Chapter 8 - Companies: ownership and management

Question 1

What are the different types of directors? Describe each (7)

Answer 1

Director - Officialy appointed (on incorporation or subsequently) either by existing directors or by ordinary resolution.

De facto director (director in fact) - Anyone who acts as a director, although not validly appointed as one (they have the same powers as a properly appointed director)

Shadow director - Anyone who influences a company’s activities without being formally appointed to the board of directors - someone “in accordance with whose directions or instructions the directors are accustomed to act”

Alternate director - a person who temporarily replaces a company director at board meetings

Executive director - director who is also charged with performing a specific role, eg, a finance director, usually as an employee of the company. If an executive director ceases to be a director, their office will also terminate.

Non-executive director - a director who does not have a particular function but generally just attends board meetings.

Managing Director - Charged with carrying out day-to-day management functions.

Question 2

What are the requirements for becoming the director of a company?

Answer 2

• A director should be aged sixteen or more.
• Must not be disqualified from acting, either by the Company Directors Disqualification Act 1986 or by the articles of association.

Question 3

How many directors are required in a company?

Answer 3

Every company is required to have at least one director who is a natural person (i.e. not another company) and a public company must have at least two directors

Question 4

Are a directors actions valid if their appointment is found to be subsequently defective or void?

Answer 4

A director’s actions are valid even if his appointment is subsequently found to have been defective or void

Question 5

What are the ways a director can be removed from office? (8)

Answer 5

• Death of the director
• Winding up of the company
• Removal by the company
• Disqualification
• Resignation
• Where required to do by articles
• Prohibition by law
• As a result of bankruptcy or a written medical opinion of being physically or mentally unable to act as a director

Question 6

Upon change of director, what main administrative tasks must be undertaken?

Answer 6

Any change in the directors of a company should be recorded in the company’s register of directors and notified to the registrar within 14 days.

Question 7

How can a company remove a director?

Answer 7

A company may remove a director from office by passing an ordinary resolution (< 50%) to that effect.

Special notice (of 28 days) must be given of the intended resolution and the director then has the right to address the meeting and to request that any written representations that he makes be circulated to members or read out at the meeting.

Question 8

What is important to remember about the removal of a director with regards to voting rights and quoroms of meetings?

Answer 8

• A director who is also a member may have weighted voting rights given to him under the constitution - i.e. the articles may state that on a resolution for a director’s removal, the director to be removed has an increased per share
• A shareholders’ agreement might require a member holding each class of share must be present at a general meeting to constitute a quorum. If so, a member holding shares of a certain class could prevent a director from being removed by not attending the meeting.

Question 9

What are directors main powers and what defines them?

Answer 9

Normally directors are authorised, in general terms, to manage the business of the company and to exercise all the powers of the company.

The powers of the directors are defined by the company’s articles and constitution

Question 10

What types of authority is granted to directors? Do these types of authority bind the company through the directors actions?

Answer 10

Question 11

What are the things that place restrictions on the powers of directors? (4)

Answer 11

General statutes - The directors are statutorily bound to exercise powers only “for the purpose for which they are conferred”

Specific statutes - For example alteration of the articles and reduction of capital need a special resolution, which the directors must secure from the shareholders in general meeting before they can act.

Articles - For example the articles may set a maximum amount that the directors are entitled to borrow, any greater amount needing approval of the company in general meeting.

Members - The members can exercise control over the directors’ powers: a) by passing a special resolution to alter the articles, thereby re-allocating the powers between the board and the general meeting and b) ultimately by removing directors from office

Question 12

What are the ‘general duties’ of directors?

Answer 12

• To hold general accountability
• To promote the success of the company
• To act within powers
• To exercise independent judgement
• To exercise reasonable care, skill and diligence
• To avoid conflict of interest
• Not to accept benefits from third parties
• To declare interest in proposed transaction or arrangement

(ASPIRIN – Accountability, Success, act within Powers, Independent judgement, Reasonable skill and care, declare an Interest, No benefits)

Question 13

What is meant by a director must ‘act within powers’?

Answer 13

A director must:
* Act in accordance with the company’s constitution
* Exercise powers only for the purpose for which they were conferred.

