Lifecycle of a Business – Money, Money, Money: Directors’ Duties and Financial Accounts

• 27 October 2023
• News

Setting up and running your own business is an amazing achievement. It requires vision, creativity, motivation and stamina. On occasion, it can even bring you fame, riches and fortune.

But it can also result in reams of paperwork and cause sleepless nights. And as someone once said to me about children “It doesn’t get easier, it just changes”, so the same can be said for your business throughout its lifecycle. From setting up to exit, it will force you to consider issues that you might not previously have known anything about and it will need you to make many decisions, sometimes very quickly. What it certainly is not is mundane.

With this in mind, the corporate team at Forsters, together with some of our specialist colleagues, has written a series of articles about the various issues and some of the key points that it may help you to know about at each stage of a business’s life. Not all of these will be relevant to you or your business endeavours, but we hope that you will find at least some of these guides interesting and useful, whether you just have the glimmer of an idea, are a start-up, a well-established enterprise or are considering your exit options. Do feel free to drop us a line or pick up the phone if you would like to discuss any of the issues raised further.

Moving on to Directors: Lights, Camera, Action!

Money, Money, Money: Directors’ Duties and Financial Accounts

We’ve recently written about the general duties of directors which are set out in the Companies Act 2006 and in that article, briefly mentioned that other, more specific duties and obligations may also apply, including, for example, in relation to a company’s financial accounts. Broadly, the directors of a company have to be satisfied that the annual accounts provide a true and fair picture of the company’s financial position before they are approved and filed at Companies House. But how can they do this and why is compliance important?

What is the duty?

A Company’s financial accounts must be approved by the company’s directors and filed at Companies House each financial year. However, by law, the accounts must not be approved unless they give a true and fair view of the financial position of the company, including its assets and liabilities. If a director is not convinced that the information contained in the accounts provides a true and fair view, the accounts should be investigated and any necessary adjustments made.

The words “true” and “fair” can be considered at face value when considering the company’s accounts. In other words, do the accounts show a picture of the company which is, in the context of the directors’ knowledge of the business and the necessary application of accounting rules, an accurate reflection of what has happened during the relevant financial period and the situation at the end of the year? If a director thinks something material is missing or that something has been described in a misleading way, they should add a disclosure or make a correction. “Fair” is also important as it implies balance.

The accounts can be approved by a majority of the directors and once approved, one director needs to sign the balance sheet, directors’ report and any strategic report being submitted to Companies House. For this reason, the approval decision should be made at a formal board meeting and documented in the minutes. Any discussions and any dissenting views that have been expressed by any director should also be recorded in those minutes. Recording such matters is particularly important; if approved annual accounts do not comply with the statutory requirements, every director who knew that they did not comply or failed to take reasonable steps to ensure compliance, or to prevent the accounts from being approved, commits an offence.

Objective professional judgement must be applied during the preparation of the accounts and when considering whether the accounts give a true and fair view. Although directors can delegate the preparation of the accounts, they cannot abrogate their responsibilities and simply defer to others in relation to the accounts’ content and approval. They must be open to challenging other members of the board on the decisions being made. A lack of awareness will not provide a director with any defence in a breach of duty claim.

Incorrect accounts?

Directors have a legal duty not to file false information at Companies House. Knowingly or recklessly delivering information or making a statement to the Registrar of Companies that is misleading, false or deceptive is a criminal offence and can lead to fines and/or imprisonment.

To commit such an offence, a director has to have:

1. knowingly or recklessly submitted false information; or
2. failed to take reasonable steps to secure compliance with the requirements or prevented the accounts or report from being approved.

This means that if the accounting records are not reasonably accurate, every director (as well as any other officer, including the Company Secretary, Head of Finance and shadow directors, who have taken part in the production of the accounts for filing) may be criminally liable. It also means that any director who was careless about the legal requirements may be personally guilty of an offence. A director could also be liable to compensate the company for any losses it suffers as a result of an inaccurate report.

Repeated failure to comply with filing duties or conduct which makes the director in question unfit to be concerned in the management of a company could result in the individual’s disqualification from acting as a director of a company for up to 15 years.

An honest mistake?

We are, after all, only human and mistakes do happen. On this basis, inadvertently filing inaccurate information is unlikely to cause a breach and any inaccuracies which are discovered may be corrected using Companies House’s second filing service.

True or on time?

Where directors find themselves caught between the duty to file the accounts on time and not knowingly or recklessly filing documents which are misleading, false or deceptive, it is worth noting that filing accounts which are materially incorrect is much more serious than filing them late.

