If you’re a new or established director of a company, a series of statutory duties apply to your appointment as a director.
Getting to grips with how they work is an important step to perform the role to the standard that the law expects.
Get a better understanding of how companies are intended to be governed by directors, and the standards expected of directors when running a company.
A series of duties which apply to company directors are set out in the Companies Act 2006.
Each duty applies concurrently with the others.
More than one duty can be breached by one single act by a single director. When more than one director cooperates with one another, joint and several liability arises amongst all of the directors involved in the breach of duty.
First, some context on how individual director’s duties fit to corporate governance.
Shareholders invest time, money or both in companies.
Companies may look for investors and issue shares as part of a financial investment or contribution of their time to enhance the value of the company.
At the end of the cycle, shareholders of established companies may come to a point when they wish to sell their shares for a price, rather than settle for dividends over time.
Shareholders are trusted by directors to manage the affairs of the company. The directors exercise their powers through the board of directors.
Management Structure of Companies
There is a schism between the responsibilities of directors acting as the board, and the interests and rights of shareholders.
- The board is the executive body of the company.
It is responsible for making decisions on corporate and business strategy and the day-to-day management of the company.
Directors collectively participate in board meetings so that the board may perform its executive function.
- shareholders and employees on the other hand have an interest in the outcome decisions of the board, but no direct role in the making of decisions by the board or responsibility for making them.
The directors, operating as the board, collectively control the company.
Directors’ duties are owed to the company, not to the shareholders.
That remains the case irrespective of how unhappy shareholders may be with the exercise of executive power by the board; provided the exercise of powers is within the constitution of the company.
Role of the Board
Decisions made by directors are represented by their vote in board meetings. Each individual director is able to contribute their own knowledge and expertise when they vote. The company receives the benefit of combined experience and expertise of all of its directors in resolutions made by the board.
The board acts when the directors vote in board meetings and the directors vote to make decisions and pass resolutions:
- unanimously in support of a resolution, whereby all directors concur on a vote for on a resolution by a show of hands or in writing; or
- by majority, where equally divided chairman has a casting vote to resolve what would otherwise be a deadlock
So it's the directors voting in board meetings that controls what the company decides, rather than the individual directors acting on their own: ie without the approval of the board.
Role of Individual Directors
The directors are the human agents that direct the actions of the company. After all, companies do not exist in the real world; they cannot do anything for themselves. They are a legal fiction: they are attributed rights - predominantly by the Companies Act and judge-made law.
Each director is likely to have their own separate skill sets that they bring to the company. The board decides which roles and responsibilities each of shall have.
The directors are:
- agents for the company, when dealing with other business and consumers in their dealings with the company
- treated as trustees of the assets of the company
- custodians of business opportunities of the company
Individual directors have no authority to exercise the powers of the company on their own without a delegation from the board of directors. It is the board of directors in board meetings which passes resolutions to make decisions of the company and control the affairs of the company.
Enter Director's Duties
It is the fact that they appointed as directors of the company's affairs which gives rise to legal responsibilities. Those responsibilities include a series of legal duties which impose the standards of conduct required by the law when exercising their functions.
How the rules that apply to any director are decided by:
- the company’s constitution: its Articles of Association and resolutions made by the shareholders, all of which combine to control the behaviour of the company, what it can do and what it can’t
- the provisions of the Companies Act which sets the standards of conduct: directors’ duties.
The statement of general duties of directors are made more accessible by their inclusion in the Companies Act.
These basic legal duties are clearer than what they were when they could only be found in the judge-made law which governed the standards for over 200 years (which by the way, were not significantly changed when they were codified).
About Directors Duties: Owed to Whom?
It is a cardinal principle of company law that the duties of directors are owed to the company and not to individual shareholders. . There are limited exceptions, which are mentioned below.
The duties apply to directors who are consultants, employees, formally appointed or not formally appointed (such as de facto directors and shadow directors), and whether they are paid for the trouble of their appointment, or not.
A director’s duties do not apply to:
- holding companies or subsidiaries of the company to which the director is appointed, unless the individual is also a director of those companies, or
- third parties dealing with the company.
Also, the duties do not come to an end when the director resigns. In some important respects they continue, full-throttle.
