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Tag: Directors’ Duties

  • What Are A Director’s Duties If Their Company Is Insolvent

    What Are A Director’s Duties If Their Company Is Insolvent

    One of the most stressful situations that a company director can face is their business becoming insolvent.

    With the worry of fighting to keep the organisation from falling into administration or being wound up, it is easy to forget that directors’ duties remain applicable.

    In fact, the risks and responsibilities increase when a company is in financial strife. This article explains everything you need to know about complying with directors’ duties when your company is insolvent.

    The overriding duty

    A company is considered insolvent if it cannot pay its debts.

    There are two tests for insolvency:

    1. Cash-flow – the company cannot pay its creditors by the due date, or
    2. Balance sheet – the value of a company’s assets is less than its liabilities.

    A company is also deemed unable to pay its debts, and therefore insolvent, if:

    1. a creditor who is owed more than £750 has served a formal demand for an undisputed sum at the company’s registered office, and the debt has not been paid for three weeks; or
    2. a judgement or other court order has not yet been paid.

    When a company is solvent, directors have an overriding duty to act to promote the success of the company.

    In the case of insolvency, a director must act in the best interests of the company’s creditors.

    Mismanagement of an insolvent company

    Limited liability companies are separate legal entities, meaning that directors are not personally liable for a company’s debts or contractual obligations in ordinary circumstances.

    However, if the company is mismanaged during insolvency, this principle does not necessarily apply.

    There are three ways a director can find themselves in a world of trouble if their company becomes insolvent:

    Wrongful trading

    Wrongful trading is an easy mistake for a director to make. It is defined as continuing to trade when there is no chance of avoiding liquidation. It often happens that directors commit wrongful trading inadvertently while trying to save the company by continuing to trade past the point where they should.

    The court will not make an order for wrongful trading if, knowing there was no reasonable prospect that the company would avoid falling into administration or liquidation, the director took every step they ought to have taken in order to minimise any loss to creditors.

    Because of the enormous amount of work involved in proving wrongful trading (the administrator or liquidator must provide evidence of wrongful trading and creditor loss), the risk of being personally liable for wrongful trading is low; however, for your personal and professional reputation, it is always best to avoid such an accusation. If you are unsure of whether your company can avoid administration or liquidation, talk with an experienced Company Law Solicitor and your accountant, who will advise you on when to stop trading. 

    Fraudulent trading

    Fraudulent trading is a criminal offence. It occurs when directors manage an insolvent company with the intent of defrauding creditors. Examples of fraudulent trading include;

    • You are paying large bonuses or directors’ salaries that you know the company cannot afford.
    • Continuing to use lines of credit from suppliers when you know cannot be repaid.
    • Taking orders from customers which cannot be fulfilled.
    • Falsifying financial statements to make the company appear profitable.
    • Using company funds and assets for personal gains instead of business purposes.

    Unlike wrongful trading, fraudulent trading must involve intentional or reckless dishonesty.

    As mentioned above, fraudulent trading is a crime, and you can go to prison and face a significant fine if you are convicted. You can also be personally liable for creditors’ losses.

    Misfeasance

    Directors who breach duties they owe (for example, by misusing company property) can be personally liable for misfeasance, and a court can order a director to repay misused money to the company.

    Are directors monitored during a company’s insolvency?

    The liquidator or administrator overseeing the insolvency must submit a report concerning the company directors to the Insolvency Service within three months of the company’s insolvency.

    The report must cover the past three years of trading.

    The Insolvency Service will examine the report and decide whether further investigations are warranted.

    An application can be made to the Court to disqualify a director for up to 15 years. A disqualified director must not act as a company director or be involved with forming, marketing, or running a new company. 

    If you are facing disqualification, you can voluntarily disqualify yourself, saving considerable time, expense, and stress. However, it is crucial to get legal advice before taking this step.

    Wrapping up

    If your company has or is about to become insolvent, it is crucial you receive professional advice from an experienced Corporate Law Solicitor to ensure you do not breach your directors’ duties and risk becoming personally liable for company and creditor losses.

    To discuss any points raised in this article, please call us on +44 (0) 203972 8469 or email us at mail@eldwicklaw.com.

    Note: The points in this article reflect the law in place at the time of writing, 27 March 2024. This article does not constitute legal advice. For further information, please contact our London office.

  • Directors & Officers Liability Insurance

    Directors & Officers Liability Insurance

    What is covered by Directors’ and Officers’ Liability Insurance?