If the directors infringe this rule by exercising their powers for a collateral purpose, the transaction will be invalid (unless it is approved or ratified by the company in general meeting)

Question 14

If a director uses their powers irregularly to allot new shares to quash a majority, can the votes attached to these shares be used in reaching a desicion to sanction this action?

Answer 14

If the irregular use of directors’ powers is the allotment of shares, the votes attached to the new shares may not be used in reaching a decision in general meeting to sanction it.

Question 15

What is meant by a director must ‘promote the success of the company’?

Answer 15

A director must act in the way he considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole. He should have regard to:
* The likely long term consequences of any decision
* The interests of the company’s employees
* The need to foster the company’s businesses relationships with suppliers, customers and others
* The impact of the company’s operations on the community and the environment
* The desirability of the company maintaining a reputation for high standards of business conduct
* The need to act fairly as between members of the company

Question 16

What is meant by a director must ‘exercise independent judgement’?

Answer 16

The director must have the ability to make decisions based on their own evaluation and thinking, rather than relying on others’ opinions.

However, it does not mean that he is not exercising independent judgment where he acts in accordance with:
* An agreement duly entered into by the company that restricts the future exercise of discretion by its directors
* The company’s constitution.

Question 17

What is meant by a director must ‘exercise reasonable skill and care’?

Answer 17

The director must demonstrate to exercise the level of skill, care and diligence that would be exercised by a reasonably diligent person with:
* The general knowledge, skill and experience that may reasonably be expected of a person performing his functions as director
* His actual general knowledge, skill and experience.

Simply attending board meetings and not attending to the company’s interests in between meetings is unlikely to be sufficient.

Question 18

What is meant by a director must ‘avoid a conflict of interest’?

Answer 18

A director must avoid a situation in which he has or can have a direct or indirect interest that conflicts or possibly may conflict with the interests of the company or another duty.

Question 19

When would the duty to avoid a conflict of interest not be infringed despite the possibility of one arising? What protocols must take place?

Answer 19

The duty is not infringed if the matter has been authorised by the directors. This may happen:
* In a private company, provided the company’s constitution does not invalidate such authorisation
* In a public company, provided the company’s constitution expressly allows such authorisation

In each case, the relevant director cannot be counted towards a quorum and his votes will not be included in determining whether the authorisation is given

Question 20

What is meant by a director must ‘not accept benefits from third parties’?

Answer 20

A director must not accept a benefit from a third party by reason of his:
* Being a director
* Doing (or not doing) anything as director

Unless the acceptance of the benefit cannot reasonably be regarded as likely to give rise to a conflict of interest (i.e. benefit is immaterial/small)

Question 21

What is meant by a director must ‘declare an interest in a proposed transaction’?

Answer 21

Directors must declare any interest they have in a proposed transaction with their company

The notice may be made:
* At a board meeting
* By notice in writing
* By a general notice, i.e. that he has an interest in the third party and is therefore to be regarded as interested in any transaction or arrangement with that third party (in which case he should take reasonable steps to ensure that such general notice is brought up at the next board meeting).

Provided such declaration is made, there is no need for approval by the members or the board, unless:
* The company’s constitution requires it
* It is an arrangement between a director and the company for the transfer of a ‘substantial non-cash asset’

Question 22

What are the consequences if a director is found to breach any of these duties and as a result an action is bought by the company?

Answer 22

If an action is bought by the company the consequences include the following:
* To make good any loss suffered by the company, including secret profits
* Any contract entered into between the company and a director may be rendered voidable
* Any property taken by the director from the company can be recovered if it is still in his possession
* An injunction if the breach is continuing
* If more than one director is in breach then their liability will be joint and several.

Question 23

What is wrongful trading?

Answer 23

Wrongful trading is a civil issue and applies only where a company goes into insolvent liquidation and the liquidator can show that, at some time before the commencement of the winding up, the director(s) knew or should have known that there was no reasonable prospect that the company could have avoided going into insolvent liquidation.

Question 24

What will the courts consider when making a decision as to whether a director is liable for wrongful trading?

Answer 24

The standard applied is that of a reasonably diligent person with the general knowledge, skill and experience that might reasonably be expected of a person carrying out that particular director’s duties (i.e. a reasonable occupant of a similar post). Where a director has greater skill and experience than a ‘normal’ director, he is also judged by reference to his own capacity.

