directors duties

Question 1

what are the three types of duty?

Answer 1

• loyalty/the corporate objective
• competence/negligence
• honesty/self-dealing

Question 2

what are the 7 duties?

Answer 2

• s.171: duty to act within powers
• s.172: duty to promote the success of the company
• s.173: duty to exercise independent judgment
• s.174: duty to exercise reasonable, care, skill and dilligence
• s.175: duty to avoid conflicts of interest
• s.176: duty not to accept benefits from third parties
• ss177/182: duty to declare interest in proposed/existing transactions or arrangements

Question 3

duty to act within powers

Answer 3

A director of a company must—

(a) act in accordance with the company’s constitution, and
(b) only exercise powers for the purposes for which they are conferred.

Question 4

facts of re smith and fawcett

Answer 4

• F and S are equal shareholders and directors of the co.
• The articles state that“the directors may at any time in their absolute and uncontrolled discretion refuse to register any transfer of shares”.
• F died,the shares were transferred to Edwin Fawcett and his wife.
• S refused to register the transfer of shares under the article to maintain his dominance of the company.

Question 5

ratio re smith and fawcett

Answer 5

• Lord Greene MR: directors must exercise their discretion as bona fide in what they consider - not what a court may consider is in the interest of a company, and not for any collateral purpose. Here S was acting in the interest of the company (now codified in s171(b) and s172)
• ​The test is applied objectively. So if directors have exercised power for substantially proper purposes, courts will not intervene to consider whether the action was reasonable or not.

Question 6

Howard Smith v Ampol Petroleum [1974] facts

Answer 6

RW Miller Ltd is owned by A, B and others. A wanted to buy all the remaining shares of RW. Howard Smith also offered a takeover at a higher price per share, and A and B issued a joint statement stating that they would defeat it through voting, thus preventing HS from taking over. The board of directors of RW then proposed to give HS the remaining 45% shares of RW so that HS would have a majority, premising on funds and the defeat of A and B as the majority shareholder. RW needed financing. A challenged the issue of shares and requested to remove HS from RW’s share register.

Question 7

ratio Howard Smith v Ampol Petroleum

Answer 7

HELD: PC; The power to issue shares was improperly exercised by the issue of shares by the directors to Howard Smith. When faced with multiple purposes, the court must examine the substantial purpose for which the power was exercised.

Question 8

Kershaw - problems with the theory of purpose-specific power delegation

Answer 8

1) Constitution often borrowed: the formation of a corporate constitution is often NOT the product of minute debate about the purpose and intention of specific rules, but of borrowed boilerplate (e.g. in the form of Model Articles).
2) Constitution often incomplete: the effectiveness of a corporate contract is dependent on its being incomplete due to future unpredictability. Hence, delegated corporate powers do not at all time contain an immanent list of proper purposes. The discussion or assessment of original intent is misdirected and hopeless.

Question 9

Equitable Life Assurance Society v Hyman [2002]

Answer 9

The courts will not interfere with the exercise by directors of a discretionary power granted by the articles of a company unless it is shown that the power has not been exercised bona fide in the interests of the company or that it has been exercised for a collateral purpose. Test: 1) construe the article to determine its nature and scope 2) the court must make an objective assessment of the directors’ substantial purpose, giving credit for their bona fide opinion, so as to decide whether their purpose is within the scope of the article

Question 10

Criterion Properties v Stratford UK Properties [2003] facts

Answer 10

D and C were parties to a joint venture agreement (ISA). The MD of C was Mr Glaser (G). C and D entered into a 2nd supplementary agreement (SSA) amending the terms of the initial ISA to deter possible takeovers under the poison pill arrangement (i.e. if C was taken over, the SSA may release D from the joint venture, thus deterring predators from making a bid to shareholders). The poison pill arrangement could also be triggered if the director/chairman of C left the company. G was dismissed subsequently, and C sought to set aside the SSA on the ground that the purpose of entering into it was improper.

Question 11

Criterion Properties v Stratford UK Properties decisions

Answer 11

• HC held: that the poison pill arrangement interferes with the constitutional rights of shareholders at all times
• CA: Brooke LJ and Carnwath LJ held that the judge’s conclusion that the directors’ had improperly exercised their powers was correct and should not have gone on to consider the actual knowledge of the director
• HL: approached issue on the basis of the director’s authority and whether director’s had actual apparent authority and since this could not be determined case was remitted for trial [HL: did not really analyze the issue].

