Board of directors

Board of directors

Overview
A board of directors is a body of elected or appointed members who jointly oversee the activities of a company or organization
Organization
An organization is a social group which distributes tasks for a collective goal. The word itself is derived from the Greek word organon, itself derived from the better-known word ergon - as we know `organ` - and it means a compartment for a particular job.There are a variety of legal types of...

. Other names include board of governors
Board of governors
Board of governors is a term sometimes applied to the board of directors of a public entity or non-profit organization.Many public institutions, such as public universities, are government-owned corporations. The British Broadcasting Corporation was managed by a board of governors, though this role...

, board of managers, board of regents
Board of Regents
In the United States, a board often governs public institutions of higher education, which include both state universities and community colleges. In each US state, such boards may govern either the state university system, individual colleges and universities, or both. In general they operate as...

, board of trustees, and board of visitors. It is often simply referred to as "the board".

In some European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 and Asia
Asia
Asia is the world's largest and most populous continent, located primarily in the eastern and northern hemispheres. It covers 8.7% of the Earth's total surface area and with approximately 3.879 billion people, it hosts 60% of the world's current human population...

n countries, there are two separate boards, an executive board, also called corporate executive team, for day-to-day business and a supervisory board
Supervisory board
A supervisory board or supervisory committee, often called board of directors, is a group of individuals chosen by the stockholders of a company to promote their interests through the governance of the company and to hire and supervise the executive directors and CEO.Corporate governance varies...

, also called board of directors (elected by the shareholders) for supervising the executive board.

A board's activities are determined by the powers, duties, and responsibilities delegated to it or conferred on it by an authority outside itself.
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Encyclopedia
A board of directors is a body of elected or appointed members who jointly oversee the activities of a company or organization
Organization
An organization is a social group which distributes tasks for a collective goal. The word itself is derived from the Greek word organon, itself derived from the better-known word ergon - as we know `organ` - and it means a compartment for a particular job.There are a variety of legal types of...

. Other names include board of governors
Board of governors
Board of governors is a term sometimes applied to the board of directors of a public entity or non-profit organization.Many public institutions, such as public universities, are government-owned corporations. The British Broadcasting Corporation was managed by a board of governors, though this role...

, board of managers, board of regents
Board of Regents
In the United States, a board often governs public institutions of higher education, which include both state universities and community colleges. In each US state, such boards may govern either the state university system, individual colleges and universities, or both. In general they operate as...

, board of trustees, and board of visitors. It is often simply referred to as "the board".

In some European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 and Asia
Asia
Asia is the world's largest and most populous continent, located primarily in the eastern and northern hemispheres. It covers 8.7% of the Earth's total surface area and with approximately 3.879 billion people, it hosts 60% of the world's current human population...

n countries, there are two separate boards, an executive board, also called corporate executive team, for day-to-day business and a supervisory board
Supervisory board
A supervisory board or supervisory committee, often called board of directors, is a group of individuals chosen by the stockholders of a company to promote their interests through the governance of the company and to hire and supervise the executive directors and CEO.Corporate governance varies...

, also called board of directors (elected by the shareholders) for supervising the executive board.

A board's activities are determined by the powers, duties, and responsibilities delegated to it or conferred on it by an authority outside itself. These matters are typically detailed in the organization's bylaws. The bylaws commonly also specify the number of members of the board, how they are to be chosen, and when they are to meet.

In an organization with voting members, e.g., a professional society, the board acts on behalf of, and is subordinate to, the organization's full assembly, which usually chooses the members of the board. In a stock corporation, the board is elected by the stockholders and is the highest authority in the management of the corporation. In a non-stock corporation
Non-stock corporation
A non-stock corporation is a corporation that does not have owners represented by shares of stock. That type of corporation is called a stock corporation. Instead, a non-stock corporation typically has members, who are the functional equivalent of stockholders in a stock corporation Non-stock...

 with no general voting membership, e.g., a university, the board is the supreme governing body of the institution; its members are sometimes chosen by the board itself.

Typical duties of boards of directors include:
  • governing the organization by establishing broad policies and objectives;
  • selecting, appointing, supporting and reviewing the performance of the chief executive;
  • ensuring the availability of adequate financial resources;
  • approving annual budgets;
  • accounting to the stakeholders for the organization's performance.
  • setting their own salaries and compensation


The legal responsibilities of boards and board members vary with the nature of the organization, and with the jurisdiction within which it operates. For public corporations, these responsibilities are typically much more rigorous and complex than for those of other types.

Typically the board chooses one of its members to be the chairman, who holds whatever title is specified in the bylaws.

Two-tier system


In most European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 and many Asia
Asia
Asia is the world's largest and most populous continent, located primarily in the eastern and northern hemispheres. It covers 8.7% of the Earth's total surface area and with approximately 3.879 billion people, it hosts 60% of the world's current human population...

n countries, there are two separate boards, an executive board for day-to-day business and a supervisory board
Supervisory board
A supervisory board or supervisory committee, often called board of directors, is a group of individuals chosen by the stockholders of a company to promote their interests through the governance of the company and to hire and supervise the executive directors and CEO.Corporate governance varies...

 (elected by the shareholders) for supervising the executive board. In these countries, the CEO (chief executive or managing director) presides over the executive board and the chairman presides over the supervisory board, and these two roles will always be held by different people. This ensures a distinction between management
Management
Management in all business and organizational activities is the act of getting people together to accomplish desired goals and objectives using available resources efficiently and effectively...

 by the executive board and governance
Governance
Governance is the act of governing. It relates to decisions that define expectations, grant power, or verify performance. It consists of either a separate process or part of management or leadership processes...

 by the supervisory board. This allows for clear lines of authority. The aim is to prevent a conflict of interest
Conflict of interest
A conflict of interest occurs when an individual or organization is involved in multiple interests, one of which could possibly corrupt the motivation for an act in the other....

 and too much power being concentrated in the hands of one person. There is a strong parallel here with the structure of government, which tends to separate the political cabinet
Cabinet (government)
A Cabinet is a body of high ranking government officials, typically representing the executive branch. It can also sometimes be referred to as the Council of Ministers, an Executive Council, or an Executive Committee.- Overview :...

 from the management civil service
Civil service
The term civil service has two distinct meanings:* A branch of governmental service in which individuals are employed on the basis of professional merit as proven by competitive examinations....