However, no declaration of wrongful trading will be made where the court is satisfied that the director(s) took every step that he or they ought to have taken in order to minimise the potential loss to creditors

Question 25

What is the consequence if a director is found liable for wrongful trading?

Answer 25

Where a director is liable for wrongful trading the court can order him to 'make such contribution to the assets of the company as the court thinks proper'

Question 26

What is fraudulent trading?

Answer 26

Fraudulent trading is a civil and criminal issue and occurs where any business of a company is carried on with intent to defraud creditors of the company (or of another person) or for any fraudulent purpose.

Question 27

What is the consequence if a director is found liable for fraudulent trading?

Answer 27

Fraudulent trading can give rise to either a civil or a criminal offence as described below: * **Criminal offence:** Punishable by a fine and/or imprisonment for up to 10 years - applies whether or not the company is wound up * **Civil offence:** The court can order the director to 'make such contribution to the assets of the company as the court thinks proper - applies only when the company is wound up '

Question 28

On what grounds can a director be disqualified for up to 15 years? (5)

Answer 28

* Serious offence - Where a person is convicted of a serious offence (usually in connection with the promotion, formation, management or liquidation of a company) * Fraudulent trading - Where it appears in the course of the winding up of a company that a person has been guilty of fraudulent trading * Public interest - Where the Secretary of State considers it to be in the public interest. * Breaches of competition law - Where a director is guilty of certain breaches of competition law. * Wrongful trading - Where a director has participated in wrongful trading.

Question 29

On what grounds can a director be disqualified for up to 5 years?

Answer 29

Where a person has been persistently in default in relation to provisions of company legislation (and three convictions for default in five years are conclusive evidence of persistent default).

Question 30

What is the minimum and maximum duration of a disqualification order?

Answer 30

A disqualification order must be made, for a minimum of 2 years and a maximum of 15 years.

Question 31

What is the alternative to disqualification?

Answer 31

The secretary of state may accept an undertaking from the director to refrain from acting in the management of a company in uncontested cases.

Question 32

What is the sanction for breach of a disqualification order?

Answer 32

Breach of a disqualification order can result in a fine and/or imprisonment.

Question 33

Which circumstances may result in the court imposing a lower period of disqualification in mitigation? (5)

Answer 33

* Lack of dishonesty * Loss of director's own money in the company * Absence of personal gain (such as excessive remuneration) * Efforts to mitigate the situation * Low likelihood of re-offending

Question 34

Is there a statutory duty to report to the BEIS on directors of companies in whose affairs they have become insolvent?

Answer 34

Yes. Administrators, receivers and liquidators all have a statutory duty to report to the Department for Business, Energy and Industrial Strategy (BEIS) on directors of companies in whose affairs they have become involved, where they believe the conditions for a disqualification order have been satisfied. The Secretary of State then decides whether to apply to the court for an order, but if they do decide to apply, they must do so within two years of the date on which the company became insolvent.

Question 35

Who are members of a company?

Answer 35

Any subscriber of a company's memorandum and any person entered on the company's register of members is a member of the company.

Question 36

How are the members regulated?

Answer 36

The members are regulated internally by the articles of association, the members are bound by the articles as if it were a binding contract between all of the members and the company. These may be supplemented by a shareholders' agreement which deals with members' rights and duties.

Question 37

What are the rights members possess? (3)

Answer 37

* To be sent a copy of annual accounts and reports * To require directors to call a general meeting * To appoint a proxy (a person or persons who may then exercise all their member rights to attend, speak and vote at meetings of the company). Such appointment will be in writing.

Question 38

What directors' actions require approval from members? (4)

Answer 38

* Service contracts - Approval is required if the service contract provides for a director's employment to be a guaranteed term of two years or more. In case of breach, provision is void. * Substantial property transactions - exceeds 10% of the company's asset value and is more than £5,000; or exceeds £100,000. In case of breach, transaction is voidable. * Loans to directors - Voidable in case of breach * Payments for loss of office - Approval is required for payments or benefits to be made on loss of office or retirement. In case of breach, The payment is held on trust for the company. There are exceptions for small payments (£200 or less) and payments in discharge of legal obligations.

