The elusive duty to creditors
Under the Companies Act 2006, and common law, directors have many duties. Arguably, the most widely recognised – and considered – is the duty of directors to promote the success of the company for the benefit of its shareholders. In promoting the success of a company, directors must have regard to a list of relevant factors which, despite being non-exhaustive, does not refer to the interests of creditors.
The consensus is that when a company is insolvent the duty to promote the success of the company for the benefit of its shareholders is modified so that the interests of the company’s creditors (as a whole) become more important. This duty shifts at the point at which the directors knew, or should have known, that the company was (or is likely to become) insolvent. Does this mean there is, in fact, an actual duty owed to creditors? At what point must directors begin to prioritise the interests of the company’s creditors? These questions have long plagued the industry.
The Supreme Court’s judgment in the landmark BTI 2014 LLC v Sequana SA  UKSC 25 case confirms the existence and scope of the duty for directors to consider creditors’ interests.
In 2009, Arjo Wiggins Appleton Limited (AWA) declared a dividend of 135 million euros to its sole shareholder. AWA was solvent at the time the dividend was paid, but had long-term contingent liabilities of an unknown value relating to a pollution liability. The existence of the contingent liabilities meant that there was a ‘real risk’ of insolvency at some point in the future, but insolvency was not probable nor imminent at the time of the dividend. Almost 10 years after the dividend was declared, AWA became insolvent because of this contingent liability.
The claimant (BTI 2014 LLC), took an assignment of AWA’s rights against its directors and sought to recover from them a sum equal to the dividend on the basis that the directors had acted in breach of their duty to consider the interests of creditors at the time of approving the 2009 dividend.
The Supreme Court first considered whether there is, in fact, a duty to act in the best interest of creditors, and established that directors are not subject to a separate duty to act in the best interests of creditors. However, in certain circumstances, namely insolvency, the duty to promote the success for the benefit of its shareholders is modified to include creditors’ interests as a whole. This duty is capable of being breached by directors who act in disregard of creditors’ interests when the duty is triggered.
The Supreme Court held that the duty is triggered – and that directors should consider creditors’ interests as a whole and balance them against the interests of shareholders where they conflict – when a company is insolvent, or is bordering on imminent or probable insolvency. When a company is facing inevitable collapse, and insolvent liquidation or administration is unavoidable, creditors’ interests become paramount and take priority over shareholders’ interests. Therefore, the duty to consider creditors’ interests as a whole and balance them against the interests of shareholders is not triggered even if there is a real risk of insolvency at some point in the future, unless there is a risk of imminent or probable insolvent liquidation or administration.
In this particular case, the Supreme Court found that the duty to consider creditor’s interests was not triggered. The dividend was lawfully paid, and AWA was solvent at the time (on a balance sheet and cash flow basis). AWA had a long-term contingent liability of an uncertain amount and there was a real risk the company might become insolvent in the future, but, when the dividend was distributed, insolvency was not imminent.
The judgment gives some welcome guidance as to how and when directors have to balance creditors’ and shareholders’ interests, and the point in time at which those considerations shift.
When balancing the interests of creditors and shareholders, directors will need to be mindful of focusing on the long-term interests of a company. Directors should ensure they have access to all information to enable them to analyse and consider the company’s financial position regularly especially when there are concerns of looming insolvency. Directors would be well advised to ensure that a thorough written record of decisions and concerns are kept.