The collapse of Carillion in January sent shockwaves through industry, with potentially serious knock-on effects for the company’s clients, suppliers and employees. But what could the implications be for Carillion’s directors in terms of their liability?
Under the Companies Act 2006, directors of a limited company must act in ‘good faith’ to promote the success of the company and must exercise reasonable care, skill and diligence.
Maeve England, partner in dispute resolution at Mogers Drewett, said: “We have seen some high profile collapses in the construction industry before – but Carillion is the biggest and most complex for some time.”
The extent to which the directors fulfilled their duties has come under serious question given that Carillion collapsed with debts of some £900m (though it has been reported that banks could face losses as great as £2bn), pension liabilities that could approach £800m, and just £29m of cash.
It was only in July 2017 that the company issued a profit warning, referring to an £845m impairment charge in its construction division, just a few months after its annual accounts presented the company as a going concern.
The company has also faced questions over its conduct regarding its pension scheme. The scheme trustees reportedly asked the directors to increase funding into the scheme in both 2010 and 2013 as the deficit grew – but agreement could not be reached and in the meantime dividends continued to be paid out to shareholders.
A number of directors appeared before the House of Commons Business and Work & Pensions Select Committees, at the end of January and early February respectively, and received an intense grilling from MPs. After the second hearing, Committee chairs Frank Field and Rachel Reeves were scathing, saying:
“This morning a series of delusional characters maintained that everything was hunky dory until it all went suddenly and unforeseeably wrong. Everything we have seen points the fingers [of blame] in another direction – to the people who built a giant company on sand in a desperate dash for cash.”
Sean McDonough, partner in Employment & HR at Mogers Drewett, commented: “The clear implication is that the MP committees believe the directors must bear a significant proportion of the blame for the company’s demise which has left its 40,000+ employees in danger of redundancy and many suppliers facing the prospect of receiving little or nothing of what they are owed for services delivered. The Government is also likely to have to foot a significant bill from stepping in to keep some public contracts running. Establishing the extent of director liability will be a key area of focus as the collapse unwinds.”
So what are the liability penalties that at least some of the directors could face?
Sean McDonough said: “This is a complex area of the law and outcomes are often unpredictable. However, one possible penalty when a company ceases trading in this manner is for the director(s) to be disqualified from holding the position of director or being involved in the management of a company for up to 15 years. Where the directors are guilty of ‘wrongful trading’ – that is, carrying on trading when they knew or should have known that there was no prospect of avoiding insolvency – they can be ordered to contribute to the pool of assets available to the company’s creditors.”
In extreme cases, for very serious breaches of duties, imprisonment is even possible.
The directors could also face fines or claims for compensation. Regulators have the power to fine individual directors. There can also be penalties if a company’s annual report is shown to be inaccurate or misleading.
Meanwhile, an individual shareholder or group of shareholders could bring a claim against the director(s) for breach of duty.
Maeve England said “These types of claims are challenging and costly to run and it is important to obtain early legal and tactical advice to ensure that you are positioned well in any subsequent litigation.”
It is possible for a company to indemnify or insure its directors against claims – Directors’ and Officers’ (D&O) insurance is common. However, this cannot cover fines imposed in criminal proceedings or penalties imposed by regulators. There are also usually exclusions for fraud, dishonesty or criminal behaviour.
The outcome of the Carillion collapse may take months or longer to unfold, and the precise implications for any or all of the directors, past or present, is as yet unclear.
Sean McDonough concluded: “The Carillion episode starkly illustrates the seriousness of the responsibilities that arise out of a director’s duties. Although personal shareholder liability is ‘limited’ to investment losses by virtue of the corporate structure, a shareholder who is also a director can still suffer personal liability for their acts or failures to act should things go wrong.
“Directors need to take their duties seriously and I am often surprised at how many directors do not understand their basic duties. Those responsibilities often get overlooked during a period of rapid growth or during a start-up period when all stakeholders are focused on commercial issues. It is important that existing or new directors take the time to understand which lines cannot be crossed or at the very least the consequences of crossing them. We can provide cost effective and commercially focussed advice around those issues.”