Company Directors - Your duties under the Companies Act 2006


The Companies Act 2006, relying to a large extent on existing case law, codifies company directors' duties to their company for the first time.  The rationale for this codification was to make directors' duties clearer and to make the law more accessible. Instead of looking at a large body of case law, directors now find their duties set out in seven sections 171-177 of the Companies Act, but existing case law still plays an important part in the interpretation of the statutory duties.


The Duties


Every director must:


1. Act within his powers


A director must act in accordance with the company's constitution and only exercise his powers for the purpose for which they are conferred.


It is therefore crucial that directors are aware of, and understand, the constitution. A company's constitution will consist of what, traditionally, has been called its memorandum and articles of association, but under the 2006 Act a company's memorandum will be reduced to a mere statement of the initial subscribers to the company. The articles will be the all important document.


2. Promote the success of the Company


This is not a collective duty of the board; it is a personal duty of each director. Directors 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 as a whole.

No one is sure what "success" means in this context. Lord Goldsmith stated that success means "what the members collectively want the company to achieve.  For a commercial company, success will usually mean long-term increase in the value. For certain companies such as charities and community interest companies, it will mean the attainment of the objectives for which the company has been established."


Directors should consider what is meant by the success of the company in the particular context of each company. Directors are to have regard to (or think about or give proper consideration to), amongst other things:

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


The above list is not exhaustive and the weight to be given to each consideration will be a matter for each director's good faith judgement. 


Taking all of the above factors into account may involve trying to reconcile conflicting interests.  In that case directors should decide what will promote the success of the company for the benefit of its members as a whole, and that may involve taking into account things that are not mentioned above, such as profitability.


Some commentators have suggested that all of the above points should be explicitly referred to in the minutes of all board meetings.  Others think that impractical and suggest referring to section 172 of the Act in a foot note to the minutes. The middle way, and the practice recommended by the Institute of Chartered Secretaries and Administrators, is that the papers prepared for each board meeting should draw the directors' attention to the above considerations where they are relevant.


3. Exercise independent judgement


A director must think independently; he may rely on advice from others, but at the end of the day, the decision and responsibility for it lies with him and he should not be influenced by his personal interests.  A Director should not look to promote the collective line, but should give the board his own views.


This duty is not breached if a director acts in accordance with an agreement entered into by the company that restricts the exercise of the directors' discretion, or if a director acts in accordance with the company's constitution.  It is therefore important that, where shareholders enter into an agreement that fetters the board's discretion, the company is a party to that agreement and that, where a director sits on the board as the representative of another organisation, the constitution allows him to act in the interests of that other organisation. (Also see item 5 below on conflicts of interest.)


4. Exercise reasonable care, skill and diligence


This is the care, skill and diligence that a reasonably diligent person would exercise if:
He had the general knowledge, skill and experience that may reasonably be expected of a person carrying out the functions carried out by that director (the objective test); and
 "He had the general knowledge, skill and experience that the director has"(the subjective test).

The subjective test was introduced by the Companies Act 2006; until October 2007 only the objective test applied.


5. Avoid conflicts of interest


A director must avoid a situation in which he has, or can have, a direct or indirect interest that conflicts, or may possibly conflict with the interest of the company.


In practice conflicts frequently arise; a director may on the board as a representative of another company, such as an investor or joint venturer.   In that case, he may think that his loyalties lie with the company he is representing, but his loyalties should be to the company on whose board he sits.  Where he sits on more than one board, his position is an unenviable one.


In practice the answer for anyone in this sort of situation is to make use of section 180(4) of the Companies Act which allows the members of the company or, in the case of private companies, the board, to authorise conflicts of interest. Bear in mind, however, that you will not be able to use this section unless: in the case of a private company, its constitution does not invalidate that sort of authorisation; or, in the case of a public company, its constitution allows the board to authorise conflicts of interest. So the first thing to do is to check the company's constitution and, where necessary and desirable, amend it to allow for the authorisation of conflicts of interest.


