We live in uncertain and financially very troubling times. The coronavirus pandemic and the unprecedented measures put in place to tackle it have caused severe disruption to businesses. Big names such as Harveys, TM Lewin, Intu and the owners of Café Rouge and Bella Italia all went into administration at the beginning of the month. They will not be the last.
However, the insolvent company is not the only one that may find itself in difficulty at the onset of insolvency. Directors of such companies will also find themselves subject to close scrutiny, with personal liability and significant consequences in the event of wrongdoing.
What claims / actions can directors be exposed to?
In summary, directors of insolvent companies may find themselves subject to the following:
- Termination of employment: Breach by an executive director of their statutory or fiduciary duties – or engaging in any of the other behaviours described below - is likely to be grounds disciplinary action, including the termination of their service contract. Depending on the circumstances, such termination may be on the grounds of gross misconduct, which would mean immediate termination of employment without notice or payment in lieu of notice.
- Claims for fraudulent trading: That is, a claim that any business of the company has been carried on with the intent to defraud creditors, or for any other fraudulent purpose. Such claims may brought by the liquidator or administrator of the company who can seek a court declaration that anyone who was knowingly party to the fraudulent business make a contribution to the company's assets.
- Misfeasance claims: This would be based on an allegation that the director has been found to have entered into transactions at an undervalue, misapplied or retained, or become accountable for, any money or other property of the company, or been guilty of any misfeasance or breach of any fiduciary or other duty. If such a claim is successful, the court may order the director to repay, restore or account for the money or property with interest, or contribute such sum to the company's assets as it thinks fit. Misfeasance claims can be brought against a director by the company itself, or by a shareholder of the company as a derivative claim.
- Claims for Unfair Prejudice: Where a director is also a shareholder, they may face a claim from other shareholders who have suffered loss or damage, or otherwise been unfairly disadvantaged as shareholders because of the director’s actions in managing the company. The court can make many orders to remedy the prejudice suffered, but the most common remedy is that the party responsible for the unfair prejudice must buy-out the injured party at a certain price.
- Disqualification: The court may disqualify the director from – without leave of the court - acting as a director of any company, or being involved in the management of any company, for between two and 15 years. This would happen if the court is convinced that the individual’s conduct as director of a company which has become insolvent makes him/her unfit to be a director. Such claims are instigated by the Secretary of State for Business, Energy and Industrial Strategy (“BEIS”) (or more particularly the Insolvency Service within BEIS) and often tend to follow some time after insolvency if BEIS decide that the director’s behaviour was sufficiently heinous.
- Directors also need to be mindful that they continue to owe fiduciary duties to the Company, even after its entry into an insolvency process, when day-to-day management control of the company is typically no longer within their hands. Failure to adhere to those duties may leave a director personally liable to repay sums to the Company. By way of example, a director may agree with an administrator to purchase an asset from the insolvent company at a price which does not, in reality, represent market value – if the administration is subsequently converted into a liquidation, a newly appointed liquidator may review the transaction and pursue the director personally to pay into the liquidation for the benefit of the company’s creditors.
What about wrongful trading?
Wrongful trading occurs if, in the course of an insolvent winding up or insolvent administration of a company, a director of the company knew or ought to have concluded at some point before the commencement of the liquidation/administration that there was no reasonable prospect that the company would avoid going into insolvent liquidation/administration (i.e. has reached the “point of no return”) and continued trading anyway. The thinking is that, by continuing to trade in those circumstances, the director has caused a worsening of the financial position of the company or its creditors.
A liquidator or administrator of a company who feels that wrongful trading has occurred can apply to court for a declaration that the director in question makes a personal contribution to the company’s assets.
The Corporate Insolvency and Governance Act 2020 which came into force on 26 June 2020 (and on which we commented in some detail here) states that, when considering a claim for wrongful trading, the court is to assume that the director is not responsible for any worsening of the financial position of the company or its creditors that occurs during the “relevant period” – effectively suspending liability for wrongful trading for that period. The “relevant period” began on 1 March 2020 and ends on 30 September 2020.
The aim of this temporary suspension is to allow directors to continue trading distressed companies affected by the coronavirus crisis without the risk of personal liability, even where it is uncertain whether or not the company will recover. The hope is that this will reduce the number of likely insolvencies and allow companies to trade through (and recover after) the coronavirus crisis. However, it is of little comfort to directors given its limited scope and the fact that it only relates to wrongful trading claims.
In conclusion, company directors are advised to tread very carefully in these uncertain times and seek advice at an early stage if they are unsure of their position.
The Employment and Dispute Resolution teams at Kingsley Napley have extensive experience in advising senior executives and of dealing with contentious insolvency matters, as well as disputes involving allegations of breach of fiduciary duty against directors. If you or your business are in need of assistance in these areas, please contact us to find out how we can help you.
Partner and Head of Department
Professional Support Lawyer