ACCA class notes compiled by Njihia Kaburu DIRECTORS F Management, administration and regulation of companies 1.

Company directors
a) Explain the role of directors in the operation of a company. (a) b) Discuss the ways in which directors are appointed, can lose their office or be subject to a disqualification order. (a) c) Distinguish between the powers of the board of directors, the managing director and individual directors to bind their company. (a) d) Explain the duties that directors owe to their companies. (a) e) Demonstrate an understanding of the way in which statute law has attempted to control directors. (a)

Types of directors De-facto director This person is held "y the company as a director and "eha#es li)e a director "ut in reality, he is not appointed "y the mem"ers as a director. Shadow director *s one whose directions the other "oard of director!s mem"ers are accustomed to act or follow +section $%1,. -e does not want to "e appointed formally as a director "ut uses his share power to dominate the process of ma)ing decisions at the "oard le#el "ecause he is normally the ma.ority shareholder of the company. /B0 the law recogni1es2considers "oth de3facto and shadow directors and therefore the rules concerning the duties of directors and loans to directors are e4ually applied to them. Alternate Director 5ne of the most important duties of directors is t attend "oard meetings. *f any director failed to attend without lea#e of a"sence for si consecuti#e months, he has to #acate office, and thus if any director feels that he will not "e a"le to attend the "oard meeting, he should appoint someone to attend on his "ehalf. The person appointed is an alternate director. -e may "e one of the directors of the company3 in which case he will ha#e two #otes to cast, or an outsider3 he has one #ote. Executive Director -e is appointed under a ser#ice agreement as an employee of the company. -e is in#ol#ed in the day3day acti#ities of the company2management. Non-Executive director Their main purpose is to attend meetings "ut they are #ery important for corporate go#ernance "ecause they "ring outside )nowledge2e pertise to the company. -e is not an employee of the company. They e ert control2chec) the function of e ecuti#e directors. 1

Since a company is an artificial person, it can only act through an agency of a human person. For this purpose, a company has two primary organs. The general Meeting; The Board of Directors. The authority to e ercise a company!s powers is normally delegated not to the mem"ers nor indi#idual directors "ut only to the directors as a Board. The directors may howe#er delegate powers to an indi#idual Managing Director. Definition Director of the company is that person who performs the function of a director and who occupies the position of a director. Section $%&. it is that person who is appointed "y the mem"ers during the '(M and whose name is place don the list of the "oard of directors, whose main function is to attend "oard meetings. Thus the decision as to whether someone is a director is therefore "ase don their function not title.

ana!in! director The "oard of directors may appoint one or more of the directors to "ecome the managing director. -e must first "e a director, and if he is no longer a director, he cant remain as MD. 6 is o#erall in charge of day3day running of the company, and the model articles allow the "oard to delegate to him any powers they deem fit. -e has apparent authority not gi#en to any other director to enter into "inding commercial agreements on "ehalf of the company. 'll other directors are gi#en the power collecti#ely "ut not indi#idually. -e has a dual role3 "oth as mem"er of the "oard and also e ecuti#e officer. The case of; Freeman & Lockyer v Buckhurst Park Properties Ltd (1964) esta"lished that an MD has apparent authority to enter into all contracts of a commercial nature. Chairman of the "oard -e chairs meetings of the companies and acts as spo)esman for the company. 'ppointment, remo#al and dis4ualification 'ppointment /um"ers Minimum0 pu"lic companies need two, pri#ate companies need one. Ma imum0 no statutory ma imum, "ut articles may stipulate. 'ppointment /ames of first proposed directors gi#en in form procedure 1&, on incorporation, they "ecome directors till the first '(M. 7sually appointed "y separate ordinary resolution or "y e isting directors. Directors of pu"lic companies specifically need to "e #oted on indi#idually Section 18&. ' director!s actions are #alid notwithstanding defecti#e appointment section 181. Model articles 't the first '(M, all directors retire and offer $

