Director Duties in a Transnational Energy Insolvency

Posted on 03-11-2016

By: Cameron Kinvig

LEXIS PRACTICE ADVISOR RESEARCH PATH: Financial Restructuring & Bankruptcy > Identifying Bankruptcy Risk > Oil and Gas Agreements > Practice Notes

With oil prices at multi-year lows, the upstream oil and gas industry is reeling. Many exploration and production concerns, as well as oilfield and offshore service providers, have filed for bankruptcy. Many more are likely to do so in the next 12 to 18 months, while others may be quickly and quietly liquidated due to lack of commercial prospects.

BECAUSE OF THE GLOBAL NATURE OF THE OIL AND GAS industry today, these bankruptcies and liquidations present challenges that would not have arisen even 20 years ago. For members of a company’s board of directors (“directors”) and legal practitioners, the transnational nature of the industry requires an understanding of the challenges unique to European oil and gas concerns and the shifts in director duties that are required when a multinational entity approaches insolvency. This article discusses these issues and presents some best practices for multinational oil and gas companies that are entering insolvency proceedings in Europe, the United States, or both.

Business and Legal Challenges Unique to European Oil and Gas Concerns

Politicians, commentators, and practitioners may be tempted to believe the free-fall in oil prices has had the greatest effect on U.S.-based shale-oil producers, but this is not the case. International producers and service providers—many of which are based in Europe—are feeling the sting of price declines more acutely than similar entities based in the United States.

One reason for this is that many European oil producers count on offshore and emerging market oilfields for future growth. Operations in those regions typically carry higher costs, for expenses like floating drill and supply ships, building out and maintaining offshore pipelines, and providing countryspecific security, housing, medical care, and expatriate staffing. These drilling operations also require more extensive support infrastructure, meaning a larger segment of the energy economy is affected when drilling is halted due to price declines.

Compared to U.S. entities, European producers are often unable to quickly shed costs. Whether through layoffs, work stoppages, equipment idling, or general cost cutting, U.S. entities can lower costs with relative ease. In contrast, many European oil and gas operations have heavily unionized workforces—even at the management level—and are located in countries that offer significant layoff protections for workers. In some instances, it may take months for a reduction-in-force to be accomplished, and mandatory payouts may continue long after that. It is often challenging for European entities to plan far enough in advance to realize sufficient cost and cash flow savings to stay afloat.

Compounding the cost issue is the reality that European insolvency laws generally do not allow for true reorganization of struggling companies. And European banks are usually less willing to work with a company to help it right its ship and continue operation through such means as covenant waivers or bridge financing during reorganization. Thus, directors are left with stark choices and fewer options than they would have within the United States. The results in Europe are often quick sales at a distressed value or eventual liquidation.

These challenges can have direct ramifications on U.S.-based subsidiaries of European-based businesses, and can ultimately limit the options available to U.S.-based management when a European parent faces financial hardship.

The Interplay between Multinational Insolvency Laws and Proceedings

The interplay between energy businesses based in the United States, Europe, and other countries is complex. Free exchange of workers, goods, services, subsidiaries, joint ventures, and partnerships spans the globe. Although it provides economic efficiency and greater market access during good times, the global span of business interests across countries with differing insolvency laws creates significant challenges during times of financial turmoil. Directors of a parent and separate subsidiaries may find that they owe different duties to different constituencies depending on the jurisdiction in which an entity is located. If the same core group of directors serves in that capacity across the multinational subsidiary spectrum, questions of duties owed can become extremely complex.

Duties Directors Owe a U.S. Corporation Prior to a Bankruptcy Filing

When a U.S.-based entity is solvent, a director of the company generally owes fiduciary duties to the corporation directly and to its shareholders as the derivative beneficiaries of the corporation’s growth and solvent financial standing. Directors owe duties of care and loyalty to both the company and its shareholders; they must make informed and well-reasoned decisions and act in good faith. If directors fulfill these duties, their decisions are afforded protection by the so-called business judgment rule. Duties shift, however, when a U.S.- based company becomes insolvent.