Accordingly, when breaches of duty arise, it is the company that has the primary legal recourse against individual directors, and not the shareholders or anyone else.
If the company does not take action to address a breach:
- an individual shareholder may be permitted by a court to commence a derivative action on behalf of the company to obtain redress on behalf of the company
- shareholders may have resource against a director where a special fiduciary relationship arises between the directors and the shareholders.
This possibility arises when directors become agents of the shareholders, and this in turn may lead to a conflict of interest and compromise the independent judgment
Directors Duties: Standards Expected
From a legal standpoint, when decisions are made by directors it is not a matter of whether one director is commercially right and another is commercially wrong. That’s not what the law is set up to do.
A commercially unreasonable position might be adopted by a director, but that does not necessarily place the director in breach of their duties.
The focus of directors’ duties is to whether the board and each director has acted consistently with the constitution of the company and the directors' duties which are imposed by the Companies Act, as opposed to pragmatically, prudently, with common sense, business acumen or insight.
This means that:
- The actions of any single director are assessed against the standards fixed by the general duties set out in the Companies Act, and supplementary duties which stem from them.
- Individual directors may not exercise powers that they do not have or are not vested in them under the company’s constitution, and
- If they have exercised directors act otherwise than in good faith and in the best interests of the company or for an improper purpose, they are liable for breach of their duties.
The List of Directors Duties
Directors’ duties set out in sections 171 to 177 of the Companies Act 2006.
Directors have the general duties to:
- section 171: act within their powers
- section 172: promote the success of the company
- section 173: exercise independent judgment
- section 174: exercise reasonable care, skill and diligence
- section 175: avoid conflicts of interest
- section 176: not accept benefits from third parties
- section 177: declare their interests in proposed transactions or arrangements in the company
The list of duties is deceptively simple and straightforward. A wider range of duties than those set out in may apply in addition to the general duties listed in any particular case.
Also, these director’s duties overlap with one another. Breaching one of the director’s duties usually involves breach of another of the duties.
1. Section 171: Duty to act within powers
Directors are required to ensure that they act within the corporate powers of the company, that is, “only exercise powers for the purposes which they were conferred”.
What is the Purpose?
Corporate powers and purposes are defined by the Articles of Association, resolutions of shareholders and the board, and to a limited degree contracts which the company has with third parties such as shareholders’ agreements.
It is those materials that form its constitution, and what is within the powers of the company (intra vires), and what is not (ultra vires).
Assessing whether the exercise of a corporate power for a proper purpose is a staged process.
It involves identifying:
- the power which is being exercised
- the proper purpose for which such power was conferred
- the substantial purpose for which the power was exercised.
When the exercise of the power is for a proper purpose, directors act within their authority.
Legitimate powers of the company can be abused in any number of ways, for example:
- Power to Allot Shares: allotting shares for the purpose of:
- defeating a takeover bid or allowing a takeover bid to come to pass
- diluting the shareholding of another shareholder
- create a majority or destroying an existing majority
- Power to require forfeiture of shares: using powers relating to forfeiture of shares to expel members
- Deprivation of rights: depriving shareholders of constitutional rights, such as to receive a dividend pari passu with other shareholders with the same class of share, when a dividend is declared for that class of share by the board.
For liability to arise, the director must:
- know the purposes of the exercise of the power are improper, or
- know that the facts which make the purpose improper, without necessarily being conscious that it is an improper one or involves a breach.
When directors of a company enter transactions with other companies with which they are associated (ie connected persons), they are assumed to know the constitutional limitations of the company. That has consequences for directors who enter proposed transactions or arrangements entered by the company section 177.
Even then, when a power is said to been exercised for an improper purpose:
- exercise of the power is not invalidated unless it substantially motivated by the improper purpose.
- it is irrelevant that the director was acting in the best interest of the company, because the power was conferred for a purpose, and the exercise was not within the bounds fixed by the constitution of the company
- simply because the exercise of the power is beneficial to the company is beside the point.
When the company’s powers are exercised for an improper purpose, the exercise of the power is voidable. However it may be ratified by the shareholders in general meeting.
Shareholders may prevent the company from acting outside its powers, and do so with an injunction.
