Keep It Legal
So what are your risks as a company director? This report from Justin Cumberlege and Alison Oliver may surprise you.
Many doctors are forming companies to deliver healthcare services and they carefully consider the risks for the company, and how to insure against them.
But few stop to think what liabilities they are taking on as directors.
Unlike the shareholders, whose risk is the loss of what they paid for the share – or, in a few cases, agreed to pay but have not – directors’ risks are unlimited. If they breach the laws governing directors’ duties, they may end up with fines and even imprisonment.
Directors have the responsibility of running the company for the shareholders and, as companies have become larger, the law has stepped in to ensure they are obliged to protect shareholders’ interests and help potential investors to have confidence to invest in the company.
While this does not apply to the same extent to small private companies – those who do not trade their shares on a public stock exchange – many of the laws still apply.
Role and powers of company directors
Under company law, every company must have at least one director.
The role of the directors is to oversee the day-to-day management of the company. This includes ensuring that the company complies with laws and regulations, such as:
- Health and safety laws;
- Data protection laws;
- Employment law;
- Environmental law;
- Anti-bribery and equalities legislation;
- Insolvency laws;
- Company law – including the records and administrative matters referred to above.
Directors may delegate responsibility for these matters to employees or a company secretary, but they retain overall responsibility for ensuring the company complies with all relevant regulations.
Directors have a general power to make decisions concerning the operation of the company.
However, certain matters are reserved under company law to be decided by the shareholders – for example, changing the company name or adopting new articles of association.
In addition, the articles of association, which are the firm’s constitution, might reserve certain matters to be decided by the shareholders – for example, capital expenditure over a certain threshold.
Directors are subject to seven general duties under the Companies Act:
1. To act within their powers – Directors must act in accordance with the constitution of the company and only exercise their powers for the purposes for which they are conferred.
2. To promote the success of the company – Directors 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 (shareholders) as a whole.
3. To exercise independent judgement – Directors must exercise their powers independently, without subordinating their powers to the will of others.
4. To exercise reasonable care, skill and diligence – meaning, in the words of the Act, the care, skill and diligence that would be exercised by a reasonably diligent person with:
(a) The general knowledge, skill and experience that may reasonably be expected of a person carrying out the functions carried out by the director in relation to the company, and
(b) The general knowledge, skill and experience that the director has.
Paragraph (b) is subjective; if a director is a qualified accountant, he would be expected to bring those skills to bear on the matters of the company. It does not mean he does the work, but they should integrate the accounts using their skill.
Paragraph (a) is more objective, requiring that all directors must keep up to date with the activities of the company and participate in the decision-making, using the skills and knowledge they have.
5. To avoid conflicts of interest – Directors must avoid situations in which they have or can have a direct or indirect interest that conflicts with, or may conflict with, the company’s interests.
This duty will not be infringed where the conflict is authorised in accordance with the articles. Having a robust conflicts of interest policy is important.
6. Not to accept benefits from third parties – Directors must not accept any benefit – including a bribe – from a third party which is conferred because of their position as director.
7. To declare an interest in a proposed transaction or arrangement with the company – Where a director is in any way interested in a proposed transaction or arrangement with the company, they must declare the nature and extent of that interest to the other directors.
The shareholders may authorise the directors to do or omit to do something which might otherwise be a breach of duty.
Directors also owe various other duties, such as:
A duty of confidence in respect of the company’s confidential information;
A duty in certain circumstances to consider or act in the interests of creditors.
Directors have particular responsibilities if the company is in financial difficulty. There is a statutory offence under the Insolvency Act 1986 if a company trades insolvent.
Once a director or directors of a company conclude – or should have concluded – that there is no reasonable prospect of the company avoiding an insolvent liquidation or administration, they have a duty to take every step reasonably possible to avoid losses to the company’s creditors.
If, after the company has gone into insolvent administration or liquidation, it appears to the court that a director has failed to comply with this duty, the court can order the director to contribute to make good the losses.
There are also offences of fraudulent trading, where the director carries on the business of the company with the intention to defraud creditors, and misfeasance, defined as the misapplication or retention of property of the company.
If a company is in financial difficulty, directors should take independent advice to avoid the possible personal consequences.
Consequences of breaching duties
The majority of a director’s duties are owed to the company. In certain circumstances, shareholders may be able to bring a claim on the company’s behalf, and liquidators and administrators may apply to the court to examine whether there has been a breach of duty in situations where the company is insolvent.
Regulators may enforce breaches of legislation against directors.
Remedies for the company and others enforcing breaches of duty on the part of directors include:
Injunction – compelling the directors to do or refrain from doing something;
Damages – to compensate the affected party for their losses.
If a director is found liable for wrongful or fraudulent trading or misfeasance, they could be required to contribute to the company’s assets, although this is rare in practice. Fraudulent trading is also a criminal offence.
Directors could also be prosecuted for offences under health and safety and other legislation.
A court may make a disqualification order against a person that they shall not, without leave of the court, be a director of a company on the basis that they are unfit for that office.
This would usually be as a result of misfeasance or breach of fiduciary duty or a material breach of legislation.
A person who is disqualified from acting as a director is not eligible to hold other offices as well, like certain public offices or to hold certain NHS contracts, and may not be permitted to be a charity trustee.
Companies are permitted to take out insurance to protect the personal assets of directors in the event they are personally sued for wrongful acts, such as acting outside their powers, in managing the company.
However, this insurance would not protect a director in the event that they commit a criminal offence.
Directors may sometimes be asked to provide personal guarantees for the performance of particular obligations by the company. Directors should always take independent advice if asked to provide a personal guarantee.
Other types of director
Certain people may owe duties as a director even if not validly appointed as such. These include, in particular:
De facto directors: a person who assumes the responsibility to act as a director, even if not actually or validly appointed as such;
Shadow directors: a person in accordance with whose directions or instructions the directors of a company are accustomed to act.
So if you are thinking of having a company controlled by you without you actually being a director, this would not mean you are not liable as a director. Also, you may need to register as a person with significant control at Companies House.
Incorporating a company is very easy but ensuring that you are complying with the obligations of a director should not be overlooked.
Justin Cumberlege (left) and Alison Oliver (right) are partners in the healthcare law firm Hempsons and provide advice to company directors
Disclaimer: This article is for information purposes only and should not be relied on as legal advice. Neither the authors nor Hempsons will be liable for losses arising from reliance on the information in this article. The article is based on the law of England and there might be variations in other jurisdictions.