Directors duties in the context of COVID-19
- Insolvency and exercising COVID-19 safe-harbour provisions.
- Directors are encouraged to seek advice early from a suitably qualified and independent adviser about the company’s financial affairs and the options available to manage the disruption caused by COVID-19.
By Commissioner John Price
The current evolving circumstances surrounding COVID-19 present many challenges to companies, boards, management and their stakeholders.
In a short space of time, companies will be required to focus on and, most likely, recalibrate aspects of their corporate strategy, risk-management framework, and funding and capital management strategy – among other things.
Given the possible impact of decisions taken during this time on the long-term sustainability of the companies, directors and officers will need to carefully reflect on their fundamental duties to act with due care, skill and diligence and to act in the best interests of the company. This will include reflection on which stakeholders’ interests need to be factored into decisions – including employees, investors and creditors. This continues to be the case in areas where temporary relief has been provided from specific obligations under the law as illustrated below.
Insolvency and COVID-19 safe-harbour provisions
On 24 March 2020, the Coronavirus Economic Response Package Omnibus Bill 2020 received Royal Assent. Among other measures, the bill inserted a new section 588GAAA into the Corporations Act 2001 granting temporary relief for financially distressed businesses. From a corporate view, the temporary amendments provide relief for directors from potential personal liability for insolvent trading.
The Explanatory Memorandum states that this relief is provided as a ‘new safe harbour from the directors’ duty to prevent insolvent trading’. To be able to rely on these measures, the debt incurred must be incurred:
- in the ordinary course of the company’s business
- during the six-month period commencing from 25 March 2020 (or a longer period as prescribed by the regulations)
- before any appointment of an administrator or liquidator during the temporary safe harbour application period.
The Explanatory Memorandum to the Bill explains that a director is taken to have incurred a debt in the ordinary course of business if it is necessary to facilitate the continuation of the business during the six-month period commencing on 25 March 2020.
A director wishing to rely on the temporary safe harbour measure ‘bears an evidential burden’ to prove that the requirements of the temporary safe harbour provisions are met. It may need to be shown that the debt was not effectively incurred before 25 March 2020. If certain conditions are met, the temporary safe harbour relief also extends to a holding company in respect of debts incurred by a subsidiary.
These temporary measures do not replace the existing ‘safe harbour’ provisions in the Corporations Act but add to them.
Even though temporary relief is provided from the insolvent trading provisions, that relief does not extend to relief from statutory and common law directors duties. These include the duty to act in the best interests of the company as a whole (which can involve directors taking into account the interests of stakeholders beyond shareholders including creditors when the company is in financial distress). These duties also involve the duty to act with care, diligence and good faith and not to use a director’s position or information obtained as a director to gain an advantage or cause detriment to the company.
A recent High Court decision has confirmed that these duties extend beyond those named as directors to officers of the company to those who have the capacity to significantly affect the financial standing of the company.
The response to the COVID-19 pandemic is constantly evolving.
Directors are encouraged to seek advice early from a suitably qualified and independent adviser about the company’s financial affairs and the options available to manage the disruption caused by COVID-19. Directors should be wary of approaches by unqualified advisers offering unsolicited assistance in dealing with the challenges COVID-19 presents.
ASIC’s approach to enforcement
On 23 March 2020, ASIC announced a recalibration of its regulatory priorities to focus on COVID-19 challenges. ASIC will maintain enforcement activities and continue to investigate and take action where the public interest warrants us to do so, against any person or entity that breaks the law.
Whether action is taken depends on the assessment of all relevant circumstances, including what a director or officer could reasonably have foreseen at the time of taking relevant decisions or incurring debts.
This article was first published by the Australian Institute of Company Directors on 16 April 2020.
ASIC is Australia’s corporate, markets and financial services regulator.