DIRECTORS’ DUTIES ON NAVIGATING THE TWILIGHT ZONE

David Ereira of Paul Hastings LLP discusses directors’ duties and liabilities in the period leading up to and on insolvency.

At a time when the actions of directors, both This article does not expressly consider the as a director who nevertheless acts as, and collectively and individually, have received duties and liabilities associated with trustees, assumes the responsibilities of, a director (a considerable attention in both the academic and other corporate forms, although there is, de facto director). and public press, the need for directors to in certain instances, a degree of convergence. understand their duties, and the steps that Exactly who can be said to be a de facto can be taken to fulfi l their obligations and WHO IS A DIRECTOR? director will be fact-specifi c but the Supreme minimise potential liabilities, becomes Court has held that the question is whether he especially important. The term “director” would appear, at fi rst was part of the corporate governance system glance, to be relatively straightforward to of the company and whether he assumed the This article considers: defi ne. However, the meaning of “director” status and function of a director so as to make can vary depending on the context in which himself responsible as if he were a director • The duties imposed on directors of it is being discussed. (Smithton Ltd v Naggar [2014] EWCA Civ 939). private and public limited companies by law and equity. The starting point is the Companies Act 2006 In addition to de jure and de facto directors, (2006 Act), which defi nes a director as “any section 251 of the 2006 Act provides the • How these duties change and affect person occupying the position of a director, further category of a shadow director. In directors’ decision-making processes in by whatever name called” (section 250). This relation to a company, this covers a person the moments leading up to insolvency, defi nition mirrors that used in section 251 in accordance with whose directions or known as the “twilight zone”, and on of the Insolvency Act 1986 (1986 Act). This instructions the directors of the company insolvency. would clearly include a person appointed are accustomed to act. It does not have to in accordance with the relevant company’s be proved that all directors act in accordance • The potential liabilities that directors articles of association (a de jure director), but with the directions of the shadow director; it face. would also include a person not appointed is enough that a majority do so (McKillen v

© 2018 Thomson Reuters (Professional) UK Limited. This article fi rst appeared in the April 2018 issue of PLC Magazine, published by Practical Law, part of Thomson Reuters (Professional) UK Limited, and is reproduced by agreement with the publishers. 1 Misland (Cyprus) Investments Limited [2012] EWHC 521 (Ch)). The 2006 Act defi nition Indemnifi cation and insurance excludes a company’s parent company from the defi nition of shadow director, whereas the Section 233 of the Companies Act 2006 (2006 Act) provides that provisions attempting 1986 Act defi nition does not. to exclude a director from his liabilities in respect of the company are void. However, under section 234 of the 2006 Act, a company can indemnify its directors and buy In practice, the question of who is a de facto directors’ liability insurance for the benefi t of its directors. or shadow director is a mixed question of fact and law, and the label attached to the Directors of all companies should always ensure that they check, and where necessary offi ce or employment of a person is seldom modify and renew, the terms of any indemnifi cation from the company. Directors should conclusive. be mindful of the fact that any indemnity provided by the company is only as strong as what the company is able to provide. In an insolvency scenario, these indemnities Despite the functional difference between are unlikely to be of much use. the two, insolvency law does not formally recognise the distinction between the duties Claims against directors are very often costly exercises and, if proven, can lead to of executive and non-executive directors. The sanctions other than damages, such as fi nes, disqualifi cation and imprisonment. distinction may, however, become relevant in Directors and offi cers (D&O) insurance policies provide cover for current and former assessing the degree of knowledge, skill and directors, and usually provide cover for the costs of defending the types of claims covered experience that is to be expected of a non- in this article (see feature article “D&O insurance: diving for cover”, www.practicallaw. executive director. This issue can come to the com/5-521-6870). However, there is no obligation on a company to provide its directors fore when analysing directors’ liabilities as a with D&O insurance and, indeed, in many cases directors will not even know that they company approaches, and eventually enters are covered, less still of the extent of the coverage. Although it becomes particularly into, insolvency. relevant as a company approaches insolvency, directors should acquaint themselves with the terms of their policies. Retiring directors should also seek assurances that DIRECTORS’ DUTIES AND LIABILITIES they remain covered for a certain period after leaving offi ce.

