Management | Owllegal

Directors of Companies in Financial Difficulties

While a company is trading solvently, the duties of the directors are owed to the company for the benefit of present and future shareholders. However, once the company becomes insolvent, or there is doubt as to its solvency, the directors must also consider or act in the interests of the company’s creditors in order to minimise the potential loss to them.

A breach of these duties can lead to personal liability and possible disqualification from acting as a director or being involved in the promotion, formation or management of the company for a specified period. The directors must also consider whether the company’s liabilities, including contingent and prospective liabilities, exceed its assets.

A company’s statutory balance sheet should not be used alone to determine whether a company is “balance sheet insolvent” as it may omit some information, such as the company’s contingent liabilities. It is generally accepted that, for the purpose of this test, accounts should be prepared on a going concern basis, as it is likely that many companies would be balance sheet insolvent if the accounts were prepared on a break-up basis.

In order to assess the extent of the problem, the directors will, at the very least, need an up-to-date cash flow statement, whatever recent monthly or other management accounts are available and appropriate projections, such as of trading prospects, cash flow and financial covenant compliance. Any actual or potential breaches of covenant or events of default in relevant loan agreements should be brought to the immediate attention of the directors.

The full board of directors should meet as soon as possible after the preliminary assessment of the position. If any of the directors cannot attend in person, they should participate by telephone. The company’s lawyers should advise the board of the statutory and other duties of the directors in this situation, both in general terms and by application to the facts.

Directors are subject to a number of duties, many of which have been codified under the Companies Act 2006 (“CA 2006”). CA 2006 also preserves the common law duty to consider or act in the interests of the company’s creditors when a company is insolvent or of doubtful solvency, with a view to minimising losses.

Under section 212 of the Insolvency Act 1986 (“IA 1986”) if, in the course of a winding up, anyone who has been involved with the promotion, formation or management of the company is found to have misapplied, retained or become accountable for any money or other property of the company, or been guilty of misfeasance or breach of a fiduciary or other duty in relation to the company, a court may on an application by the official receiver, liquidator or a creditor compel him to:

(a) repay, restore or account for the money or property of the company with interest; or (b) contribute such sum to the company’s assets by way of compensation in respect of the
misfeasance or breach of fiduciary duty or other duty as the court thinks just.

A director can also incur personal liability following an application to the court by a liquidator for fraudulent trading (section 213 of the IA1986). The court can order that any person who was knowingly a party to carrying on the business of the company with intent to defraud creditors of the company or creditors of any other person, or for any fraudulent purpose, is liable to make such contributions to the company’s assets as the court thinks proper.

Fraudulent trading is also a criminal offence which carries the risk of imprisonment, a fine or both. Fraudulent trading can arise when directors of a company allow it to incur debt when they know there is no good reason for thinking that funds will be available to repay the amount owed when it becomes due or shortly thereafter. Thus, directors have to be satisfied that services or goods supplied to the company can be paid for on the relevant due date.

Wrongful trading (section 214 of the IA1986) can lead to personal liability, although there have been few reported cases. The provision applies where a company has gone into insolvent liquidation and: (i) before the commencement of the winding up, the director knew or ought to have concluded that there was no reasonable prospect that the company would avoid going into insolvent liquidation; and (ii) thereafter the director failed to take every step with a view to minimising the potential loss to the company’s creditors.

The standard required as to what a director ought to know, the conclusions he ought to reach and steps he ought to take is that which would be known, reached or taken by a reasonably diligent person with the general knowledge, skill and experience that may reasonably be expected of a person carrying out the same functions as those of the director in relation to the company and with the general knowledge, skill and experience that the particular director has.

Apart from the risk of incurring personal liability, where a director or former director of an insolvent company is found to have engaged in conduct which makes him unfit to be concerned in the management of a company, he must be disqualified by court order or have a disqualification undertaking accepted by the Secretary of State under the Company Directors Disqualification Act 1986.

Where a Director is disqualified or provides an undertaking the Insolvency Service can apply to the court for a compensation order on behalf of the Secretary of State for Business, Energy & Industrial Strategy. The court can make a compensation order if the director is subject to a disqualification order or undertaking and their conduct has caused a quantifiable loss to one or more creditors of an insolvent company.

