Directors\' Duties PQ Structure PDF

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Directors’ Duties Problem Question Identify who we are advising- The Company Advice (random shareholders) if company can take action on any breaches (no remedies discussion)/ what action can the company take (remedy).c/f If there is a minority protection here, consider (shareholders’ personal action...

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Directors’ Duties Problem Question 1. Identify who we are advising- The Company Advice (random shareholders) if company can take action on any breaches (no remedies discussion)/ what action can the company take (remedy). c/f If there is a minority protection here, consider (shareholders’ personal action). 2. Identify the directors, de facto directors and shadow directors. Discuss their liability accordingly. a. De facto director Effect: if he is a de facto director, he can be liable for any breach of directors’ duties. Definition: s.250 CA 2006- ‘Director’- includes any person occupying the position of director, by whatever name called. Case: Secretary of State for Trade and Industry v Hollier [2006], Etherton J:  Cannot be de facto & shadow director at the same time  Test: is he ‘part of the corporate governing structure’? see if director participates in deciding corporate policy, strategy, implementation Case: Gemma Ltd v Davies [2008]: Five req’s to be a de facto director: i. ii. iii. iv. v.

He undertook a director’s functions Does not matter what he is called. His role matter (i.e., what he did) Participated in directing company’s affairs, on equal footing with other directors. Shown to have assumed the status and functions of the director, and exercise real influence to the company Where it is unsure whether his action is preferable to an assumed directorship or some other capacity, then s/he is to be given the benefit of doubt.

Other cases: Re Richborough Furniture Ltd - Lloyd J – must see the functions performed by that person SS for Trade and Industry v Tjolle – Jacob J – test: Is he ‘part of the corporate governing structure’? Re Kaytech affirmed it. Though not formally appointed. Re Gemma Ltd (in liquidation) [2008], HM Revenue & Customs v Holland, Re Paycheck Services 3 Ltd (2010) SC b. Shadow Director Effect: If s/e is a shadow director, he can be liable for any breach of directors’ duties: s.170(5) –amended by Small Businesses and Enterprise and Employment Act 2015.

Definition: s.251 –a person who gives directions or instructions to majority or whole of BoD & accustomed to act. Other than a professional advisor: s.22(5)(a) –Company Directors Disqualification Act 1986 * Prima facie – might not be liable: Ultraframe (UK) v Fielding (2005), Re Tasbian Ltd (No 3) (1993) – must have effective control of majority or whole of BOD; and not enough to just give instruction Re Lo-Line Electric Ltd (1988), Unisoft Group Ltd (No 2) (1993) – control of one director is not enough. However – might be liable because: s.251 CA 2006 might prevail over earlier cases; or s.251 amended by s.89 Small Business and Enterprise Employment Act 2015 (SBEEA) – General duties applies to shadow director of company the same extend they apply to de jure directors Other cases: Re Hydrodam (Corby) Ltd (1994) - 4 factors Vivendi SA v Richards (2013) 3. Introduction to director duties (principal of mgt’, fiduciary) s.170(1) - The general duties in s.171-177 are owed by a director to the company, not to individual shareholders - Percival v Wright (Not S/H) - Peskin v Anderson – “directors have but one master, the company” Note: Greenhalgh v Ardene Cinemas – directors owe duties to company as a whole, including shareholders Dawson Int v Coats Paton [1993]– director assumes responsibility s.170(3) - statute superseded, codified, abolished common law s.170(4) still can use common law to interpret and apply general duties in the statute 4. S.171 – Duty to act within powers s.171(1): A director of a company must (a) act in accordance with the company's constitution, and (b) only exercise powers for the purposes for which they are conferred. [Even if acted according to AA, but exercise power for improper purpose – breach] Re Smith & Fawcett Ltd [1942] - Lord Greene MR – proper purposes doctrine: directors must not exercise their powers for any ‘collateral purpose’. But, Howard Smith v Ampol Petroleum - Substantial purpose test: There is more than 1 purpose in exercising a power, see if the substantial purpose is proper – if yes, such power would have been exercised for a proper purpose – though ancillary purposes are improper.