There are no formal qualifi cations required to become a director. In spite of this, on with the ability to bring an action in respect the directors must comply with each duty appointment as director, and in some cases of a cause of action vested in the company (section 179, 2006 Act). following resignation, there are many duties from an actual or proposed act or omission that arise, and liabilities that potentially involving negligence, , breach of duty The duty incumbent on directors to promote fl ow, from acts taken in that position (see or breach of trust. the success of the company for the benefi t box “Indemnifi cation and insurance”). of its members as a whole has received a Of the seven general duties, three are considerable amount of comment and debate General duties particularly relevant to companies in fi nancial in the courts and among the academic Historically, directors have owed fi duciary diffi culties: community. The Court of Appeal has duties to their companies. While there is no described this duty as the fundamental duty comprehensive legal defi nition of a fi duciary, • The duty to promote the success of the to which a director is subject and from which the classic defi nition comes from the Court company for the benefi t of its members the other fi duciary duties of a director fl ow of Appeal in Bristol & West Building Society as a whole (section 172, 2006 Act). (Item Software (UK) v Fassihi [2004] EWCA v Mothew, which described a fi duciary as Civ 1244; www.practicallaw.com/4-102-7600). someone who has undertaken to act for, or • The duty to exercise independent on behalf of, another in a particular matter in judgment (section 173, 2006 Act). For present purposes, what is particularly circumstances which give rise to a relationship relevant is that this duty applies to all decisions of trust and confi dence ([1996] EWCA Civ • The duty to exercise reasonable care, made by a director, not only those formal 533; www.practicallaw.com/3-100-2365). The skill and diligence (section 174, 2006 decisions approved by the board. In addition, court said that the distinguishing feature Act). when the company is solvent, directors is the obligation of loyalty: the principal is owe their duties toward the company, with entitled to the single-minded loyalty of his Directors’ duties apply from the moment of shareholder primacy dominating managerial fi duciary. appointment and, with a few exceptions, cease considerations. However, the duty is subject to apply following a director’s resignation; to any enactment or rule of law requiring Chapter 2 of Part 10 of the 2006 Act codifi es for example, the duty to avoid confl icts of directors in certain circumstances to consider most, but not all, of the duties imposed by interest will continue to apply as regards or act in the interests of the of the case law and equitable principles on directors the exploitation of property, information company (section 172(3), 2006 Act). of companies. There are seven general duties or opportunity of which a director became codifi ed in sections 170 to 177 of the 2006 Act. aware at the time they were a director (section In addition, while the 2006 Act statutory These duties are owed to the company and, in 170(2), 2006 Act). In addition, a director will duties must be interpreted and applied in general, only the company can enforce them continue to owe duties of confi dence to the the same way as the equitable principles, (section 170(1), 2006 Act). However, section company following resignation. Where more and in many respects merely restate the prior 260(3) of the 2006 Act provides shareholders than one duty applies in any given scenario, fi duciary and common law duties, there are

© 2018 Thomson Reuters (Professional) UK Limited. This article fi rst appeared in the April 2018 issue of PLC Magazine, 2 published by Practical Law, part of Thomson Reuters (Professional) UK Limited, and is reproduced by agreement with the publishers. instances where they introduce new concepts and rules. For example, the fi duciary duties of a shadow director are now more extensive Duties of co-operation, investigation and examination and, although they cannot be equated with those of an ordinary director, they can be said The Insolvency Act 1986 (1986 Act) vests a number of powers in the offi ceholder (that to extend to the directions or instructions is, the , administrator or administrative receiver) and the Offi cial Receiver given by the shadow director to the majority to assist with their investigation of directors’ conduct. These include: of the board (Vivendi SA v Richards [2013] EWHC 3006). • Getting in the company’s property. Section 235 of the 1986 Act (section 235) permits an offi ceholder to invoke the assistance of the court to get the company’s In addition to the duties codifi ed by the 2006 