In The Line Of (Directors’) Duties

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Being appointed a company director or taking on the role in relation to a start-up means you must comply with the directors’ duties set out in Chapter 2 of Part 10 of the Companies Act (CA) 2006. These are:

  • To act within powers.
  • To promote the success of the company.
  • To exercise independent judgment.
  • To exercise reasonable care, skill, and diligence.
  • To avoid conflicts of interest.
  • Not to accept benefits from third parties.
  • To declare any interest in a proposed transaction or arrangement with the company.

The above are often referred to as ‘general duties’ as their purpose is to promote the general success of the company. However, there are other directors’ duties that are not codified in the Companies Act 2006, including those set out in the company’s Articles of Association.  This article aims to provide you, dear reader, with an overview of directors’ role and codified duties as set out in the CA 2006.

To act within powers

Section 171 of the CA 2006 provides that a company director must:

  • Act per the company’s constitution.
  • Only exercise powers for the purposes for which they are conferred.

The company’s constitution can include its Articles, resolutions and any agreements affecting the constitution, plus decisions made in accordance with the Articles, and other decisions taken by the members or a class of members if they can be viewed as company decisions.

If a claim is brought concerning a director not acting within powers, the Court must perform the following tasks, as described in Howard Smith Ltd v Ampol Petroleum Ltd [1974] AC 821, 835:

“[I]t is necessary to start with a consideration of the power whose exercise is in question … Having ascertained, on a fair view, the nature of this power, and having defined as can best be done in the light of modern conditions the, or some, limits within which it may be exercised, it is then necessary for the court, if a particular exercise of it is challenged, to examine the substantial purpose for which it was exercised, and to reach a conclusion whether that purpose was proper or not. In doing so it will necessarily give credit to the bona fide opinion of the directors, if such is found to exist, and will respect their judgment as to matters of management; having done this, the ultimate conclusion has to be as to the side of the fairly broad line on which the case falls.”

Duty to promote the success of the company

A director must act in a way that they consider, in good faith, promotes the success of the company and its members (section 172 of the CA 2006).

When enacting this duty, consideration must be given to:

  • The long term interests of the company.
  • Its employees.
  • The development of good relationships with suppliers, customers, and other stakeholders (for example, investors).
  • Any impact on the community and environment.
  • Maintaining a reputation for high standards of business conduct.
  • The need to act fairly as between members of the company.

If the company becomes insolvent, is on the verge of insolvency, or the director knows or ought to know there is a real risk of insolvency, the duty to act in a way that promotes the success of the company is displaced by the duty to act in the best interests of the organisation’s creditors.

Duty to exercise independent judgment

As a director, you must act independently and not subordinate your powers to others’ will or demands. Unless the company’s constitution allows it, delegating your powers is prohibited.

It is perfectly OK to listen to the advice of others (many corporate-related disasters have resulted from advice being ignored) but you must exercise independent judgment on whether or not to follow any advice received.

Duty to exercise reasonable care, skill, and diligence

Under section 174, you must exercise the care, skill and diligence which would be exercised by a reasonably diligent person with both:

  1. The general knowledge, skill and experience that may reasonably be expected of a person doing the job required by you in relation to the company (the objective test).
  2. The general knowledge, skill, and experience that you actually have (the subjective test).

You must not, without the company’s consent, put yourself in a position where there is a conflict or possible conflict between the duties you owe the company and either your personal interests or the interests of a third party. For example, you cannot personally use information or exploit an opportunity or property that the company could use or exploit.

Examples of conflict of interest include:

  • Acting as a consultant or advisor to a competitor organisation.
  • You or your family members hold shares in a venture that the company of which you are a director does business or may do business with in the future.
  • Accepting a personal payment for negotiating a deal on the company’s behalf.

The GC100 (a group comprising of senior legal officers and company secretaries of more than 85 FTSE 100 companies) has published guidance and a questionnaire to assist directors in establishing whether they are at risk of breaching their duty to avoid conflicts of interests.

With regards to exploiting information, opportunities, or property, this duty continues after your directorship ends if you become aware of the information, opportunities, or property during your tenure.

Duty not to accept benefits from third parties

Under section 176, you must not accept any benefit (including a bribe) from a third party that is conferred because you are a director, or you do or refuse to do something in your capacity as a director. Although the term ‘benefit’ is not defined in section 176, during Parliamentary debates it was concluded that the word should be given its ordinary meaning [House of Commons, Company Law Reform Bill [Lords] in Standing Committee D, Solicitor-General, column 622].

If there is no conflict of interest in receiving the benefit no breach of duty will exist.

Duty to declare interest in a proposed transaction or arrangement with the company

If you are in any way directly or indirectly interested in a proposed transaction or arrangement with the company the nature and extent of the interest must be declared to other directors. Failure to do so risks the transaction or arrangement being set aside.

 In Fairford Water Ski Club Ltd v Cohoon [2021] EWCA Civ 143 the Court of Appeal supported the suggestion that once section 177(1) is engaged, a declaration must be made immediately.

What are the consequences of breaching directors’ duties?

Directors’ duties are owed to the company, therefore only the company can enforce them. However, members can bring a derivative claim on behalf of the company and if the company falls into insolvency, creditors may also have grounds to bring a claim for breach of directors’ duties.

The company can claim damages for a breach of the duty of care, skill, and diligence.

Remedies for breaches of other duties include:

  • Injunctions.
  • Setting aside the transaction, restitution, and account of profits.
  • Restoration of company property.
  • Equitable compensation.

If more than 50% of shareholders vote in favour, you can be removed from office temporarily or permanently. Depending on the nature of the breach, you may also face criminal charges (accepting bribes is an example). Finally, you may be disqualified from acting as a director under the Company Directors Disqualification Act 1986.

Can the company purchase insurance?

Section 233 permits a company to purchase insurance (D&O insurance) for its directors, and those of an associated company, against any liability attaching to them in connection with negligence, default, breach of duty or breach of trust by them concerning the company of which they are a director. Not only does D&O insurance safeguard you from being personally liable for any breach of directors’ duties, but the company’s balance sheet will also be protected should the company indemnify you and other directors.

Concluding comments

Understanding your duties as a director under the CA 2006 is an essential part of your responsibilities as a leader of your organisation. Before accepting an appointment or becoming a director of your startup, it is imperative to familiarise yourself with these duties and any non-codified duties that derive from the company’s constitution. And if you are in doubt, seek professional advice.

Uniwide Formations specialises in the registration of limited companies and LLPs. As professional business service providers, we offer a wide range of related services and can advise you on all aspects of directors’ duties. To discuss any of the points raised in this article, please contact us.

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