Question 12

consquence of a breach of s171(a) - ultra vires the company, ultra vires the director

Answer 12

the transaction is void and cannot be ratified

Question 13

Breach of s.171 (b): (intra vires the company; ultra vires director)

Answer 13

Where the director exercises a power for an improper purpose, his actual authority to enter into the transaction is negated. The transaction (e.g. allotment of shares) is invalid (voidable) for want of authority. However, the exercise of the power may be ratified by shareholders through an ordinary resolution

Question 14

Bamford v Bamford [1969] facts

Answer 14

By its AOA the power to allot the unissued shares was vested in the directors of the company. A bid having been made by another company to take over its shares, the directors allotted the unissued shares at par. C, (two shareholders in the company) issued a writ against the Ds (the directors and the company), claiming a declaration that the allotment was invalid on the ground that the directors’s primary purpose in allotting the shares was to block the take-over bid. But the directors held a general meeting that passed a resolution by the substantial majority of the shareholders, the allotted shares not being voted.

Question 15

Bamford v Bamford [1969] ratio

Answer 15

• Held even if the directors had acted in bad faith and for an improper motive any impropriety on their part had been waived by a majority of the votes of the shareholders. Thus the allotment was valid.
• Harman LJ ‘such directors can, by making a full and frank disclosure and calling together the general body of the shareholders, obtain absolution and forgiveness of their sins; and provided the acts are not ultra vires the company as a whole everything will go on as if it had been done all right from the beginning’

Question 16

S.172: Duty to promote the success of the company

Answer 16

Previously the common law duty is to the duty to act in good faith in the best interest of the company. CA 2006 has replaced it with the duty to promote the success of the company.

Question 17

lowry comment on s172

Answer 17

• the framing of s172 goes further than the common law
• The real significance of s.172(1) may well lie not with the question of its enforceability, but rather in its value as serving a normative function that the “long term should predominate over the short, not vice versa, but that both should be evaluated and balanced, in determining what contributes best to company success.”

Question 18

Regentcrest plc v Cohen [2001] facts

Answer 18

Richardson and his brother owned R. R purchased shares in company G which was owned by the other directors of R and Mr Cohen, and the agreement states that if the value of G’s land had decreased within 2 years of purchase, then the purchase price would require a partial repayment by G (‘claw-back’ provision). The UK property market collapsed, resulting in a decline of G’s land. When R was later in serious financial difficulties, the board of directors convened to consider what should be done about the claw-back provision. S and F did not join or vote but the Richardson Brothers voted to waive the claim worth £1.5 million in exchange for receiving the services of S, F and Cohen for 3 years. R’s liquidator claimed that Richardson had breached his duty to act in good faith.

Question 19

Regentcrest plc v Cohen [2001] ratio

Answer 19

• the directors had acted bona fide. The waiving of the claw back claim was to maintain the united board and not create a situation which two of the directors were being sued by the company and were contesting the claim. Suing the directors would have given rise to misgivings on the part of anyone concerned in trying to save R.
• Jonathan Parker J: The duty imposed on directors to act bona fide in the interests of the company is a subjective one

Question 20

Why not objective duty for acting in the best interest of the co?

Answer 20

To provide the board with more freedom to exercise its authority. Allen, Jacobs and Strine - ​

a) The problem of hindsight bias: there is empirical evidence that persons who know the outcome of a decision tend to exaggerate the extent to which that outcome could have been correctly predicted beforehand
b) Disincentive decisions: A ‘reasonableness’ test might discourage riskier yet socially desirable economic decisions and will make the directors more risk-averse
c) Intracorporate remedies preferable: directors are elected and removed by shareholders so there is less reason for the courts to intervene

Question 21

success of the company for the benefit of its members

Answer 21

Lowry: As s.172(1) makes clear, the interests of members continues to be the primary concern of directors in promoting the success of the company. This does not mean the individual interests of members but their interests as members of an association with the purposes and mutual arrangements enshrined in the constitution

Question 22

S.173: Duty to exercise independent judgment

Answer 22

The director should not take directions or orders from someone else (although advice is fine) or otherwise make invalid fetter of his discretion! However, this is subject to constitutional authorisation or agreement.

Question 23

commentary on s173

Answer 23

• Kershaw: it is unclear why this section is legally necessary. The director has to do this under s.172 already. Yet this codification does provide directors with a clear statement of their obligations
• Hannigan: this seems to be a caution that directors’ should not fetter their discretion!

Question 24

Fulham Football Club v Cabra Estates [1994] facts

Answer 24

Fulham, as lessees of Craven Cottage, agreed with CABRA, a developer, who had applied for planning permission to redevelop the ground, shortly before a public inquiry which had been set up to consider the planning application; and also a proposal by the local authority (which Fulham FC had supported) for the making of a compulsory purchase order of the ground. Fulham were to receive payment from CABRA in return not providing witnesses or written material in support of the CPO. If called upon to do so, they were to write in support of the planning application.