property and records. It applies to any person who has in his possession or control Act, directors should also be aware of their any books, papers or records to which the company is entitled. role as fi duciaries in the context of their relationship as custodian of the company’s • The duty to co-operate with the offi ceholder. Section 235 imposes this duty on assets. any person who is at the moment of winding up, or ever has been, a director of the company and requires directors to provide the offi ceholder with any information The twilight zone and insolvency that he may, in his absolute discretion, reasonably require. Information The discussion of directors’ general duties is of provided can be used by the Secretary of State in determining whether director importance in an insolvency proceeding, such disqualifi cation proceedings should be brought. as a or , because of the ability of the relevant insolvency • Enquiry into the company’s dealings. Section 236 of the 1986 Act (section 236) practitioner to take action against an vests in the offi ceholder a private examination power, which applies to current offending director in the pursuit of a greater directors but also more broadly and includes any person known or suspected recovery for the company’s creditors. But how to have in his possession any property of the company, or any person who is and when exactly those general directors’ supposed to be indebted to the company. duties are affected by a company’s fi nancial diffi culties and on insolvency is a diffi cult What is striking about these provisions is the ability of the court, exercising its question to answer. discretionary powers, to compel a wide range of individuals (including directors, past and present) to assist it in investigating the circumstances surrounding a company’s It is widely accepted that the duties owed demise. by a director to a company are altered in insolvency, or its vicinity, so as to require Public examination directors to have proper regard for the In the current environment, it is also worth noting the powers of the Offi cial Receiver interests of creditors (West Mercia Safetywear when a company is being wound up to apply to court for public examination of any v Dodd (1988) 4 BCC 30; Jetivia SA v Bilta (UK) person who is, or was, a director of a company (section 133, 1986 Act). This power is Limited (in liquidation) [2015] UKSC 23, see designed to complement the private examination power under section 236. News brief “Clarifying the illegality defence: no end to the carousel?”, www.practicallaw. Pensions Regulator com/9-614-4192). While it is clear that this In addition to those duties of co-operation, investigation and examination owed rule comes in to play before the start of a to the officeholder, directors of companies with pension schemes should also have formal insolvency process, precisely when it regard to the obligations that they owe to the Pensions Regulator. Following the becomes relevant is less clear. collapse of BHS, former owner Dominic Chappell was prosecuted in connection with his failure to provide information and documents on three occasions, without There is also much debate on whether the reasonable excuse, when required to do so under section 72 of the Pensions Act effect of the duty shift requires exclusive focus 2004 (2004 Act), contrary to section 77(1) of the 2004 Act. The failure to provide on the interests of creditors, as in Miller v Bain such information can result in an unlimited fine. Additionally, those involved can and others, or requires creditors’ interests to suffer serious reputational damage from being convicted of non-compliance with be treated as paramount, as in Colin Gwyer the law. & Associates Ltd v London Wharf (Limehouse) Ltd ([2002] 1 BCLC 266, www.practicallaw. com/9-101-6741; [2003] BCC 885, www. practicallaw.com/1-102-2675). class that should be considered (Re Micra POTENTIAL LIABILITIES Contracts Ltd (in liquidation) [2016] BCC A further area of ambiguity arises as regards 153; Capital for Enterprise Fund A LP and Directors of all companies should at all times the meaning of creditors’ interests, given another v Bibby Financial Services Ltd [2015] be mindful of the provisions of the 2006 Act that creditors are unlikely to comprise an EWHC 2593 (Ch)). However, it also remains and 1986 Act under which they may face homogenous group and that in an insolvency unclear how directors should proceed when potential liability as a consequence of actions scenario, certain creditors are likely to be there would likely be disagreements on the taken in offi ce during the period before and out of the money. It appears that it is the deployment of company assets within the on insolvency (see box “Duties of co-operation, interests of creditors as a whole or as a group. investigation and examination”).

