AI businesses can grow at extraordinary speed, but that growth often comes with equally high costs. Many start-ups rely on investor funding, research grants, or R&D tax credits to stay afloat while products develop. When cash flow tightens, directors face difficult decisions that must be handled carefully.
Under the Insolvency Act 1986 and Companies Act 2006, directors are legally required to protect creditors once the company is, or is likely to become, insolvent. That duty sits at the heart of responsible corporate management.
At Francis Wilks & Jones, we regularly help AI founders and technology directors navigate these situations, protecting their businesses, their investors, and their own positions. We also advise insolvency practitioners who are investigating directors’ conduct after insolvency. Our experience on both sides gives us a clear and balanced view of the standards expected of directors and the issues that arise in practice.
What are the early warning signs of insolvency in an AI company?
The financial life of an AI business can change quickly. Cash reserves may start to fall as research spending rises, major contracts are delayed, or expected investment rounds are postponed. Some companies also find themselves waiting on HMRC to release R&D tax credits, which can create significant gaps in working capital.
Insolvency in law has two main indicators. A company is cash-flow insolvent when it cannot pay debts as they fall due, and balance-sheet insolvent when its liabilities outweigh its assets. Once either position becomes likely, directors must not ignore it. Taking early advice is the best way to preserve control.
The earlier directors act, the more options remain available. Waiting until creditors issue demands or banks restrict accounts often removes any chance of an orderly rescue.
What are directors’ legal duties when an AI start-up becomes insolvent?
When a company approaches insolvency, the focus shifts. The law recognises a “twilight zone” between solvency and insolvency, where directors must balance duties owed to shareholders with emerging duties to creditors. Case law such as BTI 2014 LLC v Sequana SA [2022] UKSC 25 and Hunt v Singh [2023] EWCA Civ 1392 has confirmed that directors’ duties shift once insolvency becomes probable, even if the directors believe the liability giving rise to that insolvency is disputed or can be avoided. The duty to creditors arises when directors know or ought to know that insolvency is probable, not only when it has already occurred. During this period, prudent directors should take and document professional advice on every significant decision.
Directors of solvent companies act primarily in the interests of shareholders. When insolvency is probable, actual or imminent, section 172(3) of the Companies Act 2006 requires directors to consider the interests of creditors above those of investors or founders.
Directors of solvent companies act primarily in the interests of shareholders. When insolvency is probable, actual or imminent, section 172(3) of the Companies Act 2006 requires directors to consider the interests of creditors above those of investors or founders.
That shift in duty means decisions must be taken cautiously and with clear records. Continuing to invest in speculative projects, repaying shareholder loans, or favouring connected creditors can all expose directors to later challenge. A director who acts honestly, seeks timely advice, and records their reasoning is in a far stronger position than one who carries on without a plan.
Directors should also remember that some forms of misconduct can attract criminal liability under the Companies Act 2006. Examples include failing to declare an interest in company transactions or making false statements in company filings. These offences are separate from insolvency law but are often investigated alongside director conduct once a company has failed.
Can continuing to trade breach insolvency law?
Continuing to trade while insolvent is not automatically unlawful. Many distressed companies recover through careful management and new investment. However, trading becomes dangerous when directors know, or ought to know, that there is no reasonable prospect of avoiding liquidation or administration.
At that point, section 214 of the Insolvency Act 1986 allows a liquidator to pursue a wrongful trading claim. The director may be personally liable for losses incurred after the point at which insolvency should have been recognised. Where there is evidence of deliberate deception, such as taking deposits knowing they cannot be fulfilled, the conduct may also amount to fraudulent trading, which is a criminal offence.
The legal test is not whether the business ultimately failed, but whether the directors acted reasonably in the circumstances. The loss is assessed by looking at the increase in net deficiency. That is why professional advice and a clear decision trail as well as clear accounting records are so important.
What options exist to rescue or restructure an AI business?
Financial pressure does not always mean a business must close. Directors have several formal and informal tools available to protect value and jobs.
A Company Voluntary Arrangement (CVA) can help restructure debts while allowing continued trading. Administration can protect the business from creditor action while a rescue or sale is arranged, often preserving valuable intellectual property and staff. In less formal settings, directors can negotiate repayment plans with creditors or HMRC, or bring in new investment through an orderly share sale.
The right approach depends on timing and communication. Early engagement with lenders, investors and professional advisers can often transform an apparent crisis into a managed restructuring.
What happens if a director ignores the warning signs?
When directors fail to act, the consequences can be serious. A liquidator or administrator can bring claims for misfeasance, wrongful trading, or breach of duty.
When considering a disqualification order under the Company Directors Disqualification Act 1986, the court assesses a range of factors listed in Schedule 1. These include the adequacy of accounting records, the director’s role in the company’s failure, and the extent to which misconduct contributed to insolvency. Demonstrating cooperation and transparency throughout the process can significantly reduce the risk of a long ban.
Beyond the legal risk, delay can damage a director’s professional reputation and future business prospects. Acting within the twilight zone, before insolvency becomes inevitable, offers the best chance of preserving both the business and the individual’s standing.
How FWJ can help
We have extensive experience advising directors and shareholders in the technology and AI sectors. Our lawyers combine insolvency expertise with practical commercial understanding. We can assess whether your company is insolvent or at risk, explain your duties clearly, and help design a rescue or exit strategy that protects your position. If your AI business is under financial pressure, speak to our team as soon as possible. Early advice often makes the difference between a managed recovery and a formal insolvency process.
