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Director's Duties under Section 172 of the Companies Act 2006

In Regentcrest plc v Cohen, Parker J noted that the primary question before the court in cases involving acts of omissions of the director of the company, is not whether the act or omission was in the interests of the company but, whether the director honestly believed that his act or omission was in the interests of the company. This statement is considered in the wider context of the director’s duties under Section 172 of the Companies Act 2006 and in the light of the concept of the enlightened shareholder value. The essay first discusses the scope of the director’s duties under Section 172 and then critically analyses the statement made by Parker J in context of the existing case law and academic critique.

In the common law, the director of the company has certain fiduciary duties, which include the duty of the director to act in good faith in the best interests of the company as a whole. The director is required to act in good faith and in best interests of the company. However, the interests of the company also means the interests of the shareholders as codified in the Companies Act 2006, Section 172 which specifically requires that the director should promote the success of the company as a whole. Section 172 stipulates that director must have regard to the long term consequences of actions, interests of employees, fostering good business relations, and, impact on the community and the environment. As such, it is a broad provision with a number of duties associated with the director’s role. Nevertheless, the overarching principle as laid down in the subsection 1 to Section 172 remains acting in good faith in a way that would be most likely to promote the success of the company for the benefit of its members as a whole.

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To start this discussion, it would be worthwhile to consider the complexity associated with the term ‘best interests of the company’ because a company being a separate person may have its own interests and the shareholders may also have their own interests. Therefore, the complexity associated with the best interests duty may also involve the balancing of interests. At this point, it may be noted that the shareholders are the persons who are directly interested in the financial affairs of the company and for that reason, the interest of the shareholders would be an important consideration. It may also be noted that Section 172 has been referred to as the ‘enlightened shareholder value provision’, which suggests that the interest of the company is also linked to the interests of the shareholders. Section 172 does require that the director must have regard to the long term consequences of any act on the interests of the shareholders, which is also seen in the duty that the 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.” Section 172 also asks the director to consider the interests of company employees, and also creditors of the company.

Directors are also in the position to manage the day to day affairs of the company, which puts them under significant responsibility to the company as well as the other stakeholders of the becomes relevant as Tricker explains that “if management is about running business; governance is about seeing that it is run properly.” Thus, coming back to the point of accountability of the directors and their fiduciary position vis a vis the company and shareholders which is linked to this concept of corporate governance. Section 172 is related to corporate governance and directors’ accountability. At the same time, the interest of the shareholder is prioritised requiring an emphasis on the duties of the directors towards the interest of the shareholders which may at times lead to the directors ignoring the interests of other stakeholders. In R (on the application of People & Planet) v HM Treasury, Sales J observed that shareholders’ primacy is the core consideration for directors.

  1. Regentcrest plc v Cohen [2001] 2 BCLC 319.
  2. Ibid.
  3. J. Mance, ‘Ex Turpi Causa – When Latin Avoids Liability’ (2014) 18(2) Edinburgh L. Rev. 175, 186.
  4. A. Keay, ‘Tackling the Issue of the Corporate Objective: An Analysis of the United Kingdom’s “Enlightened Shareholder Value Approach”’ (2007) 29 Sydney L. Rev. 577, p. 586.
  5. Companies Act 2006, Section 172(1)(a).
  6. Ibid, s 172(1)(b).
  7. Ibid, s 172(3).
  8. B Tricker, Corporate Governance: Practices, Procedures, and Powers in British Companies and their Boards of Directors (Gower Publishing 1984) p. 13.
  9. Bray v Ford [1896] AC 44.

