The BoD and leadership

Question 1

1. List the general duties of directors under Part 10, Chapter 2 of Companies Act 2006.

Answer 1

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 2

2. What is a derivative action?

Answer 2

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 3

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

Answer 3

impact-record-major impact - doesnt prevent

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 4

3. 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 4

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 5

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

Answer 5

likely consequences-immediate-belived
Directors 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 6

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

Answer 6

aware-chair

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 7

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

Answer 7

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 8

1. What sort of conflicts does s. 175 relate to?

Answer 8

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 9

2. What is a fiduciary?

Answer 9

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

Question 10

2. What are the consequences of a breach of this duty? (s.175)

Answer 10

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 11

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

Answer 11

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 12

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

Answer 12

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 13

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

Answer 13

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 outside 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 14

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

Answer 14

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

• the power to reject transfers;
• the power to forfeit shares;

Question 15

1. Why are directors rarely sued for exceeding their powers?

Answer 15

Directors are rarely sued for exceeding their powers because:
* wide objects clause - recent practice has been to draft any objects clause very widely so as not to constrain what the directors can do;
* no objects clause - companies are no longer required to have an objects clause and if they do not have one, their objects are deemed to be unrestricted;
* there must be a loss - 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 16

3. Why directors required to disclose their interests in existing transactions?

Answer 16

influence - criminal offence

Directors are required to disclose their interests in existing transactions because:
* they might otherwise be able to 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 17

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

Answer 17

for a private company - unless the articles provide otherwise, the non-conflicted directors may now authorise conflicts such as the exploitation of business opportunities.
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 18

4. Can shareholders interfere in the management of a company?

Answer 18

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 19

1. What tests should be applied in judging whether a director has breached the duty of skill and care? (2)

Answer 19

A director of a company must exercise reasonable care, skill and diligence. This mean 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 (objective test), and
(b) the general knowledge, skill and experience that the director has.
Under objective test, it is expected from finance director that he knows about finance more than other directors.
Under subjective test, NED with financial background would be expected to bring that experience (higher standard)

Question 20

Where might you find limitations on the directors’ management powers? (5)

Answer 20

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 21

2. Why do you think there are a lot more cases about directors using their powers for improper purposes? (3)

Answer 21

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 willing to apply include declaring the improper transaction void.

Question 22

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

Answer 22

1. within powers - duty to act in accordance with the trust deed
2. to promote - duty to act in good faith in the interest of beneficiaries
3. independent - a combination of the duty to avoid conflicts of interest and duty to act in good faith
4. skill - n/a
5. avoid - a combination of the duty not to place themselves in a position where their own interest conflicts with their fudiciary duties and the duty not to make a profit from their position
6. benefit - the same as above
7. interest - the same as above

Question 23

2. To what extent can directors rely on other company officials?

Answer 23

until distrust - adequate supervision

Directors are entitled to trust people in positions of responsibility until there is reason to distrust them (Norman v Theodore Goddard [1991]). However, delegation by the directors does not absolve (relieve) them completely from the duty to exercise due skill and care. They can be found to be in breach of that duty if they fail to exercise adequate supervision over those performing those delegated functions.

Question 24

What is overarching role of the board according to UK Corporate Governance Code?

Answer 24

Principle A - to promote the long-term success of the company, generating value for shareholders and contributing to a wider society

Question 25

Cite three examples of things that Code expects boards to do in performing this role

Answer 25

Principles B to E

Question 26

List three functions that the board performs through its board committees on which it sill has final say

Answer 26

The board retains ultimate control over various matters withtin the remit of its CG committees, including
- making new appointment to the board (nomination C. makes recommendations);
- approving accounts and other financial statements (audit.C. reviews prior to the approval by BoD);
- establishing a framework of prudent and effective controls, which enable risk to be assessed and managed (audit C. reviews and makes recommendations);
- proposing the appointment of auditors.

Question 27

to what extent does the board manage the company’s business

Answer 27

day-to-day - executive team
supervisory - board
however, BoD retain control over key management functions (setting strategy, culture, objectives0

Question 28

What is the role of company’s chair?

Answer 28

Principle F
leads the BoD
responsible for overall effectiveness

Question 29

What is requirement of the UK Code of Corporate Governance with regards to to the independence of the company chair?

Answer 29

Provision 9

Question 30

Why should the role of chair and CEO be separate?

Answer 30

Principle G

Question 31

How does the FRC Guidance on Board Effe4ctiveness expect CEO to contrivute o the board effectiveness?

Answer 31

para 70-73

Question 32

How does the FRC Guidance on Board Effe4ctiveness expect executive directors to contrivute o the board effectiveness?

Answer 32

para 69-74

Question 33

What is function of executive committee?

