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When does shareholder primacy give way to creditors? – the Supreme Court ruling on directors' duties

Posted on 6 October 2022

On 5 October 2022 the Supreme Court handed down its long-awaited judgment in BTI 2014 LLC v Sequana SA & Ors [2022] UKSC 25.

In the Court's own words, this is a "momentous… decision for company law" in which it "raises fundamental questions" which are "of considerable importance". These questions "go to the heart of our understanding of company law, and are of considerable practical importance to the management of companies."

This is because this decision represents the first opportunity for the Supreme Court to address a principle that is widely applied, but to date has remained somewhat uncertainly defined: that when a company faces insolvency the duties of its directors to promote the success of the company shift, from acting in the interests of the company's shareholders to also encompassing the interests of its creditors.

In this judgment the Supreme Court considers not just the extent and nature of this principle, but its very purpose and whether such a principle should exist at all in English law. As such, it sets out a vital framework for the directors of English companies when they are faced with the possibility of insolvency.

It will also be of interest to those who argue for limits on the principle of 'Shareholder Primacy' - the idea that a company exists to promote the success of the company for the benefit of its members. This case involved payment of a dividend at a time when the company faced a contingent environmental clean-up liability, but how far did the directors have to consider the creditor's interests in having that liability met? While directors are required to consider wider societal factors in discharging their duty, including the impact of the company's operations on the environment, these factors are otherwise subordinate to shareholder interests. Where an environmental harm or supplier relationship gives rise to a creditor interest, however, this decision presents an important caveat to the shareholder primacy rule. 

The questions before the court

The appellants in Sequana sought to overturn the ruling of the Court of Appeal that a "real but not remote risk" of insolvency is not sufficient to impose a duty on the company's directors to take into account the interests of the company's creditors. This appeal therefore put in issue the question of whether and when such a duty is imposed upon the directors of the company.

However, not content to simply ask that the Supreme Court uphold the Court of Appeal's decision, the respondents raised their own challenges to the Court of Appeal's decision, launching what the Court describes as "a full-frontal attack on the very existence of the creditor duty". Accordingly, the Court was required to consider not just when such a duty arises, but whether such a duty can and should be imposed upon directors at all.

As a result, the Supreme Court's decision addresses three key questions which are of vital importance to directors of companies facing the prospect of insolvency, but also relevant to the company's shareholders and creditors:

  1. Is there a rule that, in certain circumstances, the directors’ duty to act in good faith to promote the success of the company includes the interests of its creditors;
  2. If so, when does that duty arise; and
  3. What is the nature of that duty.

In considering these questions, the Court also considered numerous other ancillary issues, many of which it has left to be determined by future decisions.

Is there a duty on directors to act in the interests of the creditors?

Although the members of the Court reached varying conclusions by various routes, the Court nevertheless unanimously held that there is a rule of English law that in certain circumstances the directors of a company must take into account the interests of the company's creditors.

This rule originates from the decision of West Mercia Safetywear Ltd (in liq) v Dodd [1988] BCLC 250. This decision pre-dates the introduction of the Companies Act 2006 (CA 2006), which formally encoded in statute the duties of company directors for the first time. However, the Court unanimously agreed that this "rule of law" was expressly preserved by Parliament when encoding the director's duty to "act in the way he considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole" (under s. 172(1) CA 2006) by virtue of s. 172(3) CA 2006:

“The duty imposed by this section has effect subject to any enactment or rule of law requiring directors, in certain circumstances, to consider or act in the interests of creditors of the company.”

The Court also held, however, that these provisions did not specifically affirm the rule as set out in West Mercia. Rather, they affirm the applicability of common law principles such as the rule set out in West Mercia, and empower the courts to develop this line of common law as needed. This is significant, as it leaves the rule open to further development and refinement by future case law.

When Does the Duty Arise?

Having concluded that there is such a rule, and that it is for the Courts to develop this rule as needed, the Court considered the question raised by the appellants: does the duty to consider the interests of the company's creditors arise as soon as there is a "real but not remote risk" of insolvency? This formulation (argued for by the appellants) would significantly expand the applicability of the rule – indeed, the appellants argued that it would mean that the duty would have applied to Sequana SA's directors in relation to decisions made at a time when Sequana was solvent, and would not in fact become insolvent for a further ten years.