Remedies are available to make good the wrong, which may involve requiring directors involved to pay the company the amount of loss suffered by the company caused by the breach.
Insofar as individual directors are concerned, when acting outside the powers of the company also to leads to a breach of another duty, the duty to avoid conflicts of interest (section 175), which in turn requires disclosure of the transaction to the board; acting in the company's interests (required by section 172) means that a director is required to disclose the breach to the board.
It follows that when one or more directors act outside the corporate purpose of the company, each of them are liable for the loss caused to the company.
Third Party Interests
Transactions which are entered for an improper purpose are likely to remain enforceable by third parties against the company due to the operation of the indoor management rule, which is codified in section 39(1). The indoor management rule operates to entitle third parties to assume that the directors (or those authorised by them) were acting within their powers unless they were otherwise put on notice.
2. Section 172: Duty to promote the success of the company
The duty requires a director to:
act in the way he considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole.
The standard required depends in part on the skill and experience of the director, and particularly skills and experience personal to the director.
The good faith requirement imports a duty for directors to exercise their discretion bona fide in what they consider, not what a court may consider, to be in the interests of the company.
The duty requires the director to act (in good faith) in a way which would likely to promote the success of the Company for the benefit of its members as a whole.
It’s what the director believes to be the best interests of the shareholders, assessed as a whole.
The good faith requirement:
- is about honesty and loyalty, rather than the competence of the director.
It does not impose an objective standard of managerial competence.
The level of competence which directors must meet is the subject of another director’s duty (the duty of care, skill and diligence)
- relies on whether the director honestly believes that an act or omission is in the interests of the company
The duty means a director can act unreasonably and mistakenly, and not be liable for a breach of duty, so long as he was honest in the mistaken belief.
“benefit of its members”
The shareholders of a company are a collective body. Different shareholders will have different and potentially competing interests within the general body of shareholders, because the nature of their interests may differ within company.
Shareholders own shares for a whole lot of reasons. A particular shareholder might become involved for:
- dividend payments for their class of share in the near future
- voting rights attached to the shares
- the prospect of increases in value of shares over an extended period of time
- investment of money for capital growth, rather than investing their own time
"as a whole"
Decisions by directors in board meetings may impact different classes of shareholder differently.
Under section 172, the director’s duty is to consider shareholders common interests between the shareholders to:
- to promote the success of the company,
- even when those common interests conflict; and
- impact differently upon interests of classes of shareholder.
So, “for the benefit of members as a whole” does not mean:
- only to the benefit of majority shareholders
- the interests any particular shareholder or one class of shareholder, or
- the interests of directors who might happen to own shares.
“Promote the success”
There is a list of factors which a director must have regard to fulfil the duty. It’s not about just ticking boxes.
Those factors are broader, more long-term interests of the company, and form part of section 172:
- the likely consequences of any decision in the long term
- the interests of the company's employees
- the need to foster the company's business relationships with suppliers, customers and others
- the impact of the company's operations on the community and the environment
- the desirability of the company maintaining a reputation for high standards of business conduct, and
- the need to act fairly as between members of the company.
The interests of a company will also involve the company’s own objectives and purpose.
The objectives and purposes between a charity, a bank, an insurer, a software development company and an IT services company are likely to differ significantly.
The duty is breached when a decision made is one which no reasonable director could have arrived at in the best interests of the company.
Who must prove a breach?
Consistent with the principles associated with the burden of proof which apply in legal matters, when claims are made that the director’s duty has not been discharged to the required standard, it is not for the director to justify or prove that their decision was “correct”.
Rather, it’s a matter of the decision being made in consistently with the legal standard.
It’s for those alleging that the director failed to do so to prove the breach of duty.
Also, where conflict arises between this duty and the other duties, the director’s duty to promote the success of the company usually prevails.
Disclosure of Misconduct
Also, this duty of good faith requires directors to disclose their own misconduct.
When a company is solvent, it is the interests of shareholders as a whole, present and future which prevail. .
As a company moves towards insolvency, the directors must have regard for the interests of the creditors, and not only the shareholders.
3. Section 173: Duty to exercise independent judgement
Decision-making by directors in board meetings serves to support the function of the board: to manage business of the company.
To do so, directors are required to exercise their own independent judgement, in the sense that it is the director’s own judgment.
