Becoming a director of a company is as easy as signing a few forms. But the duties and responsibilities that underpin that role are reason to pause and reflect on what’s involved.
A well-known but little-understood duty of directors is to maintain a sound knowledge of the company’s finances and, in particular, to know whether the finances are in good shape. It is no defence to put your head in the sand and have the view that the finances were someone else’s responsibility. The Courts are clear that you, as a director, need to have turned your mind to, and have been satisfied of, the company finances.
The Corporations Act 2001 (s588G), states that a director has a duty to prevent insolvent trading by a company. In this context, a company is held to be insolvent if it is unable to pay its debts at the time when they become due and payable.
A breach of the duty under s 588G will often result in the director’s incurring a penalty which could be very high, or being found personally liable for the company’s debts.
How do I know?
In the case of ASIC v Plymin (2003), Justice Mandie in the Supreme Court of Victoria provided further qualification by identifying a number of factors or signs pointing toward the existence of an insolvent company. These included:
- Continuing losses;
- Liquidity ratio below 1;
- Overdue Commonwealth and state taxes;
- Poor relationship with present bank including inability to borrow further funds;
- No access to alternative finance;
- Inability to raise further equity capital;
- Suppliers placing the debtor on COD terms, or otherwise demanding special payment before resuming supply;
- Creditors unpaid outside trading terms;
- Issuing of post-dated cheques;
- Dishonoured cheques;
- Special arrangements with selected creditors;
- Solicitors’ letter, summons(es), judgements or warrants issued against the company;
- Payments to creditors of rounded sums, which are not reconcilable to specific invoices;
- Inability to produce timely and accurate financial information to display the company’s trading performance and financial position to make reliable forecasts.
What do I do if I am concerned
This is the million dollar question; it will depend on the circumstances. What you cannot do, though, is nothing. The other directors, the CEO, your company’s accountant and your lawyer should be the first points of call. A problem shared…..
Generally, you will need to consider what steps can be put in place to regain control of the company’s finances which could include appointing an external administrator or liquidator.
If your company’s finances are troubling you, contact our Commercial Disputes team today.