That authorisation will not be effective if the director with the conflict votes on the issue of his conflict or is counted in the quorum. It is good practice for the director with the conflict to leave the room when it is being discussed.

This duty is not about transactions between the director and the company. On that subject see item 7 below.


6. Not accept benefits in kind from third parties


The duty applies only where the acceptance of the benefit is likely to give rise to a conflict of interest. The purpose of the duty is to stop directors exploiting their position for their personal benefit (financial or otherwise). Some people argue that this duty, once it comes into force, will be the end of corporate hospitality, but that will depend on whether the benefit gives rise to a conflict of interest.


For these purposes, a third party is anyone except the company or an associated body corporate or anyone acting on behalf of the company or associated body corporate.


A director may, however, accept a benefit from anyone by whom his services (as a director or otherwise) are provided to the company.


7. Declare any interest in a proposed transaction or arrangement


If a director is directly or indirectly interested in a proposed transaction or arrangement with the company which is likely to give rise to a conflict of interest, he must declare the nature and extent of that interest to his fellow directors before the company enters into that transaction. This gives them an opportunity to decide whether or not to enter into the transaction, and whether or not they need to impose any terms safeguarding the interests of the company. 

The declaration may be made at a meeting or by notice.


This duty to declare the interest does not apply if:

  • the transaction cannot reasonably be regarded as likely to give rise to a conflict of interest;
  • the other directors are already aware of it (or ought reasonably to have been aware of it);
  • the interest relates to the director's service contract which has been or is to be considered by a meeting of the board or by a committee of the board.


A director must disclose transactions and arrangements with the company in which a member of his family, or a body corporate with which he is connected, or firm in which he is a partner is involved.


Section 182 of the Act obliges directors to disclose existing transactions or arrangements. Failure to do so will, from 1 October 2008, be a criminal offence.


Who is affected?


The duties are owed by both executive and non-executive directors and not only by people who are registered as directors of the company at Companies House; they apply to people who are directors in all but name, e.g. shadow or de facto directors. A shadow director is someone "on whose directions or instruction the directors of the company are accustomed to act" and a de facto director is someone who has assumed the status and functions of a director even though he has not been properly appointed.


What should you do?


a) Make sure that all directors know and understand the company's constitution;


b) Review the company's articles, and decide whether, for instance, they should be amended to:

  • Remove any restriction on the board authorising conflicts of interest;
  • Allow representative directors to act in the interests of their organisation;
  • Remove any irrelevant provisions; and
  • Put the constitution into plain English that the board can understand.


c) Make sure that you know what success means for your company, produce a written statement encapsulating that, and make sure that the agenda for a board meeting contains an item about how the decisions of the board will contribute to the success of the company;


d) Make sure that proper minutes of board meetings are kept, containing objections, declarations of interest and authorisations of directors' conflicts of interest;


e) Make sure that the papers for board meetings draw the directors' attention to the considerations to be taken into account under section 172 of the 2006 Act (item 2 above) where they are relevant;


f) Draw board members' attention to their duties as directors and make that part of an induction pack for new directors;


g) Avoid directors accepting hospitality from anyone with whom the company is negotiating a contract and keep a record of all benefits accepted by directors; and


h) Review the company's directors and officers insurance. Does it cover shadow and de facto directors?


And if it all goes wrong?


Under section 239 the members of the company may retrospectively ratify any conduct that amounts to negligence, default, breach of duty or breach of trust.


Contact Details


If you would like further advice about any of the issues considered above please contact Christine Reid on 01865 864195 or email her at christine.reid@northwoodreid.com 


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This article is not intended to be, and should not be taken as being, legal advice. The law often changes and it varies from jurisdiction to jurisdiction; the information in this article is generic in nature and specific legal advice should be taken before acting on any of it.


© Northwood Reid 2008.


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