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If you intend to incorporate your startup business as a company, you will likely be one of the company’s directors. The law imposes numerous obligations on company directors. In many cases, the law does not distinguish between experienced and inexperienced company directors for startups. This article will explain the key obligations the law imposes on directors. This will help you navigate your duties as a startup owner.
Overview
Companies are legal persons. This means they can do everything a natural person can, including entering into contracts and assuming liabilities. However, companies are not natural persons. Companies need natural persons to make decisions on their behalf. Directors are individuals the law recognises to act on behalf of companies.
Director Duties
The law imposes a series of general duties on directors. These laws are contained within the Companies Act 2006, the primary legislation governing companies.
Below are the general duties:
- act within your powers;
- promote the success of the company;
- exercise independent judgement;
- exercise reasonable care, common skill, and diligence;
- avoid conflicts of interest; and
- not to accept benefits from third parties.
It is important to appreciate that these general duties govern every act you make as your startup company director.
These general duties are distinct from specific obligations, such as preparing and filing annual company accounts.
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Examples of Conduct that Breaches Director Duties
Duty to Act Within Your Powers
Suppose you and three other investors incorporate the company that your startup trades through. However, only two of the four investors will manage the business. This includes you and one other person. Therefore, you are appointed as the company’s director. Your company’s articles of association may include both spoke terms specifically restricting the director’s powers to undertake specific tasks. For instance, there may be a provision preventing you from issuing new shares without the unanimous consent of all the shareholders.
Duty to Promote the Success of the Company
This duty specifically obligates directors to promote the company’s success for the benefit of all the shareholders together. It also requires the directors to regard other stakeholders impacted by the company’s business. For a startup, this likely includes employees, suppliers, and customers.
This duty has generated quite a lot of uncertainty because it is widely drafted. However, an example of conduct that would likely breach this duty would be if you engaged in a third-party transaction that did not benefit the company. For example, intentionally overpaying for an asset purely to advantage the seller is a breach of this duty.
Duty to Exercise Independent Judgment
The law was quite clear that directors are the individuals that control the company. You are, therefore, not allowed to permit someone else to control the company.
Duty to Exercise Reasonable Care, Skill, and Diligence.
You must exercise your powers to a reasonable standard of care and skill. What is reasonable depends both on an objective test and a subjective test. As a startup director, the law recognises that you may not have experience running a company like a public company’s CEO. Therefore, you have more leeway in exercising your powers.
At the same time, there is a minimum threshold that you must not exceed. For instance, if you refuse to file your startup company’s accounts within the legal timeframe, this would breach your duty to exercise reasonable care, skill and diligence.
Duty to Avoid a Conflict of Interest
A conflict of interest is any circumstance where the company’s interests do not align with yours. This most commonly happens when you enter into transactions with the company. For instance, suppose you wanted to sell the company a piece of intellectual property you own. Accordingly, this creates an inherent conflict of interest.
This is because you wish to sell to the company the intellectual property for as much as possible. However, you must negotiate the lowest price possible as a company director.
In practice, these circumstances often arise. However, as long as you declare these transactions to the board of directors, who must approve any transaction with a conflict of interest, you discharge your duty to avoid a conflict of interest.
Duty to Declare an Interest in the Transaction with the Company
The above example is one where you have an interest in a transaction involving the company. That is, you stand to personally benefit from selling the intellectual property in your name to the company.
An interest is widely defined. It can include a transaction involving a family member or another business associate not affiliated directly with the company.
You discharge this duty by simply declaring the existence of the conflict to the other board directors. Therefore, provided you are transparent with your other directors, you will not breach this duty.
Duty Not to Accept Benefits from Third Parties
This duty refers to situations where you may profit from your office. Company law requires directors to account to the company for any profit they make during their office.
For example, suppose your startup runs a cleaning service. You speak with a large manufacturer, a potential client, about winning a new contract to clean their building. The prospective client tells you they do not want to contract with your company, but they are prepared to enter into a private contract where you provide the cleaning service directly. This is an example where you benefit by virtue of your office as a director.
LegalVision’s Startup Manual is essential reading material for any startup founder looking to launch and grow a successful startup.
Key Takeaways
As a startup director, you must comply with your duties to the company. These vast and broad duties require you to act with the utmost good faith towards the company.
If you need help with your startup, our experienced business lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions and draft and review your documents. Call us today on 0808 196 8584 or visit our membership page.
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