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As companies approach insolvency, attention often shifts beyond corporate assets and toward those responsible for managing the business. Directors and officers owe fiduciary duties that can become increasingly significant during periods of financial distress.

Understanding Fiduciary Duties

Corporate leaders generally owe two core duties:

• Duty of Care. The obligation to make informed decisions and exercise reasonable business judgment.
• Duty of Loyalty. The obligation to place corporate interests above personal interests.

When financial distress intensifies, courts increasingly scrutinize actions taken by management.

The Zone of Insolvency

Many courts recognize that when a corporation becomes insolvent, or enters the so-called "zone of insolvency," management's responsibilities expand beyond shareholders alone.

Creditors suddenly become stakeholders whose interests cannot be ignored.

The Business Judgment Rule

Directors receive substantial protection under the business judgment rule. Courts generally avoid second-guessing legitimate business decisions if management:

• Acted in good faith
• Gathered appropriate information
• Lacked conflicts of interest.

However, these protections have limits.

When Liability Risks Increase

Exposure often arises when management:

• Acts recklessly
• Fails to investigate significant issues
• Engages in self-dealing
• Places personal interests above corporate interests
• Participates in fraudulent conduct.

Why Creditors Should Care

In many distressed situations, corporate assets alone may be insufficient to satisfy creditor claims.

Potential claims against directors and officers can represent a meaningful additional source of recovery.

Conclusion

Understanding fiduciary obligations during insolvency can help creditors identify risks, evaluate recovery opportunities, and assess whether management actions contributed to financial losses.

Read the previous blog post in this series: Asset Protection Before Bankruptcy – Practical Steps Creditors Can Take.

Next in the series: Can Creditors Recover from Directors and Officers After Bankruptcy?

Read the comprehensive article: “Potential Avenues of Recovery Against an Economically Distressed Business” by Andrew W. Owen, Partner.

Andy Owen is an experienced business litigator who represents clients in the commercial mortgage-backed securities industry and both large and small corporate entities in a wide variety of complex business-related disputes. Andy focuses his commercial mortgage-backed securities litigation practice on the default administration on behalf of corporate trustees and master and special servicers of commercial mortgage-backed securitized trusts. He has significant experience in all aspects of workouts, foreclosures, deeds-in-lieu, bankruptcy proceedings, and receiverships involving multimillion-dollar commercial properties such as hotels, office buildings, shopping centers, and apartments. You can contact Andy via email at aowen@calfee.com or by phone at 614.621.7751.

Calfee, Halter & Griswold LLP is a full-service corporate law firm with 170 attorneys and professionals in Cleveland, Columbus, Cincinnati, and Indianapolis. Calfee serves clients in the Midwest, nationally and globally in the areas of Corporate and Finance, Employee Benefits and Executive Compensation, Energy and Utilities, Estate and Succession Planning and Administration, Government Relations and Legislation, Intellectual Property, Labor and Employment, Litigation, and Real Estate Law. Calfee has been recognized as a leading law firm by Chambers USA 2026 in Antitrust, Banking & Finance, Construction, Corporate/M&A, Employee Benefits & Executive Compensation, Energy & Natural Resources, Environment, Government Relations, Insurance, Intellectual Property, Labor & Employment, Litigation: General Commercial, Litigation: White-Collar Crime & Government Investigations, Public Finance, and Real Estate, and by Chambers HNW 2026 in Private Wealth Law. A founding member of Lex Mundi, Calfee offers international representation through a network of independent law firms with access to 22,000 attorneys located in more than 125 countries. Additional information is available at Calfee.com.