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Directors, De Facto and Shadows

Aug 23, 2021

Pre-Amble

1. This is the first of two articles.  The second restricted to clients wanting or needing more detail.

2. For many, such as Accountants and Directors of a certain age, their worlds may have stopped if only on learning the details of the Companies Act 1948 or certainly the Companies Act 1985.  In terms of the Company’s internal management, the old Table A Model Articles within the 1985 Act relevant though that remains.

3. That though can often in practice tend to ignore particularly for both Shareholders and Directors the important provisions within:

Company’s Directors Disqualification Act 1986

Insolvency Acts 1986 and 2000

Enterprise Act 2002

Companies Act 2006 (“the Act”) and

Small Business, Enterprise & Employment Act 2015

or at least some of their changes or provisions relating to them.

4. I refer below to some statutory provisions.  In places named and reported cases.  All could be found on the internet when I wrote this and for some wanting to read more they have their route.

The Statutory Contract

5. The Companies Act of 2006 (“the Act”) was in many ways a codifying statute in which it confirms by Section 33 that:

The provisions of a Company’s constitution bind the Company and its members to the same extent as if there were covenants on the part of the Company and of each member to observe those provisions”.

In this context “covenant” means nothing more than the old fashioned wording, meaning contractual term.

6. It is a statutory contract created on formation.  “Public” because anyone can tap into Companies House and read it if they want to.

7. But it is a rather unusual contract indeed.  For example, there are rather limited reasons to imply a contractual term [A G of Belize v. Belize Telecom Limited [2009] 1WLR 1988.

8. The contract which exists though can be enforced by:

(a) members in their dealings with the Company;

(b) the Company in its dealings with its members; and

(c) members in their dealings with each other.

The Shareholders Agreement

9. These can take many different forms and is generally private so not a public document.  They are usually prepared by the intended Shareholders before incorporation always intended to be private.  In effect, a marriage contract for the forming members though all too often prepared by their Lawyers when they are busy trying to start the Company or make a living, read in haste and too often not checked until too late.

10. Usually for the purpose is:

(a) agreeing amongst themselves how they intend or agree to manage the Company they have formed or are forming;

(b) how they will allocate profits, losses or loans;

(c) between themselves who is to do what for the Company, when and for how much;

(d) the transfer or internal sale of shares or interests within the Company and

(e) loans within or for the Company and perhaps agreements between them for payment in priority to dividends

In many ways to swap analogy.  With a smaller Company such Shareholders Agreements can look and read like a Partnership Agreement.  For some, also like a “joint venture”.

11. That in due course may raise issues of priority between it and the Company’s own Articles as has happened in cases like Morris Angel & Son Ltd v. Hollande [1993] AER 569 or more recently Jackson v. Bear {2014] 1BCLC 186.

The Post of Director

12. Every small private Company must have at least one Director whilst public two under Section 154 of the Act.

13. Although the legal definition of what or who is a Director is rather limited.  The Act provides:

250 “Directors”

In the Companies Acts “Directors” includes any person occupying the position of Director, by whatever name called”.

As a result, some [including Stuart Sime in Company’s Law in Practice] suggests we look to “test” by function not title to establish whether someone or some Company is a Director.  Although an employee called a “Marketing Director” may not be.  The question may be answered by identifying if the person attends Board Meetings, they act as “de jure” or are legally appointed and registered at Companies House as Directors.

The meaning of “De Jure”

14. Lawyers and Latin.  A de jure Director is simply one legally appointed as a Director and usually confirmed at Companies House.   A Director rightfully entitled.

Shadow Directors

15. These in fact turn up in Section 251 of the Act and that may be a warning for many Accountants, Investors or Parents who have helped or help a Company but wanted or chose not to be titled to assume the risk or duty as a Director.   Section 251 provides:

“251 “Shadow Directors

(i) in the Companies Acts Shadow Director” in relation to a Company, means a person in accordance with whose directions or instructions the Company are accustomed to act

(ii) a person is not regarded as a Shadow Director by reason only that the Directors act:

(a) on advice given by that person in a professional capacity;

(b) in accordance with instructions, a direction, guidance or advice given by that person in the exercise of a function conferred by or under an enactment

(c) in accordance with guidance or advice given by that person’s capacity as a Minister of the Crown …”

There is a similar definition within the Insolvency Act of 1986 and CDDA of 1986.

