The duties owed by directors under company law in the United Kingdom were originally set out at common law which established that directors owe fiduciary duties to the company. This position is now reflected in Section 170 of the Companies Act 2006.
It is long established that providing a company is solvent, and providing a director has not assumed liability by way of any agreement or personal guarantee, directors do not owe specific duties to a company’s creditors, or its individual shareholders.
The difficulty with this concept is if a company enters liquidation or administration, there are losses likely to be incurred by creditors who are owed money by the company. The number of reported insolvencies in England and Wales in January 2022 was 1,560, which is double the amount registered in January 2021. This figure is only expected to rise due to the cost of living crisis; energy price increases and pressures on supply chains.
If directors are proven to have mismanaged a company at the time of its insolvency, then they can find themselves personally liable in specific situations. That liability arises from the statutory duties imposed on directors by the Insolvency Act 1986, which imposes liability for certain offences such as wrongful and fraudulent trading.
On any action taken against a director personally by a liquidator or administrator, an order can be sought from the Court for a director to contribute to the assets of the company if certain criteria are met.
The general duties owed by a director to a company are set out in sections 171 to 177 of the Companies Act 2006. Section 172(1) provides that a director must act in a way which:
“he considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole”.
This duty is however quantified by section 172(3) which stipulates the duty is subject to a director being required in circumstances as imposed by “any enactment or rule of law” to “consider or act in the interests of creditors of the company”.
Whilst directors’ duties owed to the company will always continue, when a company is insolvent or bordering on insolvency, there is a switch from the directors acting wholly in the interests of the company, to the interests of creditors, to maximise any return for creditors. This is the long-standing rule as set out in Liquidator of West Mercia Safetywear Ltd (in liq) v Dodd and another [1988] BCLC 250.
BTI 2014 LLC v Sequana SA and others [2022] UKSC 25
The Supreme Court decision
More recent case law has endorsed the obligation that directors must treat creditor interests as paramount at a time when a company is insolvent.
Sequana has confirmed the following points:
1. There is no free-standing ‘creditor duty’. Directors owe duties to the company, rather than directly to shareholders or creditors. However, where a company is insolvent, or bordering on insolvency, but is not faced with an ‘inevitable’ insolvent liquidation or administration, the directors need to consider the interests of creditors and balance those interests against that of the shareholders, where they conflict;
2. Where an insolvent liquidation or administration is ‘inevitable’ then creditors interests prevail. Before that time, how to balance the interests of creditors and shareholders is a decision for the directors; and
3. That duty to consider creditor interests is engaged when the directors know, or ought to know, that the company is insolvent or bordering on insolvency, or that an insolvent liquidation or administration is probable.
Practical tips for directors
It is understandable that directors, in trying to trade through a tough economic climate, may have concerns over how to navigate the business to ensure that personal liability does not fall at their doorstep.
Directors should therefore:
1. Ensure any business decisions are accurately recorded in writing;
2. Keep a close eye on the trading position of the company and ensure that awareness is maintained on the company’s operational and financial situation, including keeping a close eye on assets and cash reserves of the company; and
3. Take professional advice imminently should any concerns exist over the financial position of the company.
How can we help?
If you have any questions in relation to the subjects discussed in this article, please get in touch with our expert Dispute Resolution team in Derby, Leicester or Nottingham on 0800 024 1976 or via our online enquiry form.
Contact us