© 2018 Thomson Reuters (Professional) UK Limited. This article fi rst appeared in the April 2018 issue of PLC Magazine, 3 published by Practical Law, part of Thomson Reuters (Professional) UK Limited, and is reproduced by agreement with the publishers. The most notorious of the civil liabilities Company Directors Disqualifi cation Act 1986 potentially faced by directors of an insolvent company under the 1986 Act is wrongful The Company Directors Disqualifi cation Act 1986 (CDDA) provides that, on application trading, which was introduced in response of the Secretary of State, a disqualifi cation order may be made by the court against to the ease with which directors could walk a de jure, de facto or shadow director of a company that becomes insolvent, if his away from a company they had mismanaged, behaviour makes him unfi t to be involved in the management of a company. In this free from personal liability (sections 241 and sense, as noted by the Insolvency Service guidance on director disqualifi cation, 246ZB). the CDDA seeks to maintain the integrity of the business environment by ensuring that those who become directors of limited companies comply with all laws and Potential defendants. A wrongful trading relevant regulations, act honestly and responsibly, and exercise skill and care with claim may be brought against a de jure, de proper regard to the interests of the company’s creditors, customers, shareholders, facto or shadow director. Section 214(1) of the employees and, in some circumstances, the general public (www.gov.uk/government/ 1986 Act refers to a person who is or has been uploads/system/uploads/attachment_data/fi le/657922/CDDA-and-failed-companies- a director of the company, and section 214(7) november-2017.pdf). of the 1986 Act expressly includes shadow directors within the scope of this provision. The CDDA supplements the claims available under the Insolvency Act 1986 and provides an additional basis by which to sanction directors. For example, the wide Potential claimants. A claim for wrongful discretion afforded to the court when making a contribution order on a finding of trading can be brought by either a liquidator wrongful or fraudulent trading extends to the making of a disqualification order in an insolvent liquidation or an administrator under section 4 and 10 of the CDDA (as applicable). In addition, a finding of in an insolvent administration, and is is a relevant factor to which a court will have regard when considering exercisable with sanction from the company’s whether to make a disqualification order against a director for unfitness under creditors or the court. section 6 of the CDDA.

Acts amounting to wrongful trading. Following conviction under section 209 of the Insolvency Act 1986, the court has the To successfully prove a wrongful trading power to make a disqualifi cation order against the director under section 2 of the claim, the liquidator or administrator must CDDA. This can result in a period of disqualifi cation of 15 years on indictment, or fi ve show that at some point before the start of years in the magistrates’ court. formal insolvency proceedings, the relevant director knew, or ought to have known, that there was no reasonable prospect of avoiding an insolvent liquidation or insolvent in or refusing to extend the company For example, although under the objective administration (the point of no return) and overdraft, or suppliers refusing to make test, less may reasonably be expected of that the director failed to take every step further deliveries until outstanding a director of a small company with less with a view to minimising potential further invoices are settled. sophisticated financial systems than a losses to creditors (section 214(2), 1986 Act) much larger company, there is an objective (section 214(2)). In determining whether section 214(2) has minimum standard below which no director been made out, the court will apply the may fall. The court will, however, also look at Section 214(2) is drafted widely, ensuring reasonably diligent person test. Under this the subjective test, and may apply a higher that a wide variety of acts and omissions test, the facts that a director ought to have standard if, for example, the director in are capable of being caught, not just trading known or ascertained, the conclusions that he question has considerable relevant experience activities. Examples of evidence that may ought to have reached and the steps that he or a relevant professional qualifi cation, such be supportive of a fi nding that the directors ought to have taken, are those which would as an accountant. ought to have concluded that there was no have been known or ascertained, or reached reasonable prospect of the company avoiding or taken, by a reasonably diligent person Sanction. The court has wide discretion to going into insolvent liquidation or insolvent having both: determine the extent of a director’s liability, administration include: which is usually in the form of a contribution • The general knowledge, skill and order. Case law suggests that the contribution • Company accounts showing liabilities experience that may reasonably be will ordinarily be based on the additional exceeding assets. expected of a person carrying out the depletion of the company’s assets caused same functions as are carried out by the by the director’s conduct from the date that • Proceedings are brought against the relevant director (the objective test). the director ought to have concluded that the company for unpaid sums. company could not have avoided insolvency • The actual knowledge, skill and liquidation or administration. An order to • Failure to meet sales or cash fl ow targets experience of that particular director contribute may be made against directors or forecasts. (the subjective test). on a joint and several basis. However, the court has wide discretion to apportion liability • Other evidence of increasing creditor The court will apply the higher of the two between directors based on their respective pressure, for example, the bank calling standards. culpability by ordering the more culpable