In decision-making, each individual director is required to:
- make their own decisions: Decisions of directors cannot be delegated to someone else to make.
This not to say that the board cannot delegate decisions to others where the constitution of the company permits it
- make up their own mind: The duty is geared to prevent avoiding improper influence or permitting themselves being dominated or manipulated by other directors, the shareholders or other third parties
- avoid subordinating or subrogating their authority to others: An appointment as director means that the powers associated with the appointment is for the director to exercise.
The duty does not prevent a director from relying on the advice or work of others, such as managers of the business, other directors or external advisors.
In the process of decision-making, directors are not prevented from acting consistently:
- with an agreement duly entered into by the company that restricts the future exercise of discretion by its directors, or
- with the company's constitution.
The Other Side of the Line
Individual directors are not permitted to:
- go behind one another’s backs and criticise the Board's management.
Acting to undermine the other directors is not an acceptable practice.
- impose their own will on the company to the exclusion of other directors. It undermines a proper functioning board of directors
- ignore decisions of the board simply because they are majority shareholders
Rather, individual directors are expected to raise their concerns, engage in discussions, consider the merits and disadvantages of any particular course, and form part of the majority or minority in a vote in board meetings.
4. Section 174: Duty to exercise reasonable care, skill and diligence
The duty in section 174 imposes an objective standard on directors to exercise care, skill and diligence.
This is the “duty of care” required to be discharged by directors. It is owed to the company and not to other directors or the shareholders.
The objective standard for directors is fixed by two factors.
It is the general knowledge, skill and experience:
- that may reasonably be expected of a director carrying out the functions for the specific company.
Directors are precluded from depending claims for breach on the basis that they did not have the general knowledge, skill or experience reasonably to be a director or perform the functions required of them. The director should not have accepted the appointment in the first instance and should have resigned their appointment.
- that the director personally possesses.
The greater the general knowledge, skills and experience of a director, the greater the standard of performance expected of the director.
When a director has special skills, those skills heighten the standard of performance of the duty.
Factors in the Standard Required
Different companies distribute responsibilities amongst directors in different ways.
The scope and extent of the duty for any particular director depends on factors such as:
- the nature of the company's business
- the responsibilities allocated to the director in question and the other directors
- the tasks delegated to management, bookkeepers and accountants, and other skilled professionals engaged by the business.
Even then, directors are not required to perform their duties to a greater degree of skill and care than may reasonably be expected from a person of their knowledge and experience.
Whether or not a director has failed to meet the standard required by the duty depends on the courses open to them directors acting competently.
Errors of Judgement
Nevertheless, directors are not responsible for errors of judgement.
Incorrect choices do not make directors personally liable for the consequences of those decisions.
That is, provided the required level of care, skill and diligence was exercised. Directors do not underwrite the success of the business of the company by their decisions.
5. Section 175: Duty to avoid conflicts of interest
It would be a mistake to think that companies “owe” directors something for their appointment.
It is benefits which the board assents to, after the board has been informed of all the relevant facts and events that the director is entitled to be remunerated.
As trustees of companies’ assets, directors hold a responsible role in companies. They control assets and property of the business, which includes property treated as assets of the company, such as business opportunities obtained by the company.
Section 175 of the Companies Act states:
(1) A director of a company must avoid a situation in which he has, or can have, a direct or indirect interest that conflicts, or possibly may conflict, with the interests of the company.
(2) This applies in particular to the exploitation of any property, information or opportunity (and it is immaterial whether the company could take advantage of the property, information or opportunity).
The classic statement is this:
… it is a rule of universal application that no one having [directors] duties to discharge shall be allowed to enter into engagements in which he has or can have a personal interest conflicting or which may possibly conflict with the interests of those whom he is bound to protect.
Then there is this:
A director is however precluded from obtaining for himself, either secretly or without the informed approval of the Company, any property or business advantage either belonging to the Company or for which it has been negotiating], even after his resignation where the resignation may fairly be said to have been prompted or influenced by a wish to acquire for himself any maturing business opportunities sought by the Company and where it was his position with the Company rather than a fresh initiative that led him to the opportunity which he later acquired.
