When Directors stop talking: how director disputes can trigger insolvency risk

I once worked on a matter involving a mining exploration company where a professional accountant on the board strongly pushed for the appointment of an external administrator. The remaining directors refused to support the move, the relationship deteriorated, and the director resigned shortly before the company ultimately entered administration.

In the meantime, the company continued to incur debts.

It was a reminder that in many distressed businesses, one of the earliest warning signs of insolvency is not always found in the financials. Often, it starts with a breakdown between directors.

These disputes can quickly escalate into governance failures, delayed decision-making and increasing financial risk. By the time an external administrator is appointed, trust may have collapsed entirely, and directors are no longer aligned on the company’s future.

The warning signs

One of the earliest signs is restricted access to information. I’ve worked on matters where one director controlled access to:

• bank accounts
• the ATO portal
• accounting platforms such as MYOB and Xero
• creditor correspondence and cash flow reporting

In some cases, the “frozen out” director had little visibility over the company’s true financial position until much later in the process. That lack of transparency can have serious operational and legal consequences.

We also regularly see disputes delay restructuring decisions or external appointments altogether. In some matters, shareholders were unable to agree on the appointment of an administrator, resulting in companies entering voluntary administration when a direct liquidation may have been more appropriate – increasing costs for all stakeholders.

These disputes are particularly common in:

• 50/50 ownership structures
• family-run businesses
• husband-and-wife director arrangements
• competing shareholder factions

In these situations, directors can become more focused on internal disputes than the company’s deteriorating financial position. Meanwhile, the business may continue trading, incur further liabilities and reduce the restructuring options available.

In more extreme cases, prolonged disputes and governance paralysis can ultimately lead to Court intervention – including creditor-driven winding-up applications under Section 459P of the Corporations Act or, in some circumstances, “just and equitable” winding-up proceedings where relationships between directors or shareholders have irretrievably broken down.

When governance breaks down

Where there are warring factions, significant time and costs can be spent managing disputes and competing narratives around the company’s position. In solvent liquidations involving shareholder disputes, this can materially increase liquidation costs without improving outcomes for members.

Another recurring issue is deteriorating books and records. Once trust breaks down, financial reporting can become inconsistent or incomplete. Allegations may arise regarding:

• related-party transactions
• undocumented director loans
• movement of company funds to associates
• selective disclosure of financial information

These matters are often difficult, costly and time-intensive to investigate.

I’ve also seen situations where directors seek separate accounting or legal advice after trust in the existing adviser relationship deteriorates, further fragmenting decision-making at a time when timely action is critical.

Resignation does not always end exposure

Importantly, resigning as a director does not always end potential exposure.

I have worked on matters where a director resigned after effectively being frozen out of the business, only to later receive an insolvent trading claim because the remaining director failed to lodge the appropriate ASIC paperwork recording the resignation. Fortunately, the resigning director had properly documented the steps taken, which ultimately helped protect their position.

Family law and insolvency

Relationship breakdowns between husband-and-wife directors can create additional complications, with directors often navigating insolvency issues and family law proceedings simultaneously.

Importantly, creditors generally need to be dealt with before any division of surplus assets between parties. In some liquidations, claims available to a liquidator can materially reduce the pool of funds otherwise available for settlement.

Early intervention matters

From my experience, once directors stop communicating effectively, a company’s financial position can deteriorate quickly. Seeking external advice before disputes escalate can:

• preserve restructuring options
• reduce personal risk exposure
• improve outcomes for creditors
• prevent governance issues from becoming insolvency issues

In many cases, early intervention is the difference between preserving value and managing the fallout after relationships – and the business itself – have broken down.

If you are dealing with director disputes, shareholder deadlock or growing financial pressure within your business, I encourage you to seek advice early. The sooner these issues are addressed, the more options are typically available to stabilise the situation and improve outcomes for all parties involved.

Nash Chance
Manager
Jirsch Sutherland