Answer 33

to act as a soundig board for the CEO and as forum to receive and discuss operational updates and progress reports. established by the CEO to assist the management of the business

Question 33

How NEDs expected to contribute towards the deliberation of the board

Answer 33

Principle H

Question 34

What particular functions are independent NEDs expected to fulfill under the Code?

Answer 34

through participation
in nomination C - lead the process for board appoitment, succession planning and ensuring the development of divers pipeline (J-17)
M,N
Q-13

Question 35

List six circumstances in which NED would not normalyy be considered independent

Answer 35

Provision 10

Question 36

What should board do if any of its NEDs do not meet these independence criteria?

Answer 36

The board should identify, in the annual report and accounts, the non-executive directors it considers to be independent for the purposes of the Code. If a NED is not identified as being independent, the assumption must be that the board does not consider them to be independent. Boards can decide that a NED is independent even though that individual does not comply fully with the independence criteria. However, where this is the case, they must provide a clear explanation in the report and accounts.

Question 37

List the main criticism regarding NED effectiveness (4)

Answer 37

The main criticisms of NEDs include:
* a lack of knowledge about the company’s business;
* insufficient time spent with the company;
* defects in the decision-making process; and
* ineffective challenge.

FRC 75-78

Question 38

What is governance role of the secretary?

Answer 38

FRC - 79, 81-85
According to the UK Corporate Governance Code, the company secretary is ‘responsible for advising the board on all governance matters’.
It recommends that ‘all directors should have access to advice of the company secretary’ in this regard.

The Code also envisages that the secretary will have a supporting role in ensuring that the board has the
policies, processes, information, time and resources it needs in order to function effectively and efficiently.

The Guidance on Board Effectiveness states that the company secretary is responsible for ensuring that board procedures are complied with, advising the board on all governance matters, supporting the chair and helping the board and its committees to function efficiently

Question 39

Who should secretary report to?

Answer 39

FRC-80
The FRC’s Guidance on Board Effectiveness recommends that the company secretary should report to the chair on all governance matters, but points out that this does not preclude the company secretary from also reporting to the CEO or some other executive director in relation to any other executive management responsibilities.

Question 40

1. If a board is comprised of a chair, three executive directors, one of whom is the CEO, and a non-executive director representing the major shareholder, how many independent directors will be required to comply with the UK Corporate Governance Code?

Answer 40

Under the Code, at least half the board (excluding the chair) must be independent NEDs. Accordingly, the minimum number of independent NEDs required must balance out the three executive directors and the NED who is not independent. This means that there must be at least four independent NEDs.

Question 41

2. List the factors that will typically influence the size of the board.

Answer 41

The main factors that will typically influence the size of the board are:
* the requirements for a balanced board;
* the requirements of the UK Code on the composition of the board;
* the need to service board committees; and
* the ability of the board to hold productive, constructive discussions and make prompt rational decisions.

Question 42

1. What is a skills matrix?

Answer 42

A skills matrix is a table that displays people’s proficiency in specified skills, knowledge, competencies and aptitudes.

Question 43

2. What purpose would such a matrix serve in the process of appointing a new director?

Answer 43

A skills matrix can be used:
* to assess whether there are any areas in which the skills and aptitudes of the board as a whole may be lacking, or may become lacking as a result of the departure of one or more directors;
* to assess whether the board is over-reliant on the skills or aptitudes of certain individuals in any particular area;
* to map the existing skillset against that required to execute strategy and meet future challenges; and
* to draw up a profile of the ideal candidate for any board vacancies.

Question 44

1. How does the 2018 UK Corporate Governance Code seek to promote diversity?

Answer 44

Code Principle J provides that both appointments and succession plans should be based on merit and objective criteria and, within this context, should promote diversity of gender, social and ethnic backgrounds, cognitive and personal strengths. In addition, Code Principle L states that the annual board evaluation should consider diversity.
However, the main tool used to promote diversity is to require disclosure in the report of the nomination committee on diversity issues.
These disclosure requirements effectively mean that the board must adopt a diversity and inclusion policy for board and senior executive appointments, which could include diversity targets, and succession policies that promote diversity.
These policies could be part of an overall diversity and inclusion policy that covers the workforce as a whole or in addition to it.

Question 45

2. List the types of disclosures listed companies are required to make on diversity.

Answer 45

Listed companies are required under the Code to make the following disclosures in the report of the nomination committee:
* the process used in relation to appointments, its approach to succession planning and how both support developing a diverse pipeline;
* how the board evaluation has or will influence board composition;
* the policy on diversity and inclusion, its objectives and linkage to company strategy, how it has been implemented and progress on achieving the objectives (this requirement is also mirrored by DTR 7.2.8A); and
* the gender balance of those in the senior management and their direct reports.
CA2006, s. 414C also requires quoted companies to include in their strategic report a breakdown showing at the end of
the financial year the number of persons of each sex who were:
* directors;
* senior managers; and
* employees of the company.

