Whose Liability is it Anyway? The case of the Former BHS Directors

Recently, there was a momentous judgment in relation to the BHS litigation which has potentially wide-ranging implications for the D&O Insurance market.

For those who have followed this protracted saga since the collapse of arguably one of Britain’s best-known department stores back in 2016, the ruling that two former directors of the chain have now been ordered to pay at least £18m in damages, after being found liable for wrongful trading and breaching their duties pursuant to the Companies Act 2006, may offer some long-awaited closure.

There are, however, some further interesting points to be taken from Mr Justice Leech’s 533-page judgment, which we set out below. In the first instance we set out a brief summary of the events which led to the recent decision:

• In March 2015, BHS Group was sold by Topshop owner, Arcadia, to Retail Acquisitions Ltd (RAL), for just £1.
• The directors of RAL, Messrs Chappell (who did not participate in this hearing), Henningson and Chandler, also became the directors of BHS. The appointment of Mr Chappell was particularly interesting as not only had he no experience of the retail sector, but he had also previously been declared bankrupt on 4 occasions.
• In April 2016, administrators were appointed with BHS having outstanding debts of more than £1bn. Despite government and community efforts to save BHS, by June 2016 the chain collapsed, with the loss of 11,000 jobs and a £571m pensions liability.
• In the aftermath, several pieces of litigation emerged, including the present claim by the liquidators against the former directors for wrongful trading and misfeasance.

Wrongful trading

The law on wrongful trading is summarised in the judgment and effectively says that a director may be personally liable for a company’s losses if, before the insolvent liquidation, s/he knew or ought to have known that there was no reasonable prospect of the company avoiding liquidation and they did not take every step to minimise the potential loss to creditors.

What standard applies to directors?

• The standard of reasonableness expected of directors in the way they carry out their duties is that to be expected of a person fulfilling the particular role. In other words, if someone is appointed the director of a large retail business (such as BHS), he or she will be judged against the standard of a director in that position, regardless of the amount of experience that person may have.
• A director will be treated as having the knowledge which s/he had, or could have had, were they acting with reasonable diligence.
• A director cannot simply believe that things will get better – if they reasonably consider that the company’s fortunes will improve by continuing to trade, there needs to be a rational basis for this belief and the directors need to demonstrate that.
• In order to prove that the directors were liable for wrongful trading, liquidators must prove that the directors knew or ought to have known that insolvent liquidation or administration was inevitable. The judge acknowledged that this was a very high bar and applied the test in the 2022 decision of BTI v Sequana.

To what extent can directors rely on experts?

• The duties and responsibilities of a director are personal and cannot be delegated, however, the board can delegate management functions and obtain professional advice.
• Although professional advice might be relevant, it would depend on the precise circumstances of that advice and this does not override the requirement, pursuant to s.173 Companies Act 2006, that a director should exercise independent judgement.
• In practice, this would include what the experts were asked to do, the knowledge that they had (or assumptions they had to make), what they said to the directors and the extent to which the directors relied on that advice.
• A number of expert advisers were engaged by BHS to give financial advice. The directors argued that Grant Thornton, one of the financial advisers, never said that there were no reasonable prospects of avoiding insolvent liquidation and, considering the c. £1.8m fee they were charging, should have expressed an opinion on that, which the directors were entitled to rely on.
• Despite the large fees paid to independent professional experts, the responsibility of determining whether insolvent liquidation could be avoided rested with the directors and was a question of individual judgement.

Misfeasance

The duties and responsibilities of a director are multifarious and are set out in sections 171-177 of the Companies Act 2006. A claim for misfeasance can be brought by a liquidator (or other interested party such as a shareholder) where a director is alleged to have acted in breach of those duties.

How are losses for misfeasance calculated?

• The starting point is for the Court to determine what would have happened had the directors complied with their duties (applying a counter-factual scenario)
• The Court then considers what, in fact, happened.

The Court applies both of these tests in order to calculate the loss.

Takeaway points

Insurance – although the directors had £20m worth of D&O cover, this was ultimately not sufficient to protect them from incurring significant personal losses as a result of covering damages and costs. The directors argued that any liabilities awarded against them should be capped or reduced on the basis that: (a) the D&O policy only covered losses of up to £20m (including defence costs); and (b) they were unable to pay damages above the level of indemnity under the policy.

The Court rejected these arguments, noting that:

“it will send a green light to risk-taking or, even, dishonest directors if the Court reduces the amount of compensation for which Mr Chandler is liable on the basis of his ability to pay. Creditors will receive no compensation if risk-taking directors will be able to escape liability if they can prove that they have no insurance and no personal assets to meet a claim for wrongful trading (or have been able [to] protect them from attack by a liquidator).”

Limited sympathy – one of the directors, Mr Chandler, was held to have done his best but did not have the requisite experience to be expected for the group general counsel role (he was, by background, a criminal barrister) at a large corporate retailer such as BHS. The judge found that he was honest but still ordered him to pay at least £6.5m in damages.

Inevitability – the judge held, in relation to causation, that even if one of the directors had objected to a number of specific transactions, Mr Chappell would likely have removed him from his position and carried out those transactions anyway. Any claim against that director (in relation to those transactions) would therefore fail on grounds of causation.

The judgment, of course, contains a detailed analysis of the above points and much more, and with a hearing in relation to Mr Chappell expected shortly, the BHS saga and its impact on D&O claims appears far from over.