The board of directors and leadership

Question 1

In the UK, where do directors derive their powers from?

Answer 1

Mainly Articles of association. CA2006 does not confer any powers to them.

Question 2

How are general management powers are conferred?

Answer 2

Articles of association routinely make the directors collectively responsible for ‘managing the company’s business’ and confer upon them (acting as a board) all the powers of the company necessary to do so. For example, article 3 of the CA2006 model articles for public limited companies states: ‘subject to the articles, the directors are responsible for the management of the company’s business, for which purpose they may exercise all the powers of the company.’
The wording in article 3 does not mean that each individual director can exercise these powers. The directors must exercise their powers collectively by a majority decision of the board, unless they are allowed under the articles to delegate those powers to someone else.

Provisions such as article 3 above are known as the ‘general management clause’. They confer on the directors the powers necessary to manage the business and can only be used for those purposes.

Question 3

Where might you find limitations on the directors’ management
powers?

Answer 3

Limitations on the directors’ general management powers can be found in:
‹‹ an objects clause;
‹‹ other article provisions, which may impose a borrowing limit or a require shareholder approval;
‹‹ article provisions allowing the members to give directions to the directors;
‹‹ a shareholders’ agreement – which could require shareholder approval for certain types of decisions; and
‹‹ the Companies Act 2006 and the Listing Rules – which both impose requirements for shareholder approval.

Question 4

Identify at least two special powers that are usually conferred by
articles on the directors.

Answer 4

Examples of special powers given to directors include:
‹‹ the power to delegate;
‹‹ the power to reject transfers;
‹‹the power to pay and fix directors’ remuneration and fees;
‹‹ the power to forfeit shares;
‹‹ the chair’s right to a casting vote.

Question 5

Is setting the company’s strategy is a management decision?

Answer 5

Setting the company’s strategy is a management decision. It is one of several management decisions that, under the UK Code, must be performed by the board. Accordingly, it is wrong to suggest that the board delegates all management responsibility to the executive directors.

Question 6

Can shareholders interfere in the management of a company?

Answer 6

Most articles of association provide a method by which shareholders can give directions to the board (typically by passing a special resolution). Those directions could cover matters regarding the management of the company.
However, shareholders do not normally interfere in this way on management issues as it easier for them to secure their objectives by appointing and removing directors.

Question 7

Which of the general duties of directors arise from which of the
fiduciary duties of trustees?

Answer 7

Duty to act within powers in accordance with the company’s constitution (and to use those powers for proper purposes) - F. Duty to act in accordance with the trust deed.

Duty to promote the success of the company - F. Duty to act in good faith in the interests of the beneficiaries

Duty to exercise independent judgement - F. A combination of the duty to avoid conflicts of interest and the duty to act in good faith in the interests of the beneficiaries

Duty to exercise reasonable care, skill and diligence (s. 174) - F. N/A

Duty to avoid conflicts of interest (s. 175) - F. A combination of the duty not to place themselves in a position where their own interest conflicts with their fiduciary duties and the duty not to make a profit f om their position.

Duty not to accept benefits f om third parties. - F. A combination of the duty not to place themselves in a position where their own interest conflicts with their fiduciary duties and the duty not to make a profit from their position.

Duty to declare any interest in proposed transactions or arrangements. - F. A combination of the duty not to place themselves in a position where their own interest conflicts with their fiduciary duties and the duty not to make a profit f om their position.

Question 8

What is a fiduciary?

Answer 8

A ‘fiduciary’ is a person in a position of trust, like a trustee.

Question 9

3. What are the remedies for a breach of the general duties?

Answer 9

The remedies available for a breach of the general duties by directors vary depending on the nature of the breach. As a general rule, directors can be made to repay any illegal payments they have received or secret profits they have made.

Where there is a breach of the duty of skill and care or the directors have acted beyond their powers, the company can be awarded compensation for any losses that it has suffered.

Where the directors have acted OUSIDE their powers, the courts CANNOT normally declare the transaction void. However, where the directors have used their powers for IMPROPER purposes, the transaction can be declared void. Where a director has failed to disclose an interest in a transaction, the company can choose whether or not to treat that transaction as void.

Question 10

Why are directors rarely sued for exceeding their powers?

Answer 10

1.Why are directors rarely sued for exceeding their powers?
Directors are rarely sued for exceeding their powers because:
‹‹ recent practice has been to draft any objects clause very widely so as not to constrain what the directors can do;
‹‹ companies are no longer required to have an objects clause and if they do not have one, their objects are deemed to be unrestricted;
‹‹ even if a company has a restricted objects clause, the company must have suffered a loss for it to be worth suing the directors.

Question 11

Why do you think there are a lot more cases about directors using their powers for improper purposes?

Answer 11

There are probably more cases about directors using their powers for improper purposes:
‹‹ because this happens more often;
‹‹ directors are not aware of the underlying rule and believe, from a reading of the articles, that their powers are unrestricted in this regard;
‹‹ the remedies that the courts are

Question 12

What are the consequences of the directors exceeding their powers and how do these compare with cases where they have used their powers for improper purposes?

Answer 12

Where the directors exceed their powers, the transaction is still enforceable by third parties dealing with the company in good faith. However the directors can be sued for any losses that the company suffered as a result of the breach.

Where the directors have used their powers for improper purposes, the transaction can be declared void.