OTF: Improper exercise of power to allot shares: Substantial purpose: dilute majority shareholding which made a rival bid. Secondary purpose: raise capital (D argued it and failed). Extrasure Travel Insurance v Scattergood [2002] endorsed it. Eclairs Group v JKX Oil & Gas (2015) SC – Endorsed “substantive purpose” test Lord Sumption added the “but for” test – But for the relevant motive in the main purpose, the power would not have been exercised. Purposes to issuing restriction notices imposed by the defendant on the claimant companies’ shares: (i) induce shareholder to comply with the disclosure notice – Not a proper purpose – Motive: influence outcome to win the battle of control (ii) to protect the company and its shareholders from having to make decisions relating to the company without relevant information; and (iii) to impose punitive sanctions on the shareholders for failing to comply with the notice, for as long as such failure continued. Note: Careful that it will be detrimental to the smooth functioning of company if director’s decisions were generally open to challenge. Q: When will it be improper exercise of power? Lee Panavision v Lee Lighting - enter into a contract which was not beneficial to the company- Improper exercise of power. Punt v Symons; Piercy v Mills [1920] - allot shares to dilute minority shareholding - the share issue was only to retain control of existing Ds - improper exercise of power - the court set aside the share issue. Bamford v Bamford - allot shares - to stall a proposed takeover offer, which could be beneficial to the company -improper exercise of the power. Neptune v Fitzgerald – a director procured certain termination payment by company to himself – improper exercise of power. Teck Corporation v Millar [1972] - British Columbia SC - proper to allot shares to defeat a takeover which will cause substantial damage to the company; - provided the directors acted in good faith; - though it was made against the wishes of the existing shareholder and deprived him of control; - Ds should consider the reputation, experience and policies of anyone seeking to take over the company

Remedies s.178(1) - same as common law/equitable principle s.178(2) - same as any other fiduciary duty owed to a company by its directors. 5. S.172 – Duty to promote the success of the company s.172(1): A director of a company must act in the way he considers, 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— (a) likely long-term consequences of any decision (b) interests of employees (c) the need to foster company's business relationships with suppliers, customers and others (d) impact of company's operations on community & environment (e) the desirability of the company maintaining a reputation for high standards of business conduct, and (f) the need to act fairly as between members of the company. s.172(2): Where or to the extent that the purposes of the company consist of or include purposes other than the benefit of its members, subsection (1) has effect as if the reference to promoting the success of the company for the benefit of its members were to achieving those purposes. Re Smith & Fawcett Ltd (1942) - Lord Greene MR – subjective test - directors must exercise their discretion bona fide in what they consider is in the interests of the company, not what a court may consider. * Note: s.172(1) restates it. Agreed by Item Software v Fassihi [2005] (duty to disclose wrongdoing – duty of good faith), Regentcrest v Cohen [2001]– relates to D’s state of mind c/f Charterbridge Corporation v Lloyd’s Bank (1970) - Pennycuick J – should be objective test - whether an intelligent and honest man in the position of a director of the company concerned could have reasonably believed that the transactions were for the benefit of the company in the whole of the existing circumstances. Neptune (Vehicle Washing Equipment) Ltd v Fitzgerald (No 2) [1995] – D and secretary passed resolution of terminating his directorship and paid high compensation to himself – not acting in what he honestly and genuinely considered to be in the best interests of the company but rather was acting exclusively to further his own personal interests. S.414A –s.414D: Strategic report - to inform members of the company and help them assess how the directors have performed their duty under s.172 (company’s issue and other issues concerning stakeholders).

s.172(3): The duty imposed by this section has effect subject to any enactment or rule of law requiring directors, in certain circumstances, to consider or act in the interests of creditors of the company. [Allow common law other statutes to come in to govern creditors’ interest – b/c this area of law is not fully developed yet] Q: Do directors owe a duty to the creditors? - 3 views 1) 1. Directors of a company do not owe any duty to the company’s creditors. i. Multinational Gas and Petrochemical Co v. Multinational Gas and Petrochemical Services Ltd ii. Yukong Line v Rendsburg (No 2) [1998] - Toulson J -creditors have no standing, individually or collectively 2) Where a company is insolvent - the interests of the creditors intrude. i. Kinsela v Russell Kinsela Pty (1986) (NSW CA) - They become prospectively entitled to displace (take over) the power of the shareholders and directors to deal with the company’s assets. - It is in a practical sense their assets and not the shareholders’ - assets - The assets are under the management of the directors pending in liquidation through the medium of company. ii. West Mercia Safetywear v Dodd [1988]- CA applied Kinsela iii. Colin Gwyer v London Wharf iv. Brady v Brady 3) Company always owes a general duty to its creditors, present and future (not specific duty - GHLM Trading Ltd v Maroo [2012], Re HLC Environmental Projects [2013]) Cases: GHLM Trading Ltd v Maroo [2012] - The courts held in a same way that a director has a duty under s.172 to act in a way he considers in good faith to promote the success of the company for the benefit of his members as a whole, if the company was insolvent, or doubtful solvency, or on the verge of insolvency, he had a duty to have to regard to the interest of creditors as a class if their interest were relevant, and it was a breach of duty to advance a particular duty of a particular creditor if he did not believe that to be in the interest of the creditor as a class. The courts also held that a director has a duty to disclose his material interest under s.172 when in which case, such material interest may include his own wrongdoing – This resonates with the principle in Item Software Ltd v Fassihi. Re HLC Environmental Projects [2013] – similar case. Winkworth v Edward Baron [1986] HOL – Lord Templeman- A duty is owed by the directors to the company and to the creditors of the company to ensure that its property is not dissipated or exploited, and available for the repayment of its debts.

