The COVID-19 pandemic continues to have far-reaching consequences across the entire economy. Federal and State Governments have provided welcome relief from various legal and regulatory obligations that companies may struggle to comply with during these times. However, company directors must continue to fulfil the statutory and fiduciary duties they owe their companies, shareholders and creditors.
We provide below a general refresher of these important duties and remind directors to take proactive steps to protect their company and protect themselves from potential personal liability.
Duty to avoid insolvent trading
The COVID-19 pandemic may cause significant financial distress within companies and require directors to make urgent decisions to ensure companies can keep trading. Directors should be aware that they have a duty to prevent insolvent trading where they ‘knew or had reasonable grounds for suspecting’ insolvency. A breach of this duty can render a director liable to compensate the company for debts incurred whilst the company was insolvent and lead to civil or criminal penalties.
However, under the ‘safe harbour’ regime, a director is not under a personal duty to prevent insolvent trading if, at the relevant time, they were engaged in conduct which was reasonably likely to lead to a better outcome for the company. In response to COVID-19, these provisions were temporarily expanded in March 2020, with directors now relieved of personal liability for insolvent trading if debts are incurred in the ordinary course of business and prior to the appointment of an administrator or liquidator. It is not clear what would be regarded as in ‘ordinary course of business’, but these provisions are intended to give directors the ability to make urgent decisions in relation to incurring debts to continue to trade, retain staff and pay invoices. The regime is complicated and professional advice should always be sought by directors looking to take advantage of the safe harbour provisions.
Note the temporary safe harbour changes are due to expire on 23 September 2020 (unless extended). You can read more about the temporary safe harbour changes in our COVID-19 Resource Centre here.
Duty of care and diligence
A director must exercise their powers with the degree of care and diligence that a reasonable person in their position would exercise. This is an objective standard and imposes a positive obligation on directors to do everything reasonably expected of them in effectively managing the company’s affairs.
In the current environment, directors should consistently monitor and stay informed about their company’s activities, operations and financial position. Directors should also be mindful of the decisions that they make at this time and ensure they adequately document those decisions and the reasoning behind them.
Duty to act in good faith in the best interests of the company and for proper purpose
A director must exercise their powers and discharge their duties in good faith in the best interests of the company and for a proper purpose. This requires directors to give proper consideration to the interests of the company itself, rather than an individual shareholder or third party.
To act in good faith is to act with honesty and without an intention to deceive. To act for a proper purpose is to exercise powers for the purpose for which they were given, not for any collateral or ulterior purpose.
Directors are encouraged to carefully consider the implications of decisions they make during the COVID-19 pandemic and keep the interests of the company (as a whole) at the forefront of their minds.
Duties to avoid improper use of a director’s position or information for personal benefit
Directors cannot use their position, or information obtained because of their position, to gain an advantage for themselves or someone else, or cause detriment to the company. By virtue of being a director, confidential information and profitable business opportunities may present themselves. Exploiting this for personal gain may be tempting, but can carry significant civil and criminal penalties.
Directors must always ensure the actions they take ultimately benefit the company and that they remain transparent when carrying out their duties as a director.
Failing to properly consider relevant risks to the company posed by COVID-19, or making ill-informed decisions which may impact the company and its stakeholders, may lead to serious consequences for a director personally and the company. Company directors are urged to be proactive about COVID-19’s impact on their duties and seek professional advice accordingly.
The information in this publication is of a general nature and is not intended to address the circumstances of any particular individual or entity. Although we endeavour to provide accurate and timely information, we do not guarantee that the information in this newsletter is accurate at the date it is received or that it will continue to be accurate in the future.