Conflicts of interest can arise between director and:
- company itself; and
- third parties to the company, which include:
- companies which the director has personal interest, such as another company where the director is a director or shareholder
- other forms of legal entity, such as a partnership, and/or
- dealings with independent third party individuals or companies.
Ownership of Company Assets
It is not for directors to use company assets as if it was their own personal property.
The property, information or business opportunities are owned by the company arising from its status as a separate legal entity. The company owns the assets, not the director.
Directors' Conflicts with the Company
Conflicts of interest arise when individual directors take advantage of their position as a director for their own personal benefit. A personal interest comes to conflict with the interests of company.
It happens when directors overlook or see past that the company has its own legal existence which:
- owns the property of the company:
- owns or leases a property and receives rent payments, or sublets it to receive rent;
- licensing revenue derived from intellectual property rights;
- sales of assets of the business including tools of the trade;
- confidential information
- capital investment into the company
- is entitled to the benefit business opportunities which arise for the company; and
- all of the benefits that those bring - or may bring - to the company.
Conflicts of interest between the interests of the company and the personal interests of directors usually arise in the context of:
- using company property for the director’s own personal benefit or for another business with which they are associated
- receiving revenue personally which properly belongs to the company
- transfers company property away from the company at an undervalue
- acting in favour of another company or business, when they should not
Conflicts do not arise only between the director’s own person interests and the company.
They also arise when director has two or more principals.
Dual Conflicts: The Director and Separate Principals
Directors are perfectly entitled to be directors of two or more companies.
However, directors owe fiduciary duties to each company to which they are appointed.
A breach of duty doesn’t arise when acting for both, provided that the director does not act to undermine that fundamental duty of loyalty to both companies. That can be a difficult feat.
A conflict of interest is more likely to arise where a director is appointed to one company and a second company, where the second company:
- competes with the first company
- supplies goods or services to the first business
- is a customer of the first business
Also, a conflict is likely to arise where the director:
- owns personally owns property used by either the company to trade
- the director plays a role in either company which attracts its own fiduciary duties to the company, such as a professional advisor, such as:
- an accountant
- a surveyor
- an engineer or
- other form of consultant
- earned a profit through their own assets and property
Liability still arises where:
- the company was not able to take the opportunity for itself
- the director held an honest opinion and acted in good faith
- the company benefited from the transaction
A general resolution of directors to approve the transaction and any profit received by the director is required before the opportunity is taken up.
Conflicts of Interest and Business Opportunities
The classic case of a conflict of interest between a director and a company is where a director takes up an opportunity which was not pursued or could not be pursued by the company, whether during the term of the appointment as a director or after resignation.
There are three different ways that business opportunities might be diverted away from a company:
- remaining a director and taking up the opportunity: when directors sabotage the activity for the company and takes up the opportunity themselves, or through another entity which the director as a relationship, where:
- the director diverts the opportunity to a related company that takes up the opportunity
- a friend or business associate runs another company, and the opportunity is diverted to them to take up
- resignation to take up opportunity, where the director fails to disclose a business opportunity to the company business opportunity, and decides to pursue it themselves.
Resignation to take up a business opportunity to does provide an escape route for a director. The opportunity arose during term of the appointment and so the duty attaches to the opportunity, whether or not the director remains a director of the company
- preparation and resignation, by preparing to take up an opportunity during their appointment with a view to competing with the company post-resignation
The duty applies when the business opportunity is in the company’s line of business where the information is received by the director in his private capacity.
Whether there has been a breach will depend on a series of factors such as:
- position or office held by the director
- the nature of the business opportunity
- the amount of knowledge possessed by the director
- the maturity of the opportunity
- the timing of taking the opportunity, and
- any related business entities involved.
Defences to Conflicts of Interest
The defences to misuse of company’s assets are limited.
Primarily, situations giving rise to conflicts of interest and potential conflicts must be authorised by the board, provided that the constitution of the company does not invalidate or prevent authorisation.
The benefit must be disclosed to the board of directors and authorised by the board in order to steer clear of the consequences of a conflict of interest.
In any case, the interested director is not permitted to count in the quorum to approve the transaction.
Also, a director cannot act in good faith in the best interests of the company, and promote the interests of the company (section 172) if its business opportunities are siphoned away from the company.