Question 46

1. What are the three main roles of the nomination committee? (3)

Answer 46

The three main roles of the nomination committee are to:
- lead the process for appointments;
- ensure plans are in place for orderly succession to both the board and senior management positions; and
- oversee the development of a diverse pipeline for succession.

Question 47

2. What are the membership requirements for the committee?

Answer 47

The Code provides that a majority of members of the nomination committee should be independent non-executive directors. This provision is effectively designed to enable the company chair to serve on the committee, even if not considered independent.

Question 48

1. Outline the process for appointing a new NED.

Answer 48

1) Evaluation of skills
The nomination committee should evaluate the skills, experience and knowledge on the board, the future challenges affecting the business, and, in the light of this evaluation, prepare a description of the role and capabilities required for a particular appointment.

2) Interview
It should then agree the process to be undertaken to identify, sift and interview suitable candidates, ensuring that a proper assessment of values and expected behaviours is built into the recruitment process. This will typically involve engaging recruitment consultants.

The nomination committee will interview a selection of candidates put forward by the recruitment consultants and use these interviews to narrow down the list of candidates or ask for further candidates to be proposed.

In the final stages of the process, the nomination committee may invite the final candidate(s) to meet other members of
the board.

3) Recommendations
After taking soundings from other board members, the committee will make its final recommendation to the board, which will then make the final decision.

4) Appointment
As the Code requires all directors to be re-elected annually, the shareholders will have the opportunity to confirm or reject the appointment at the next AGM.

Question 49

2. How might that process differ when seeking to appoint a new chair or chief executive?

Answer 49

The appointment of a new chair or CEO may involve the consideration of internal candidates. An existing independent NED could be elected as the chair and an existing senior executive could be promoted to become CEO. In contrast, the appointment of a NED will always involve recruiting external candidates if they are to be considered independent.

Question 50

1. Briefly outline the three time horizons that a succession plan should cover.

Answer 50

Succession plans should consider the following different time horizons:
* contingency planning – for sudden and unforeseen departures;
* medium-term planning – the orderly replacement of current board members and senior executives (e.g. retirement); and
* long-term planning – the relationship between the delivery of the company strategy and objectives to the skills needed on the board now and in the future.

Question 51

2. Why is it more difficult to prepare a succession plan for executive directors?

Answer 51

There is no minimum term of office for executive directors. If the company is successful, the CEO may seek to avoid any discussion surrounding their eventual departure. If the company is not successful there may be sudden, forced departures. Senior executives may also be poached by other companies, leaving a sudden vacancy.

Question 52

1. Give three legitimate reasons why the nomination committee might propose a refreshment of the board.

Answer 52

Refreshment could be used:
* to replace a non-executive who is not making an effective contribution;
* to meet diversity targets; or
* to bring in a new director who has certain critical skills.

Question 53

2. Why does the Code require all directors to offer themselves for re-election on an annual basis?

Answer 53

According to the FRC, the annual re-election requirement was introduced to give shareholders an annual opportunity to express their views on the performance of the directors and to give boards an incentive to listen and respond to their concerns. The FRC hoped that this would in turn lead to ongoing engagement. Legally, annual re-elections mean that shareholders seeking the removal of a director do not need to propose their own resolution, which would involve giving special notice.

Question 54

1. Cite five factors that can limit effective decision making (excluding those relating to the supply of information).

Answer 54

Any five from:
* A dominant personality or group of directors on the board, inhibiting contribution from others.
* Insufficient diversity of perspective on the board, which can contribute to ‘group think’.
* Excessive focus on risk mitigation or insufficient attention to risk.
* A compliance mindset and failure to treat risk as part of the decision-making process.
* Insufficient knowledge and ability to test underlying assumptions.
* Failure to listen to and act upon concerns that are raised.
* Failure to recognise the consequences of running the business on the basis of self-interest and other poor ethical standards.
* A lack of openness by management, a reluctance to involve non-executive directors, or a tendency to bring matters to the board for sign-off rather than debate.
* Complacent or intransigent attitudes.
* Inability to challenge effectively.
* Lack of time for debate and truncated debate.
* Undue focus on short-term time horizons.

Question 55

2. What sort of significant decisions might the Guidance on Board Effectiveness have in mind when it suggests that boards may wish to consider extra steps?

Answer 55

Extra steps might be considered appropriate where the board is setting the company’s strategy, purpose, culture and objectives and in situations where there appear to be strongly divergent views.