Directors are advised to take early legal advice as soon as they consider the company to be under pressure, where a dispute arises affecting income, or clients extend payments past agreed payment terms, or costs of projects start to outweigh incoming.

by Ian Randall

Board Meetings

Management

The management of a company is invariably delegated, under the company’s articles, to the board. Articles will typically provide that the business of the company is to be managed by the directors, who are empowered to exercise all the powers of the company, the powers must usually be exercised by the board collectively at a properly convened board meeting.

There is no specific minimum number of board meetings prescribed by law: directors must meet sufficiently often to ensure that they are discharging their duties as directors. The articles usually provide that any director may, and the secretary at the request of a director shall, call a meeting of the directors. Unless the company’s constitution prescribes a period of notice, the period must be fair and reasonable. As a matter of good practice, the notice should be written, although verbal notice may technically suffice.

The notice must set out where and when the meeting is to be held. There is no general law requirement that a notice convening a board meeting must state the business proposed to be transacted. Business that is done at a meeting of which some directors have no or insufficient notice has been held to be invalid.

The quorum for a meeting of directors will usually be determined by the articles. The articles may provide that the quorum is one. Where the articles do not prescribe a quorum, or a quorum has not been fixed in accordance with the articles, the quorum will be a majority of the board, although in some circumstances the quorum may be determined by the usual practice of the board. A director may not be counted in the quorum if they are disqualified from voting on the resolution.

A quorum must be present at the start of, and throughout, the meeting. In the absence of a quorum no business should be transacted and any resolutions purporting to be passed will be invalid subject to the provisions in the articles, the board meeting should be adjourned until a quorum can be formed. The chairperson is responsible for determining whether there is a quorum.

The articles will often set out what will happen if the number of directors has fallen below that required for a quorum. A decision made at an inquorate board meeting may be ratified by a resolution duly passed at a quorate board meeting: at common law, unless a company’s constitution otherwise provides, a board of directors can, within a reasonable time, ratify the acts of a director or directors who, when they acted, had no authority to bind the company, but which acts were within the power of the board.

Articles will usually provide that resolutions will be passed by a majority of those present and voting. Boards do not necessarily need to pass formal resolutions for their decisions to be binding, but it is conventional for them to do so. Once a proper resolution of the board has been passed, it is the duty of all the directors, including those who took no part in the deliberations of the board and those who voted against the resolution, to implement it.

Articles will often provide that a director cannot vote at a board meeting on a matter in which he has a material interest (direct or indirect) that may conflict with the interests of the company.

Every company is required to take minutes of all proceedings at meetings of its directors, if the company fails to comply with section 248, an offence is committed by every officer of the company who is in default (section 248(3), CA 2006). It is good practice to ensure that, at the very least, the minutes:

Record accurately all resolutions and decisions
Contain enough information for the reader to have an understanding of the background to the various decisions
Depending on the importance of the resolution, contain the thought process that led to them being made

The company must retain minutes of meetings of directors held on or after 1 October 2007 for at least ten years from the date of the meeting (section 248(2), CA 2006).

If the company fails to comply with section 248, an offence is committed by every officer of the company who is in default (section 248(3), CA 2006).

A director, while in office, has the right to be informed about the company’s affairs and to inspect all the company’s books and records. The right must be exercised for a proper purpose, to enable the director to discharge his personal obligations to the company and his statutory obligations. Shareholders have no general right to inspect board minutes in the absence of an express provision in the articles (or another agreement to which the company is a party, such as a shareholders’ agreement).

Acknowledgement: Thomson Reuters online resource Practical Law

NOT LEGAL ADVICE: Information provided in this Blog, is for information purposes only. It is not and should not be taken as legal advice. You should not relay on or take or fail to take any action based upon this information. Never disregard taking legal advice or delay in seeking legal advice because of something you have read in this blog, or on this website. Ian Randall is an Attorney & Counsellor at Law (NY), with 25 years of Corporate and Commercial experience in several jurisdictions. To see how Owllegal could help you, please visit; www.owllegal.org or email Ian Directly, his email address is ian@owllegal.org.

by Ian Randall

Acting As A De Facto Or Shadow Director

Management

The Companies Act 2006 (CA2006) simply defines a director as including any person occupying the position of director, by whatever name called. However, general principles have been established in case law, including the recent Court of Appeal case of Smithton v Naggar ([2014] EWCA Ci 939).

A de-facto director (or director ‘in fact’) is someone who acts as a director but who has not been formally appointed (a person who has been formally appointed being a ‘de jure’ director or ‘director in law’). The matter is determined on an objective basis and irrespective of the person’s motivation or belief.

