By way of setting, in early 2015, the previous owner of the clothing and household retailer BHS Group (BHS), Arcadia, sold the business to Retail Acquisitions Limited (RAL) for £1, whereupon the directors of RAL – Lennart Henningson, Dominic Chandler, Dominic Chappell and Keith Smith – then became directors of BHS. However, BHS had to appoint administrators in April 2016 as the group had accrued over £1bn of debt.
As the result of BHS’ collapse, the liquidators commenced claims against the former directors for wrongful trading and misfeasance (Wright and Rowley, BHS and others v Chappell and others [2024] EWHC 1417 (Ch)). Because Keith Smith settled the claim against him prior to trial and the court had agreed to sever the claim against Mr Chappell, the judgment concerned Messrs Henningson and Chandler (although, according to reports, Mr Chappell has since been held liable for payment of at least £50m to the liquidators). The court held that, firstly, on day one of their appointment, the directors knew (or ought to have known) that there was no prospect of averting liquidation but continued trading regardless (wrongful trading) and, secondly, continued trading contrary to their duties under the Companies Act 2006 when it was not in the creditors’ best interests to do so (misfeasance). Consequentially, the court held Messrs Henningson and Chandler each liable to contribute £6.5m to BHS’ assets.
Section 214(1) of the Insolvency Act 1986 confers a discretion upon the courts to hold a director liable for a contribution to the company’s assets as the court considers appropriate. Interestingly, Mr Justice Leech noted that counsel were unable to identify any authority on whether or not courts are entitled to take into account directors’ means or insurance cover when exercising this discretion, but held that “[in] my judgment, I am entitled to take into account all factors and to give them such weight as I consider proper”. Therefore, the judgment, by way of novel development, positively confirms insurance cover as a discretionary factor under section 214(1).
The court had been made aware that the directors benefited from a D&O policy with a limit of £20m, although a copy of the policy schedule was only provided after the conclusion of proceedings which, absent any known reasons, is an approach that is difficult to understand not only given the directors’ substantial exposures, but also as insurance cover was a significant factor in this case. In particular, Mr Justice Leech expressed doubts about figures submitted to the court with respect to the erosion of the limit whereby, according to a statement from Mr Chandler’s solicitors, merely £1m of the policy limit will have remained after trial due to indemnification of defence costs. In particular, Mr Justice Leech was not prepared to accept on the basis of “vague assertions” that defence costs did in fact erode the policy limit and further noted that “[the limit of £20 million] was plainly inadequate to meet the potential claims against them given the sums with which they are routinely dealing”. It would seem that information presented to the court with respect to the erosion of the policy limit was unclear at best because Mr Justice Leech noted that, based on the mere assumption that D&O insurers had previously covered the settlement of the claim against Keith Smith, £16.5m of the limit of indemnity would have remained. He also observed that, if £19m of defence costs had in fact been incurred, this could give rise to separate costs issues.
However, although the policy schedule was eventually submitted and addressed in a postscript to the judgment, Mr Justice Leech made clear that his decision remained unchanged. He also appeared critical of the omission to present the policy schedule sooner by noting that “I was being asked to exercise my discretion to find that it was proper to limit the amount for which they were liable to the cover which remained available to them without proof of the policy or the limit of cover […]”.
However, the court declined to exercise any discretion to take the directors’ available limit of D&O cover into account when deciding on the quantum of their respective personal contributions, therefore leaving them exposed to potentially disastrous consequences. For example, the judgment even goes as far as expressly acknowledging that the award of compensation will be “potentially ruinous” for Mr Chandler.
Nonetheless, the court was very clear in its decision not to exercise the discretion addressed above to reduce any quantum of liability in line with D&O policy limits, whereby Mr Justice Leech stated:
But even if they do not have adequate cover […] I decline to exercise my discretion to reduce the amount for which I declare them to be liable [because] it will send a green light to risk-taking or, even, dishonest directors if the Court reduces the amount of compensation […] on the basis of [directors’] ability to pay.
The court’s refusal to exercise discretion based on available insurance cover therefore raises the more far-reaching question of whether the judgment could be understood as an indication from the judiciary that the availability of D&O cover for wrongful trading raises public policy issues by encouraging (or perhaps even facilitating) risk-taking behaviour by directors when they should in fact be calling in liquidators.
Historically, the courts have considered deterrence within the context of non-enforcement of entire insurance policies with a focus on criminal acts. For example, the Court of Appeal in the case of Gray v Barr [1971] 2 QB 554 held that the discharge of a shotgun during a struggle, which unintentionally killed the victim, was not an “accident” as there was nothing “accidental” about being in possession of a shotgun. The administrators of the victim’s estate had sued the defendant in negligence, who then joined his insurers as a third party as they had agreed cover with respect to “damages in respect of […] bodily injury to any person caused by accident”.
In the present case, however, any deterrent effect arises from the court’s refusal to exercise discretion to align the quantification of liabilities with available D&O limits, and not the non-enforcement of the policy so as to deny all cover for wrongful trading. In addition, a criticism of deterrence in insurance law has been the lack of evidence that considerations about insurance coverage alter a resolve to do wrong. Furthermore, deterrence within the context of wrongful trading fails to account for directors who continue trading while genuinely believing that they are doing their (incompetent) best (although the court did not impose liability on Mr Hemmingson and Mr Chandler on a joint and several liability basis in view of the differences in involvement and culpability).
By way of novel development, the judgment on the one hand sets out a positive affirmation that insurance cover can be a factor for courts when exercising discretion under Section 214(1) of the Insolvency Act 1986. On the other hand, however, the court then also held that any matters of insurance cover can be disregarded to deter risk-taking or even dishonest directors from being able to hide behind D&O cover. The deterrent effect of the judgment therefore seems to be commercial in nature, rather than legal within the scope of public policy, because defendants benefitting from D&O cover cannot confidently hope that the courts will adjust liability in line with policy limits. Therefore, resulting liabilities could materially impact the personal lives of directors.
It now remains to be seen whether the commercial deterrent will be met with a commercial response as it would seem prudent for directors and their brokers to carefully review the adequacy of any D&O limits and triggers for erosion with reference to the directors’ roles, board sizes and company health and risks. Underwriters should prepare themselves for requests for increased limits at renewals. It will also be interesting to see whether this judgment might contribute to a hardening of the D&O market if demands for capacity increases were to result.
If you would like to discuss this topic further, please get in touch.
The service you deliver is integral to the success of your business. With the right technology, we can help you to heighten your customer experience, improve underwriting performance, and streamline processes.
