Coronavirus - Can Directors of Private Companies Cancel Dividends?

on Thursday, 09 April 2020.

As businesses try and survive in these difficult times, there are many worries for business owners and directors. The following FAQs answer your common concerns and gives tips on how to act now to mitigate the impact of coronavirus (COVID-19).

The company's articles of association (Articles) usually contain express provisions regarding the rights of shareholders to dividends. If the company has a shareholders' agreement, that agreement may also set out a dividend policy.
Before a company can lawfully pay a dividend, it must have sufficient distributable profits that are justified by reference to relevant accounts.
Typically directors resolve to pay interim dividends and final dividends are recommended by directors but declared by shareholders by an ordinary resolution. However, the Companies Act 2006 (CA 2006) does not specify who needs to declare dividends and, in particular, there is no requirement for any dividends to be declared by shareholders. Therefore, if a company's Articles are silent on the point, directors would be entitled to declare all dividends without the need for such declaration to be sanctioned by shareholders but this is not common practice.

Directors should be aware of the range of statutory duties under the CA 2006, in particular the duties to act within their powers, promote the success of the company and exercise reasonable care, skill and diligence. The CA 2006 allows a derivative claim (ie a claim brought by a minority shareholder on behalf of the company) in certain circumstances in respect of an alleged breach of any of the general duties of directors in the CA 2006, and there is no requirement for the director to have benefited personally for such a claim to be brought. Directors therefore need to be alert to their duties and comply with them.
It is even more important now, during the coronavirus crisis, that directors safeguard the company's assets and consider the company's cash flow position and future financial requirements before declaring or recommending a dividend.
Directors should consider whether dividends can be delayed or cancelled to retain profits and help the company survive.

Interim dividends are not enforceable as a debt before they are actually paid out so the directors can cancel them at any time.
Final dividends become a debt payable to shareholders only once they have been approved by the shareholders (if required), so directors can withdraw their recommendations before then.

In addition to action that can be taken under the CA 2006. If a company fails to survive, the liquidators/administrators will investigate what caused the downfall and may apply for an order requiring directors to repay, restore or account for the amount of dividends paid out. They may also be required to make a contribution to the company's assets by way of compensation under the Insolvency Act 1986 (IA 1986). This may happen if it appears that a director has misapplied, retained, or become accountable for any money or other property of the company, or been guilty of any misfeasance or breach of duty in relation to the company.
A liquidator may also apply for an order under the IA 1986. This would require any current or previous director of the company to make a contribution to the company's assets for wrongful trading if it appears that, before the commencement of the winding up, the director knew or ought to have concluded that there was no reasonable prospect that the company would avoid going into insolvent liquidation.

Conduct a thorough health check on the financial state of the company.
Consider whether the company's dividend policy needs to be reviewed. We can help you understand your company's current dividend policy and advise on whether the policy should be updated for future use.
Record any decisions as to whether a dividend will be declared or not clearly and in writing. If the company's directors are also its shareholders, it will be even more important to have board minutes documenting any decision relating to dividends. We can assist with the preparation of these board minutes.