Directors’ duties under the Companies Act 2006 |
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| Introduction |
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| The Companies Act 2006 will affect your company. A number of provisions have already come into force, including provisions dealing with language and trading disclosures, e-communications; e-filing; regulation of actuaries; disclosure of shareholdings and liability for statements. |
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| In this article, we explain each of the seven codified directors’ duties, which were previously difficult to interpret in light of case law. |
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| How can this help me? |
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| Simply, if you know the seven directors’ duties, you are less likely to require legal advice when decision making, therefore you will save money and time. |
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| Background to directors’ duties |
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| Directors have powers to take majority business decisions on behalf of the company, thus certain duties are imposed on them as a result to ensure that the companies’ interests are protected. |
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| Duties include: |
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- To act in good faith to the best interest of the companies;
- To avoid conflicts of interest;
- Not to profit from their offices, and;
- Of care and skill are enshrined in the common law rules and equitable principles and also in statutes such as the Companies Act 1985 (the 1985 Act) as amended by Companies Act 1989.
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| Codification of such duties, via the 2006 Act will bring certainly and consistency. There are now seven general statutory duties set out in ss.170 to 181 of the Act. |
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| Act within your powers |
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| This was a common law rule referring to the fact that powers should be exercise only for their proper purpose. What the proper purpose is depends on the company’s constitution, (its memorandum and articles of association). |
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| Promote the success of the company |
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| Section 172 of the Act codifies the fiduciary duty to act in good faith in the company’s best interest in order to promote the success of the company. |
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| This can be widely interpreted - in exercising the duty a director must be aware of the non-exhaustive list of factors listed in s.172 (1). This includes the long term consequence of decisions and the interests of the employees; the relationships with suppliers, customers; and the impact of the decision on the community and environment; the desirability of maintaining a reputation for high standards of business conduct; and the need to act fairly as between members of the company. |
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| As a director, you may have already wondered about what to do if these interests conflict. For example, it goes without saying, that environmental decisions, such as deciding to off-set company C02 emissions, may not be the number one priority of the shareholders. |
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| Net Lawman advice: directors are advised to take detailed minutes of all meetings and decisions. This can help to prove that the factors listed in section 172 have been noted. |
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| Exercise independent judgment |
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| Section 173 of the Act imposes a positive duty on a director of a company to exercise independent judgment. Of course this ‘commandment’ impacts greatly on ‘shadow directors’ who play no active role in the management of the company, thus, they do not act independently. |
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| Confused? To put your mind at ease, the government has confirmed that directors will not be in breach if they exercise their own judgment in deciding whether to follow someone else’s judgment on a matter. |
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| Exercise reasonable care, skill and diligence |
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| This duty is set out in s. 174(1) and codifies the common law rule of duty of care and skill. S. 174 (2) prescribes the degree of ‘care, skill and diligence’ expected from a director; that is: care, skill, diligence that would be exercised by a reasonably diligence person with- |
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The general knowledge, skill and experience that may reasonably be expected of a person carrying out the functions carried out by the director in relation to the company; and |
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The general knowledge, skill and experience that the director has. |
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| There are two parts to the test - the first element sets out a minimum objective standard (a hypothetic reasonable person) expected of any director. The second, subjective test requires a director to carry out his duty with the general knowledge, skill and diligence he in fact possess. Therefore, a director who has more experience, knowledge and skill will have a higher threshold in discharging this duty. |
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| Avoid conflicts of interest |
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| This is the most complex of the seven duties. Previously contained in Part 10 of the Companies Act 1985, the 2006 Act simplifies these duties. |
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| Note: This duty applies to dealings between the director and third parties, not between the director and the company. Dealings which fall into the latter category are dealt with differently and require you to declare your interest to the other directors (see rule 7 below). |
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| There is now no need to gain shareholders’ approval prior to entering into transactions with third parties where the director’s interests conflict with company’s interests. Now, directors can gain authorisation from the directors who don’t have conflicting opinions provided that certain requirements as listed in s175 (5) (6) including who can participate and vote on such authorisation are complied with. |
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| Don’t accept benefits from third parties |
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| This is a long established, and now codified provision known as ‘non profit’. Of course it is obvious that a director is not permitted to accept a benefit from a third party due to either his being a director or his doing or not doing anything as a director. |
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| Declare interest in proposed transaction or arrangement with the company |
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| Those who are familiar with s.317 of the 1985 Act, will know that a director is required to disclose his interest to the board of the company when a transaction is proposed between a director and his company. This is contained in s.177 of the 2006 Act |
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| S.177 goes beyond s.317 of the 1985 Act by requiring a director to declare the nature and the extent of the interest to the other directors. Further, disclosure must be made where a director is considered ‘ought reasonably to be aware of’ (s.177 (5)) the conflicting interest. Disclosure also extends to a person connected with the director, for example, his wife and children. |
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| Note however, the requirement is extinguished where the director believes that the interest cannot reasonably be regarded as likely to give rise to a conflict of interest or if other directors are already aware or ‘ought reasonably to be aware’ of the director’s interest. |
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| Confused? |
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| The seven rules have brought together the pre-2006 Act rules. However, where unsure abut how they impact on the company, it is sensible for directors to seek advice in order to minimise the risks of claims. |
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