Wrongful Trading & Directors’ Duties

April 16, 2020, By

Following its announcement of an unprecedented package of measures to support businesses and the economy through the COVID-19 crisis (including CBILS), the Government has now proposed to relax insolvency legislation and procedures to provide a further level of protection to companies (and their directors) in, or close to, financial distress as a consequence of the pandemic.

In particular, the Government intends to suspend the wrongful trading provisions (set out within Section 214 of the Insolvency Act 1986) for three months (retrospective from 1 March 2020), so that company directors will not face the risk of being ordered to personally pay compensation for trading when there is no reasonable prospect of avoiding insolvency.

Whilst these changes may reassure those directors concerned at the potential implications of accepting financial assistance from the Government in these times of great uncertainty, it is essential to highlight that the proposed suspension is not seen to modify the current framework relating to directors’ duties. Directors still need to be mindful of their duty to act primarily in the best interest of creditors in an insolvency situation.

Directors also need to be aware that these proposed measures are not a justification to act recklessly and are not intended to give them complete freedom to take on additional debt or defer their obligations to creditors without reference to their directors’ duties. If it is demonstrated that a director acted in breach of their directors’ duties then they may still be held accountable to an administrator or liquidator should the business fail at a later date.

So, practically, what steps can be taken?

1. Frequent board meetings should assist directors to:

a. keep track of, and consider the company’s response to the Covid-19 situation;
b. continually assess the board’s decision to carry on trading;
c. formulate contingency plans and if necessary, any exit plans; and
d. devise and discuss strategy/business plans for the company.

2. Any board resolutions must be debated fully and honestly. This is particularly important when approving any proposed significant debt transactions as the board will need to ensure that, in the event that a decision is scrutinised from an insolvency perspective in the future, its decisions were justified and they acted in the best interests of the creditors or the company (as the case may be).

3. All board meetings must be carefully minuted for future reference and to create an audit trail.

4. Directors need to review cash flows regularly and maintain accurate up to date financial reports regarding the performance of the company, its debtors and liabilities.

5. The Directors should regularly engage with shareholders to ensure that they are fully updated.

6. Directors should review contracts and existing loan agreements, consider any payments due under such contracts and scrutinise any financial covenants with which the company needs to comply.

7. Directors need to continue to take professional advice especially if they decide that there is no reasonable prospect of their business avoiding insolvency.

If you need any further guidance then please contact Rhian Owen in our Corporate team.

For further legal support relating to the current circumstances, visit our Covid-19 support hub.