Covid-19 hit the world unexpectedly and governments and the business community were not prepared for its economic impacts. The continuing and potential future impacts of Covid-19 on business activity are unknown. Indeed many parts of the world are already or may be heading for sharp, sudden and very unique recessions.
In this context how do directors of companies keep “the show on the road”?
Ireland has not enacted legislation to modify the duties owed by the directors of a company which is in financial difficulties as a consequence of trading difficulties arising from the impact of Covid-19.
As such directors are and remain subject to their duties and responsibilities under the Companies Act 2014.
Section 228 of the Companies Act 2014 set out the duties of directors from a statutory perspective.
As a general rule of thumb directors must act with due care and diligence. The test of due care and diligence is what would be expected from a careful and diligent director in the same circumstances.
Business decisions must always be taken in the interests of the company while taking into account the interests of other stakeholders (such as employees) and creditors (if insolvency looks a possibility).
Failure to comply with these statutory duties could result in personal liability for a director. A director will prudently also have regard to the interests of customers and suppliers, as those relationships can be integral to the success of the business.
If insolvency is a possible or likely outturn for the company then the primary focus of the directors shifts away from the company’s members to its creditors. Where insolvency occurs then directors should take care to ensure no breaches of company law arise as there may be an exposure for directors in their personal capacity where breaches arise.
What then are the accepted tests for considering the financial viability of a company for directors so that trading in insolvency does not occur?
There are two (2) tests as follows:
- the cash flow test – can a company pay its debts from its cash flows or reserves as they fall due; and
- the balance sheet test – can a company pay all its liabilities after realizing its assets.
Failing either of these tests means that a company can be considered to be insolvent.
The sanctions under the Companies Act 2014 for directors of an insolvent company are designed to penalize directors who recklessly incur credit or liabilities where there is no objective justification to believe that the company can continue to trade as a going concern.
Directors can also incur personal liability for a company’s debts as a result of insolvent trading.
However the law does not penalize directors who have acted honestly and responsibly at the time a company was in financial difficulty. Advice from financial and legal experts ought to be obtained if directors do not believe that there is a likely future for their business or if they have concerns as to their liability in allowing their company continue to trade.
The Office of the Director of Corporate Enforcement has published a briefing note (Covid-19 and the insolvency-related functions of the ODCE) on 04 June 2020 noting a number of factors that it considers relevant to determining if directors have acted honestly and responsibly as a result of companies trading during the Covid-19 pandemic but encounter difficulties in meeting liabilities.
As Irish law does not permit a director cannot to exclude his or her liability to the company nor can a company indemnify a director in respect of his her liability to third parties this brings Directors and Officers Insurance (“D&O Insurance) in to sharp focus.
If directors are looking for some comfort where they attempt to trade out of a company’s financial difficulties it would be prudent for directors to review the terms of D&O Insurance held to ascertain if the D&O Insurance will cover directors against third party liabilities or claims notwithstanding the fact that the directors believe they may have acted honestly and responsibly in continuing a company’s trade.
Professional advice should always be taken before acting on any of the matters discussed. Please contact a member of our team should you wish to discuss this topic further.