7 - Directors' Duties

Question 1

Is the s. 172 duty subjective or objective?

Answer 1

Section 172(1) provides that a director must act in a way he considers, in good faith, would be most likely to promote the success of the company.

These words indicate that the duty is subjective, meaning that ‘the question is whether the director honestly believed that his act or omission was in the interests of the company’ (REGENTCREST PLC v COHEN (2001). A subjective approach is, however, only of use if directors actually consider whether their actions promoted the success of the company. If a director did not even consider this, then the approach determining if s. 172 has been breached will cease to be subjective and an objective approach will then be used.

Question 2

Can the directors prioritise the interests of the company over the interests of its members?

Answer 2

The courts have held that where the interests of the company conflict with the interests of part of the company’s membership, then the directors will not breach s. 172 if they favour the company’s interests (MUTUAL LIFE INSURANCE CO OF NEW YORK v RANK ORGANISATION LTD (1985)). No authority exists on whether the directors can prioritise the interests of the company over all of its members.

Question 3

Identify the six factors listed in s. 172(1) that the directors must have regard to.

Answer 3

1. The likely consequences of any decision in the long term;
2. The interests of the company’s employees;
3. The need to foster the company’s business relationships with suppliers, customers and others;
4. The impact of the company’s operations on the community and the environment;
5. The desirability of the company maintaining a reputation for high standards of business conduct; and
6. The need to act fairly as between members of the company.

Question 4

What are the remedies for a breach of the s. 172 duty?

Answer 4

An agreement in breach of the s. 172 duty is voidable at the company’s instance. If a breach of the s. 172 duty causes the company loss, the director in breach may be required to compensate the company (EXTRASURE TRAVEL INSURANCES LTD v SCATTERGOOD (2003)).

Question 5

How does the standard of care in s. 174 differ from its common law predecessor?

Answer 5

Under the common law, the standard of care was subjective, and was based on the skill and knowledge that the director actually had. Under s. 174, the standard of care has an objective and a subjective component, and is based on:

• the general knowledge, skill and experience that may be reasonably be expected of a person carrying out the functions carried out by the director in relation to the company; and
• the general knowledge, skill and experience of the director.

Question 6

When will the subjective element of the s. 174 duty apply?

Answer 6

Section 174(2)(a) imposes a subjective standard based on the actual knowledge, skill and experience of the director. It will only apply where the director has some skill, qualification or experience that merits raising the standard expected of him (e.g. financial director would be expected to have s higher degree of skill and knowledge in relation to financial matters).

Question 7

If a director delegates one of his functions to another person, and that person does not perform with the requisite skill and care, will the director be in breach of the s. 174 duty?

Answer 7

Generally, a director will not breach s. 174 if they delegate a function to another person and that person performs that function unlawfully or with a lack of skill and care (DOVEY v COREY (1901)). This is subject to several exceptions:

• the directors must exercise reasonable skill and acre when deciding to whom their functions are delegated. If they fail to do so, and the delegated functions are performed unlawfully or without due skill and care, the directors could be in breach of the s. 174 duty.
• the directors are required to supervise those persons to whom they have delegated their powers. A failure to supervise such persons can result in a breach of the s. 174 duty.

Question 8

What is the remedy for a breach of the s. 174 duty?

Answer 8

Directors will be required to compensate the company for any loss it sustains due to their breach of the s. 174 duty.

Question 9

What types of situation do not amount to a conflict under s. 175?

Answer 9

The s. 175 duty will not apply in relation to a transaction or arrangement with the company itself (s. 175(3)), or where the situation cannot reasonably be regarded as likely to give rise to a conflict of interest (s. 175(4)(a)).

Question 10

Are directors able to sit on the boards of competing companies?

Answer 10

There is no rigid rule preventing a director from sitting on the board of a rival company, and so a director is generally free to sit on the board of a rival company (LONDON AND MASHONALAND EXPLORATION CO LTD v NEW MASHONALAND EXPLORATION CO LTD (1891)), unless prohibited form doing so (e.g. by its articles or service contract). However, whether sitting on the board of a rival company is a breach of duty will depend strongly on the facts of the case.

Question 11

Does the s. 175 duty apply to former directors of a company?

Answer 11

Section 175 can apply to a former director of the company where the former director exploits any property, information or opportunity of which he became aware at a time when he was a director of the company (s. 170(2)(a)).

Question 12

When will a director in a position of conflict not be in breach of the s. 175 duty?

Answer 12

The s. 175 duty will not be infringed where the conflict has been authorised by the company (s. 180(4)(a)) or by the directors (s. 175(4)(b)).

Question 13

Can directors authorise a s. 175 conflict?