. In the United States, the board of directors (elected by the shareholders) is often equivalent to the supervisory board, while the executive board may often be known as the executive committee (operating committee or executive council), composed of the CEO and their direct reports (other C-level officers, division/subsidiary heads).

Directors


The directors of an organization are the persons who are members of its board. Several specific terms categorize directors by the presence or absence of their other relationships to the organization.

An inside director is a director who is also an employee, officer, major shareholder
Shareholder
A shareholder or stockholder is an individual or institution that legally owns one or more shares of stock in a public or private corporation. Shareholders own the stock, but not the corporation itself ....

, or someone similarly connected to the organization. Inside directors represent the interests of the entity's stakeholders, and often have special knowledge of its inner workings, its financial or market position, and so on.

Typical inside directors are:
  • A Chief Executive Officer
    Chief executive officer
    A chief executive officer , managing director , Executive Director for non-profit organizations, or chief executive is the highest-ranking corporate officer or administrator in charge of total management of an organization...

     (CEO) who may also be Chairman of the Board
  • Other executives of the organization, such as its Chief Financial Officer
    Chief financial officer
    The chief financial officer or Chief financial and operating officer is a corporate officer primarily responsible for managing the financial risks of the corporation. This officer is also responsible for financial planning and record-keeping, as well as financial reporting to higher management...

     (CFO) or Executive Vice President
  • Large shareholders (who may or may not also be employees or officers)
  • Representatives of other stakeholders such as labor unions, major lenders, or members of the community in which the organization is located


An inside director who is employed as a manager or executive of the organization is sometimes referred to as an executive director (not to be confused with the title executive director
Executive director
Executive director is a term sometimes applied to the chief executive officer or managing director of an organization, company, or corporation. It is widely used in North American non-profit organizations, though in recent decades many U.S. nonprofits have adopted the title "President/CEO"...

 sometimes used for the CEO position). Executive directors often have a specified area of responsibility in the organization, such as finance, marketing, human resources, or production.

An outside director is a member of the board who is not otherwise employed by or engaged with the organization, and does not represent any of its stakeholders. A typical example is a director who is president of a firm in a different industry.

Outside directors bring outside experience and perspective to the board. They keep a watchful eye on the inside directors and on the way the organization is run. Outside directors are often useful in handling disputes between inside directors, or between shareholders and the board. They are thought to be advantageous because they can be objective and present little risk of conflict of interest. On the other hand, they might lack familiarity with the specific issues connected to the organization's governance.

Recapping the terminology:
  • director - any member of the board of directors
  • inside director - a director who, in addition to serving on the board, has a meaningful connection to the organization
  • outside director - a director who, other than serving on the board, has no meaningful connections to the organization
  • executive director - an inside director who is also an executive with the organization. The term is also used, in a completely different sense, to refer to a CEO
  • non-executive director - a director who is not an executive with the organization


Individual directors often serve on more than one board. This practice results in an interlocking directorate
Interlocking directorate
Interlocking directorate refers to the practice of members of a corporate board of directors serving on the boards of multiple corporations. A person that sits on multiple boards is known as a multiple director. A direct interlock occurs when two firms share a director or when an executive of one...

, where a relatively small number of individuals have significant influence over a large number of important entities. This situation can have important corporate, social, economic, and legal consequences, and has been the subject of significant research.

Sarbanes-Oxley Act


The Sarbanes-Oxley Act
Sarbanes-Oxley Act
The Sarbanes–Oxley Act of 2002 , also known as the 'Public Company Accounting Reform and Investor Protection Act' and 'Corporate and Auditing Accountability and Responsibility Act' and commonly called Sarbanes–Oxley, Sarbox or SOX, is a United States federal law enacted on July 30, 2002, which...

 (SOX) has introduced new standards of accountability on boards of U.S. companies or companies listed on U.S. stock exchange
Stock exchange
A stock exchange is an entity that provides services for stock brokers and traders to trade stocks, bonds, and other securities. Stock exchanges also provide facilities for issue and redemption of securities and other financial instruments, and capital events including the payment of income and...

s. Under the Act, directors risk large fines and prison sentences in the case of accounting crimes. Internal control
Internal control
In accounting and auditing, internal control is defined as a process effected by an organization's structure, work and authority flows, people and management information systems, designed to help the organization accomplish specific goals or objectives. It is a means by which an organization's...

 is now the direct responsibility of directors. The vast majority of companies covered by the Act have hired internal auditors to ensure that the company adheres to the highest standards of internal control. The internal auditors are required by law to report directly to an audit board, consisting of directors more than half of whom are outside directors, one of whom is an accounting expert.

Corporations


Theoretically, the control of a company is divided between two bodies: the board of directors, and the shareholders in general meeting. In practice, the amount of power exercised by the board varies with the type of company. In small private companies, the directors and the shareholders are normally the same people, and thus there is no real division of power. In large public companies
Public company
This is not the same as a Government-owned corporation.A public company or publicly traded company is a limited liability company that offers its securities for sale to the general public, typically through a stock exchange, or through market makers operating in over the counter markets...

, the board tends to exercise more of a supervisory role, and individual responsibility and management tends to be delegated downward to individual professional executives (such as a finance director or a marketing director) who deal with particular areas of the company's affairs.

Another feature of boards of directors in large public companies is that the board tends to have more de facto
De facto
De facto is a Latin expression that means "concerning fact." In law, it often means "in practice but not necessarily ordained by law" or "in practice or actuality, but not officially established." It is commonly used in contrast to de jure when referring to matters of law, governance, or...

power. The shareholders tend to grant proxies to the directors and accept all recommendations of the board rather than try to get involved in management, since each shareholder's power is so small. Also, the large number of shareholders makes it hard for them to organize. However, there have been moves recently to try to increase shareholder activism among both institutional investors and individuals with small shareholdings.

Conversely, though, boards of directors in large public companies tend to wield very little practical power, because they delegate nearly all of their power to the top executive employees, adopting their recommendations almost without fail. As a practical matter, executives even choose the directors, as shareholders normally follow management recommendations when electing them.