That said, Companies House does issue fines for late filings and there is no guidance as to how directors should deal with this situation. It should therefore be assumed that Companies House is not going to look too kindly on a company which finds itself in this position and so it is important for directors to get up-to-speed with the company’s activities and financial position in plenty of time before having to approve and arrange the filing of the accounts.

Failure to submit accounts can result in Companies House striking off the defaulting company from the company register. There is a detailed and fairly lengthy process for this and also plenty of adverse consequences for all involved in the company, including assets becoming the property of the Crown, disqualification of directors and directors being liable for company debts, not to mention the reputational issues at stake.

Practical steps

• Ensure that robust processes of verification are in place prior to the release of any information.
• Practise good record-keeping by documenting decisions and the decision-making process. Ensure that the approval of the accounts (as well as any discussion and challenge) is set out in formal board minutes – it is difficult for a director to prove that their duties have been exercised if there is no permanent record of the decisions made.
• If a director has not, or cannot, satisfy themselves that the accounts reflect a true and fair position of the company’s financial position, they should not approve the company’s financial statements.
• Being completely up-to-speed on your duties and obligations as a director is of prime importance and the role of a director should never be taken lightly. You should seek professional advice if required. This could be legal, financial or other advice relating to a particular problem or situation. Directors are not expected to know everything, but they are expected to do what is needed to ensure that they are discharging their duties appropriately.

Disclaimer

This note reflects the law as at 27 October 2023. The circumstances of each case vary and this note should not be relied upon in place of specific legal advice.

Lifecycle of a Business – Directors are best-placed to make the commercial decisions

• 16 October 2023
• News

Setting up and running your own business is an amazing achievement. It requires vision, creativity, motivation and stamina. On occasion, it can even bring you fame, riches and fortune.

But it can also result in reams of paperwork and cause sleepless nights. And as someone once said to me about children “It doesn’t get easier, it just changes”, so the same can be said for your business throughout its lifecycle. From setting up to exit, it will force you to consider issues that you might not previously have known anything about and it will need you to make many decisions, sometimes very quickly. What it certainly is not is mundane.

With this in mind, the corporate team at Forsters, together with some of our specialist colleagues, has written a series of articles about the various issues and some of the key points that it may help you to know about at each stage of a business’s life. Not all of these will be relevant to you or your business endeavours, but we hope that you will find at least some of these guides interesting and useful, whether you just have the glimmer of an idea, are a start-up, a well-established enterprise or are considering your exit options. Do feel free to drop us a line or pick up the phone if you would like to discuss any of the issues raised further.

Moving on to Directors: Lights, Camera, Action!

Directors are best-placed to make the commercial decisions – ClientEarth v Shell Plc

We recently wrote an article about the general duties of directors as set out in the Companies Act 2006 (the Act). As mentioned in that article, section 172 of the Act sets out the duty to promote the success of the company for the benefit of the members as a whole and includes a non-exhaustive list of factors that the directors should consider when making any decision.

The recent case of ClientEarth v Shell Plc confirmed that a director’s general duties are those as set out in the Act, “incidental” duties do not apply and the courts will not seek to interfere with the commercial decision-making of directors, provided that they are acting in good faith.

What was the case about?

ClientEarth, an environmental law charity and a shareholder in Shell Plc (Shell), sought to bring a derivative claim against Shell’s directors on the basis that their management of the risks posed to Shell relating to climate change was in breach of their general duties as directors.

Although a director’s statutory duties are owed to the actual company and therefore, it is the company itself that must bring any claim for breach of those duties, it is possible for shareholders to bring a derivative action on behalf of the company, provided that the court gives permission. Initially, the court makes this decision based on papers only, i.e. there is no oral hearing.

Among other points, ClientEarth alleged that Shell’s directors had failed to ensure that the company had a measurable and realistic pathway to achieving net zero by 2050 and that as such, the directors were in breach of their section 172 duty to promote the success of the company for the benefit of the members as a whole and also their duty to exercise reasonable care, skill and diligence (section 174 of the Act). ClientEarth also argued that six further duties relating to climate change (including, for example, “a duty to make judgments regarding climate risk that are based upon a reasonable consensus of scientific opinion”) apply to directors of companies like Shell. These “incidental” duties are at no point mentioned in the Act.

What did the High Court decide?

The High Court refused permission for ClientEarth to bring a derivative claim, but granted the charity leave to exercise its right to an oral hearing to reconsider the decision, which it took advantage of. At the oral hearing, the High Court again dismissed ClientEarth’s application for permission to bring the derivative claim against Shell.

The High Court was of the view that ClientEarth had no evidence to show that a reasonable board of directors could not have decided that Shell’s net zero strategy was achievable.