Question 25

Fulham Football Club v Cabra Estates [1994] ratio

Answer 25

• CA Held: Directors of a company may have power make a contract which fetters their discretion in any event.
• Neil LJ said: ‘It is trite law that directors are under a duty to act bona fide in the interests of their company. However, it does not follow from that proposition that directors can never make a contract by which they bind themselves to the future exercise of their powers in a particular manner, even though the contract taken as a whole is manifestly for the benefit of the company. Such a rule could well prevent companies from entering into contracts which were commercially beneficial to them.’

Question 26

Re Barings (No 5) [1999] facts

Answer 26

L engaged in trading activities overseas and was in charge of one of Barings’ subsidiary companies. It was revealed that his trading activities had been making significant losses. The directors of Barings’ Group were sued under the CDDA for failing to adequately supervise L and were thus ‘unfit’ to manage

Question 27

Re Barings (No 5) [1999] ratio

Answer 27

• CA held up HC judgment in full - directors were disqualified for failing to supervise
• Jonathan Parker J: 1) Directors have, both collectively and individually, a continuing duty to acquire and maintain a sufficient knowledge and understanding of the company’s business to enable them properly to discharge their duties as directors 2) Whilst directors are entitled (subject to the AoA of the company) to delegate particular functions to those below them in the management chain…the exercise of the power of delegation does not absolve a director from the duty to supervise the discharge of the delegated functions.3) No rule of universal application can be formulated as to the duty referred to in (ii) above.

Question 28

S.174: Duty to exercise reasonable care, skill and diligence

Answer 28

• The duty of care is not a fiduciary duty, as made clear by s.178 (2). The statutory duty here is a reflection of the common law duty of care governing negligence.
• subjective and objective element to it

Question 29

why is the standard of care required for s174 a ‘reasonably dilligent’ person?

Answer 29

Kershaw: the duty set out in the statute serves two main functions:

1) Benchmark for behaviour: it sets an expectation of behaviour for the directors
2) Liability standard: it provides a liability regime for directors who breach the duties

➔ Thus, too high a threshold will create risk-adverse behaviour or deter board service (as directors will fear non-compliance.
➔ But too low a threshold will encourage irresponsible behaviour

Question 30

Re D’Jan of London [1993]

Answer 30

• regarded as the common law standard of care for directors
• D’Jan was held to be in breach for not reading the T&C of a form before he signed it

Question 31

UK Corporate Governance Code on non-executive directors

Answer 31

• reinforcesthe professional role expected to be played by non-executive directors in the governance of listed companies.
• e.g. with respect to their functions on the audit committee, the Code requires ‘that at least one member of the audit committee has recent and relevant financial experience.’
• It also prescribes that the function of nonexecutive directors is to ‘satisfy themselves on the integrity of financial information and [to ensure] that financial controls and systems of risk management are robust and defensible.
• lacks the force of legislation but usually the first port of call for judges

Question 32

Roberts v Frohlich [2011]

Answer 32

• Mr Frohlich and Mr Spanner, were both experienced property developers and directors of ODL, which went into liquidation
• sued by the adminstrators for wrongful trading and breach of duty
• Norris J held that they breached their duties through ‘wilful blindness’ - duty is subjective and objective - they were experienced property developers

Question 33

Dorchester Finance v Stebbing [1989]

Answer 33

• authority for the fact there is no distinction was to be drawn between executive and non- executive directors
• commentary: finch - non-attendance at meetings or failure to participate in the company’s activities would not absolve such directors from responsibility where, as in Dorchester Finance, such inactivity and failure to monitor the only full-time director allowed him to misappropriate corporate assets.

Question 34

Official Receiver v Watson [2008]

Answer 34

• financial director allowed an inner group of directors to take key decisions on dividends and financial matters without reference to the board as a whole.
• Held: where the executive directors have specific functions, the special skills expected of a person in that capacity are to be expected of him. Such conduct fell below the standard expected of a finance director.

Question 35

Re Kaytech International plc [1999]

Answer 35

duty to monitor the executive board

Question 36

SSTI v Swan [2005]

Answer 36

• non-executive director was approached by senior executives about possible serious financial wrongdoing within the company Yet he merely discussed the concerns with the chief executive and the finance directors, taking no further action.
• Held: decisive, courageous and independent action was required of the non-executive director. He failed to pursue the enquiry with sufficient vigour. Given that his conduct fell below that expected of someone in his position and experience, he was disqualified.

Question 37

Lexi Holdings -v- Luqman

Answer 37

• two sisters were the directors of the company, as well as their brother and others. The brother operated a fictitious directors’ loan account, but the sisters did not inform the other directors and auditors of the fraud of the brother. The sisters were put on notice that there were £60m missing/misappropriated from the company funds.
• CA Held: the sisters were in breach of their duties by not informing the others. They were liable for the full amount of the misappropriations caused by the breach.