Lonhro v Shell Petroleum [1980] HOL – L. Diplock obiter- Re Pantone [2002] Richard Reid QC - if the directors act consistently with general creditors’ interest, but inconsistently with creditors with special rights – not breach. * Liquidator can also sue under respective statute: s.212 Insolvency Act 1986 - action for misfeasance s.214 Insolvency Act 1986 - liquidator as the court to declare the director personally liable, to make such contribution to the company’s assets, as the court thinks proper, for the benefit of the unsecured creditors - he knew or ought to have concluded that there was no reasonable prospect that the company would avoid going into insolvent liquidation. Remedies s.178(1) - same as common law/equitable principle s.178(2) - same as any other fiduciary duty owed to a company by its directors. Criticism (Refer Mr Chia’s article) 1. Resurrecting the subjective test – the standard of the test has been lowered again. But if it is objective test – professionals (NEDs) will refuse directorships if directors’ duties easily breached. 2. Is it compulsory or otherwise to regard all factors in s.172(1)(a)-(f)? – Lack of certainty on what Parliament intends to achieve. 3. Who will assess whether the directors have taken into account the factors in s.172(1)(a)-(f)? Assess objectively or subjectively? Which factors will prevail if they conflict? 4. Creditor’s interest has been deliberately omitted, despite that s.172 has said to been enforcing the ‘enlightened shareholder value’. 5. Even if it could be proven that the directors have totally violated the shareholders’ or stakeholders’ interest, can stakeholders (employees or suppliers) sue the company? 6. S.173 – Duty to exercise independent judgment s.173(1): A director of a company must exercise independent judgment. s.173(2): This duty is not infringed by his acting— (a) in accordance with an agreement duly entered into by the company that restricts the future exercise of discretion by its directors, or (b) in a way authorised by the company’s constitution. Directors cannot simply delegate power

Director cannot fetter (restrain) their discretion against company’s benefit, by having arrangement with outsider. Key case-Fulham Football Club v Cabra Estates (1994) (OTF – previous Ds agreed on Cabra’s proposal to develop club’s ground, in return, got money for club, and rejected gov’s proposal – current D want to dismiss it) Thornby v Goldberg (1964) (Aus) - Kitto J- There is a difference between: -

directors fettering their discretion – breach directors exercising discretion in a manner which restricts their future conduct - not breach

Remedies s.178(1) - same as common law/equitable principle s.178(2) - same as any other fiduciary duty owed to a company by its directors. 7. S.174 – Duty to exercise reasonable care, skill and diligence s.174(1) A director of a company must exercise reasonable care, skill and diligence. [Partly objective and partly subjective test] s.174(2) This means the care, skill and diligence that would be exercised by a reasonably diligent person with [objective] (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 [objective test – sets out minimum objective standard - measure director’s actions against a reasonably diligent person’s expected conduct – not so skilled person will bound to this standard]. (b) the general knowledge, skill and experience that the director has. [subjective considerations - level of special skills that he in fact possesses. Therefore, a director who has more experience, knowledge and skill will have a higher threshold in discharging this duty.] Case law Re City Equitable Fire Insurances (1925) - 3 parts of it: i. ii. iii.

duty to exercise care and skill duty to attend meetings duty to properly delegate power

Re Brian D Pierson (Contractors) Ltd (2001) (i) D has certain minimum responsibilities & functions