6. Section 176: Duty not to accept benefits from third parties
As individuals, directors of companies are vested with powers to control the property of companies and enter into contracts for the company. The company can’t do those things itself. The company relies on human beings to do those things for it.
With the ability to control what happens with the property of the company comes with the ability to abuse it.
The directors are legally bound do the right thing with the property of the company.
The duty not to accept benefits from third parties is a duty to prevent directors from accepting secret commissions (aka bribes) from third parties.
The duty recognises that directors may not be able to prevent benefits offered; when they are offered they must be handed over to the company because the company is the principal of the director.
The duty applies to benefits:
- received by directors in their personal capacity, anything connected to their appointment as a director
- which are more than trivial.
Benefits for the purposes of section 176 include benefits of any description, and not just money. It includes on-financial benefits.
It does not matter that the benefit is not actually received by the director themselves.
Secret commissions are considered to fundamentally taint the decision-making process of the director, whether or not it actually does.
For example, it would include:
- payment of tuition fees for a director’s children or a relative's children
- benefits unrelated to the appointment as a director or the company.
For instance, a director might be offered a landscaping services on their own home at no cost in exchange for the reward of a contract in favour of a supplier
- shares received from company with whom the director was negotiating on behalf of the company
- commissions paid out of the purchase money for a property
8. Section 177: Duty to declare interests in proposed transactions or arrangements
Directors have ultimate control over assets of companies to which they are appointed. With that power, comes the opportunity to abuse it, either inadvertently or deliberately.
The potential to do so arises in both public and private companies, where the shareholders are also directors, or own competing entities which stand to benefit from an appointment as a director of the first company.
Section 177 establishes a statutory procedure which:
- requires directors notify the board when they have a personal interest in the transaction, before the company enters the transaction.
- applies whether the transaction is direct and indirect.
- is designed to prevent a benefit of a conflict of interest arising, without the approval of the board
- enables the directors, on behalf of the company, to decide:
- whether to enter into the transaction
- on what terms; and
- to establish appropriate safeguards should be adopted to protect company.
- Contracts with the company where the director or a company under their control, such as loan contracts
- sales of shares in the company to another company which a director owns shares
Transvaal Lands Co v New Belgium (Transvaal) Land & Development Co 1914 2 Ch 488, from Youlton v Charles Russell (a firm) 2010 EWHC 1032 (Ch) (13 May 2010)
- Contracts of supply of goods or services to the company
Section 177 provides that a director's interest in a proposed transaction or arrangement with the company, must be accompanied by full disclosure of any conflict which may arise. It is a formal declaration to the board.
Accordingly, declarations should include:
- the interest: the nature and extent of that interest to the other directors, sufficient for the board to understand what they were approving
To simply mention that they have an interest is not enough to discharge the duty
- method of declaration: usually by giving written notice to the board
- timing: the interest before the interest is acquired
- corrections and clarifications: where the disclosure does not properly address the nature or extent of the interest, a further declaration must be made.
The duty to declare interests applies to de facto directors and shadow directors, where they are persons in accordance with whose directions or instructions their directors were accustomed to act.
A director is not obliged to declare:
- matters which they are not aware of and what a director ought reasonably to be aware of.
However, directors cannot close their eyes to whether they have an interest or not and/or
- what the other directors already know.
Consequences of Non-Disclosure
If the director's interest falls within section 177, then the director must declare the interest. There is no option not to.
If it is not disclosed to the directors:
- the transaction may be set aside by approval by the shareholders in a general meeting
- the director is liable for an account of profits to the company and to rescind the transaction, in favour of the company
Transactions between them are voidable by the company. The company is entitled to an indemnity from the director(s) involved for loss arising from the transaction, which is usually in the form of an order for rescission), to and account to the company for any gain derived from the transaction.
The third parties however may be able to avoid liability by showing that they were not aware of the constitutional limitations.
- require directors to declare interests in existing transactions or arrangements of the company, unless the director concerned disclosed the transaction before the company entered into it
- applies to impose potential criminal consequences rather than civil consequences
Shareholder Approval Required
Some transactions require more than board level disclosure.