for pu"lic companies 9u"licity Ser#ice Contracts

Compensation for loss of office

ACCA class notes compiled by Njihia Kaburu themsel#es for re3election "y ordinary resolution. 't each '(M, third of /on3e ecuti#e directors need to retire on "asis of seniority of appointment. Can "e re3elected. Casual #acancies filled "y the "oard until ne t '(M, where the directors must stand for re3 election. The company must notify the registrar within 1: days of new appointments and any changes in particulars. *t must also enter the changes into the register of directors, "ut failure to do so does not nullify the appointment. These +for e ecuti#e directors, should not e ceed two years unless they ha#e "een appro#ed "y the shareholders "y ordinary resolution section 1;;. They must "e )ept open for inspection at the company!s registered office. (ratuitous payments must "e disclosed to alla mem"ers and appro#ed "y ordinary resolution. *f not appro#ed, the director holds the payment on constructi#e trust for the company.

Vacation from office ' director may lea#e office in the following ways; *f he resigns. *f he dies. *f he declines re3appointment at '(M. *f he "ecomes "an)rupt. *f he "ecomes insane. '"sents himself from "oard meetings for si consecuti#e months without lea#e of a"sence. *f the "oard so resol#es.

 <hen he reaches age of retirement =& years. *f he is remo#ed "y the mem"ers. #emoval from office 7nder section 18;, a director may "e remo#ed from office "y an ordinary resolution "y the mem"ers "efore the e piration of his period of office notwithstanding anything either in the articles or any agreement "etween him and the company. This means that he can "e remo#ed despite any restrictions in the ser#ice contract and he can only sue for damages if such a remo#al is in "reach of his contract. -owe#er the company must follow procedures set out in the act as follows; The mem"er proposing the remo#al must hold a twentieth of share capital or ha#e the support of at least 1&& mem"ers whose shares an a#erage of 1&& pounds is paid. ' special notice of $; days to call a meeting together with a copy of the draft resolution must "e ser#ed on the company which then must forward a copy of the resolution to the director concerned. /otice of a meeting should go to the director and all mem"ers entitled to attend and #ote. The director in 4uestion can re4uire the company to circulate written representations to mem"ers. 't the meeting, the director must "e gi#en a chance of addressing it. -e may then read out the written representations if there was no time for circulation. The resolution is then #oted on, "eing passed or re.ected. *f passed, the director #acates office. Though the director may "e remo#ed from office any time, sometimes he can pre#ent his remo#al through the following; o The articles of 'ssociation may gi#e weighted #oting rights to the director, who is also a shareholder which he can use to pre#ent remo#al. Bushe v Faith >

ACCA class notes compiled by Njihia Kaburu ' company had two directors each owning $&& shares. ' son of one of the directors .oined the company as a third director with each transferring %& shares to him. Father and son ganged up to remo#e the other director. 'rticles further pro#ided that the director to "e remo#ed had > #otes per share. -e pre#ented the remo#al as he had more #oting rights +1%&?>@:%& #otes, compared to the rest com"ined +1%& A1&&@ $%& #otes,. -6BD the statute only pro#ided for an ordinary resolution "ut has made no pro#ision on how it could "e o"tained or defeated. The weighted #oting rights pro#ided in the articles were thus #alid. o The articles may pro#ide additional rules on 4uorum, re4uiring shareholders from all classes to constitute 4uorum. The director can use this to escape. Disqualification of a director ' director may "e dis4ualified under the Company Directors! +Dis4ualification, 'ct 1C;8. This act was introduced to chec) misuse of limited lia"ility status of a company "y directors where they open a new company to carry out essentially the same "usiness as the old company which has ceased trading with unpaid de"ts. The grounds for dis4ualification include0 *f he has committed a criminal offence, if indicta"le, he is dis4ualified for a ma imum of 1% years. 6.g. <agner of Da#a Coffee -se. 9ersistently "reaches the pro#isions of companies 'ct e.g "y failing to su"mit returns to registrar +ma % years,. Fraudulent2wrongful trading +ma 1% years,. Con#iction of serious offence in connection with the management of the company +ma 1% years,. *f li4uidator!s report finds the director unfit to "e concerned with the management of the company +min $yrs, ma 1%yrs,. *f an in#estigation "y the Dept for Business, 6nterprise and Eegulatory reform +former Dept of Trade and *ndustry, finds director unfit to "e concerned in the management of the company +ma 1%yrs,.

