The NZ Government will be introducing legislation to Parliament shortly to make it easier for companies who have been hit with the effects of covid-19 to keep trading long enough to outlast the disruption. Whilst these measures apply to all NZ businesses, these changes are particularly welcome for startups who will face significant cashflow issues over the coming months as investment activity slows down.
The two headline changes are:
In this blog we focus on the first change – the safe harbour from directors’ insolvency duties. A short, practical summary of what the safe harbor means for you as a director follows below.
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Any director of a startup will be familiar with the question – is this company viable? The answer lies in the balance between the company’s trading prospects and ability to raise further capital if/when needed, and the expenses and other liabilities involved in continuing to trade.
Under the Companies Act, directors are subject to two specific duties that speak directly to that balancing act:
If directors are found to have breached either of those two duties, they can be held personally liable for some or all of the company’s debts.
Briefly – protection for directors against the risk of being held personally liable for the company’s debts, in specific circumstances.
Under the proposed safe harbour, directors will not be held personally liable for keeping a company trading, and incurring further debt while doing so, over the next 6 months as long as all 3 of the following apply:
The prospect of being held personally liable for debts incurred by a company is scary. Particularly for directors who may already be facing uncertainty in their own personal finances due to covid-19. Also, the rules apply to all directors, including investor directors often appointed to the boards of startups.
Faced with the question of whether or not to continue to running a business whose liquidity has become significantly jeopardised due to the impact of covid-19, it’s reasonable to assume that many directors will make the choice to put the business into liquidation if the alternative exposes them to being held personally liable for the company’s debts.
The Government’s proposed change will remove directors’ personal liability as a deciding factor. If directors make the call to continue trading, they won’t personally be responsible for the company’s debts as long as they believe in good faith that their company has a chance to survive covid-19. Directors will be more inclined to continue trading for a while longer, retaining staff and looking for opportunities to pivot or otherwise weather the storm.
We recommend taking a cautiously optimistic approach. The new rules will apply retrospectively from the date of announcement (Friday 3 April) but there is always the risk that the final detail won’t reflect the big picture announcements made.
If you’re a director, give some thought to whether the safe harbour criteria would apply to your company if you were making the call today. If you think the safe harbour would apply, and if your other directors agree (if you have any), then we hope the Government’s announcement gives you some confidence to continue trading, even for the short term until the final detail of these proposed changes becomes clear.
These changes aren’t carte blanche to disregard directors’ duties under NZ law over the next 6 months. Directors’ overriding duty to act in good faith and in the best interests of the company will continue to apply, as will other protections in the Companies Act punishing directors who dishonestly incur company debts.
These changes are also designed to specifically target companies that have suffered as a direct result of covid-19. If your business was facing liquidity issues before covid-19, the proposed safe harbour won’t help you.
To paraphrase Finance Minister Grant Robertson – if your business was a good, functioning, solvent business going into covid-19, it should be able to be a good, functioning solvent business coming out of it. We hope that turns out to be true, and we welcome the proposed changes as a small step to help protect NZ’s startup ecosystem.
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