As a director, do you know the risks surrounding your personal liability?
It is a well-known principle that a limited company is a separate legal entity and distinct from its directors or shareholders. As such, the company will normally be treated as solely responsible for the debt it incurs and the obligations it enters into.
This article will highlights some of the main ways in which a director may find himself personally liable for the debts and obligations of his company, in particular the principle outlined in the case of Contex Drouzhba Ltd v Wiseman .
Directors can incur personal liability under the following ways:
- Personal Guarantees .
- Shareholders Agreements.
- Breach of Directors Duties.
- Fraudulent and Wrongful Trading under the Insolvency Act 1986.
- Liability in Tort – Contex Drouzhba Ltd v Wiseman .
In the case of Contex Drouzhba Ltd v Wiseman , Wiseman was the director of SDL and signed an agreement on behalf of SDL with Context. The agreement contained a clause, which provided for payment 30 days after shipment of the goods. At the time of signing the agreement, Wiseman knew that SDL was insolvent and unable to meet its obligations. Subsequently, Context sued Wiseman for damages in deceit. The Court held that it was possible for a director to be liable for damages in deceit where he had fraudulently represented to a creditor that the company was able to meet its obligation when they fell due. On appeal, the Court of Appeal stated, “where fraud is committed by a director, his status as director of the company can not act as a shield from the liability for his own fraud”.
The implication for Directors
In light of this case and to avoid personal liability, directors should ensure that all representations, expressed or implied in an agreement, are accurate before signing any document on behalf of the company. The principle established in Contex Drouzhba Ltd v Wiseman  is not limited to a company’s ability to pay but has implications for any representations made in a document i.e the quality of goods.
How does Drouzhba assist the Creditors
The Drouzhba principle represents a more favourable alterative to that of wrongful trading and fraudulent trading as contained in the Insolvency Act 1986. Any action of wrongful trading and fraudulent trading is brought by the liquidator of the company and not the creditors. The likelihood of this type of action being brought by the liquidator will depend of whether the company has funds to finance the liquidators claim. In addition, any recoveries made are paid into the ‘pot’ for the creditors as a whole.
The right to sue a director personally is beneficial to individual creditors to whom the representation was made. Furthermore, there is no requirement to share, with other creditors, any recoveries made.
If you believe that a company is in financial difficulty, you should consider asking the director to confirm in writing the company’s ability to pay for the goods / services. If such representation proves false then you can claim against the director personally for deceit based on the Drouzhba principle.