Shell’s directors had put in place a net zero strategy and just because the directors’ chosen strategy did not align with ClientEarth’s view on what the strategy should encompass, this did not mean that the directors were in breach of their general duties. Directors of a company, especially one as large and complex as Shell, have many competing considerations to take on-board when making commercial decisions and these would not have been taken into account by ClientEarth.

The judge made clear that the directors of a company are best-placed to make commercial decisions with a view to promoting the success of the company for the benefit of the members as a whole and that the courts would be loath to interfere with that.

The “incidental” duties suggested by ClientEarth were not relevant and represented an attempt by ClientEarth to impose “specific obligations on directors as to the management of a company’s business and affairs”.

The fact that ClientEarth had a very small number of shares in Shell (27) was also relevant. Even with the support that the charity had garnered from other shareholders, they still represented a very small minority of the Shell members, the vast majority of which had supported the company’s net zero strategy. The judge considered that the charity was possibly pursuing its own agenda – to advance its own climate change policy – rather than seeking to bring the claim for the benefit of Shell.

What does this mean?

The case made very clear that the general duties of directors are those which are set out in the Act and that “incidental” duties do not apply. Such “incidental” duties would impede the directors’ freedom to make decisions. In addition, the judgment repeated the long-established principle that the management of a business is a matter for the directors acting in good faith, not the courts. Consideration and weighing of the non-exhaustive list of factors set out in section 172 of the Act “is essentially a commercial decision, which the court is ill-equipped to take, except in a clear case”.

While a positive takeaway for directors, this is not to say that directors have a completely free rein to act as they choose. The general duties set out in the Act most certainly have “bite” and directors will need to be able to show that they have considered, and complied with, such duties in relation to their decision-making, actions and inactions.

Record-keeping is important, particularly where decisions are complex or controversial, and while directors cannot absolve themselves of responsibility for the final decision, professional advice should be taken in matters which are outside a board’s usual remit.

Disclaimer

This note reflects the law as at 16 October 2023. The circumstances of each case vary and this note should not be relied upon in place of specific legal advice.

The Lifecycle of a Business – What are my duties as a director?

• 5 October 2023
• News

Setting up and running your own business is an amazing achievement. It requires vision, creativity, motivation and stamina. On occasion, it can even bring you fame, riches and fortune.

But it can also result in reams of paperwork and cause sleepless nights. And as someone once said to me about children “It doesn’t get easier, it just changes”, so the same can be said for your business throughout its lifecycle. From setting up to exit, it will force you to consider issues that you might not previously have known anything about and it will need you to make many decisions, sometimes very quickly. What it certainly is not is mundane.

With this in mind, the corporate team at Forsters, together with some of our specialist colleagues, has written a series of articles about the various issues and some of the key points that it may help you to know about at each stage of a business’s life. Not all of these will be relevant to you or your business endeavours, but we hope that you will find at least some of these guides interesting and useful, whether you just have the glimmer of an idea, are a start-up, a well-established enterprise or are considering your exit options. Do feel free to drop us a line or pick up the phone if you would like to discuss any of the issues raised further.

Moving on to Directors: Lights, Camera, Action!

What are my duties as a director?

Whether you’re the sole director of a small owner-managed company or the CEO of a multinational enterprise, you’ll be subject to various duties and obligations and it’s imperative that you’re aware of these before you’re appointed and remember them throughout your directorship (and in some cases, after it ends as well). For further guidance as to what to consider before becoming a director, see here.

What are a director’s duties?

The general duties of a director of a company are set out in the Companies Act 2006 (CA 2006) and all directors must abide by these. These are discussed in more detail below.

In addition, a company’s articles of association (the articles) may include additional obligations and further duties are set out in other legislation and case law which may be relevant, for example, health and safety law, environmental law, accounting requirements and so on. It’s also worth bearing in mind that where a director is an employee of the company, they’ll also be bound by the terms of their contract of employment.

General duties of directors

Set out in the CA 2006, the general duties should be considered by directors whenever they make any decisions or act (or decide not to act) in their capacity as a director. The duties are owed to the company, not to, for example, shareholders. More than one general duty may apply at any given time and breaching one duty to comply with another is no defence.

Further guidance about what directors should and shouldn’t do to comply with these duties can be found here.