They require approval of the members in a general meeting, after proper disclosure of the details of the transaction have been made available, such as:
- when appointments of directors are guaranteed for in excess of 2 years
- substantial property transactions, where directors are involved in transactions where asset value is:
- more than 10% of the company’s value, which that amount is more than £5,000
- in excess of £100,000.
- any loan - of any amount – given to directors
- loans given by directors are guaranteed by the company.
Additional Duties of Directors
The directors’ duties at section 171 to 177 are the general duties of the directors.
Directors owe further duties to companies which aren’t so readily apparent.
Duty to report misconduct
As part of a director's duty to promote the success of the company, directors are under a duty to report to the board actual breaches of duty which damage the interests of the members as a whole in respect of:
- their own misconduct
- breaches of duty by other directors.
In some cases it applies to threatened breaches too.
Duty to Monitor Staff
Directors owe duties to the company to know the company’s affairs and cooperate with other directors to supervise them.
In this way, duties also exist to:
- duty to monitor employees upon whom significant reliance is placed, and
- ensure that there are in place appropriate supervisory and review systems.
The standard to be met is that of reasonable skill and care, having regard to the distribution of work between the directors and management within the company, and the allocation of responsibility between them.
Avoiding Payment of Unlawful Dividends
Liability for the payment of unlawful dividends is usually strict.
However it can also depend on the role the director played in authorising the payment and the degree of fault attributable to the individual director.
When it is subject to the degree of fault on the part of a director, relevant circumstances include:
- knowledge of the background leading up to the unlawful payment
- the extent of care in preparation of proper accounts of the company
- the extent that they could and were entitled to rely on the opinion of others, in the accuracy of the company’s accounts
When directors are liable, and dividends have not been paid lawfully (ie from distributable reserves), directors are usually required to restore the full amount of money wrongfully paid out.
Protection of Confidential information
Companies have their own legal personality.
As a result, it own rights in its own confidential information: the rights in confidential information is not that of individual directors. The confidentiality vests in the company.
Allowing such commercially sensitive information to be shared with any third party, without the approval of the board breaches those rights. It can't be in the best interests of the company for disclosure of confidential information to damage to the company’s business relationships.
Disclosure of confidential information to shareholders is the equivalent disclosing confidential information to a person that has no relationship with the company at all.
Confidential information which exists in companies vary from company to company and includes information relating to the business, such as:
- business plans and strategies
- affairs and finances of the company
- source code of software developed by the company is spirited off to another company connected to a director
- terms of contracts
- of employees of the company, consultancy agreements, commission agreements
- with suppliers to the business
- prices paid for goods and services supplied
- lists of customers
- financial, pricing, unpublished and price-sensitive information, such as amounts paid for products or services by customers of the business, or any particular customer
- trade secrets, where the rights have been adequately preserved and treated as trade secrets by the company
- investment related information
- accounting records
Where directors are also shareholders, misuse of confidential information by the shareholder may well be brought home to the director by an action for breach of confidential information by the director and:
- lead to a breach of the duty of good faith
- lead to a requirement to disclose the wrongdoing to the board
- amount to a conflict of interest, and
- evidences a failure to discharge the duty to exercise independent judgment.
Directors' Duties: Board Proceedings Administrative Duties
Administrative duties of directors include duties to maintain company records, which include duties to:
- section 248(1): prepare and preserve minutes of meetings
- section 386: maintain proper accounting records and books of accounts
- keep the Statutory Records of the company up to date, which include:
- section 113: Register of Members, with the prescribed particulars, and where there are more than 50 shareholders, an index of shareholders
- section 162: Register of Directors, with the prescribed particulars
- section 808: Register of Interests Disclosed
- section 743: Register of Debenture Holders
- section 165: Register of Directors’ Usual Residential Addresses, with the prescribed particulars
- section 275: Register of Secretaries should a secretary be appointed
- section 790M(1): Register of People with Significant Control
Each of the Registers is required to be made available for inspection by the shareholders and by members of the public for the prescribed fee.
- File with Companies House:
Then, it is the directors’ responsibility to ensure that the company complies with the general law, such as:
- pay the taxes due to be paid by the company
- observe the requirements of the Bribery Act 2020
- anti-money laundering legislation, where it applies to the company
- comply with the environmental protection laws
Breach of Directors’ Fiduciary Duties
The duties are owed to the company, rather than shareholders other directors or those not involved in the company. That’s because the company is its own legal entity and owns the causes of action which arise from wrongs committed against the company.
