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Paul Farrell, Partner at W.O.McGrory & Co, CPA Registered Auditors & Accountants, Drogheda, confirms that there is considerable uncertainty among Directors of small companies as to what their roles and responsibilities are as Directors. This is such a critical concern, particularly in these troubled times for small enterprises, that he sets out below the duties and responsibilities for easy reference. Paul also recommends that small business owners seek advice from their accountants on this issue to avoid costly errors.
What are the duties of the board of directors and of individual directors?
The main function of the board of directors is to supervise the management of the company and to set its policy and direction. The failure of the board to maintain control over the affairs of the company can contribute to company failure.
There is no prescribed agenda or timing of board meetings. However, a board should meet regularly to review the company’s state of affairs.
Mention has already been made earlier of a number of the statutory obligations which apply to all directors. Apart from these, a director has a number of general duties including:
– to use their skills and a reasonable level of care in the performance of their duties;
– to attend meetings regularly (but not necessarily every time);
– to act in good faith in the company’s best interest;
to exercise powers for a proper purpose, namely for the benefit of the members or the purposes for which the company was set up; and
to avoid either actual or potential conflicts of interest between their personal interests and those of the company.
Common law duties of directors (the duties created by the courts)
The common law duties require that:
• directors must act in good faith and in the company’s interest and not use their powers for personal gain or for the benefit of others at the company’s expense – for example directors should pay the market value for company assets;
• directors must not profit from being a director and must account for any profit secretly obtained – for example a director who is also a director of a second business cannot use any confidential information they receive as a director of the first company to benefit that second business; and
• directors must act with due care, skill and diligence – for example, directors need to meet regularly to review the company’s finances and take action to correct any problems.
What personal entitlement do directors have to company property?
One of the most important principles which a company director must learn is that a company’s assets are not their property (even though they may be the sole or primary shareholder). This is because there will often be many other parties with a financial interest in the business, including in particular the company’s employees and its creditors.
Therefore, company directors should not treat company assets as belonging to them unless the property has been properly assigned to them.
The most appropriate methods by which a director can obtain value from the company are as follows:
• Dividend
A dividend is the money which shareholders receive as earnings from their investment in the company. A dividend can only be declared at the AGM and must only be paid out of the profits which have been accumulated by the company. All eligible shareholders must receive the dividend.
• Contract of Employment
A director can be an employee of the company and may take a salary in line with that contract. However, this salary must be disclosed in the annual accounts of the company.
• Directors’ Loans
There is general prohibition on directors drawing down funds from the company for personal purposes. However, it is permitted in certain defined circumstances, and where it occurs, the funds will often be treated as a company loan to the director. One of the permitted circumstances is where the aggregate value of loans to directors does not exceed 10% of the company’s ‘relevant assets’.
Further information on this term and on the other exceptions is available from the ODCE at www.odce.ie. A breach of the permitted circumstances may constitute an offence by the company’s directors.
What happens if the company is in financial trouble?
If a company cannot pay its debts as they fall due, then the company is deemed to be insolvent. If the company continues to operate while in this situation and in disregard of the interests of its creditors and other stakeholders, the directors may be held personally liable for the consequences, including any debts which the company may incur while trading in an insolvent manner.
The director will also be at the risk of prosecution, restriction or disqualification if they fail to act within the law and discharge their duties in a responsible manner. Some 300 company directors have been restricted to date. A summary of the main scenarios for companies who find themselves in financial trouble are explained below.
Trading difficulties
If a company finds it difficult to pay its debts, the directors must favour the interests of the people to whom the company owes money (creditors).
Reckless trading
If directors help to create a company debt knowing that the company will not be able to pay the creditor, they may have to pay some or all of the company’s debts themselves if this is ordered by a court.
Insolvent liquidation
If a company does not have enough money to pay creditors and the company is later wound up, the directors must prepare a statement of its assets and liabilities and co-operate with the liquidator.
Struck off insolvent companies
If directors fail to arrange for the liquidation of a company that owes a large debt to one or more creditors, the High Court may disqualify them from acting as directors if the company is later struck off the Companies Register for failing to file its annual returns
Conclusion
A more detailed information book on directors is available under
Decision Notice D/2002/1 from www.odce.ie.