*f the director acts in "reach f dis4ualification order, its effect is two fold0 *t!s a criminal offence which could amount in a fine and imprisonment. The dis4ualified director and any other person who acts on his instructions is personally lia"le for the de"ts of the company while so acting. o!ers of directors 5n paper, all decisions a"out the running of a company should "e ta)en "y mem"ers in a general meeting. -owe#er, mem"ers delegate powers to manage the day3day running of the "usiness to the directors. Directors are thus re4uired to e ercise their powers in accordance with the company!s constitution. -owe#er, the power is delegated to the "oard as a whole "ut not indi#idual directors. <here articles delegate the management of the "usiness of the company to the "oard, mem"ers ha#e no right to interfere with the "oard!s decision. Directors are not agents of mem"ers "ut agents of the company and are not su".ect to mem"ers! instruction on how to act. (enerally where powers of management are #ested in the Board of Directors, the general meeting cannot interfere with the e ercise of those powers. !ha" & !ons Ltd v# !ha" (19$%) & 'B 11$ -ere the Directors were empowered to manage the company!s affairs. They commenced an action for and on "ehalf of the company and in the company!s name, in order to reco#er some money owed to the company. The general meeting thereafter passed a resolution disappro#ing the commencement of the suit and instructing the Directors to withdraw it. *t was held that the resolution of the general meeting was a nullity (reer B.D. stated F( company is an entity distinct from its shareho ders and its directors# !ome of its po"ers may )e accordin* to its artic es e+ercised )y the Directors and certain other po"ers may )e reserved for shareho ders in *enera meetin*# ,f po"ers of mana*ement are :

ACCA class notes compiled by Njihia Kaburu vested in the Directors- they and they a one can e+ercise these po"ers# .he on y "ay in "hich the *enera )ody of the shareho ders can contro the e+ercise of the po"ers vested )y the artic es in the directors is )y a terin* the artic es or if opportunity arises under the artic es )y refusin* to re/e ect the directors or "hose actions they disapprove# .hey cannot themse ves reserve the po"ers "hich )y themse ves are vested in the Directors any more than the directors can reserve to themse ves the po"ers vested )y the artic es in the *enera )ody of shareho ders#0 *t can "e summari1ed that it was for the "oard to decide whether or not the company would commence litigation and therefore an ordinary resolution instructing the "oard to discontinue litigation had no effect. To this there are two e ceptions *n relation to litigation G here a general meeting can institute proceedings on "ehalf of the company if the "oard of directors refuses or neglects to do so. <hen there is a deadloc) in the Board of Directors as for instance in the case of Barron v# Porter (1914) 1 1h# 29% The articles of association #ested the power to appoint additional directors in the Board of Directors. There were only two directors namely, Barron and 9orter and the conduct of the company!s "usiness was at a standstill as Barron refused to attend any Board meeting with 9orter. -6BD0 The court held that it was competent for the general meeting to appoint additional directors e#en if the power to do so was "y articles #ested in the Board of Directors. There are some restrictions which place power in certain matters on mem"ers rather than directors including; o 'nything affecting the structure and the scope of the company. o *f directors want to issue shares, mem"ers must pass ordinary resolution pro#iding for how many shares to "e allotted, at what price and time limit for the authority.

