The Supreme Court has handed down its long-awaited judgment in the Sequana case, the first occasion on which the Supreme Court (or the House of Lords) has addressed the question of whether company directors owe a duty to consider the interest of creditors when a company is at risk of insolvency, and the point at which that duty is triggered.
In May 2009, when the company was unquestionably balance sheet and cash-flow solvent, AWA distributed a dividend of €135 million to its only shareholder, Sequana SA. There was no question that the dividend was lawful in the sense that it complied with Part 23 Companies Act 2006. However, AWA had long-term contingent liabilities relating to pollution, which gave rise to a real risk – falling short of a probability – that AWA might become insolvent at some (not imminent) date in the future. In the event, AWA went into insolvent administration in October 2018. BTI, as assignee of AWA's claims, sought to recover an amount equal to the Sequana dividend from the AWA directors on the basis that the decision to distribute breached the duty to creditors. It was also alleged, by AWA's main creditor, that the dividend was a transaction at an undervalue intended to prejudice creditors as defined in s423 Insolvency Act 1986.
The s423 claim succeeded at first instance, though Sequana became insolvent and so did not repay the dividend. BTI's claim against the directors failed both at first instance and in the Court of Appeal, which found for the directors on the basis that the "creditor duty" had not become engaged by May 2009; while there had been a "real risk" of insolvency by that date, insolvency was neither imminent or probable. The Court of Appeal's view was that the creditor duty did not arise until the company was actually insolvent, on the brink of insolvency or probably headed for insolvency; a future risk of insolvency did not trigger the creditor duty unless the risk was sufficiently high to amount to a probability of insolvency.
Before the Supreme Court, BTI argued that a "real risk" of insolvency was sufficient to engage the creditor duty. The directors did not agree that the creditor duty existed at all; if it did, they said it could not apply to the payment of a lawful (i.e. compliant with Part 23 Companies Act) dividend, and it could not be engaged until insolvency was actual or imminent.
The Supreme Court found that the "creditor duty" does exist, although characterised it as a facet of the directors' duty to act in the best interests of the company, on the basis that there are circumstances when the interests of the company include the interests of the creditor body as a whole (for example, when insolvency means that the creditors, rather than the shareholders, have the economic interest in the company). The "creditor duty" can apply to the payment of a lawful dividend, but a "real risk of insolvency" was not sufficient to trigger the duty, and so BTI's appeal was dismissed.
The majority – Lords Briggs, Kitchin and Hodge – considered the trigger to be either imminent insolvency (i.e. insolvency which the directors know or ought to know is imminently going to happen) or the probability of an insolvent liquidation/administration about which the directors know or ought to know. Such an eventuality required the directors to take into account and give appropriate weight to the interests of the company's creditors as a body, and to balance them against shareholders' interests in the event of conflict between the two. Lord Reed was less certain of the requirement that the directors "know or ought to know" of the prospective insolvency (on the basis that they have a duty to keep themselves informed of the company's affairs), but did not express a concluded view. The court recognised that cases would be fact-specific, and the directors' reasonable assessment of the likelihood that a particular course of action would lead the company away from insolvency (i.e. the question of "how bright is the light at the end of the tunnel?") would be relevant to the weight given to the respective rights of creditors and shareholders. If there was no prospect of avoiding insolvency, the creditors' interest would become paramount; Lady Arden expressed this as being the point at which the company becomes irreversibly insolvent – that is, a test not dependent on the directors' opinion of the position.
Directors will welcome the fact that the trigger point for the "creditor duty" has been more clearly defined to be closer to the point of insolvency, and that the court recognised the necessity for a "sliding scale" so that the closer the company gets to insolvency, the greater the weight to be given to creditors' interests, but several questions were left expressly unanswered, including the scope of the liability and the relief obtainable. The likelihood is that this issue will return to the Supreme Court in a bid for clearer definition at some point in the not too distant future.
Read the decision.
Read our more detailed article on the case.