ASIC National insolvent trading program report and ASIC Duty to prevent insolvent trading: Guide for directors

In the last six months ASIC has released the National insolvent trading program report and the Duty to prevent insolvent trading: Guide for directors

Both the report and the guide are aimed at directors of companies, company advisers (including accountants and lawyers), insolvency practitioners and liquidators to assist them in understanding and complying with their duty under the Corporations Act to prevent insolvent trading.

National insolvent trading program report

During the period 2006 to 2010, ASIC visited 1533 companies showing signs of financial distress in order to provide an awareness of director duties, to assist directors to indentify insolvency indicators and to encourage directors to seek advice from an insolvency professional where significant insolvency indicators were identified.

Key messages

ASIC has identified four key messages from the National insolvent trading program (NITP) that it believes if followed by a director, will result in that director being less likely to breach their duties under the Corporations Act. The key principles are:

• maintain appropriate books and records;
• identify insolvency concerns and assess available options;
• seek professional advice; and
• act in a timely manner.

Indicators of potential insolvency

ASIC stated that approximately 15% of the companies reviewed under the NITP resulted in the appointment of an external administrator and in all these cases the insolvency indicators were substantial. The report cites figures from the 2009-2010 financial year that estimated dividends of less than 10 cents in the dollar to unsecured creditors were likely in 97% of external administrations and ASIC stressed that directors seek the appointment of an external administrator as soon as significant insolvency concerns are indentified.

Examples of indicators of potential insolvency provided by ASIC are:

Internal indicators

• the company is experiencing cash flow difficulties;
• creditors are not being paid on agreed trading terms;
• the company is not paying its taxes when due;
• the company is unable to produce accurate financial information on a timely basis that shows the company’s trading performance and financial position.

External indicators

• legal action is threatened or has commenced against the company;
• the company has reached the limits of its funding facilities and is unable to obtain appropriate further finance.

Duty to prevent insolvent trading: Guide for directors

The guide sets outs the legal duties of a director to prevent insolvent trading and identifies the key principles which ASIC considers directors should follow to meet their obligation to prevent insolvent trading.

Of particular note is the key principles that directors should consider in carrying out their role and the factors that ASIC will take into account in assessing whether to bring proceedings against a director for breach of their duty to prevent insolvent trading.

Key principle	Factors ASIC take into account
Directors must remain informed	Whether the director monitored the financial affairs of the company and made sufficient inquiries into its financial affairs on a regular basis.
	Where the director relied on a third party to provide information about the solvency of the company, whether the director made diligent and timely inquiries of them.
Directors should investigate financial difficulties	Whether there were indicators of potential insolvency that a reasonable person would have taken into account in determining whether the company was insolvent.
	Whether the director took positive steps to confirm the company’s financial position and realistically assess the options available to deal with the company’s financial difficulties.
Directors should obtain advice	Whether the director sought advice immediately on identifying concerns about the company’s viability.
Directors should act in a timely manner	Whether the director knew, or had reasonable grounds to suspect, that the company was not able to meet its debts, whether the director took active, timely and genuine steps to prevent the debt being incurred.

Comments

As the guide makes clear, the actual steps required of a director to comply with their duty to prevent insolvent trading will depend on such factors as the circumstances of the company, the size and complexity of the business and the skill and experience of the company’s management and staff.

However these two publications provide a useful summary of the essential knowledge for directors, company advisers (accountants and lawyers), insolvency practitioners and liquidators as well as providing a valuable first point of reference in the event of any insolvency concerns.