Slovakia: Likelihood of Insolvency and New Directors’ Duties

One of the aims of Directive (EU) 2019/1023 on preventive restructuring frameworks, on discharge of debt and disqualifications, and on measures to increase the efficiency of procedures concerning restructuring, insolvency and discharge of debt is to set common standards for directors’ duties in case of a likelihood of insolvency of their company as debtor. Based on Article 19 of the Directive, even at this stage the directors are to take into account the interests of creditors, equity holders and other stakeholders and they are to take steps to avoid insolvency.

According to current Slovak legislation a debtor company is obliged to avoid insolvency and in case of its likelihood is obliged to take suitable and proportionate measures to prevent it. In principle, the debtor has to follow its economic development so as to identify at an early stage the risks which could lead to insolvency. Slovak Act No. 7/2005 Coll. on insolvency and restructuring contains a specific reference to the provision of the Commercial Code dealing with the threat of insolvency. This provision operates with over-indebtedness as a definition factor for such a threat.

However, the draft legislative paper for implementation of the Directive into the Slovak legal environment extends the definition of a threat (likelihood) of insolvency to the threat of inability to pay off debts. This is designed as a state where – with regard to all circumstances – it can reasonably be assumed that within the next 12 months the debtor will be insolvent (unable to pay off debts). Considering that the over-indebtedness factor depends largely on the debtor´s way of presenting its economic results, while inability to pay off debts is a matter of plurality of creditors and their claims, clearly the latter insolvency factor can be more pressing for the debtor.

As to the new duties of the directors of a debtor company, it is proposed that once a debtor is listed as a debtor in public registries (e.g., tax or social security authorities), this amounts to an early warning signalling there might be a likelihood of insolvency – the debtor will in that case be obliged to verify it. If the directors of the debtor company do not possess the necessary qualifications (e.g., an economics background), they will be obliged to search for an expert to assess the likelihood of insolvency. The point is that they cannot escape liability just on the ground that they do not have enough expertise to see all the risks. In addition, the draft paper directly provides that in the case of likelihood of insolvency the directors have to take the interests of creditors, equity holders and other affected stakeholders into account.

The big question naturally arises, namely: Who will be eligible to raise liability claims against the directors based on violation of these duties? The draft paper tends rather to the principle of internal liability of the directors to the company (debtor), not to the creditors. As for the creditors, there might be an interesting task of identifying the directors´ negligence at the early stages leading ultimately to insolvency of the debtor. Such findings could better justify their liability claims. It is clear that according to the new rules the directors will have to pass stricter duty-of-care tests to escape liability.

However, the overall effects of the new legislation will certainly depend on interpretation by the courts. The much-desired outcome of early tackling of financial difficulties by debtor companies and their directors will only be reached when the courts develop transparent and predictable case-law to these rules. Speaking for Slovakia, a strong and enforceable legal ground for assessing the close-to-insolvency liability of directors and subsequent claims by creditors is very welcome.

Sources:

Draft legislative paper for implementation of the Directive (EU) 2019/1023 on preventive restructuring frameworks.

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