A board-only
Board-only
A board-only organization is one that is managed by a board that is self-appointed or otherwise not accountable to a base of members through elections, a delegate body, etc. The growing trend to switch toward this type of structure is controversial. O'Regan & Oster have found that large, more...

 organization is one whose board is self-appointed, rather than being accountable to a base of members through elections; or in which the powers of the membership are extremely limited.

In most cases, serving on a board is not a career
Career
Career is defined by the Oxford English Dictionary as a person's "course or progress through life ". It is usually considered to pertain to remunerative work ....

 unto itself, but board members often receive remunerations amounting to hundreds of thousands of dollars per year since they often sit on the boards of several companies. Inside directors are usually not paid for sitting on a board, but the duty is instead considered part of their larger job description. Outside directors are usually paid for their services. These remunerations vary between corporations, but usually consist of a yearly or monthly salary, additional compensation for each meeting attended, stock options, and various other benefits. Tiffany & Co.
Tiffany & Co.
Tiffany & Co. is an American jewelry and silverware company. As part of its branding, the company is strongly associated with its Tiffany Blue , which is a registered trademark.- History :...

, for example, pays directors an annual retainer of $46,500, an additional annual retainer of $2,500 if the director is also a chairperson of a committee, a per-meeting-attended fee of $2,000 for meetings attended in person, a $500 fee for each meeting attended via telephone, in addition to stock options and retirement benefits.

Classification


The role and responsibilities of a board of directors vary depending on the nature and type of business entity and the laws applying to the entity (see types of business entity). For example, the nature of the business entity may be one that is traded on a public market (public company), not traded on a public market (a private, limited or closely held company), owned by family members (a family business), or exempt from income taxes (a non-profit, not for profit, or tax-exempt entity). There are numerous types of business entities available throughout the world such as a corporation, limited liability company, cooperative, business trust, partnership, private limited company, and public limited company.

Much of what has been written about boards of directors relates to boards of directors of business entities actively traded on public markets. More recently, however, material is becoming available for boards of private and closely held businesses including family businesses.

History


The development of a separate board of directors to manage the company has occurred incrementally and indefinitely over legal history. Until the end of the 19th century, it seems to have been generally assumed that the general meeting (of all shareholders) was the supreme organ of the company, and the board of directors was merely an agent of the company subject to the control of the shareholders in general meeting.

However, by 1906, the English Court of Appeal
Court of Appeal of England and Wales
The Court of Appeal of England and Wales is the second most senior court in the English legal system, with only the Supreme Court of the United Kingdom above it...

 had made it clear in the decision of Automatic Self-Cleansing Filter Syndicate Co v Cunningham [1906] 2 Ch 34 that the division of powers between the board and the shareholders in general meaning depended on the construction of the articles of association
Articles of Association (law)
The term articles of association of a company, or articles of incorporation, of an American or Canadian Company, are often simply referred to as articles . The Articles are a requirement for the establishment of a company under the law of India, the United Kingdom and many other countries...

 and that, where the powers of management were vested in the board, the general meeting could not interfere with their lawful exercise. The articles were held to constitute a contract by which the members had agreed that "the directors and the directors alone shall manage."

The new approach did not secure immediate approval, but it was endorsed by the House of Lords
Judicial functions of the House of Lords
The House of Lords, in addition to having a legislative function, historically also had a judicial function. It functioned as a court of first instance for the trials of peers, for impeachment cases, and as a court of last resort within the United Kingdom. In the latter case the House's...

 in Quin & Axtens v Salmon [1909] AC 442 and has since received general acceptance. Under English law, successive versions of Table A
Table A
Table A in UK company law is the old name for to the Model Articles or default form of articles of association for companies limited by shares incorporated either in England and Wales or in Scotland before 1 October 2009 where the incorporators do not explicitly choose to use a modified form...

 have reinforced the norm that, unless the directors are acting contrary to the law or the provisions of the Articles, the powers of conducting the management and affairs of the company are vested in them.

The modern doctrine was expressed in Shaw & Sons (Salford) Ltd v Shaw [1935] 2 KB 113 by Greer LJ as follows:


"A company is an entity distinct alike from its shareholders and its directors. Some of its powers may, according to its articles, be exercised by directors, certain other powers may be reserved for the shareholders in general meeting. If powers of management are vested in the directors, they and they alone can exercise these powers. The only way in which the general body of shareholders can control the exercise of powers by the articles in the directors is by altering the articles, or, if opportunity arises under the articles, by refusing to re-elect the directors of whose actions they disapprove. They cannot themselves usurp the powers which by the articles are vested in the directors any more than the directors can usurp the powers vested by the articles in the general body of shareholders."


It has been remarked that this development in the law was somewhat surprising at the time, as the relevant provisions in Table A
Table A
Table A in UK company law is the old name for to the Model Articles or default form of articles of association for companies limited by shares incorporated either in England and Wales or in Scotland before 1 October 2009 where the incorporators do not explicitly choose to use a modified form...

 (as it was then) seemed to contradict this approach rather than to endorse it.

Election and removal


In "most" legal systems, the appointment and removal of directors is voted upon by the shareholders in general meeting or through a proxy statement
Proxy statement
A proxy statement is a statement required of a United States firm when soliciting shareholder votes. This statement is filed in advance of the annual meeting. The firm needs to file a proxy statement, otherwise known as a Form DEF 14A , with the U.S. Securities and Exchange Commission...

. For publicly-traded companies in the U.S., the directors which are available to vote on are largely selected by either the board as a whole or a nominating committee
Nominating committee
A nominating committee is a group formed usually from inside the membership of an organization for the purpose of nominating candidates for office within the organization...

. Although in 2002 the NYSE and the NASDAQ required that nominating committees consist of independent directors as a condition of listing, nomination committees have historically received input from management in their selections even when the CEO does not have a position on the board. Shareholder nominations can only occur at the general meeting itself or through the prohibitively expensive process of mailing out ballots separately; in May 2009 the SEC proposed a new rule allowing shareholders meeting certain criteria to add nominees to the proxy statement. In practice for publicly-traded companies, the managers (inside directors) who are purportedly accountable to the board of directors have historically played a major role in selecting and nominating the directors who are voted on by the shareholders, in which case more "gray outsider directors" (independent directors with conflicts of interest) are nominated and elected.

