If a company is failing or in financial trouble and feels it has more value to give, it might be tempted to consider cutting its losses and starting again with a new company with the same (or similar) name, look and feel. However, incorporating a new company with a similar name that trades in the same business or industry may not be the answer as there are strict rules surrounding what is known as a “phoenix company”. As the name suggests, a phoenix company depicts a failed or financially unstable company reinventing itself and ‘rising from the ashes’.
What the law says
The laws regulating phoenix companies in New Zealand were introduced into the Companies Act 1993 (Act) in 2007. The Act defines a phoenix company as a company that, at any time before, or within five years after the commencement of the liquidation of a failed company, uses the same or a similar name as the failed company that went into liquidation (this includes a trading name or a name that otherwise suggests an association with the failed company).
The starting position under the Act is that, unless a legislative exception applies, a director of a failed company cannot:
- Be a director of a phoenix company;
- Be concerned in or take part in the promotion, formation or management of a phoenix company; or
- Be concerned in or take part in the carrying on of a business that has the same name as the failed company’s pre-liquidation name or a similar name.
What the law allows
These provisions are clearly aimed at preventing people from abandoning an old company, with its associated debts, disputes and claims, and instead effectively carrying on the same business in a new entity, while leveraging off the goodwill in the company name but without satisfying those unpaid debts and unresolved disputes. It is therefore important to note that the prohibitions regarding phoenix companies only apply to companies that were liquidated when they could not pay their debts. The restrictions do not apply in the case of a solvent liquidation (as in those cases creditors will have suffered no loss). The provisions also do not apply where the new company has a completely different name (and trading name). There are also some other limited exceptions.
The risk to directors
A person who contravenes these provisions and becomes a director (or involved in the management) of a phoenix company can be found personally liable for certain of the debts of the phoenix company. They can also face criminal liability. Therefore while the scope of the restrictions is fairly narrow, the consequences of contravening them can be significant.
It is important to note that section 386A of the Act does not require proof of wrongdoing or intent to defraud and therefore anyone considering incorporating a company with the same or similar name or business undertaking of a failed/failing company should seek legal advice.
We also suggest caution when it comes to disposing of assets in the case where the selling company is in some financial distress. Directors need to take extra care to ensure that any sales are conducted at a fair value so that they are not depriving shareholders of value and are not unfairly preferring certain creditors over others where that would not be the case in a liquidation.
If you would like to know more about phoenix companies or your business structuring options, please get in touch with our Business Law Team.
Business Law Team
Gerard Dale, Claire Evans, Graeme Crombie, Evelyn Jones, Anna Ryan, Joelle Grace, Peter Orpin, Ellen Sewell, Matt Tolan, Carlo Wan, Kristina Sutherland, Jacob Nutt, Whitney Moore, Alex Stone, Ben Cooper
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