Directors' duties when creditors are nigh

What are the duties of a director when creditor pressure is rising? Keith Tully, partner at Real Business Rescue, explains.

Running a successful company can be stressful enough, but when a business falls on hard times, and creditors are circling with intent, it can be a hugely testing time for any director.

As a company director, there is an obvious responsibility to act in the interests of the company and its stakeholders, which will mean shareholders, investors, employees and other directors. However, when a company is facing serious and growing pressure from creditors, its directors’ priorities must instead focus on acting in a proper fashion and make sure that debts can, and will, be paid as fully as possible.

Acting properly

Directors who are involved in leading the affairs of a particular company are subject to a variety of legislation in the UK. Even directors who hold no particular executive role have some responsibility. Key aspects of laws in these areas relate to situations in which businesses are facing debt pressures, and may in fact be insolvent. It is in these circumstances that it is both particularly challenging and especially important for directors to act properly, and in the interests of their creditors.

Much of the relevant legislation specifies what directors can’t do, most particularly in a situation in which financial pressures are mounting up. A director can’t, for example:

  • use company money for purposes not relating to the business
  • conduct sell-offs of assets at lower than market values
  • arrange for new and unaffordable lines of credit to be opened up, or falsify company accounts
  • allow their directors’ loan accounts to become overdrawn

Making every effort

In essence, the laws relating to company directors emphasise clear responsibilities in making every effort to pay creditors money they are owed. Failing to do so can lead to directors themselves facing court action and legal prosecutions, under circumstances in which a company becomes insolvent.

There is also a clear responsibility for directors to declare their companies insolvent if they are. Knowingly continuing operations as normal, in a situation where a business is clearly insolvent, is a legal offence, and one that can have serious personal consequences for company directors. If trading on is considered to be feasible, it is sensible to have written professional advice to record that, but creditors’ positions should not be worsened by trading on. In addition, paying trade creditors and leaving tax/VAT debt unpaid can lead to disqualification if the company fails. 

Considering all options

Obligations affecting a director whose company is struggling with debts are ultimately designed to protect creditors, and these responsibilities must be taken seriously. However, directors also have a responsibility to their own organisations to be fully aware of the distinction between operating on an insolvent basis, and simply facing up to serious cash flow problems.

Julie Palmer, regional managing partner at Real Business Rescue, said:

“It’s important to remember that by law, if a company is insolvent, the directors have a duty to the creditors, not themselves or the shareholders.

“The good news is that there are a growing variety of funding options and financial mechanisms through which company directors can succeed in raising cash and securing finance, in ways that might satisfy creditors and keep a business from going under.

“Whether they prove to provide a stay of execution, or a chance for a fresh start, new forms of financing are constantly evolving with good reason.”

About the author

Keith Tully has worked in the field of corporate insolvency and finance since 1992, and specialises in advising company directors who are facing financial distress. He offers this support though Real Business Rescue. Keith joined business rescue specialist Begbies Traynor as a partner in 2013 after the acquisition of his own business recovery firm. You can follow Keith on Twitter @RealBizRescue.