Difficult markets – the risks for managers of energy companies in financial difficulty
The coronavirus pandemic has posed a significant challenge to the financial health of businesses across the UK. A sector also at the mercy of the markets following the easing of foreclosure restrictions is the energy industry, with the wholesale price of natural gas (measured on a pence per therm basis) having increased dramatically by around 50p / therm in January 2021 to over 200p / therm in the first weeks of October 2021. These market pressures are compounded by the constraints of the price caps of domestic gas and electricity supply, preventing suppliers to adjust their prices to their costs and thus find themselves in a deficit position.
Some large energy providers have been able to protect themselves effectively against price fluctuations by entering into long-term contracts for the supply of gas at fixed prices, which has enabled them to weather the storm. Unfortunately, however, many small and medium-sized energy providers fell into Ofgem’s âSupplier of Last Resortâ (SoLR) process and subsequently went into administration or liquidation.
The decisions of the directors of the company will be carefully scrutinized once bankrupt to see if they could have acted differently to reduce potential losses to creditors. While the collapse of these suppliers will have happened fairly quickly, the advice taken by the directors and the decisions taken in the previous period will be critical. Directors who have acted prudently, took advice from the start, and recorded their decisions in regular board minutes can be reassured that they can rely on that conduct to defend against their personal liability. However, many other businesses continue to be affected, including commercial consumers of gas and electricity not protected by the price caps, who face financial difficulties. It is essential that specialist advice is taken upstream to ensure that the decisions taken are in the interest of creditors as soon as a risk of insolvency arises. There are some unique elements to energy sector insolvencies – so it is important to seek advice from advisers with industry experience.
When should directors worry and seek advice?
In short: when a business is on or near the breadline, which means the business can’t pay its creditors in the usual way, its liabilities are greater than its assets, or the creditors are taking measures to assert a debt owed by the company. The exact moment in which this kicks in is difficult to determine, but the surest course of action is to seek advice when there are signs that it is likely. The key to protection is speed; administrators cannot protect themselves after the fact.
What are the risks of the directors?
The main potential claims against the directors will be brought following an administration or liquidation. Receivables are generally carried by the liquidator or administrator but can be assigned to third parties.
Illicit trade ss. 214 and 246ZB Insolvency Law 1986
- Illicit transactions occur when a company has gone into liquidation or insolvent administration and at some point before the directors knew or should have known that there was no reasonable prospect of the company avoiding insolvency. ; and
- they did not take all subsequent steps to minimize potential losses to the company’s creditors.
- A defense may be available if the directors can demonstrate that they have taken possible measures to minimize the losses.
- The court will consider the knowledge, skills and experience that can reasonably be expected of a person performing that function (an objective test) and the knowledge, skills and experience that the individual actually possesses (the test subjective). A higher standard is applied to professionals such as accountants.
- If found liable, the court can order the individual to contribute to the debts or liabilities of the business. This is usually calculated with reference to the amount that the net assets have been depleted by the individual’s actions (or lack thereof). This is particularly important in the current context where losses are likely to be high.
Misconduct s.212 Insolvency Act 1986
- In general terms, fault is a claim triggered by a violation of the duties held by the directors listed in Articles 171-177 of the Companies Act 2006, and is a very broad claim. It is usually accompanied by a claim for an illicit or fraudulent transaction, unless you can demonstrate that you acted reasonably and honestly and that it would be fair to disclaim all liability.
- It does not require a positive act and failure to act can be used as evidence against the directors.
- It can be brought against a wide variety of defendants, including former directors and anyone involved in running the affairs of the company – you can be at risk even if you are not an official director.
- If found responsible for a wrongdoing, the defendant may be ordered to:
- refund any money or misappropriated property to the company, with interest; and or
- indemnify the company by way of contribution to the assets of the company.
Fraudulent trade s.213 and s.246ZA Insolvency Act 1986 and s.993 Companies Act 2006
- Fraudulent trade is a criminal offense and carries criminal penalties.
- In addition, it is also a civil action under section 213 if it is established that the business of the company has been carried on with the intention of defrauding creditors, defrauding creditors of any other person or business, or for any other fraudulent purpose.
- It requires an element of dishonesty, unlike illicit trade, and there is no defense available.
- If found liable, the individual must compensate the damage caused by the fraud, and the powers of the court are here extended.
Disqualification of the director
- Directors and liquidators must report to the Insolvency Department on the conduct of all directors who have served in the 3 years preceding the insolvency. A negative report can lead to the disqualification of the individual as a director, and the conduct that can lead to a negative report is very broad.
- If a disqualification order is made, that person may be disqualified from being a director or being involved in any way in the promotion, formation or management of a business without court authorization for a period of time. up to 15 years.
What actions can administrators take now to mitigate the risk?
- Identify the level of risk and, as a tip, formulate a strategy to address the problem.
- Hold and record regular board meetings and do so with the help of a professional; The minutes of the board of directors are the primary means of demonstrating that you have considered and assessed all risks and decisions in the right way and that you have acted diligently and reasonably in doing so. Their correct training is crucial.
- Ask for advice: Insolvency lawyers and insolvency practitioners with experience in energy insolvencies can guide you on the steps you need to take, both procedural and practical, to protect your position as a administrator.