Corporate governance: a director’s roles and responsibilities
Although there are additional obligations for directors of listed companies, here is a summary of the key responsibilities for directors running a private limited company.
Whilst not all companies will have their objects (the purpose and range of activities for which the company is carried on) set out in their constitution documents anymore, it is important for directors to check the company’s articles of association to identify whether there are any restrictions on their specific powers. If there are restrictions, they could be held liable for any loss suffered by the company if the restrictions are ignored.
Care, skill and diligence
Company directors are not expected to be experts unless they are appointed as such. By way of example, this means that an accountant appointed as finance director of a ball-bearing manufacturer, need know nothing about ball-bearings, but they will be expected to show the expertise of a person with their qualifications in financial affairs.
Also, directors will not be held liable to their shareholders or their companies simply because they make an error of judgement. However, if they ignore advice for no good reason, or if they do not seek advice where a matter is outside their competence, they may be held liable.
Enlightened shareholder value: acting in good faith
In a sense, directors are like trustees. They must act in the best interests of the company to promote the success of the company for the benefit of its shareholders. However, they are also obliged to pay attention to the interests of the company’s employees, the need to foster business relations, the long-term consequences of the company’s actions, as well as the impact on the community and the environment, the desirability for maintaining a reputation for high standards and the interests of creditors.
Like trustees, directors must not allow their duties and their personal interests to conflict. They must exercise their powers for a proper purpose and are not permitted to fetter their discretion by committing themselves in advance, as to how they will vote in any particular matter.
Duty to avoid conflicts of interest
A director must avoid situations in which they have, or can have, a direct or indirect interest that conflicts with, or may conflict with, the company’s interests. In particular, that applies to the exploitation of property, information or opportunity, and whether the company could take advantage of it. The test of whether there is a breach is objective and does not depend on the director being aware that what they are doing is a breach of their duty. The Companies Act 2006 records the means by which this duty will not be regarded as infringed. A potential conflict of interest can be authorised by those other directors of the company that have no direct, or indirect interest in the matter, the company’s shareholders, or such other mechanism as specified in the company’s articles of association.
A company’s articles will often include provisions as to how conflicts should be dealt with, and those provisions should be followed to avoid a breach of the statutory requirements. It should also be noted that companies incorporated before 1 October 2008 generally have more stringent requirements in terms of approving potential conflicts of interest.
Contracts between directors and their company
Directors must declare to the other directors the nature and extent of any interest, direct or indirect, in a proposed transaction or arrangement with a company. The director need not be a party to the transaction for the duty to apply. An interest of another person, such as a family member, in a contract with the company, may require the director to make a disclosure under this duty. It would therefore be prudent for directors to do some due diligence into the interests of the people they are connected with.
The declaration must be made before the company enters into the transaction or arrangement. The declaration may be made at a meeting of the directors, or by written notice and no declaration is required if there is only one director, but instead the authorisation of the shareholders should be sought. Again, a company’s articles may specify how such conflicts are to be dealt with and authorised and a director cannot be in breach of the duty to declare an interest if they act in accordance with any provisions of the company’s articles dealing with conflicts.
A private limited company is required to submit statutory accounts to Company’s House annually. Statutory accounts are made publicly available and enable the public to view and review the financial position of the company. Depending upon the size and activity of the company, different accounting standards apply, and different levels of financial disclosure are required. It is ultimately the director’s responsibility to sign off the annual accounts and ensure that they provide a true and accurate reflection of the company.
Liability to outsiders
Generally directors do not incur liability to third parties unless they voluntarily undertake such liability. However, it should be noted that there are exceptions to this – for example trading whilst insolvent or breaches of certain health and safety legislation.
At a simplistic level this can occur when the company’s assets are insufficient for the payment of its liabilities. Directors must always have sufficient and regular information to be able to assess the financial position of the company. Once circumstances exist in which directors ought to conclude that there is no reasonable prospect of avoiding an insolvent liquidation, the directors must take every step to minimise the potential loss to the company’s creditors. If they cannot prove this, they can be made personally liable for the company’s debts.
Directors found to be in breach of their duties could be removed from office and, in addition, the company or the shareholders can apply for an injunction to prevent them acting in their current capacity. They can also sue for damages and request an account of profits, or the return of property. A breach of duty may also be grounds for disqualification as a director under the Company Directors Disqualification Act 1986, which would prevent the individual from acting as a director of another company.
For simplicity, many subjects in the content of this article have only been touched upon and they should not be taken as sufficiently full and precise to apply to any particular situation. For further information, advice or help on any matters around director’s responsibilities, please seek advice from a legal provider.
There are several common-sense steps directors can take to protect themselves.
- Ensure their role and functions as a director are clearly defined.
- Insist upon and attend regular board meetings.
- Ensure they understand the company’s articles of association and any provisions relating to conflicts of interest.
- Ensure that at board meetings, the relevant director presents proper financial and management reports.
- Ensure they understand, or that they have explained, the financial information presented.
- Ensure minutes are taken at all board meetings detailing the decisions made and reasons for those decisions, if a director disagrees with something, they should ensure that it is recorded.
- Above all, take all steps necessary to insure against their potential liability.