Relevant factors include:

whether there were other persons acting as directors • whether the individual has been held out as acting as a director, including using the title ‘director’ in communications, or has been considered to be a director by the company or third parties
whether the individual was part of the corporate governing structure • in what capacity the individual was acting.

A de-facto director is subject to the same duties and liabilities as a de jure director under the Companies Act 2006 (CA2006) and certain other legislation, including the Company Directors Disqualification Act (CDDA).

Acts of a de-facto director can include:

accepting responsibility for the company’s financial affairs
acting as sole signatory for the company bank account
negotiating with third parties on behalf of the board
recruiting and appointing senior management positions

A person may be a shadow director or a de facto director, depending upon the circumstances surrounding the role and there is some overlap between the two concepts

A shadow director is someone who is not appointed as a director but who gives directions or instructions that the directors of the company are accustomed to act upon.

A person however is not regarded as a shadow director solely because the company directors act on the advice given by that person in a professional capacity. There are various exceptions in relation to directors of a subsidiary acting on direction or instruction of its parent. Whether or not a person is a shadow director is a question of fact and dependent upon all of the relevant circumstances.

The question of whether or not a person is a shadow director may arise in a wide variety of contexts, for instance for management consultants (subject to the exception for professional advice), lenders and creditors of a company or a joint venture shareholder.

Many of the CA2006 provisions applicable to de-jure directors apply also to shadow directors. The small business, enterprise and employment bill 2014 provides for the CA2006 to be amended so that the general duties of directors will apply as far as possible. The Bill also contains provisions to restrict the use of corporate directors by companies.

A shadow director is also subject to a number of other legislative provisions that apply to de jure directors; in particular, a shadow director may be liable for wrongful or fraudulent trading under the Insolvency Act 1986 and to disqualification provisions of the CDDA.

Both de-facto and shadow directors may be liable for offences under other legislation, including the Insolvency Act 1986 and criminal sanction where applicable.

Anyone who was a director or shadow director of a company at any time in the three years before the start of an insolvency may be disqualified under CDDA if found to be unfit to be concerned in the management of a company.

Matters which may result in a finding of unfitness include serious offences such as conviction for an indictable offence concerning the promotion, management or liquidation of a company or fraud in the winding up of a company, including fraudulent trading. However administrative failings, including failure to keep proper accounting records or to prepare and file accounts or submit annual returns to Companies House can also result in a finding of unfitness.

Following a report from an insolvency practitioner the Insolvency Service decides whether to take disqualification proceedings. If found unfit to be a director, the Court will disqualify the individual for a period of between two and 15 years. In addition, the individual may be ordered to pay the Insolvency Service’s costs, as well as their own.

The Insolvency Service may accept an undertaking from the person concerned that they will not act as a director for a specified period of between two and 15 years in lieu of Court proceedings.

A disqualification order against an individual will mean that the individual cannot:

be involved, either directly or indirectly, in the promotion, formation or management of a company
act as a member of an LLP
sit on the board of a charity, school or police authority
be a pension trustee
become a registered social landlord
sit on a health board or social care body
act as an insolvency practitioner

A register of individuals disqualified by court order or undertaking is maintained by Companies House and can be accessed through its website, free of charge

Where a Director is disqualified or provides an undertaking the Insolvency Service can apply to the court for a compensation order on behalf of the Secretary of State for Business, Energy & Industrial Strategy. The court can make a compensation order if the director is subject to a disqualification order or undertaking and their conduct has caused a quantifiable loss to one or more creditors of an insolvent company.

Where an individual has been a director for some time is also a shareholder and intends to exert some influence over the direction company is intending to take, simply resigning as a director does not remove the potential exposure to risk. There is a real chance that by being involved in decision making or as is more likely the case being involved in policy making the individual concerned is likely to be classified as either a “de facto” or “shadow” director in any event, rendering the decision to resign as a director simply moot.

