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In a recent Supreme Court ruling in Stanford International Bank Ltd v HSBC Bank PLC  UKSC 34 (Stanford), it was held by a majority that where a director is in breach of their fiduciary duties by misappropriating company funds, a claim may be made against the director to make repayment, if the action caused the company to suffer a loss.
Stanford International Bank (Ltd) (SIB) was a financial institution involved in selling investment products, and other financial management services. From 2003-2009, SIB operated as a Ponzi scheme whereby the company made its capital from customer payments rather than the profits of the investment products. SIB also used the funds from new investors to pay off old investors – who were under the impression their investments had matured in value.
Eventually in 2009, the US Securities and Exchange Commission charged the beneficial owner and director of the company with fraud and appointed a receiver over the company. Subsequently, the liquidation of the company was recognised by the English High Court under the Cross Border Insolvency Regulations 2006.
The respondent, HSBC Bank PLC (HSBC) provided banking facilities for SIB with whom the Appeal is against. SIB instructed HSBC to make payments totalling to £116m to its customers and investors. Following their collapse, the company claimed against HSBC for a breach of duty of care for failing to conduct proper due diligence on SIB before making the pay-outs. The Court of Appeal struck out the claim, which the Supreme Court then later upheld.
The major issue in the appeal was whether HSBC were in breach of their duty of care to SIB, however, this article will specifically examine the implications arising for directors.
The Court addressed which duties directors owe to a company, and made reference to leading authorities in English case law.
For example, in the significant case of BTI v Sequana (Sequana) the Supreme Court set out that directors owe a duty to act in good faith, and in a way in which is likely to promote the success of the company for the benefit of the members as a whole. This duty is enforced on directors under Article 172(1) of the Companies Act 2006.
In addition, directors owe their companies the following duties under the Companies Act 2006:
However, the Sequana decision confirmed that if it becomes apparent the company is struggling and is ‘on the verge’ of or must go into liquidation, the directors have a duty to act in the interests of the creditors. In other words – the director must act in such a way that protects the creditors, if the company becomes insolvent.
Emphasising this, Lord Briggs held that:
‘The true principle…is that creditors (or at least unsecured creditors) are not the main stakeholders in the company at any earlier date than when it goes into insolvent liquidation, at which point they acquire statutory priority in an entitlement to share pari passu in any distributions which that process may generate.’
While the Sequana decision clarified when directors owe a duty to its creditors and when the interests of the creditors apply – the Court held this has no impact on whether the director’s breach of duty results in a loss to the company. This is because of the principle of separate corporate personality, which means companies are treated as a different legal entity from its shareholders or creditors.
As Lord Leggett found:
“When a company is insolvent loss suffered by the company may result in future loss to creditors of the company by affecting the amount they will be entitled to receive…but loss suffered by the company and loss suffered by its creditors are different losses…it is important not to blur the distinction between them.’
However, the major issue as to whether an insolvent company can claim against a director for breach of duty for misappropriating company funds, is whether the company has suffered a loss – or whether the director benefitted from the misappropriation. This is a critical component of the company’s claim against directors. More specifically in Stanford, the issue was whether the company suffered a loss if the director has misapplied funds (such as customer investment proceeds) to pay off other legitimate company debts.
From the recent Stanford judgment, for a company to be successful in a claim against a director the following must be established:
If it is found the company has suffered a loss, the director may be personally liable for restoring the loss to the company.
This article has been produced for general information purposes and further advice should be sought from a professional advisor.
If you would like further information on any of the issues raised in this article, please feel free to contact our Dispute Resolution team.
This article was co-authored by Trainee Solicitor, Anna Friel.