By Tim Collingwood, barrister, Serle Court, London


Directors' duties under the Companies Act 2006 - plus ça change?

Historically, the general duties imposed upon directors with regard to their management of the company and the exercise of their powers have been part of the general law, based upon common law and equitable principles. These have developed incrementally as part of a wider body of law applicable to agents and trustees. The Companies Act 2006 (CA 2006) introduces a partial codification of the general duties of directors and a new framework to this area of the law, furthering its stated objectives to provide greater clarity and to make the law's development more predictable.



After much heralding, sections 170-174 and 178-181 of CA 2006 came into force on 1 October 2007 (Companies Act 2006 (Commencement No3, Consequential Amendments, Transitional Provisions and Savings) Order 2007, SI 2007/2194) and part of this new framework is now in place. This article provides an introduction to the duties in sections 171-174 (acting within powers, promotion of the company's success, independent judgement and duty of care). The remaining duties in sections 175-177 (conflicts of interest, benefits from third parties and interests in proposed transactions with the company) are set to come into force in October 2008.



The new regime presents a relatively novel approach to legislative intervention. CA 2006 seeks to strike a balance between codification and precision on the one hand, and flexibility and development on the other. The statutory general duties are 'based on certain common law rules and equitable principles as they apply in relation to directors' and replace those rules and principles (section 170(3)). Notably, it is only 'certain' rules and principles that are replaced; the codification is only partial and not comprehensive. In particular, the statutory duties do not comprise the director's trusteeship of the company's assets, but there is no suggestion that this principle has been abrogated or subsumed.



The two cornerstones of the approach to interpretation and application of the new general duties are in section 170(4):

l The new general duties are to be 'interpreted and applied in the same way as common law rules or equitable principles' (section 170(4)). Thus, prior authorities will remain relevant; and

l 'Regard shall be had to the corresponding common law rules and equitable principles' (ibid). Accordingly, the courts shall continue to have regard to developments in the law on other types of fiduciary, such as agents and trustees.



Any attempt to codify remedies was abandoned. Section 178(1) provides that the consequences of a breach (or threatened breach) of the general duties are the same as would apply if the corresponding common law rule or equitable principle applied. The general duties (except the duty of care in section 174) are enforceable in the same way as any other fiduciary duty owed to a company by its director. As before, more than one fiduciary duty may (and often does) apply to a particular factual scenario, save where otherwise provided (section 179).



Thus, there is a basic level of clarity in the headline general duties set out in CA 2006, but the full body of case law (past and future) with respect to such duties and corresponding duties will be relevant to the interpretation of the statutory duties and there remain duties outside of the statutory scheme.



Owed by whom to whom?

Little has changed with respect to those who owe duties and those to whom such duties are owed. The general duties set out in sections 171-174 (and 175-177) are owed by a director to the company and not to others (section 170(1)). This fundamental general principle is retained from the common law and (as before) enforcement will consequently often entail a derivative claim or an unfair prejudice petition. Section 172(3) retains (in appropriate circumstances, as before) the primacy of the interests of creditors.



As previously, 'director' includes any person occupying the position of director, by whatever name called (section 250) and the general duties apply to de facto directors. So far as shadow directors are concerned, the general statutory duties apply to them to the extent that the corresponding rules and principles applied previously (section 170(5)). This is a particularly difficult issue, upon which there is little assistance in the case law and the Act does not seek to resolve it.



Duty to act within powers

Section 171 provides that a director must: act in accordance with the company's constitution; and only exercise powers for the purpose for which they are conferred.



This duty comprises two formerly distinct but related duties, but does not represent any significant change of principle. The specific application of the statutory duty, including potentially difficult issues as to whether any particular purpose is proper, has been left to be addressed in the case law.



Duty to promote the success of the company

Section 172 states that a director must act in the way that 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. The director must have regard (among other matters) to the likely consequences of any decision in the long term; the interests of the company's employees; the need to foster the company's business relationships with suppliers, customers and others; the impact of the company's operations on the community and the environment; the desirability of the company maintaining a reputation for high standards of business conduct; and the need to act fairly as between members of the company.



This replaces and significantly recasts the former duty to act bona fide in the best interests of the company (Re Smith & Fawcett Ltd [1942] Ch 304, at 306). Clearly the matters listed in section 172(1) will have been considered by directors on occasion before, but previously few of them were the subject of express provision (section 309 of the CA 1985 being the principal exception in the case of employees). The new list of factors is non-exhaustive and directors may (as before) take account of further matters.



It remains to be seen whether there will be an increase in the number of board decisions challenged (successfully or otherwise) for failure to pay due regard to the requisite factors. However, it seems unlikely that there will be any significant change in approach. The test remains one of good faith in the context of business judgements. The courts' historic reluctance to interfere in such judgements of a commercial nature is unlikely to change.



Duty to exercise independent judgement

A director must exercise independent judgement (section 173). This is essentially a codification of the principle that a director must not unduly fetter his discretion.



Duty to exercise reasonable care, skill and diligence

Section 174(1) requires a director to exercise reasonable care, skill and diligence, and represents no significant change from the previous position. The duty imposes an objective standard on the director (the general knowledge, skill and experience to be expected of a person in his position) and a subjective standard (whereby he must exhibit the level of care to be expected of a director with his knowledge, skill and experience).



Conclusion

The formulation of the general duties may be new (in particular in the case of section 172), but the substance remains largely the same and the legislation retains the benefit of the learning in the previous case law. The likelihood is that this novel hybrid codification will cause little change in practice.