o 'ny alteration on the memo and articles of association re4uires special resolution "y mem"ers. They can use these powers to restrict directors! powers. o 'll other matters2actions re4uiring special resolutions e.g. reduction of capital etc. o ' director may "e remo#ed "y ordinary resolution of mem"ers. "ut#ority of directors *ndi#idual directors cannot "ind the company unless gi#en the authority to do so. The authority may either "e; Express 'll decisions hence ta)en are "inding. $mplied This flows from a person!s position. The MD has implied authority to "ind the company on commercial agreements .ust li)e the "oard. -e is further assumed to ha#e all powers usually e ercise "y a MD. Apparent%ostensible *t arises where a director is held out "y other "oard mem"ers as ha#ing the authority to "ind the company. Transactions $eyond t#e $oard%s po!ers Section :& states that the powers of the directors to "ind the company or authori1e another to "ind the company will not "e limited "y anything in the company!s constitution pro#ided the other party is acting in good faith. *t further states that actual )nowledge of lac) of the authority is not enough to count as lac) of good faith thus ma)ing any contract entered into "y the "oard of a company to "e "inding. Section :1 4ualifies this "y pro#iding that where the third party to the transaction is also a director of the company or a person associated with the director, the transaction "ecomes #oida"le at the option of the company. Moreo#er, the third party director or associate, and any director who authori1ed the transaction is lia"le to compensate the %

ACCA class notes compiled by Njihia Kaburu company for any profit made or to indemnify it for any loss or damage arising, whether the company chooses to a#oid the contract or not. Duties of Directors Common law rules and e4uita"le principles made up the law on directors duties "ut this was codified in the Companies 'ct $&&8. Section 1=& pro#ides that old case law is still rele#ant in interpreting the statutory duties. Directors stand at a fiduciary position +standard of trust, with the company that re4uires them0 Duty to act within powers section &'& The constitution of the company +usually the memorandum and articles of association, "ut under the 'ct now simply the FconstitutionH, is one or more documents setting out the rules "y which the company is to "e operated. <hile the constitution is su".ect to the 'ct, it sets out what powers directors ha#e and how they are to e ercise them. Directors must a"ide "y these rules. Directors must also e ercise their powers for proper purposes. *f a power is gi#en for one purpose, they cannot e ercise it for a different purpose, e#en if they thin) that to do so would "e in the "est interests of the company failure to which the transaction will "e #oid, unless it!s appro#ed "y the shareholders. 3o** v 1ramphorn (1964) Directors ga#e further shares and pro#ided financial assistance for their purchase in attempt to fight a ta)e3o#er, thin)ing its in the "est interests of the company. -6BD; the directors were in "reach of duty to act within powers, could only "e sa#ed "y mem"ers ratifying their actions, which they did in this case. Duty to exercise reasonable care( s)ill and dili!ence section &'* Directors must continue to act with reasona"le s)ill and care. *f they ha#e special s)ills or )nowledge then they will "e e pected to e ercise

them. 5therwise they will "e measured against the standard of a reasona"le person occupying their position. The director should act with standards of a reasona"le diligent person with; o The general )nowledge, s)ill and e perience that could reasona"ly "e e pected of a director; and o 'ctual )nowledge, s)ill and e perience held "y the director. Dorchester Finance 1o td v !te))in* (1929) ' money lending company had three directors including defendant with all ha#ing considera"le accountancy and "usiness e perience +$ were chartered accountants,. /o "oard meetings were held with the other two lea#ing management of company to defendant, only turning up to sign "lan) che4ues. The defendant loaned out company money without following statutory regulations. -6BD0 all three were lia"le in negligence, "ecause if a director has special s)ills e.g. accountant, he should use it for the "enefit of the company. *n addition to esta"lishing the degree of care and s)ill re4uired "y a director, the case of 5e 1ity 67uita) e Fire ,nsurance (19&%) also esta"lished that0 Directors aren!t "ound to gi#e continuous attention to company affairs "ut should at least attend "oard meetings whene#er a"le to do so. Directors may rely on employees to perform functions properly delegated in a"sence of any suspicion. Duty to avoid conflict of interest Section &'+ The Directors must not place themsel#es without consent of the company in a position in which there is a conflict "etween their duties to the company and their personal interests. (ood faith must not only "e done "ut it must also manifestly "e seen to "e done. The law will not allow a director to place himself in a position where he will ha#e his .udgments to "e "iased and then argue that he was not "iased. This principle applies particularly when a Director enters into a contract with his company or where he ma)es any secret profit "y 8

