International Insolvency Law

Introduction

Insolvency has become a major issue in many companies. A large percentage of the companies have found it hard to pay their debts and this affected the progress of the companies. For instance, huge debts in the organization have led to low productivity in the company. In addition, huge debts have led to decrease in profits in the organization and misconduct of the management. Most of the managers/directors are not able to find the right solutions to problems in the organization and this has hindered the companies from paying their debts. Like other companies in various industries, RBC Construction Company has incurred huge debts and hence affected the success of the company negatively. For example, the company has not been able to repay its debts due to poor decision making process in the organization. The directors in the company were not able to make the right decision after analyzing the company’s financial report. Instead the directors decided to lay off some of the workers and reduce salaries so as to enable the company recover its debts. The director’s actions did not help the company repay its debts, but they led to more harm. This is because the company was put into liquidation in 2009.This paper analyzes the areas of misconduct in the company and how the directors actions would affect them.

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Discussion

Insolvency refers to the inability to pay ones debts as expected. In business, insolvency means the inability of a firm to pay off its debts. There are different types of business insolvency. That is “cash flow insolvency” and “balance sheet insolvency”. The cash flow insolvency results when the company is not able to pay debts as expected. On the other hand, balance sheet insolvency results when a firm has negative net assets. That is if the liabilities in the organization are more than the assets.  Most business can have negative assets on the balance sheet, but it remains cash flow solvent if the money in the organization is able to pay the debts. Most of the firms operate in this state. The firms have no assets, but have cash flow insolvency that enables them to pay the debts. Like other firms, RBC construction limited is insolvent as it is not able to repay its debts as expected. RCB construction limited is a construction company that specializes in sub contractor work. The company has been operating since 2001. The company performed well since it was established, but it was affected by the economic crisis in the country in 2008. The economic crisis had a negative impact on the country’s economy and other industries in the country.

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For example, the 2008 economic crisis affected the housing sector and this in turn affected the construction industry. The 2008 economic crisis led to increase in debts in the company. This is because most of the company’s clients were not able to pay their debts. Since then the company has been not been able to repay its debts (Edward, Miller, Christopher, 2006)[1]. There are various areas of misconduct in the RBC Company. First, the directors allowed the company to continue trading even after realizing that it was not able to repay its debts. The directors in RBC Company analyzed the firms financial report in 2009.The results from the financial report showed that company was not able to pay its debts as required. This is due to lack of enough cash to repay the debts. Though the results indicated that the company was not able to repay the debts, the directors decided to allow the company to continue with its activities (Robert, 1993)[2].

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The directors argued that the company would perform well in 2010 after the housing industry improved. The directors did not act according to guidelines provided in the insolvency law. The insolvency laws in many countries like United Kingdom prevent most businesses to continue trading if they are insolvent. Carrying out business while insolvent is unlawful in United Kingdom. Trading while insolvent can cause various provisions listed in the insolvent act of 1986 (John, 2010)[3]. First, companies that trade while insolvent, trigger the wrongful trading provision that is listed in section 214.Wrongful trading is a kind of civil crime that is found in the United kingdom insolvent law. The wrong trading was developed to enable contributions to be obtained from the people who are responsible for the mismanagement of the insolvent firm. The law benefits creditors as they are able to benefit from the company though it is insolvent. The wrong trading principle was introduced in 1986 to replace the concept of fraudulent trading (Chris, 2004)[4]. Wrongful trading is not a serious crime like fraudulent crime one does not need to have enough profit to show that the company is involved in illegal trading. The wrongful trading results when the directors of the firm decide to continue to trade a company when they know they are not able to avoid insolvent liquidation. In addition, it results when the directors decide to continue trading without considering the harm the activities will cause to creditors. The directors of RBC Construction Company violated the wrongful trading principle. This is because the directors allowed the company to continue trading though they knew it was insolvent. In addition, the directors did not consider how the company could affect creditors. Also, the directors did not look for alternative ways to help the company repay its debts or become profitable (Richard, 2006)[5].

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Moreover, trading while insolvent violates “the transactions at an undervalue”. The transactions at an undervalue are listed in section 238 of the UK insolvency law. Further, trading while insolvent affects the “unfair preference principle”. In unfair preferences, a company can transfer debts to creditors after becoming bankrupt. In addition, a company can pay debts to creditors when becoming insolvent (Andrew &Peter, 2008)[6]. The payment and transfer are always set aside on the application of liquidator as unfair preferences. Different countries have different laws that govern unfair preferences. Though the laws differ from one country to another, a person should be able to prove that the company was insolvent when the payment was being made. In this case, one needs to state whether the company had cash flow insolvent or balance sheet insolvency. Also, one should show that the company went into bankruptcy in a specified time. Stating the factors above helps one set aside unfair preference. In the case above, the directors did not consider how their actions would violate the unfair preference act and how they would affect the company profits and growth. Also, the directors did not consider how their actions could infringe the “Extortionate credit transactions principle”. The principle allows the person holding the office to apply for credit transactions to be adjusted (Kempson &Collard, 2004)[7].

