One Step Forwards, Two Steps Back: The Unfinished Business Concerning Directors

By Fatima Mumtaz


BACKGROUND

Artificial legal entities can only function through the medium of humans. Directors ranging from supervisors to powerful top-executives, are the beating organ of the company: they form management, run day-to-day activities, and control the direction of the company. Although the Companies Act 2006 does not define directors beyond section 250 per se, (“director” includes any person occupying the position of director, by whatever name called) they are invariably the corporate decision-makers of the company and stand at the company’s helm. Automatic Self-Cleansing Filter Syndicate Co v Cunningham 1906 recognised the notion of directorial autonomy, equating ‘the company’ with its shareholders.


Sometimes directors of companies have been in the news as they have misused their privileged status to benefit themselves. Gluckstein v Barnes 1900 is an early caselaw example where the House of Lords (as it were then) held that the syndicate had breached their fiduciary duties by failing to disclose their secret £20,000 profit. A promoter stands in a fiduciary relation to the company it promotes and to those persons whom he induces to become shareholders within the company. The primary remedy for breaching a fiduciary duty is an account of profit to the company.


LEGAL SIGNIFICANCE

A company has a tangible existence within the English legal system with its own obligations and conferred rights. Established precedent dictates that a company is a legal entity with separate independent personality Salomon v Salomon 1896, it can nonetheless be liable through acts of officers or employees pursuant to the identification doctrine e.g. the court can pierce the corporate veil of incorporation in certain instances (beyond the scope of this article).


Directors constitute the “mind and will” of the company. The route to criminal culpability is for a prosecuting body to identify individual persons, whose conduct and state of mind can be attributed to the company itself i.e. representing the “directing mind and will”. See the leading case of Tesco Supermarkets Ltd v Nattrass 1972.


This elusive concept has been the subject of much controversy and debate in recent years e.g. the courts dismissed the SFO’s charges against Barclays relating to events flowing from the 2008 financial crises, due to a lack of evidence showing the senior executives represented the directing mind of Barclays in the circumstances. Alleged dishonesty could not be attributed to Barclays. It is argued that their good corporate practice availed Barclays’s case.


GENERAL DUTIES

Therefore, directors’ duties form an essential part of corporate governance. The earliest days of company law introduced directors’ duties as a vehicle to prevent misbehaviour, requiring directors to return any company property taken in breach of their duty. The Companies Act 2006 then transformed this by codifying existing common law rules relating to negligence and equitable principles regarding fiduciary duties.


A fiduciary is someone in a relationship of trust and confidence which equity protects by imposing a duty of loyalty (Bristoland West Building Society v Mothew 1998 (Per Millett LJ)). One must note that the duties also apply to shadow directors (Section 170(5) Companies Act 2006). Also, more than one duty may apply in any given case (S179) and Hunt (as Liquidator of System Building Services Group Ltd) v Michie & Ors 2020 recently confirmed that directors’ duties continue after the company has become insolvent.

Although this is a lengthy discussion, this article seeks to provide an overview of such an area.


The seven general duties are:

  1. Act within powers;

  2. Promote the success of the company;

  3. Exercise independent judgment;

  4. Exercise reasonable care, skill and diligence;

  5. Avoid conflicts of interest;

  6. Not accept benefits from third parties;

  7. To declare interest in a proposed transaction or arrangement.

REMEDIES AND RELIEFS:

The remedies for a breach of these above duties in ss171 to 177 Companies Act 2006 are the same as their corresponding equitable principle or common law rule (S178(1)). This includes restitution of profits, property restoration, injunctive relief, rescission of a contract and / or damages.


However, there can be certain exemptions, for instance shareholder ratification under s239(1), relief granted for an honest and reasonable director under s1157(1), e.g. Coleman Taymar Ltd v Oakes 2001.


