In this blog, Rachel Brown in our Dispute Resolution Team considers the recent judicial consideration of the duty to promote the success of the company and looks at the practical implications for directors.
This article was first published in the ThoughtLeaders4 Disputes Magazine (Issue 14).
Directors' duties and development by common law
Company directors have a broad range of duties and responsibilities.
The key duties of a director are set out in Part 10 of the Companies Act 2006 ("the Act"). However, these statutory duties[1] must be considered alongside the overlapping common law rules and equitable principles[2]. The Courts play a key role in interpreting and applying the duties of a director as laid down in the Act.
Over the last few years, we have seen a number of cases which have sought to develop the law surrounding directors' duties. Many of these cases have focused on the duty to promote the success of the company under section 172(1) of the Act ("the Section 172 duty").
The duty to promote the success of the company
The Section 172 duty requires a director to act in a manner which, he considers in good faith, will be likely to promote the success of the company for the benefit of its members as a whole[3]. The duty is broadly defined within the Act, which provides a degree of flexibility. It also provides fertile ground for development by case law.
Recent case law shows that directors are increasingly in the firing line. Over the last few years we have seen a number of attempts to try and persuade the Court to intervene with board decision making processes and expand the liability burden for directors.
So, when can the Court intervene?
Section 172 states that in promoting the success of the company, the director must have regard (amongst other matters) to:
- The likely consequence of any decision in the long term;
- The interests of the company's employees;
- The need to foster the company's business relationships with suppliers, customers and others;
- The impact of the company's operations on the community and the environment;
- The desirability of the company maintaining a reputation for high standards of business conduct; and
- The need to act fairly as between members of the company.
Whilst not an exhaustive list, it is clear from the factors described that company directors are expected to consider a range of factors and balance different interests when making decisions.
The standard required of directors under section 172 is subjective. However, there are a number of situations where the Court can look at things objectively. Specifically:
- Where the creditor duty has been trigged and the interests of creditors have become paramount (see BTI 2014 LLC v Sequana SA below).
- Where there is no actual evidence of the director considering the best interests of the company and the Court needs to consider whether an honest and intelligent person in the director's position would have taken the same actions to comply with their duties.
- Where there is a material interest (such as the interests of a large creditor) which has not been taken into account without justification.
In these situations, the board's decision-making processes are subject to closer scrutiny. It is also open to the Court to question the rationality of the directors' decisions and vary the standard required to comply with the Section 172 duty.
Recent developments
As mentioned above, the scope of the Section 172 duty has been subject of judicial consideration in a number of recent cases.
In BTI 2014 LLC v Sequana SA [2022] UKSC 25 the Supreme Court considered the nature, scope and content of the directors' duty to creditors. The Supreme Court held that there is no separate, standalone creditor duty and instead it forms part of the director's fiduciary duty to promote the best interests of the company. The Court also considered that when a company is bordering on insolvency, or insolvency is probable, a director must consider the interests of creditors and give appropriate weight to those interests to comply with the Section 172 duty. In practice, it may be difficult to identify the exact point at which a company starts bordering on insolvency. It may also be difficult to identify the appropriate weight to be given to creditor interests at a particular point in time. Whilst aware of these challenges, the Supreme Court was reluctant to allow directors unfettered discretion. Lady Arden opined that restrictions on the discretionary exercise of the Section 172 duty were required to provide a measure of protection for creditors. She also emphasised the need for directors to stay informed, record the reasons for their decisions and maintain up to date accounting records.
In ClientEarth v Shell [2023] EWHC 1897 ClientEarth argued that the section 172 duty was a sufficiently broad concept to require the Shell directors to consider the impact of their decisions on climate change. The Court was not persuaded by this argument and refused to impose specific climate-related considerations on the Shell directors. However, the decision appears to be unique to the facts. In this particular case, there were evidential concerns about the case put forward by ClientEarth. There were also concerns about an ulterior motive. In different circumstances, with more persuasive evidence, it may be possible to successfully argue a claim for breach of section 172 based on climate-related considerations. As we transition away from fossil fuels to renewable energy and social concerns about climate change grow, we are likely to see more disputes in this area. We are also likely to see further attempts to develop the section 172 duty to impose personal liability on directors for failing to consider environmental factors.
In the recent decision of Wright and Rowley, BHS and others v Chappel [2024] EWHC 1417 it was argued by the liquidators that the directors should be held liable for breaching the section 172 duty because they had failed to consider the interests of creditors irrespective of whether a claim for wrongful trading was successful established. The Court agreed and determined that there had been a breach of the section 172 duty and misfeasance, prior to the date of insolvency. The Court also held the BHS directors liable for a new offence of "misfeasant trading". This decision appears to make it more difficult for directors to form the view, in times of financial distress, that a company has a reasonable prospect of avoiding an insolvent liquidation.
What next?
Although these cases each turn on their own facts, there is an obvious trend here. The section 172 duty is increasingly being applied by the Courts in a broader context with greater scrutiny of the wider impact of board decisions. We are also seeing a noticeable shift away from the idea that the success of a company can be identified by reference to financial gains and the corresponding fiscal benefit to members.
Instead, the pursuit of profits has to be balanced against the need to have regard to other groups affected by the company's operations. Directors also need to be able to demonstrate which interests have been considered, as well as being able to explain how each factor has been considered in the decision-making process.
Whilst it remains to be seen how the Section 172 duty will be developed over the next few years, we can expect to see more corporate disputes focusing on the discretionary exercise of the Section 172 duty. We can also expect to see a greater emphasis from the Courts on good corporate governance. Given the evolving complexity in this area, directors would be well advised to seek professional and expert advice at an early stage.
Footnotes:
[1] Sections 171-177 of Companies Act 2006
[2] Section 170(3) of Companies Act 2006
[3] Section 172 of Companies Act 2006
Want to hear more from us? 
