Courts could force directors to compensate creditors, under Government plans

Out-Law News | 16 Jul 2013 | 9:26 am | 3 min. read

Courts could be given the power to order disqualified company directors to compensate creditors who have lost money as a result of their actions, under plans being considered by the Government.

The Department for Business, Innovation & Skills (BIS) has published a new discussion paper (89-page / 594KB PDF) for consultation and proposed that courts should, when they make disqualification orders against company directors, be able to issue a compensatory award benefiting creditors at the same time. Such orders could be made when creditors "have suffered from a director’s fraudulent or reckless behaviour", it said.

"This would increase the likelihood of culpable directors being called to account for their actions, whilst providing better recourse to creditors who have suffered," BIS said. "There are practical implications of this approach which need to be fully considered. However, we invite views on whether this would increase confidence in the corporate enforcement regime."

BIS said that it could foresee both advantages and disadvantages to its plans.

"This measure could potentially affect the timeliness of obtaining disqualifications if it deterred directors from offering a disqualification undertaking and therefore resulted in more disqualification cases needing to be taken to court," it said. "On the other hand, it would provide a greater possibility of redress."

Insolvency law specialist Nicholas Pike of Pinsent Masons, the law firm behind Out-Law.com, said that the Government's proposals on compensatory awards have merit but that the detail of the plans would have to ensure that the rights of liquidators to pursue their own claims against directors were not unfairly affected.

"BIS can bring civil court proceedings seeking director disqualifications under the Company Directors Disqualification Act (CDDA)," Pike said. "Their decision to initiate proceedings of this kind is based on their analysis of reports formed by administrators and liquidators about the failures of companies. BIS reviews whether or not the behaviour of directors makes them culpable for those businesses failing. However whilst courts under the CDDA can determine whether or not to make disqualification orders and how long those orders should last, they cannot determine whether, and in what sum, compensation should be paid by directors to creditors."

"However, the Insolvency Act provides administrators or liquidators, on behalf of creditors, with the power to make a claim against directors for compensation for their actions. Frequently, administrators or liquidators will wait for any CDDA proceedings to end before initiating their own actions," he said.

"The Government's proposals might enable creditors to obtain compensatory payments faster and provide redress in cases where liquidators simply lack the funds to bring their own claim under the Insolvency Act. There is a risk, though, in blurring the two existing regimes, that the rights of liquidators to bring their own actions would be undermined. Liquidators should not be precluded from bringing their own claims against directors where a court, under revised CDDA proceedings, decides that those directors should have to pay only a nominal amount in a compensatory award," Pike added.

In its paper, the Government also outlined a number of other new measures it said were aimed at improving "transparency and trust" over UK business ownership and operations.

Under the plans, the time limit for initiating disqualification proceedings against directors would be raised from two years to five years from the first insolvency event.

In addition, liquidators could also be given the right to sell on their right to pursue directors for certain types of claim which only they can bring, such as wrongful trading claims.

Sector regulators, such as the Financial Conduct Authority (FCA), may also be handed the power to issue director disqualifications that apply across any sector, under the plans put out to consultation.

Corporate law expert Martin Webster of Pinsent Masons said what the Government had proposed had merit.

"The proposals are clearly a response to some of the worst excesses uncovered by the financial crisis of the last few years," Webster said. "But one vital requirement for a thriving business environment is stability. The Government has recognised that itself but here we have yet another 89 page consultation document with a rag bag of proposed changes. Many of them may be no more than a tinkering around the edges, but they all give rise to uncertainty and can be a distraction from the real task of promoting UK plc."

Litigation expert Michael Isaacs of Pinsent Masons, added: "The coalition government made a commitment to a 'one in, one out rule' on new regulation in order to ease concerns around red tape. However, this is the latest in a string of announcements that do not match that rhetoric."

"We are seeing greater burdens placed upon already beleaguered company directors at a time when entrepreneurial instincts are key to getting the economy going. Nobody would question that directors who have done something wrong should face consequences, but we cannot create an environment where there is no scope for risk - it is a crucial part of doing business," he said.