Essential guide to directors' responsibilities

Company directors are responsible for the management of their companies. They must act honestly and promote the success of the business and benefit its shareholders. They also have responsibilities to the company’s employees, its trading partners, and the state.

As a director, you have wide powers to help you promote the company. However, you face serious penalties if you abuse those powers or use them irresponsibly.

Appointing company directors

Exercising directors’ powers

Fiduciary responsibilities

Directors' responsibilities under company law

Potential penalties for directors

Avoiding danger

1. Appointing company directors

Every private limited company must have at least one company director. At least one of the directors must be an actual person (as opposed to another company).

The first director(s) are appointed by the shareholders who form the company

• Directors are often also shareholders or employees of the company, but do not have to be.

Subsequent appointments must follow rules set out in the articles of association

• These typically include procedures and maximum numbers.
• Usually, the board can appoint a new director or the shareholders can appoint a person recommended by the board or proposed as a director in advance.

You can appoint both executive and non-executive directors

• If you are a director but have no executive position within the company, you are classed as a non-executive.
• Non-executive directors still carry the same legal responsibilities as other directors, even if they have nothing to do with the day-to-day running of the company.

Even if not formally appointed, you could be classed as a shadow or 'de facto' director

• You may be a shadow director if the other directors act under your instructions.
• You may be a 'de facto' director if you act as if you were one - for example, if you resign your directorship but continue making decisions as a director.
• As a shadow director or a de facto director, you carry many of the legal responsibilities, and are subject to many of the same penalties as other directors.

Some people are debarred from becoming directors

• Auditors may not be appointed directors of the companies for which they act.
• People who have been disqualified may not be appointed.
• Undischarged bankrupts may not be appointed unless they have first obtained leave from court.
• Directors must be aged at least 16 or over.

Details of directors must be reported to Companies House

• The appointment, departure or change of particulars of any director must be reported within 14 days, using the appropriate form.

2. Exercising directors’ powers

Check if there are any limits on directors’ activities in your company.

You must act within the powers granted in the articles of association

• The articles of association define the rules governing how the company is to be run, including what the directors’ powers and responsibilities are.
• The articles also set out how decisions are to be taken. For example, the procedures for calling a board meeting and how many directors are needed to vote on a proposal.

You must exercise reasonable care, skill and diligence

• The test of an acceptable level of care is what a reasonable person would do in looking after their own affairs, but taking into account the knowledge, skill and experience that you actually have.
• You are generally not liable for the actions of your fellow directors, if you knew nothing about them and took no part in them, but you have a duty to make sure you are informed about the company's affairs. You may well be liable if you turn a "blind eye" to misconduct by your fellow directors.

You must exercise independent judgment

3. Fiduciary responsibilities

As a director, you must act in a way which you think is most likely to promote the success of the company for the benefit of its shareholders. You need to consider a number of statutory factors, including the long-term consequence of decisions, your firm's reputation and the interests of other stakeholders such as employees and the community.

The company is a separate legal entity from its directors, shareholders and employees

• The interests of the company are aligned with the interests of its shareholders as a group (and not necessarily with the interests of particular individual shareholders).
• You must consider the interests of other stakeholders and employees. If your company is insolvent, then the interests of the creditors as a body are paramount.
• You must have regard to the company's reputation.

You must give equal consideration to all shareholders

• Even if you hold most of the shares, or act as the nominee of the major shareholder, you must consider the interests of shareholders as a whole.
• In practice, it is often difficult for a minority shareholder to have a significant say in decisions made by majority shareholders. If you are a minority shareholder, you should aim to include suitable protections in the articles or in a shareholder agreement at the time you set up the company.

You must not use your position to make private profits at the company’s expense

• If you are found to have profited from a contract personally, or to have used your position as a director for your own benefit, you might be forced to hand those profits over to the company (even if the company does not suffer any loss).
• Depending on the company's constitution, it may be possible for the board of directors to authorise in advance an action that benefits a director personally.
• You must also not accept benefits from third parties arising from your position of director.

You are legally obliged to declare any actual or potential conflict of interest

• For example, if you have interests in another company with which your company is planning to do business.

Substantial deals between the company and you must be approved by the shareholders

• This also applies to deals involving someone connected with you, such as a relative.

4. Directors' responsibilities under company law

Directors are personally responsible for ensuring that the company complies with company law.

