1 September 2023

The Lifecycle of a Business - Becoming a Director – What to Consider

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!

Becoming a Director – What to Consider

In England and Wales, every private company limited by shares is required to have at least one appointed director who is responsible for undertaking the day-to-day management of the company.

For some, being appointed as a director can be a key milestone in terms of career progression, whilst for others it is seen as an administrative matter to be dealt with as part of the establishment of a new business venture or tax planning.

In all cases however, the role of a director should not be taken lightly. All directors are subject to various obligations and duties. Here we set out some of the issues that you should think about before becoming a director.

Key duties and obligations

The Companies Act 2006 codified various general duties of directors which had previously been dealt with under common law. Briefly, these are:

  1. To act within powers.
  2. To promote the success of the company.
  3. To exercise independent judgement.
  4. To exercise reasonable care, skill and diligence.
  5. To avoid conflicts of interest.
  6. Not to accept benefits from third parties.
  7. To declare any interest in a proposed transaction or arrangement with the company.

In addition, duties can be owed to other parties in certain circumstances, for example, a duty to creditors when a company is insolvent.

Personal liability

Due to their unique position and the importance of complying with the various duties imposed on them, directors can be made personally liable in some situations.

Personal liability can arise not only where one of the duties or obligations outlined above has been breached, but also where the company is found to be in default of other legislation. Common examples include directors being personally liable to repay dividends which have been unlawfully declared by a company, directors being found liable for the debts of the company in the event of fraudulent trading, financial penalties in respect of the company failing to make certain filings at Companies House and directors being liable for certain environmental matters.

Breach of certain duties may also lead to the director being disqualified from acting as such.

In certain circumstances, there may be potential protections available to a director in (or allegedly in) breach. For example, the Court may grant relief if it considers that the director has acted honestly and reasonably and ought fairly to be excused in all the circumstances, the director may have the benefit of an indemnity from the company which will reimburse the director for the costs incurred in respect of certain claims and litigation brough against them (provided that they are successful) and companies may also offer directors’ and officers’ insurance cover (D&O Insurance).

Executive or non-executive?

Executive directors are usually employees of the company and will be responsible for the day-to-day management of the business, whereas non-executive directors tend to have a supervisory role and will not be involved in the company’s day-to-day operations. It is usually larger companies that have a mixture of the two.

As an executive director, your employment contract will include additional duties and obligations and breach of these could result in a claim against you by the company for breach of contract (as well as potentially also being a breach under the general duties mentioned above).

This is not to say, however, that non-executive directors have an easier/less onerous role. Usually they will have a letter of appointment setting out what is expected of them and legislation does not differentiate between the two roles; the general duties and obligations owed by directors apply equally to executive and non-executive positions.

To read more about how non-executive directors can help a company and the issues to consider before becoming one, see So You Want To Be A Non-Executive Director.

Specific knowledge or expertise

Having specific knowledge or expertise will be a factor in determining your obligations as a director. For example, if you are appointed as the Finance Director, you will be expected to have a higher level of knowledge and understanding of financial matters than, for example, the HR Director.

In addition, while there is a general duty that all directors will exercise a minimum standard of skill and care, that standard will be raised if you have any particular skill or expertise.

Shareholder-directors

If you are both a shareholder and director of the same company, you will be wearing two different “hats” and will need to be careful how you approach decision-making as a director. Sometimes it can be difficult to ascertain whether director-shareholders have carried out their duty as a director or whether they have done so while acting in their interests as an owner of the company. Shareholders can make decisions purely in their own interest, but this is not possible for a director, who must promote the success of the company for the benefit of its members as a whole. Acting for the benefit of members as a whole can conflict with what a particular individual shareholder wants.

A shareholder-director should know what they may and may not do as a director without notifying the other shareholders and whether notification is required in advance of any action. Disclosure and evidence of decision-making for shareholder-directors will be important.

Size of the board

The permitted and actual size of the board of directors in question will also be a factor to consider. Understand the minimum and maximum number of directors that are permitted to be appointed. A minimum of one director is required to register a private company and two for a public company, but otherwise, there is no statutory limits to the number of directors. However, the company’s articles of association may specify a minimum and maximum number of which you should be aware.

Having too few members on the board could put the company at risk if a director resigns, whereas it can be difficult to get a larger number to agree on decisions (plus a greater number will also incur more expense for the company). A larger company may require a greater number of directors than a smaller company to accomplish all the work it requires and provide greater diversity of backgrounds and viewpoints for decision-making purposes.

Minimising risk

There are various steps which you should take before being appointed as a company director. Following these will help to reduce any risk associated with becoming a director and ensure that you are comfortable with your appointment:

  1. Do your homework

    Make sure you have undertaken appropriate research on the company and its business. Ask to review minutes of recent board meetings and ensure that you are fully briefed on any key commercial challenges, litigation and the financial health of the company.

    If possible, spend some time at the company before your appointment. Speak to members of staff and other members of the board to gain more “inside knowledge” about the company and its operations. It’s a good idea to continue to do this once you are appointed.

  2. Clarify your role

    Ensure you fully understand what your position as a company director entails. Will you be an employee with an employment contract? Do you have the appropriate skills for the role, particularly if you are being appointed for your expertise and experience, and can you dedicate the time required? Being a board member is not just a matter of turning up to board meetings. You will need to read board papers and contracts and may need to attend meetings with lawyers, accountants and so on, as well as spend time considering the actions that you think the board should take.

  3. Information sharing

    If you do not have day-to-day oversight of specific parts of the business, be clear about how information will be shared with you and who has any specific responsibility for particular tasks. As a director, burying your head in the sand and ignoring an issue is not an option.

  4. Contractual protection

    Companies are not permitted to grant directors exemptions from liability in respect of their negligence, default, breach of duty or breach of trust and indemnities in respect of such matters will similarly be void. However, companies can indemnify directors against certain costs associated with particular types of litigation and claims which may be brought, provided the directors are successful. You should discuss this option with the company and understand fully if and when you will be covered by an indemnity.

  5. Insurance

    Most companies will take out third party D&O Insurance. Potential directors should check whether the company has such a policy, and ensure that they are comfortable with the scope of cover.

  6. Take professional advice

    Make sure that appropriate professional advice is sought when required. This could be legal, financial, or other advice related 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.

    Being completely up-to-speed on your duties and obligations is paramount. If you think it necessary, take legal advice before your appointment so that you are fully aware of your duties and obligations and ensure that going forward, the board receives refresher training on a fairly regular basis.

Disclaimer

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

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