Directors' Duties Under the Companies Act 2006

Introduction

The duties of directors in UK company law were codified for the first time by the Companies Act 2006 (CA 2006), sections 170 to 181. Before the CA 2006, directors’ duties were developed through the common law and equity. The codification did not create new duties but restated the existing fiduciary and common law duties in statutory form, providing greater accessibility and clarity. The statutory duties are owed by directors to the company, reflecting the principle that the company is the proper claimant in respect of breaches of duty.

The Statutory Duties

Section 170(1) provides that the general duties of directors are set out in sections 171 to 177 and are based on the common law rules and equitable principles. The court must interpret the statutory duties in accordance with those rules and principles, ensuring continuity with the pre-2006 case law. The duties are owed by a director — including shadow directors and de facto directors — to the company alone.

Section 171: Duty to act within powers. A director must act in accordance with the company’s constitution and only exercise powers for the purposes for which they are conferred. This duty codifies the common law principle that directors must not exceed the authority conferred by the articles and must exercise their powers for proper purposes.

Section 172: Duty to promote the success of the company. This is the core duty of a director: to act in the way the director considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole. In fulfilling this duty, the director must have regard to six factors: 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 maintaining a reputation for high standards of business conduct; and the need to act fairly as between members of the company. This provision is known as enlightened shareholder value, requiring directors to consider stakeholders while ultimately prioritising the interests of shareholders.

Section 173: Duty to exercise independent judgment. A director must exercise independent judgment and not fetter their discretion, although the duty is not infringed by acting in accordance with an agreement entered into by the company or in a way authorised by the company’s constitution.

Section 174: Duty to exercise reasonable care, skill, and diligence. A director must exercise the care, skill, and diligence that would be exercised by a reasonably diligent person with both the general knowledge, skill, and experience that may reasonably be expected of a person carrying out the functions of the director in relation to the company (the objective test) and the general knowledge, skill, and experience that the director actually has (the subjective test). The dual test ensures that directors with specialist expertise are held to a higher standard.

Section 175: Duty to avoid conflicts of interest. A director must avoid a situation in which the director has, or can have, a direct or indirect interest that conflicts, or possibly may conflict, with the interests of the company. This duty applies particularly to the exploitation of property, information, or opportunity. The duty is not infringed where the matter has been authorised by the board or, in the case of a director of a private company, by the members.

Section 176: Duty not to accept benefits from third parties. A director must not accept a benefit from a third party conferred because of the director’s position or of the director’s doing or not doing anything as a director. There are limited exceptions for benefits of a de minimis nature.

Section 177: Duty to declare interest in proposed transaction or arrangement. A director must declare the nature and extent of any direct or indirect interest in a proposed transaction or arrangement with the company, before the company enters into the transaction.

Consequences of Breach

The consequences of a breach of duty depend on the nature of the duty breached. The company may bring proceedings against the director for: damages or compensation for loss caused by the breach; restoration of company property; an account of profits made by the director; rescission of a contract entered into in breach of duty; or an injunction to restrain a threatened breach. The company may also apply for a derivative claim under sections 260 to 264 of the CA 2006.

Derivative Claims

Part 11 of the CA 2006 introduced a new statutory procedure for derivative claims — claims brought by a shareholder on behalf of the company in respect of a cause of action vested in the company. The procedure replaced the common law exceptions to the rule in Foss v Harbottle (1843) and provides a statutory framework for shareholders to enforce directors’ duties where the company refuses to do so.

A derivative claim under section 260 may be brought only in respect of a cause of action arising from an actual or proposed act or omission involving negligence, default, breach of duty, or breach of trust by a director. The court must give permission to continue the claim, applying a two-stage test: first, the claimant must establish a prima facie case; second, the court must consider whether the claim should be permitted, applying factors including whether the member is acting in good faith, the importance that a person acting in accordance with section 172 would attach to continuing the claim, and whether the cause of action could be pursued in the member’s own name.

Relief from Liability

Section 1157 of the CA 2006 gives the court power to relieve a director from liability for breach of duty where the director acted honestly and reasonably and, having regard to all the circumstances, ought fairly to be excused. The court may grant relief on such terms as it thinks fit. The company may also indemnify a director against liability, subject to restrictions on indemnities in respect of criminal proceedings, regulatory penalties, and certain other matters.

Conclusion

The codification of directors’ duties in the Companies Act 2006 provides a clear and comprehensive framework for the standards of conduct expected of directors. The duty to promote the success of the company under section 172 embodies the principle of enlightened shareholder value, while the duties of care, loyalty, and independence ensure that directors act in the interests of the company. The derivative claim procedure enables shareholders to hold directors accountable where the company fails to do so.