On 25 August the Supreme Court released its decision on the Mainzeal directors’ liability after its collapse in February 2013. The events might have happened a decade ago, but the issues are just as relevant to today’s directors. The Court recognised this and has helpfully summarised the law and the implications for the business community – especially directors of distressed companies.
This is a down to earth summary of the decision. Please let us know if you would like a copy of the decision: [email protected]
Here are the basic background facts for anyone who is not aware of them:
- Mainzeal started life in 1987. It was a large NZ construction company and was part of a larger group listed on the NZ Stock Exchange as Mainzeal Group. It became part of an international investment group in 1995. Its ownership changed to a Bermuda-listed company and its financial affairs became intermingled with the new group. The construction company was no longer a New Zealand-owned company.
- From 2004, it got its own board of 4 directors, including Dame Jenny Shipley and Richard Yan who represented the investment group-owner.
- For about the next 8 years, Mainzeal traded under financial strain. It did not have enough capital. It was rarely profitable. It sent a lot of money to the group and occasionally got less money back. The directors were personally not comfortable and understood the company was in difficulty – but they were told that the group would help Mainzeal if need be. And sometimes that happened.
- But when it came to the crunch, the group told Mainzeal it needed to stand on its own two feet – and it could not. So it collapsed, leaving creditors owed many millions.
The Supreme Court found the directors had breached their duties under the Companies Act 1993 in several ways. Here are some direct quotes to give you a flavour of the judgment:
Mainzeal had a history of not being able to accurately predict its future trading … Mainzeal failed to meet its budgeted EBIT figures every year between 2006 and 2012.
If tax losses could not be utilised, then they could not properly have a value attributed to them in the accounts.
…common sense suggests that [the parent company’s] letters of support could not provide much assurance that Mainzeal remained a going concern.
…directors are required to have at least substantial regard for the interests of creditors…
…Mainzeal’s board papers and minutes indicate an extremely operational focus. They are not indicative of much attention being paid to broader strategic issues the company faced … there was no taking stock of the kind we would have expected.
A lot of evidence came from the old emails, board papers and minutes. We are sure that the directors will have been very uncomfortable with this evidence review. As always, make sure that board minutes are carefully considered and checked.
The court case was brought by the liquidators, rather than any individual creditors. There were a lot of legal arguments and the Supreme Court looked at a wide range of topics including history of the Companies Act 1993, the law in other countries and the public policies which underpin the law. Interesting stuff for lawyers (and our own ex-lawyer Giselle!) and insolvency professionals. But many of the finer points will feel like legal wrangling to most people.
It was good to see that the Court’s decision deliberately translated these legal niceties into plain language advice for directors. Our summary is that directors must:
- Monitor the performance and prospects of their organisation, not just at a single point in time but on a continuous basis. (This is one of the key 4 pillars of best practice governance according to NZ’s Institute of Directors: “holding to account”.)
- Squarely address the organisation’s future if there are concerns about adverse factors or solvency. It is not enough to hope for the best. The directors must consider whether there is a reasonable basis for their strategic decisions and use their skills, take care and be diligent.
- Bring “healthy scepticism” to your work as a director. If there is a history of not achieving targeted results or cashflow forecasts, pay attention and discount the reliability of forecasts.
- Take care in 2 special areas:
a. how will creditors as a whole be affected by your decisions? Take care not to create a substantial risk of serious loss to them.
b. Do not enter into new obligations if you do not have a reasonable basis for believing the organisation can meet them in the medium or long term. - Get independent expert advice, from people independent of the company. Think lawyers first (to gain the rightful protection of legal privilege). Then other relevant experts.
- Use an audit and/or risk committee where needed. It is very surprising that Mainzeal did not have either committee or any oversight of risk at the board table.
- Take the time they need to prepare and execute a realistic plan – but not too much time so that others are put at risk. Use this time wisely.
- Keep monitoring progress against the plan, particularly about the position of creditors and entering any new contracts or commitments.
- Act reasonably, bringing objectivity into play. Directors don’t have the right to use their own opinion if it is too subjective or not based on reasonable grounds. Use your judgement – sure – but with reasonable skill, care, and diligence.
- Finally, act on the advice given! It is no defence to say you took advice if you did not do anything with that advice.
The Court said clearly: “Directors of a company in financial difficulty face uncomfortable choices … it is undesirable for a company to trade on [… when …] those who deal with it in the future are exposed to substantial risk of serious loss.”
Grounded’s team can support boards in challenging times. It is vital to get the whole board team on the same page so that they can use their skill, care, and diligence together, to make the best possible choices for their organisation and its creditors. Our confidential workshops and/or coaching can help so please get in touch.