The Duties Imposed on Directors under the Companies Act 2006 (“Act”)
Sections 170 – 177 of the Act set out the specific duties of directors. Their content reflects and mirrors the principles decided by case law over the preceding years.
- General duties of directors to the Company and in certain cases to creditors are detailed in Sections 171 to 177 of the Act.
- It also identifies those duties which continue after a person ceases to be a director. Duties under Section 175 gives details as (to avoid conflicts of interest) as regards ‘the exploitation of any property, information or opportunity of which he became aware when he was a director’ and Section 176 gives details as to (the duty not to accept benefits of third parties).
Section 171 of the Act – What is a Proper Purpose?
This section states that a director must:
- Act in accordance with the company’s constitution, and
- Only exercise powers for the purposes for which they are conferred.
“if a director chooses to participate in the management of the company and exercises powers on its behalf, he owes a duty to act bona fide in the interest of the company. He must exercise a power solely for the purpose of which it was conferred. To exercise the power for another purpose is a breach of his fiduciary duty.”
A power can be exercised for any number of purposes, some proper and others improper. The duty will have been breached for any number of purposes, some proper and others improper. The duty will have been breached if the improper purpose is the driving force.
This section states:
“(1) 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…
(3) The duty imposed by section 172 of the 2006 Act has effect subject to any enactment or rule of law requiring directors, in certain circumstances, to consider or act in the interests of creditors of the company.”
Did the director honestly believe that his conduct was in the interests of the company? If there is no basis for the director reasonably to have believed this, then a Court may well find him to be in breach of this duty.
The duty to promote the success of the company is for the benefit of its members as a whole. This duty is displaced if a company becomes insolvent or borderline insolvent, at which point directors must have regard to the interests of the company’s creditors.
The duty to act in good faith and in the best interests of the company extends to a requirement that the director should disclose his own misconduct and other matters of which he is aware, including actual or intended damage to the company.
Section 174 of the Act: – A Duty to Exercise Reasonable Care, Skill and Diligence
The key sections of this provision are:
(1) A director of a company must exercise reasonable care, skill and diligence.
(2) 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.
Sub section (a) contains an objective test – basically a minimum standard. Sub section (b) contains a subjective test, by reference to the particular director’s skillset (or otherwise). The subjective test may raise the threshold, but it cannot lower it.
For example, a higher standard than the bare minimum would be expected of a finance director who is a qualified accountant, than from a finance director whose only experience is in payroll.
Section 175 of the Act: – A Duty to Avoid Conflicts of Interest
The key sections of this provision are:
(1) A director 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…
There will be no breach if:
(4) (a) the situation cannot reasonably be regarded as likely to give rise to a conflict of interest; or
(b) if the matter has been authorised by the directors.
The Extent of the Duty to avoid conflicts of interest – Brief examples
If a director resigns from a company and takes advantage of a business opportunity from which the company may have gained, he will be in breach of his duty, even if it can be shown that the company would never have pursued that business opportunity.
However, a director who competes with the company after his resignation will not necessarily be in breach of this duty.
A director’s liability for disloyalty in office does not depend on proof of fault or proof that a conflict of interest had caused the company any loss. If a director obtains a business opportunity for himself, he will be liable, regardless of the fact that he acted in good faith or that the company could not or would not take advantage of the opportunity itself.
Section 176 of the Act: – A Duty not to Accept Benefits from Third Parties
This is colloquially known as the “secret profits” rule (which overlaps with the “no conflict rule”) is again, essentially a matter of strict liability. A director must not make a secret profit.
Section 177 of the Act: – A Duty to Declare Interest in Proposed Transactions
- 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 before the company enters into the transaction or arrangement.
- A director need not declare an interest if it cannot reasonably be regarded as likely to give rise to a conflict of interest.
- A director need not declare an interest if the other directors are aware of it, or ought reasonably to be aware of it.
Section 182 of the Act states that if a director enters into a transaction or arrangement with the company without declaring his interest under section 177, he will be under an immediate obligation to declare that interest and failure and to do so will constitute a criminal offence.
Can a Company Exempt a Director from a Breach of Duty or ratify the breach?
In most cases, no. A company cannot indemnify a director against liability for breach of duty except as specifically provided under section 232(2) of the Act.
Evidence and Burden of Proof
“I am satisfied that whether it is to be viewed strictly as a shifting of the evidential burden or simply an example of the well-settled principle that a fiduciary is obliged to account for his dealings with the trust estate… [Counsel for the liquidator] is correct to say that once the liquidator proves the relevant payment has been made the evidential burden is on the Respondents to explain the transactions in question.”
“The evidence of the liquidator established a prima facie case and, given that the books and papers had been in the custody and control of the respondents to the proceedings, it was open to the judge to infer that the liquidator’s case would have been borne out by those books and papers.”
“It was not open to the respondents to the proceedings in the circumstances of this case to escape liability by asserting that, if the books and papers or other evidence had been available, they would have shown that they were not liable in the amount claimed by the liquidator. Moreover, persons who have conducted the affairs of limited companies with a high degree of informality, cannot seek to avoid liability or to be judged by some lower standard than that which applies to other directors, simply because the necessary documentation is not available.”
Section 178 of the Act says that each of the statutory duties, except the duty to exercise reasonable care, skill and diligence, is enforceable as a fiduciary duty.
A director in breach of these duties may be liable to the company to pay compensation, restore the company’s property and rescind a transaction. In addition or alternatively, a director may be ordered to account for any profits made as a result.
Section 212(3) of the Act sets out (non-exhaustively) the range of remedies available in misfeasance proceeding. The Court must consider questions of causation as it would in any other damages claim and the apportionment of responsibility as between directors.
The limitation period for a claim under section 212 of the Act is six years beginning on the date that the misfeasance of breach of duty complained of occurred. The limitation period does not restart when the company enters administration or liquidation, because the provisions of section 212 does not create causes of action of themselves, but instead facilitate the litigation of those causes of action by parties other than the company .
Where misfeasance or breach of duty is also potentially actionable under another provision of the Insolvency Act 1986, a claim for misfeasance may be brought even if the alternative claim is unavailable because of the passage of time.
The Court held that a claim against a director under section 212 of the Act was valid, even though it might, in principle, have been advanced as a preference claim, but for the preference not being made at a ‘relevant time’ (making the preference claim effectively time-barred).