WHAT IS THE TWILIGHT ZONE?
Under Section 66 of the Insolvencyand BankruptcyCode, the director ofa companythathas entered the process of insolvencyresolution could be held liable for fraudulent or wrongful trading, preferential transactions, concealment ofpropertyor undervalued transactions considered prejudicial to the interest of the creditors
Regular transactions that date back 12 months prior to commencement of the insolvency resolution process. This period could extend up to two years for related-party transactions due-diligence in minimising the potential loss to creditors
Penalties prescribed under the Code: Punishable with imprisonment for a term of three to five years; fine ranging between ~1 lakh and ~1 crore, or both breach of trust. However, a company can include an indemnity in favour of directors within its Articles of Association in respect of any liabilities, costs, charges and expenses incurred in execution and discharge of their duties. However, no indemnity or insurance is available in respect of fraudulent trading, adds Batra.
Obtaining Directors and Officers (D&O) insurance cover is not mandatory under law. However, it is becoming a popular tool to mitigate some of the risks that independent directors (IDs) are exposed to. “The extent of protection available to IDs would vary case-to-case, depending on the type and extent of the D&O cover,” says Venkateshwaran.
Experts say to satisfy their legal obligations, directors should keep the company’s position under constant review when in the zone of insolvency. They have to ensure that action taken by the company is not contrary to the best interests of the creditors. “Sometimes, timely advice from an insolvency expert can prevent serious consequences for directors and the enterprise at a later time,” says Batra.
Lawyers may be consulted to determine whether any proposed transactions are inappropriate and could be the subject of scrutiny or expose the decision maker to risk. Directors must consider the company’s financial situation before incurring further liabilities or agreeing to large compensation or pension packages for departing management, adds Batra.
As a confidence-building measure, directors should keep major creditors and investors informed of their actions, suggest insolvency professionals. Directors of listed companies should ensure they make the appropriate disclosures regarding going concern status and the liquidity risks, they add.
Regular board meetings should be held as soon as the directors become aware that the company might be in financial difficulties. Legal experts say directors should insist on detailed minutes of these meetings and their discussions. If a director is not satisfied with the operations of a company, he or she may as a final step consider resigning from the board. However, “resignation ahead of the insolvency process does not absolve the directors of any liability/penalty relating to their actions”, says Venkateshwaran.
“A director has to demonstrate that he or she acted diligently, including documenting decisions that do not have his or her consent or connivance,” he adds.