The 7 duties of a company director…. or the 7 deadly sins?

 

Many of the business managers and leadership I speak to see being a director of the business as “status”. Yes, it might be. It can also be a privilege, but most of all it is a significant responsibility that too many just don’t take the time to fully understand.

As a company director you have a number of significant legal duties, under The Companies Act 2006. These statutory duties under the law are “owed by each director to the company” and form the essence of what being a director is all about.

It is important to appreciate that under the law, the business is an actual entity in its own right…with rights, just as your employees and other stakeholders have. Just because you may own the company, does not give you carte blanche in how you use it or treat it.

I often see cases where the responsibilities of that of the director and that of the shareholder get confused, especially in an owner operated business.

Shareholders have rights, but in reality, little say in how the business is run and no real legal responsibilities.

 

The first director’s duty is that a director must act “within their powers” under the company’s constitution. The most important part of the company’s constitution is the articles of association. These are an important set of rules for your company and for your board.

When you first set your business up, you may have used what are referred to as model articles, sometimes called vanilla articles, as at the time the rules may not have been considered as important or you just bought a company name off the shelf with little, if any, professional advice.

Just as your business has changed over the years, then the articles should be reviewed to assess the appropriateness of them for the business, and directors, as they exist today.

As a director, it’s important to be familiar with your articles of association as they are likely to control, and maybe constrain, your decision-making powers in certain ways. If you exceed your powers, albeit unknowingly, then those decisions could be reversed and you might even have to personally compensate the company for any resulting financial losses.

The second major duty of a company director is to “promote the success of the company” This is probably the most known of the 7 duties and one that most directors believe they fulfil as a matter of everyday practice.

The duty states a director must act in a way that they consider “in good faith, would be most likely to promote the success of the company for the benefit of its members (shareholders) as a whole”.

Again, we often see the wearing of the director and shareholder hats at the same time, making this difficult.

When making decisions, as a director you must consider the likely consequences for various stakeholders, including employees, suppliers, customers and communities in which you operate. You should also consider the reputation of the company, company success in the longer term and the interests of all of the shareholders (including minority shareholders) and nowadays, you should also consider the impact on the environment.

A duty to promote the success of the company may seem like an obvious task for a director. However, it brings with it a number of implications and at this point, it is worth asking yourself the question …is knowing enough? How could / would I prove this to be the case, if tested?

In recent years larger companies, with more than 250 employees, must explain how directors have fulfilled this duty in their annual report.

Board decisions can only be justified by the best interests of the company, if they can be demonstrated to not be made on the basis of what works best for any particular executives, shareholders or other business entities, such as a group company or “sister” company.

 

The third major duty requires directors to exercise independent judgement. This can only be achieved if directors develop their own informed view on the company’s activities.

It matters that you know, and understand, what is happening in your business. I have experienced the situation where where one director believed the responsibility to be that of others to tell them what they needed to know, be that the owner, the MD, or the accountant. This is no longer acceptable and can lead you open to the risk of a shareholder claim against you.

No director can be a puppet who just implements the commands of other parties, such as the owner or majority shareholders / stakeholders. Nor should they avoid their responsibility to make independent decisions by relying on the knowledge or judgement of other directors or “experts”.

This includes the discipline that we serve. As your accountant MAP submit the statutory accounts of your business into the relevant authorities, only once they have been approved by the company to be a “true and fair reflection of the company’s activities”, which if you are a director, includes you.

Again, I have personally worked in a business where “the numbers were the responsibility of one of the other directors”.

A director needs to form their own view, and this will require effort, and maybe training, if they are not already familiar with key aspects of the company’s activities.

Ignorance is not a defence under the Companies Act.

The next duty is that the directors must “exercise reasonable care, skill and diligence”.

This means that the days of a director being appointed purely for their name, reputation, or status in the industry, with the understanding that they wouldn’t need to do any real work as a board member, are well and truly over.

The expectation today is that of a diligent individual with the general knowledge, skill and experience that could “reasonably be expected from a person carrying out the director’s functions”.

In a professional services business such as MAP, those directors with specific professional training or skills are held to a higher standard in related issues than less qualified colleagues.

 

The last 3 legal duties relate to the need for directors to avoid conflicts of interest which may affect their objectivity or ability to remain independent.

As I explained earlier, the Company is an entity in itself and what is referred to in law as “The duty of loyalty” requires a director to be completely loyal to the company at all times.

If therefore a situation arises which could create multiple claims on a director’s loyalty, or attention, it is essential that they disclose them to fellow board members. It will then be up to the other non-conflicted board members (or in some cases, the shareholders) to decide how to approve, or manage, the conflict so as to maintain the integrity of the board’s decision-making process.

Often seen examples of conflicts of interest are situations where one director has a relationship of a business, or personal, nature with another person or company that are affected, or influenced, by the company’s activities.

This is all too often the case in a family business.

In small businesses I also see this where, often unknowingly, the director takes advantage, on a personal basis, of property, information or opportunity which actually belongs to the company.

Gifts or “benefits” from third parties are also a potential minefield when it comes to director’s duties and objectivity, and I would always suggest that the company has a clear written policy on the definition and treatment of what is often masked as “Hospitality”.

So as maybe you asked yourself earlier…How can I as the director, prove that I have fulfilled these legal duties?

One of the important aspects of my role as a chair is to run the board, and one of the purposes of the minutes that I take is to provide a record of the board’s decision-making process.

Most directors do not know this, but by law these minutes must be kept for….wait for it, 10 years.

Years from now, and I see this time and time again in a due diligence and / or warranty situation, it may be difficult for you to even remember the decisions you made, let alone demonstrate if you fulfilled your directors’ duties at the time of making the decision.

The evidence that you did, may well be something that you have cause to be thankful for.

 

 

 

 

 

 

Stuart Brown

Non Executive Director