The Good, the Bad and the Uncooperative Director

Managing conflicts of interest with uncooperative directors in the UK

Discussing and analysing directors’ duties in the UK to avoid conflicts of interests tends to:

• assume that conflicted directors will be “good” and cooperate with the company to try to reduce the impact of any conflict; or
• focus on what a company or board should do where the conflicted director is clearly “bad” and in breach of their duties.

As well as providing a general overview of conflicts of interest for UK directors, in this article we examine what a company can do where a conflicted director is not necessarily “good” or “bad,” but is “uncooperative”.

 

Directors’ duties

Under the Companies Act 2006 (CA 2006), UK directors should:

• act within their powers;
• avoid conflicts of interest;
• promote the success of the company;
• exercise independent judgment;
• exercise reasonable care, skill, and diligence;
• not accept benefits from third parties; and
• declare or seek approval of interests in proposed or existing transactions or arrangements with the company.

 

Conflicts of interest – the detail

Duty to avoid conflicts (section 175 of the CA 2006)

A director has to avoid situations that create or could create a conflict of interest. These are known as “situational conflicts”.

Directors can avoid infringing the duty to avoid a situational conflict if the interest couldn’t be reasonably regarded as likely to give rise to a conflict, or if the directors or shareholders gave authorisation before the conflict arose.

Authorisation can be given by a company’s shareholders (via ordinary resolution which requires over 50% of votes), or in certain circumstances, a company’s board of directors.

For private companies, the board can approve the conflict unless the articles specifically preclude it. For public companies, the position is reversed and the board can only approve a conflict where the articles specifically allow them to. In either case, the relevant director must not be included in the quorum or voting arrangements at the board meeting authorising the relevant conflict. When making their decision, the directors must also consider their other statutory duties (listed above) such as exercising independent judgement and acting in a manner that they consider would promote the company’s success for the benefit of its member(s) as a whole.

Duty not to accept benefits from third parties (section 176 of the CA 2006)

There is a duty on directors not to accept a benefit from a third party conferred by reason of them being a director or their doing (or omitting to do) anything as a director. This duty is intended to address situations where a director is being offered financial or non-financial benefits to influence their decision-making as a director. This duty is not infringed if the acceptance of the benefit cannot reasonably be regarded as likely to give rise to a conflict of interest. Unlike section 175 of the CA 2006, board authorisation is not permitted in respect of the acceptance of benefits from third parties and only shareholders can provide authorisation.

Duty to declare interests in proposed and/or existing transaction and arrangements (section 177 and section 182 of the CA 2006)

This duty relates to “transactional” conflicts of interest, which are distinct from the “situational” conflicts described above. In the case of a proposed transaction or arrangement, a declaration is necessary where the director ought reasonably to be aware of their interest in the transaction or arrangement. In the case of an existing transaction or arrangement (ie one which has already been entered into), the interest must be declared as soon as reasonably practicable.

 

‘The Good’ – managing conflicts of interests to avoid a breach

It’s preferable for all parties to avoid a breach of a director’s duties occurring in the first place.

If a “good” director considers that they may be in a potential conflict situation, they should:

Review the articles of association: the articles might contain helpful guidance around conflict situations, including:

• authorised conflicts: a limited set of circumstances allowing the director to put themselves in a situation which would otherwise result in a conflict requiring approval; and
• conduct provisions: rules relating to ongoing conduct in relation to authorised conflict, possibly including:

• protecting confidential information;
• inclusion or exclusion from board meetings and receipt of board papers; and
• appropriate conduct regarding benefits received from the authorised conflict.

Seek approval from the board: the board may be able to approve the conflict, allowing the director in question to continue to exercise their voting rights and attend meetings in relation to the relevant matter.

Comply with their continuing duty to promote the success of the company: the director will continue to be bound by the general duty to promote the success of the company. Even where a director takes all necessary and appropriate steps to manage a conflict, it may not be possible for the director to satisfy their general duty to promote the success of the company. In such circumstances, the director may wish to withdraw/resign from one or both sides of the conflicting circumstance.

 

‘The Bad’ – breaching directors’ duties

If a “bad” director has breached their duties, a shareholder, creditor or the company can bring proceedings against the director personally.

Generally, proceedings for a breach of directors’ duties are brought by the company on the instigation of the remaining directors of that company. The proceedings could seek:

• Restitution of profits: where the company has suffered loss as a result of a director’s misconduct, a court may order any personal profit made by the director in connection with the conduct to be relinquished to the company.
• Restoration of property: if a director has taken hold of any property belonging to the company, the company may seek restoration of that property.
• Injunctive relief: a company may also bring a claim against a director to prevent them from carrying out a breach or continuing to breach their duties, known as an injunction.
• Rescission of a contract: if a director signs a contract that is contrary to the company’s intentions, this can be reversed.
• Damages: damages may be payable to a company where it has suffered loss as the result of a director’s negligent infringement of their duties.

 

‘The Uncooperative’ – a lack of alignment on conflicts

The recommended approach when dealing with “good” and “bad” directors is relatively well established. The situation is more complex when dealing with a director who is not necessarily “good” or “bad,” but is “uncooperative.”

What steps can a board or company take where the director in question disagrees that a conflict exists or with how best to manage a potential conflict?

Remind the director of their duties and the consequences of a breach

The responsibility for adhering to directors’ duties is personal to each director. As a first step, the board should remind the director of that responsibility and the consequences for breaching directors’ duties.

Form a committee

Under the company’s articles, the board may be permitted to form an executive committee with delegated authority to make decisions in relation to the matter giving rise to the potential / actual conflict; and determine the membership of that committee such that the uncooperative director can be excluded.

Depending on the circumstances (eg if the uncooperative director voting on an issue gives rise to a conflict), forming a committee that excludes the uncooperative director may suffice. See more below.

Exclude the director

Under the company’s articles, the chairman of the board or a majority of the directors might have the power to remove the uncooperative director from meetings where the chairman or board considers that a conflict of interest may exist.

This option is likely to be a last resort. A company would need to carefully consider the circumstances and the potential for claims from the uncooperative director that the exclusion was preventing them from complying with their duties as a director. For example, that it wasn’t possible for the director to promote the success of the company because all relevant information was not provided to that director by the board.

That said, excluding an uncooperative director may be helpful; in particular, where the information presented to or to be discussed at a meeting could, in and of itself, give rise to potential or actual conflicts of interest (eg an internal investigation in relation to the conduct of the relevant director). In such a situation, forming a committee may not be sufficient as the uncooperative director could access relevant materials as a result of their seat on the board (to which the committee reports).

 

Conclusion

When dealing with “uncooperative” directors in relation to a (potential) conflict of interest, there’s a tension between the board’s actions to try to address that conflict vs. ensuring that each director can fulfil their other duties as a director (eg promoting the success of the company). Where a conflict arises from the very topic being discussed by a board or the information presented to a meeting of the directors, that tension is heightened.

Unfortunately, the CA 2006 does not provide guidance as to how to manage this tension – ie there is no “weighting” of the importance or priority of each director’s duty. Further, the current system seems predicated on the idea that directors will either be “good” or “bad.”

DLA Piper would be happy to provide further guidance and input should an “uncooperative” director ever present themselves to your board.