© 2018 Thomson Reuters (Professional) UK Limited. This article fi rst appeared in the April 2018 issue of PLC Magazine, 4 published by Practical Law, part of Thomson Reuters (Professional) UK Limited, and is reproduced by agreement with the publishers. directors to indemnify the less culpable Limitation Act 1980, which provides for a this contribution, which should refl ect and directors. limitation period of six years, starting on the compensate for the loss that has been caused date that the company went into insolvent to the creditors by the fraudulent trading Where the court makes a contribution liquidation or administration. (Morphitis v Bernasconi and others [2003] order against a director under this section, EWCA Civ 289; www.practicallaw.com/9- the court has a discretion to also make a Fraudulent trading 102-3181). disqualifi cation order against that director The civil liability imposed by section 213 of the under the Company Directors Disqualifi cation 1986 Act (section 213) for fraudulent trading Where the court makes an order against a Act 1986 (see box “Company Directors seeks to cover the situation where a company person under section 213, it has a discretion Disqualifi cation Act 1986”). suffers loss that is caused by the carrying to also make a disqualifi cation order against on of the company’s business with intent that director (see box “Company Directors Defence. Directors might be able to escape to defraud. Disqualifi cation Act 1986”). liability if they can satisfy the court that after they fi rst knew or ought to have concluded Potential defendants. A fraudulent trading In addition, criminal sanctions can be that there was no reasonable prospect claim may be brought against a de jure, de imposed by the court under section 993 of of avoiding an insolvent liquidation or facto or shadow director or against any person the 2006 Act to punish a person knowingly administration, they took every step with a who is knowingly party to the carrying on party to fraudulent trading, whether or not the view to minimising the potential losses to of any business of the company with intent company is being wound up. The penalties are creditors (the every step defence) (section to defraud creditors or for any fraudulent imprisonment of up to ten years on indictment 214(3), 1986 Act). purpose (section 213(3), 1986 Act). This is in or a fi ne, or both. contrast with wrongful trading, where this In addition, in seeking to absolve himself intent does not have to be shown. Defence. As section 213 is determined from liability, a director will likely also seek subjectively, if a director genuinely believed to invoke section 1157 of the 2006 Act. Potential claimants. A claim for fraudulent on a subjective basis, however unrealistically, This statutory defence is routinely pleaded trading can be brought by either a liquidator that things would get better and the company as a last line of defence and provides the in an insolvent liquidation or an administrator would trade out of its diffi culties, this would court with the discretion to grant relief in in an insolvent administration, and is provide an effective defence. proceedings for negligence, default, breach exercisable with sanction from the company’s of duty or breach of trust where the court creditors or the court (sections 213(2) and Time limit. Fraudulent trading claims is satisfi ed that the director acted honestly 246ZA, 1986 Act). come within the scope of section 9(1) of the and reasonably, and when taking all the Limitation Act 1980, which provides for a circumstances of the case together, he ought However, the recent changes to the 1986 limitation period of six years, starting on the fairly to be excused. Act brought about by the Small Business, date that the company went into insolvent Enterprise and Employment Act 2015 liquidation or administration. The distinction between executive and non- now make it possible for a liquidator or executive directors as regards the degree of administrator to assign the right to bring Misfeasance knowledge, skill and experience that might wrongful or fraudulent trading proceedings. Section 212 of the 1986 Act (section 212) be expected of them may also be relevant Given the challenges faced by insolvency codifi es the common law principle that a when assessing potential liability. However, practitioners in bringing these claims, company can claim against its directors as noted in the House of Commons report especially in terms of cost, these changes for breach of fi duciary duty, and provides on BHS that was published on 25 July 2016, could lead to the increased involvement of a summary procedure that is available in non-executive directors are not entitled to large creditors pursuing these actions. liquidation for the enforcement of rights. place unquestioning reliance on others to Section 212 does not create new liabilities do their job, and the chairman of the board Acts amounting to fraudulent trading. but provides a simpler procedure for the will be responsible to a greater extent than Actual dishonesty must be proved. The recovery of property or compensation on a others for the performance of the board as courts have interpreted the terms “defraud” winding up. Most claims against directors are a whole and each member of it (https:// and “fraudulent purpose” to require actual therefore brought under this section due to publications.parliament.uk/pa/cm201617/ dishonesty involving, according to current the fact that misfeasance is broadly defi ned cmselect/cmworpen/54/54.pdf). notions of fair trading among commercial and, therefore, easier to prove than other men, real moral blame (Re Patrick and Lyon available rights of action, in addition to being Resignation is generally not looked on Ltd [1933] Ch 786). In further contrast to less costly to pursue. favourably and is commonly regarded as an wrongful trading, dishonesty is assessed abrogation of a director’s responsibilities. only on a subjective basis; in other words, Potential defendants. Section 212 applies However, if an individual director makes what the particular person knew or believed. to current and former de jure and de facto unsuccessful repeated attempts to get the directors (Holland v Revenue and Customs; board to listen to his views, resignation may Sanction. A director found liable for Re Paycheck Services 3 Ltd [2010] UKSC 51). be the only option. fraudulent trading can be ordered to make However, it appears not to apply to shadow such contribution to the company’s assets directors since other provisions of the 1986 Time limit. Wrongful trading claims come as the court thinks fi t. There is no power to Act specifi cally state that shadow directors within the scope of section 9(1) of the include a punitive element in the amount of are included and section 212 does not.

