Director duties when a company is in financial distress

By Clarence Tan

In a tougher funding and credit environment, more Singapore companies are discovering that “temporary cashflow pressure” can slide quietly into genuine financial distress. For boards and founder‑directors, this is the point at which legal duties start to shift: the focus moves from shareholders’ expectations to the interests of creditors, and continuing to trade in the wrong way can give rise to personal exposure under both common law and the Insolvency, Restructuring and Dissolution Act 2018 (IRDA).

1. The baseline: directors’ duties in solvent times

(a)  In ordinary times, Singapore directors are expected to act in what they honestly believe to be the best interests of the company, for proper purposes and with reasonable care, skill and diligence.

(b)  When a company is comfortably solvent, “best interests of the company” has generally been understood as aligning with the collective interests of present and future shareholders, rather than the specific interests of any individual creditor or stakeholder.

(c)  That position is not static: as the financial position deteriorates and the cushion between assets and liabilities erodes, the economic stake of creditors increases and the way courts evaluate directors’ decision‑making begins to change.

(d)  This is the context for the so‑called “creditor duty” and the statutory wrongful trading regime, which operate alongside traditional fiduciary duties rather than replacing them.

2. When creditor interests come to the fore

(a)  Singapore courts now recognise that, in certain circumstances, directors must give due regard to the interests of creditors as part of their overarching duty to act in the company’s best interests.

(b)  In Foo Kian Beng v OP3 International Pte Ltd (in liquidation) [2024] SGCA 10, the Court of Appeal upheld a finding that a sole director breached his fiduciary duties by authorising a substantial dividend and loan repayment to himself when the company was already facing a sizeable litigation claim.

(c)  The company in Foo Kian Beng was found to be in a “financially parlous” state: the contingent liability from ongoing litigation meant it was imminently likely to be unable to discharge its debts, even though it was not yet subject to formal insolvency proceedings.

(d)  On those facts, the Court of Appeal confirmed that the creditor duty was engaged and that the director was obliged to consider the interests of the general body of creditors when deciding whether to pay himself; paying himself in preference to creditors, without a legitimate commercial justification, was held to be a breach of duty.

(e)  Commentators have noted that the framework articulated in Foo Kian Beng broadly aligns with the UK Supreme Court’s approach in BTI 2014 LLC v Sequana SA [2022] UKSC 25, in treating creditor interests as becoming progressively more important as a company moves towards insolvency.

3. Recognising the “twilight zone”

(a)  Practitioners often describe the period before formal insolvency as the “twilight zone” — a stage where the company is not yet in liquidation or judicial management, but is at real risk of being unable to meet its obligations.

(b)  In this zone, directors are expected to inform themselves carefully about the company’s true financial position, rather than relying on optimistic projections or informal assurances that fresh money will appear.

(c)  Practical indicators that a company has entered this phase can include sustained cashflow deficits, repeated roll‑overs of short‑term facilities, persistent breaches or waivers of financial covenants, and a growing dependence on extended credit from key suppliers.

(d)  Other warning signs include statutory demands, writs or threatened enforcement by secured lenders, tax arrears and loss‑making contracts that management has no credible plan to exit or renegotiate.

(e)  Once these indicators are present, courts are more likely to expect that a reasonably diligent director would have apprehended the risk of insolvency and begun to factor creditor interests explicitly into board decision‑making.

4. Continuing to trade: wrongful and fraudulent trading

(a)  In addition to the creditor duty at common law, directors in Singapore operate against the backdrop of statutory regimes for fraudulent and wrongful trading under the IRDA.

(b)  Section 238 IRDA deals with fraudulent trading, where any business of the company has been carried on with intent to defraud creditors or for any fraudulent purpose; any person knowingly party to this may be made personally responsible for the company’s debts and may also face criminal sanctions.

(c)  Section 239 IRDA introduces a wrongful trading regime: a company trades wrongfully if, while insolvent, it incurs debts or liabilities without any reasonable prospect of meeting them in full, or incurs debts that render it insolvent in circumstances where there is no reasonable prospect of meeting them.

(d)  If, in the course of judicial management or winding up, it appears that a company has traded wrongfully, the court may declare any person who knew, or as an officer ought to have known, that the company was trading wrongfully personally responsible, without limitation, for all or any of the relevant debts or liabilities.