In North American Catholic Education Programming Foundation, Inc. v. Gheewalla, the Delaware Supreme Court (relied on as a bellwether for corporate legal standards) stated that once a corporation becomes insolvent, director duties shift from the company and shareholders alone to the company and all of its associated stakeholders—shareholders, creditors, and employees alike. See 930 A.2d 92 (Del. 2007). Director duties no longer involve mere care and loyalty, but also include the duty to preserve and maximize asset value for the benefit of all stakeholders. Id. While it was once thought that fiduciary duties began to shift as a corporation approached the “zone of insolvency,” Gheewalla made it clear that this was not the case. Fiduciary duties shift only when insolvency occurs, not before.

Gheewalla also made it clear that directors have no liability for so-called deepening insolvency—which occurs when a company continues in business, dissipating its assets, after insolvency has occurred—as long as directors’ actions fall within the business judgment rule. This is in contrast to the liability that often arises under similar circumstances in European jurisdictions, as discussed below.

Duties Directors Owe a European Corporation Prior to an Administrative Filing

European countries share many integrated laws, but unfortunately, there is no uniform European insolvency law, process, or proceeding. The overriding theme is that European directors of oil and gas companies are given much less leeway once they determine that their company is insolvent, because they can be held liable under “deepening insolvency” theories of liability. The following are brief summaries of laws regarding director duties in European countries with a significant presence in the international oil and gas industry.

Director Duties in the UK: The Companies Act of 20061 states that a director of a company owes duties to the company itself but does not generally owe a duty to the shareholders of that company. A director’s duties under the Companies Act of 2006 are as follows.

  • While Solvent: Directors have duties to act within the powers granted in governing documents; promote the success of the company; exercise independent judgment, reasonable care, skill, and diligence; avoid conflicts of interest; not accept third-party benefits; and disclose interests in proposed corporate transactions.
  • When Insolvent: Similar to U.S. law, the Companies Act shifts directors’ duties to protect the interests of creditors once insolvency occurs. Directors can be made personally liable for any creditor shortfall from liquidation proceeds if it can be shown that (i) directors knew or should have known that there was no reasonable prospect of keeping the company out of insolvency, and yet (ii) failed to take each step from that point with a view to minimizing the potential loss to the company’s creditors. This is known within UK law as “wrongful trading” past the point of insolvency.

Director Duties in the Netherlands:2

  • While Solvent: Directors must act in the best interests of the company, in good faith, and are under a duty of care to use all reasonable efforts to perform the individual duties assigned to them. A “serious mismanagement” standard is used to determine whether directors are liable for losses stemming from their conduct, along with a determination as to whether any other reasonable director would have made the same decisions. If the answer to either inquiry is yes, a director will accrue liability for such actions.
  • When Insolvent: Dutch insolvency law is relatively draconian. While there is no direct requirement that a company file for bankruptcy once insolvency occurs, directors incur personal liability for (i) any transaction that the company entered into if the directors knew or should have known the company would be unable to fulfill its obligations, (ii) any taxes or social charges that are unpaid as a result of the mismanagement or apparent negligence of directors, and (iii) any creditor deficiency incurred in bankruptcy if it is determined that the bankruptcy was caused by director negligence at any point during a threeyear look-back period. Directors can also be held criminally liable based on the above-listed standards.

Director Duties in France:3 Director duties in France are relatively straightforward and much more forgiving than in other parts of Europe.

  • While Solvent: Directors owe shareholders a duty of good faith, loyalty, and diligence, and generally have a duty to act in the best interests of the company. Directors cannot be held liable for their actions unless it is shown that they acted negligently or tortiously in performing their duties or committed significant mismanagement through reckless acts while performing their duties.
  • When Insolvent: French law does not require a director to act in a way that minimizes creditor loss once insolvency has occurred. However, directors must file for insolvency proceedings within 45 days of becoming aware of the insolvency. If directors fail to do so, or it is shown by the liquidator that management errors were a direct cause of the insolvency, directors can be required to pay part or all of any creditor deficiency existing after liquidation of the corporation’s assets.

