The ruling of the Supreme Court of the United Kingdom (UK) in BTI 2014 LLC v. Sequana SA [2022] (‘Sequana’) has reframed the common law understanding of directors’ duties during periods of financial distress. Although the judgment is focused on the UK Companies Act 2006, its core reasoning is rooted in corporate fiduciary principles that carry persuasive weight for other common law jurisdictions, including India. Indian corporate law, notwithstanding its ostensible sophistication, remains underdeveloped in delineating directors’ obligations when insolvency is probable but not yet established. This sometimes exposes creditors to material risk and allows promoter-directors to continue business-as-usual until formal insolvency is invoked under the Insolvency and Bankruptcy Code, 2016 (IBC). Sequana could offer a framework to re-evaluate directors’ duties during the so-called ‘twilight zone,’, ie, the phase where a company is not yet insolvent, but the risk of insolvency is no longer remote.
In Sequana, the directors of a company authorised a dividend payment to its sole shareholder at a time when the company was solvent on a balance-sheet basis but had contingent environmental liabilities arising from pollution claims. Almost a decade later, the company entered insolvent administration, prompting the assignee of its creditors’ claims to challenge the dividend as a breach of duty. The central issue was whether, at the time of the dividend, the directors owed a duty to consider or prioritise the interests of creditors, despite the company’s formal solvency.
The UK Supreme Court unanimously held that directors do, in principle, owe a duty to consider the interests of the company’s creditors in certain circumstances, though the exact timing of its inception remains contested among the judges. A majority held that the so-called ‘creditor duty’, an aspect of the directors’ fiduciary duty to act in good faith in the interests of the company, arises when the directors know or ought to know that the company is insolvent or bordering on insolvency, or that an insolvency is probable. The Court clarified that this duty is not owed to creditors individually or directly, but forms part of the duty owed to the company itself, whose interests progressively align with creditors as insolvency becomes probable. Thus, when financial deterioration threatens the company’s insolvency, the identity of the residual risk-bearers changes from shareholders to creditors, and so must the orientation of fiduciary decision-making.
A potential criticism of such a doctrine is that it imposes on directors an impossible foresight—expecting them to anticipate insolvency risks that may, in practice, never materialise. However, Sequana does not demand prophecy. The standard is one of reasonable foreseeability and constructive knowledge. Directors are expected to act on ‘real and not remote’ risks of insolvency, based on information reasonably available to them. This includes indicators such as persistent defaults, unrecoverable receivables, inability to service debt, qualified audit reports, or market signals indicating credit distress. Indeed, such a standard is not unfamiliar to Indian regulatory structures. For example, the Reserve Bank of India’s prudential frameworks expect banks and financial institutions to detect ‘incipient stress’ and undertake resolution measures for potentially viable accounts. The Securities and Exchange Board of India (Listing Obligations and Disclosure Requirements) Regulations (Reg. 34) require listed companies to disclose risks that are likely to impact financial health or operational continuity. If the law expects directors and companies to undertake forward-looking risk assessments for disclosure or prudential regulation, it is arguably consistent to expect similar foresight for fiduciary purposes.
Nevertheless, Indian company law remains silent on the transitional phase where the company’s solvency is under threat but not yet lost. Directors’ duties under section 166 of the Companies Act, 2013 are framed in general terms, requiring them to act in good faith and in the best interests of the company, its shareholders, employees, and the community. There is no express recognition of the shift in fiduciary orientation when the company becomes financially distressed. Indian courts have generally construed directors’ duties narrowly and have largely focused on fraudulent conduct or mala fide transactions, rather than negligent inaction or failure to respond to early distress signals. While sections 66 and 67 of the IBC prohibit wrongful and fraudulent trading, these provisions apply only once insolvency resolution has been triggered. This leaves a pre-insolvency regulatory vacuum, where directors may prioritise shareholder or promoter interests in the face of mounting liabilities, with no clear obligation to initiate restructuring, conserve value, or avoid deepening the financial crisis.
The consequences of this vacuum are not hypothetical. In several significant IBC cases—including the recent Bhushan Power & Steel—value was substantially eroded before any formal insolvency process began. This erosion often involved preferential transactions, related-party dealings, or asset transfers that, while not outright fraudulent, clearly placed creditor interests in jeopardy. Retrospective clawback provisions under the IBC are of limited use when directors are not incentivised to act responsibly in the twilight zone. By the time insolvency proceedings commence, the possibility of corporate rescue is often extinguished. In such contexts, a principle that obliges directors to alter their decision-making once insolvency becomes probable, and not merely when it occurs, becomes essential.
It is not necessary for such a duty to be purely judicial in origin. A statutory amendment could clarify that where insolvency is probable and directors continue trading or taking decisions that materially worsen the position of unsecured creditors, they may be personally liable for loss caused to the corporate estate. A complementary reform could require boards of companies with negative net worth or debt-service inability to file an early distress disclosure with the Registrar of Companies or an appropriate financial regulator, triggering board-level deliberations akin to the ‘going concern’ evaluation under accounting standards.
Theoretically, such a duty would also strengthen the rescue culture envisioned under the IBC. The IBC, in its preamble, speaks of early resolution and value maximisation. These objectives are undermined when directors are incentivised to delay action until insolvency is unavoidable. A twilight zone duty would compel directors to evaluate restructuring options, including informal workouts or pre-packaged insolvency mechanisms, at an earlier stage. It would also protect the creditors from the deterioration of the estate due to the inertia or conflicted incentives of incumbent promoters.
This certainly would not be without challenges. Determining the exact point at which insolvency becomes probable is inherently fact-specific and may result in litigation. Directors may also turn overly cautious, leading to premature insolvency filings. However, such concerns are not insurmountable. The standard can be calibrated to avoid false positives, for instance by incorporating safe harbours for directors who act on the basis of documented restructuring advice or certified viability reports. Ultimately the objective is not to punish business misjudgements, but to ensure creditor interests do not suffer.
Debarshi Chakraborty is an Advocate at the High Court of Delhi, India.
With the support of
