This article was first written for and featured in Financial Times.
I am the managing director of a medium-sized machine products distributor. We have been badly affected by the downturn and are going into insolvency. But on top of the stress of insolvency, I am worried that I will also be facing a lawsuit, as one of our shareholders is arguing that we should have realised we would go into liquidation and have stopped trading earlier. Although I was aware there were cash flow problems a couple of years ago, I took active steps to secure investment and manage the debt. Does this make me personally liable?
When there are doubts. about a company’s solvency, the directors’ duty is to manage the business in a manner that protects the interests of the creditors as a whole. Directors should be aware that they can be personally liable if they continue to trade when there is no reasonable prospect of saving the business. They can also be banned from being directors.
However, this does not mean they should resign or stop trading at the first sign of problems. A recent case involving Langreen Limited provides some comfort, as it shows that a court will not impose sanctions if directors can prove they made honest and rational commercial decisions to protect the interests of creditors (even if they eventually turned out to be wrong).
To have the best chance of proving this, directors should hold regular minuted meetings, formulate specific areas of responsibility and take professional advice. Your “active steps” to secure investment and manage the debt could help protect your position.