The stark reality of the COVID-19 pandemic on companies, like natural persons, is not a merry one. Akin to natural persons, while some companies will recover, others will not be so fortunate. While companies can indeed use this time to foster innovative business strategies, they need to have the funds to do so. If they don’t? Insolvency (as bleak as it may sound) might be the inevitable route for some, despite their best intentions.
Company directors cannot simply abandon ship when things go south. Even in these abnormal circumstances, directors are forced to make already tricky decisions which they will be judged for (with the benefit of hindsight) if they make the wrong call. Moreover, especially when the company is veering towards insolvency and creditors’ interests consequently take centre stage, directors have the threat of personal liability hanging over their heads. Temporary legislative intervention in the ambit of insolvency laws can seek to lighten this burden on directors during this unusual time.
On March 20 the Conference on European Restructuring and Insolvency Law (CERIL) released an executive statement urging legislators to adapt insolvency legislation due to COVID-19. CERIL claimed to be “deeply concerned with the ability of existing insolvency legislation to provide adequate responses to the extremely difficult situation in which many companies find themselves as a result of the spread of the COVID-19. It calls upon EU and European national legislators to take immediate action and adapt insolvency legislations where necessary in light of the current extraordinary economic situation and to prevent unnecessary bankruptcies of entrepreneurs”.
CERIL recommends that two steps be taken by European national legislators:
To suspend the duty to file for insolvency proceedings based on over-indebtedness.
Company directors cannot simply abandon ship when things go south
CERIL argues that the current uncertainty and distressed market conditions hamper the test to determine whether a business is still viable or not and whether it ought to initiate insolvency proceedings; therefore, in these circumstances, companies which would be viable in normal market conditions might be forced to file for insolvency unnecessarily.
To respond to the illiquidity of businesses.
CERIL holds that those businesses with limited cash reserves, due to lockdown measures, for example, may be approaching a situation of illiquidity that qualifies as the ‘inability to pay’, thereby risking being considered as legally insolvent, while they would have probably remained viable in a normalised market situation.
Germany is one of the countries in the EU that seems to have heeded this call for governments to implement ‘good weather’ insolvency legislation by CERIL, and the government there recently introduced a measure to suspend the obligation to file for insolvency (which is usually three weeks from the date when it becomes evident that the company is insolvent) until September 30, 2020, in order to protect companies that encounter financial difficulties due to the COVID-19 crisis.
This comes with the corresponding suspension of the power of third parties to instigate insolvency proceedings which is also suspended for three months, unless the reason for the insolvency already existed on March 1, 2020.
This should serve to allow directors of German companies the ‘legroom’ to direct all their energy into ensuring that the company weathers the storm, without having to worry about receiving a barrage of insolvency claims from disgruntled creditors and other third parties during this extremely sensitive period, and of course, from facing personal liability for failure to put the company into liquidation in a timely manner.
Indeed, in Germany, under normal circumstances, in a situation of illiquidity, directors may only make payments that are reconcilable with the diligence of a prudent businessperson. This provision has been relaxed in the circumstances so that all management decisions taken in the ordinary course of business will be deemed to be reconcilable for the purpose of law.
Which rules could be temporarily relaxed under Maltese law? In Malta, directors have many obligations, but a ‘per se’ duty to file for insolvency (like in Germany) is not one of them.
That being said, where the directors of a company become aware that the company is unable to pay its debts or is imminently likely to become unable to pay its debts, they must under Article 329A of the Companies Act not later than 30 days from when the fact became known to them, convene a general meeting of the company for the purpose of reviewing the company’s position and to determine what steps should be taken to deal with the situation. This obligation on directors should not be temporarily suspended or relaxed as it is important, now more than ever that the directors and shareholders of companies meet (albeit, virtually) to discuss and review their financial position in duly convened and minuted meetings.
However, there are other legal provisions which can potentially be relaxed. Despite the absence of an express duty to file for insolvency under Maltese law, a delay to put the company into insolvent liquidation may in fact give rise to liability of directors.
Therefore, naturally, Malta’s response to the executive statement by CERIL should be to relax those provisions which may impose liability on directors who are clutching at straws to keep their companies afloat, provided the difficulties are a result of the COVID-19 pandemic and not to pre-existing conditions.
This is part one of a two-part series of articles. Part two will deal with those legal provisions which could be temporarily relaxed in light of COVID-19.
Maria DeBono, Associate at Fenech & Fenech Advocates