16. The definitions and use of words has been carefully considered with a number of cases, such as Sir Rattee in Secretary of Trade v. Becker [2002] EWHC 2200 from page 561 to 563.  Considering in it Millett J’s lurks in the shadows” of Re Lo-Lines Electric Motors Ltd [ 1988] BCLC 698 at 707.

De Facto Directors

17. The use of the words “de facto directors” often turn up within the same cases but as Millett J observed in Re Hydrodam [1994] 2 BCLC 180that de facto and shadow directors do not overlap.  They are alternatives and in most and perhaps all cases are mutually exclusive”.  Although in Secretary of State v. Becker [2002] EWHC 2200 Sir Rattee added at 564 to 565 “However the two concepts do have at least this much in common, that an individual who has not a de jure director is alleged to have exercised real influence (otherwise than as a professional advisor) in the corporate governance of a company.  Sometimes that influence may be concealed and sometimes it may be open”.

18. So, a leading question may be whether they acted as a Director – see cases Revenue & Customs v. Holland [2010] 1 WLR 2793.   With the critical question s being was he/she a part of the corporate governance system and assumed such as a status and function of/or as a Director – see also Smithton Ltd v. Naggar [2015] 2 BCLC.

19. Whatever the concept or fear of being treated as de facto or shadow as opposed to de jure Director is real.  Perhaps a risk without reward.

The Duties of and owed by a Director

20. The Act is regarded as a codifying statute gaining Royal Assent in November 2006.  The draftsman through it sought to codify the established common law and equity within a number of sections from Sections 170 to 182.

21. As often with modern codification there is a question over the use after the Act of judgments decided before it.  The truth is such cases are helpful guidance.  They may justify both a statutory plus common law action (see Breitenfeld UK Ltd v. Harrison [2015] 2 BCLC).  The second article is intended to define and focus further on this definition but whilst eight below is an extension of one, they are:

1. Section 171 – To act in accordance with the Company’s own Constitution

2. Section 172 – To promote the success of the Company

3. Section 173 – In so doing to exercise independent judgment

4. Section 174 – Which involves reasonable care, skill and diligence

5. Section 175 – Without conflicts of interest

6. Section 176 – Without accepting benefits via third parties

7. Sections 177 and 182 – Absolutely decline interests arising out or from the Company whilst

8. Section 210 – Avoiding Unfair Prejudice respecting the new statutory provisions provided within Section 994 (1) of the Act.  In this I always regard the presence of so many sports companies as a warning – see R v. Neath Rugby Ltd (No. 2) [2008], Fulham Football Club (1987) v. Richards 2012 Ch and Exeter City v. Football Conference Ltd ]2004].

These duties would and should apply to all Directors however de jure or defacto or shadow.

Fiduciary Duties

22. Most of us are aware that where we have a fiduciary duty that means to act with care, loyalty, obedience and to account for what we do.  In terms of an appointed or found to be Director of a Company the common view is that Section 170 to 178 now taken together was a good draftsman’s attempt to put the various duties also called “fiduciary duties” together from common law, equity and previous statute into one place.

23. It may be that the draftsman did not within these Sections complete the task fully or that Directors still owe some common law duties on top or in addition as seemed to be suggested by Norris J in Bretenfield v. Harrison [2015] 2 BCLC.  Many of these cases and others which may be of particular concern or interest to clients can be set out in Part 2.

Sources before and when dealing with before problem

24. As many a Judge has asked a good starting point is what does the Directors contract, Shareholders Agreement and/or Articles of the Company say “in answer to any particular question”.  That is a good starting point.  Too often subscribers are short of time and more anxious to get going than to read and check every word their Lawyer’s prepare.  Although as a Company grows or develops these documents may need updating or change.

25. When considering if there is a problem the next point may be to check what the statutory provisions provides.

26. Frequently as may lead towards looking at how the Courts have translated that.  The cases tend to provide a judgment and some guidance.  Others effectively can develop their own procedures, such as in Carecraft Construction Co Ltd [1994] 1WLR.

27. So, the point is a Directors job is not always a happy one.  With title comes risk.  It is also not always possible to dodge by working in the shadows, a lesson for many a parent or private investor.  It is often, therefore, why the Directors or company members before an annual AGM to have at look at the Articles and just check whether there could be a need for an update, change or improvement.

David Hassall LLM MsC
Hassall Law Limited
23 August 2021

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