The Insolvency Service's latest report on enforcement outcomes for 2022/2023 records an increase in the number of director disqualifications compared to the previous year. There is also a material increase in the average disqualification periods (now up to 7 years and 4 months). We predict that these upward trends will continue over the next 12 months.
Although the majority of cases where a company enters into liquidation do not result in disqualification proceedings against the directors, complaints of misconduct are increasing. In this article we look at some of the reasons behind this increase. We also set out our top tips for directors and officers to mitigate against these risks.
Why are the numbers increasing?
For the last three years, company insolvencies and disqualification numbers have been historically low. This is largely due to the high level of financial support made available to businesses during the Covid-19 pandemic. That support was withdrawn in late 2021 and with inflationary pressures biting throughout 2022, company insolvency numbers are slowly starting to return to pre-pandemic levels. We expect this upward trend to continue. Many companies are carrying more corporate debt post-pandemic, with the Bank of England reporting that debt in small and medium sized enterprises has risen by as much as a quarter. Higher levels of corporate debt leave companies, particularly in the SME market, increasingly vulnerable to cashflow difficulties and ultimately insolvency. This, coupled with ongoing inflationary pressures, is likely to cause insolvency numbers to rise even further. More insolvencies means more investigations, and more opportunities to discover potential wrongdoing.
The Covid-19 pandemic also provided fertile ground for fraud. This has shone a spotlight on unfit conduct and created a fresh impetus for counter fraud work. As a result, we are seeing more government investigations and enforcement action being taken generally. We have already seen the government take a number of steps to combat fraud by directors, including the introduction of the Rating (Coronavirus) and Directors Disqualification (Dissolved Companies) Act 2021. This Act was introduced to close a loop hole in relation to dissolved companies, and it amended the Company Directors Disqualification Act 1986 to give the Insolvency Service the power to investigate the conduct of directors of dissolved companies.
Whilst the government's Covid-19 support schemes helped millions of businesses through the pandemic, it has become apparent that the financial support schemes were widely abused. This abuse has been widely reported in the press, including many stories of directors using the strike off process improperly to close down companies with outstanding bounce back loans, and so avoiding a liquidation where their conduct might be scrutinised.
To protect taxpayers' funds, the UK government invested over £100 million in setting up a dedicated taskforce to combat fraud in the Covid-19 financial support schemes. The taskforce is being administered by HMRC. It is therefore perhaps unsurprising that the latest statistics show that the two most common allegations for director disqualifications in 2022/2023 were (1) abuse of a Covid-19 financial support scheme and (2) unfair treatment of the Crown.
These statistics should serve as a warning to directors.
Claims against directors and officers are on the rise and we predict that this upward trend will continue over the next 12 months. We seem to be seeing a shift globally with companies, activist shareholders, government agencies, regulatory bodies and liquidators being increasingly willing to scrutinise the conduct of individuals and pursue claims against them. This, coupled with a growth in third party funding, is driving an increase in claims against company directors and officers. It is also driving up disqualification numbers.
What can directors and officers do to mitigate against these risks?
Our top tips for directors and officers to mitigate against these risks are as follows:
Refresh your knowledge on your legal duties. You have a duty to act in the best interests of the company, but you should also have proper regard to the interests of creditors, customers, shareholders, employees and in some cases, the wider public. Make sure you understand how to discharge your duties.
Hold and attend regular meetings. Engage in discussions, ask questions and ensure you are satisfied with the information you are given by others.
Ensure that decisions are properly recorded and if difficult issues arise in the performance of your duties, seek specialist advice.
Make sure the company's financial records are up to date and accurately record what is happening in practice (particularly in relation to the tax treatment of any payments you receive). Make sure you comply with statutory filing deadlines. If you receive an enquiry from HMRC, cooperate and seek independent legal advice if necessary.
D&O liability insurance can provide valuable protection against the risk of claims (particularly in relation to the legal costs of defending a claim). If you have a D&O insurance policy in place, consider the scope of the policy, check you are familiar with the terms of the policy and make sure you have disclosed all material information to your insurer. If you do not have a D&O policy in place, you may wish to consider insuring against the higher risk of claims.
If you are the director of a company with an outstanding bounce back loan which it is unable to pay, make sure you seek independent legal advice before closing down the company.
If you have any questions about directors' duties, suspected misconduct, investigations or directors' disqualification, please contact Rachel Brown in our Restructuring and Insolvency Team.
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