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Additionally, the directors did not devise the right strategies to help overcome the problem, but allowed the company to continue trading which is against the law (Gareth, 2004)[8]. Directors are allowed to allow the company to continue to trade if it is possible to restructure the company. In addition, directors are supposed to allow the company to continue with its business if it is possible to refinance the company and get equity funding to recapitalize the firm (David, 2005)[9]. The directors did not consider restructuring the firm and hence violated the insolvency law in the country. Most of the countries have improved their insolvency laws to allow restructuring of the companies during insolvency. For example, the insolvency laws in United Kingdom have incorporated debt restructuring (Rebecca &Hamish, 2002)[10]. Out of court debt restructuring are becoming common in many countries because of the benefits associated with debt restructuring. Debt restructuring is the most preferred in case of insolvency unlike bankruptcy (Fiona, 2003)[11].

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Debt restructuring allows company facing insolvency to repay its debts and recover. For example, it helps firms facing cash flows difficulties and financial stress to reduce their debts so as to enhance liquidity or restore liquidity in the organization. It also helps rehabilitate the companies and hence allow them to continue with their operations (Eales, 1996)[12]. A report released by Cork indentified various shortcomings of the UK insolvency law and offered some recommendations. Cork argued that the insolvency laws and practice should be modernized so as to help companies overcome insolvency (Goode, 2005)[13]. In his report cork argued that insolvency laws were the only way that commercial morality could be achieved. This is mainly through investigation and disciplinary measures on bankrupt (Finch, 2002)[14]. Cork indentified two principles. First, cork claimed that insolvency laws were treated by trading companies as a way of recovering debts. He also claimed that insolvency laws helped achieve commercial morality in the country (Wood, 2007)[15]. Also, cork provided various recommendations. Cork indicated that most companies in the country were left to collapse due to increase in debts. The companies could be revived and saved from collapsing through restrucring. In his report, cork stated that the insolvency law should promote a rescue culture so as to help firms become profitable and hence meet the needs of the creditors (Marsh, 2008)[16].

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As a result, most countries including United Kingdom have included a restore culture in their laws so as to prevent firms from collapsing when they are not able to repay their debts. The directors of RBC construction limited could have followed the law by encouraging restructuring of the firm instead of contouring to trade (Newton, 2010)[17]. This could have saved the company from collapsing. It could also have helped restore the firm back to profitability and satisfy creditors. The restructuring of dents in the company could have helped improve the cash flow in the organization and avoid liquidation of the company.RBC construction limited did not manage to return to profitability and the  company was put into liquidation in 2011 after a petition filed by HM revenue and customs in December 2010. Lastly, the directors paid themselves a bonus before the liquidation of the company. The directors did not act according to the insolvent law as they did not consider the creditors and other people who had shares in the company. The directors should have consulted the other parties before paying themselves a bonus (Bridge &Stevens, 2001)[18].

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Apart from restructuring the firm, the directors could have looked for a voluntary administration to help determined the future of the company. The voluntary administrator is supposed to manage the company. This makes it easy for the administrator to determine how to overcome financial problems in the organization (Omar, 2008)[19]. In addition, the administrators help manage activities in the organization well so as to ensured the creditors benefit from the firm. Allowing an administrator to manage the company ensures smooth running of the organization and prevents putting the company into liquidation. The board of directors in the company can put the company into voluntary administration when they discover the company is insolvent. Putting the company into voluntary administration has more benefits than allowing it to trade when it is insolvent. First, it helps ensure the company adheres with the insolvency laws in the country. This in turn prevents consequences that result from insolvent trading and poor decisions (Cahir &Law society of Ireland, 2003)[20].

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Robinson and Clive could have put the company into voluntary management by avoiding an administration. This could have prevented increase in debts as the administration could have looked for ways to solve the issue. In addition, allowing the company to be run by an administration could have helped avoid liquidation of the company (Wessels, 2006)[21]. The directors’ actions and misconduct have a negative impact on them. First, allowing the company to continue trading has a negative impact on the directors. First, the directors can be charged for violating the wrongful trading act (Hamilton, 2000)[22]. The wrongful trading legislation oredvents companies from trading if they are insolvent. Directors are supposed to understand the financial information of the company before allowing it to continue trading. Understanding the financial information helps avoid infringing the wrongful trading legislation. The directors can be charged for allowing the company to continue trading though it is insolvent. According to the case study, the directors were aware that the company had no enough cash flow. This is because after analyzing the financial report the directors discovered that the company was not able to continue making profit due to the effect of the 2008 economic crisis (Frieze, 2004)[23].