Director Duties in Norway:4 Board membership in Norway is more heavily regulated than in many other parts of Europe, with many requirements regarding independence and board composition, as well as the duty to create and utilize a “corporate assembly” in certain situations. The corporate assembly generally comprises various corporate and employee stakeholders.

  • While Solvent: Directors’ duties in Norway are based on the laws of negligence. Directors must always act in ways that are consistent with their independent skills and experiences managing a company and, in accordance with those skills and experiences, in a manner that can be expected of someone acting as a director in a similar situation. If directors act in ways that are counter to that reasonable skill standard (i.e., negligently), they can accrue criminal and civil liability for any damage caused to the company.
  • When Insolvent: Insolvency under Norwegian law presents few choices for directors. In general, if a company is insolvent, directors have a duty to immediately file for bankruptcy, with a court-appointed administrator taking over its operations. If directors fail to timely file for bankruptcy and creditor value is lost because of such delay, those directors can be held personally liable for the lost value and may be convicted of a financial crime with a penalty of up to two years in prison.

Nine Steps to Take When There is a Multinational Conflict between Directors’ Duties and Insolvency Is Looming for All or a Portion of the Company

It is not hard to imagine a scenario where directors of a multinational oil and gas company have conflicting duties between different national jurisdictions. Complicated questions arise when, for instance, a U.S. multinational with a UK subsidiary is insolvent, but is still spending heavily in an effort to turn its business around. Or, when a French multinational with U.S. and Dutch subsidiaries decides to pay large employee bonuses or shareholder dividends when it appears the company is balance sheet insolvent and may not be able to meet its obligations within the next 12-month period.