You must make sure that the statutory returns are filed on time with Companies House

• These include the annual directors’ report, strategic report (unless the business qualifies for the small company exemption) and accounts, the annual confirmation statement, notice of changes to directors and secretaries and register of people with significant control.
• The annual confirmation requires businesses to confirm that the information held by Companies House is correct at least once a year.

All companies have to file accounts with Companies House

• The contents of filed accounts is reduced for medium, small or micro-entity companies based on turnover, balance sheet assets and the number of employees.
• Most medium-sized companies (satisfying any two of the following: annual turnover of no more than £36 million; balance sheet assets no more than £18 million; 250 employees or fewer) can file slightly reduced accounts. These omit some of the detailed information required for large companies.
• Small companies (satisfying any two of the following: annual turnover of no more than £10.2 million; balance sheet assets no more than £5.1 million; 50 employees or fewer) can, if they wish, file abridged accounts. These contain a reduced version of the balance sheet, profit and loss account and directors' report but an election can be made to only file the balance sheet with Companies House.
• Further exemptions apply to micro-entities satisfying any two of the following: annual turnover of no more than £632,000; balance sheet assets no more than £316,000; 10 employees or fewer.
• The Companies House filing requirements for small and medium-sized companies are being changed. Small and micro-businesses will be required to file profit and loss accounts. The detailed requirements and the date this comes into effect have not yet been decided.
• Directors are required to sign a declaration acknowledging their responsibilities with respect to accounting records and the accounts.

Most private companies are no longer obliged to hold an AGM (Annual General Meeting)

• They must hold a general meeting if any director or 5% of shareholders request it.
• Private companies with traded shares must still hold an AGM.
• If you do hold a general meeting, you must give appropriate notice (usually 14 days) and ensure minutes record all decisions. This could protect you if you face legal action.

You are no longer required to circulate copies of the annual accounts for approval

• However, shareholders must be sent a copy before they are filed with Companies House.
• A director must sign the balance sheet and approve and sign off the directors’ and strategic reports.

You must provide company details on business stationery and elsewhere

• You must ensure that the company’s business stationery, website, order forms and emails carry its name, registered number, country of registration and registered address.

5. Potential penalties for directors

Exercise your responsibilities carefully as the penalties for failure to do so can be severe.

Even in a limited liability company, you might be held personally liable for losses

• These include losses arising from illegal acts such as wrongful or fraudulent trading (see below), and acts beyond your powers or undertaken with insufficient skill and care.

Directors can be jointly and severally liable if you act collectively in breach of your responsibilities

• Liability could be unlimited, so you could be made bankrupt as a result of decisions of the other directors, even in a limited liability company.
• If you disagree with the decisions being made, have it noted in the minutes, including your reasons for disagreeing.
• In some circumstances you may wish to resign if you disagree with your fellow directors, but you cannot use resignation as a means to avoid your duties.

You could be disqualified from acting as a director for some types of conduct

• They include continuing to trade when the company is insolvent, failure to keep proper accounting records, failure to pay tax and failure to co-operate with the official receiver.
• Disqualification lasts from two to 15 years.

Some actions could result in criminal convictions

• They include failure to keep proper accounting records, fraudulent trading, health and safety shortcomings and misappropriation of company funds.

6. Avoiding danger

Monitor the financial situation of the company continuously

• You should do this whether or not you are the financial director.

Take steps to minimise losses if the company is in, or faces, financial difficulties

• Ask an insolvency practitioner to advise the board. Take detailed minutes of the meeting.

Make sure that minutes of directors' meetings are maintained in any event

• It is important to show that the directors have considered everything they ought to have considered in making their decisions, even if the decisions have worked out badly.
• If there is a dispute between the directors, you may subsequently seek to show that liability should fall on the other directors rather than you, although the default position is that all directors are liable, and this may be seen as a desperate tactic.

Keep in mind what you can and must do

• If necessary, review the requirements of your employment contract and powers granted under the articles of association and take suitable legal advice.

Whenever possible, avoid giving personal guarantees for the company's debts

• Always negotiate to limit the extent of any guarantee (eg by limiting its duration).

Consider directors’ and officers’ liability insurance

• This will pay for legal expenses, and sometimes, damages awarded against you, if you are sued.
• The company will usually not be able to indemnify directors.