In a significant judgement, the Supreme Court’s answer to the question is that where a director knows, or ought to know, that the company is insolvent, or where an insolvent liquidation or administration is probable then yes, a duty to the creditors arises.
The case concerned a dividend payment agreed by the Directors of the company of €135,000,000 to its only shareholder in May 2009 so almost extinguishing a much larger debt owed to the company. At the time in 2009 this complied with the legal formalities and did not place the company at financial risk. However there was an unquantified long term pollution related risk liability and an insurance portfolio of uncertain value. Thus, whilst there was a real risk at a time in the future the company may become insolvent, insolvency was not imminent or even probable. The company fell into insolvent administration almost ten years later in October 2018. The creditor took action against the directors seeking recovery of the dividend from them arguing they had not considered the creditor’s interests. The High Court, the Court of Appeal and the Supreme Court all dismissed the claim and appeal brought by the creditor finding that at the time the creditor duty had not arisen.
This is an important case for two reasons. Firstly, this addresses a frequent, common practical issue arising for companies and secondly, it is the first time this has been considered by the Supreme Court.
Directors well know that their duty is to act in the best interests of the company at all times. Lord Briggs makes clear that the creditor duty is not a free standing rule but is a modification and clarification of the rule. Section 172(3) of the Companies Act 2006 which sets out the duties of a director to promote the success of the company includes a provision that that duty is “subject to any enactment or rule of law requiring directors, in certain circumstances, to consider or act in the interests of the creditors of the company”. The Court also point out that there is some precedent for their decision which began developing in the mid 1980s. They include the reasoning that as the company nears insolvency, the shares become less valuable and so the creditor’s relative interest in the its assets increases.
In practical terms it will be important for Directors to show that they have considered a creditor’s interests where a company is facing serious financial difficulties. Creditors will be able to question a director’s decisions on this basis and it leaves open an argument for them to make that the closer to insolvency (and on insolvency event) their interests should take a priority over the shareholders. It should be noted however that it is only at those times that creditors take a priority in decision making, the usual balancing of interests is otherwise should prevail. Directors must be sure that they know the balance sheet and cashflow support their decisions. It would be prudent to keep records of decisions during difficult times showing consideration was given to creditors. Seeking and following advice from accountants and advisers would serve well to protect directors from accusations they have breached their duties.