Question 39

Outline the basis for minority shareholder protection

Answer 39

The majority shareholders control the company and generally speaking the minority shareholders have no course of action if they are unhappy with a decision taken by the majority - Foss v Harbottle However, certain specific exceptions to this ruling allow for minority shareholders to bring action or legal proceedings

Question 40

Outline the Foss v Harbottle 1843 case and what conclusions can be drawn from this

Answer 40

The facts: A shareholder (Foss) sued the directors of the company alleging that the directors had defrauded the company by selling land to it at an inflated price. The company was by this time in a state of disorganisation and efforts to call the directors to account at a general meeting had failed. Decision: The action must be dismissed. * The company as a person separate from its members is the only proper claimant in an action to protect its rights or property * The company in general meeting must decide whether to bring such legal proceedings - minority shareholders are not able to bring legal proceedings

Question 41

What actions can minority shareholders take to bring action or legal proceedings?

Answer 41

* Where statute specifically provides for a minority to have a particular power or to apply to the court * A derivative action for negligence, breach of duty, default or breach of trust by the directors * A derivative action in respect of unfairly prejudicial conduct by the majority * To petition the court for the company to be wound up on the grounds that it is just and equitable to do to so

Question 42

What are the specific statutory rights granted to minority shareholders to of members are given?

Answer 42

Question 43

What is a derivative action?

Answer 43

A derivative action is a lawsuit brought by a shareholder on behalf of a corporation to address a wrong against the corporation

Question 44

Why must a derivative action be on behalf of the company not an individual shareholder?

Answer 44

A director’s duties are owed to the company which means that the company (not the members) may bring action against the directors.

Question 45

In order to continue a derivative action what must the company present to the courts?

Answer 45

The member must first present a prima facie case to the court and obtain permission to continue the claim

Question 46

When deciding whether to grant or refuse permission after a prima facie case for a derivative action for negligence, breach of duty, default or breach of trust by the directors has been preseneted, what will the court consider?

Answer 46

* Whether the member is acting in good faith * The importance that a person promoting the success of the company would attach to it * Whether authorisation or ratification by the company by the company is likely * Whether the company has decided not to pursue the claim * Whether its member could pursue the claim in their own right rather than on behalf of the company * The views of members with no personal interest in the matter * If the defendant is considered to have acted honestly and reasonably

Question 47

Who may apply for relief on the grounds of unfairly prejudicial conduct?

Answer 47

Any member (including someone to whom shares have been transferred by operation of law, for example on death) or the Secretary of State may apply to the court for relief

Question 48

Give examples of conducts that have been held to be unfairly prejudicial.

Answer 48

* Removal of a company's auditor from office on improper grounds * Exclusion and removal from the board where the company was one in which the director had a legitimate expectation of being involved in management * Improper allotment of shares * Making an inaccurate statement to shareholders * Diversion of a company's business to a director-controlled company

Question 49

Give examples of conducts that have NOT been held to be unfairly prejudicial.

Answer 49

* Failure by a parent company to pay the debts of a subsidiary * Non-compliance with the stock exchange rules, the City Code and the Cadbury Code * Failure by a fellow director and majority shareholder to increase the petitioner's shareholding The complaint must be based on prejudice to the member as a member and not as an employee, nor as an unpaid creditor. The provision cannot simply be invoked by shareholders when they do not like the way a company is run, even bad management alone is unlikely to amount to prejudicial conduct The courts may also take the petitioner's conduct into account when deciding whether certain actions are unfairly prejudicial

Question 50

When a petition for derivative action is successful, what orders may the court make?

Answer 50

* Regulating the future conduct of the company's affairs * Authorising any person to bring legal proceedings on behalf of the company * Requiring the company to do an act that it has omitted to do or to refrain from doing an act complained of. * Providing for the purchase of shares of the minority by other members or by the company itself. * Requiring the company to make any (specified) alterations to its articles, or not to make such alterations without leave of the court. * Order that either the controlling shareholder or the company shall purchase the petitioner's shares at a fair price.

Question 51

When can a minority shareholder make a petition to the courts for the just and equitable winding up of a company?