ACCA class notes compiled by Njihia Kaburu "eing a Director. Such contract is therefore #oida"le at the instance of the company. This duty is not infringed if the matter has "een authori1ed "y the directors pro#ided the articles do not in#alidate the authori1ation +for pri#ate companies,, or e pressly allow the authori1ation +for pu"lic companies,. *n determining #alidity of the authori1ation, the concerned director does not count towards 4uorum and his #otes are not included. *t can thus "e summari1ed that directors must "e specifically authori1ed "y the "oard to allow them to continue to act in such a case. The scope of the section is #ery wide, co#ering not only actual conflicts of interest, "ut possi"le conflicts of interest as well. 'll directors who face actual or possi"le conflicts of interest "y #irtue of their position must either o"tain authority to act, or remo#e the possi"ility of the conflict, or resign as directors. Duty to promote success of the company section &', ' director must act in good faith, in a way which promotes the success of the company and for the "enefit of the mem"ers as a whole. This means they should always consider; Bi)ely conse4uences of any decision in the long3term. *nterest of the company!s employees. /eed to ha#e good "usiness relationships with the suppliers, customers and others. /eed to act fairly as "etween mem"ers of the company. Company!s desire to maintain reputation for high standards of "usiness conduct. *mpact of company!s operations on the community and the en#ironment. Duty not to accept benefits from third parties section &'' director must not accept any "enefit from third parties which arises "y reason of him "eing a director, unless the acceptance cannot reasona"ly "e regarded as li)ely to gi#e rise to a conflict of interest. This means that directors should ensure that they do not recei#e any

"enefits not pro#ided for, or allowed, under the constitution of the company. The only e ceptions will "e "enefits that are so minor that they could not "e thought to influence the director in any way. Duty to exercise independent jud!ment section &'. ' director must e ercise independent .udgment in management of company affairs. 6.g. the directors cannot contract either among themsel#es or with third parties as to how they will #ote at future Board meetings. This means that a director must act in the interests of the company. *t will usually "e a "reach of duty for a director to act in accordance with the instructions of some other person. Duty to declare interest in proposed transaction or arran!ement section &'' *f a director of a company is in any way, directly or indirectly, interested in a proposed transaction or arrangement with the company, he must declare the nature and e tent of that interest to the other directors. This declaration is made in writing at a "oard meeting or "y a general notice that he has interest in athird party. ,D1 8 1oo ey Cooley, MD of *DC in course of negotiating a contract on "ehalf of the company reali1ed that the third party wished to award the contract to him personally. -e thus resigned without disclosing the reason and too) up the contract. -6BD0 he was in "reach of his duty for hr had profited "y use of an opportunity which came to him through directorship. -e was accounta"le to the company for "enefits gained under the contract. -owe#er, Directors may ma)e use of opportunities originally offered to the company and there"y ma)e profits pro#ided that some : conditions are satisfied namely 1. The opportunity must ha#e "een re.ected "y the company; $. *f the directors acted in connection with that re.ection, they must ha#e acted "ona fide in the "est interests of the company. =

>. :.

ACCA class notes compiled by Njihia Kaburu The information a"out that opportunity should not ha#e "een gi#en to them confidentially on "ehalf of the company. Their su"se4uent use of that information must not relate to them as directors "ut as any other ordinary person.

Peso !i ver mines v# 1ropper (1966) %2 D#L#5# 1 The Defendant was the company!s Managing Director. The Board of Directors was approached "y a prospector who offered to sell his claims to the company. The company!s consulting geologists ad#ised that it was in order for the company to ac4uire the claims. The directors decided that it was inad#isa"le for the company to ac4uire the same mainly "ecause of its strained financial resources. Su"se4uently at the suggestion of the geologists, some of the Directors agreed to purchase the claims at the price at which they had "een offered to the company. Thereafter they formed a company which too) o#er the claims and a second company for de#eloping the resources. 'fter the control of 9eso Sil#er Mines had changed the new directors "rought an action against the Defendant to account to the company for the shares held "y them in the new companies. But here the court held that since the company could not ha#e ta)en o#er the claims, there was no conflict of interest "etween the Directors and the Company and therefore the Defendant was not lia"le to account for the shares. Summary There are se#en general duties in the new statutory statement. These are0 ' duty to act in accordance with the company!s constitution, and to use powers only for the purposes for which they were conferred. ' duty to promote the success of the company for the "enefit of its mem"ers. This replaced the common law duty to act in good faith in the company!s interests; ' duty to e ercise independent .udgment. There was no e act e4ui#alent duty at common law. -owe#er, the common law imposed an o"ligation on directors not to fetter their discretion to

