Shareholders Control Directors 8 FAQs

Here you can download our What Can Shareholders Do To Control Directors 8 Frequently Asked Questions answered booklet. An example of the useful information you can find in the booklet is featured below.

Introduction

The historic castle of Fosse v. Harbottle [1843] led to the Rule in Foss v Harbottle which sets out the distinction between the legal entity of a limited Company in UK law as opposed to the legal entity of its owners or its management (i.e. its Shareholders and Directors).

The owners of a limited Company will normally be its Shareholders for conventional limited liability companies. The Rule in Foss v Harbottle states that those Shareholders do not own the Company’s assets or in their personal right have the power to take any proceedings or enforce any rights of the Company, which is a distinct and separate legal entity.

The reason for this distinction is that there are many stakeholders in a limited Company (not just the Shareholders) and the public interest requirements and public information available on a company is a condition of the distance Shareholders are able to put between themselves and the trading entity.

A company exists to fulfil the wishes of Shareholders (generally to generate profits and provide income) without the Shareholders having any personal commitment or risk in allowing such an entity to continue trading, other than their initial investment and ongoing interest. This benefit is balanced out by the need for the Company to act independently of all interests (including its Shareholders) and the need for comprehensive levels of financial information to be publicised by the Company annually at Companies House.

1. What Is The Role Of Directors?

Directors are independent from Shareholders at law (although for small to medium size companies they are often the same individuals) and have the responsibility of running the Company on a day-to-day basis which will include its operations, its strategic direction, its finances, sales and all other decisions made pursuant to the Company’s business objectives.

Under Section 171 of the Companies Act 2006, directors have a primary fiduciary duty to always act to promote the success of the Company, and this generally refers to the generation of profits and maximisation of benefits devolving to Shareholders.

Because of the separate role Directors have from Shareholders, Directors also have a statutory responsibility to act independently of all interests other than the Company’s and to declare any personal interests in transactions they may have or any other conflict their personal interests may have with that of the Company.

It is often a condition of any Directors Service Contract (in addition to the statutory requirements) that s/he never acts in conflict with the Company’s interests and this can include setting up separate competing companies (although this is not unusual and as long as such a conflict is declared it can generally be ratified by Shareholders).

Unfortunately, it is not unusual for Directors to act in conflict with Shareholders’ interests, or perhaps a group of Shareholders’ interests (whether they be Majority Shareholders or Minority Shareholders). In these circumstances the Director(s) acting in conflict with such interests may well be acting in the Company’s interests as a whole; alternatively they may not and as a result may be in breach of their fiduciary duties to the Company.

It is at this point when due consideration needs to be paid as to whether such decisions have been made properly, can be changed, are truly in the Company’s interest as a whole or do they unfairly prejudice a group of Shareholders?

2. HOW ARE DIRECTOR’S DECISIONS MADE?

Under Section 40 of the Companies Act 2006 Directors have the power to bind the Company to contracts and other commitments without seeking the approval of co-Directors or Shareholders (subject to certain statutory restrictions and any restrictions within the Company’s Articles of Association and any Shareholders Agreement).

At common law a Director will often be delegated the function to make specific decisions so that the Company can operate on a day-to-day basis, but on more important aspects there will usually be required a resolution of the Board of Directors.

It is highly desirable that all substantial transactions are authorised by Directors together at an executive Board Meeting, rather than Directors dealing with such decisions in isolation. Any decision made by a Director in isolation can be at risk of being criticised at a later date. However, from a third party’s point of view dealing with a Company in good faith, the commitment by a Director to a transaction will always bind the Company to that agreement (provided they are appointed and subject to any restrictions as described above).

Directors are generally recommended to meet at least once a month to monitor the affairs of the Company and ensure good corporate governance in respect of its financial situation and its strategy. Directors should also discuss at such meetings any conflicts of interest, professional advice given and any transactions which are proposed to be entered into by the Company.

The constitutional documents for the Company, namely the Articles of Association and any Shareholders Agreement drafted for the Company, will define the limit of the Directors’ powers and authority. However under a standard set of Articles of Association a Director can more or less deal with the Company’s assets and business as he sees fit provided he can justify such decisions by reference to Board agreements, the Company’s Objectives and the business considerations generally.

3. What Decisions Require Shareholder In-Put?

Chapter 4 of the Companies Act 2006 contains a breakdown of specific transactions which require the approval of Shareholders. This will be subject to any private agreement between Shareholders (“the Shareholders Agreement”) which may require the approval of Shareholders for specific categories of transaction as determined under the Shareholders Agreement.

One type of transaction which requires Shareholders’ approval is where the Director seeks to be employed by the Company under a Service Level Agreement which is or may be longer than 2 years. In such circumstances, Shareholders are required to approve the employment guaranteed under that employment contract.

Another transaction which requires Shareholders’ approval is where the Company seeks to enter into a substantial property transaction with one of the Directors. This is required whether the Company is buyer or seller. As such a transaction is at risk of great fraud within the Company’s accounts, especially in terms of the valuation assigned to any such asset and the Director’s ability to affect the valuation assigned to the asset in question, then Shareholders are required to vote on such matters.

However this requirement does not apply to cash assets.

There is also a statutory requirement for any loans to a Director, be that in cash or otherwise, to be authorised by Shareholders.

However there are 6 exceptions to this rule which relate directly to the Director’s ability to continue running the Company and in such circumstances Shareholder approval may not be required, as it would otherwise impede the ability of the Company to function on a day to day basis. One example is where the Director acts in proceedings brought against himself personally for breach of a fiduciary duty and he seeks the Company’s assistance in paying his legal fees for defending such matters.

4. What About Payments To Directors Who Are Dismissed Or Resigned?

Where Directors are dismissed or otherwise compensated for the loss of their office as a Director then the company may not make such a payment to the Director unless this payment has been approved by Shareholders.

In agreeing such a resolution Shareholders must initially receive a memorandum outlining the particulars of the payment to that Director, which would normally be broken down into the various amounts paid, the reason for payment and any final payment terms. Without this Memorandum then any Shareholders Resolution approving such a payment is invalid.

The same would apply where part of the Company or its business is to be transferred together with the relevant Director(s) and a payment made for the loss of their office in respect of the original Company.

There is of course a de minimus amount below which no such Shareholder approval is required (as this would be uneconomic). This amount is £200 and any payment to a Director for loss of office below this sum does not require Shareholder approval.

IN ORDER TO FIND OUT MORE ABOUT THIS SUBJECT AND THE ANSWERS TO THE QUESTIONS LISTED BELOW, DOWNLOAD OUR HANDY TIPS BOOKLET HERE.

ALTERNATIVELY, CONTACT THE TEAM ON 020 7841 0390

5. What Liability Exists For Any Such Transactions Not Made With Shareholder Approval?

6. How Can Any Such Transactions Be Prevented?

7. What Other Powers Does A Shareholder Have?

8. When Do Directors Lose Their Legal Duties To Act In Shareholders' Interests?

Should you require any further assistance at all with these matters, then please contact one of our corporate specialists on 020 7841 0390 and we will be happy to discuss this with you.