© 2018 Thomson Reuters (Professional) UK Limited. This article fi rst appeared in the April 2018 issue of PLC Magazine, 5 published by Practical Law, part of Thomson Reuters (Professional) UK Limited, and is reproduced by agreement with the publishers. Potential claimants. An application for Other fraud and misconduct offences creditors to an agreement with reference misfeasance can be made by a liquidator, By way of brief overview, directors should be to the company’s affairs or to the winding Offi cial Receiver or any creditor or contributory aware that a number of other offences apply up (whether by the court or voluntarily). (section 212(3)). It is usually the liquidator that to the conduct of directors on a winding up makes the application to court rather than of a company. These include: A director guilty of any of the offences under a creditor. If a creditor wishes to make an sections 206 to 211 is liable to imprisonment application, they should notify the liquidator • Fraud in anticipation of a winding up or a fi ne, or both. so that the liquidator can consider making its under section 206 of the 1986 Act own application, in order to avoid concurrent (section 206). Section 206(2) makes it Personal guarantees proceedings. an offence for a director to conceal or It is not uncommon, especially in small, remove property, falsify entries in the family-held private limited companies, for Acts amounting to misfeasance. Misfeasance company’s books or perpetrate other directors to provide a guarantee in respect of covers the whole spectrum of directors’ duties similar acts after the commencement of some or all of the company’s liabilities. This and therefore includes: a winding up. A director will be deemed can result in an individual director becoming to have committed this offence if found liable for the company’s debts. To avoid • Misapplication of any money or assets of guilty of these acts in the 12-month hidden surprises down the line, independent the company. period before a winding up. legal advice should be taken at the outset if a lender requires a personal guarantee from a • Breach of statutory duty, such as: • Transactions in fraud of creditors director, particularly where the counterparty unlawful loans to a director; a director under section 207 of the 1986 Act. is a large, sophisticated, institutional lender. entering into a contract with his own This provision makes it an offence for a company and failing to notify the board director to make or have caused to be DIRECTORS OF PUBLIC COMPANIES in contravention of section 177 of the made any gift or transfer, or charge on, 2006 Act; and a director failing to act or to have concealed or removed any In addition to the foregoing, directors of within his powers. part of, the company’s property. Intent to public limited companies whose shares are defraud is required and the relevant act admitted to trading on either a regulated • Breach of the duty of skill and care. must have been committed within fi ve market, such as the Main Market of the years of the date of the commencement London Stock Exchange, or a prescribed Directors responsible for transactions at an of the winding up. market, such as AIM, should also be aware undervalue within the meaning of section of, and comply with, the obligations imposed 238 of the 1986 Act or preferences within the • Misconduct in the course of winding up by the following statutes and regulations: meaning of section 239 of the 1986 Act may under section 208 of the 1986 Act. This thereby commit a misfeasance. provision makes it an offence for a director • The Listing Rules, the Prospectus to fraudulently or intentionally fail to Rules and the Disclosure Guidance and Sanction. Relief granted under section 212 disclose to the liquidator all the company’s Transparency Rules. will usually be compensatory, limited to properties and related dealings with them, the amount of actual loss and determined including all books and papers in his • The AIM Rules. on the normal causation basis. These control belonging to the company which amounts are granted for the benefi t of the he is required by law to deliver. • The Financial Services and Markets Act company’s creditors as a whole, rather than 2000 (FSMA). at the individual creditor level. A fi nding of • Falsifi cation of the company’s books misfeasance is also a factor to which the under section 209 of the 1986 Act. • The Financial Services Act 2002. court will have regard when considering This provision makes it an offence for whether to make a disqualifi cation order a director to destroy, alter, falsify any These statutes and regulations contain against a director for unfi tness under section books or papers (including computer provisions detailing additional obligations 6 of the Company Directors Disqualifi cation records under section 436 of the 1986 on directors to disclose, for example, the Act 1986. Act) of