Creditor duty: Supreme Court hands down Sequana judgment

The Supreme Court has recently handed down its long-awaited judgment in the case of BTI 2014 LLC v Sequana SA and ors [2022] UKSC 25. This important decision clarifies the duties a director owes to company creditors and at what point these duties are triggered. This decision should also help insolvency practitioners determine whether directors of an insolvent company have breached their duties when considering bringing a claim against a director.

BTI v Sequana – background

In May 2009 the directors of AWA distributed a €135M dividend to its only shareholder, Sequana. This payment extinguished the vast majority of a larger debt owed by Sequana to AWA. It was agreed for the purposes of the Supreme Court proceedings that the dividend was lawful and in accordance with Part 23 of the Companies Act 2006. At the time, AWA was both balance sheet and cash flow solvent, although it had significant contingent debts that were not crystallised and were of an uncertain value. These liabilities gave rise to a risk that AWA could become insolvent in the future, although this risk was not imminent.

AWA entered into administration in October 2018 and shortly thereafter assigned its rights to BTI 2014 LLC. BTI sought to recover the entire value of the dividend from the AWA directors on the basis that the payment of the dividend was in breach of the directors’ fiduciary duties to AWA’s creditors.

BTI’s claim failed in the High Court. Although the directors had failed to account for the interests of AWA’s creditors when the dividend was paid, the directors were not under a duty to consider the creditor’s interests at this time, as insolvent liquidation was neither imminent nor probable.

The decision

The Court of Appeal held that the creditor duty did not arise until a company was either insolvent, on the brink of insolvency or probably heading for insolvency. BTI appealed once again to the Supreme Court who unanimously dismissed the appeal. The court held that AWA’s directors were not under a duty to consider the interests of the company’s creditors at the time the dividend was paid.

The court’s judgment provides valuable guidance on four key issues:

1. Is there a common law creditor duty at all?

The court held that creditor duty is not owed by directors at all times, but falls under a director’s existing duties to act in the best interests of the company. In a solvent company, acting in the best interests of the company will typically be synonymous to acting in the best interests of the company’s shareholders. However, as a company approaches insolvency, these duties will begin to shift from being owed to the company’s shareholders to being owed to the company’s creditors.

2. Can the creditor duty apply to a decision by directors to pay a lawful dividend?

The court held that creditor duty can apply in this scenario and a decision to pay a dividend that is lawful under Part 23 of the Companies Act may still be a breach of duty. This is because Part 23 identifies profits available for distribution on a balance sheet basis and does not strictly prohibit the distribution of dividends from a company that is commercially, or cash flow, insolvent. The court confirmed that it was possible for a dividend to be lawful under this legislation, but still in breach of duty if it is made by a company that is cash flow insolvent.

3. What is the content of the creditor duty?

Directors should consider the interests of creditors and balance these against the interests of the shareholders. Creditors’ interests should carry more weight as a company’s financial difficulties grow, but directors should ensure that they act in the interests of the creditors collectively and do not show preference to individual creditors. Creditors’ interests become paramount when a formal insolvency procedure becomes inevitable, as shareholders cease to retain any valuable interest in the company.

4. When is the creditor duty engaged?

The court held that creditor duty was not invoked at the time of the dividend payment. AWA was not insolvent, nor was liquidation probable at the material time. There was a real and not remote risk of insolvency due to AWA’s contingent liabilities, but this was not enough to engage the directors’ duties to creditors.

It was decided that creditor duty is engaged when the directors know, or ought to know, that the company is insolvent or bordering on insolvency and liquidation or administration is imminent. This differed from the Court of Appeal’s position that the duty is engaged when insolvency was merely probable, as insolvency can be temporary and does not necessarily lead to a formal insolvency procedure.

Consequences for directors and insolvency practitioners

The decision in Sequana confirms the existence of a director’s duty to act in the interests of the company’s creditors and affirms the decision in West Mercia Safetywear Ltd v Dodd [1988] BCLC 250, the previous leading authority on creditor duty.

It is imperative that directors are always aware of their statutory and fiduciary duties, particularly when the company is at risk of insolvency. It is also important to note the distinction between the probability of insolvency, which could be temporary, and that of entering a formal and terminal insolvency procedure. Insolvency practitioners considering claims against directors should be wary that the bar for bringing breach of duty claims has now been raised and a higher threshold must be reached to be successful.

In any event, directors and insolvency practitioners should take legal advice before bringing or defending claims for breach of duty.

If you would like advice on how these important changes could impact you or your business, please contact Dan Tominey on 01727 738240 or djt@debenhamsottaway.co.uk