Accordingly, it is primarily for the company to decide to take action for wrong doing by a resolution of the board, which requires a majority of directors.
Member may bring proceedings against a director for breach of their duties in the form of:
- section 260: a derivative action under of the Companies Act; and
- section 994: unfair prejudice claim
They can also be enforced by liquidators on behalf of the company.
Directors are liable when they:
- do not meet the standards of skill and care expected of them in accordance with section 175, or
- if they participated in the breach
- sanctioned the conduct constituting the breach.
Resignation of a director does not cure a breach of their statutory duties.
Accordingly, directors are not usually able to avoid liability for breach of statutory duties simply by resigning unless they bring the breach and the circumstances to the attention of the board and in some cases the shareholders too.
Liability of Multiple Directors
Many functions of directors are performed jointly.
Breaches are actionable separately.
Just because one director is liable does not mean that all directors are liable. Directors are not agents for the other directors, and the other officers of the company are not the agents of the directors.
Furthermore, where there is a cooperation amongst directors’ wrongful conduct – whether intentionally or not – it can be said that the directors performed relevant acts jointly, and are therefore jointly and severally liable for the loss suffered by the company, as part of a conspiracy. It's usually an as part of a unlawful means conspiracy, as breaching duties to the company is an unlawful means
Liability continues to exist in a liquidation, for breach of their fiduciary duties and misfeasance, which includes (amongst many others):
- use of the money or property of the company for their own purposes, or
- for the purposes of another business.
Standing by and Doing Nothing
Directors also breach their duties to the company when they allow themselves:
to be dominated, bamboozled or manipulated by a dominant fellow director
Directors who knowingly standby, take no steps to prevent wrongdoing and permit other directors do so, commit a breach of trust against the company.
- fail in their duty to exercise reasonable skill, case and diligence
- attracted liability to themselves and are treated as party to the breach of the fiduciary duty and seen as having authorised or permitted it
Directors’ Duties: Defences to Liability
Courts have a limited power to forgive liability on the part of directors in limited circumstances.
For the defence to be available under section 1157, the director must have acted “acted honestly and reasonably, and that having regard to all the circumstances of the case”. In those cases, court retain a discretion to excuse the director from liability on terms that it considers appropriate.
A director may also take the initiative and proactively apply for relief from their own negligence, default, breach of duty or breach of trust.
The directors are also able to ratify a number of wrongful acts of directors, and in some cases the ratification may only be given by shareholders, and provided that the constitution of the company permits it.
Remedies: Breach of Directors’ Duties
Remedies are based on compensating the company for breaches of duty, which may involve:
- requiring a director to compensate the company for negligent acts
- return property of the company which the director applied for their own purposes
- if property cannot be returned, make an award to the company for equitable compensation against the delinquent director(s)
- an award of the remedy of an account of profits, which is designed to identify the profit gained by the wrongdoing, with a view to making an award in that amount
- treat the property or money acquired by the director as having acquired for the benefit of the company
- otherwise put the company in the position it would have been in, had the director properly performed their duties
These objectives are brought about by a combination of court orders, which include orders for:
- account of profits
- injunctions, either mandatory and prohibitive
- cancelling – or rescission of contracts and making orders to undo the effect of the contracts:
- between the company and third parties, and/or
- the director and third parties,
whether from the moment they were created or for the future only
- constructive trusts, so that property and assets obtained by the director are treated as owned by the company.
There are divisions of responsibility of directors within a company. The board has the power to delegate responsibility for particular aspects of the management of a company.
When tasks are delegated to others, directors remain responsible for proper supervision of those delegated tasks and to exercise reasonable skill and care in doing so.
It is the directors’ responsibility to ensure that they are properly supervised and proper monitoring procedures are in place, and observed.
By imposing directors’ duties, the law sets standards of integrity and probity which must be met by directors appointed to the companies they control.
Each individual director by those statutory duties owes personal responsibilities to the company. Failure to meet the legal standard required by the duties attracts personal liability for the director, which the company is able to recover its loss.