Acknowledgement: Thomson Reuters online resource Practical Law

NOT LEGAL ADVICE: Information provided in this Blog, is for information purposes only. It is not and should not be taken as legal advice. You should not relay on or take or fail to take any action based upon this information. Never disregard taking legal advice or delay in seeking legal advice because of something you have read in this blog, or on this website. Ian Randall is an Attorney & Counsellor at Law (NY), with 25 years of Corporate and Commercial experience in several jurisdictions. To see how Owllegal could help you, please visit; www.owllegal.org or email Ian Directly, his email address is ian@owllegal.org

by Ian Randall

Overview of Buying a Private Company

Contracts, Management

There are two principal methods of acquiring the business of UK company:

Buying the shares in the target company
Buying the target company’s business and assets

A company may seek to develop its business in many ways, including expansion by acquisition. Once a specific target has been identified, the buyer can begin to assess its value. There are various valuation methods that could be adopted, but the four most commonly used are:

Discounted cash flows
Market multiples
Net asset valuations
Dividend yields

Different methods and multiples may be used according to the target company’s industry sector. Often the price for the shares will be calculated on a “cash free, debt free basis”. Traditionally, completion accounts have been used to establish the value of the shares as at completion retrospectively, with the consideration being adjusted as necessary after the accounts have been agreed

There are two main methods of acquiring a target business that is carried on by a company:

Share purchase: This involves the buyer acquiring all the shares in the company that owns the target business or assets
Business or asset purchase: The alternative approach is simply to buy each of the individual assets that make up the target business

The two acquisition structures are fundamentally different. If the shares in a company are purchased, all its assets, liabilities and obligations are acquired (even those the buyer does not know about). If assets are purchased, only the identified assets and liabilities that the buyer agrees to purchase are acquired.

On a share purchase, there may be certain change of control provisions that will need to be addressed, but otherwise there will be no need for such third-party consents. On an asset purchase, where there is a change of ownership of the assets themselves, the consent of customers, suppliers, landlords and others may be required to the assignment or novation of existing contracts.

A seller will often prefer to transfer the company, where the seller’s ongoing liability is generally limited to the extent of warranties and indemnities it gives to the buyer. By contrast, the buyer may have reasons for preferring an asset purchase. It may be concerned about particular liabilities in the target company and may prefer to “cherry pick” assets and only assume known and quantified liabilities.

Due diligence is the information-gathering process carried out by the buyer to find out as much as possible about the target company early on in the negotiations. Through this process, the buyer aims to gain a complete picture of the target and its critical success factors, strengths and weaknesses.

The due diligence exercise generally comprises an assessment of the financial, legal and commercial status of the target. The usual pattern of events is for the buyer’s lawyers to submit a lengthy questionnaire to the seller requesting information on a wide range of matters such as the target’s tax position, its main commercial contracts and the status of the intellectual property used in the business.

The share purchase agreement is the principal contractual document relating to a share purchase. It documents the agreement between the parties to sell and purchase the entire issued share capital of the target company at a specified price and sets out the other terms governing the acquisition. Depending on the complexity and size of the particular acquisition, the agreement can often run to more than 100 pages, as much as half of which may comprise the transaction warranties.

As well as containing lengthy warranties and indemnities, the share purchase agreement deals with how the consideration for the transaction is to be satisfied, any conditions precedent that the purchase may be subject to, any restrictive covenants which bind the parties, completion arrangements and other matters such as the transfer of pension rights.

In addition to the share purchase agreement, there are a number of ancillary documents that typically accompany the share purchase agreement, namely the disclosure letter and the tax covenant.

A proposed share purchase may require various consents or approvals, and this could affect the transaction timetable. The main types of approval that may be necessary include:

Board approval
Shareholder approval
Approval of regulatory authorities or other third parties

The nature and extent of the approvals required will obviously have an important bearing on the timing of the transaction, as will the level of due diligence required.

If the transaction involves a corporate buyer and seller, it will usually be necessary for the board of directors of each party (or a duly appointed committee of the board) to consider and approve both the transaction as a whole, and the execution of the key transaction documents. Any meeting of the directors should be minuted. If the buyer and the seller are UK companies, shareholders’ approval for the transaction may be required under:

A provision in their articles of association or a relevant shareholders’ agreement
In certain circumstances, the provisions of the CA 2006

The buyer will need to give early consideration to the question of whether the share purchase will trigger the need for the involvement of any regulatory authorities. The consent of certain third parties, such as the target company’s lenders or one of its major customers or suppliers may be required where, for example, the key contractual arrangements between the target company and that third party are subject to change of control provisions.

On completion of the transaction, the buyer will become the new owner of the target company and will be keen to get on with integrating the target according to its acquisition strategy.

Acknowledgment: This blog relies heavily upon information provided by Martin Mendelssohn and Simon Howley, CMS Cameron McKenna LLP and Practical Law Limited.

