Company failures - who's liable?

Company failures - who's liable? | Insurance Business

Company failures - who

Who takes the fall when a company hits the rocks? It’s a question that provokes a wide range of opinions – often directly conflicting.

In Australia, a very public unravelling of the country’s major banks has seen many an executive’s head roll. Senior personnel have been chopped and changed, and executives have seen their bonuses cut – including Commonwealth’s ex-CRO.

Disdain for corporate executives is at an all-time high: laws, regulations, shareholders and the general public are all holding corporate leaders directly accountable for structural failures and bad conduct. Yet many board members and directors remain focused on business priorities such as cyber security threats, workplace harassments, regulation and political uncertainty, without realizing that the ultimate responsibility is theirs, and they can be held personally liable for failure.

Today, organizations are increasingly vulnerable to the wrath of the public in a time of trial by social media. With a platform to air grievances in the pocket of the average consumer, outrage can easily spill over when it seems as though no-one is being held accountable for a company’s failures. For risk managers and those at the senior level of a business, understanding the risks and knowing who is responsible for what in the time of a crisis is crucial.

Marie-Louise King, partner at law firm Winckworth Sherwood, takes a look at the picture in the UK when it to comes to who is accountable in the face of company wrongdoing – and finds that the risks have become personal.

A succession of company failures in the United Kingdom has hit the headlines this year, with household names in retail and the restaurant trade among the most high-profile. Those who suffer immediate financial consequences are becoming increasingly vocal in their criticism of a legislative framework that appears to make creditors, such as commercial landlords, employees and the tax payer, pay for the mistakes of those appointed by the shareholders to manage the business.

The seemingly endless number of high-profile company failures has prompted a backlash against perceived impunity for company directors on whose watch the business failed. This perception that directors are immune from the consequences of their actions, or inactions, results in part from the fact that they tend not to be seen immediately, but rather after the publicity surrounding the failure has disappeared.

Company directors owe duties to the company, which derive from common law, the company’s articles of association, and statute, principally the Companies Act 2006. If the company is facing insolvency, those duties are owed to the company’s creditors.

In the context of administration or liquidation the insolvency practitioner appointed is under a statutory duty to investigate the cause of company failure; and the business, dealings and affairs of the company generally. That exercise involves close scrutiny of the directors’ conduct and decision making, and where it falls short, directors may be held to account personally.

Wrongful trading
A liquidator or administrator of a company in insolvent liquidation or administration may ask the court to order that a director personally contributes to the company’s assets, in circumstances where it appears that the director knew or ought to have concluded that there was no reasonable prospect that a company would avoid going into insolvent liquidation or administration and then failed to take every step with a view to minimizing the loss to the company’s creditors as he ought to have taken. The amount of the contribution order can be expected to reflect the amount of the loss to the company’s creditors which resulted from the director’s failure.

Fraudulent trading
Where a director is knowingly party to the carrying on of any business of the company with intent to defraud creditors of the company or creditors of any other person, or for any fraudulent purpose, a liquidator or administrator of a company may ask the court to order that director to make a personal contribution to the company’s assets. If actual dishonesty on the part of the director is proven, he will also be guilty of a criminal offence.

The official receiver, a liquidator, a creditor or a shareholder can recover money or damages from company directors or those concerned in its management, who have misapplied or retained or become liable or accountable for any money or property of the company, or have been guilty of misfeasance or breach of fiduciary or other duties in relation to the company, for example improper payments of dividends or payments of unauthorized remuneration.

The investigation into the cause of company failure and the examination of the directors’ conduct and decision making can lead the Secretary of State to conclude that a director is unfit to be concerned in the management of a company and initiate disqualification proceedings. Where there is persistent default in compliance with various duties to submit documents to the Registrar of Companies, a director may be disqualified from being involved in the formation, promotion or management of any company in the United Kingdom for a maximum of five years. Disqualification can be for a period of between two and 15 years where the conduct involves misfeasance or wrongful or fraudulent trading.

The time taken to conduct an investigation into the directors’ conduct can lead to a delay in directors being held personally to account, and may explain the perception that directors of failed companies enjoy impunity. Calls are growing for directors to be seen to be being held to account, and this is likely to lead to increased publicity and a greater volume of claims against directors and disqualification proceedings, a risk which companies can and should consider insuring against.