Directors may also leave office by resignation or death. In some legal systems, directors may also be removed by a resolution of the remaining directors (in some countries they may only do so "with cause"; in others the power is unrestricted).

Some jurisdictions also permit the board of directors to appoint directors, either to fill a vacancy which arises on resignation or death, or as an addition to the existing directors.

In practice, it can be quite difficult to remove a director by a resolution in general meeting. In many legal systems, the director has a right to receive special notice of any resolution to remove him or her; the company must often supply a copy of the proposal to the director, who is usually entitled to be heard by the meeting. The director may require the company to circulate any representations that he wishes to make. Furthermore, the director's contract of service will usually entitle him to compensation if he is removed, and may often include a generous "golden parachute
Golden parachute
A golden parachute is an agreement between a company and an employee specifying that the employee will receive certain significant benefits if employment is terminated. Sometimes, certain conditions, typically a change in company ownership, must be met, but often the cause of termination is...

" which also acts as a deterrent to removal.

In a recent academic study that was published in the Journal of Finance, Drexel University
Drexel University
Drexel University is a private research university with the main campus located in Philadelphia, Pennsylvania, USA. It was founded in 1891 by Anthony J. Drexel, a noted financier and philanthropist. Drexel offers 70 full-time undergraduate programs and accelerated degrees...

’s LeBow College of Business professors Jie Cai, Jacqueline Garner, and Ralph Walkling examined how corporate shareholders voted in nearly 2,500 director elections in the United States. They found that directors received fewer votes from shareholders when their companies performed poorly, had excess CEO compensation, or had poor shareholder protection. They also found that directors received fewer votes when they did not regularly attend board meetings or received negative recommendations from RiskMetrics (a proxy advisory firm). This evidence suggests that some shareholders express their displeasure with a company by voting against its directors. The article also shows that companies often improve their corporate governance by removing poison pill
Poison pill
A shareholder rights plan, colloquially known as a "poison pill", or simply "the pill" is a type of defensive tactic used by a corporation's board of directors against a takeover...

s or classified boards and by reducing excessive CEO pay after their directors receive low shareholder support.

Board accountability to shareholders is a recurring issue. In 2010, the New York Times noted that several directors who had overseen companies which had failed in the financial crisis of 2007–2010 had found new positions as directors.

Exercise of powers


The exercise by the board of directors of its powers usually occurs in board meetings. Most legal systems require sufficient notice to be given to all directors of these meetings, and that a quorum
Quorum
A quorum is the minimum number of members of a deliberative assembly necessary to conduct the business of that group...

 must be present before any business may be conducted. Usually, a meeting which is held without notice having been given is still valid if all of the directors attend, but it has been held that a failure to give notice may negate resolutions passed at a meeting, because the persuasive oratory of a minority of directors might have persuaded the majority to change their minds and vote otherwise.

In most common law
Common law
Common law is law developed by judges through decisions of courts and similar tribunals rather than through legislative statutes or executive branch action...

 countries, the powers of the board are vested in the board as a whole, and not in the individual directors. However, in instances an individual director may still bind the company by his acts by virtue of his ostensible authority (see also: the rule in Turquand's Case
Royal British Bank v Turquand
Royal British Bank v Turquand 6 E&B 327 is a UK company law case that held people transacting with companies are entitled to assume that internal company rules are complied with, even if they are not. This "indoor management rule" or the "Rule in Turquand's Case" is applicable in most of the...

).

Duties


Because directors exercise control and management over the organization, but organizations are (in theory) run for the benefit of the shareholders, the law imposes strict duties on directors in relation to the exercise of their duties. The duties imposed on directors are fiduciary duties, similar to those that the law imposes on those in similar positions of trust: agents
Agency (law)
The law of agency is an area of commercial law dealing with a contractual or quasi-contractual, or non-contractual set of relationships when a person, called the agent, is authorized to act on behalf of another to create a legal relationship with a third party...

 and trustee
Trustee
Trustee is a legal term which, in its broadest sense, can refer to any person who holds property, authority, or a position of trust or responsibility for the benefit of another...

s.

The duties apply to each director separately, while the powers apply to the board jointly. Also, the duties are owed to the company itself, and not to any other entity. This does not mean that directors can never stand in a fiduciary relationship to the individual shareholders; they may well have such a duty in certain circumstances.

Acting bona fide


Directors must act honestly and bona fide ("in good faith
Good faith
In philosophy, the concept of Good faith—Latin bona fides “good faith”, bona fide “in good faith”—denotes sincere, honest intention or belief, regardless of the outcome of an action; the opposed concepts are bad faith, mala fides and perfidy...

"). The test is a subjective one, and directors must act in what they consider is in the interests of the company, not what a court might consider to be those interests. However, the directors may still be held to have failed in this duty where they fail to direct their minds to the question of whether a transaction was in the best interests of the company.

Difficult questions can arise when treating the company too much in the abstract. For example, it may be for the benefit of a corporate group as a whole for a company to guarantee the debts of a "sister" company, even though there is no ostensible "benefit" to the company giving the guarantee. Similarly, conceptually at least, there is no benefit to a company in returning profits to shareholders by way of dividend
Dividend
Dividends are payments made by a corporation to its shareholder members. It is the portion of corporate profits paid out to stockholders. When a corporation earns a profit or surplus, that money can be put to two uses: it can either be re-invested in the business , or it can be distributed to...

. However, the more pragmatic approach illustrated in the Australian case of Mills v Mills (1938) 60 CLR 150 normally prevails:
"[directors are] not required by the law to live in an unreal region of detached altruism and to act in the vague mood of ideal abstraction from obvious facts which must be present to the mind of any honest and intelligent person when they exercise their powers as a director."

"Proper purpose"


Directors must exercise their powers for a proper purpose. While in many instances an improper purpose is readily evident, such as a director looking to feather his or her own nest or divert an investment opportunity to a relative, such breaches usually involve a breach of the director's duty to act in good faith. Greater difficulties arise where the director, while acting in good faith, is serving a purpose that is not regarded by the law as proper.