  • The best practice for directors of multinational entities is, first, to fully understand the makeup of each independent board of directors. As many foreign jurisdictions have “local content” requirements for board membership, it is important to ensure each board member is fully apprised of the situation facing the company as a whole and the foreign subsidiary individually. In some situations, especially when dealing with smaller subsidiaries, it is possible that board members listed in organizational documents from previous years are no longer affiliated with the company. It is most important to clear up these corporate governance matters before insolvency is reached to guarantee that proper board membership is making appropriate decisions on behalf of each entity.
  • It is useful to get a “going concern” opinion from a financial advisor, providing an open, honest, and fair assessment of the company’s prospects. For foreign jurisdictions where directors may not be completely familiar with local insolvency law, it is also helpful to retain local counsel to provide legal advice as to board obligations following receipt of the financial advisor’s opinion memo. During the time of heightened vigilance that the specter of insolvency brings, it is important for directors to be ready to quickly act on pertinent information and advice provided by financial and legal advisors.
  • It is critical for all directors to fully understand the company’s debt structure and the nature of any intercompany obligations owed either by or to each subsidiary. This involves a review not only of loan documents but of outstanding vendor and client contracts. A thorough analysis is vital to determine individual solvency and to determine whether each entity can feasibly be reorganized and/or sold. Because fixed and floating rate charges (first liens) in European jurisdictions are different than as provided under the Uniform Commercial Code of the United States, local legal advice is very important.
  • Regardless of the results of the company’s independent financial review, directors should insist that each board meet independently to discuss what course of action is best for that particular entity and would allow directors of that entity to fulfill their independent duties. It may be in the best interests of a foreign subsidiary to reserve cash, for instance, rather than provide that cash to the parent for the ongoing operations of the corporate whole. It is important for each board to document these decisions. And, for directors of any parent company, it is equally important to ensure that each board has the opportunity to fully evaluate the subsidiary’s financial condition and the duties each individual director owes to constituents. To do otherwise risks an argument that parent directors have taken action that is not in the best interests of each subsidiary.
  • Directors must check improper shareholder efforts at control. During the lead-up to insolvency, a dominant shareholder will often take a very hands-on approach to managing the crisis in an effort to save its investment in the company. This is fine from a governance standpoint as long as the company remains solvent. But once insolvency occurs, directors need to be mindful of shifting duties and curtail overreaching shareholder attempts at control. Such action will likely not be popular and may expose directors to significant criticism from the shareholder group. Some dominant shareholders may even attempt to replace directors during this time. It is vitally important for directors to remain mindful of their duties, regardless of criticism, even if those duties require drastic action (e.g., a rapid bankruptcy or administrative filing). Although such drastic actions should only be taken after negotiations and efforts at reasonableness have failed, they can show director independence and protect directors from post-insolvency personal liability.
  • Depending on the business realities, it may be necessary to segregate assets and cash in each separate entity and allow each board to make those decisions that are in the best interests of their individual constituencies. This can largely be done through an evaluation of assets on each entity’s balance sheet, with a concurrent segregation of assets following the analysis. It is important that a thorough evaluation of asset ownership be conducted before any insolvency proceeding is filed, as a clear delineation will protect all creditors, give a European administrator a clear picture of what can and cannot be sold, prevent mistaken sales and reclamation lawsuits post-filing, and prevent one entity from being tempted to raid assets belonging to another entity (and ultimately its creditors). This may be seen as an “end of life” step taken immediately before an insolvency filing, but it is vitally important to protect stronger subsidiaries that may be reorganized or sold, while allowing subsidiary boards to act independently in the best interests of their various creditor bodies.
  • When facing insolvency, directors for both the parent and all subsidiaries should evaluate the electronic financial and other records each entity possesses, along with all software licenses for important accounting and other back-office functions. Directors should mandate that each corporation be given copies of any important financial information and local access to accounting and other systems so that there is no disruption in the flow of this information post-insolvency. In a European administrative filing, where servers are often shut off and sold (and documents abandoned) within days of the filing, this is a particularly critical step. Where such information will be important for the ongoing operation or value of a subsidiary, directors should insist that the information be transferred, regardless of cost in time and expense.
  • When facing insolvency, directors of U.S.-based companies need to reach out to the company’s senior lenders, as well as others specializing in distressed financing, in an effort to determine whether the company can obtain a financial lifeline to operate post-bankruptcy. The ability to get a so-called debtor-in-possession (DIP) loan often determines whether the company will be able to reorganize. As the failure to inquire into DIP loan availability can be seen as defacto negligence, directors should make this inquiry standard in the days leading to insolvency.
  • Finally, directors of an entity facing insolvency should closely review all director and officer (D&O) liability insurance policies. Not only should directors ensure these policies remain in full force and effect, they should inquire how such policies will be affected by a bankruptcy or administration filing. Although directors should certainly be mindful of individual duties, and should not rely on D&O insurance to cover lapses, D&O insurance is an important protection for directors even when they do their best to fulfill all duties owed.

There are many other steps directors should take when an entity is nearing insolvency, but these nine actions are a good baseline from which to operate. Combined with an understanding of the interplay between bankruptcy filings in the United States and administrative filings in Europe (discussed in the next section), these steps help form a full picture of the ramifications of actions taken leading up to a bankruptcy or administrative filing.

The Interplay between U.S. and European Law When Insolvency Occurs

The events leading to insolvency can be complicated and trying for directors, but bankruptcy and administrative filings are even more challenging. These filings often involve others taking control of the business, making inquiries into decisions previously made, and making demands upon directors that may or may not be proper. Directors must be very cognizant of how the U.S. bankruptcy system and the European administrative filing system operate, and understand the interplay between the two, so they do not find themselves stuck between an administrator on the one hand and their fiduciary duties on the other.

Bankruptcy Filings in the United States

As is well known, corporate bankruptcy proceedings within the United States mainly focus on two different chapters of the Bankruptcy Code: Chapter 11 (for reorganizations and some sales) and Chapter 7 (for liquidations).

In Chapter 11, a debtor is allowed to remain in possession of its assets and operations and is given an opportunity to reorganize or sell its business in an orderly fashion. A debtor in Chapter 11 is often given the time necessary to accomplish these goals thanks to DIP financing provided by senior or other lenders. A Chapter 11 filing places the company under the control of its current management and allows those individuals to make an attempt at reorganization. This is all done under the watchful eyes of the U.S. Bankruptcy Court system and multiple constituencies. This complex system of checks and balances gives significant cover for both directors and officers, allowing them to effectively negate European owners that may want either party to take improper steps.

