The collapse of BHS: directors’ liability for wrongful trading and misfeasance

A recent High Court judgment in one of the most high-profile corporate insolvencies of recent times, Wright v Chappell[2024] EWHC 1417 (Ch), has held former BHS directors liable for wrongful trading and misfeasance, underscoring the critical importance of directors’ duties and the potential consequences of their breaches.

The collapse of British Home Stores (BHS) in 2016 has resulted in a significant legal victory for the company’s liquidators. Former directors of BHS have been found liable for wrongful trading and misfeasance, leading to substantial financial penalties. The court found that the directors had continued to trade the company despite the fact that they knew or ought to have known that there was no reasonable prospect of avoiding insolvent liquidation or administration, causing significant harm to creditors and employees. This misconduct led to the closure of numerous stores and job losses. This constituted wrongful trading, a serious breach of directors’ duties. Additionally, the directors were found to have misapplied company property and breached their fiduciary duties, leading to a finding of misfeasance.

The judgment (which is 533 pages long!) also sheds light on the responsibilities of directors and the extent to which they can rely on the advice of external advisers. While professional advice can provide valuable input, directors ultimately bear the responsibility for making sound decisions and ensuring the company’s financial health. The BHS case serves as a stark reminder of the consequences of directorial misconduct and the importance of ethical corporate behaviour.

Background

Prior to its collapse, BHS was a profitable company, owned by Sir Philip Green. However, the company began experiencing financial difficulties around 2009. In 2015, Green sold BHS to Retail Acquisitions Ltd (RAL) for a nominal fee. New directors, Chappell, Henningson and Chandler, were appointed to oversee the company. Despite efforts to improve BHS’s financial situation, the company continued to struggle. In 2016, BHS filed for administration and went into liquidation.

The joint liquidators of BHS brought legal claims against the former directors, alleging wrongful trading and misfeasance. The directors were accused of continuing to trade the company despite the fact that they knew or should have known that it was insolvent.

The High Court found the directors liable for both wrongful trading and misfeasance. The directors were ordered to pay substantial financial penalties. The case against Chappell is still ongoing, with press reports indicating a potential £50 million contribution to the company’s assets.

Wrongful trading

To prove wrongful trading, the liquidators had to show that:

• The company became insolvent: BHS went into liquidation;
• The directors knew or should have known of insolvency: the directors were aware or should have been aware that there was no chance of BHS avoiding insolvency;
• The directors were in office: the accused individuals were directors of BHS at the relevant time.

The court assessed the directors’ knowledge based on the standard of a reasonably diligent person in their position. This standard considers both the general knowledge expected of a director and the specific knowledge and experience of the individual director.

The court determined that the directors knew or should have known that BHS was in dire financial straits and could not avoid insolvency. Despite this, they continued to trade, causing substantial harm to creditors and employees.

The judgment also emphasised the importance of directors acting in the best interests of the company and its creditors. The directors’ failure to address the company’s financial problems and their reliance on unsustainable strategies contributed to BHS’s downfall.

Misfeasance and directors’ duties

The BHS liquidators argued that the directors breached their statutory duties by continuing to trade the company while it was insolvent. This is known as ‘misfeasance trading’.

While the Insolvency Act 1986 doesn’t create new legal rights, it allows liquidators to enforce existing rights on behalf of the company. The liquidators claimed that the directors’ actions violated various sections of the Companies Act 2006, including those related to acting within powers, promoting the success of the company and exercising reasonable care and skill.

The court found that the directors breached their fiduciary duties in several ways:

• Acting outside their powers: the directors entered into unfavourable financial agreements that were not in the best interests of the company;
• Neglecting creditor interests: the directors failed to prioritise the interests of BHS’s creditors, particularly when the company was struggling financially;
• Breaching corporate governance standards: the directors failed to follow proper procedures, such as holding board meetings and considering professional advice.

These actions contributed to BHS’s insolvency and resulted in significant financial losses for the company and its creditors.

Key takeaways and consequences for directors

The judgment emphasises the need for proactive monitoring and informed decision-making by directors. Directors should regularly assess the company’s financial situation and be aware of potential insolvency risks. They should consider the long-term consequences of their actions, not just short-term benefits. Directors must also stay informed about the company’s affairs and make decisions based on accurate information. Proper documentation of decisions and reasoning are crucial.

Directors should seek professional advice and ensure it is tailored to their specific needs. The judgment also provides valuable guidance on the extent to which directors can rely on the advice of external advisers. Seeking advice and taking action early can help mitigate risks. However, while professional advice can be a mitigating factor, directors must ultimately exercise their own judgment and cannot blindly rely on external experts. Directors should therefore have sufficient insurance coverage to protect themselves from potential liabilities.

This case serves as a stark reminder of the personal liability that directors can face for their actions or omissions. It highlights the importance of directors acting in good faith; exercising reasonable care, skill and diligence; and prioritising the interests of the company and its stakeholders. The interests of creditors should be paramount, especially in situations involving financial distress. The judgment also emphasises individual responsibility: directors are personally liable for their actions, not just as a group.

The BHS collapse raises broader questions about corporate governance, oversight and the role of law firms advising companies. While the judgment does not directly address the ethics of law firms, it does underscore the importance of clear and transparent advice. Legal advisers should present clear instructions and have a comprehensive understanding of the client’s situation, and their advice should address all relevant issues and potential risks. Law firms must thus ensure that their advice is accurate, comprehensive and tailored to the specific circumstances of their clients.

The BHS case is a cautionary tale for directors and companies alike. It demonstrates the severe consequences that can result from breaches of directors’ duties and the need for robust corporate governance practices.