British Home Stores (BHS), once a household name on the UK high street, fell into collapse in 2016, leaving not only a £570 million pension fund deficit but also sparking lengthy litigation and directors’ disqualification proceedings.
The recent conclusion in the lengthy High Court judgment in the BHS Group case introduced a new and novel concept of ‘misfeasance trading’ duty for company directors involved in wrongful trading which is causing concern for directors of potentially insolvent companies. Whilst this judgement appears to be based on a unique and extraordinary set of circumstances, it demonstrates, failure to adhere to such duties could lead to a director being held personally liable, therefore upmost importance on their statutory duties.
Background
Retail Acquisitions Limited (RAL), acquired BHS from Arcadia in March 2015 for the sum of £1. By April 2016, the company had fallen into liquidation with liabilities estimated to be in the region of £1.3 billion.
As a result of their investigations in December 2020, the liquidators (FRP Advisory) sought to bring claims for wrongful trading, trading misfeasance and individual misfeasance against the directors; Lennart Henningson, Dominic Chandler, and Dominic Chappell. The liquidators sought a totalof £160 million.
The judgment is only binding on Mr Henningson and Mr Chandler. Mr Chappell was not part of these proceedings, and a further trial will be held to determine his liability. A further director, Keith Smith, settled claims with the liquidators before trial.
Key takeaways
• The court introduced the concept of misfeasance trading
• The court will look at the increase in net deficiency of assets as a result of the company trading past the “knowledge date” in determining the quantum of claims
• The court, following the judgment in BTI v Sequana, found that the grounds for misfeasance trading can be engaged before those for wrongful trading were engaged
• Taking professional advice does not grant a defence to the claims brought against the directors, if they fail to appropriately consider such advice, or the advice is provided based on an inaccurate set of facts.
Wrongful trading
To demonstrate wrongful trading, the liquidators had to show that under section 214 of the Insolvency Act 1986, the directors, before the commencement of the winding up of the company, knew or ought to have concluded that there was no reasonable prospect that the company could avoid going into insolvent liquidation (the “knowledge date”).
The liquidators put forward six alterative dates for the knowledge date; beginning with one month after RAL’s acquisition of BHS and ending 8 September 2015, six months before the company entered liquidation. The court found the necessary requirement was met on 8 September 2015 (the latest of those dates put forward by the liquidators).
The maximum amount for which directors can be held personally liable for wrongful trading, should be the increase in the company’s net asset deficiency from the so called “knowledge date” to the point when the company entered liquidation. The court held each director liable on a several basis, for £6.5 million.
Individual misfeasance
The liquidators put forward a claim that the directors of BHS had breached their duties under the Companies Act 2006 in eight individual transactions. However, four of these claims failed for lack of causation. For the remaining four claims in which the liquidators were successful, the directors were held liable for a sum of £5.6 million, despite the fact BHS held sufficient directors and officers insurance to fulfil the claims brought against the directors. The court held “to do so would be to send the wrong message to risk-taking directors”.
What is misfeasance trading?
In BTI v Sequana SA [2022] UKSC 25, the Supreme Court held “there may be more egregious circumstances in which the absence of a remedy beyond section 214 [wrongful trading] would appear to be a lacuna in our law”.
In his judgment, Mr Justice Leech introduced the concept of misfeasance trading which may fill the legal gap or lacuna referred to in Sequana. This concept refers to trading in breach of directors’ duties, by continuing to operate a company which should have entered administration or insolvent liquidation much earlier had those duties been observed properly.
Whether a director has breached their duties under the Companies Act 2006, is a matter of the facts. Evidence to prove/disprove such a breach can be found in both the directors’ actions and inactions, as well as their consideration of any professional advice. However, in this case, the directors failed to demonstrate they had complied with their statutory duties, namely considering the interests of the creditors. Had they considered such duties, they would have concluded that BHS should have ceased trading. As a result, the court found that by continuing to trade and enter into financial transactions, the directors committed breaches of their statutory duties.
The court determined that the breach of the creditor’s duty occurred due to the directors’ “insolvency deepening” actions, whereby they sought to refinance BHS’s short-term debt on more unfavourable terms. The breach of these duties for the purpose of misfeasance trading was found to be six months before the date on which they were found to have breached their duty for wrongful trading (i.e. in June 2015 not 8 September 2015). In other words, it was found that the breach of duty required for misfeasance trading can occur earlier than that for wrongful trading.
It should be noted however that the court did not determine the appropriate level of compensation for trading misfeasance.
Professional advice
The directors of BHS took professional advice regarding their directors’ duties from both reputable law firms (Olswang LLP) and accountancy firms (Grant Thornton). Typically, taking and acting on such advice may provide a defence to claims brought against directors for wrongful trading or misfeasance. In fact, it demonstrates that they are fulfilling their duties with reasonable care as required under Section 174 of the Companies Act 2006. However, this did not provide such a defence to the directors of BHS.
The directors of BHS, whilst they obtained advice, it was neither complete nor accurate. The advisers were at times given an inaccurate or incomplete picture on which to base their advice, therefore any advice given was not suitable. Further, when advice was received, it was not always properly considered or given the appropriate weight. For example, when Olswang raised points for consideration by the board of directors regarding the refinancing of BHS’s debts and if this would improve the financial position, the court held this advice was never tabled nor discussed before entering into the transaction. Advice was, even on occasion, sought after the event.
It is clear why the directors could not rely on professional advice as a defence to the claims brought by the liquidators; they needed to do more than “going through the motions” of gaining advice. The directors needed to demonstrate they fulfilled their statutory duties by appropriately considering and discussing the professional advice given, such as documenting the discussions in the relevant board minutes. Any advice provided must be based on a complete and accurate set of the facts being provided to the professional advisers. It was not possible for the directors of BHS to rely on advice given that was based on inaccurate information.
Conclusion
Whilst the BHS liquidation and subsequent judgments appear to be based on a unique an extraordinary set of circumstances, the judgment of Mr Justice Leech, should serve as a stark reminder to directors of companies that are in the “zone of insolvency” to place upmost importance on their statutory duties. The relevant statutory duties however can change. When a director knows or ought to know if a company is insolvent or bordering on insolvency, a directors duties change, and the creditor duty becomes engaged. In other words, the directors owe a duty to consider the interests of the creditors. As this judgment demonstrates, failure to adhere to such duties, can lead to a director being held personally liable.
The judgment also introduces a new concept of misfeasance trading. On the surface, whilst this may appear to be easier and less onerous, compared to wrongful trading, this is a new and novel concept and remains untested by the courts. It therefore remains to be seen how the courts will adopt and interpret the precedent sent in this judgment.
Mr Justice Leech clarifies the importance of properly engaging with professional advice in order to comply with any director’s duties. Professional advisers must be provided with an accurate picture of the facts in order to provide appropriate advice and such advice is to be thoroughly considered by the directors, with such consideration being documented in company board minutes. Failure to do so, will lead to any protection being nullified.
The contents of this article are intended for general information purposes only and shall not be deemed to be, or constitute legal advice. We cannot accept responsibility for any loss as a result of acts or omissions taken in respect of this article.
