As a general rule, a company is owned by its shareholders and run on a day-to-day basis by its directors.
As we’ve seen in our guide to share capital, shareholders sometimes have a limited say in operational decisions. But generally, company business is conducted by the directors acting collectively as a board or a committee, or by individual directors with particular specialisms.
The directors’ powers are given to them by law, in the Articles of Association of the company and under their service contract with the company. They also have certain duties to the company, such as a duty to always act in its best interests, even if this conflicts with their own. In addition, directors have certain legal duties – to make filings at Companies House on the company’s behalf and to prepare accounts, for example.
Because the title of ‘director’ carries a certain kudos, it’s often included in the job titles of individuals who aren’t in law, directors. While this can be useful when recruiting or offering promotions, businesses need to tread carefully and make clear to staff that only appointed directors have the power to act on the company’s behalf.
In this guide, we take a look at the different types of directors and how you can tell them apart. We also discuss ways of choosing your mix of directors if you’re a start-up or fast-growing business, and what you need to look out for when picking directors to run your business.
- Types of director in practical terms
- Executive directors
- Non-executive directors
- Directors’ duties
- To act within the powers given to a director
- To promote the success of their company
- To exercise independent judgment in their decision-making
- To exercise reasonable care, skill and diligence
- To avoid conflicts of interest when acting or making decisions as a director
- The duty not to accept benefits from third parties
- How to choose your types of directors if you’re a start-up or fast-growing company
- Legal definitions of directors and why this matters to you
Types of director in practical terms
When a company’s set up, the first shareholders decide who the directors will be, and what they’ll do. After that, either the shareholders or the directors may have the right to appoint directors.
Directors don’t have to be full-time employees, and they may not even be company employees at all.
Sometimes, directors have particular areas of expertise or roles. For example, a company may have a chief executive, a finance director, a managing director and so on. These most senior directors or officers of a company are often referred to as the ‘C-suite’ as they’re given titles that begin with ‘Chief’, such as Chief Marketing Officer, Chief Finance Officer, and so on.
While in most smaller companies, all directors have contracts of employment (or service contracts), in some companies, particularly larger and public companies, the shareholders may decide to appoint non-executive or independent directors who are not employees.
An executive director is a person responsible for the day-to-day management of the company as well as its strategy. Executive directors usually make decisions acting as a board.
Executive directors are normally employees as well as directors. This means that in addition to their directors’ duties in law, they’ll have additional duties to the company set out in their employment contracts.
In a practical sense, this means that executive directors must:
- keep a degree of independence from their management job when making strategic decisions as a director
- be aware that their day job may sometimes cause a conflict with their strategic role
- use their specialist knowledge of the company’s business to help the board as a whole make good decisions
For these reasons, when choosing an executive director you should bear in mind their qualities as individuals as well as their technical abilities. It’s a good idea to try to choose people who are able to think strategically as well as operationally.
The managing director or chief executive is normally an executive director who’s been appointed to run the company and follow the strategy determined by the board and the shareholders.
Non-executive directors have the same legal duties towards the company as executive directors, but because they generally don’t get involved in operations, they have more of an oversight role.
Shareholders often choose to appoint non-executive directors to keep an eye on how the directors are performing, and to give comfort to the outside world (and people like investors) that the company is being run properly.
Non-executive directors are common in public companies, where a large proportion of the shareholders are members of the public who have little or no influence over the business.
They are not normally employees but receive a fee for acting as a director under a director’s service contract.
If you’re looking for a non-executive director, look out for someone independent of the company who:
- has skills and experience the company needs
- isn’t a supplier or customer
- is prepared to become knowledgeable about the company’s activities so that they can make informed and objective decisions
- doesn’t advise the company in some other capacity, such as an accountant
- doesn’t have any conflicts of interest with the company or the other directors, like being a family member or running a similar company themselves
- is on a fixed-term contract so can be removed easily if necessary
- understands that they don’t have a management role
Non-executives can be really helpful when running a company as they bring an outsider’s view, particularly if they are truly independent.
Sometimes directors have a non-executive seat on the board because they are representing one of the principal shareholders such as an investor. These are known as ‘nominee directors’. It’s obviously important in such a case that that director puts the interests of their sponsor or employer to one side when making decisions on behalf of the company of which they are a nominee director.
The Companies Act 2006 sets out some general duties that the directors owe to their company:
To act within the powers given to a director
These powers are described in the company’s constitution, and any decision of shareholders that has a bearing on directors’ powers.
To promote the success of their company
For a commercial business, this generally means to act in a way that promotes the interests of the company and its shareholders, for example by increasing the company’s value. In this respect, directors need to ensure that they act in ways that promote good relations with employees, suppliers, customers and the community in general. They should consider long- as well as short-term issues when decision-making, act impartially when dealing with individual shareholders, and ensure high standards when conducting business.
To exercise independent judgment in their decision-making
This duty is particularly important when directors are appointed because of their relationship with another third party such as an investor, or a government body like a local council. When acting as a company director, while they can be mindful of their ‘sponsor’s views, they need to act independently at all times.
To exercise reasonable care, skill and diligence
This is judged objectively and subjectively, bearing in mind any particular skills a director may have.
To avoid conflicts of interest when acting or making decisions as a director
While directors need to avoid conflicts of interests, whether direct or indirect. Shareholders can however authorise transactions involving a conflict, as can the board of directors.