The complexity of the fiduciary duty of the directors towards the company and the shareholders can be seen in the way the directors of owe a fiduciary duty to both the company and its shareholders. This complexity can be seen in the way even duty to the company is crafted or shaped by reference to the principle of shareholder interest primacy, so that the directors duties are more focused on shareholder interest. When it comes to other stakeholders, they do not have the remedies to enforce their interest in the same way as the shareholders do because Section 172 just creates a right for the other stakeholders but does not provide a remedy in the same way as remedies are provided to shareholders. The test that the director has to apply under Section 172 in order to ascertain whether their actions are in the company’s best interests is a subjective test giving discretion to the directors, which may be exercised to justify actions or omissions that may not be entirely in the interest of the company but may be justified on the basis that the director believed that these were in the best interests of the company.

The same principle was reiterated in Regentcrest plc v Cohen by Parker J who noted that the real question is whether the director honestly believed that his act or omission was in the interests of the company. The argument can be framed that given the broad scope of duties in Section 172 and shareholder primacy principle, the director may be able to justify actions or omissions that are subjectively believed to be in the interest of the shareholders. This is in line with the common law duty of the directors which also imposed a subjective test in decision-making, which means that the business decision is left to directors, and courts do not interfere. Because the directors are required to exercise their duty to promote the success of the company in good faith, it can be clearly noted that the test remains a subjective one. In Extrasure Travel Insurance, the court reiterated that the test for whether director is acting in best interests of company is subjective and the court may assess that the director was not acting in good faith if he was behaving unreasonably. The courts have time and again reiterated that there is no difference between the common law duty of directors to act in good faith and the statutory duty in Section 172 due to which the courts will continue to interpret the law in line with the previous decisions. In Re West Coast Capital (LIOS) Ltd, the court held that Section 172 only set out the pre-existing law on the subject. Similar observations were made by the courts in Re Southern Counties Fresh Foods Ltd, and Cobden Investments Ltd v RWM Langport Ltd. In Re Southern Counties Fresh, the court held that subsection 2 of Section 172 suggests that it depends on the individual judgment of a director to decide whether the purpose of the company is for the benefit of its members or for any other purpose.

Another point of significance that can be discussed here is that as Section 172 emphasises on the ‘enlightened shareholder value’; this in itself can be linked to long-term company performance. It has been argued that the emphasis on the enlightened shareholder value leads to the maximisation of “overall competitiveness and wealth and welfare for all.” On the other hand, there is an obvious conflict in the provision as far as the director’s duties are concerned because there are conflicting interests in the provision itself; as noted by Tsagas that while Section 172 seeks to prompt a change in directors’ mindset with relation to decision making but “the challenge directors are faced with is an obvious one; how should they balance these conflicting interests?” It has been argued that Section 172 is a compromise between two opposing positions on the nature of the company, which are related to the interests that should directors promote and the purpose of the corporation. The law makers could have adopted a more pluralistic approach to the duties of the directors but, has instead sought to give more emphasis to shareholder primacy over the interests of other stakeholders.

  1. R (on the application of People & Planet) v HM Treasury [2009] EWHC 3020 Admin.
  2. Ibid.
  3. John Lowry, ‘The Duty of Loyalty of Company Directors: Bridging the Accountability Gap Through Efficient Disclosure’ (2009) 68 (3) The Cambridge Law Journal 607.
  4. R (on the application of People & Planet) v HM Treasury [2009] EWHC 3020 Admin.
  5. Ibid.
  6. Regentcrest plc v Cohen [2001] 2 BCLC 319.
  7. Re Smith and Fawcett Ltd. [1942] Ch 304.
  8. Charterbridge Corporation Ltd v Lloyds Bank Ltd [1970] Ch 62;
  9. Extrasure Travel Insurance [2003] 1 BCLC 598.
  10. Re West Coast Capital (LIOS) Ltd [2008] CSOH 72.
  11. Re Southern Counties fresh foods Ltd [2008] EWHC 2810.
  12. Cobden Investments Ltd. v RWM Langport Ltd [2008] EWHC 2810 (Ch).

