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As recession looms, company directors are in the firing line

Britain’s economy unexpectedly fell back in August as factories and consumer services firms struggled, putting the UK on track to shrink overall in the third quarter, according to the ONS (Rui Vieira/PA) (PA Wire)
Britain’s economy unexpectedly fell back in August as factories and consumer services firms struggled, putting the UK on track to shrink overall in the third quarter, according to the ONS (Rui Vieira/PA) (PA Wire)

Business distress, and collapses, are on the rise.  The Insolvency Service recently reported that corporate insolvencies have started to increase; against the backdrop of a recent rapid slide in sterling in particular, it is more difficult than ever for those leading companies to navigate an already-challenging landscape.

The recent increase in insolvencies is driven by a number of factors – notably, for example, the withdrawal of pandemic-related Government support for companies – and, together with increasing scrutiny of companies by regulators and creditors, the result is that businesses of all sizes, and across many sectors, are facing significant challenges.  Regrettably, these challenges will in many cases prove insurmountable.

On top of all this, a deeper UK recession is now looming.  Fitch Ratings just lowered its UK GDP forecast for 2023 since the publication of the latest Global Economic Outlook (GEO).  It’s now expecting UK GDP to decline by 1% in 2023 compared with just -0.2% in its September GEO.

To augment the difficulties faced by businesses and those in charge, company directors should know that the legal and regulatory environment around them has become more hostile.  The means by which third parties can hold directors to account for misconduct have multiplied.  When businesses collapse – sadly a more frequent occurrence in times of recession – those in charge often face questions regarding how the business was handled.  Criticism tends to follow.  Directors are now subject to much more scrutiny than ever before, and that scrutiny may reveal a cause of action, whether based on alleged breaches of statutory duties, or on the wrongful trading regime under the insolvency legislation, or on some other (existing or new) basis.

In a deepening recession and in the context of increasing pressure from regulators and creditors, company directors need to be aware that they might be on the hook, particularly in an insolvency scenario.

The Insolvency Service can now pursue directors of dissolved companies, where formerly the costly process of restoring the company to the register would need to be completed first.  This is already proving to be highly significant, particularly in cases of fraud, for example where government support schemes have been misused, and the company then dissolved.

Also, while most directors act appropriately and in line with their duties, creditors will, if they are out of the money, be looking for recourse and may see the company’s directors as a source of recovery (particularly if there is a directors’ and officers’ insurance policy in the background).  A challenging, recessionary, economic backdrop is likely to cause such creditors, as well as regulators and third parties, to look very closely – and often with the benefit of hindsight – at the conduct of the directors of companies that are facing solvency difficulties.  Directors need to be mindful of the possibility of these claims.

Claims that target directors in the context of a company insolvency can also now be brought by a wider range of claimants than was historically the case, for example creditors and other third parties may be able to pursue claims that were historically only available to the insolvency practitioner.  Particularly with the widespread availability of specialist insolvency litigation funding, pursuing the directors of insolvent companies is a more viable proposition than was once the case, and this will likely lead to even more claims against directors as the recession bites.

Directors must ensure that they recognise, and discharge appropriately, their duties, whether those duties are owed to the company itself, or to the company’s creditors.  In either case, it is clear that if businesses fail, the conduct of those running the business will be scrutinised very closely.  Even where a director has indeed acted in the best interests of their company and creditors, they may find themselves placed in an uncomfortable position.

James Whitaker is a Partner at global law firm Mayer Brown