A bear market in commercial property is unfortunately a time when executives need to look at risk management issues including personal liability. Here are some potential risks and action points:
1. Breach of Fiduciary Duties - Companies Act 2006
If the value of a property has gone down since it was purchased, it may be that lenders, investors or creditors who have lost money as a result will seek to establish a breach of fiduciary duties in connection with the purchase of the property. This could result in a director (and anyone who acts as a director even if not formally appointed) being responsible for the company’s losses to future shareholders, liquidators, administrators and receivers.
Prior to the 2006 Act, the law was quite vague about directors’ duties and it was hard to prove when a director had been in breach. The new Act sets out a completely new statutory statement of director’s duties described as their ‘general duties’. There are seven general duties in the new statutory statement. Of these, four came into force on 1 October 2007. These are:
- A duty to act in accordance with the company’s constitution, and to use powers only for the purposes for which they were conferred;
- A duty to promote the success of the company for the benefit of its members. This replaces the historical duty to act in good faith in the company’s interests;
- A duty to exercise independent judgement;
- A duty to exercise reasonable care, skill and diligence.
Under the new Act, the court can allow shareholders to sue directors, in the company’s name, to recover any losses the company has suffered from the director’s negligence, default, breach of duty or breach of trust.
Practical Note:
(a) In making any decision on behalf of a company you must be able to show that you considered the following:
Long-term consequences of decisions not only in terms of profit but reputation; interests of employees; business relationships with surveyors, brokers, lenders and others; the impact of the company’s operations and developments on the community and environment; and treating each member of the company equally and fairly.
(b) Remember the company’s property belongs to it, not to you or its shareholders or to any other group company. This particularly needs bearing in mind in a group situation where transactions are often undertaken for the benefit of the holding company and it is easy to overlook the need to ensure that it benefits each group company which is involved.
(c) Make sure the company keeps records of your decisions.
(d) Make sure shareholders resolutions are passed to ratify all transactions, especially those where the company is simply being used as a vehicle.
(e) Given the possibility of a future shareholder suing a former director on behalf of the company all company sales should include a waiver of right of action by the purchaser as shareholder in the target company.
2. Wrongful Trading
A director may become personally liable if the company continues to trade after it has ceased to be able to pay its debts as they fall due – see Insolvency Act 1986 S.214. The fact that a guarantee has been given for the company’s liabilities by a holding company does not automatically provide assurance that the company will reasonably be able to avoid an insolvent liquidation. This could arise in a situation where the interest payments were in excess of the rent roll or the company was in breach of banking covenants and the Lender had the right to call in its loan.
Practical Note:
(a) Make sure that the holding company provides a suitably worded letter of support to supplement its guarantee.
(b) Ensure that the company’s ability to pay debts is reviewed at regular intervals and decisions minuted at board meetings.
(c) Ensure that any conversations with the company’s lenders and tenants are recorded so that documentation exists to establish the financial state of the company at any point.
3. Personal Liabilities to a Lender
Some facility agreements provide for personal certificates from directors and extreme care should be taken to ensure that these are accurate at all times. A misstatement or inaccuracy in any of such certificates could give rise to personal liability on directors personally. Also loan agreements may contain obligations on the part of the borrower to volunteer information in certain circumstances, for example if there is a material adverse change in the company’s position and director’s certificates sometimes refer to there having been no breach.
Practical Note:
(a) Any personal certificate by directors to lenders containing representations regarding the company’s financial state should be verified by a professional;
(b) The company has no obligation to ensure that the valuation set out in accounts are fully accurate but any accounts submitted to the bank should contain a caveat that the properties have not been valued and reflect historic valuations.
If you would like to discuss any aspects of the above in more detail or have any queries relating to the above, please contact Mark Copping on 020 7355 6115 (mcopping@hamlins.co.uk) or Stacey Dutton on 020 7355 6117 (sdutton@hamlins.co.uk).