The seminal authority in relation to what amounts to a proper purpose is the Privy Council
Judicial Committee of the Privy Council
The Judicial Committee of the Privy Council is one of the highest courts in the United Kingdom. Established by the Judicial Committee Act 1833 to hear appeals formerly heard by the King in Council The Judicial Committee of the Privy Council (JCPC) is one of the highest courts in the United...

 decision of Howard Smith Ltd v Ampol Ltd [1974] AC 821. The case concerned the power of the directors to issue new shares
Stock
The capital stock of a business entity represents the original capital paid into or invested in the business by its founders. It serves as a security for the creditors of a business since it cannot be withdrawn to the detriment of the creditors...

. It was alleged that the directors had issued a large number of new shares purely to deprive a particular shareholder of his voting majority. An argument that the power to issue shares could only be properly exercised to raise new capital was rejected as too narrow, and it was held that it would be a proper exercise of the director's powers to issue shares to a larger company to ensure the financial stability of the company, or as part of an agreement to exploit mineral rights owned by the company. If so, the mere fact that an incidental result (even if it was a desired consequence) was that a shareholder lost his majority, or a takeover bid was defeated, this would not itself make the share issue improper. But if the sole purpose was to destroy a voting majority, or block a takeover bid, that would be an improper purpose.

Not all jurisdictions recognised the "proper purpose" duty as separate from the "good faith" duty however.

"Unfettered discretion"


Directors cannot, without the consent of the company, fetter their discretion
Discretion
Discretion is a noun in the English language with several meanings revolving around the judgment of the person exercising the characteristic.-Meanings:*"The Art of suiting action to particular circumstances"...

 in relation to the exercise of their powers, and cannot bind themselves to vote in a particular way at future board meetings. This is so even if there is no improper motive or purpose, and no personal advantage to the director .

This does not mean, however, that the board cannot agree to the company entering into a contract which binds the company to a certain course, even if certain actions in that course will require further board approval. The company remains bound, but the directors retain the discretion to vote against taking the future actions (although that may involve a breach by the company of the contract
Contract
A contract is an agreement entered into by two parties or more with the intention of creating a legal obligation, which may have elements in writing. Contracts can be made orally. The remedy for breach of contract can be "damages" or compensation of money. In equity, the remedy can be specific...

 that the board previously approved).

"Conflict of duty and interest"


As fiduciaries, the directors may not put themselves in a position where their interests and duties conflict with the duties that they owe to the company. The law takes the view that good faith must not only be done, but must be manifestly seen to be done, and zealously patrols the conduct of directors in this regard; and will not allow directors to escape liability by asserting that his decision was in fact well founded. Traditionally, the law has divided conflicts of duty and interest into three sub-categories.

Transactions with the company


By definition, where a director enters into a transaction with a company, there is a conflict between the director's interest (to do well for himself out of the transaction) and his duty to the company (to ensure that the company gets as much as it can out of the transaction). This rule is so strictly enforced that, even where the conflict of interest
Conflict of interest
A conflict of interest occurs when an individual or organization is involved in multiple interests, one of which could possibly corrupt the motivation for an act in the other....

 or conflict of duty is purely hypothetical, the directors can be forced to disgorge all personal gains arising from it. In Aberdeen Ry v Blaikie (1854) 1 Macq HL 461 Lord Cranworth
Robert Rolfe, 1st Baron Cranworth
Robert Monsey Rolfe, 1st Baron Cranworth PC was a British lawyer and Liberal politician. He twice served as Lord High Chancellor of Great Britain.-Background and education:...

 stated in his judgment that:
"A corporate body can only act by agents, and it is, of course, the duty of those agents so to act as best to promote the interests of the corporation whose affairs they are conducting. Such agents have duties to discharge of a fiduciary nature towards their principal. And it is a rule of universal application that no one, having such duties to discharge, shall be allowed to enter into engagements in which he has, or can have, a personal interest conflicting or which possibly may conflict, with the interests of those whom he is bound to protect... So strictly is this principle adhered to that no question is allowed to be raised as to the fairness or unfairness of the contract entered into..." (emphasis added)


However, in many jurisdictions the members of the company are permitted to ratify transactions which would otherwise fall foul of this principle. It is also largely accepted in most jurisdictions that this principle can be overridden in the company's constitution.

In many countries, there is also a statutory duty to declare interests in relation to any transactions, and the director can be fined for failing to make disclosure.

Use of corporate property, opportunity, or information


Directors must not, without the informed consent of the company, use for their own profit the company's assets, opportunities
Corporate opportunity
The corporate opportunity doctrine is the legal principle providing that directors, officers, and controlling shareholders of a corporation must not take for themselves any business opportunity that could benefit the corporation...

, or information. This prohibition is much less flexible than the prohibition against the transactions with the company, and attempts to circumvent it using provisions in the articles have met with limited success.

In Regal (Hastings) Ltd v Gulliver
Regal (Hastings) v Gulliver
Regal Ltd v Gulliver [1942] , is a leading case in UK company law regarding the rule against directors and officers from taking corporate opportunities in violation of their duty of loyalty. The Court held that a director is in breach of his duties if he takes advantage of an opportunity that the...

[1942] All ER 378 the House of Lords, in upholding what was regarded as a wholly unmeritorious claim by the shareholders, held that:
"(i) that what the directors did was so related to the affairs of the company that it can properly be said to have been done in the course of their management and in the utilisation of their opportunities and special knowledge as directors; and (ii) that what they did resulted in profit to themselves."


And accordingly, the directors were required to disgorge the profits that they made, and the shareholders received their windfall.

The decision has been followed in several subsequent cases, and is now regarded as settled law.

Competing with the company


Directors cannot compete directly with the company without a conflict of interest arising. Similarly, they should not act as directors of competing companies, as their duties to each company would then conflict with each other.

Common law duties of care and skill


Traditionally, the level of care and skill which has to be demonstrated by a director has been framed largely with reference to the non-executive director. In Re City Equitable Fire Insurance Co
Re City Equitable Fire Insurance Co
Re City Equitable Fire Insurance Co [1925] Ch 407 is a UK company law case concerning directors' duties, and in particular the duty of care. It is no longer good law, as it stipulated that a "subjective" standard of competence applied...