the company, or to be privy to details of their past experience and expertise these acts, with an intent to defraud on (including any previous insolvency processes Defence. In common with wrongful trading a winding up of a company. with which they have been associated in the claims, when deciding whether to make past fi ve years from the date of publication of an order under section 212, the court can • Material omissions from statements a prospectus), and other provisions relating consider whether to allow the relevant relating to the company’s affairs under to the suspension of listing or trading. director to rely on the statutory defence set section 210 of the 1986 Act. out in section 1157 of the 2006 Act. Misleading statements and impressions • False representations to creditors under Under the Market Abuse Regulation (EU Time limit. The limitation period for a claim section 211 of the 1986 Act. This provision 586/2014), a company must inform the public under section 212 is, in the vast majority of makes it an offence for a director to as soon as possible of any inside information cases, six years, beginning on the date that make any false representation or any that directly concerns the company (for the misfeasance or alleged breach of duty other fraud for the purposes of obtaining background, see feature article “Market occurred. the consent of any of the company’s Abuse Regulation: ensuring compliance and

© 2018 Thomson Reuters (Professional) UK Limited. This article fi rst appeared in the April 2018 issue of PLC Magazine, 6 published by Practical Law, part of Thomson Reuters (Professional) UK Limited, and is reproduced by agreement with the publishers. uncertainty”, www.practicallaw.com/6-629- 5677). This creates a tension for the directors Related information of a company in fi nancial diffi culties and requires a balancing act of the adverse This article is at practicallaw.com/w-013-6147 consequences of an uncertain and possibly premature disclosure against the duty Other links from uk.practicallaw.com/ to maintain market integrity. There are Topics exceptions that permit delayed disclosure Directors topic/7-200-0622 to protect the company’s legitimate interests. Directors and employees: and insolvency topic/7-103-1257 Failure to disclose information in a timely manner may, however, lead to suspension Practice notes of the company’s shares, which might Corporate insolvency: a guide 8-107-3973 exacerbate the company’s diffi culties. Directors: Companies Act 2006 2-619-8174 Directors’ and offi cers’ liability insurance 5-383-3973 Market abuse Directors’ duties: directors’ general duties Directors must also ensure that their under the Companies Act 2006 7-376-4884 behaviour, including in deciding whether Directors’ liability: relief from liability 2-619-8664 to make an announcement to the market Insolvency and considerations for directors 5-107-3984 and potentially creating a false market in Types of director: overview 2-619-2515 securities, does not result in them committing the civil offence of market abuse under section Previous articles 118 of FSMA. There are also criminal sanctions Directors in a crisis: a multi-jurisdictional view (2011) 1-504-7129 for a failure to make an announcement under Shadow directors: keeping on the sidelines (2011) 3-507-0897 section 397 of FSMA. UK restructuring and insolvency law: current and future trends (2010) 6-501-6578 Directors’ liabilities in a downturn: navigating the road ahead (2009) 4-386-6803 Serious loss of capital Directors’ duties: current interpretation and future reform (2009) 3-422-2963 Directors of public companies also have a duty to convene a meeting of shareholders in For subscription enquiries to Practical Law web materials please call +44 0345 600 9355 certain circumstances if there is a serious loss of capital (section 656, 2006 Act). A breach of these requirements can lead to the directors It should also be noted that the courts • Hold regular board meetings to discuss being liable to a fi ne. recognise that they are viewing the the company’s fi nancial position circumstances surrounding company distress and record accurate minutes of the PRACTICAL STEPS or failure with the benefi t of hindsight and discussions. Individual directors should that an insolvent liquidation or administration ensure that best practice is followed As soon as directors become aware that will almost always result from one or more and not hesitate to raise concerns. The a company is in fi nancial diffi culty, they mistakes. This attitude has been refl ected minutes should address consideration should seek fi nancial and legal advice, both in a number of wrongful trading judgments of the interests of all stakeholders and collectively as a board, and on an individual but can also be of general application (Re provide a complete record of discussions, level by seeking independent advice. It is Hawkes