The Supreme Court rejected this argument, with Lord Reed explaining the reasoning in the following terms:

"[the rule] is premised…on a shift in the economic interest in the company, and consequently in the distribution of the risk of loss, from the shareholders as a whole to include the creditors as a whole…as long as the company is financially stable, its shareholders will normally have a predominant economic interest in the manner in which its affairs are managed, and their interests will normally be aligned with those of its creditors. When the company is in financial difficulties, however, the economic interest of its creditors become distinct from those of its shareholders, and are liable to become increasingly predominant as the company’s situation deteriorates. That shift in interests does not occur merely because there is a real but not remote risk of insolvency."

However, on the other hand, the Court held that it would not be appropriate to restrict the application of the rule to where the company is actually insolvent. Accordingly, the Court adopted a formulation founded in the decision in Bilta (UK) Ltd v Nazir (No. 2) [2015] UKSC 23 of "insolvent or bordering on insolvency" or that "an insolvent liquidation or administration is probable".

The majority of the Court considered that the rule was engaged at the point at which the director(s) in question "knew or ought to have known" that the company was insolvent or bordering on insolvency or that an insolvent liquidation or administration was probable. This is analogous to the wrongful trading test for directors under s. 214 Insolvency Act 1986, which has a similar knowledge element. The minority view, however, left open the question of whether it was a necessary ingredient for liability to show that the director(s) in question knew or ought to have known that the creditor duty tests were satisfied.

The Nature of the Duty

The Judges also gave guidance on the nature of the duty that is imposed on the directors under this rule.

The Supreme Court held that this rule does not impose a free-standing duty to act in the creditors' interests. Rather, it varies their duty to promote the company's success for the benefit of the members (i.e. shareholders) of the company in certain circumstances. Specifically, it varies the rule to require the directors to also take into account the interests of the creditors of the company alongside the interests of the members of the company.

Where a formal insolvency process (specifically liquidation or administration) has not yet become unavoidable, the Court held that the directors are not required to put the interests of the creditors above those of the members. In reaching this conclusion, the Court reduced the extent of the duty from that suggested in some of the previous authorities, such as Bilta (UK) Ltd v Nazir (No. 2) and Brady v Brady [1988] BCLC 20. Rather, in these circumstances, if the interests of the shareholders and the creditors conflict then "a balancing exercise will be necessary". The precise extent to which the creditors' interests will need to be taken into account will depend on the circumstances at the time of the decision.

Once formal insolvency proceedings become unavoidable, however, the Court held that "the shareholders cease to have any interest in the company, and their interests can therefore be left out of account." Accordingly, once such proceedings are unavoidable the interests of the creditors must take precedence in the directors' decision making.

Relationship with other insolvency remedies

The Court also considered the relationship between this so called 'creditor duty' and other remedies available under insolvency law. In the case, the Court of Appeal had already found on the facts that the company's parent company, Sequana was liable to repay a dividend that was otherwise lawful under company law on dividends and at a time when the company was not insolvent. This was because the payment of the dividend was a 'fraud on creditors' under section 423 of the Insolvency Act 1986, meaning that it was a transaction undertaken for the purpose of putting assets out of reach of a claimant. The Supreme Court examined the relationship between the creditor duty and the prohibition against wrongful trading (section 214 of the Insolvency Act) and preferences (section 239 of that act), finding that there was no reason why the existence of those separate remedies should prevent the directors' creditor duty from arising. They were of different scope, arising at different times and with different potential claimants and having different potential remedies, the details of which are beyond the scope of this article.


The Sequana decision gives helpful certainty to directors, shareholders and creditors alike.

It confirms that there is indeed an obligation on directors to take into account the interests of the company's creditors in certain circumstances. It also provides some clarity on the extent of these circumstances and the weight that must be given to the interests of the company's creditors at various stages. Directors, in particular, will be relieved that a test has been provided and that a majority of the Court concluded that a knowledge test be applied.

However, they will nevertheless still need to carefully work through these definitions, as there remains a degree of subjectivity as to how to interpret them and in how to operate the sliding scale of weighting to be given to creditor interests depending upon the level of the company's distress. This will therefore remain a complex matter of evidence in many cases and they must remain vigilant in relation to the company's balance sheet solvency and ability to pay its debts as they fall due.

Directors should take advice when entering into transactions which could prejudice creditors or when facing insolvency. The creditor duty articulated in the Sequana case, is but one of a number of potential traps for the unwary. Add to this that there were a number of ancillary issues that the Court declined or was unable to reach a firm conclusion on. This leaves scope for further arguments which will undoubtedly play out in future proceedings. It also demonstrates the complexity of the issues that directors face when the risk of insolvency arises, and the importance of taking timely legal advice.

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