With power comes responsibility - directors, duties and liabilities

 

With the recent collapses of corporates such as Carillion and BHS, the role of directors and governance is once again being put under the spotlight.

All directors, whether they are the directors of an owner managed business or a major public limited company, are subject to certain duties under the legislation of England and Wales. The role of a director carries with it a certain level of status, but that status does not come without responsibilities and duties.Part 1 of this two-part blog on directors’ duties and liabilities will focus on the proceedings of directors, the types of director and the statutory duties of directors as contained in the Companies Act 2006. Part 2 will then go on to look at the additional statutory obligations that directors may be subject to under other legislation, covering everything from bribery to wrongful trading.

Part 1

Day-to-day management of a company is usually delegated to its directors under the provisions of the company’s articles of association (the “Articles”). The Articles may be relatively general in terms of the powers delegated to the directors, simply noting that the directors have the power to manage the business of the company.The initial directors of the company are likely to be appointed by the shareholders and may be removed by the shareholders or their appointment automatically terminated by reason of certain matters specified in the Articles, for example as a consequence of bankruptcy.Proceedings of DirectorsDecisions of directors will normally be taken at a board meeting of the directors, or occasionally by written resolution of the directors. In the case of a board meeting a decision of the directors will usually be passed by a majority vote and in the case of a written resolution of the directors, the Articles may require that the decision is taken unanimously.Board meetings may not always take place physically in the same place and with the evolution of technology, boards are using teleconferences and video conferences to hold meetings where the board are unable to meet physically due to geographical or time differences.Depending on the provisions of the Articles, some boards may be using e-mail and other means of electronic communication for board approvals.Types of Director There is a difference between a statutory director and a non-statutory director. A statutory director would be one defined in section 250 of the Companies Act 2006 (the “2006 Act”) somewhat unhelpfully as “any person occupying the position of director, by whatever named called". It is perhaps preferable to think of a director under the 2006 Act as a person who is registered as a director in the company’s register of directors and secretaries. Such a person should also be registered as a director of the company on the public record, which is held at Companies House.However, not all “directors” are statutory directors. For example, the term director may simply be an internal title given to the individual, for example, a Finance Director or a Sales Director. The 2006 Act does give some protection to third parties dealing with such individuals where they may or may not have the power to bind the company. Where possible though, it is advisable to seek confirmation that the relevant person has been duly authorised to bind the company.

Executive, Non-Executive and Independent Non-Executive

The terms executive director, non-executive director and independent non-executive director may not be relevant to an owner managed business or a small or medium-sized enterprise (“SME”). They are terms that are more likely to be relevant to larger companies and in particular, listed companies.

Executive Directors:The executive directors are usually those members of the board who are also employees of the company. These directors will have been delegated executive powers under the Articles or a service contract with the company and are responsible for the day-to-day management of the company.

Non-Executive Directors and Independent Non-Executive Directors:Non-executive directors (“NEDs”) and independent non-executive directors (“INEDs”) are not necessarily responsible for the daily management of the company, but will still be entitled to attend and vote at board meetings and will be subject to the same responsibilities and duties as the executive directors. Non-executive directors are less likely to be found in an owner-managed business (“OMB”)/SME. However, they are in high demand for a listed public company. The UK Corporate Governance Code (the “Code”) states that a listed company should have a blend of executive and non-executive directors – this is to ensure that no single group will dominate the decision making process. As the Code has developed, there has been a move towards the majority of the directors on the board being INEDs. More recently, there has been a push towards greater female board representation with the Davies Report suggesting that at least 25 per cent. of the board should comprise of women and at least 33 per cent. by 2020.NEDs and INEDs are sought for their particular skills, knowledge and expertise and their presence on the board is to provide “constructive challenge” i.e. an objective criticism of board decisions and to assist with shaping the on-going strategy of the company. NEDs and INEDs should be entirely impartial and not influenced by other directors, shareholders or other key stakeholders. NEDs and INEDs should always act in the best interests of third parties whether they are employees, customers, shareholders or society more widely. Part of this reflects the codified duties that all directors, whether executive or NED/INED, must comply with under the 2006 Act (see further below).The Code operates on a “comply or explain” principle, so if there are insufficient NEDs/INEDs on the board, a listed company will need to explain why such NEDs/INEDs have not been appointed.As noted above, NEDs/INEDs are more relevant to listed companies. A smaller private limited company is less likely to have NEDs/INEDs and it is not subject to the Code.

Duties of Directors – Who are they owed to?

  Directors owe their duties to the company, not to the shareholders of the company (although when directors make a decision, they should ensure that the decision is made for the benefit of the shareholders as a whole). In the event that the company is threatened with insolvency, the directors will then owe their duties to the company’s creditors in priority.Statutory Duties of Directors  Directors’ duties are now enshrined in law in sections 171 to 177 and 182 the 2006 Act. The duties are:

• Duty to act within powers

• Duty to promote the success of the company

• Duty to exercise independent judgement

• Duty to exercise reasonable skill, care and diligence

• Duty to avoid conflicts of interest

• Duty not to accept benefit from third parties

• Duty to declare interest in proposed transaction or arrangement

• Duty to declare interest in an existing transaction or arrangement

Breach of the Statutory Duties 

A director who breaches the duties set out in the 2006 Act, depending on the duty breached may:

• be liable to compensate the company

• incur personal liability for the company’s debts

• face criminal or civil prosecution and penalties

• be disqualified from acting as a director of any company

Look out for Part 2 of this blog to find out more about the additional statutory obligations which directors may be subject to.

---

If, in the meantime, you would like further information or advice on directors’ duties and their potential liabilities, please feel free to get in touch.