    The Companies Act 2006 provides for several director’s duties that could give rise to a civil claim if breached. Directors must:

    • act in accordance with the company’s articles of association
    • only exercise powers for the purposes for which they are conferred
    • promote the success of the company, taking into consideration the long term impacts of decisions made, including for employees and community and the environment
    • exercise independent judgement.
    • exercise reasonable care, skill, and diligence
    • avoid conflicts of interest 
    • not accept benefits from third parties
    • declare an interest in proposed transactions or arrangements of the company

    Apart from potential misconduct in the day-to-day operations of a company, directors and officers often confront claims linked to securities offerings, acquisitions, and disposals.

    As per the Finance Act 2009, violations of accounting duties constitute another potential area of claims covered by D&O insurance policies. Senior accounting officers are mandated by the Finance Act 2009 to establish and adhere to proper tax accounting arrangements for large companies (with a turnover exceeding £200 million or gross assets surpassing £2 billion).

    Insurance Coverage

    D&O insurance also extends coverage to various other breaches that might lead to claims.

    This includes ‘derivative claims,’ initiated internally by shareholders on behalf of the company against a director or officer. Section 260 of the Companies Act 2006 specifies that a derivative claim can only be brought for actions arising from actual or proposed acts or omissions involving negligence, default, breach of duty, or breach of trust by a company director. This coverage is crucial due to the broad scope of derivative claims, which can be raised concerning alleged breaches, even predating the director or officer’s tenure with the company.

    Furthermore, D&O insurance offers protection against class action claims.

    The range of liabilities covered by D&O insurance encompasses negligence, health and safety failures, default, defamation, director’s breach of duty, or breach of trust by the director or officer concerning the employing company. Past directors and officers are also covered.

    Officers protected by D&O insurance include company secretaries, in-house lawyers, and senior executives. Moreover, D&O coverage can extend to employees temporarily placed in management roles, spouses of directors and officers, estates of deceased directors and officers, and liquidators.

    Is there anything D&O insurance does not cover? 

    If a director or officer commits a serious criminal offence their D&O policy will not provide cover. In addition, D&O Insurance will not cover damage to property or personal injury. These are covered by separate policies, namely, Employee Liability Insurance and Public Liability Insurance.

    Is Director’s Indemnity Insurance essential?

    The 2008 financial crisis and high-profile company collapses such as Carillion and Patisserie Valerie, where the alleged directors’ misconduct led to the demise of the businesses, alongside the growing climate catastrophe, have led to shareholders, investors, NGOs and consumers increasingly using litigation to hold company directors to account. For example, in 2022, ClientEarth brought actions against Shell’s Board for mismanaging climate risk and against KLM Airlines for alleged greenwashing via one of its marketing campaigns.

    At present, it is the boards of large companies facing the greatest risk; however, as more of these types of claims succeed, the greater the threat to SME directors and officers becomes. 

    What is the difference between Professional Indemnity Insurance and D&O Insurance?

    PII insurance covers errors and omissions concerning a person’s work. For example, if an accountant makes a negligent error that results in their client facing a significant tax bill they would otherwise have not had to pay, PII would provide cover. D&O insurance protects directors and officers if they make a negligent management decision, for example not employing a supervisor to check a junior accountants work.

    Many claims are multifaceted and will engage PII and D&O insurance; therefore, it is vital to be covered by both types of policies.

    Do NGO directors need Directors’ and Officers’ Insurance?

    Yes, as they face the same challenges and risks as a director or officer of a private company and often operate in a strict statutory and regulatory environment (for example, charities must comply with the Charities Act 2011 and the Charity Commission.

    Concluding comments

    Directors’ and Officers’ Insurance can provide directors with peace of mind that should they be sued for negligence or breach of fiduciary duty whilst undertaking their responsibilities as a company director or officer, they will have the funds required to fight the claim and/or pay out any compensation awards.

    If you are facing a regulatory or criminal investigation or prosecution, seek a shareholder disputes solicitor legal advice immediately.

    To discuss any points raised in this article, please call us on +44 (0) 203972 8469 or email us at mail@eldwicklaw.com.

    Note: The points in this article reflect the law in place at the time of writing, 9 February 2024. This article does not constitute legal advice. For further information, please contact our London office.

  • Directors’ Duties – An Introduction

    Directors’ Duties – An Introduction

    We specialise in resolving shareholder conflicts through advice, negotiation, and litigation, ensuring our clients’ rights and interests are protected within the company.