1. Duty to act within powers (section 171, CA 2006) – Directors must only act in accordance with the company’s constitution (i.e. the articles) and exercise their powers only for the purposes for which they’re conferred. This latter part will depend on the circumstances in question but basically directors mustn’t exceed the scope of their powers.
2. Duty to promote the success of the company for the benefit of the members as a whole (section 172, CA 2006) – Probably the most significant of the general duties, this should be at the forefront of every director’s mind when making company-related decisions. The provision includes a non-exhaustive list of factors which directors should consider, including the likely long-term consequences of any decision, the need to act fairly between members, employees’ interests and the impact on the community and environment. This latter point is highly topical with ESG being an important consideration for many businesses. That said, this doesn’t mean that a company’s actions must only be beneficial to the environment and we’ll cover this in more detail in a future article.
   It’s not always necessary for the board to fully document their discussion of these various factors although board minutes should always record that they’ve at least been considered. However, where a decision is or may be contentious, then it’s probably worthwhile to include more detail as to the factors considered and the reasons behind the end-decision, so that there’s a paper trail should questions arise at a later date.
   The legislation doesn’t define “success”, although for most businesses it’s likely to mean long-term profitability. However, for some companies, charities for example, this may not be the objective.
3. Duty to exercise independent judgement (section 173, CA 2006) – Directors must make their own decisions after taking into account the circumstances and any relevant factors. This isn’t to say that external advice can’t be taken; in fact, in some situations where specialist expertise is required, a director could be in breach of their duties by not taking such advice, but the director has to come to their own decision after taking any such advice into account. Nor does this duty prevent delegation; this wouldn’t be feasible unless the company was very small, but delegation doesn’t absolve any director of responsibility.
   This duty can cause difficulty between board members and a junior director may find it difficult to openly disagree with a more experienced member of the board, but taking a collective line simply because it’s expected rather than because you agree with it, would be a breach.
4. Duty to exercise reasonable care, skill and diligence (section 174, CA 2006) – There are two levels to this duty – objective and subjective. A director must use the care, skill and diligence that would be expected of any director in making a decision (objective). However, if that director has a particular skill or expertise, then that will also be taken into account (subjective). So, for example, if a director has 20 years of experience as an accountant, they’d be expected to bring that expertise to bear in relation to reviewing the company’s accounts.
5. Duty to avoid conflicts of interest (section 175, CA 2006) – A director must avoid any situation in which they have or could have a direct or indirect interest that conflicts, or could conflict, with the company’s interests. If, for example, a director holds directorships in a number of companies, his use of information regarding the property, for example, of Company A for the benefit of Company B would be a breach of this duty.
   Case law has provided that this duty continues to apply even after a director has resigned (see here). An obvious example of this is where a director resigns from Company X to work for Company Y and uses the information he acquired while a director of Company X to further Company’s Y’s business.
   Often, the company’s articles will permit the independent (i.e. non-conflicted directors) to authorise any such conflict although you must ensure that there is still a quorum (minus the conflicted director) to do this. The articles of a company may provide for a different quorum for directors’ meetings to approve any conflicts. Failing that, the members may be able to authorise.
6. Duty not to accept benefits from third parties (section 176, CA 2006) – Essentially an anti-bribery duty, a director mustn’t accept any benefit if it’s given because of their position as a director or in relation to their acting (or not acting) as a director in a certain way. “Benefit” isn’t defined and so common sense is required here. Clearly, a director involved in the tender process for a large piece of work shouldn’t be accepting gifts from one of the bidder entities, although accepting a working lunch invitation from your legal advisor to discuss a transaction that they’re advising you on is probably fine. A company’s articles or anti-bribery policy may include further detail as to what’s acceptable.
7. Duty to declare an interest in a proposed transaction (section 177, CA 2006) – Any director who has an interest in a transaction which the company proposes to enter into must declare that interest as soon as possible. For example, if Company E intends to acquire the shares of Company F and a director of Company E is a shareholder in Company F, this must be declared to the board of Company E. The declaration need only be given once.

What happens if a director is in breach?

A breach of any of the above duties can have various, potentially serious, consequences. As mentioned, the duties are owed to the company and so it’s the company who’ll bring any claim against a defaulting director. That said, members are, on occasion, able to bring a derivative claim on behalf of the company.

Remedies may include damages, the granting of an injunction to stop the director from acting in a certain way or requiring the director to account for profits. Directors in breach may also have their employment terminated and be disqualified from acting as a director in the future. The damage to a person’s reputation should also not be underestimated.

While resigning from your position as a director may seem like a sensible option if there’s been a breach or if you’re not happy with the decision-making of the rest of the board, care should be taken as such a step may not solve the problem and in certain situations, could make it worse.

You should take legal advice as soon as possible if you think that you may have breached or are in breach of a duty or if you suspect that another director has done so.

Disclaimer

This note reflects the law as at 5th October 2023. The circumstances of each case vary and this note should not be relied upon in place of specific legal advice.