The long awaited Supreme Court decision on the Mainzeal appeal is out, addressing issues of “fundamental importance to the business community”. The judgment essentially upheld the factual findings of the lower Courts that the Mainzeal directors had breached directors’ duties under the Companies Act 1993, and it provides important clarity of the legal principles - and practical steps - that are relevant to directors of companies facing financial difficulties.

Important learnings

The judgment is lengthy, and we will provide more detailed analysis of its legal findings, and practical recommendations for directors, in future articles. 

However, important learnings from the judgment include:

·       The reckless and insolvent trading duties under the Companies Act 1993 - ss 135 and 136 - are to be viewed through a “creditor protection” lens, and the relevant statutory provisions do not support an unduly strong deference to the “business judgment rule”. A director of a company that is insolvent, or nearing insolvency, must give consideration to the interests of creditors;

·       Compensation for breaches can be calculated by different methods:

-       section 135 damages will frequently (but not always) be determined by the “net deterioration” approach: the extent to which the company’s financial position deteriorated between the breach date to the liquidation date. This approach reflects the focus of s 135, being on the creditors as a whole;

-       section 136 damages will usually (but not always) be based on a “new debt” measurement: the gross amount of new debt that was taken on after the breach date and which remained unpaid in the liquidation. This approach reflects the focus of s 136, being on particular creditors.

·       Although the Court retains a discretion to reduce a director’s liability, compensation for the full extent of the loss is the norm. Rather, the discretion will more likely be used to apportion liability differently as between directors (as occurred in the Mainzeal result).

·       Directors have a limited period of time once a company becomes insolvent to take stock of the situation, including to take legal and other external advice. They need to then act on that advice.

·       Directors of companies within a wider group:

-       can only rely on assurances of financial support from shareholders of other companies if they are legally, and practically, enforceable;

-       must have regard to their duties to each company separately.

Not the end of the matter

The Supreme Court declined sending the case back to the High Court for a further hearing on quantum of damages, thereby bringing the proceeding to an end. The judgment confirmed that the directors breached their duties under the Companies Act, and held them liable to pay the liquidators of Mainzeal $39.8 million (plus interest and costs), with Mr Yan liable for the full amount, and the other directors each limited to $6.6 million (plus interest).

While the judgment has provided welcome clarity on many aspects of the insolvent trading principles, the Supreme Court left unanswered a number of questions to be determined in other, more appropriate cases. The Supreme Court also expressly endorsed the Court of Appeal’s view that the relevant statutory provisions that have arisen from the “rather confused legislative history” of the Companies Act warrants a legislative review.