Directors’ Duties and “Misfeasance Trading”: Lessons From BHS

The collapse of the British Home Stores group (BHS) in 2016 — for many years a household name on the UK high street — left much destruction in its wake. The significant pensions deficit of £570 million alone led to multiple inquiries, disqualification proceedings, and changes to the law to give criminal investigation powers to the UK Pensions Regulator. The actions that the group’s liquidators brought against the directors have now produced a lengthy judgment. While it is safe to say that its over 500 pages will feature in nobody’s choice of Desert Island Judgments, the decision offers some interesting learning points that rise above the dense factual detail:

1. The judge found the relevant directors liable for wrongful trading under Section 214 of the Insolvency Act 1986 from only the latest of the “knowledge dates” pleaded by the liquidators (September 2015).The date when the directors knew or ought to have concluded that there was no reasonable prospect that the company would avoid going into insolvent liquidation or administration, applying a “notional director” test that imposes a minimum objective standard which may be higher if the actual skill and experience of a given director is greater. But the judge also found that they had breached their duties as directors to promote the success of the companyUnder Section 172, Companies Act 2006. at an earlier date on which they had failed properly to consider the interests of creditors.
2. Following the Supreme Court’s decision in Sequana,BTI 2014 LLC v. Sequana SA [2022] UKSC 25. it seems clear that a breach of the creditor duty (termed “misfeasance trading” in the BHS caseAn action brought by the liquidators under Section 212, Insolvency Act 1986 for misfeasance or breach of any fiduciary or other duty by the directors.) may arise at a point in time earlier than liability for wrongful trading. In BHS, this was brought about by the “insolvency-deepening” activity of the directors in refinancing the short-term debt of the group on increasingly unfavourable terms in what the liquidators and the judge described as a “degenerative strategy”. Although insolvent liquidation or administration was not inevitable, liability for breach of the creditor duty had already arisen.
3. “Trading misfeasance” was the term given by the court to the decision by the board to continue to trade without considering the interests of creditors in breach of the modified duty under Section 172 of the Companies Act 2006. The modified duty to consider creditors’ alongside shareholders’ interests had been triggered when the directors knew (or ought to have known) that insolvency was probable. The difficulty in securing a working capital facility to allow the group to deliver an operational restructuring other than on extremely onerous terms was a strong indication that the board had pursued a “very risky transaction as a last roll of the dice”, identified by Lord Briggs in Sequana as falling squarely within a breach of the creditor duty.Sequana at [238].
4. Taking advice does not alone grant directors immunity. Although the board took advice on both wrongful trading and the creditor duty, the court found that the directors had failed to follow it. On the key date of a particular refinancing in June 2015, the court held that the directors gave no consideration at all to creditors’ interests. Had they done so, they might have been justified in continuing to trade because there was some limited “light at the end of the tunnel”. But because they failed entirely to consider creditors’ interests, they acted in breach of duty and became liable in misfeasance for a proportion of the increased net deficiency from the date of the breach. Each of the two relevant directors was ordered to contribute £6.5 million for wrongfully trading; the judge postponed the measure of compensation for the breach of duty pending further submissions as this was “a developing area of the law”. In theory, this could amount to over £130 million (the remaining amount of the increased net deficiency).
5. The subsequent promotion and approval of a CVA in early 2016 — weeks before the company’s administration — did nothing to absolve the directors of the earlier breach of duty and wrongful trading. The company did not provide complete information to the (separate) advisers on the CVA, and so any reliance that the board placed on the advice it received was ill-founded because the directors were “simply going through the motions” with “formulaic” minutes, “none of them recording that there was any genuine discussion between board members about the risk of insolvency or the risks to individual creditors”.

Has the decision altered how directors should assess their duties?

The BHS decision does not fundamentally alter the approach and factors that directors and their professional advisers should consider when continuing solvency is doubtful. It highlights the importance of the board determining at each meeting whether the creditor duty has arisen and, if so, to give due weight to creditors’ interests and to rationalise decision-making through that lens. This should sit alongside the usual “reasonable prospects” analysis for wrongful trading. Assuming that there are reasonable prospects for avoiding insolvent liquidation or administration, a subjective assessment of creditor interests at a time when the creditor duty has arisen should shield directors from a successful breach of fiduciary duty claim.

However, the judge’s reasoning was a little opaque on that last point. In the summary of his findings, he suggested that, had the directors complied with their duties following the June 2015 date (when they should have considered creditors’ interests), the companies “would not have continued to trade but would have gone into insolvent administration immediately”. That appears to elide the creditor duty with the wrongful trading test. The earlier (and more substantive) passages of the judgment are clear that, had the board considered the interests of creditors and decided in good faith that the refinancing was in their interests, the judge would have dismissed the breach of duty claim. Going on to say that the board ought to have concluded that “it was in the interests of creditors to put the company into administration immediately” sits awkwardly with the subjective nature of the creditor duty test which, if properly considered and satisfied, ought not to result in an immediate insolvency filing.

The decision may have made it more difficult for the board to form a judgement where it considers that there are reasonable prospects of avoiding insolvent liquidation (a comparatively low bar) but exploring those prospects may come at the expense of creditors. If those prospects do not materialise, what is the risk that the creditor duty has been breached? If nothing else, this illustrates the uncertain and sometimes unsatisfactory state of the law in this area and may yet prove a fertile area should the decision be appealed.