[1925] Ch 407, it was expressed in purely subjective terms, where the court held that:
"a director need not exhibit in the performance of his duties a greater degree of skill than may reasonably be expected from a person of his knowledge and experience." (emphasis added)


However, this decision was based firmly in the older notions (see above) that prevailed at the time as to the mode of corporate decision making, and effective control residing in the shareholders; if they elected and put up with an incompetent decision maker, they should not have recourse to complain.

However, a more modern approach has since developed, and in Dorchester Finance Co Ltd v Stebbing [1989] BCLC 498 the court held that the rule in Equitable Fire related only to skill, and not to diligence. With respect to diligence, what was required was:
"such care as an ordinary man might be expected to take on his own behalf."


This was a dual subjective and objective test, and one deliberately pitched at a higher level.

More recently, it has been suggested that both the tests of skill and diligence should be assessed objectively and subjectively; in the United Kingdom, the statutory provisions relating to directors' duties in the new Companies Act 2006
Companies Act 2006
The Companies Act 2006 is an Act of the Parliament of the United Kingdom which forms the primary source of UK company law. It had the distinction of being the longest in British Parliamentary history: with 1,300 sections and covering nearly 700 pages, and containing 16 schedules but it has since...

 have been codified on this basis.

Remedies for breach of duty


In most jurisdictions, the law provides for a variety of remedies in the event of a breach by the directors of their duties:
  1. injunction
    Injunction
    An injunction is an equitable remedy in the form of a court order that requires a party to do or refrain from doing certain acts. A party that fails to comply with an injunction faces criminal or civil penalties and may have to pay damages or accept sanctions...

     or declaration
    Declaration (law)
    In law, a declaration ordinarily refers to a judgment of the court or an award of an arbitration tribunal is a binding adjudication of the rights or other legal relations of the parties which does not provide for or order enforcement. Where the declaration is made by a court, it is usually...

  2. damages
    Damages
    In law, damages is an award, typically of money, to be paid to a person as compensation for loss or injury; grammatically, it is a singular noun, not plural.- Compensatory damages :...

     or compensation
  3. restoration of the company's property
  4. rescission
    Rescission
    In contract law, rescission has been defined as the unmaking of a contract between parties. Rescission is the unwinding of a transaction. This is done to bring the parties, as far as possible, back to the position in which they were before they entered into a contract .-In court:Rescission is an...

     of the relevant contract
    Contract
    A contract is an agreement entered into by two parties or more with the intention of creating a legal obligation, which may have elements in writing. Contracts can be made orally. The remedy for breach of contract can be "damages" or compensation of money. In equity, the remedy can be specific...

  5. account of profits
    Account of profits
    An account of profits is a type of equitable remedy most commonly used in cases of breach of fiduciary duty...

  6. summary dismissal

The future


Historically, directors' duties have been owed almost exclusively to the company and its members, and the board was expected to exercise its powers for the financial benefit
Corporate benefit
The interest of the company is a concept that the board of directors in corporations are in most legal systems required to use their powers for the commercial benefit of the company and its members...

 of the company. However, more recently there have been attempts to "soften" the position, and provide for more scope for directors to act as good corporate citizens. For example, in the United Kingdom, the Companies Act 2006
Companies Act 2006
The Companies Act 2006 is an Act of the Parliament of the United Kingdom which forms the primary source of UK company law. It had the distinction of being the longest in British Parliamentary history: with 1,300 sections and covering nearly 700 pages, and containing 16 schedules but it has since...

 requires directors of companies "to promote the success of the company for the benefit of its members as a whole", but sets out six factors to which a director must have regards in fulfilling the duty to promote success. These are:
  • 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, and
  • the need to act fairly as between members of a company


This represents a considerable departure from the traditional notion that directors' duties are owed only to the company. Previously in the United Kingdom, under the Companies Act 1985
Companies Act 1985
The Companies Act 1985 is an Act of the Parliament of the United Kingdom of Great Britain and Northern Ireland, enacted in 1985, which enabled companies to be formed by registration, and set out the responsibilities of companies, their directors and secretaries.The Act was a consolidation of...

, protections for non-member stakeholders were considerably more limited (see for example, s.309 which permitted directors to take into account the interests of employees but which could only be enforced by the shareholders and not by the employees themselves). The changes have therefore been the subject of some criticism.

Compensation


Directors of Fortune 500
Fortune 500
The Fortune 500 is an annual list compiled and published by Fortune magazine that ranks the top 500 U.S. closely held and public corporations as ranked by their gross revenue after adjustments made by Fortune to exclude the impact of excise taxes companies collect. The list includes publicly and...

 companies received median pay of $234,000 in 2011. That was an increase of 10% from 2010.
A board of directors is a body of elected or appointed members who jointly oversee the activities of a company or organization
Organization
An organization is a social group which distributes tasks for a collective goal. The word itself is derived from the Greek word organon, itself derived from the better-known word ergon - as we know `organ` - and it means a compartment for a particular job.There are a variety of legal types of...

. Other names include board of governors
Board of governors
Board of governors is a term sometimes applied to the board of directors of a public entity or non-profit organization.Many public institutions, such as public universities, are government-owned corporations. The British Broadcasting Corporation was managed by a board of governors, though this role...

, board of managers, board of regents
Board of Regents
In the United States, a board often governs public institutions of higher education, which include both state universities and community colleges. In each US state, such boards may govern either the state university system, individual colleges and universities, or both. In general they operate as...

, board of trustees, and board of visitors. It is often simply referred to as "the board".

In some European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 and Asia
Asia
Asia is the world's largest and most populous continent, located primarily in the eastern and northern hemispheres. It covers 8.7% of the Earth's total surface area and with approximately 3.879 billion people, it hosts 60% of the world's current human population...

n countries, there are two separate boards, an executive board, also called corporate executive team,http://www.gsk.com/about/management.htm for day-to-day business and a supervisory board
Supervisory board
A supervisory board or supervisory committee, often called board of directors, is a group of individuals chosen by the stockholders of a company to promote their interests through the governance of the company and to hire and supervise the executive directors and CEO.Corporate governance varies...

, also called board of directorshttp://www.gsk.com/about/management.htm (elected by the shareholders) for supervising the executive board.