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    What are directors’ duties?

    All company directors must comply with the directors’ duties set out in Chapter 2 of Part 10 of the Companies Act (CA) 2006.

    These are:

    The above are often referred to as ‘general duties’ as their purpose is to promote the company’s general success. However, other directors’ duties may be included in the company’s Articles of Association. 

    Here is a detailed summary of each director’s duty under the CA 2006:

    Duty to act within powers

    As a director, align your actions with the company’s constitution, encompassing Articles of Association, resolutions, and agreements. Additionally, adhere to the equitable principle of ‘proper purpose,’ ensuring powers are exercised only for their designated purposes.

    Duty to promote the success of the company

    Acting in good faith is crucial in fulfilling this duty. Various factors must be considered, such as the long-term impact of decisions, employees, relationships with stakeholders, community and environmental impacts, and maintaining the organisation’s reputation for integrity.

    Duty to exercise independent judgment

    Directors cannot delegate decision-making powers and must protect themselves from external influences. Seeking advice is permissible, but ultimate judgments must be based on individual assessments.

    Duty to exercise reasonable care, skill, and diligence

    Directors must act with the diligence expected of a reasonably diligent person. 

    Duties relating to conflicts of interest

    You should avoid situations that could result in conflicts of interest, such as personal involvement in opportunities related to the company. Also, ensure you disclose potential conflicts to fellow directors, ensuring transparency.

    Duty not to accept benefits from third parties

    Be sure to exercise caution when accepting gifts or benefits to prevent conflicts of interest.

    Duty to declare interest in proposed transaction or arrangement

    Fully disclose any interest in a proposed commercial transaction or arrangement to other directors, even if not directly involved.

    To whom are the directors’ duties owed?

    As per the CA 2006, directors owe fiduciary duties to the company where they hold office and must act consistently with these duties.

    Are there directors’ duties contained in other legislation?

    Yes.

    Examples include:

    • The Health and Safety at Work etc Act 1974 – sets out the basic health and safety duties of a company, its directors, managers, and employees. It also acts as the framework for other health and safety regulations. Under the Act, all employers must ensure the health and safety of their employees, carry out “sufficient and suitable” risk assessments, and provide information, protective measures, and training to employees concerning any identified risks. This is merely a small sample of relevant health and safety duties and responsibilities.
    • The Insolvency Act 1986 – if a company becomes insolvent, the duties of the director/s change from promoting the company’s success to protecting creditors’ interests. If a director knows or ought to know that the company cannot avoid insolvency and continues to trade (wrongful trading) or carries on with business as usual with the intention of defrauding creditors (fraudulent trading) they can face severe sanctions, including a custodial sentence.
    • Environmental law – a director can be liable for an environmental offence if they commit it personally, a point particularly relevant for small businesses. A director and a company can also be jointly charged with committing an offence if it was perpetrated with the director’s cooperation and consent or attributable to the director’s negligence. 

    Breaching directors’ duties relating to health and safety, insolvency, and/or the environment can lead to significant reputational damage, even if you are not found liable for the alleged offence.

    It is, therefore, vital to understand the duties owed under each of these areas, and if an incident occurs resulting in a regulatory or police investigation, contact an experienced Solicitor immediately.

    What is the Company Directors Disqualification Act (CDDA) 1986?

    The CDDA 1986 sets out the procedures used to investigate and disqualify company directors suspected of misconduct.

    The Court can consider cases on application from the Secretary of State and disqualify a director for up to 15 years.

    Most disqualification applications are made under section 6 of the CDDA 1986, which states that the Court can make a disqualification order if it is satisfied that:

    1. the person has been a director of a company which has at any time become insolvent (whether while the person was a director or subsequently), or
    2. the person has been a director of a company which has at any time been dissolved without becoming insolvent (whether while the person was a director or subsequently), and
    3. The Court is satisfied that the person’s conduct as a director of that company makes the person unfit to be involved in the management of a company.

    How to ensure you comply with directors’ duties when launching a new business

    Launching a new company is a busy and exciting time. It may seem intimidating to know that you must have a minimal understanding of a company director’s statutory and regulatory duties and responsibilities.

    However, several different organisations can assist you with finding out the compliance requirements relevant to your industry, including, to name but a few,

    www.smallbusiness.co.uk

    www.ukstartups.org

    The Federation of Small Businesses

    Institute of Directors

    You will also be able to access a great deal of information from your industry’s regulatory body and via networking.