Answer 51

A member who is dissatisfied with the directors or controlling shareholders over the management of the company may petition the court for a winding up on the grounds that it is just and equitable to do so. The member must show that no other remedy is available, since winding up what may be an otherwise healthy company is a drastic step - It is very much a remedy of last resort.

Question 52

Give situations in which orders have been made for winding up.

Answer 52

* Where the company was formed for an illegal or fraudulent purpose * Where there is a complete deadlock in the management of its affairs * Where the directors deliberately withheld information so that the shareholders had no confidence in the company's management

Question 53

What is a general meeting?

Answer 53

A general meeting of a company is a formal meeting of a company's members, usually shareholders, to discuss and vote on important business matters

Question 54

Who may call a general meeting? (4)

Answer 54

* The directors (through the company secretary) * ≥5% of the members * The courts * An auditor

Question 55

What are the requirements for the directors to call a general meeting?

Answer 55

* 14 days clear notice to all shareholders (reduced if 90% (95%- PLC) of shareholders consent to short notice). * Include the time place and indication of key business

Question 56

What are the requirements for ≥5% of the members to call a general meeting?

Answer 56

* Directors have 21 days to call a meeting which must be held within 28 days of the notice

Question 57

What are the circumstances around an auditor calling a general meeting?

Answer 57

An auditor who is giving notice of their resignation must accompany this notice with a statement of the circumstances connected with his resignation and a request for a general meeting.

Question 58

When must a public limited company (plc) call a general meeting?

Answer 58

The directors of a PLC must call a general meeting where the net assets fall to half or less of its called up share capital.

Question 59

What is an annual general meeting?

Answer 59

An Annual General Meeting (AGM) is a yearly general meeting of a company's shareholders and board of directors to discuss: * Appointment of directors and auditors * Approval of accounts * Approval of a dividend

Question 60

When must companies hold an AGM? What is the consequence if they don't?

Answer 60

Every public company must hold an annual general meeting (AGM) during the six months following its accounting reference date (s.336). The notice period is 21 days but all members can consent to short notice. Failure to do so renders every officer of the company who is in default liable to a fine. A private company is not required to hold an AGM.

Question 61

What percentage of the voting rights must consent to a notice period of less than 14 or 21 days for AGMs and general meetings?

Answer 61

**Public companies**: * For a general meeting - 95% * For an AGM - 100% **Private companies:** * For a general meeting - 90%

Question 62

What are the different types of resolutions? (2)

Answer 62

* Ordinary * Special

Question 63

What is an ordinary resolution? What is the required majority of votes required and for what business is an ordianry resolution sufficient?

Answer 63

An ordinary resolution is a decision made by a company's shareholders that requires a simple majority to pass (>50%) Any business for which a special resolution is not specifically required by enactment or the articles

Question 64

What is a special resolution? What is the required majority of votes required and for what business is an ordianry resolution sufficient?

Answer 64

A special resolution is a decision made by a company's shareholders that requires a greater majority to pass (≥75%) Where special resolution is specifically required by enactment or the articles, for example: * Change of name * Alteration of the articles * Reduction of share capital * Winding up the company

Question 65

Which resolutions have to be filed with the registrar and by when?

Answer 65

Special resolutions are the only resolutions that require filing with the registrar The resolution must be filed with the Registrar within 15 days.

Question 66

What is a written resolution?

Answer 66

A written resolution is a document that allows private companies to pass resolutions without holding a general meeting. Instead, shareholders or directors can propose and pass ordinary or special resolutions in writing Any business matter except, removal of a director or auditor, and the votes required are the same for in a general meeting (i.e. ordinary or special resolutions)

Question 67

What is important to remember about the notice period for general meetings?

Answer 67

The number of days for a notice period always refers to clear days, that is excluding the day of the meeting and the day on which notice is given or a request is received.

Question 68

What is a quorum?

Answer 68

A quorum is the minimum number of persons required to be present at a general meeting.

Question 69

What records must be kept by a company?

Answer 69

Every company must keep the following records for 10 years (s.355) and available for inspection by members: - Copies of all resolutions passed otherwise than at general meeting - Minutes of all general meetings - Details of decisions by sole member companies