Summary
- A founder has no strict legal definition and simply refers to the person or people who started a business, whilst directors and shareholders are legally distinct roles specific to companies, each carrying different rights, duties, and responsibilities.
- Shareholders (legally referred to as members) own a stake in the company and have rights to share in profits and vote at general meetings, whilst directors are appointed agents of the company with authority to act on its behalf day-to-day and are subject to significant legal duties.
- A person can simultaneously be a founder, shareholder, and director, but must be careful to distinguish which role they are acting in at any given time, as the legal obligations of each role are separate and can sometimes conflict.
- This article is a guide to the differences between founders, directors, and shareholders for business owners and investors in England and Wales, explaining the distinct legal meanings of each role within a company.
- LegalVision is a commercial law firm that specialises in advising clients on corporate law and company governance.
Tips for Businesses
Clearly document the roles of all individuals involved in your company from incorporation, distinguishing between their capacity as directors and shareholders. When making decisions, always consider which role you are acting in to ensure you comply with the relevant legal duties. Seek legal advice if conflicts arise between director and shareholder interests to avoid breaching your statutory obligations.
The terms “founder”, “director” and “shareholder” are often used interchangeably, but they have very different legal meanings. Understanding the distinction between them is essential for anyone running or investing in a company. This article will provide a simple explanation for each term and how they are related.
Founders
We all know what a founder means in everyday language. It is the person or group of people that have started a business. They may still be involved or have retired or sold their business to someone else.
Some famous business founders include:
- Steve Jobs, Steve Wozinak, and Ronald Wayne of Apple Inc.;
- Bill Gates and Paul Allen of Microsoft Corporation; and
- John Lewis of John Lewis & Partners.
There is no strict legal definition of a founder. Therefore, when you hear someone referring to a founder, they usually mean it in the ordinary sense of the word.
That said, being a founder usually implies certain things. For instance, nearly all founders of businesses that are companies were shareholders at some point. Or, they may still be shareholders of their company. They were also probably directors.
On the other hand, suppose a founder started a partnership business. Since partnerships do not have share capital, they were never shareholders, nor were they directors. At least not in a legal sense. This is because shareholders and directors are particular to businesses that trade through companies.
In other words, directors and shareholders have a particular legal meaning. The nature of these positions is set out in the law that governs companies.
Understanding Companies
To understand the difference between a shareholder and a company, you have first to appreciate the fact that companies possess what is known as ‘legal personhood.’ That is, they can own property and enter into contracts. They can sue and be sued.
That said, because they are not real people, there are several things they cannot do without the help of natural persons. Most importantly, companies have to be:
- incorporated, which is a company’s equivalent of being born; and
- they have to appoint natural persons to act on their behalf.
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Ownership of a Company: Shareholders
Companies do not come into existence without the help of people filing the proper paperwork with Companies House. This is the public body that regulates companies.
Part of the incorporation process involves transferring money to get the business on its feet. Likewise, company law states that the first people who transfer a company money should receive a piece of property in return. Further, they should document this exchange and the fact they are now owners in the company.
Once the company is created, its founding shareholders can transfer these shares to others. In doing this, the new holder of the shares essentially has certain rights in the company transferred to them.
Shareholders Rights
Shareholders, which the law refers to as ‘members,’ have certain rights in the company.
At the most basic level, all shareholders have a right to share in the company’s profits. However, the portion of profits each shareholder receives is determined by:
- the number of shares they hold;
- the value of their shares; and
- certain constitutional documents that govern the specific terms of the relationship between the shareholders and the company.
Shareholders also have a right to attend and vote in the annual general meeting (AGM). By law, every company must hold an AGM at least once a year. Your voting power as a shareholder will depend again on the number of shares you own, their class, and the company’s constitutional documents.
Management of a Company: Directors
Remember, companies cannot act for themselves. They need people to sign contracts on their behalf and enforce the company’s rights and follow through on its obligations.
The people with authority to do this are the company directors. They are considered agents of the company and have a great deal of power to act on its behalf day-to-day.
Since directors have so much power, the law imposes significant duties and responsibilities to always act in the company’s best interest. Indeed, the law holds directors to very high standards. For instance, it is not possible to delegate a director’s duty; they are personal to the company and the director.
Wearing Multiple Hats: When Directors Are Shareholders and Vice Versa
It is easy to mistakenly assume that a director acting on behalf of the company is equally acting on behalf of shareholders. However, legally, this is not the case.
Therefore, this can create situations where the director’s interests and shareholders interests diverge. For instance, shareholders usually want to receive as much money as they can from the company, even if it is not in the company’s best interest. Therefore, the company’s directors need to act in the interest of the company, even if some of the shareholders may be worse off.
What is the case if the director and shareholder is the same person?
To give a practical example, consider the issuing of dividends.
A dividend is an issuance of capital that a company pays to shareholders out of their profits. Directors have sole discretion to issue dividends; a shareholder cannot demand a dividend. Therefore, if you are a shareholder-director before you pay yourself a dividend, you must ask, as a director, is this in the company’s best interest?
Indeed, it is a confusing area of law. Therefore, it is helpful to ask what ‘hat’ you are wearing when thinking about how to run your company. Are you acting as a director, such as issuing a dividend? Or, are you acting as a shareholder, such as voting to issue more shares?
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Key Takeaways
Not all founders are directors or shareholders, but you can be all three at once. This is possible if you have founded a company and act as its director while having issued shares to yourself. Legally, shareholders and directors are distinct from one another. Therefore, if you are both a shareholder and a director, you must ensure you are acting within the law and not overstepping your powers.
If you need help incorporating a private company, LegalVision provides ongoing legal support for all businesses through our fixed-fee legal membership. Our experienced corporate lawyers help businesses manage contracts, employment law, disputes, intellectual property, and more, with unlimited access to specialist lawyers for a fixed monthly fee. To learn more about LegalVision’s legal membership, call 0808 196 8584 or visit our membership page.
Frequently Asked Questions
A director is a person that has the authority to act on the company’s behalf, such as to enter into transactions and ensure the company is being properly paid.
A shareholder is a person who has certain rights in the company, such as the right to share in the profits and vote on important matters.
A subscription is the initial contractual relationship created when founding shareholders transfer money to the company during incorporation, receiving shares in return and becoming documented owners of the company.
Directors are agents of the company, not shareholders. Their legal duties require acting in the company’s best interests, even where this conflicts with shareholders seeking maximum financial returns.
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