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Directors’ Duties and Shareholder Action – Cause for Concern
Tom Walker
Tom Walker
Part 10 of The Companies Act 2006, which comes into force on 1 October 2007, codifies directors’ duties. The central duty is to promote the success of the company for the benefit of the members as a whole. Tom Walker, a member of the corporate services team at solicitors, Charles Lucas & Marshall examines exactly what this means.
When considering the central duty, directors must have regard to the following factors:
  • The likely consequences of any decision in the long term
  • The interests 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 operation on the community and the environment
  • The desirability of the company maintaining a high standard of business conduct
  • The need to act fairly as between the members.
Directors must ensure the decision making process is rigorous and documented. It would, for example, be a breach of duty for the board to make a decision without ‘having regard’ to all of the listed factors, even if some of the factors are irrelevant to the decision being made.
The solution is to minute all decisions, considering each factor in turn. Guidance suggests that so long as directors are acting in good faith, there will be no liability for purely procedural failure. However it is not enough for directors to merely ‘pay lip service’ to the factors.
The courts’ interpretation of the duties imposed on directors by the Act will provide further guidance but in the meantime the letter of the law is worth following.
Shareholder Action – Erosion of majority control
The implications of the codified directors’ duties are more serious when considered in light of the changes to the rules on shareholder claims (or “derivative action”).
If a wrong is done to a company, the proper legal entity to seek redress is the company itself. However, if a wrong is committed by the directors they will be able to prevent the company bringing a claim. This is said to amount to a ‘fraud’ on the minority shareholders and in those circumstances, the minority are permitted to bring an action against the wrongdoers.
Minority shareholders will need to apply to the court for permission to bring an action. The court will still refuse permission where the acts in question have been, or are likely to be, authorised or ratified.
A significant change to the law, which erodes the principle of majority control, is that it will no longer be possible for a simple majority of the shareholders to ratify the conduct of the directors, thus leading to an absolute bar on a derivative claim. The votes of a director, and of anyone connected with the director, will be disregarded for these purposes.
In addition, the Act makes it clear that, unlike the old law, a derivative claim can be brought for any clear breach of duty, including negligence.
The consequences for small companies in which the directors own a large proportion of the shares are significant.
A disaffected shareholder could present a credible argument that a particular decision was taken negligently because the directors disregarded the list of factors above, or did not give sufficient weight to them.
The directors, if they were also shareholders, would not be permitted to vote to ratify the decision, and therefore, it is possible that the court would give permission for the minority shareholder to bring the derivative claim.
In these circumstances it is essential that directors, especially if they are also shareholders, record their proportionate consideration of each of the key factors, as well as their general duties.
For more information please contact Tom Walker on 01635 521212 or tom.walker@clmlaw.co.uk
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