A board's activities are determined by the powers, duties, and responsibilities delegated to it or conferred on it by an authority outside itself. These matters are typically detailed in the organization's bylaws. The bylaws commonly also specify the number of members of the board, how they are to be chosen, and when they are to meet.

In an organization with voting members, e.g., a professional society, the board acts on behalf of, and is subordinate to, the organization's full assembly, which usually chooses the members of the board. In a stock corporation, the board is elected by the stockholders and is the highest authority in the management of the corporation. In a non-stock corporation
Non-stock corporation
A non-stock corporation is a corporation that does not have owners represented by shares of stock. That type of corporation is called a stock corporation. Instead, a non-stock corporation typically has members, who are the functional equivalent of stockholders in a stock corporation Non-stock...

 with no general voting membership, e.g., a university, the board is the supreme governing body of the institution; its members are sometimes chosen by the board itself.

Typical duties of boards of directors include:
  • governing the organization by establishing broad policies and objectives;
  • selecting, appointing, supporting and reviewing the performance of the chief executive;
  • ensuring the availability of adequate financial resources;
  • approving annual budgets;
  • accounting to the stakeholders for the organization's performance.
  • setting their own salaries and compensation


The legal responsibilities of boards and board members vary with the nature of the organization, and with the jurisdiction within which it operates. For public corporations, these responsibilities are typically much more rigorous and complex than for those of other types.

Typically the board chooses one of its members to be the chairman, who holds whatever title is specified in the bylaws.

Two-tier system


In most European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 and many Asia
Asia
Asia is the world's largest and most populous continent, located primarily in the eastern and northern hemispheres. It covers 8.7% of the Earth's total surface area and with approximately 3.879 billion people, it hosts 60% of the world's current human population...

n countries, there are two separate boards, an executive board for day-to-day business and a supervisory board
Supervisory board
A supervisory board or supervisory committee, often called board of directors, is a group of individuals chosen by the stockholders of a company to promote their interests through the governance of the company and to hire and supervise the executive directors and CEO.Corporate governance varies...

 (elected by the shareholders) for supervising the executive board. In these countries, the CEO (chief executive or managing director) presides over the executive board and the chairman presides over the supervisory board, and these two roles will always be held by different people. This ensures a distinction between management
Management
Management in all business and organizational activities is the act of getting people together to accomplish desired goals and objectives using available resources efficiently and effectively...

 by the executive board and governance
Governance
Governance is the act of governing. It relates to decisions that define expectations, grant power, or verify performance. It consists of either a separate process or part of management or leadership processes...

 by the supervisory board. This allows for clear lines of authority. The aim is to prevent a conflict of interest
Conflict of interest
A conflict of interest occurs when an individual or organization is involved in multiple interests, one of which could possibly corrupt the motivation for an act in the other....

 and too much power being concentrated in the hands of one person. There is a strong parallel here with the structure of government, which tends to separate the political cabinet
Cabinet (government)
A Cabinet is a body of high ranking government officials, typically representing the executive branch. It can also sometimes be referred to as the Council of Ministers, an Executive Council, or an Executive Committee.- Overview :...

 from the management civil service
Civil service
The term civil service has two distinct meanings:* A branch of governmental service in which individuals are employed on the basis of professional merit as proven by competitive examinations....

. In the United States, the board of directors (elected by the shareholders) is often equivalent to the supervisory board, while the executive board may often be known as the executive committee (operating committee or executive council), composed of the CEO and their direct reports (other C-level officers, division/subsidiary heads).

Directors


The directors of an organization are the persons who are members of its board. Several specific terms categorize directors by the presence or absence of their other relationships to the organization.This section was developed from numerous definitions in USLegal.com, BusinessDictionary.com, Dictionary.com, The Free Dictionary by Farlex, ibid., ibid., ibid., Macmillan Dictionary, and Economics-dictionary.com.

An inside director is a director who is also an employee, officer, major shareholder
Shareholder
A shareholder or stockholder is an individual or institution that legally owns one or more shares of stock in a public or private corporation. Shareholders own the stock, but not the corporation itself ....

, or someone similarly connected to the organization. Inside directors represent the interests of the entity's stakeholders, and often have special knowledge of its inner workings, its financial or market position, and so on.

Typical inside directors are:
  • A Chief Executive Officer
    Chief executive officer
    A chief executive officer , managing director , Executive Director for non-profit organizations, or chief executive is the highest-ranking corporate officer or administrator in charge of total management of an organization...

     (CEO) who may also be Chairman of the Board
  • Other executives of the organization, such as its Chief Financial Officer
    Chief financial officer
    The chief financial officer or Chief financial and operating officer is a corporate officer primarily responsible for managing the financial risks of the corporation. This officer is also responsible for financial planning and record-keeping, as well as financial reporting to higher management...

     (CFO) or Executive Vice President
  • Large shareholders (who may or may not also be employees or officers)
  • Representatives of other stakeholders such as labor unions, major lenders, or members of the community in which the organization is located


An inside director who is employed as a manager or executive of the organization is sometimes referred to as an executive director (not to be confused with the title executive director
Executive director
Executive director is a term sometimes applied to the chief executive officer or managing director of an organization, company, or corporation. It is widely used in North American non-profit organizations, though in recent decades many U.S. nonprofits have adopted the title "President/CEO"...

 sometimes used for the CEO position). Executive directors often have a specified area of responsibility in the organization, such as finance, marketing, human resources, or production.

An outside director is a member of the board who is not otherwise employed by or engaged with the organization, and does not represent any of its stakeholders. A typical example is a director who is president of a firm in a different industry.

Outside directors bring outside experience and perspective to the board. They keep a watchful eye on the inside directors and on the way the organization is run. Outside directors are often useful in handling disputes between inside directors, or between shareholders and the board. They are thought to be advantageous because they can be objective and present little risk of conflict of interest. On the other hand, they might lack familiarity with the specific issues connected to the organization's governance.

