Corporate governance and compliance - Rights, duties, and powers of directors

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Overview

Understanding corporate governance and compliance, especially regarding directors' rights, duties, and authority, is key to the SQE1 FLK1 exam. The Companies Act 2006 (CA 2006) is a fundamental law that shapes director regulation in the UK, impacting corporate management and accountability. This guide delves into the complexities of directors' responsibilities, providing aspiring legal professionals with the knowledge and analytical skills needed for exams and future practice.

Fundamental Duties of Directors

The CA 2006 outlines directors' duties, creating a framework for effective governance and providing standards for conduct.

Duty to Act Within Powers (s.171)

Directors must adhere to the company's constitution and intended purposes when exercising their powers, preventing unauthorized actions and preserving corporate integrity.

Example: A director approving an overseas expansion without board consent, violating the company's articles, may breach s.171, facing potential contract invalidation and personal liability.

Duty to Act in the Company's Best Interests (s.172)

Directors must act in good faith to benefit the company and its members, considering:

  • Long-term impacts
  • Employee interests
  • Relationships with suppliers and customers
  • Community and environmental effects
  • Reputation for ethical conduct
  • Fair treatment of shareholders

Case Highlight: In Item Software (UK) Ltd v Fassihi [2004] EWCA Civ 1244, the court found a director breached his duty by not disclosing a competing bid, illustrating the broader scope of this obligation.

Duty to Use Independent Judgment (s.173)

Directors should make decisions independently, free from undue influence, though they may seek advice.

Example: A director who resists shareholder pressure after careful analysis exemplifies compliance with s.173, stressing independent judgment's importance.

Duty to Exercise Care, Skill, and Diligence (s.174)

Directors must apply reasonable care and skill, judged against both objective and personal standards based on their experience.

Scenario: A director with mergers expertise failing to conduct adequate diligence in a major merger, leading to financial losses, might be liable under s.174.

Duty to Avoid Conflicts of Interest (s.175)

Directors must steer clear of conflicts between personal and company interests, requiring full disclosure and often abstention from related decisions.

Example: A director offered a consultancy contract with a competitor must inform the board and abstain from decisions. Failure to do so may lead to nullification and disqualification.

Directors' Powers

Directors hold significant sway over corporate strategy, bounded by accountability measures.

Scope of Powers and Delegation

While directors can delegate, they remain responsible for those actions. Unauthorized acts may need shareholder approval to mitigate liability.

Example: A director allowing a subordinate to breach financial limits could face personal liability, emphasizing responsibility for oversight.

Ratification of Conduct

Section 239 CA 2006 permits shareholders to approve directors' past actions within limits:

  • Excludes fraud or dishonesty
  • The implicated director cannot vote
  • Minority shareholder protection

Directors' Liability and Disqualification

Directors may incur liability for duty breaches, with repercussions ranging from civil penalties to disqualification.

Civil and Criminal Liability

Key liability areas include:

  1. Fiduciary duty breaches
  2. Wrongful trading (s.214 Insolvency Act 1986)
  3. Fraudulent trading (s.993 CA 2006)
  4. Health and safety and environmental violations

Disqualification under CDDA 1986

Courts can ban individuals from being directors for 2 to 15 years based on:

  • Indictable offenses
  • Repeated legal violations
  • Insolvency-related fraud
  • Unfitness to manage a company

Case Highlight: Re Sevenoaks Stationers (Retail) Ltd [1991] Ch 164 set guidelines for disqualification lengths, influenced by factors like trading while insolvent.

Conclusion

The duties, powers, and liabilities outlined in the CA 2006 are foundational to UK corporate governance. Key points for SQE1 FLK1 exam candidates include:

  1. Directors' duties include acting within authority, prioritizing company success, using independent judgment, and avoiding conflicts.
  2. Directors' powers are significant but subject to legal and accountability restrictions.
  3. Breaches can lead to severe outcomes, including personal and criminal liabilities.
  4. Understanding case law and applying legal principles are essential for exam success and effective leadership.

Understanding these principles is vital for navigating corporate governance and minimizing risks for both directors and their companies.