Conversely, a debtor in Chapter 7 bankruptcy is not allowed to remain in possession of its business and assets. A Chapter 7 trustee is immediately appointed and generally shuts down the business and liquidates its assets for the greatest benefit to creditors.5 The Chapter 7 trustee is most similar to the European concept of an “administrator” and has wide latitude to do whatever he or she deems necessary to achieve the greatest return for creditors. This includes actively challenging determinations of asset ownership or control made by European parents or administrators prior to the bankruptcy filing.

While vastly different, either scenario can provide welcome relief for directors who feel they are being pressured to act improperly in an insolvency scenario. (Note that although a foreign-headquartered company can file a Chapter 15 bankruptcy in the United States to aid in reorganizing its U.S.- based subsidiaries, this is not discussed here because European insolvency proceedings focus much more on liquidation rather than on true reorganization.)

European Administrative Filings

European insolvency proceedings focus largely on the rapid liquidation of a company’s assets by a court-appointed administrator, much like a U.S. Chapter 7 proceeding. Unlike in the United States, a European administrator may be a representative of the company’s financial advisor or may be appointed directly by the company’s senior lenders. While technically independent, the administrator largely works with senior creditors and largely outside of the control of any European court.6

European administration may or may not involve a very brief (sometimes less than seven days) period of shopping the company for sale as a going concern, depending on cash availability and commercial prospects. The process may also, in some instances, involve a very short period of time prior to the administrative filing called the moratorium (often 20 days) where all creditor actions are “stayed” through a judicial notice of impending administration while the company attempts to sell itself. This brief period is really the only “reorganization” opportunity given in most European jurisdictions.

However, once an administrator is appointed, the results are generally swift and decisive. Unless there are significant ongoing (and marginally profitable) operations, or a buyer waiting in the wings, the business and its operations are often immediately shut down. The vast majority of employees, if not all of them, are immediately fired. Within days, electricity is shut off, computers are shut down and sold, files are retrieved or abandoned, and office space is given back to landlords to avoid “deepening insolvency” concerns. At this juncture, the administrator’s sole job is to gather and sell corporate assets for whatever value possible—often at fire-sale prices—even if ownership between subsidiaries is somewhat questionable. A distribution scheme for funds realized from asset sales comes much later and often provides some limited benefit to unsecured creditors and employees before secured creditors are paid in full.

The Interplay between U.S. Bankruptcy and European Administrative Filings

What happens when a European company with a U.S. subsidiary files for administration? The European subsidiary will likely be liquidated pursuant to local law, with the stock or membership interests of the U.S. corporation being an asset of the European entity. But what happens to the U.S. operation? Assuming it has sufficient cash, assets, and operations to continue in business for a time, the European administrator may allow the entity to remain operating and may attempt to sell it to bring additional cash into the administrative estate. This may be in the best interests of the European company as shareholder, but directors must determine whether this scenario is in the best interests of the U.S. subsidiary and all of its stakeholders. It may not be—especially if the business is cash rich but losing significant money every month. Directors must make independent decisions in this regard, separate from the direction of a European administrator as stockholder.

Directors may also face an instance where it is clear that the U.S. subsidiary cannot continue in business due to lack of cash or business prospects. It may be tempting for some European administrators—as controlling shareholder—to urge U.S. directors not to file for immediate bankruptcy or to delay in doing so, so that the administrator can seize contested assets or otherwise enjoy benefits that the U.S. subsidiary may provide. Directors must be wary of this tactic and take appropriate independent action to timely protect the assets and interests of the U.S. entity’s creditors. This scenario shows the true benefit of the U.S. bankruptcy system, which will do much to protect assets and creditors and help directors fulfill their duties.

