The director of a company falling on (financially) hard times will sometimes find himself forced to take decisions at a quicker pace than legal doctrine would prescribe. It can leave directors (and supervisors) having to negotiate a minefield, never sure whether they will make it across in one piece.
Some important questions and considerations
Cashflow shortages will cause a company’s board of directors to seek the aid of its bank (ratios will have become skewed, causing lines of credit to become due, or other lending room to no longer be available). This will then be followed by conditions being renegotiated, the company being restructured (with unprofitable elements sold off) and costs being brought down. This will more often than not also see greater solvability called for through the increase of a company’s equity. Shareholders will also have to contribute either funds, or put up security, with a secondary offering of shares the obvious option open to floated companies.
Directors are tasked with finding a way to ensure the continuation of the enterprise during the hectic period it negotiates with its bank. Are they free to decide which of its creditors to pay first? Are they free to conclude new deals on the company’s behalf? In principle, directors are offered a lot of freedom when it comes to corporate decision-making. Risk-avoiding behaviour is not conducive to creating a vital and innovative economy. What leeway a director will have is largely dependent on the company’s realistic prospects of survival.
Continuation of the company should no longer be pursued i) in the event of an imminent cashflow shortage in the short term; ii) if no budget can be drafted in which predictable shortages are accommodated; and iii) if no plans are found to exists to suggest the company may, in time, be expected to turn a profit.
The company should neither be subjected to counteracting measures that are doomed to fail, or to a restructuring against better judgement. Any assessment on this should weigh up any damage such may cause the company’s creditors against the chances of its board of directors successfully saving the company, something which could, in turn, improve the position of its other stakeholders, as well as its creditors.
Should the company, however, prove de facto insolvent, i.e. beyond saving, then this would not only see other rules apply, but even the game itself changed. Such cases would no longer see the company’s survival, but the protection of the interests of its creditors take centre stage. The only remaining options open to its directors would then be filing for a suspension of payment or bankruptcy (with the latter potentially preceded by the appointment of a silent administrator, with whose help a pre-pack to take effect upon the company’s bankruptcy might be agreed).
Directors either underestimating the situation, or turning a blind eye to it, run the risk of later being held liable by the company’s receiver (as well as by some of its individual creditors). In fact, receivers have a plethora of laws available to them in this regard, the main one of these being articles 2:138/228 paragraph 2 DCC (which provide grounds for liability claims for asset shortages in cases of an actual improper performance of duties deemed a main cause of bankruptcy). In defending himself against such a claim, the director will then be encumbered with demonstrating that the company did have a chance of survival and that its continuation was justified, if not necessary. Such considerations will have to be evidenced by items such as carefully drafted minutes to the company’s decisions.
A minute account will have to be taken of the company’s state of affairs; its potential for continued survival; what conditions will have to be met to allow such to be achieved; and how it serves the interests of the various stakeholders.
Recommendations to directors in hard times on avoiding being personally held liable
Make sure you are properly equipped and fit for the job
Adequately setting up a restructuring process is an entirely different undertaking to the steady day-to-day running of a company, or growing its turnover.
Setting up a restructuring committee may be a good idea here. Such a committee would consist of both Executive (EB) as well as Supervisory Board (SB) members, to be added to with financial advisers, investment bankers, (tax) lawyers and accountants, depending on the nature of the problems faced. A restructuring committee may help you as you carefully prepare the (far-reaching) decisions of your company’s various bodies.
Multiple scenarios featuring calculated sensitivity analyses (a Plan B) will be considered in such an exercise. These will most likely be the management case, bank case and worst-case scenarios. Stakeholders (including the bank) vital to the rescue operation will have to be involved in the drafting of the rescue plan. A contingency plan describing the risks and consequences of the failure, or mere partial success, of certain scenarios will also have to be drafted.
Make sure you act in a sufficiently speedy manner
Communications between the company’s EB and SB will have to be intensified; a multitude of urgent information will have to be gathered; decisions will have to be made in as diligent a fashion as possible, in spite of the pressing time constraints you are under; and external communication will also have to proceed in an adequate manner. Because once rescue attempts are found to have been undertaken in vain, those looking in will be all too quick to say it was all too little, too slow.
Find out what type of investigation you need to conduct
You’ll have to look into different issues, depending on the problems your company’s facing, e.g. accounting issues, fraud, etc.
Staying or going
You may well feel inclined to take responsibility for the crisis your company finds itself in and step down from your post. After all, the buck does stop with those running it, doesn’t it? EB (and SB) members are expected to undertake all efforts to limit any damage they can and prevent any future damage from being incurred. Individual directors may be best advised to step down in the event of an irreconcilable dispute within a company’s EB (and/or its SB). One should be mindful of the reputation damage staying on too long, or stepping down too early, may cause.
The greatest liability risk will arise in the event the company is declared bankrupt. Receivers may then prove eager in looking into the potential for successfully claiming damages on the grounds of director’s liability. Such an investigation will no doubt find issues that could have been done better. That is not to say that such would immediately qualify as seriously culpable conduct, or be deemed an improper performance of duties. Hindsight will prove a great tool in reconstructing a company restructuring – a try-and-salvage-what-you-can – operation. A receiver will quite often also look into a company’s AC/IC and this will provide him plenty of easy pickings in this regard. Directors enjoying insurance coverage will often see (the threat of) claims for directors’ liability lodged against them, or such being settled out of court. Despite the high threshold set by the Dutch Supreme Court for deeming director conduct culpable to the extent that personal liability is triggered, lower courts should not be expected to always apply such restraint by way of subjecting a director’s conduct to a marginal test, and consider his actions in the context of the circumstances that existed at the time. Indeed they may even ignore such context under the influence of the benefit of hindsight.
Any creditors, banks, investors, etc. considering seeking to lodge a claim will usually have to make do without the information (including access to the company’s accounting records) and legal presumptions a receiver will have at his disposal.