Despite the enactment of the enlightened shareholder value approach in section 172 CA 2006, shareholders’ interests remain the primary focus in corporate board decision making; the inclusion of an non exhaustive list of the considerations for the directors to take into account however, does provide scope of other perspectives and interests to be taken into account by the directors. What can be said is that the director also needs to have consideration to the purpose of the company in order to decide on a particular action by taking into account these other interests, for instance, the interest of the environment. A company may have mixed objects as came up in Stimpson v Southern Private Landlords Association, as to how Section 172(1) is to be construed in the context of companies with mixed objects or where the company's objects include purposes other than the benefit of members. The company was one limited by guarantee. The director who was opposing a merger stopped attending meetings of the company board where a merger decision was taken but was later opposed by one director as being tainted by inquoracy. The question before the court was whether a director acting in the interest of the company would allow the litigation to continue. The court decided that keeping in mind the purpose of the company as a company limited by guarantee, a director would not continue with the litigation knowing that the litigation was hopeless and would not benefit the company.

To conclude this essay, the duty of the director is to be tested subjectively, which means that if the director honestly believes that the decision is in the best interests of the company then the director is justified in making the decision. In making such decisions, the directors do have to consider the interest of the shareholders as well as the other stakeholders, which presents a balancing of conflicting interests. Again, this requires the discretion of the directors. At this point, the case law also suggests that the courts will allow the directors to use their discretion as long as it is in good faith to make decisions for the company. Whether something is done in good faith or not is an assessment based on subjectivity.

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  1. Georgina Tsagas, ‘Section 172 of the companies act 2006: Desperate times call for soft law Measures’ in N Boeger and C Villiers (eds.), Shaping the Corporate Landscape: Towards Corporate Reform and Enterprise Diversity (Hart Publishing 2018).
  2. Duties of Company Directors, Ministerial Statements, Introduction and Statement of Rt Hon Margaret Hodge (DTI, June 2007).
  3. Tsagas, ‘Section 172 of the companies act 2006: Desperate times call for soft law Measures’, supra n. 16, p. 5.
  4. Ibid.
  5. Stimpson v Southern Private Landlords Association [2009] EWHC 2072.
  6. Ibid.

Table of cases

Bray v Ford [1896] AC 44.

Charterbridge Corporation Ltd v Lloyds Bank Ltd [1970] Ch 62

Cobden Investments Ltd. v RWM Langport Ltd [2008] EWHC 2810 (Ch).

Extrasure Travel Insurance [2003] 1 BCLC 598.

Regentcrest plc v Cohen [2001] 2 BCLC 319.

Re Smith and Fawcett Ltd. [1942] Ch 304.

Re Southern Counties fresh foods Ltd [2008] EWHC 2810.

Re West Coast Capital (LIOS) Ltd [2008] CSOH 72.

R (on the application of People & Planet) v HM Treasury [2009] EWHC 3020 Admin.

Stimpson v Southern Private Landlords Association [2009] EWHC 2072.

Books

Tricker B, Corporate Governance: Practices, Procedures, and Powers in British Companies and their Boards of Directors (Gower Publishing 1984).

Tsagas G, ‘Section 172 of the companies act 2006: Desperate times call for soft law Measures’ in N Boeger and C Villiers (eds.), Shaping the Corporate Landscape: Towards Corporate Reform and Enterprise Diversity (Hart Publishing 2018).

Journals

Keay A, ‘Tackling the Issue of the Corporate Objective: An Analysis of the United Kingdom’s “Enlightened Shareholder Value Approach”’ (2007) 29 Sydney L. Rev. 577.

Mance J, ‘Ex Turpi Causa – When Latin Avoids Liability’ (2014) 18(2) Edinburgh L. Rev. 175.

Lowry J, ‘The Duty of Loyalty of Company Directors: Bridging the Accountability Gap Through Efficient Disclosure’ (2009) 68 (3) The Cambridge Law Journal 607.

Others

Duties of Company Directors, Ministerial Statements, Introduction and Statement of Rt Hon Margaret Hodge (DTI, June 2007).


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