A situation may also arise where a U.S. entity remains solvent while its European parent is liquidated through administration. The European administrator may improperly demand that directors pay cash dividends to the parent or may otherwise attempt to raid the subsidiary’s assets for the benefit of the parent. Although the entity may be solvent, and directors owe a derivative duty to shareholders via the corporation, directors must carefully navigate such a situation in light of their duties of good faith and fair dealing and their duties owed to the corporation as a whole. Independent outside counsel should certainly be consulted.

Finally, directors may be faced with a scenario where a European administrator, as shareholder of a solvent or nearly solvent U.S. subsidiary, attempts to quickly liquidate the subsidiary in an effort to obtain a rapid cash dividend for the parent. Directors must, in this instance, remember that the duty owed to the corporation includes the duty to act in good faith toward corporate stakeholders, including creditors. It would be unwise to acquiesce to such a demand absent independent legal advice. If such a demand is persistently made, a bankruptcy filing may be required to protect corporate interests and the value of corporate assets.

While there are myriad other iterations of the above-discussed scenarios, these few scenarios illustrate the complex interplay between European and U.S. insolvency proceedings that directors must understand. More than anything, directors in a multinational insolvency scenario should (1) retain local counsel and financial advice early in the process, (2) ensure they remain independent of undue outside influences, (3) document concerns raised and steps taken to address the same, and (4) remain vigilant for any scenario that would compromise their duties for the benefit of a third party. International insolvency can be a minefield. Diligence, prudence, and the presence of good advisors will help directors fulfill their duties, make the best decisions possible, and avoid liability.

With the price of crude oil having dropped precipitously, no fewer than 42 North American oil and gas producers filed for bankruptcy relief last year, with a combined debt of $17.85 billion. The year 2016 is expected to be no better for oil and gas companies. The next edition of The Lexis Practice Advisor Journal will feature an article exploring some of the economic and geopolitical issues that have led to the current low price environment and then will take an in-depth look at some of the most significant issues that arise with respect to distressed oil and gas M&A outside of or during the course of a bankruptcy case. These issues include oil and gas leases, joint operating agreements, and reserve based loans. In addition, the article will examine current distressed M&A trends with respect to the oil and gas industry.


Cameron Kinvig, JD, is a Content Manager for Lexis Practice Advisor


1. See Companies Act2006, c. 46 (Eng.), available at http://www.legislation.gov.uk/ukpga/2006/46/pdfs/ukpga_20060046_en.pdf.
2. See Roman Tarlavski and Jan Willem Huizink, Duties & Responsibilities of Directors, cms reich-rohrwig hainz, at 74 (Jan. 1, 2015), available at http://www.cms-lawnow.com/ publications/2015/01/duties-and-responsibilities-of-directors.
3. See Jacques Isnard, Duties & Responsibilities of Directors, cms reich-rohrwig hainz, at 42 (Jan. 1, 2015), available at http://www.cms-lawnow.com/publications/2015/01/duties-and-responsibilities-of-directors.
4. See Henning E. Asheim and Lars Tormodsgard, Liability of Directors of Companies in Difficulty, international law office (Dec. 7, 2009), http://www.internationallawoffice.com/Newsletters/Company-Commercial/Norway/Arntzen-de-Besche-Advokatfirma-AS/ Liability-of-directors-of-companies-in-difficulty.
5. See 11 U.S.C. §§ 707, 721 (2012).
6. See Lindsee P. Granfield, Sean A. O’Neal, and Timothy S. Mehok, International Insolvency and Bankruptcy in international corporate practice: a practitioner’s guide to global succ ess, at 29-9,10 (May 2010), available at http://www.cgsh.com/files/Publication/a0a16588-98fb-44b1-be6e-1144b38967c6/Presentation/PublicationAttachment/ d36713eb-52ce-422d-86bd-12360d4ca284/Intl%20Insolvency-Bankruptcy%20Article.pdf.

LEXIS PRACTICE ADVISOR RESEARCH PATH: Financial Restructuring & Bankruptcy > Identifying Bankruptcy Risk > Oil and Gas Agreements > Practice Notes