Corporate governance and compliance - Appointment and removal of directors

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Overview

Selecting and dismissing directors are key aspects of corporate governance, shaping a company's leadership and strategic direction. For those prepping for the SQE1 FLK1 exam, a strong understanding of these processes is vital, intersecting with company law, shareholder rights, and compliance. This article explores the legal requirements and practical aspects of director appointments and removals, offering essential guidance for exam prep and future practice.

Types of Directors and Their Roles

It's important to recognize the different types of directors to fully understand corporate governance. The Companies Act 2006 (CA 2006) lays out the main legislative framework defining and regulating their roles.

Executive Directors

Executive directors play a hands-on role in daily management. Their responsibilities are typically detailed in employment contracts, which set out their duties and expectations. These directors often hold top management roles, like CEO or CFO, along with their board duties.

Non-Executive Directors (NEDs)

Non-executive directors provide independent oversight and strategic advice without managing daily operations. Their input is key to maintaining board independence and unbiased judgment, especially concerning strategy, risk management, and executive pay.

De Facto Directors

De facto directors, defined through case law and within s250(1) of the CA 2006, are those who act as directors without formal appointment. Courts consider factors like attendance at board meetings, involvement in key decisions, and representation of the company to outsiders.

Shadow Directors

Section 251(1) of the CA 2006 describes shadow directors as individuals whose instructions the board follows. This includes those with significant sway over the board without an official title. Considerations include the level of influence and whether major shareholders, lenders, or advisors fit this role.

Appointment of Directors

The appointment of directors is governed by statutory requirements and the company's articles of association.

Statutory Requirements

The CA 2006 outlines basic requirements for director appointments:

  • Private companies must have at least one director (s154(1) CA 2006).
  • Public companies need a minimum of two directors (s154(2) CA 2006).
  • At least one director must be an individual (s155 CA 2006).

Appointment Methods

There are various ways to appoint directors:

  1. Shareholder Resolution: An ordinary resolution at a general meeting can appoint a director (s168(1) CA 2006).
  2. Board Resolution: The board may appoint additional directors, depending on the company's articles (Model Article 17 for private companies).
  3. Incorporation: Initial directors are named during company formation.

Restrictions on Appointment

Certain individuals are barred from directorship:

  • Those under 16 (s157 CA 2006).
  • Undischarged bankrupts (unless court-approved).
  • Anyone with a disqualification order or undertaking.
  • Individuals with criminal convictions related to company management.

Removal of Directors

Removing directors is a detailed process balancing shareholder rights with contractual and statutory protections for directors.

Statutory Removal Process

Section 168 of the CA 2006 allows shareholders to remove directors via ordinary resolution, regardless of existing agreements. Key elements include:

  1. Special Notice: A minimum 28-day notice to the company (s312 CA 2006).
  2. Director's Right to Protest: The director can make representations and speak at the meeting (s169 CA 2006).
  3. Ordinary Resolution: A simple majority vote at a general meeting is needed for removal.

Challenges in Removal

Several issues can complicate removal:

  1. Weighted Voting Rights: Some companies use "Bushell v Faith" clauses granting directors enhanced voting rights in removal situations.
  2. Contractual Protections: Employment contracts might offer compensation upon removal.
  3. Class Rights: In some companies, removing a class director might need approval from that group of shareholders.

Disqualification of Directors

Director disqualification ensures governance integrity by barring unsuitable individuals from board positions.

Grounds for Disqualification

The Company Directors Disqualification Act 1986 (CDDA 1986) specifies reasons for disqualification, such as:

  1. Unfit Conduct: Actions that harm creditors, breaches of duty, or poor record-keeping (s6 CDDA 1986).
  2. Wrongful Trading: Continuing business knowing insolvency is inevitable (s10 CDDA 1986).
  3. Fraudulent Trading: Conducting business to defraud creditors (s10 CDDA 1986).
  4. Breach of Competition Law: Disqualification for serious competition law violations (s9A CDDA 1986).

Consequences of Disqualification

Disqualification has serious consequences:

  • Ban from acting as a director, directly or indirectly, without court permission.
  • Disqualification terms range from 2 to 15 years, based on misconduct severity.
  • Personal liability for company debts if violating a disqualification order.
  • Possible fines and imprisonment for breaching disqualification.

Corporate Governance Considerations

The appointment and removal of directors are closely tied to broader governance principles, affecting a company's strategic direction and stakeholder relationships.

Board Composition and Independence

Balancing executive and non-executive directors is fundamental for good governance:

  • Board Balance: A mix of skills and independence improves decision-making.
  • Independent Directors: The UK Corporate Governance Code advises that in larger companies, at least half of the board, excluding the chair, should consist of independent non-executive directors.

Stakeholder Considerations

Director changes can significantly influence stakeholder views and relationships:

  • Shareholder Confidence: Board changes might signal strategic shifts, affecting investor trust.
  • Corporate Culture: Leadership transitions can impact company culture and staff morale.
  • Regulatory Compliance: Proper processes are vital to maintain compliance and avoid reputational damage.

Conclusion

A solid comprehension of the legal and practical aspects of director appointments and removals is essential for success in the SQE1 FLK1 exam. Understanding these procedures and their impact on governance, stakeholder relations, and compliance is essential. Key points include:

  1. Different types of directors and their roles.
  2. Statutory requirements and methods for appointment, including restrictions.
  3. The detailed process and challenges in director removal.
  4. Grounds and consequences of disqualification.
  5. Broader governance considerations, including board composition and stakeholder impact.

By combining this knowledge with practical applications, candidates will be well-prepared to deal with governance complexities in both exams and their careers.