    If you are facing a regulatory or criminal investigation or prosecution, seek experienced legal advice immediately.

    To discuss any points raised in this article, please call us on +44 (0) 203972 8469 or email us at mail@eldwicklaw.com.

    Note: The points in this article reflect the law in place at the time of writing, 19 January 2024. This article does not constitute legal advice. For further information, please contact our London office.

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  • Claims against a Director for Breach of Duties

    Claims against a Director for Breach of Duties

    If a director breaches these duties, it may be possible for shareholders to bring a claim. Contact one of our solicitors.

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    What are the directors’ duties?

    The general duties of a company director are found in sections 171-177 of the Companies Act. They are:

    • A company director must act per the company’s constitution and only exercise their powers for the purposes for which they are given (section 171).
    • A company director must act in good faith and promote the success of the company for the benefit of its members (section 172 (1)).
    • A company director must exercise independent judgment. They may take on board the advice or opinion of others, the ultimate decision must be theirs (section 173).
    • A company director must exercise reasonable care, skill, and due diligence when undertaking their duties (section 174).
    • A company director must not place themselves in a position where there is a conflict, or possible conflict, between the duties they owe the company and either their personal interests or other duties owed to a third party (section 175).
    • A company director must not accept any benefits which are conferred on them due to their position as a company director (section 176).
    • If a company director has an interest in a proposed transaction or arrangement with the company this must be declared to any fellow directors (section 177).

    Examples of breach of directors’ duties cases

    • In 2019, ClientEarth sued, as a minority shareholder, Polish energy company Enea alleging that the company’s strategy to build a 1GW coal-fired power station in northeast Poland as part of a joint venture with another Polish energy firm, Energa posed an indefensible risk to investors in the face of rising prices for carbon and growing demand for renewables. Moving forward with the project would constitute a breach of the board of directors’ fiduciary duties of due diligence and acting in the best interests of the company and its shareholders.
    • In Fairford Water Ski Club v Cohoon [2021] EWCA Civ 143 the director of a company that owned a lake and surrounding land was ordered to repay £350,000 after failing to declare his interest in a water skiing school that operated on the lake at a particular directors’ meeting.

    Breach of directors duties penalties

    What can be imposed?

    There are several sanctions the court can make if a director is found to have breached their duties, including:

    • Damages – if the director has been negligent in performing their duties they may be required to pay damages to the company.
    • Injunctions – an injunction order can be made to prevent a director from conducting a breach or continuing to breach their duty.
    • Restoration of property and/or profits – the court can order a director to return property and/or repay any profits gained through the breach.
    • Reversing of a contract – if a director signs an agreement that goes against the company’s intentions it can be rescinded.

    Can the company ‘forgive’ a director for a breach of duty?

    Yes, section 239 regulates the company’s right to ratify (forgive) conduct by a director amounting to negligence, default, breach of duty, or breach of trust in relation to the company. The ratification decision must be made by resolution of the members and neither the director nor anyone connected with them can be part of the resolution.

    Most importantly, a breach of duty that results in a decision that threatens the solvency of the company or causes a loss to its creditors cannot be ratified.

    In cases of negligence, default, breach of duty, or breach of trust claims, the court can relieve a director of liability in whole or in part if:

    • They acted honestly and reasonably, and
    • Having regard to all the circumstances of the case, the court believes it is reasonable to excuse the director.

    Concluding comments on breaching directors duties

    Civil litigation in cases involving directors’ duties is a highly complex area of law and requires the involvement of commercial disputes solicitors.

    Take for example the Enea case mentioned above which concerned shareholders bringing a claim against the board for, in broad terms, failing to consider environmental and climate change matters in their decision making.
    These types of directors’ duties claims are guaranteed to rise as the science around the impact of company actions on climate change becomes clearer.

    This, and other types of directors’ duties claims, such as conflicts of interests or negligence, can involve cross-border and joint venture elements, adding to the complexity of the matter.

    If you are facing a regulatory or criminal investigation or prosecution, seek experienced legal advice immediately.

    To discuss any points raised in this article, please call us on +44 (0) 203972 8469 or email us at mail@eldwicklaw.com.

    Note: The points in this article reflect the law in place at the time of writing, 19 January 2024. This article does not constitute legal advice. For further information, please contact our London office.

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