The High Court has found two former directors of the BHS group personally liable to pay £18million for wrongful trading and misfeasance.
This lengthy judgement serves as a warning to any director of a company in financial distress that their conduct will be subject to future scrutiny. It highlights how the duties of a director alter as a company enters the zone of insolvency together with the importance of seeking professional advice at an early stage.
Background
The BHS group was acquired by Retail Acquisitions Ltd in March 2015 and new directors were appointed. In April 2016, four companies within the BHS group went into administration and then subsequently liquidation. The liquidators brought claims for wrongful trading and misfeasance against individual directors.
Wrongful Trading
To establish liability for wrongful trading under s.214 of the Insolvency Act, the company must continue to trade after the directors of the company either knew or ought to have known that there was no reasonable prospect of avoiding insolvency. This is known as the Knowledge Condition and the date on which the directors first met the Knowledge Condition is known as the Knowledge Date. In this case the court found the Knowledge Date to be September 2015, seven months prior to the administration filing. Having failed to demonstrate to the satisfaction of the court that they had taken every step towards minimising loss to the company's creditors, the directors were unable to rely on the defence set out in s.214 and were consequently found liable for wrongful trading and required to contribute to the assets of the company.
Although professional advice did not state that insolvency was inevitable, the court found that it was the duty of the directors themselves to decide whether there was a reasonable prospect of avoiding insolvent liquidation. Whilst the judge recognised that legal advice can provide an evidential basis for dismissing a wrongful trading claim where the directors carefully consider that advice he concluded that the directors had not done so in this case.
Misfeasance
The directors were found liable for misfeasance having to failed to take sufficient account of the interests of the company's creditors in exercising their duty to promote the success of the company. The judge held that the directors' “insolvency-deepening activity” amounted to a breach of this duty even though insolvent liquidation was not inevitable and there was no liability under s.214. This is the first successful misfeasant trading claim to be considered by the courts.
Key takeaways for directors
- Ensure clear and precise records are kept that reflect the reasoning and decision-making of the board.
- Directors must be alive to their duties and review them on a continuing basis. In particular, if a company is in the zone of insolvency, directors must consider creditor interests.
- Maintain an appropriate level of D&O insurance.
