Companies (Exemption)(No.2) Order 2020: Implications And Impacts

May 27, 2020

The COVID-19 pandemic has brought about social, health, financial and economic devastation across the globe, and Malaysia is no exception. In fact, the responses from the businesses which participated in the Special Survey Effects of COVID-19 on Economy and Companies/Business Firms conducted online indicated that 53.4% of such businesses can only survive for 1 to 2 months if they continue to provide full-paid or half-paid leave to their employees during the Movement Control Order (MCO).

The Government in acknowledging the escalating adverse economic effects of the COVID-19 pandemic which will cause business closures and job losses, has introduced various stimulus packages and countermeasures and one of such measures is the Companies (Exemption) (No.2) Order 2020 [P.U.(A) 123/2020] (Exemption Order).

Section 466(1)(a) Of The Companies Act 2016 (CA 2016)

Under the CA 2016, a company is deemed to be “unable to pay its debts” under three (3) scenarios, as provided for under Section 466(1) of the CA 2016. A winding-up proceeding is most commonly brought against a company when it is “unable to pay its debts” to its creditor(s) within a prescribed period of time, in accordance with Section 466(1)(a) of the CA 2016.

Pursuant to Section 466(1)(a) of the CA 2016, when a company is indebted in a sum exceeding RM10,000 to a creditor, the creditor may send a notice of demand to the debtor company for such sum. Upon being served with the notice of demand, the debtor company has 21 days to:

(i) pay its debt; (ii) secure its debt; or (iii) compound its debt to the satisfaction of the creditor.

If the debtor company fails to do so within the 21 days’ time limit, a statutory presumption that the company is unable to pay its debt or is insolvent will arise,3 and the creditor may then file a petition for a court order to wind up the debtor company.

Extension Of Time Period

Paragraph 3 of the Exemption Order essentially exempts all companies from the application of Section 466(1)(a) (as stated above).

Further, paragraph 4 of the Exemption Order provides that a company will be “deemed to be unable to pay its debts under paragraph 466(1)(a) of the Act” if the company neglects any notice of demand by any creditor to:

(i) pay its debt, (ii) secure its debt or (iii) compound its debt to the satisfaction of the creditor “within a period of 6 months after the notice of demand is served on him”.

The Exemption Order has effectively substituted the 21-day period given to debtor companies for payment of debts under Section 466(1)(a) with an extended period of 6 months.

Increase Of Debt Threshold

In addition, the Exemption Order, read together with the direction issued by the Minister (Direction) has increased the threshold required for a creditor to file a winding-up petition against a debtor company from RM10,000 to RM50,000 and this new threshold shall apply to notices of demand served on debtor companies for the period from 23 April 2020 up to 31 December 2020.

Cumulative Effect Of The Exemption Order

All in all, the cumulative effect of the Exemption Order coupled with the Direction is as follows:

i. First, a creditor may issue a notice of demand to a debtor company if the company is indebted in a sum exceeding RM50,000 to the creditor;

ii. Secondly, such debtor company will be presumed to be “unable to pay its debts” if it fails to respond within a period of 6 months after a notice of demand is served on him; and

iii. Thereafter, the creditor is entitled to present a petition for a court order to wind up the debtor company under Section 465(e) of the CA 2016, within a further period of 6 months.

Applicability Period Of The Exemption Order

Both the Exemption Order and the Direction take effect from 23 April 2020 and will remain in force until 31 December 2020.

Consequently, if a statutory demand was served on a debtor company by a creditor before 23 April 2020 or is served after 31 December 2020, the creditor is entitled to file a winding-up petition if the debt owed by the debtor company is in excess of RM 10,000 and the usual 21 days’ statutory demand period for payment of debt under Section 466 (1)(a) will apply.