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The directors are held personally liable for allowing the company to continue trading. This is according to the Wrongful trading legislation in UK. Additionally, the directors are liable for contributing to the firms assets. In this case, the directors are supposed to meet the shortage to unsecured creditors (Symes, 2008)[24]. The directors are held responsible if the financial situation in the company worsens and they are supposed to pay the creditors. Allowing the company to trade if it is insolvent has various impacts on the financial position of the company. First, it can lead to more looses and increase the debts in the organization. It can also lead to liquidation of the company. In the case, the directors actions affected the financial position of the company. Though the directors looked for ways to eliminate the debts and increase cash flow in the organization, the strategies used did not help. This is because the company incurred more debts and was also unable to improve the cash flow in the organization. This led to more problems in the company. Hence, the directors are responsible for the debts (Honds, 2007)[25].

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Apart from worsening the financial situation of the company, the directors are responsible for liquidation of the company. The directors’ decision to continue trading led to financial crisis in the organization and court cases. For example, HM revenue and customs presented a petition in December 2010 and this affected the firm badly. The financial problems and poor decision making in the organization led to liquidation of the firm. Thus, the directors can be charged for contributing to the liquidation of the firm under the wrongful trading act (Northern Ireland.Northern Ireland audit office, 2006)[26]. Further, there are other consequences for allowing a company to trade when it is insolvent. The consequences included civil penalties and compensation proceedings. Other consequences include criminal charges. The corporation act offers support to directors in terms of defense. However, the act does not defend directors if they have not understood the company financial position well. Allowing a company to trade while it is insolvent can lead to civil penalties. The civil penalties result from failing to adhere to the corporation act stated above (Shea, 1999)[27].

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The directors are penalized for their actions and wrong decisions. For example, the directors can be penalized $100,000 or more. In the case presented, Robin and Clive can face civil penalties for failing to comply with the insolvent laws in the country. Robison and Clive did not prevent the company from trading because it was insolvent, but decided to allow the firm to trade after evaluating the financial report. Apart from facing civil penalties, directors who do not comply with the insolvency law, can be forced to pay compensation proceedings (Duns, 2002)[28]. Compensation proceedings are paid to creditors and are used to cater for the funds that the creditors have lost. The compensation proceeding can be started by a liquidator against the directors personally. The directors can also be forced to compensate thud creditors in addition to civil penalties. Robinson and Clive can be forced to compensate the creditors for the money lost and assets. This is after the liquidator starts the compensation proceedings. The creditors in the company incurred huge looses when the company started incurring looses. They also incurred looses after the company was put into liquidation. Hence, the directors have to pay the creditors as stated by the law. The compensation proceedings do not have any limit and can lead to bankruptcy of the directors. This results after the directors are requested to pay huge amount of money to the creditors. Additionally, the compensation proceedings have an impact on the director’s position in the organization. Compensation proceedings can lead to disqualification of the directors (Wessels, 2004)[29].

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In addition to compensation proceedings, the directors can also be charged for criminal offenses. The directors are charged for criminal offenses if they are found to have cheated during the insolvent trading. For example, if the director allows the company to continue trading while insolvent and denies being aware of the financial position of the company. Most of the countries like United Kingdom have prosecuted directors for allowing firms to incur more debts when the firms are insolvent. The directors have been held liable for the debts in the organization. Clive and Robison can be charged for criminal offenses. This is because the directors allowed the company to incur more debts when it was insolvent. The directors were aware that the company was not able to repay its debts due to loose of contractors and also low profits. The directors did not consider the impact their actions had on the firm and this led to more debts and liquidation (McTear, 2004)[30].

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Conclusion

In conclusion, most of the companies are not able to adhere to the insolvent laws established in many countries. This is because the directors do not make ethical decisions and hence affect the companies negatively. For example, the directors in RBC construction limited did not make the right decision after realizing that the company was insolvent. First, the directors in the company allowed the company to trade when it was insolvent. This led to infringement of various seductions of the insolvent law. For example, it led to infringement of the wrongful trading act. The wrongful trading act prevents insolvent firms from trading. The directors infringed the act by allowing the company to trade. They also affected other sections like the unfair preference section. Additionally, the directors did not indentify the right strategies to overcome the issue. The directors could have implemented several strategies to ensure the company does not trade when it is insolvent. For example, the directors could have considered restructuring the company so as to increase profits in the organization. Also, the directors could have allowed voluntary administration in the organization, Voluntary administration could have helped look for ways to repay the debts and manage the company instead of putting the firm into liquidation. The directors’ actions have a negative impact on them. First, the directors can be charged for violating various sections of the insolvent law like the wrongful trading section. It could also lead to the directors be charged with criminal offenses and being forced to compensate the directors.

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Reference

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