Covid-19

Troubled businesses can put debt in ‘hibernation’

Insolvency laws will be temporarily changed to allow troubled companies to trade while technically insolvent

Finance Minister Grant Robertson has announced changes to the Companies Act to allow companies to put their debts into "hibernation" and operate while insolvent.

Lawyers have said the detail behind the changes will determine how effective they will be in preventing a raft of director resignations and business closures in the wake of Covid-19.

Partner at Taylor Hopkins Lizandra Bailey said businesses slipped in and out of solvency all the time. The difference now was that the Covid-19 lockdown promised a prolonged period of insolvency for many.

“It kind of puts everything on pause. Which I think is really important at the moment because there’s so much angst," Bailey said.

"I’ve had people in tears on the phone to me and it’s quite distressing," she said.

'Hibernation'

Robertson said the changes would mean directors of businesses facing liquidity problems would have "safe harbour" from their normal insolvency duties under the Companies Act. 

Directors of companies are liable to creditors if they operate a business while insolvent. 

Robertson said under the changes, companies could put their debts into "hibernation" under the Business Debt Hibernation (BDH) scheme if they had the agreement of half of their creditors.

"If this 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," Robertson said.

Bailey said the requirement for agreement from 50 percent of creditors would make it impractical for many businesses whose biggest creditor was their landlord. 

“The big issue I’m dealing with at the moment is for tenant liability for commercial leases. For businesses that can’t even operate with no money coming in,” Bailey said.

“There are some landlords who are just saying well I don’t really care I just want my rent," she said.

Deloitte partner David Webb said he wanted to see if the 50 percent figure was a reference to the value of debt held or the number of creditors. The law also needed to make it clear if secured creditors would be treated differently to unsecured creditors.

“I'm interested to see if they go further as part of this and say no creditor, whether that be a landlord, whether it be a secured creditor or whether it be a large supplier, who holds the majority of the debt, can influence this.”

Bell Gully partner Tim Fitzgerald said the Government had shown it was concerned about both directors and creditors with the 50 percent marker.

"The 50 percent threshold ensures directors don't have carte blanche to ignore their obligations," Fitzgerald said.

'Wolf at the door'

Consumer Affairs Minister Kris Faafoi said the threat of a director being held personally liable for a company’s solvency problems would make them more inclined to close down a business.

Bailey said she had experienced what Faafoi had described firsthand:

"I've had directors resigning as directors because they don't want the personal liability ... so having a 'safe harbour approach' is really interesting," Bailey said.

She said a similar 'safe harbour' law in Australia prevented directors from being held personally liable for any debts incurred during the normal course of business within a six-month period.

Webb said the obvious concern was that directors would act in bad faith but he also believed there were backstops that would prevent that from happening.

“There are some natural triggers around that. One is suppliers aren’t going to be prepared to provide products or services if they’re not getting some form of reasonable recompense," Webb said.

The law change would also allow electronic signatures to be used on documents and for the registrar of companies to extend filing deadlines for companies, incorporated societies and charitable trusts. 

“These measures will support the Government’s work to cushion the economic impact for New Zealand and to support businesses and protect jobs and incomes,” Robertson said.

“I want to emphasise that these changes will not mean that directors are free to disregard the consequences of their actions for the next six months," he said.

"Other protections in the Companies Act, such as those addressing serious breaches of the duty to act in good faith and punishing those who dishonestly incur debts, will remain in place."

Webb also noted that for every debt delayed, another party would be left hanging without payment for six months.

"That’s the ecosystem that we work in," Webb said.

"If one company can push out for six months then someone else is waiting six month for their receipt,” he said.

Bailey said despite the reprieve, company directors would still have to come up with some way of trading their way out of insolvency. 

"It does keep the wolf away from the door for a certain period of time, but they still have to look at how they’re going to restructure their funding or their cashflow.”

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