Question 38

S.175: Duty to avoid conflicts of interest

Answer 38

• A director must not allow his interests to conflict, or potentially conflict, with that of the company.
• The rule is designed to: 1) prevent the directors from being swayed by self-interest and 2) to strip the disloyal directors from gains made in breach of duty.

Question 39

Sealy: the concept of directors as trustees

Answer 39

• Property (similarity): the most obvious point of resemblance between trustees anddirectors is that they each have control of a fund in which others are beneficially interested
• Extent of discretion (difference): The conduct of the directors’ enterprise is entirely a matter for their judgment as business men, and the courts are unwilling to intervene in this case unlike the thin discretion offered to trustees

Question 40

Aberdeen Railway v Blaikie Brothers

Answer 40

B (director of AR) was also the managing partner of a manufacters (BB). AR contracted to purchase from BB but AR then repudiated the contract. BB sued for damages, but AR argued that the contract was voidable because the contract was a self-dealing contract. HL Held: AR is correct! Lord Cranworth: it is a rule of universal application, that no one, having [fiduciary] duties to discharge shall be allowed to enter into engagements in which he has or can have a personal interest conflicting or which possibly may conflict with the interests of those whom he is bound to protect. So strictly is this principle adhered to that no question is allowed to be raised as to the fairness of the contract so entered into.

Ottley: this seems to be the old view insisting on ‘any possible conflict’ instead of the CA’s ‘real possibility of conflict’

Question 41

transvaal Lands v New Belgium Lands [1914]

Answer 41

(conflict of interests) director voted for a resolution when he held a very small % of the shares in the counterparty. Held: the director was in breach as he voted in favour of a resolution where he held, as trustee, a small percentage of shares in the counterparty.

Question 42

Regal Hastings v Gulliver [1942]

Answer 42

(conflict of interests; no-profit rule) D (company directors) owned a cinema and wished to create a subsidiary firm to acquire leases to 2 other local cinemas, and that Regal would sell its holding in all 3 cinemas as a going concern. The directors profited from thsi The purchasers brought an action against those former directors, calling them to account for their profits which were made in breach of their fiduciary duty to the company (as those directors had not gained fully informed consent from the shareholders). HL Held: applied Keech. The former directors MUST account for their profits to Regal!

Question 43

Bhullar v Bhullar [2003]

Answer 43

S and M incorporated Bhullar Bros Ltd and owned 50% of shares each. The two families fell out and M informed the S family they did not want to purchase any more properties but did not reach any formal agreements.S serendipitously noticed that a property was for sale, then incorporated Silvercast Ltd to acquire it without telling M, who then alleged breach of duty. CA Held: the directors’ personal interests in acquiring the land conflicted with their duty to promote the company’s interests. It is irrelevant whether a director discovers the opportunity in his spare time through happenstance that have no connection to his role as director!

Question 44

S.170(2) CA 2006

Answer 44

A person who ceases to be a director continues to be subject—

(c) to the duty in section 175 (duty to avoid conflicts of interest) as regards the exploitation of any property, information or opportunity of which he became aware at a time when he was a director…

Question 45

Shepherds Investment v Walters [2007]

Answer 45

director took active steps to promote a competing business (to be carried on by them in the future) secretly and then left office. Held: D is liable!

Question 46

Authorisation from board of directors

Answer 46

The board may authorise conflict of interests and profit therefrom! Director authorisation overrides any common law requirement for shareholder approval unless the company AOA/ enactment requires shareholder approval

Question 47

how is authorisation given?

Answer 47

enshrined in statue

(a) where the company is a private company and nothing in the company’s constitution invalidates such authorisation, by the matter being proposed to and authorised by the directors; or
(b) where the company is a public company and its constitution includes provision enabling the directors to authorise the matter, by the matter being proposed to and authorised by them in accordance with the constitution.

Question 48

The authorisation is effective only if—

Answer 48

a)any requirement as to the quorum at the meeting at which the matter is considered

is met without counting the director in question or any other interested director, and (b)the matter was agreed to without their voting or would have been agreed to if their

votes had not been counted.

Question 49

S.176: Duty not to accept benefits from third parties

Answer 49

This is a distinct aspect of the no-conflict rule. The law prohibits payment or benefit or bridge which puts the recipient in a position of conflict in breach of his duty of loyalty!

Question 50

S.177: Duty to declare interest in proposed transaction

Answer 50

S.177 deals with a transactional conflict, unlike a situational conflict in s.175

• s.177 imposes on directors a mandatory disclosure obligation in relation to any proposed transaction in which the director has a direct or indirect interest
• Ottley: note that CA 2006 does allow directors to retain benefits and profits in transactions which are approved, or duly declared