducing greater flexibility for eligible employers to ‘right size’ or redeploy their labour force to fit current operations.

Add to this the recent stays to creditor enforcements (statutory demand response period extensions), non-eviction legislation, government backed small loans, more cash for apprentices, instant asset write offs and other tax deferrals and relief (e.g. PAYG, payroll tax) to name a few. Then there is the response from the banks including loan deferrals and relaxation of lending requirements.

This is nothing short of an extraordinary factual overlay to the surrounding circumstances of your particular organisation’s crisis. Whatever you do now may well have broad ripple effects.  The recent phraseology entering the corporate governance landscape – “social licence to operate” – is ringing in my ears.

With all this in mind, it might be said that the overriding objectives must be to survive and recover.

So what are our key takeaways?
  • Take a long term view.
  • Unless you’ve informed yourself of all options available, including the benefits of a turn-around strategy (which could legitimately involve a voluntary administration appointment) it’s probable that your job is not done.
  • Restructures, strategic divestments and recapitalisations can provide good incentive for creditors to take a haircut to maximise the chances of repayment. It may also strengthen a company’s ability to leverage growth opportunities rather than struggle with debt repayment.
  • Is it time for new management? Have you considered a turnaround NED?
  • Start with a specialist financial advisor with a strong track record of stewarding businesses through financial distress.
  • We’re here to help.

This article was written by Abigail Curtis and Olivia Christensen, Special Counsel (Corporate), of Macpherson Kelley. It contains commentary and general information only, and should not be taken as legal advice.

[1] Enshrined in statute (s.588G Corporations Act).  A string of case law from the 1970s onward also supports the principle that a financial state short of insolvency can trigger the obligation to consider the interests of creditors.

[2] Other directors’ duties must also be considered.  Directors should continue to take appropriate steps to ensure availability of the Business Judgement Rule protections.

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A fight to survival: what exactly are your directors’ duties here?

23 June 2020
Written by Abigail Curtis and Olivia Christensen

Professional directors typically have a good understanding of the fundamentals of “director duties”. The duties themselves are not overly complicated. It’s the factual overlay that produces a myriad of permutations and intricacies – and COVID-19’s unprecedented shut-downs and restrictions have delivered complexity in spades.

There have been no shortage of articles prescribing shopping lists of things for boards to consider in responding to the immediate crisis. These valuable tools have been a lifeline.

But it’s time to take a breath, and a moment to consider the bigger picture. (Hopefully) initial response plans are in swing and you’ve expertly guided management teams to put out the fires and find a “new norm” – at least for now.

The overarching role and responsibility of the board extends further than this. Critically you are tasked with strategic direction – that is, the longer term view.

An implied duty to survive?

Perhaps one of the most touted directors’ duties is to act in ‘good faith’ and ‘in the interests of the company as a whole’. This is colloquially understood to refer to acting in the best interest of shareholders – but in fact, the duty is much wider than this.

There are reams of case law on this; and as it stands today the concept of “company as a whole” can require consideration of the interests of creditors[1], employees, customers, contractors and the community.  In many contexts it can also require consideration of a company’s future requiring directors to consider the interests of existing members having regard to their future interests.

Consider a takeover.  It may yield a good result for current members in the short term (so take it?) – but what if the directors have another plan in the wings that could deliver even better longer term success and value? Balancing a long term versus a short term view requires an understanding of the preferences of your shareholder base and likelihood of success of your alternate plan.  This balancing act is also borne out in other emerging risk areas, such as climate risk and COVID-19.

The immediate threat here is likely to be creditor enforcement action and pending insolvency. You may be highly leveraged, in financial hardship and under pressure. In (recent) better times, your organisation may have undertaken strategic acquisitions and taken risks, or maybe the “good time vibes” meant that management was less than tight and you’re carrying extra weight.

What’s holding you back?

Many directors may fear the personal liability that can come from breaching insolvent trading laws. They can feel backed into a corner and out of options; and all too commonly, this can result in premature steps to put the company into liquidation. The liquidation process is expensive, and once liquidators’ fees and expenses are paid for, the cents in the dollar return for creditors is often unappealing, and even worse (or non-existent) for shareholders.

Others may shy away from voluntary administration, fearing the “black marks” they may retain as a result of being associated with a perceived “failed” corporation.

Whatever choice you make, the key question is – was it really the right decision, taken in good faith (without regard to your own skin) and in the ‘interests of the company as a whole’?  Unless you’ve diligently explored all of your options, the answer may well be a resounding no.

So what should you have done?

Section 189 of the Corporations Act provides that a director is permitted, and should seek out expert or professional advice. Such advice-taking can also go a long way toward establishing a defence for your actions and decisions.

Whilst COVID-19 has been extraordinary – so has the Government and legislative response.

There is now not one, but two safe harbours from insolvent trading liability. The new defence sits alongside the existing one (as an alternative) and was introduced for the specific purpose of encouraging business to continue trading without undue risk from insolvent trading laws.

It provides temporary relief due to coronavirus from personal liability for any debts incurred in the ‘ordinary course of the company’s business’ whilst insolvent.[2]  The Explanatory Memorandum to the legislation provides additional guidance on the term ‘ordinary course of business’ with a key focus on facilitating the continuation of business.

Social licence to operate

Vast amounts of Government support packages and initiatives are also at play. Most notably, the JobKeeper payments and the extended JobKeeper package introducing greater flexibility for eligible employers to ‘right size’ or redeploy their labour force to fit current operations.

Add to this the recent stays to creditor enforcements (statutory demand response period extensions), non-eviction legislation, government backed small loans, more cash for apprentices, instant asset write offs and other tax deferrals and relief (e.g. PAYG, payroll tax) to name a few. Then there is the response from the banks including loan deferrals and relaxation of lending requirements.

This is nothing short of an extraordinary factual overlay to the surrounding circumstances of your particular organisation’s crisis. Whatever you do now may well have broad ripple effects.  The recent phraseology entering the corporate governance landscape – “social licence to operate” – is ringing in my ears.

With all this in mind, it might be said that the overriding objectives must be to survive and recover.

So what are our key takeaways?
  • Take a long term view.
  • Unless you’ve informed yourself of all options available, including the benefits of a turn-around strategy (which could legitimately involve a voluntary administration appointment) it’s probable that your job is not done.
  • Restructures, strategic divestments and recapitalisations can provide good incentive for creditors to take a haircut to maximise the chances of repayment. It may also strengthen a company’s ability to leverage growth opportunities rather than struggle with debt repayment.
  • Is it time for new management? Have you considered a turnaround NED?
  • Start with a specialist financial advisor with a strong track record of stewarding businesses through financial distress.
  • We’re here to help.

This article was written by Abigail Curtis and Olivia Christensen, Special Counsel (Corporate), of Macpherson Kelley. It contains commentary and general information only, and should not be taken as legal advice.

[1] Enshrined in statute (s.588G Corporations Act).  A string of case law from the 1970s onward also supports the principle that a financial state short of insolvency can trigger the obligation to consider the interests of creditors.

[2] Other directors’ duties must also be considered.  Directors should continue to take appropriate steps to ensure availability of the Business Judgement Rule protections.