ARISING ISSUES:

One key question asked to this day is: to what extent has the Companies Act 2006 revolutionised directors’ duties within sections 170 to 181? It seems that the general duties are in fact a reinstatement of the previous law with no new addition or improvement, albeit in one unified location. Directors duties have continued to come under fire due to outright abuses and escaping directors e.g. Barclay’s case. The Act has made little difference and legislation fails to prescribe a suitable structure or defined functions of the board like the regimes found in other member states e.g. Germany (internal monitoring of a two-tier level i.e. supervisory and management board) or the Netherlands. It is clear that the Companies Act has not added any new provision, (see Lord Hodge’s opinion in Eastford v Gillespie 2009): an ‘old wine in a new bottle’.


Therefore, their existence cannot be denied, but rather problems entrenched stronger.

Another criticism is that s170(4) states that ‘the general duties shall be interpreted and applied in the same way as common law rules or equitable principles’ and thus should be regarded in interpretation exercises. This diminishes the value of codification as courts nonetheless resort to ‘archaic law’.


On the contrary, codification of existing duties has allowed for a uniform and structured approach for practitioners and directors themselves to resort to, thereby allowing easier access. It has promoted awareness of the fixed statutory wording and increased certainty. This helps enforcement.


Unfortunately, codification risks the judiciary’s flexibility in terms of developing and adjusting equitable principles and common law rules to suit a particular case (within their precedent limits).


The Law Commission and the Scottish Law Commission both recommended codification and that every new director should sign the code (Law Comm No. 261, paras 4.52 to 4.61). However, the government decided otherwise; citing signature would not make them anymore binding than they already are and directors might assume the code as an exhaustive statement, ignoring other legal responsibilities. ‘These duties are designed to rein in directors and act as counter–balance to the liberty they are given to engage in risk-taking with a view to generating corporate wealth’.


UNDERSTANDING DUTIES

They also abandoned publishing guidance explaining statutory duties which would have proved useful (as it has been ascertained that many directors do not fully understand their duties upon office). The law is complex to understand and directors’ duties remains plagued with ambiguity.


There is no requirement to have any formal qualifications upon appointment. Research suggests that an average person would not be able to comprehend the statutory duties and an intrinsic knowledge of the law is required, such as defining key legal terms (e.g. fiduciary duties) and how the law of trusts pre-historically applied to understand today’s statutory footing. Obligations may be misunderstood or directors not completely appreciating their duties. This strongly opposes the Act’s aims of coherence and comprehensibility to company directors.


Michelle M Harmer advocated for simplified language use to avoid so-called lawyer-speak: ‘I believe that we can help directors better serve their companies if we clarify and codify expectations for director behaviour. Nobody benefits from uncertainty, particularly in times of crises when directors typically face intense pressure from competing interests, and the law provides insufficient and sometimes conflicting direction.’


COMPETING INTERESTS

Furthermore, scholarly ink has been expended on the content of these duties, such as whether an objective or subjective test applies to the s172 duty (to promote the success of the company for the benefit of members as a whole whilst considering other interests). Regentcrest plc v Cohen 2001 decided that the duty imposed on directors to act in good faith and in the best interests of the company is subjective.


Often the interests of directors, members and other stakeholders (e.g. community, employees) are not aligned, leading to conflicts.


Some argue that the Companies Act 2006 has imposed a very low standard, in that, a director would not be in breach of his duties, so long as he considered his action to be in good faith. It allows directors a wide discretion, for example to hold other interests above company shareholders, provided it promotes the success of the company. The issue here is that there are no definite standards to assess the individual director due to the subjective nature of this duty.


Having regard to every matter/stakeholder interest listed in s172(1)(a)-(f) creates a centralised and bureaucratic decision-making process in exchange for greater transparency, as well as facilitating a good understanding of legal duties. One should recognise that behind the notion of accessibility lies, in fact, great complexity. Perhaps a more appropriate question in light of this conundrum would be to ask: how can directors balance various competing interests or objectives within the architecture of the Companies Act 2006, whilst maintaining their discretion and entrepreneurial powers? Reform is still required for a better appeal to the business world. It is apparent that there is unfinished business concerning directors and their relationship with Parliament.


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