Orr Litchfield

Solicitors and Business Lawyers

Directors and Directors’ Duties

What is a director?

There are several categories of director. These include executive director, non-executive director, de jure director, de facto director and shadow director.

Which types of director owe general duties to the Company?

The category and specific role of a director may be important in terms of the extent of a director’s duties to the Company.

The general duties of directors apply to all the directors of a company. The Companies Act 2006 defines a "Director" as including “any person occupying the position of director, by whatever name called”. This definition includes de facto directors. However, it has been unclear as to the extent to which it includes shadow directors.

The position has been clarified by the Small Business, Enterprise and Employment Act 2015. In general terms, it provides that the general duties of directors apply to shadow directors where and to the extent that they are capable of so applying.

What are the general duties of directors under the Companies Act 2006?

The Companies Act 2006 sets out 7 general duties of directors to the Company.

1. Duty to act within powers

This duty requires a director to act in accordance with the company’s constitution, and only exercise his powers for the purposes for which they were given.

The company's constitution is widely defined as including the company's articles, decisions taken in accordance with the articles and other decisions taken by the members or a class of them (if they can be regarded as decisions of the company), and any resolutions and agreements affecting a company's constitution.

2. Duty to promote the success of the company

A director of a company must 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 Companies Act 2006 provides a non-exclusive list of 6 matters which directors should consider when exercising this duty. These are:

(a) the likely consequences of any decision in the long term,

(b) the interests of the company's employees,

(c) the need to foster the company's business relationships with suppliers, customers and others,

(d) the impact of the company's operations on the community and the environment;

(e) the desirability of the company maintaining a reputation for high standards of business conduct, and

(f) the need to act fairly as between members of the company.

A company may adopt purposes other than those being for the benefit of its members. Where it does so, the directors must act in the way they consider, in good faith, would be most likely to achieve those purposes too.

3. Duty to exercise independent judgment

A director of a company must exercise independent judgment. Accordingly, a director may not subordinate his powers to the will of others, whether by delegation or otherwise (unless authorised by or under the constitution to do so).

This duty will not be infringed by a director where he acts in accordance with an agreement duly entered into by the company that restricts the future exercise of discretion by its directors, or in a way authorised by the company's constitution. By way of example, it is common for the articles of a company to include provisions permitting a nominee director to follow the instructions of the person who appointed him or to include powers of delegation.

This duty should not prevent directors from relying on advice from third parties. However, the directors should exercise their own judgment in deciding whether or not to follow the advice of any such third party.

4. Duty to exercise reasonable care, skill and diligence

A director of a company must exercise reasonable care, skill and diligence. This means the care, skill and diligence that would be exercised by a reasonably diligent person with (a) 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 (b) the general knowledge, skill and experience that the director has.

It should be noted that this duty includes both an objective and a subjective test. It means that, at a minimum, a director must display the knowledge, skill and experience set out in the objective test. However, where a director has specialist knowledge, the higher subjective standard must be met.

In determining whether a director has complied with his duty to exercise reasonable care, skill and diligence, the functions of the particular director (including their specific responsibilities and the circumstances of the company) must be taken into account. This will not prevent a director from relying on the experience and expertise of their colleagues or, generally, prevent sensible delegation or division of tasks, provided that the director does not attempt to abrogate all responsibility. A director will also be required to exercise their duties diligently, keep themselves informed about the company's affairs and join with their co-directors in supervising and controlling them.

The effect of this duty is that:

(a) A director’s actual understanding and abilities may not be enough if more may reasonably be expected of a person carrying out the functions carried out by the director in his or her position in relation to the company.

(b) A particularly highly qualified or experienced director will be obliged to exercise a high level of skill and expertise.

(c) An individual should not take on a directorship unless they are sufficiently qualified or experienced and have sufficient time available to be able to fulfil the functions that they might reasonably be expected to carry out.

5. Duty to avoid conflicts of interest

This duty provides that a director of a company must avoid a situation in which he has, or can have, a direct or indirect interest that conflicts, or may conflict, with the interests of the company. It 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 Companies Act 2006 contains certain exceptions to the general rule. By way of example, the duty to avoid conflicts of interest will not be infringed if the situation cannot reasonably be regarded as likely to give rise to a conflict of interest or where authorisation has been given by directors who are genuinely independent (in the sense that they have no direct or indirect interest in the transaction or matter).

The duty to avoid conflicts of interest will continue to apply after a person ceases to be a director as regards the exploitation of any property, information or opportunity of which they became aware when they were a director.

6. Duty not to accept benefits from third parties

A director of a company must not accept a benefit from a third party conferred by reason of his being a director, or his doing (or not doing) anything as director.

This duty is not infringed if the acceptance of the benefit cannot reasonably be regarded as likely to give rise to a conflict of interest. Benefits conferred on a director by the company, its holding company or subsidiaries, and benefits received by a director from a person who provides the director's services to the company, are excluded.

The board is not permitted to authorise the acceptance of benefits from third parties by directors. However, the company's articles may contain provisions permitting directors to accept benefits under a specified value (so, for example, they will not be in breach of their duty to the company when accepting a certain level of corporate hospitality).

The duty will continue to apply after a person ceases to be a director in relation to things done or omitted by them before they ceased to be a director.

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

If a director of a company is in any way, directly or indirectly, interested in a proposed transaction or arrangement with the company, he must declare the nature and extent of that interest to the other directors. The declaration must be made before the company enters into the transaction or arrangement.

If a declaration of interest proves to be, or becomes, inaccurate or incomplete, a further declaration must be made if the company has not yet entered into the transaction or arrangement when the director becomes, or should reasonably have been, aware of the inaccuracy or incompleteness of any declaration.

It is important to be aware that the director need not be a party to the transaction for the duty to apply. An interest of another person in a contract with the company may require the director to make a disclosure under this duty, if the other person's interest amounts to a direct or indirect interest on the part of the director. Accordingly, it is sensible for directors to do some due diligence into the interests of their connected persons.

No declaration will be required where (a) the director is not aware of his or her interest or where the director is not aware of the transaction or arrangement (but directors will be treated as being aware of matters of which they ought reasonably to be aware), (b) if the interest cannot reasonably be regarded as likely to give rise to a conflict of interest, (c) if the other directors are already aware of it, or (d) if it concerns the terms of the director's service contract which have been (or are to be) considered at a board meeting or board committee, or (e) (save in certain cases) where the company has only one director.

To whom do directors owe their general duties?

The general duties of a director under the Companies Act 2006 are owed by the director to the company. Accordingly, only the company will be able to enforce them.

A director does not owe any fiduciary duty to the company's shareholders or creditors in his role as an officeholder. However, in certain circumstances shareholders may be able to bring a derivative action on the company's behalf. A shareholder is likely to have to overcome numerous hurdles in order to bring a derivative action against a director on the company's behalf.

What other duties and obligations do directors have?

Directors have numerous other statutory, common law and (usually) contractual obligations. These include:

1. An array of other obligations under the Companies Act 2006, such as the holding of board and shareholder meetings; the preparation, content, circulation and filing of the company’s annual reports and accounts; and the filing of confirmation statements and statutory forms.

2. A duty of confidentiality to the company and an obligation to use the company’s confidential information only for the benefit of the company.

3. A responsibility for ensuring that the company complies with its obligations relating to (i) the health, safety and welfare at work of its workers under health and safety legislation; (ii) environmental legislation; and (iii) anti-corruption legislation.

4. An obligation to act in the best interests of the company’s creditors where the company is (or is on the verge of being) insolvent. In such cases, the general duty to promote the success of the company is modified.

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