How to determine when the company has become insolvent?

Jurisdiction – ESTONIA

Members of the management board have an obligation to submit a bankruptcy petition in case the company has become insolvent. For breach of this obligation, the law prescribes criminal liability. Accordingly, it is important how to determine when the company has become insolvent.

The Criminal Chamber of Estonian Supreme Court has in its case No 3-1-1-49-11 explained what to take into consideration while assessing the financial situation of the company.

The financial status of the company has to be assessed as a whole

The Supreme Court stated that as a general rule, insolvency cannot be determined on the basis of a sole financial indicator (e.g. the status of net assets or the amount of loss). Furthermore, the fact that the financial indicators seem to suggest insolvency, does not always automatically mean that the company has, in fact become insolvent. For example, there may be real and justified expectations towards the near future (execution of the business plan or a contract generating substantial profit, etc), which give rise to a claim that, despite of the financial struggles, the company has not become insolvent.

In order to determine whether the company had become insolvent (and whether members of the management board were obligated to submit a bankruptcy petition), a theoretical construction is used, whereby the court retroactively assesses, if the financial indicators known at the time would have given an objective and informed bystander basis for considering the company to be insolvent.