Two new criminal offences under the Companies Act 1993
are expected to be in force soon for directors who knowingly cause their
companies serious loss by acting in bad faith towards it or who dishonestly
allow an insolvent company to incur debts.
The offences are being
introduced though the Companies Amendment Bill (No. 4), which passed the
committee of the whole House of Representatives yesterday and is expected to
pass its final reading with cross-party support next week.
The passage of
the legislation has been held up for over 18 months due to concerns that the
proposed criminalisation measures may have a “chilling effect on legitimate
business risk-taking” by directors and the associated work by officials to
modify the drafting to accommodate such concerns.
summarises the new offences, explains how they have been pared back to protect
the honest exercise of directors’ business judgement, and considers their
The global financial crisis prompted a detailed examination
of New Zealand’s company and securities laws. Those reviews led to a suite
of changes to the regulation of financial markets in New Zealand, including the
Financial Markets Authority Act 2011 and, most importantly, the Financial
Markets Conduct Act 2013.
The proposals that emerged from the Ministry of
Economic Development’s Review of Securities Law in June 2010 included
allowing public regulators to enforce directors’ civil duties and creating
criminal offences for breaches of directors’ duties. Public enforcement of
directors’ duties is now possible for public issuers under the Financial Markets
Authority’s new statutory powers. In early 2011 the Government decided it
would create new criminal offences for directors of both private and public
companies. The offences would target intentional breaches of directors’
civil duties to act in good faith and in the best interests of the company
(section 131 of the Companies Act 1993), to avoid carrying on the business of
the company in a manner likely to create a substantial risk of serious loss to
creditors (section 135), and to not allow the company to incur an obligation
unless the director reasonably believes that the company can perform the
Although the Cabinet proposals encountered scepticism and
opposition by academics1 and lawyers, the Government
proceeded with the proposals under the Companies and Limited Partnerships
Amendment Bill, which was introduced in October 2011. As introduced, the
offences would have created criminal liability for a director who breached:
- section 131 (relating to the duty to act in the best interests of the
company) knowing that the conduct was seriously detrimental to the interests of
the company; or
- section 135 (relating to reckless trading) knowing that the conduct will
result in serious loss to the company’s creditors.
Those proposals encountered significant resistance from the Law Society,
commercial firms such as Bell Gully, leading academics, and market participants,
who expressed concern that the proposals were overreaching and
The Select Committee indicated it would support further
consideration of the drafting of the new offences to "ensure that the
provisions are expressed in a way that provides clear guidance to directors and
does not have a chilling effect on legitimate business risk-taking."2 The proposals have since been pared back by
successive supplementary order papers in November 2013 and June 2014.
The new Companies Amendment Bill (No 4),
which was previously part of the Companies and Limited Partnerships Amendment
Bill 2011, will amend the Companies Act to create two new criminal
- Offence for serious breach of a director’s duty to act in good faith and
in the best interests of the company
It will be an offence for a director to exercise powers or perform duties in
bad faith towards the company, believing that such conduct is not in the best
interests of the company, and knowing that the conduct will cause serious loss
to the company.4 This will be a new standalone offence
under section 138A of the Companies Act.
- Offence for dishonestly allowing an insolvent company to incur
It will be an offence for a director to dishonestly fail to prevent the
company from incurring a debt when the director knows that the company is
insolvent or will become insolvent by incurring the debt. This offence
will be incorporated into the existing provision for carrying on business
fraudulently under section 380 of the Companies Act.
Both offences will
be punishable by up to five years’ imprisonment or a fine of up to
Both new offences target
conscious wrongdoing and contain higher mental thresholds than the civil
standards on which they were initially based. This is appropriate.
In this context, the criminal law should strike at dishonesty and, as the Select
Committee recognised, provide comfort to honest directors that they will not be
exposed to criminal liability for honest business judgements and
risk-taking. It is also appropriate in this context that criminal
liability should be tied to the wrongful motivations for the impugned conduct
(that is, the bad faith or dishonesty) rather than the seriousness of the
The new offence under section 138A is narrower in scope
than the equivalent Australian provision in section 184 of the Corporations Act
2001 (Cth). Under Australian law, criminal liability can be imposed for
recklessness, as well as intentional dishonesty. In this instance, it is
desirable that New Zealand has cast the net less widely than Australia.
The Companies Act is intended to facilitate the social and economic benefits
that follow from the taking of business risks and allowing directors a wide
discretion in matters of business judgement. Those public interests would
be poorly served by an unduly punitive regime that incentivises directors (and
particularly independent directors) to resign when their company faces trouble,
to take disproportionately conservative action at the expense of the business,
or to expend the company’s resources wastefully on unnecessary external advisers
to safeguard their personal positions. The risks of imposing unduly tough
standards of criminal liability were acknowledged by the Hon. Craig Foss,
Minister of Commerce, and the opposition spokesman, the Hon. David Parker,
during the Parliamentary debate on the most recent supplementary order paper to
the Bill on 17 and 18 June 2014.
The new offence for allowing an insolvent company to incur debts is no longer
meaningfully tied to directors’ civil duties regarding continued trading.
Rather, the language of the new offence is modelled on an Australian provision:
section 588G(3) of the Corporations Act 2001 (Cth). The way in which the
offence has now been framed makes it a subspecies of the rules relating to fraud
on creditors. Again, that is a welcome change due to the vagaries
associated with the section 135 prohibition on reckless trading, which make it
an unsuitable foundation for a criminal offence.
In relation to both new
offences, the thresholds of dishonesty, bad faith, knowledge, and belief should
protect honest directors. To that extent, the Government has achieved its
objective of introducing criminal offences for serious breaches of directors’
duties in a manner that should not have a chilling effect on honest
It is unclear that the new offences will add much to the
existing suite of laws that prohibit such serious misconduct; including, for
example, carrying on business fraudulently,5 the making
of false or misleading statements in documents required under the Companies
Act,6 causing loss by deception,7 or theft in a special relationship.8 It is
also unclear why there should be a Companies Act offence, under the new section
138A, targeting directors when other agents or fiduciaries do not face
comparable criminal liability. The need to press forward with these
reforms in the face of such doubts may be best explained by the fact that
traumatic economic downturns such as the global financial crisis often create
political incentives to be seen to respond decisively by committing to
legislative change and then following through on such commitments.9 Market participants should therefore welcome the tempered scope of
the new offences, given the current political imperative to pass criminalisation
measures of some kind.
This publication is necessarily brief and general in nature. You should seek professional advice before taking any action in relation to the matters dealt with in this publication.