The increasing burden of being a Director

The increasing burden of being a DirectorAt some stage of their careers, pretty well every lawyer will have dealings with a company in the course of their profession. They may act for them. They may act against them. They may even, given the possibility of law firms incorporating as companies (under The Legal Services Act 2007), find themselves employed by one.

Dealing with a company means dealing with its directors, since a company will act through its directors and it is they who, generally, have power to bind it. As Spiderman reminds himself many times in his adventures, with great power comes great responsibility and this is just as true for directors as it is for web spinning superheroes. Directors are subject to a range of common law and statutory duties. Recently, the range and scope of these duties have been developed by both case law and statute. Budding lawyers need to be aware of this.

Case Law

Preparing to Compete

Directors have a common law duty not to allow their own personal interests to conflict with the best interests of the company. The scope of this duty was explored in Shepherds Investments Limited & another v Walters and others EWHC 836 (Ch) [2006]. In this case, it was held that three former directors had acted unlawfully in setting up a competing business whilst they were directors of the Claimant companies, even though the competing business did not start trading until some months after they had ceased to be directors. The particular steps taken by them to set up the competing business placed them in breach of their obligations to the company. Not all steps taken to set up a new business will be a breach, however. In Balston Ltd v Headline Filter Ltd [1990] FSR 385, purchasing an off the shelf company and arranging a lease for a new business while a director were held not to be breaches of directors duties.

Reporting own wrongdoing

In Item Software (UK) Ltd v Fassihi [2003] IRLR 769, a director of Item Software, Mr Fassihi secretly approached its main customer to divert a contract to his own company. Mr Fassihi was obviously in breach of his directors duties in trying to divert business away from the company. However, the Court of Appeal also held that he had a duty to report to his own wrongdoing to the company.

The Companies Act 2006

Through the Companies Act 2006, the government has sought to codify the majority of directors duties, in a significant change to the current law. The government has also introduced an eight point statutory guidance statement (below) for directors which, in its words, captures a cultural change in the way in which companies conduct their business.

1. Act in the companys best interests, taking everything you think relevant into account.
2. Obey the companys constitution and decisions taken under it.
3. Be honest, and remember that the companys property belongs to it and not to you or to its shareholders.
4. Be diligent, careful and well informed about the companys affairs. If you have any special skills or experience, use them.
5. Make sure the company keeps records of your decisions.
6. Remember that you remain responsible for the work you give to others.
7. Avoid situations where your interests conflict with those of the company. When in doubt disclose potential conflicts quickly.
8. Seek external advice where necessary, particularly if the company is in financial difficulty.

Some of the new provisions relating to directors duties came into force on 1 October last year, the rest coming into force this year.

The key duties which have came into force already are:

to promote the success of the company for the benefit of its members;
to exercise reasonable care, skill and diligence;
to act within the powers conferred by a companys constitution; and
to exercise independent judgement.

The key further duties which will apply to directors as from 1 October this year are:

to avoid conflicts of interest;
not to accept benefits from third parties; and
to declare an interest in a proposed transaction or arrangement.

The key duties listed above are not exhaustive. For example, the Act also sets out duties to deliver accounts and consider creditors interests at times of threatened insolvency. Also companies may themselves provide for more onerous duties through their Articles of Association.

Most of the key duties listed reflect existing common law duties on directors. The duty to promote the success of the company for the benefit of its members is a slightly different formulation to the existing common law duty of acting in the best interests of the company. In essence, though, a director must do what is best for the company having regard to the members collective aims. In a commercial company, this will usually mean achieving a long term increase in value.

A director must exercise the care, skill and diligence of a reasonably diligent person with the general knowledge, skill and experience that may be reasonably expected of a director. He must also exercise the general knowledge, skill and experience that he actually has.

Directors must exercise independent judgment. They may delegate, but final responsibility is theirs.

The duty to avoid conflicts of interest with the company is already a well litigated common law duty. Under the Companies Act however, if a conflict arises it may be authorised by the independent directors. In addition, private companies will be able to ratify a conflict, unless expressly prevented from doing so in the articles of association. Public companies may also do so if their articles expressly allow.

The duty on the director will be to avoid a situation which possibly may conflict with the interests of the company. Multiple directorships of companies in the same industry may therefore be awkward to sustain without ratification.

A director of a company must not accept a benefit from a third party which comes to him because he is a director, or because he is doing or not doing something as a director. This includes bribes.

Directors are also under a duty to declare an interest in a proposed transaction or arrangement. A director must declare to the other directors the nature and extent of any interest (direct or indirect) in a proposed transaction or arrangement with the company.

Lawyers need to be aware of the boundaries of the stricter framework which directors will have to inhabit. Otherwise, they may find their director clients facing action in the courts, and Spiderman wont be able to help.

Jason Butwick is an employment partner at Dechert.