Effect On Debtor Companies

Overall, the change brought about by the Exemption Order should be applauded, as it gives breathing space to debtor companies – that is to say, it temporarily shelters debtor companies from being served with winding-up petitions when they face cash flow issues during and post-MCO. During this period of time, business owners who are cash flow negative may look for solutions to address their financial problems and pull themselves out of such insolvent situations. For instance, they may resort to debt restructuring mechanisms, refinancing and reducing their operational costs (e.g. by imposing pay cuts or downsizing their office premises) to stay afloat during this economic crisis.

Effect On Creditors

• Postponement of rights to wind up company

While the Exemption Order has, to a certain extent, alleviated the plight of business owners, it has conversely delayed the rights of creditors to wind up insolvent companies and call in their assets for the satisfaction of debts. The extended duration of time (6 months instead of 21 days) for debtor companies to repay their debts may also cause debtors to incur additional debts and further depleting their assets, thereby prejudicing creditors’ interests.

• Legal rights

Notwithstanding the aforesaid, the legal rights of creditors under Sections 466(1)(b) and (c) remain intact and as such, a creditor:

(a) who has entered or obtained a judgment against any debtor company may enforce such judgment and, if the execution process does not fully satisfy the judgment sum, it may proceed to present a petition for the winding-up of the debtor company; or

(b) may file a petition to wind up a debtor company upon proving to the satisfaction of the Court that the debtor company is unable to pay its debts. It is to be noted that the creditor bears the burden of presenting cogent facts and evidence to show that the debtor company is insolvent.

• Contractual rights

Contractual rights of creditors remain unaffected by the Exemption Order. Creditors are still permitted to issue notices of demand for debts below the threshold of RM50,000, institute legal proceedings against debtor companies for its failure to repay debts regardless of the amount of debt and enforce judgments obtained against judgment debtors by way of garnishee proceedings or writs of seizure and sale. Financial institutions are not prevented from continuing to impose interests and late charges in accordance with the terms of their loan agreements for any late payment by the debtors/borrowers.

Conclusion

The extended period of time for companies to repay their debts brought by the Exemption Order is welcomed, but may be considered inadequate as debtor companies are still exposed to other forms of legal actions being instituted against them for their delay or inability to repay their debts as mentioned above.

On this point, reference can be made to the COVID-19 (Temporary Measures) Act 2020 (Singapore COVID-19 Act) passed by the Singapore government. Specifically, under Section 5 of the Singapore COVID-19 Act, if a party to a “scheduled contract” is unable to perform an obligation in the contract which is required to be performed on or after 1 February 2020, the other party to the contract is, inter alia, barred from commencing legal action in the courts for such non-fulfilment of contract for a prescribed period of 6 months (commencing on 20 April 2020 and up to 19 October 2020) “if that inability is materially caused by a COVID-19 event”.

The business community in Malaysia has recommended that similar temporary relief for inability to perform contracts should be introduced by the Malaysian government to ensure that the financial aid via the stimulus packages provided to business owners in this respect will be more effective and holistic to assist businesses to survive the crisis caused by the COVID-19 pandemic.

A key point to note is that the Exemption Order effectively allows directors of debtor companies to continue trading during the 6-month statutory notice period in spite of the insolvent state of the company. However, this would place the directors at the peril of being alleged to be carrying on business of the company “with intent to defraud creditors” under Section 540 of the CA 2016, and potentially being held personally liable for the debts of the company. This anomaly should be addressed in the proposed COVID-19 legislation, if any, to be passed by the Malaysian government, as evinced in the Singapore COVID-19 Act.

In the past, the Court of Appeal has ruled that if a company continues to carry on business and incur debts at a time when there is to the knowledge of the directors no reasonable prospect of the creditors ever receiving payment of those debts, an inference may be made that the company was carrying on business with intent to defraud’.

It would be prudent for companies facing liquidity issues to take advantage of the extension of time brought by the Exemption Order including but not limited to reviewing their existing contracts, assessing the current status of performance or non-fulfilment of such contracts and proposing win-win solutions for parties to consider adopting, exploring ways to carry out debt and corporate restructuring exercises at an early stage and avoid facing a deluge of winding up proceedings being instituted against them by creditors after 31 December 2020.