Question 56

1. What are the four main stages in the development of a board pack?

Answer 56

• identifying the information the board needs;
• commissioning board papers;
• writing board papers; and
• collating and distributing the board pack.

Question 57

2. What are the typical features of board portal software?The typical features of board portal software are:

Answer 57

• secure tools to facilitate the distribution and use of electronic agenda papers and board packs;
• archiving facilities that enable directors to refer back to the papers and minutes prepared for previous meetings;
• secure tools which enable directors to annotate and make notes on the agenda papers;
• voting tools;
• tools to facilitate the circulation and approval of minutes, and
• secure messaging features.

Question 58

3. What are the advantages of board portal software over traditional hard copy agenda papers? (8)

Answer 58

The advantages of board portal software over traditional hard copy agenda papers are:
* reduced time spent producing, collating and circulating board papers;
* secure storage of those documents;
* easier access to and portability of those documents;
* easier navigation of papers during meetings;
* quicker distribution;
* ability to centrally store annotations and notes made by participants;
* ability to refer back to papers and minutes for previous meetings;
* secure messaging facilities.

Question 59

1. How is corporate culture related to a company’s strategy, values and purpose?

Answer 59

According to the Guidance on Board Effectiveness: ‘An effective board defines the company’s purpose and then sets a strategy to deliver it, underpinned by the values and behaviours that shape its culture and the way it conducts its business.’

A company’s values and behaviours (its culture) should therefore be aligned with its purpose.

Question 60

2. Why, in particular, might pay and performance structures lead to a bad corporate culture?

Answer 60

Pay incentives may reward employees for behaviour that is not in the best interests of the company’s clients and customers leading to a breakdown of trust, e.g. the payment protection insurance mis-selling scandal in the UK.

Question 61

How might the company secretary be involved in the procedures to enable the directors to obtain independent professional advice?

Answer 61

The secretary should propose that the board adopts a procedure to be followed by directors seeking to take independent professional advice.
This could be done by way of a board resolution or as part of a board procedures manual. If that procedure sets certain conditions or imposes any financial limits, some sort of pre-approval mechanism will be required.
The secretary could be the person whose approval is required. However, this could compromise the secretary’s impartiality, particularly if the conditions require difficult judgement calls to be made. In these circumstances, it makes more sense for the chair or the senior independent director to be the person who makes the decision.
Even if the secretary is not personally involved in the approval process, it may be sensible for the initial application by a director to be made through the secretary, who then forwards it on to the appropriate person for approval.
Someone will need to record the fact that an application has been made and whether the necessary approval has been given (or refused).
This information will also need to be reported to the board, particularly where approval has been given and advice has been obtained. Somebody also needs to authorise the payment of any invoices to the independent advisers. These task will typically fall to the secretary.

Question 62

1. Under the Code what should the annual performance evaluation cover?

Answer 62

According to Principle L of the UK Code, the annual performance evaluation should cover:
* board evaluation: the composition of the board, its diversity and how effectively members work together to achieve objectives; and
* individual evaluation: should demonstrate whether each individual director continues to contribute effectively.
Code Provision 21 clarifies that the annual evaluation should extend not only to the performance of the board and
individual directors, but also to board committees and the chair.

Question 63

2. What information should be disclosed in the annual report and accounts on the annual performance evaluation?

Answer 63

Code Provision 23 requires the nomination committee report to state:
* how the board evaluation has been conducted;
* the nature and extent of an external evaluator’s contact with the board and individual directors;
* the outcomes and actions taken; and
* how the evaluation has or will influence board composition.
A company that does not comply with Code Provision 21 on annual performance evaluation will also need to include an explanation in its corporate governance report

Question 64

3. Under the Code, how often should a company have an externally facilitated evaluation?

Answer 64

Code Provision 21 requires FTSE 350 companies to have an externally-facilitated board evaluation at least every three years. It requires chairs of other companies to consider having a regular externally facilitated board evaluation.

Question 65

1. What should the aims of an induction process be?

Answer 65

Induction programmes should ultimately seek to enhance the effectiveness of new directors. According to the ICSA Guidance on Induction of Directors, they should aim to:
* build an understanding of the nature of the company, its business and the markets in which it operates;
* build a link with the company’s people;
* build an understanding of the company’s main relationships; and
* ensure an understanding of the role of a director and the framework within which the board operates.

Question 66

2. How might a company benefit from having its executive directors serve as NEDs on other boards? (3)

Answer 66

Executive directors serving as NEDs on other company boards will:
* gain experience of how other boards operate;
* be able to compare different practices and recommend the adoption of those that appear to be better; and
* experience first-hand what it is like to be a NED and what NEDs expect and require in order to perform effectively.