Hill). including those conducted before and at this juncture, which can be diffi cult to after the meeting. determine in the period before insolvency Directors can take a number of practical (see “The twilight zone and insolvency” above), steps to discharge their duties and minimise • Engage with lenders and other key that the actions of directors, past and present, liability. At all times, directors must be stakeholders to ensure that there are no fall sharply into view and when these persons capable of reasoning through their actions breaches of key fi nancial covenants and, are at their most vulnerable. and forming rational expectations of what where there are, that prompt action is the future might hold, avoiding “confusion taken. In the case of public companies, However, identifying the precise moment at between aspiration and actuality” and being this can involve the requirement to which the fi nancial position of a company mindful not to indulge in “wilfully blind update the market. means that insolvent liquidation or insolvent optimism” (Re Onslow Ditchling Limited [2011] administration is inevitable can be very EWHC 257 (Ch)). • Continue to maintain good lines of diffi cult and will likely turn on the facts of communication with creditors, suppliers each case. Indeed, the courts have recognised Practically, and having engaged and and stakeholders. that the answer to the question of when the consulted with appropriate advisers, when point of no return arises does not depend a director senses the point of no return is near • Monitor demands for payment, and on a snapshot of the company’s fi nancial or indeed upon the company, they should legal proceedings that are threatened or position at any time; rather, it depends on consider (among other things) the following commenced against the company. the rational expectations of what the future with a view to establishing the every-step might hold (Re Hawkes Hill Publishing Co defence and the discharge of their duties • Ensure that they have access to up-to- Ltd (in liquidation) [2007] EWHC 3073 (Ch)). generally: date fi nancial information at all times.

© 2018 Thomson Reuters (Professional) UK Limited. This article fi rst appeared in the April 2018 issue of PLC Magazine, 7 published by Practical Law, part of Thomson Reuters (Professional) UK Limited, and is reproduced by agreement with the publishers. Recent case law reaffi rms the fact that • What is within my sphere of competence This reliance could inform the director’s conscientious directors who act rationally, and expertise? decision making when faced with events that on an informed basis and in good faith are might signal fi nancial diffi culties, such as an unlikely to suffer personal liability simply • What, acting reasonably, can I rely on in increase in short-selling of company stocks, because a company becomes insolvent (Re respect of what information? or an unsolicited approach from a creditor or Hawkes Hill; Re Onslow Ditchling; and In the non-mandated fi nancial adviser informing matter of Langreen Ltd (in liquidation) LTL Perhaps the more specialised the advice, the him of impending collapse. 26/10/2011). It is not necessary that every step more a director will be entitled to rely on it, the directors took with a view to minimising provided that the relevant professional is of Directors should also ensure that they co- losses to creditors necessarily worked, but good-standing and repute, and is suitably operate, and are seen to be co-operating that the relevant directors acted rationally, qualifi ed. This is the approach taken by The in a timely and reasonable manner, with drawing on their individual and collective Pensions Regulator in its guidance note for any requests, for example for information, skill and knowledge, and that of their legal trustees issued in December 2007 (www. made by the relevant and fi nancial advisers. thepensionsregulator.gov.uk/guidance/ as he conducts his investigation into the guidance-for-trustees.aspx). circumstances surrounding a company’s The extent to which a director can rely on demise. the professional advice he receives from his In other words, good faith reliance on the advisers is unclear. The additional questions advice received from a fi nancial or legal David Ereira is a partner at Paul Hastings that might be asked by the director when adviser reasonably believed to be a competent LLP. The author would like to thank John considering the professional advice question expert and selected with reasonable care Lambillion, an associate at Paul Hastings are: should work to minimise potential liability. LLP, for his contribution to the article.

© 2018 Thomson Reuters (Professional) UK Limited. This article fi rst appeared in the April 2018 issue of PLC Magazine, 8 published by Practical Law, part of Thomson Reuters (Professional) UK Limited, and is reproduced by agreement with the publishers.