Governance news bites
A collection of governance-related news snapshots that you might have missed in the past two weeks.
The long-awaited Supreme Court decision in the Mainzeal case has arrived – and while it is good news for creditors, the decision will not provide much comfort for directors facing uncomfortable choices around distressed companies.
The Supreme Court agreed that the Mainzeal directors breached their duties and must contribute $39.8m plus interest to Mainzeal’s assets. Yan is liable for the entire amount plus interest, while the other directors are liable for $6.6m each, also with interest. The Court’s decision largely supports the findings made by the High Court and Court of Appeal.
While Mainzeal’s liquidators and creditors will no doubt be pleased with the result, the Court’s judgment offers little relief – or new guidance – for directors.
Before its collapse, Mainzeal was one of New Zealand’s largest construction companies. In 2013, Mainzeal went into receivership and liquidation owing around $110m to unsecured creditors. The liquidators of Mainzeal brought proceedings against the directors, alleging (among other things) that the directors had breached sections 135 (reckless trading) and 136 (duty in relation to obligations) of the Companies Act. [Relevant clauses can be read in full by visiting legislation.govt.nz and clicking on Companies Act 1993; and the IoD’s Four Pillars, sections 4.2 and 4.3]
The High Court concluded that the directors were in breach of section 135 and were potentially liable for the full loss of the company on insolvency. In exercising its discretion under section 301, the Court awarded compensation of $36m, which was the largest award for reckless trading in New Zealand history at the time. Both parties appealed.
The Court of Appeal found the directors breached both sections 135 and 136 by trading on as usual despite Mainzeal’s unstable financial position. The Court expanded the interpretation of section 136 to apply to classes of obligations or to all obligations entered into after a particular date. The Court concluded there was no loss from the directors’ breach of section 135 as there was no net deterioration in Mainzeal’s position, but that compensation should be awarded under section 136 under the new debt approach.
The Mainzeal directors applied for leave to appeal to the Supreme Court, challenging the finding of liability under sections 135 and 136, and arguing that the liquidators had not established loss. The liquidators cross-appealed the decision to refer the assessment of quantum of damages back to the High Court and challenged the finding that no loss stemmed from the breach of section 135.
The key issues addressed by the Court were:
The Court decided that:
There is little comfort for directors in the judgment: the main theme is creditor protection. Key practical takeaways for directors of distressed companies include:
If you are in charge of a company that is insolvent and can’t be salvaged, don’t trade on, even if doing so would reduce the debt owed to creditors. Take advice and consider the appointment of administrators or liquidators. Courts will allow a reasonable time for directors to take stock and decide what course of action they should take, and directors will not normally be liable for trading during this period (but that may not always be the case).
As the Court recognised, the issues dealt with in the case “are of fundamental importance to the business community”. The case once again highlights the need for law reform about director duties. Striking the balance between director accountability and allowing directors to make commercial decisions that involve risk is not easy, but the business community deserves more certainty.