Dishonest Directors in the Crosshairs

The Insolvency Service is embracing new powers afforded to it out of the coronavirus pandemic. Previously the Insolvency Service would only investigate a live company or one in liquidation with evidence of director malpractice.

The ‘Ratings (Coronavirus) & Director Disqualification (Dissolved Companies) Bill’ now gives the Insolvency Service powers to investigate directors of dissolved/struck off companies. The bill is retrospective, to specifically encompass defunct businesses who took part in a government support schemes such as the Coronavirus Business Interruption Loan Scheme (CBILS) and Bounce Back Loan Scheme (BBLS). The Insolvency Service now have more power to investigate situations where directors set up a seemingly identical company immediately, or shortly after a dissolution.

There have been a number of cases reported about unscrupulous directors dissolving their zombie companies that have benefited from government support. There have also been a number of cases highlighted where directors have not passed on the benefits of Furlough payments to employees, only to dissolve the company. In such cases, the British taxpayer is left footing the bill. In a show of good faith companies such as Primark, Asos, Halfords will voluntarily return Furlough payments to HMRC having reported increased revenues and profits as a direct result of the pandemic.

In support of the bill and increased Insolvency Service powers the Business Secretary, Kwasi Kwarteng, said “…we need to restore business confidence, but also people’s confidence in business – which is why we will not hesitate to disqualify directors who deliberately leave employees and the British taxpayer out of pocket.”

Dissolving a company can be a logical step or an inevitable last resort in some cases. In others, it has been used to neutralise creditor action for personal gain and cast off the shackles of ill-judged unsustainable debt. The mechanism to dissolve a company was never intended to absolve directors from questionable conduct and shirk their responsibilities. Powers now afforded to the Insolvency Service should make chancing the loophole less enticing.

The 7 Statutory Responsibilities of a Director

Being a director is more than just ‘being a boss’. In law, he/she has a number of duties as part of the Companies Act 2006. These are:

  1. Duty to Act Within his/her Powers – all companies have Articles of Association. This is a written constitution setting out the rules and processes directors should follow in running the company. For example, it details how decisions will be made and recorded, how directors are remunerated and appointed the role of shareholders, and the presence of dividends.
  2. Duty to Promote Success – directors must act in good faith and to the benefit of shareholders and stakeholders (employees, creditors, clients). Directors act as ambassadors for the company, and facilitators of both growth and change behind the brand.
  3. Duty of Independent Judgement – whilst directors do have a responsibility to shareholders and stakeholders, they are not the delegate or puppet of either. Their judgment must be their own. A record of the board’s decision-making must be kept on file for 10 years.
  4. Duty to Exercise RCSD – otherwise known as Reasonable Care, Skill and Diligence. Directors should be appointed because of their ability, skill and knowledge. The days of appointing ceremonial directors to simply ‘cash in’ on their reputation are long gone!
  5. Duty to Avoid Conflict of Interest – a director should make known any instance where a decision discussed by the board could have a conflict with their own personal interests.
  6. Duty not to Accept Third Party Benefits – a director must not accept a benefit/gift from a third party when it is received in view of their directorship. In its most extreme form, this translates to not taking bribes.
  7. Duty to Declare an Interest – a director should make known any instance where they stand to personally gain or lose from a proposal being considered by the board. For example interest in a sale, acquisition or lease.

New Responsibilities – The Better Business Act

The Institute of Directors is supporting The Better Business Act (BBA), a campaign to add further responsibilities of directors under section 172 of The Companies Act 2006. The proposed additions would see a legal obligation for directors to consider the interests of Society and the Environment in their decision-making process. Until the BBA or similar is enshrined in law, it remains a voluntary code of conduct. Since being launched in April 2021 the BBA has been gaining momentum. The UN’s Intergovernmental Panel on Climate Change calling a ‘code red’ for humanity has brought environmental consideration to the foreground of directors, employees and consumers. A number of national and international companies have already signed up such as Graze, Innocent Drinks, John Lewis, Suez Recycling, and The Body Shop. Smaller companies are also signing up as the campaign reaches a wider audience.

Enforcement Outcomes

The Insolvency Service Enforcement Outcomes show in the period 2011-2021 over 53% of disqualifications were attributable to directors attempting to defraud the crown (HMRC). 10% were for acting to the detriment of creditors, and 9% of disqualifications were deemed criminal matters.

A disqualified director can be banned from obtaining a directorship, forming, marketing or running a company for up to 15 years. In the period 2020/21, the average length of disqualification given was 5 years 6 months. On 31 March 2021, there were 6,800 active disqualifications being served. In the last decade, the number of directors disqualified each year ranged from 1,000 to 1,400 individuals. As the Insolvency Service looks retrospectively at dissolved companies that utilised government support schemes, disqualifications could see a marked increase throughout the 2020s.

Taking the Penalty of Disqualification

When the Insolvency Service investigates, the outcome can provide a stark reality check for those directors found wanting. Here are some enlightening examples of when things go wrong for directors who fall short of their obligations.

Both directors of Grosvenor Property Developers were disqualified for a combined 25 years. The company received more than £6.5M of investor funds for the development of land which it did not own nor seek planning permission for. The investigation identified that £3.1M was transferred to an associated company in the United Arab Emirates, and a further £1.3M was used for personal travel and luxury goods.

The director of Godiva Environmental Solutions was disqualified for 4 years. The company was voluntarily wound up in June 2020 with an estimated deficiency of £2.1M and had been trading whilst insolvent. The Official Receiver found substantial cash withdrawals in excess of £142,000 paid to family members and a loan shark (unlicensed money lender).

Three directors Independent Derivative Traders were disqualified for a combined 17 years 6 months for their part in trading whilst insolvent. The company provided access to a financial trading platform. The directors were found to have taken deposits from traders and misappropriating the funds. They were found to have ignored professional advice warning the company was technically insolvent and had been reminded of their obligation to look after creditor interests.

Two directors of Associated Lead Mills and one director of HJ Enthoven were disqualified for a combined 13 years and 6 months for their part in forming a cartel to control prices and supply. The directors purposely did not target the other’s client base or neutral customers which might affect existing relationships. The Competition & Markets Authority found the cartel had breached competition law and exchanged competitively sensitive information.

The director of Peace flight was disqualified for 11 years for continuing to trade the business despite it being to the detriment of creditors. 7 years later the same director was given a suspended prison sentence and a further 10-year ban for being an unofficial director of a company. She had been given the equivalent duties and control by the company registered director who was aware of the disqualification.