The Top 3 Things Every Director Should Know
So you want to be a Director? – key things you need to understand when becoming a Director
Very few of us when we set out in our early careers intend to become a director. It often occurs as a result of a series of unforeseen circumstances. Many of us when we take on a director role are unaware of the consequences and the responsibilities of the office of Director
Directors are on the line personally for the decisions and actions that both they and those they’re responsible for take. During Covid-19 more than ever Directors can come unstuck through the actions of others in the constantly evolving, chaotic environment. Or in other words be bitten on the backside by a malaria carrying mosquito while charging head-on at the dragon.
Here is a run through of what you should know as a Director to help you avoid being bitten by that mosquito!
As said earlier many of us have no burning desire to become a director. We are sometimes offered the role based on previous performance, others get the role by starting a company, some of us are born in to the role as part of the family firm. Occasionally we become directors by accident being the last person standing in an organisation.
However, mostly we become directors because we are good at something else!! This is a bizarre situation when you consider the responsibilities and liabilities a director carries. Listed below are some things you need to be aware of as a director
1. You don’t have to be full time, appointed a Director or have Director in your title to be legally responsible
So, are you a Director?
In law “any person occupying the position of director by whatever name called” is a Director,which means yes, you are a Director of the Business if you’re:
- someone who performs the functions of a director but has not been formally appointed – a De Facto Director
- “someone in accordance with whose instructions the board is accustomed to act” – a Shadow Director
- an Executive or Non-Executive Director – the law does not recognise any difference between these roles
- appointed by a major share/ stakeholder – a Nominee Director
- appointed through Articles to fill the place of a director on a temporary basis – an Alternate Director
- and the tricky one – any person occupying a whole range of responsibilities – which gives the court the power to determine who is a director.
So, if you look and act like a director, walk like a director talk like a director and even smell like a director (frightening thought!!) you probably are one regardless of what the formalities may or may not suggest.
Let us look at some of these roles in greater detail covering off the main questions I’m asked on a regular basis.
Non-Executive Directors
A Non-Executive Director is not an executive role, nor are they full time or an employee. They are appointed to use their experience and expertise to provide independent advice, challenge and objectivity to the board. They can also:
- Perform specialist roles on a part-time basis
- Apply their expertise in specific activities, such as strategy and contract negotiation
- Can be independent or non-independent
- May or may not be remunerated
Non-Executive Directors carry the same legal responsibilities and liabilities as formally appointed directors.
Nominee Directors
In principle Nominee Directors are often appointed to the board of a company to represent the interests of their appointor (e.g. shareholder, a creditor or another stakeholder/funder). However, an often misunderstood situation is that Nominee Directors do not owe their duty to those that appoint them but to exactly the same list of stakeholders as for any other type of director and carry the same legal responsibilities as other directors.
This can put a Nominee Director on a collision course with the duties he owes as a director to his company and their appointer.
Shadow Directors
A Shadow Director is a person holding an influential position who gives the directors instructions which they are accustomed to follow. The key point here is accustomed to follow.
The High Court has considered the legal definition of shadow director and expressed the view that a person at whose direction most of the board is accustomed to act is potentially a shadow director.
This is different from a consultant providing advice to the board as the consultant does not direct the board but offers options for the board to consider.
Typical examples of shadow directors could be:
- Retired owner director who has stepped down from the board but still directs the decision making of remaining directors
- The bankrupt (or disqualified director) who continues to manage a company through their life partner
- Your company describes you as a director, perhaps in communications with customers, supplier and other stakeholders
Shadow directors bear the risks and responsibilities of an appointed director in identical situation. For example, a shadow director may be liable for wrongful or fraudulent trading, or director disqualification, should evidence suggest wrongdoing during an investigation.
Alternate Directors
As an Alternate Director, appointed through Articles to fill the place of a director on a temporary basis you bear the same risks and responsibilities of a full time appointed director. This begs the question: would you have taken on the role if you were not aware of the issues surrounding the decision you might have to make?
2. As a Director you are legally culpable
As a Director you are personally liable for your actions and the actions of those you are responsible for, even if you did not knowingly authorise or condone their actions. Ultimately your neck is on the block and you can go to jail for the actions of others as well as yourself. Ignorance or negligence are not acceptable.
Your responsibilities are pretty clearly defined by The Companies Act 2006 Sections 171 – 177. Namely:
- 171 Duty to act within powers
- 172 Duty to promote the success of the company
- 173 Duty to exercise independent judgment
- 174 Duty to exercise reasonable care, skill and diligence
- 175 Duty to avoid conflicts of interest
- 176 Duty not to accept benefits from third parties
- 177 Duty to declare interest in proposed transaction or arrangement
Breach of these duties can have legal, personal and reputational consequences. However, one of the key defining elements is section 172. Summarised below:
‘A Director of a company must act in the way 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, and in doing so have regard (amongst other matters) to:
- Long term
- Employees
- Suppliers, customers and others
- Community/environment
- Company’s reputation
- Need to act fairly between all members’
Hence, directors’ general duties are owed exclusively to the company – not to individual members, shareholders, not to third parties and not to so-called other ‘stakeholders’
A company is a separate legal entity, but the law requires it to have directors. (Effectively the business brain) who take responsibility for its affairs, actions and transactions. This means that directors are potentially personally liable in law for their actions. This is very different to being in a management position.
So, who can enforce action against a director and actions they have taken?
Directors owe their duty to the company. Therefore, it follows that only the company can enforce these duties. Hence, while a company is solvent only the company (instigated by shareholders, other directors or minority shareholders through a derivative action) may take action against a director for failing in their fiduciary duties.
Practically this may lead to the Courts getting involved and determining whether or not the director is culpable and therefore personally liable.
3. Where does a Director’s authority come from?
A board’s authority and hence, that of the directors is conferred upon it by its shareholders.
A director’s authority binds the company. Hence it is
important to understand which powers are reserved for the board and which can
be delegated through the business. These are typically found in the articles of
association. These set out (amongst other things) key information about the
internal allocation of powers between the directors and other members of the
company. They are the rules of a company’s internal affairs such as appointment
of directors, conduct of meetings, rules for the transfer of shares and,
particularly, the Powers reserved for the directors and the board. Typically
these include but are not limited to things such as:
- Vision, purpose and values
- Board appointments/removal
- Terms of reference – board committees
- Remuneration/change of auditors
- Press releases
- Communications with shareholders
- Dividend payments
- Changes to internal control or risk management arrangements
- Accounting policies
- Disposal or acquisition of major assets
- Major contracts and investments
- Treasury management and capital policies
- Strategy
- Budgets
- Pension arrangements
- Policies – e.g. people, health and safety, conduct, compliance
It is vital that as a director you understand your fiduciary duties (section 171/177 of Companies Act 2006) and your powers as a director (from your constitutional documents. Hence read and understand them, take advice if you are not clear on their meaning).
Remember although you can choose to delegate power and authority down the the organisation, responsibility for the consequences rests not with the shareholders but with the directors and the board (i.e. you).
So you still want to be a director?
Being a director is one of the most rewarding roles a person can undertake (both intellectually and sometimes financially). However, we should enter into the role with our eyes open. It is more than just a management promotion. To quote Peter Parker (a.k.a. Spiderman)
‘With great power comes great responsibility’
Further information
This article covers some of the key areas every director needs to know about. If you would like more information or guidance on where to turn to for further detail please contact Dave Joel at djoel@lansonconsultants.co.uk who can offer impartial advice as to the most appropriate next steps.
Dave has wide ranging experience in consulting and coaching boards and delivers courses at Lanson Consultants and the IoD. He is President of the Hampshire Chamber of Commerce.