Corporate insolvency update

02 June 2020




Further to our previous commentary on this topic (found here), the Government has now enacted changes to the Companies Act 1993 (the Act).The changes, made under the COVID-19 Response (Further Management Measures) Legislation Act 2020, came into effect on 15 May 2020 with some amendments to the initial draft legislation.

Directors’ duties (safe harbour)

From 3 April 2020 until 30 September 2020, the directors of a company that continues to trade (despite solvency issues) may rely on a safe harbour from liability under s.135 (reckless trading) and s.136 (unreasonable incurring of obligations) of the Act if:

  • in the directors’ good faith opinion:
    • the company is facing, or in the next six months is likely to face, significant liquidity problems as a result of COVID-19; and
    • it is more likely than not that the company will be able to pay its due debts on and after 30 September 2021 (considering the likelihood of trading conditions improving, whether the company will reach a compromise or an alternative arrangement with its creditors, or other relevant matters); and
  • the company was able to pay its debts in the ordinary course of business as at 31 December 2019.

The safe harbour does not apply to registered banks, licenced insurers, non-bank deposit-takers, and companies incorporated after 3 April 2020.The safe harbour provisions may be extended to no later than 31 March 2021 and a new safe harbour period may be provided for, being no later than 30 September 2021.

While the safe harbour provision will provide directors with some comfort, the legislation does not give directors absolute certainty to “push on” through the economic fallout of COVID-19 with assurances that they will be protected from s.135 and s.136 claims.We encourage directors to consider the decision to continue trading carefully, record the reasoning and evidence for their beliefs, and seek professional advice as required.

Voidable transactions

The voidable transaction “claw-back” period (within which payments made by a company may be deemed to have been made while the company was insolvent) has been changed from two years to six months in situations where the parties are not related parties under the Act.This is intended to give comfort that a payment made to a creditor will not be “clawed back” from them as easily if the company from which they have received the payment goes into liquidation.The aim is to encourage businesses to continue to provide goods and services on credit to assist cash flow for SMEs generally.

Business Debt Hibernation (BDH) regime

The BDH regime will give companies and certain other legal personalities (e.g. partnerships) an ability to manage their debts by allowing the company to trigger an automatic one-month moratorium on the enforcement of charges against the company’s property and the issuance or continuation of proceedings against the company in connection with a debt or in relation to its property. A further six month period may follow if approved by the company’s creditors.

Directors can seek a further six-month extension if:

  • the company was able to pay its debts in the ordinary course of business on 31 December 2019;
  • at least 80% of the directors vote in favour of a resolution to enter into BDH; and
  • each of the directors who vote in favour of an extended BDH arrangement signs a certificate that:
    • as at 31 December 2019, the entity was paying its debts as they fell due; and
    • in the directors’ opinion (acting in good faith):
      • the company has, or in the following six months is likely to have, significant liquidity problems resulting from COVID-19; and
      • the entity will, more likely than not, be able to pay its debts as they fall due from 30 September 2021.

To enter into BDH, the company must deliver a notice to the Registrar of Companies of the directors’ decision. Creditors must be sent a copy of that notice as soon as reasonably practicable.

In the initial one-month period, the company can issue a proposal to its creditors proposing an arrangement which addresses the liquidity issues.The company’s creditors will then vote on such an arrangement before that initial one month period comes to an end.If 50% of the creditors (in both number and value) approve the arrangement, the moratorium will be extended by up to a further six months.

Other key features include:

  • General security holders will still be able to enforce their rights against the charged property of the debtor entity.This means receivers can still be appointed over the assets of the company in a BDH arrangement.
  • Statutory demands can still be served by creditors on debtor companies.While such demands are not supposed to be used as a debt collection mechanism, this is often how they are utilised.Businesses served with a statutory demand will therefore still have to take action to pay or defend it, or face creditors appointing a liquidator.
  • Certain debts are excluded from the BDH moratorium including employee debts, and PAYE and similar deductions, and debts incurred after an entity enters into BDH.
  • Payments made by a company in BDH will be exempt from the voidable transactions regime, as long as they were entered into in good faith, at arm’s length, and not with the intention of depriving existing creditors.

Considering the above exceptions, we doubt that the BDH regime will have its desired effect of allowing businesses with restricted cash flow to continue trading.

This can be contrasted with overseas regimes.For example, In Australia, companies have been assisted by having the statutory demand minimum increased from A$2,000 to A$20,000 and by having the time within which a company must file a defence to a statutory demand extended from 21 days to six months.In New Zealand, the strict deadline within which a company must apply to set aside a statutory demand remains at 10 working days.

The fact that statutory demands may still be issued in the same way in New Zealand, the requirement to liaise with creditors (likely resulting in creditors ceasing the provision of goods or services on credit, further exacerbating cash flow issues), together with the complexity and administration requirements of the BDH regime, we fear will mean that the regime will not assist many cash strapped SMEs.

Legal advice disclaimer: this document does not constitute legal advice and it is not a substitute for receiving legal advice from us. Please get in touch if you wish to discuss your particular circumstances

02 June 2020