(e)  Wrongful trading does not require proof of dishonesty in the way fraudulent trading does; it focuses on whether a reasonable director, knowing what they knew or ought to have known, had a proper basis to believe the company could meet the new obligations being taken on.

(f)  These statutory liabilities sit alongside potential claims for breach of fiduciary duty, misfeasance or antecedent transactions (such as transactions at undervalue and unfair preferences), which liquidators and judicial managers may pursue to improve recoveries for creditors.

5. How directors should respond once distress is apparent

(a)  Once the board recognises that the company is in financial distress, process and documentation become as important as the substance of individual decisions.

(b)  At a minimum, directors may wish to ensure they have regular, reliable cashflow forecasts, covenant headroom analyses and scenario planning that are updated as conditions change, rather than relying on static annual budgets.

(c)  Board meetings will typically need to be more frequent, with minutes that accurately record the financial information considered, the range of options discussed and how the interests of creditors and other stakeholders were weighed.

(d)  In terms of commercial choices, directors may need to reassess whether it remains appropriate to enter into new long‑term obligations, grant fresh security, or continue loss‑making contracts, especially where there is no realistic path to achieving overall solvency.

(e)  Transactions that benefit insiders — such as repayments of shareholder‑director loans, dividends or asset transfers to related entities — are likely to attract particular scrutiny where the company is financially parlous or insolvent, as Foo Kian Beng illustrates.

(f)  Seeking early legal and financial restructuring advice can be an important mitigating factor; courts and insolvency practitioners often look at whether directors took professional advice in good faith, and whether they followed through on credible turnaround or restructuring strategies.

(g)  Directors who are also shareholders, lenders or guarantors should be especially conscious of conflicts of interest, and may find it helpful to consider independent board input, recusal from certain decisions or, in appropriate cases, independent directors.

6. Using Singapore’s restructuring toolkit

(a)  Where distress cannot be resolved through informal measures alone, Singapore’s restructuring framework under the IRDA offers several court‑supervised tools which can help preserve value if engaged early enough.

(b)  Schemes of arrangement, including pre‑packaged schemes, allow companies to compromise debts with creditor approval and court sanction, often supported by moratoria that give breathing space to negotiate.

(c)  Judicial management allows an external judicial manager to take control of the company with a mandate to rehabilitate it or achieve a better realisation of assets than in a straight liquidation, with directors required to cooperate and provide information.

(d)  Where there is no viable path back to solvency, creditor’s voluntary winding up or compulsory liquidation may be the appropriate outcome; director conduct in the period leading up to liquidation will then be examined in connection with wrongful trading, fraudulent trading and antecedent transaction claims.

(e)  For boards, the key practical point is that exploring formal options is not an admission of defeat; rather, it can demonstrate that directors have taken the company’s and creditors’ interests seriously at the point where continuing on a purely informal basis is no longer realistic.

7. Practical considerations for SME and growth‑company boards

(a)  For many SMEs and growth companies, the most difficult judgment call is deciding when a tough patch has become genuine financial distress — and acting early enough that there are still tools available.

(b)  A helpful way to think about this is as three phases: “solvent but stressed” (heightened monitoring and early adjustments), the “twilight zone” where insolvency risk is real and creditor interests must feature prominently, and a final phase where there is no reasonable prospect of avoiding insolvency and wrongful trading risk becomes acute.

(c)  In that middle phase, directors might ask themselves questions such as: “Do we have a credible, evidenced path to meeting our debts as they fall due?”, “Are we treating creditors consistently, or favouring insiders?”, and “How would a liquidator view this decision two years from now?”

(d)  Directors are not expected to guarantee outcomes, and courts are generally slow to second‑guess honest, good‑faith commercial decisions aimed at rescuing a viable business; what is expected is that directors remain informed, avoid self‑preferential conduct and take reasonable steps to protect the overall creditor body once distress becomes apparent.

(e)  For founder‑led and closely held companies, having a clear internal playbook for financial distress — when to escalate, when to seek advice, and when to consider formal processes — can make the difference between an orderly restructuring and an avoidable personal liability problem.

This article is intended for general informational purposes only and does not constitute legal advice. Readers should seek professional legal advice in respect of their specific circumstances.

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