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Potential liability to increased claims
Published August 2007
New concerns for directors
Among the many reforms introduced by the Companies Act 2006, those that have attracted most attention concern the position of directors and their potential liability to increased claims by both the company and its shareholders.
Previously the law relating to directors’ duties largely derived from common law and equitable principles. The Act now provides a statutory statement of directors’ duties which codifies and builds on the existing law.
These provisions are due to come into force on 1 October 2007.
The prescribed duties owed by directors to the company are to act within their own powers;
to promote the success of the company in good faith for the benefit of the members as a whole. In exercising this duty, directors must take into account factors such as:
- the likely consequences of any decision in the long term;
- the interests of the company’s employees;
- the impact of the company’s operations on
- the community and environment;
- the need to act fairly between members of the company;
- to exercise independent judgement;
- to exercise reasonable care, skill and diligence;
- to avoid conflicts of interest;
- not to accept benefits from third parties; and
- to declare any interest in proposed transactions
- or arrangements with the company.
The duty to promote the company’s success (and all the factors to be considered) has introduced, at least in principle, the notion of ‘enlightened shareholder value’ and broadens the factors that directors must reckon with, underpinned by a strengthened regime of shareholder claims against directors (derivative actions).
These derivative actions have often been complex, expensive and limited to cases where there was a potential fraud on minority shareholders.
The Act gives shareholders new rights to bring claims against directors (including former and shadow) for actual or possible negligence and breach of duty or trust. Claims may be brought by minority shareholders (present or future) without board approval.
Activists may try to purchase shares simply to campaign for corporate social responsibility by companies against whom grievances are held.
However, there will be considerable court supervision of any such claim, and courts will be obliged to consider whether shareholders’ actions themselves are brought in good faith.
The imminent implementation of these changes to directors’ duties suggests that profiles of directors’ roles and their engagement letters should be reviewed and amended if necessary.
For key decisions, consideration should be given to the prescribed duties. Time will tell whether it will become common practice to provide a useful paper trail of directors’ decision making processes.
Given the re-cast provisions governing when shareholders can bring derivative actions in the name of the company, it is essential that directors are made aware of the new law and that corporate governance is conducted so as to protect directors from the prospect of increased liability.
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