The duty not to accept benefits from third parties
The duty to declare any interest they have in a proposed transaction or arrangement that the company is aware of or considering
The chairman or chairwoman of the board is the person who leads the board of directors, sets the agenda, makes sure that the directors are given sufficient information to make informed decisions, and oversees the decision-making procedure. During meetings, their job is to ensure there’s a proper debate and that all voices are heard.
Under the Articles of a company, the chair often has a casting vote in the case of a hung decision. In larger and listed companies, the chair ideally shouldn’t also be the chief executive because of the potential for a conflict of interest.
How to choose your types of directors if you’re a start-up or fast-growing company
If you’re a start-up or high-growth business, particularly if your ultimate goal is to seek external funding or go public via an IPO, you should ideally choose a mix of directors to sit on the board. This is because executive and truly independent non-executive directors bring different skills and perspectives to the mix and lend credibility to your business.
A good balance of directors will not only help your decision-making processes, it will demonstrate to third parties that you’re serious about your business’s growth.
The benefits of having independent non-executive directors are that:
- they’ll provide objective advice that isn’t tainted by an insider’s perspective
- they can act as a critical friend and give you impartial advice
- they often bring specialist knowledge from other areas of business and different sectors
- they may help you innovate
- if you’re short of cash to bring in particular skillsets, they may be able to provide them instead
- they can act as consultants
In these last two respects, sometimes the line between executive and non-executive directors can become a bit blurred, as specialist non-execs can end up helping with management tasks.
Legal definitions of directors and why this matters to you
According to the Companies Act 2006, a statutory director includes any person occupying the position of director, even if they are not called a director in their job title.
Statutory directors are people who’ve been formally appointed by a company (de jure), or who are acting as directors in actual fact (de facto), or in accordance with a company’s Articles.
When you operate a company, you have to keep a register of the people that are currently appointed as directors. Their details are kept by the company and are available to be inspected by the public. The type of details you need to list will be different depending on whether the director is a person or a company or other legal entity. Some details may be kept private if you’ve elected to do so.
When you first incorporate your company, you need to give details of its first directors to Companies House. After that, every time their role or their details change (for example, the role begins or ends or the director’s residential address details change), you have to notify Companies House again within 14 days of the change.
De jure directors
A ‘de jure’ director is a person that is legally entitled to be a director because they’ve been formally appointed in law as a director or in accordance with the articles of association of the company. A statutory director is therefore a de jure director.
A de jure director is also likely to be registered with the registrar of companies at Companies House.
A de jure director can be validly appointed to a company in a variety of ways:
- if they have been appointed by the members of the company.
- if they are appointed by the board of directors.
- in some circumstances, if they have been appointed by court order.
As long as the person is at least 16 years old when the appointment takes effect and they have consented to act as a director of the company, they can be a de jure director.
De facto directors
In contrast to a de jure director, a de facto director hasn’t been properly or legally appointed as a director but does, in reality, do things that only directors are normally allowed to do like:
- signing contracts
- telling third parties they’re a director, or making themselves out to be a director
- taking decisions on behalf of the company
Whether someone is acting as a de facto director will depend on what they do and how, but generally they need to be seen, in an objective way, to be acting in a senior, decision-making role rather than just being a member of the management team (such as ‘director of communications’).
During their time as a de facto director, the person will owe the company the same general duties as a statutory director.
A shadow director of a company is a person whose directions or instructions are usually followed by the directors of that company.
This wouldn’t normally include professional advisors such as accountants, unless they have a disproportionate degree of influence over the company’s operations and conduct.
There is arguably an overlap between the roles of a de facto director and a shadow director – if a person was not formally appointed as a director, but still exercised real influence over a company, they could arguably be both a de facto director and a shadow director.
A shadow director will generally be bound by the statutory duties of a director which includes duties to declare any interest they have in a proposed transaction or arrangement that the company is aware of or considering.
A nominee director is a de jure director that has been appointed to represent a particular party, interest or stakeholder other than the company.
For example, if you’re creating a company joint venture, the shareholders of the JV will each appoint nominee directors to represent them on the board. Appointing nominee directors is a useful way for you, as a JV shareholder, to effectively monitor the strategic direction of the joint venture.
A nominee director will owe the general duties of a director to the company to which it is appointed, so they need to bear in mind the importance of independence from their sponsor in the decision-making process.
An alternate director is someone whose been appointed under the Articles to act as director in place of a currently appointed statutory director. This can be for practical reasons such as to make sure there’s a quorum for a board meeting.
If a company wants to allow its directors to be able to appoint alternate directors, it should make sure that the Articles allow this. In practice, alternate directors are often approved by the board of directors of the company prior to them being appointed.
Why these definitions matter to you
The distinction between the different types of directors matters because those with the status of director can be liable for the actions they take on behalf of the company. As with de jure directors, both de facto and shadow directors may become criminally liable for their actions, be disqualified from acting as a director and be liable for wrongful trading if they breach their directors duties. In addition, they may become personally liable to the company if they abuse their position for personal gain.
If you have been acting as a director without being formally appointed, you should consider your position carefully and seek professional advice.
If you’d like to know more about company directors and their duties, or would like further information about starting a company, contact our team of expert corporate lawyers. Get in touch on 0800 689 1700, email us at firstname.lastname@example.org, or fill out the short form below with your enquiry.