NOT LEGAL ADVICE: Information provided in this Blog, is for information purposes only. It is not and should not be taken as legal advice. You should not relay on or take or fail to take any action based upon this information. Never disregard taking legal advice or delay in seeking legal advice because of something you have read in this blog, or on this website. Ian Randall is an Attorney & Counsellor at Law (NY), with 25 years of Corporate and Commercial experience in several jurisdictions. To see how Owllegal could help you, please visit; www.owllegal.org or email Ian Directly, his email address is ian@owllegal.org.

by Ian Randall

Served With A Winding Up Petition

Management

A Winding Up Petition is the most serious action a creditor can take against a Company; by petitioning to liquidate (liquidation is the process of bringing a business to an end and distributing its assets to claimants) the company as it is unable to meet its liabilities as and when they fall due.

Unless steps are taken to quickly deal with the petition, the petitioning creditor – which in the majority of cases is HMRC – can proceed to advertise the petition which can alert other creditors to its existence and stir them into action too. For example, when the Company’s bank becomes aware of the petition, they will take steps to freeze the company’s bank accounts.

It is unlikely for a Winding Up Petition to have been served out of the blue; ideally company directors should have identified the potential onset of formal insolvency before the petition was served. In addition, directors will now find themselves in the involuntary position of allowing creditors to force the company into compulsory liquidation instead of taking action themselves to select the most suitable option on their terms.

From the date of the petition the seven-day countdown begins to pay the amount owed or mount a defence.

If the Company appoints an IP they could propose and negotiate a Company Voluntary Arrangement (CVA). If the business appears to be viable, this offers the creditor a proportion of the debt over a longer period of time, and allows the company breathing space to turn the business around.
Apply for an adjournment of proceedings so that the Administration route can be considered.
The directors could voluntarily have the company placed into Administration – this would prevent a Winding Up Order being issued by the courts. Company assets would be valued and sold by an appointed administrator to cover some or all of the debt.
The company could simply pay all monies due to the creditor, perhaps using asset-financing as a way to raise the funds.
Where a realistic dispute of the debt is an option.
An injunction could potentially be sought to either postpone or prohibit the petition being advertised in the London Gazette. This would prevent other creditors becoming aware of the situation, an important point as the banks keep track of these adverts and would freeze all company accounts.

A company may be issued with a Winding Up Petition if more than £750 is owed to a creditor. It is likely to be a last resort for the creditor, however, as fees charged for issuing a Petition are high. Currently standing at £1,490£1,990.

This is the general timeline of events once a Winding Up Petition has been sent by a creditor:

The petition is served at the company’s registered address, and a date set for the hearing.
From this point, company directors have exactly one week in which to act, otherwise the petition will be advertised in the London Gazette, alerting banks to the situation. The bank will then freeze the company account to prevent the disposal of assets, effectively stopping all trading.
If the week passes without change, the court will issue a Winding Up Order, the company will be liquidated, and the directors will have no further influence on proceedings.
Once a Winding Up Order has been issued, company assets will be valued and sold.

The liquidator must also investigate the actions of company directors in relation to how the business was run. In some cases, the directors may face accusations of misconduct if they have continued to trade despite being aware of company insolvency issues. In these instances, directors may become personally liable for company debts incurred from the date they knew about the insolvency.

If company directors are found guilty of misconduct, the result can be fines and/or disqualification from being a limited company director in the UK – this ban can last for up to fifteen years. In serious cases of misconduct, directors could face imprisonment.

It is likely that a company will be aware that a winding up petition may be imminent, if for no other reason that someone has served a “Statutory Demand” on the Company, so it’s imperative that the company reacts quickly to the service of a winding up petition.

Acknowledgement: Information provided by Begbies Traynor Group PLC

NOT LEGAL ADVICE: Information provided in this Blog, is for information purposes only. It is not and should not be taken as legal advice. You should not relay on or take or fail to take any action based upon this information. Never disregard taking legal advice or delay in seeking legal advice because of something you have read in this blog, or on this website. Ian Randall is an Attorney & Counsellor at Law (NY), with 25 years of Corporate and Commercial experience in several jurisdictions. To see how Owllegal could help you, please visit; www.owllegal.org or email Ian Directly, his email address is ian@owllegal.org.

by Ian Randall

Directors’ general duties under the Companies Act 2006

Management

While the Companies Act 2006 provides that the general duties are based on, and have effect in place of, certain common law rules and equitable principles (section 170(3)), it also provides that: The general duties should be interpreted and applied in the same way as the common law rules and equitable principles.