Answer 13

The directors’ ability to authorise a s. 175 conflict is as follows:

• the director cannot authorise a conflict where statute requires member approval to be provided (e.g. a third-party benefit under s. 176).
• in the case of a private company, the directors may authorise the conflict providing that the company’s constitution does not invalidate such authorisation (s. 175)(5)(a)). The model articles for private companies do not invalidate the directors’ ability to authorise a conflict.
• in the case of a public company, the directors may only authorise a conflict if there is a provision in the articles enabling them to do so (s. 175(5)(b)). The model articles for public companies do not contain such a provision.

Question 14

Explain the various differences between the duties in ss. 177 and 182.

Answer 14

• the s. 177 duty applies to proposed transactions or arrangements, whereas s. 182 applies to transactions or arrangements that the company has entered into.
• under s. 177, the declaration must be made before the transaction/arrangement is entered into. Under s. 182, the declaration must be made as soon as is reasonably practicable (s. 182(4)).
• a breach of s. 177 results in civil consequences only. Conversely, a breach of s. 182 is a criminal offence (s. 183).

Question 15

How can a director with an interest in a proposed transaction with the company avoid a breach of the s. 177 duty?

Answer 15

A director will need to declare the nature and extent of their interest to the other directors before the transaction or arrangement is entered into (s. 177(4)). Obviously, this will not apply where the company only has one director.

Question 16

Does a breach of ss. 177 or 182 result in criminal liability?

Answer 16

S. 177 breach results in civil consequences only.

S. 182 breach results in a criminal offence (s. 183).

Question 17

Can a director avoid liability for breach of duty by including a provision in the articles excluding such liability?

Answer 17

A director who is liable for breach of duty may try to obtain protection from liability via a provision in the articles. A director’s ability to do this is heavily limited by s. 232 of CA2006, which provides that any provision that purports to exempt a director of a company (to any extent) from any liability that would otherwise attach them in connection with any negligence, default, breach of duty or breach of trust in relation to the company is void (s. 232(1)).

Question 18

Explain the two ways by which a director can obtain relief from liability.

Answer 18

1. The company can ratify a breach of duty by passing a resolution of the members (s. 239).
2. The court can relieve a director from liability for breach of duty (s. 1157).

Question 19

When will a court grant relief under s. 1157?

Answer 19

The court may, under s. 1157, relive a director from liability if it appears to the court that they acted honestly and reasonably, and that having regard to all the circumstances of the case, they ought fairly to be excused.

Question 20

What four transactions require member approval?

Answer 20

Part 10, Chapter 4 of CA2006 provides that the following 4 transactions require member approval:

1. Long-term service contracts;
2. Substantial property transactions;
3. Loans, quasi-loans and other credit transactions; and
4. Remuneration and payments for loss of office.

Question 21

What are the consequences of a director not obtaining member approval for a long-term service contract?

Answer 21

If a director’s service contract contains a provision guaranteeing them a term of employment of over two years, then member approval is required. If member approval is not obtained, then the provision in question is void, to the extent of the contravention (s. 189(a)). The remainder of the contract will remain valid, but it will be deemed to contain a term entitling the company to terminate it at any time by giving reasonable notice (s. 189(b)).

Question 22

What is a substantial property transaction?

Answer 22

An arrangement under which:

• a director of a company or its holding company, or a person connected with such a director, acquires or is to acquire from the company (directly or indirectly) a substantial non-cash asset; or
• the company acquires or is to acquire a substantial non-cash asset (directly or indirectly) from such a director or a person so connected (s. 190(1)).

A non-cash asset is defined broadly as ‘any property or interest in property, other than cash’ (s. 1163(1)). A non-cash asset will be substantial if it is over £100k or exceeds 10% of the company’s asset value and is more than £5k (s. 191(2)).

Question 23

What is a quasi-loan?

Answer 23

A quasi-loan is a transaction under which one party (the creditor) sprees to pay a sum for another person (the borrower) or agrees to reimburse expenditure incurred by another party for another (the borrower):

• on terms that the borrower (or a person on their behalf) will reimburse the creditor; or
• in circumstances giving rise to a liability on the borrower to reimburse the creditor (s. 199(1)).

Question 24

Does a loss of office payment made to a director of a quoted company require member approval?

Answer 24

Sections 226B(1) and 226C(1) provide that a quoted company may not make a remuneration payment or a loss of office payment to a person who is, or is to be or has been, a director of the company unless:

• the payment is consistent with the approved directors’ remuneration policy; or
• the payment is approved by a resolution of the members.

Member approval is not required where the loss of office payment is consistent with the approved directors’ remuneration policy.