Following the UK Supreme Court decision in Sequana1 at the end of 2022, the New Zealand Supreme Court has now weighed in on the issue of the duties owed by directors of a company in the zone of insolvency in a long-running case involving the liquidation estate of Mainzeal Property and Construction Limited.2
As directors around the world grapple with difficult and uncertain times arising from various macro-economic factors, these decisions provide useful and timely guidance on the approach that directors should take to protect themselves and the companies they manage.
This may mean taking advice in relation to ceasing to trade, trying to enter into restructuring support agreements or appointing officeholders to assist. In the Cayman Islands, the new restructuring officer regime provides a helpful framework to provide breathing space for directors to facilitate and implement a viable plan in appropriate circumstances.
This latest decision in Mainzeal is yet another reminder of the severe consequences which may result from company directors failing to take advice and appropriate action.
Mainzeal was a leading property development and construction company, which was incorporated in 1987. From 2005 onwards, the firm was balance sheet insolvent. From 2009, Mainzeal began facing substantial claims which the Supreme Court said "posed a substantial risk" to the company's solvency. In the period between 2008 and 2013, Mainzeal was a loss-making business and continued to trade on the basis of certain alleged assurances of financial support.
Receivers were appointed on 6 February 2013 and court-supervised liquidation commenced on 28 February 2013. When faced with reckless trading claims, the three director defendants and their insurance company denied wrongdoing.
The liquidators were successful at first instance, Court of Appeal and Supreme Court level. Ultimately, the directors have been ordered to contribute NZ$39.8 million (together with interest and costs) to the assets of the Mainzeal estate.
The full New Zealand Supreme Court decision is here.
Practical guidance and takeaways
In a previous article (here), we listed some takeaways from the Sequana decision and they are summarised again as follows:
- It is now firmly established that directors have a duty to have regard to and/or act in accordance with the interests of creditors in certain circumstances.
- The general rule that directors owe fiduciary duties to the company (i.e. shareholders as a whole) is modified where "the directors know or ought to know that the company is bordering on insolvency or an insolvent liquidation or administration is probable." This is the point at which the duty to consider the interest of creditors arises.
- The creditors' interest duty is subsumed in the fiduciary duties owed by the directors to the company and is not a free-standing duty owed directly to the creditors.
- Directors are required to engage in a balancing exercise of the shareholders' interest versus the creditors' interest based on the financial position of the company.
- The creditors' interest duty is justified on the premise that their financial and other interests become paramount as the company enters the zone of insolvency.
The following practical points might be added to that list, based on more recent guidance from the New Zealand Supreme Court in Mainzeal:
- There is a strict requirement for directors to assess and continue to reassess the financial position of the relevant company on a regular, ongoing basis.
- It may be appropriate for directors to threaten to resign or to put the company into liquidation as a method of achieving necessary change, if such directors are being blocked by other controlling stakeholders.
- It is not acceptable for directors to allow a company to continue to trade while balance sheet insolvent, unless there is clear evidence of sufficient support which is able to be relied upon.
- The Court will carry out an objective assessment of a director's actions based on what they should have known, as opposed to what they did know or did appreciate at the relevant time.
- Obtaining expert evidence from reputable advisers at an early stage is vital and should be used to assess potential exposure for creditors of the company. The Court may be more lenient if the directors take measured and deliberate steps to put in place plans to try to avoid further damage.
Although UK Supreme Court and New Zealand Supreme Court decisions are not binding on the Cayman court, they are likely to be highly persuasive. The clear message is that it is not acceptable to ignore warning signs and hope for the pressure to ease. By taking sensible and proactive steps, based on expert advice, directors will be less likely to be criticised and exposed to liability when their actions are analysed with the benefit of hindsight.
Conyers advises directors, companies and stakeholders in relation to these issues in the Cayman Islands, Bermuda and British Virgin Islands. In recent times, we have successfully restructured debt, appointed officeholders, settled claims and brought proceedings in connection with distressed offshore entities. We specialise in analysing, bringing and defending actions involving director's duties. We look forward to speaking with you and helping to find the right solution from your unique perspective.
1. BTI 2014 LLC v Sequana SA and others [2022 UKSC 25]
2.  NZSC 113
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.