The general duties will apply to all the directors of a company. “Director” is defined to include any person occupying the position of director, by whatever name called (section 250), which includes de facto directors, and in most instances “shadow directors.”

The codified duties are owed to the company and only the company will be able to enforce them, although in certain circumstances
shareholders may be able to bring a derivative action on the company’s behalf.

Companies may, through their articles, go further than the statutory duties by placing more onerous requirements on their directors, however, the articles may not dilute the duties except to the extent permitted by specific sections. Section 232, which prohibits a company from exempting a director from a breach of duty, will not prevent a company’s articles including provisions that have previously been lawful for dealing with conflicts of interest (section 232(4)).

Duty to act within powers (section 171) A director must act in accordance with the company’s constitution and must only exercise his powers for their proper purpose. This duty replaces the common law principles
under which directors must act within the powers conferred on them by the company’s memorandum and articles and exercise their powers for proper purposes.

Duty to promote the success of the company (section 172) Section 172 provides that a 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. In so doing, the director must have regard (among other matters) to: The likely consequences of any decision in the long term.

The interests of the company’s employees. The need to foster the company’s business relationships with suppliers, customers and others. The impact of the company’s operations on the community and the environment. The desirability of the company maintaining a reputation for high standards of business conduct. The need to act fairly as between the members of the company.

Duty to exercise independent judgment (section 173) This duty codifies the principle of law under which directors must exercise their powers independently, without subordinating their powers to the will of others, whether by delegation or otherwise. It provides that a
director must exercise independent judgment.

Duty to exercise reasonable care, skill and diligence (section 174) Section 174 codifies recent formulations of a director’s common law duty of care, skill and diligence. Under section 174, a director must exercise the care, skill and diligence which would be exercised by a reasonably diligent person with both: The general knowledge, skill and experience that may reasonably be expected of a person carrying out the functions carried out by the director in relation to the company.

Duty to avoid conflicts of interest (section 175) Under section 175, a director must avoid situations in which he has or can have a direct or indirect interest that conflicts with, or may conflict with, the company’s interests. That applies, in particular, to the exploitation of property, information or opportunity, and whether or not the company could take advantage of the property, information or opportunity. The duty in section 175 will not be infringed: If the situation cannot reasonably be regarded as likely to give rise to a conflict of interest.

Duty not to accept benefits from third parties (section 176)
Section 176 codifies the fiduciary rule prohibiting the exploitation of the position of director for personal benefit. Under section 176, directors must not accept any benefit (including a bribe) from a third party which is conferred because of his being a director or his doing or not doing anything as a director. “Benefit” is not defined.

The duty will not be infringed if the acceptance of the benefit cannot reasonably be regarded as likely to give rise to a conflict of interest. Unlike section 275, board authorisation is not permitted in respect of the acceptance of benefits from third parties.

Duty to declare interest in proposed transaction or arrangement with the company Under Section 177, directors must declare to the other directors the nature and extent of any interest, direct or indirect, in a proposed transaction or arrangement with the company. The director need not be a party to the transaction for the duty to apply. The declaration must be made before the company enters into the transaction or arrangement. The declaration may be made at a meeting of the directors, or by notice in writing in accordance with section 184 (notice in writing) or section 185 (general notice).

Acknowledgement: Thomson Reuters online resource Practical Law

NOT LEGAL ADVICE: Information provided in this Blog, is for information purposes only. It is not and should not be taken as legal advice. You should not relay on or take or fail to take any action based upon this information. Never disregard taking legal advice or delay in seeking legal advice because of something you have read in this blog, or on this website. Ian Randall is an Attorney & Counsellor at Law (NY), with 25 years of Corporate and Commercial experience in several jurisdictions. To see how Owllegal could help you, please visit; www.owllegal.org or email Ian Directly, his email address is ian@owllegal.org.

by Ian Randall

Boardroom and Shareholder Disputes

Management

Boardroom and shareholder disputes can arise for many reasons.

disagreements over the direction and development of the company
poor personal relationships
conflicts of interest (because a director has interests in another business)
a lack of performance on the part of one shareholder/director, the terms of directors’ service contracts, or concern over whether the board is meeting its legal responsibilities

They can also arise because directors are stopping money getting through to the shareholders by paying themselves high salaries or keeping money in the company (for a rainy day) when shareholders think it should be paid out as dividend.