Question 13

According to the CA2006, what is the purpose of the strategic
report?

Answer 13

According to the Act, the purpose of the strategic report is to inform members of the company and help them assess how the directors have performed their duty under s. 172, to promote the success of the company.

Question 14

What does ‘promoting the success of the company’ mean?

Answer 14

The Act provides that directors have a duty to exercise their powers to promote the success of the company for the benefit of the members. In doing so, they must regard the likely consequences of any decision in the long term and various other matters. It would appear therefore that success can be equated
with what is in the best interests the company’s members/shareholders.
Directors are allowed to take other interests into account. However, the interests of shareholders are paramount. The benefit to shareholders does not need to be immediate. A company may, for example, sustain a period of losses before it
becomes profitable, as has been the case with most of today’s big technology companies. The directors may not even be in breach of this duty if the company fails as long as they believed at the time that their actions would promote the success of the company. Section 172 also recognises that a successful company needs a contented and committed workforce, good relationships with
its customers and suppliers, and a reputation for high standards of business conduct. It also recognises that a company’s reputation may suffer if it has an adverse effect on the environment.

Question 15

Do the directors need to consider stakeholder interests whenever
they make a decision?

Answer 15

Where a decision may impact on the interests of stakeholders, directors must take those interests into account. Not all decisions will have an impact on stakeholders. Some may only have a very minor (or theoretical) impact. There is no need to record the fact that the board has taken into account the interests of stakeholders in these circumstances. It is much more important to do so in
circumstances where the decision may have a major impact on stakeholders (e.g. shutting down a factory). The fact that such a decision might not be in the interests of factory workers does not prevent the company from making that decision.

Question 16

What tests should be applied in judging whether a director has
breached the duty of skill and care?

Answer 16

Under s. 174(2) the standard against which the duty of directors to exercise due diligence, skill and care is judged directors is that of:
‘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.’

Question 17

To what extent can directors rely on other company officials?

Question 18

What sort of conflicts does s. 175 of the CA2006 relate to?

Answer 18

The duty to avoid conflicts in s. 175 applies in particular to the exploitation of any property, information or opportunity. Section 175(3) clarifies that it does not apply to a conflict of interest arising in relation to a transaction or arrangement with the company in which a director has an interest. This type of conflict is
dealt with separately by ss. 177 and 182 of the Act.

Question 19

What are the consequences of a breach of this duty?

Answer 19

A director who wrongly makes a profit by exploiting a business opportunity that belongs to the company can be made to repay that profit. The courts may also rule that a third party acquiring company property through a breach of duty by directors holds that property on behalf of the company as a constructive trustee and, as a result, can be forced to return it.

Question 20

Who can authorise conflicts of interest and what is the effect of
authorisation?

Answer 20

Under s. 175 of the 2006 Act, the non-conflicted directors may now authorise conflicts such as the exploitation of business opportunities. This is the case for a private company unless the articles provide otherwise. In the case of a public company, the articles must specifically allow the board to authorise such
conflicts. If a conflict has been properly authorised, the duty is not infringed,which means that the director cannot be sued on these grounds.

Question 21

Do directors’ interest in transactions and arrangement need to be
authorised?

Answer 21

A conflict of interest that arises out of a director’s interest in a transaction or arrangement with the company does not need to be authorised. The transaction itself may need to be authorised by the board if it is one of the matters reserved for its decision. However, the fact that the director has an interest in the transaction does not need to be authorised either by the board or the shareholders.

Question 22

Why are directors required to disclose their interests in proposed
transactions?

Answer 22

Directors are required to disclose any interest they may have in a proposed transaction or arrangement with the company to:
‹‹ensure that the other directors are aware of that interest before entering into that transaction or arrangement; and
‹‹ensure that the chair is able to rule on whether the director can participate in the decision on that matter.

Question 23

Why are they required to disclose their interests in existing
transactions?

Answer 23

Directors are required to disclose their interests in existing transactions because:
‹‹they might otherwise be able to exert covert influence on the continuation or management of that contract or arrangement; and
‹‹a failure to disclose an interest in a proposed transaction becomes a criminal offence under s. 182 as soon as it becomes an existing transaction, i.e. when the company enters into that transaction and the director’s interest has still not been disclosed.

Question 24

List the general duties of directors under Part 10, Chapter 2 of
CA2006.

Answer 24

The general duties of directors under Part 10, Chapter 2 of Companies Act 2006
are:
‹‹to act within their powers in accordance with the company’s constitution
(and to use those powers for proper purposes) (s. 171);
‹‹to promote the success of the company (s. 172);
‹‹to exercise independent judgement (s. 173);
‹‹to exercise reasonable care, skill and diligence (s. 174);
‹‹to avoid conflicts of interest (s. 175);
‹‹not to accept benefits from third parties (s. 176); and
‹‹to declare any interest in proposed transactions or arrangements (s. 177).

Question 25

What is a derivative action?

Answer 25

A derivative action is a special court procedure which enables shareholders to bring a legal action in the name of the company against a director(s) for breach of duty. If the action succeeds, any compensation is awarded to the company rather than to the shareholders who initiated it.

Question 26

According to the CA2006, what is the purpose of the strategic
report?

Answer 26

According to the Act, the purpose of the strategic report is to inform members
of the company and help them assess how the directors have performed their
duty under s. 172, to promote the success of the company.

Question 27

What does promoting company success mean?