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Directors' duties survive company insolvency, rules High Court

Out-Law Legal Update | 28 Feb 2020 | 4:21 pm | 4 min. read

The High Court has ruled that a director's fiduciary duties survive a company's entry into administration or voluntary liquidation.

The liquidator of Systems Building Services Group Limited was successful in his application in respect of company property sold at undervalue and payments made after the company entered administration. The decision confirms that, while a director's powers cease on insolvency, their fiduciary duties remain – even when not exercising those powers themselves.

The High Court has granted the application of System Building Services Group Limited (SBSG) and its liquidator Stephen Hunt for declaratory relief in respect of company property sold and payments made after the company entered administration.

SBSG's principal activity was "passive fire protection, fire stopping and intumescent coating" and was run by its sole director Brian Mitchie. SBSG entered administration on 12 July 2012, with Gagen Sharma being appointed as administrator. The administration was converted into a creditors' voluntary liquidation (CVL) on 3 July 2013, with Sharma also serving as liquidator. SBSG was dissolved on 24 February 2016 but was subsequently restored, with Stephen Hunt being appointed as liquidator on 3 May 2017.

Hunt claimed that after SBSG entered administration Michie knowingly purchased a property from SBSG and Sharma as its liquidator at a substantial undervalue and without it being placed on the open market, for his own benefit and without regard to the interests of SBSG's creditors as a whole. He said that this meant Michie was in breach of his fiduciary duties as a director of SBSG, in particular his fiduciary duty to act in the best interests of SBSG's creditors as a whole from the time at which the company was insolvent.

The claim said that shortly after SBSG entered administration Michie caused or allowed payments totalling £19,000 to be made out of SBSG's bank account in favour of CB Solutions UK Limited, one of its creditors, without any good reason, and that this meant that Michie was in breach of fiduciary duties as director of SBSG and guilty of misfeasance under section 212 of the Insolvency Act 1986 (IA86).

Hunt said that SBSG made payments totalling £169,537.06 to System Building Services Limited (SBSL), against which he was also taking action in the case, after the company entered administration. Michie was an employee of SBSL and later became a shareholder and director. It was argued that SBSL provided no consideration for these payments, and Hunt sought repayment on the grounds that SBSL was unjustly enriched. The secondary or alternative claim was that, in the event consideration was found to have been provided, that £64,135.51 was excluded from the sale of book debts and work in progress between SBSG and SBSL, and repayment should be made on the grounds SBSL was unjustly enriched.

The claim said that SBSG made unaccounted payments to Michie totalling £137,674.59 prior to SBSG entering administration. Hunt sought repayment on the grounds that the payments represented either an outstanding director's loan account owed by Michie to the SBSG, or an informal unsecured borrowing by Michie from SBSG.

The case relied upon the general duties of a director as set out in the Companies Act 2006 (CA06), particularly that "a director of a company must act in the way he considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole" and "in certain circumstances, to consider or act in the interests of creditors of the company."

However, Michie argued that once a company enters administration or a CVL, the general duties of a director under the CA06 only survive in respect of any exercise by that director of those powers preserved by, or permitted in accordance with, IA86. Michie also argued that there was a "resounding silence" amongst commentators and a wholesale lack of authority on the subject.

The court ruled that the general duties of a director did survive a company's entry into administration or a CVL, and that these duties are independent of and run parallel to the duties owed by an administrator or liquidator appointed in respect of a company.

The ruling said: "In procuring and agreeing to an off-market sale of the property to himself at what he knew to be a significant undervalue, at a time when he knew the company to be insolvent, Michie acted entirely out of self-interest and failed to have regard to the interests of the creditors as a whole."

It said that in causing or allowing the payment of £19,000 to be made to CB Solutions UK Limited after SBSG entering administration, Michie was guilty of misfeasance under section 212 of IA86, and ordered to pay those sums to SBSG.

Hunt was successful with his alternative case on payments to SBSL that although there was a sale of book debts and work in progress between SBSG and SBSL, no consideration was given for the excluded £64,135.51 which represented SBSG's "cash at bank". SBSL was ordered to repay those sums on the basis of unjust enrichment.

SBSG made unaccounted payments to Michie totalling £65,513.28. Michie was ordered to repay those sums to SBSG.

This decision confirms that whilst a directors' powers cease upon a company entering into administration or CVL, the same does not apply to a directors' duties, which survive and are independent to those of the administrator or liquidator. Directors cannot simply walk away and consider themselves to be relieved of their fiduciary duties once a company enters into an insolvency process and these duties extend well beyond the duty to co-operate with the officeholder. Insolvency practitioners (IPs) will welcome this clarity on what is expected of a director of an insolvent company post appointment, and this case provides helpful authority to officeholders who are considering action against a director based on their post-insolvency actions or conduct.

The roles of directors and IPs, particularly in relation to pre-pack deals and the prices obtained for company assets, are likely to fall under greater scrutiny as a result of this decision. It is also a reminder that all parties involved in the sale and purchase of distressed assets should consider if the price paid is in the best interests of the insolvent entity's creditors as a whole.

Co-authored by Kevin Mulligan, a restructuring expert at Pinsent Masons, the law firm behind Out-Law.