Anticipating and providing for disputes in the articles of association or a shareholders’ or partnership agreement in advance can save a great deal of time, money and aggravation.

Disputes escalate because the parties don’t find out exactly what their legal rights are at the outset, and don’t understand the options for enforcing these. The longer you put off taking advice, the more time and money you will eventually spend sorting it out, and the more it will damage your business. Act at once.

Most decisions in a company are made by the directors, by majority vote, with the chairperson having a casting vote if there is a tie. The majority on the board can therefore force through any decision that is made at board level.

If a director forces through a decision at board level, it could be challenged if the director has acted improperly. The Director has legal duties and responsibilities, owed to the company e.g. there is a duty to act in the best interests of the company. Breach these, and the Director could be made personally liable to pay over any profit they have made to the company and reimburse it for any losses it has made.

A director would be breaching those duties if:

he/she uses company property for personal use
he/she diverts a contract that the company could have won to another business of their own, without approval of the shareholders or of the independent directors on the board
he/she fails to meet the minimum threshold required of someone with the directors’ functions in the company – for example, if he/she is the finance director, but he/she fails to keep proper accounting records or monitor the company’s solvency
he/she doesn’t comply with the company’s articles of association, or he/she fails to comply with the Companies Act

Even if a director controls the board, they will be vulnerable unless they also have control at shareholders’ meetings. Some matters can’t be decided by the directors but have to be referred to the shareholders for a decision.

If an individual can cast more than 75% of the votes at a shareholders’ meeting, they can always force through any decision. If an individual can cast more than 50% of the votes at a shareholders meeting, they can force through some resolutions, but not all.

One resolution that can always be passed by majority vote at shareholders’ meetings is a resolution to remove a director from office. This power is enshrined in the Companies Act, though the director has the right of appeal. The threat of removal can
sometimes stop a minority shareholder who is on the board from taking things further.

Shareholders have significant remedies if they have been ‘unfairly prejudiced’, or it is ‘just and equitable’ that the company be wound up. Getting embroiled in any of these sorts of action is both time-consuming and expensive.

If the individual hasn’t acted properly as a director, they may still be safe. It is the company that has been wronged if the director breaches their duties, so it is the board that decides whether to take action against the director. However, it is now possible for someone else to apply to the court for permission to bring an action on behalf of the company a ‘derivative’ action. It is dangerous to assume that the director will get away with improper conduct.

The biggest danger is that any shareholder can take the director to court on grounds that the company’s affairs have been conducted in a manner which is ‘unfairly prejudicial’ to their interests. These are personal actions, not actions brought by the company, so the Director can’t stop a shareholder bringing one against him/her simply because they control the board and/or shareholder meetings.

These disputes consume time and money and are a major distraction from the business. The Director can’t use the company’s money to fund their defence and if they try, the other side may take out an injunction to stop them.

In private companies, ‘unfair prejudice’ actions are often based on a failure to fulfil the ‘legitimate expectations’ of the aggrieved shareholder about what the company was set up to do, and how it would be run. For example, if it was agreed (formally or informally) that:

the company would carry on a particular business
all would be entitled to an equal say in how the company is managed
the directors would be fair when deciding on the salaries to be paid, the amounts to be kept in the company to fund growth, and the dividends to be paid out and you act contrary to these legitimate expectations, the court may intervene

The court has a general power to wind a company up, on a shareholder’s application, if it is ‘just and equitable’ to do so. Like an unfair prejudice action, the director can’t stop this action being brought even if they control the board and/or shareholders’ meetings. An aggrieved shareholder will usually also ask that the company be wound up at the same time as they petition for unfair prejudice (see above), citing the same facts in support of each claim.

NOT LEGAL ADVICE: Information provided in this Blog, is for information purposes only. It is not and should not be taken as legal advice. You should not relay on or take or fail to take any actin based upon this information. Never disregard taking legal advice or delay in seeking legal advice because of something you have read in this blog, or on this website. Ian Randall is an Attorney & Counsellor at Law (NY), with 25 years of Corporate and Commercial experience in several jurisdictions. To see how Owllegal could help you, please visit; www.owllegal.org or email Ian Directly, his email address is ian@owllegal.org

by Ian Randall

Owllegal Limited

Ian Randall