act or to ta)e decisions G this aspect of the general duty replaced this o"ligation; ' duty to e ercise reasona"le care, s)ill and diligence. This replaced the common law duty of care and s)ill; ' duty to a#oid conflicts of interest +e cept where they arise out of a proposed transaction or arrangement with the company G see "elow,. 't common law, if a director allowed his personal interests, or his duties to another person, to conflict with his duty to the company then, unless shareholders consented to the conflict0 +i, the company could a#oid any rele#ant contract and +ii, he had to account to the company for any Isecret profit! he had made out of the arrangement. The new duty replaced this old rule; Duty not to accept "enefits from third parties. There was no e press duty to this effect at common law. *t appears to deri#e from the duties to act in the company!s interests and the rule dealing with conflicts of interest; and ' duty to declare to the company!s other directors any interest a director has in a proposed transaction or arrangement with the company. 't common law, a conflict of interest arising out of a transaction or arrangement with the company was dealt with "y the general rule on conflicts of interest, descri"ed a"o#e. /ow, such a conflict is co#ered "y this new duty of disclosure.

ACCA class notes compiled by Njihia Kaburu 'ny property ta)en "y the director, still in his possession may "e reco#ered from him. 9roperty may "e reco#ered directly from a third party unless the third party ac4uired it for #alue and in good faith. 'n in.unction may "e an appropriate remedy where "reach ahs not yet occurred. Section $>$ pro#ides that any pro#ision to e empt a director from or indemnifying him against any lia"ility for "reach of duty of negligence is #oid. -owe#er, section $>C states that the company can ratify a "reach of duty "y passing an ordinary resolution. Control of directors The mem"ers2shareholders ultimately control the company despite delegating some of their duties to the directors! esp. the day3day running o the "usiness. Most decisions re4uire a ma.ority of o#er %&J +some =%J,. Mem"ers e ercise their #otes in their own interests3 not "ound "y the "onafide rule li)e directors +"est interests of the company,. Thus minority shareholders may find their #iews ignored. Such shareholders ha#e the following remedies; 'ny mem"er Can apply to the court to prohi"it a payment out of capital "y a pri#ate company. Bigger or e4ual Can force inclusion of a resolution on the agenda of to %J #oting the '(M. rights Bigger or e4ual Can re4uire directors to call a general meeting to 1&J #oting rights Bigger or e4ual Can apply to the court to cancel a #ariation of class to 1%J #oting rights rights Bigger or e4ual Can defeat a special resolution to alter name, to $%J #oting articles, reduce share capital or wind up the ;

&reac# of directors duties Directors owe their duties to the company as a whole i.e. shareholders as a collecti#e "ody including present and future shareholders. They don!t owe the duty to indi#idual mem"ers Perciva v 9ri*ht (19:&)# *f they "reach their duties, the following conse4uences may "efall them; Contracts entered into "etween the company and the director any "e rendered #oida"le. The director may "e re4uired to indemnify any loss suffered "y the company.

ACCA class notes compiled by Njihia Kaburu rights company. Certain matters e.g. su"stantial property transactions3 director ac4uires from the company or #ice3#ersa a su"stantial non3cash asset +e ceeds K1&&,&&& or 1&Jof Co!s asset #alue and is more than K%,&&&, re4uire the appro#al of mem"ers in a general meeting in order to "e #alid. Failure to o"tain mem"ers! appro#al means; The transaction is #oida"le "y the company, unless mem"ers gi#e appro#al in reasona"le period. The director is lia"le to account to the company for nay gain or indemnify it against any loss. COM I'ED &() Francis *+i#ia ,a$uru- IMIS .Dip-/, ''-& .0ons-/, ''-M .cont/'ecturer, Os#!al College-