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Law for Business

Knowhow - guidance - precedents

02 MAY 2012

Ten things every director needs to know - Part 1

This is the first in a series of articles in which we will explore the role of a director from a number of angles, some of them slightly unconventional. Each article will identify a fact of which directors need to be aware - whether concerning their duties, their relationship with other key players or their responsibilities under the Companies Act 2006 - and use it as a starting-point to illuminate a particular aspect of their role.

The articles will be written with new directors in mind and will take a practical approach to the issues raised. However, we will also look at the underlying law, on the basis that a director who understands the foundations of his role will be in a better position to comply with his obligations, and so we hope that the series will also be of interest to those with more experience of running a company.

Topics that we will address in future issues include:

  • the scope of a director's duty to promote the success of the company;
  • a director's responsibilities concerning the company's accounts;
  • the importance of the articles of association;
  • criminal offences under the Companies Act2006; and
  • the board's role in relation to allotting shares.

We begin the series, though, with a discussion of the nature of the relationship between directors and the company's owners.

1 Ultimately, the shareholders are in charge

Everyone knows that a director's job is to run the company's business. Surprisingly, perhaps, this basic job description is contained not in the Companies Act 2006 (the ‘Act') or any other legislation, but in the company's articles of association. The model articles for private and public companies under the Act are typical in this respect, stating that ‘the directors are responsible for the management of the company's business'.

The Act itself is by no means silent on the role of a director, however. To the contrary, it contains numerous specific provisions that partially define the scope of his powers and responsibilities. For example, section 414 allocates responsibility for signing off the accounts to the board, and section 550 gives directors of private companies with only one class of shares a default authority to issue more shares.

Once the power to manage the company has been delegated, the courts are reluctant to allow the shareholders to interfere with the board's freedom to exercise it as it chooses. In a well-known case dating back to the beginning of the last century, the Court of Appeal refused to give effect to a decision by the shareholders that sought to force the directors to sell the company's business (Automatic Self-Cleansing Filter Syndicate Co Ltd v Cuninghame [1906] 2 Ch 34). Much more recently, the High Court expressed doubt as to whether shareholders could decide to put a company into administration, taking the view that this was a management issue for the directors' discretion (Re Frontsouth (Witham) Ltd (Re Mackay) [2011] EWHC 1668 (Ch)).

The above summary of the division of powers between shareholders and directors might seem to indicate that it is, in fact, the directors who are in charge of the company, but we have so far considered only half the story. Whereas it is true that directors normally have control of the day-to-day management of the company's business, and also that the board is not a mere puppet of the shareholders, the Act confers on shareholders two key rights that give them overall control.

(1)     The shareholders have the right to amend the company's articles (section 21). This means that they can adjust the traditional division of powers effected by the articles to suit their requirements. It is common, for example, for the articles to include a ‘reserve power' for the shareholders, under which they retain the power to direct the board to act in a particular way by means of a special resolution. Less common, but by no means rare, are provisions in the articles specifying that certain types of transactions (for example, those that exceed a particular value) require shareholder approval.

(2)     Even more importantly, perhaps, the shareholders have the right to remove a director by means of an ordinary resolution (section 168). Consider a situation in which the board wants the company to buy a particular business, but the shareholders are opposed to the idea. Technically, as long as management power has been delegated in the usual way (and assuming that the shareholders do not have a reserve power), the directors are free to proceed with the acquisition regardless of the shareholders' opposition. In practice, however, the shareholders should normally be able to impose their will by threatening to remove any director who votes in favour of the deal.

The relationship between directors and shareholders is, of course, far more complex than this brief overview suggests. We have not touched upon the role of the statutory directors' duties, for example, let alone certain provisions of the Listing Rules, which have a significant impact on the balance of power within listed companies. It is also important to note that where, as is often the case, no one group of shareholders controls a large block of votes, the shareholders' ability to control or influence the board is significantly reduced.

The fact is, though, that the shareholders, as a body, hold the two main levers of control within a company, and any director who wishes to establish a good working relationship with them needs to understand that, ultimately, they are in charge.

Nigel Banerjee can be contacted at nigel.banerjee@kcl.ac.uk.

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