(iii) Cannot simply discharged & leave all management functions and consideration of the company’s affairs, to another director without question (*Even in the case of a family company) Re Landhurst Leasing plc (1999) (ii) cannot be inactive & unaware of company’s state of affairs (iii) even if he delegated & trusted others to manage company. Lexi Holdings plc v Luqman (2009)- CA (ii) Two sisters are liable for turning a blind eye of their brother’s misappropriation of company’s fund. (inactivity) – not diligent. Dorchester Finance v Stebbing (1989) – Ds liable – (ii) 2 NEDs failed to perform any duty at all & negligent to let Stebbing’s ‘to do as he pleased’ – failed s174(2)(a). * Not just failed to exhibit the necessary skill and care in performing directors’ duty (hence it is not material to even consider the 2 NEDs’ professional accounting qualifications in s.174(2)(b)) Previous subjective test Re City Equitable Fire Insurances (1925) – Romer J Re Brazilian Rubber Plantations (1911) – Neville J Criticism: The question of director’s competency should not be confused with questions of his honesty/integrity. Current partly objective and partly subjective test Introduced by Hoffmann LJ in Norman v Theodore Goddard (1991) & Re D’Jan of London Ltd (1993)- (director sign insurance proposal form without reading. Note: Alastair Hudson’s book! * However, Extrasure case – you can only either be incompetent or dishonest – if facts are unclear, discuss both categories of duties (s.174 / s.171, s.172, s.173). Remedies s.178(1) - same as common law/equitable principle cannot apply s.178(2) – not the same as any other fiduciary duty owed to a company by its directors. 8. S.175 – Duty to avoid conflicts of interest (note: s.175(6)) s.175(1): must avoid actual or possible, direct or indirect, interest that conflicts with the interests of the company. Regal (Hastings) Ltd v Gulliver (1942) – Facts: Directors paid to buy shares its subsidiary to let company owned 2 cinemas. Directors get profits after selling the

company. New BOD sued to get account for profits. - Lord Russell - Duty to avoid conflict of interest (make personal gain) from the director’s position. Bray v Ford (1896) – actual or possible conflicts (strict duty) – Lord Herschell: a fiduciary is not allowed to put himself in a position where his interest and duty conflicts Hansard, Lord Goldsmith: ‘Once you know that you are now in a situation of conflict, you will have to do something about it’ s.175(3): not conflict of interest in s.175 if it is a transaction or arrangement with the company. (Unlikely that if you breach s.177, you will breach s.175 too). Other cases: Re Smith & Fawcett – fiduciary duty of loyalty – must act in good faith – not for collateral purposes. Bristol & West Building Society v Mothew (1998) - Millet LJ - the principal (director) was entitled to the single-minded loyalty of his beneficiary Bhullar v Bhullar – reasonable men looking at the facts would think there was a real sensible possibility of conflict.

Corporate opportunity doctrine s.175(2): This applies in particular to the exploitation of any property, information or opportunity (and it is immaterial whether the company could take advantage of the property, information or opportunity). Cook v Deeks (1916) - breach - a corporate opportunity is an asset of company O’Donnell v Shanahan (2009) – does not matter that the opportunity was outside the scope of company, as long as D learned that info when he was a director. C/f Peso Silver Mines v Cropper (1966) / Hudson v Queensland Mines (1978) - no breach if the corporate opportunity has been abandoned by BOD (sufficient) Other case: Berryland Books v BK Books (2009) Post-resignation conflicts of interest s.170(2)(a): A person who ceases to be a director – continues to be subject to the duty in section 175 - as regards exploitation- of any property, info, opportunity - of which he became aware at a time when he was a director (Resignation is not a defence for s.175). * While still director: (i) can make decision / formulate intention to set up in a competing business after he resigned as director - Balston v Headline Filters (1990) (ii) can take preliminary steps to investigate or forward that intention.

(iii) cannot engage in any competitive activity or preparatory steps during his directorship - British Midland Tool v Midland International Tooling (2003) - c/f Framlington v Handerson (1995). * ‘Once you know that you are now in a situation of conflict, you will have to do something about it’ - Hansard, Lord Goldsmith. A director can: (i) Resign - British Midland Tool v Midland International Tooling (2003). However, the resignation cannot be motivated by the exploitation of maturing business opportunity – Thermascan Ltd v Norman (2011) / Coleman Taymar Ltd v Oakes (2001) / IDC v Cooley (1972) (ii) Disclose & be honest to the company Coleman Taymar Ltd v Oakes (2001) – hiding the negotiation for lease from the company – though he capitalizes the opportunity after resignatio...