Recapping the terminology:
  • director - any member of the board of directors
  • inside director - a director who, in addition to serving on the board, has a meaningful connection to the organization
  • outside director - a director who, other than serving on the board, has no meaningful connections to the organization
  • executive director - an inside director who is also an executive with the organization. The term is also used, in a completely different sense, to refer to a CEO
  • non-executive director - a director who is not an executive with the organization


Individual directors often serve on more than one board. This practice results in an interlocking directorate
Interlocking directorate
Interlocking directorate refers to the practice of members of a corporate board of directors serving on the boards of multiple corporations. A person that sits on multiple boards is known as a multiple director. A direct interlock occurs when two firms share a director or when an executive of one...

, where a relatively small number of individuals have significant influence over a large number of important entities. This situation can have important corporate, social, economic, and legal consequences, and has been the subject of significant research.

Sarbanes-Oxley Act


The Sarbanes-Oxley Act
Sarbanes-Oxley Act
The Sarbanes–Oxley Act of 2002 , also known as the 'Public Company Accounting Reform and Investor Protection Act' and 'Corporate and Auditing Accountability and Responsibility Act' and commonly called Sarbanes–Oxley, Sarbox or SOX, is a United States federal law enacted on July 30, 2002, which...

 (SOX) has introduced new standards of accountability on boards of U.S. companies or companies listed on U.S. stock exchange
Stock exchange
A stock exchange is an entity that provides services for stock brokers and traders to trade stocks, bonds, and other securities. Stock exchanges also provide facilities for issue and redemption of securities and other financial instruments, and capital events including the payment of income and...

s. Under the Act, directors risk large fines and prison sentences in the case of accounting crimes. Internal control
Internal control
In accounting and auditing, internal control is defined as a process effected by an organization's structure, work and authority flows, people and management information systems, designed to help the organization accomplish specific goals or objectives. It is a means by which an organization's...

 is now the direct responsibility of directors. The vast majority of companies covered by the Act have hired internal auditors to ensure that the company adheres to the highest standards of internal control. The internal auditors are required by law to report directly to an audit board, consisting of directors more than half of whom are outside directors, one of whom is an accounting expert.

Corporations


Theoretically, the control of a company is divided between two bodies: the board of directors, and the shareholders in general meeting. In practice, the amount of power exercised by the board varies with the type of company. In small private companies, the directors and the shareholders are normally the same people, and thus there is no real division of power. In large public companies
Public company
This is not the same as a Government-owned corporation.A public company or publicly traded company is a limited liability company that offers its securities for sale to the general public, typically through a stock exchange, or through market makers operating in over the counter markets...

, the board tends to exercise more of a supervisory role, and individual responsibility and management tends to be delegated downward to individual professional executives (such as a finance director or a marketing director) who deal with particular areas of the company's affairs.

Another feature of boards of directors in large public companies is that the board tends to have more de facto
De facto
De facto is a Latin expression that means "concerning fact." In law, it often means "in practice but not necessarily ordained by law" or "in practice or actuality, but not officially established." It is commonly used in contrast to de jure when referring to matters of law, governance, or...

power. The shareholders tend to grant proxies to the directors and accept all recommendations of the board rather than try to get involved in management, since each shareholder's power is so small. Also, the large number of shareholders makes it hard for them to organize. However, there have been moves recently to try to increase shareholder activism among both institutional investors and individuals with small shareholdings.

Conversely, though, boards of directors in large public companies tend to wield very little practical power, because they delegate nearly all of their power to the top executive employees, adopting their recommendations almost without fail. As a practical matter, executives even choose the directors, as shareholders normally follow management recommendations when electing them.

A board-only
Board-only
A board-only organization is one that is managed by a board that is self-appointed or otherwise not accountable to a base of members through elections, a delegate body, etc. The growing trend to switch toward this type of structure is controversial. O'Regan & Oster have found that large, more...

 organization is one whose board is self-appointed, rather than being accountable to a base of members through elections; or in which the powers of the membership are extremely limited.

In most cases, serving on a board is not a career
Career
Career is defined by the Oxford English Dictionary as a person's "course or progress through life ". It is usually considered to pertain to remunerative work ....

 unto itself, but board members often receive remunerations amounting to hundreds of thousands of dollars per year since they often sit on the boards of several companies. Inside directors are usually not paid for sitting on a board, but the duty is instead considered part of their larger job description. Outside directors are usually paid for their services. These remunerations vary between corporations, but usually consist of a yearly or monthly salary, additional compensation for each meeting attended, stock options, and various other benefits. Tiffany & Co.
Tiffany & Co.
Tiffany & Co. is an American jewelry and silverware company. As part of its branding, the company is strongly associated with its Tiffany Blue , which is a registered trademark.- History :...

, for example, pays directors an annual retainer of $46,500, an additional annual retainer of $2,500 if the director is also a chairperson of a committee, a per-meeting-attended fee of $2,000 for meetings attended in person, a $500 fee for each meeting attended via telephone, in addition to stock options and retirement benefits.

Classification


The role and responsibilities of a board of directors vary depending on the nature and type of business entity and the laws applying to the entity (see types of business entity). For example, the nature of the business entity may be one that is traded on a public market (public company), not traded on a public market (a private, limited or closely held company), owned by family members (a family business), or exempt from income taxes (a non-profit, not for profit, or tax-exempt entity). There are numerous types of business entities available throughout the world such as a corporation, limited liability company, cooperative, business trust, partnership, private limited company, and public limited company.

Much of what has been written about boards of directors relates to boards of directors of business entities actively traded on public markets.See generally, Bowen, William G., The board book: an insider's guide for directors and trustees (2008 W.W. Norton & Co.); Murray, Alan S., Revolt in the boardroom: the new rules of power in corporate America (2007 Collins); Charan, Ram, Boards that deliver: advancing corporate governance from compliance to competitive advantage (2005 Jossey-Bass); Carver, John, Corporate boards that create value: governing company performance from the boardroom (2002 Jossey-Bass); Harvard business review on corporate governance (2000 Harvard Business School Press). More recently, however, material is becoming available for boards of private and closely held businesses including family businesses.See specifically Tutelman and Hause, The Balance Point: New Ways Business Owners Can Use Boards (2008 Famille Press).

History


The development of a separate board of directors to manage the company has occurred incrementally and indefinitely over legal history. Until the end of the 19th century, it seems to have been generally assumed that the general meeting (of all shareholders) was the supreme organ of the company, and the board of directors was merely an agent of the company subject to the control of the shareholders in general meeting.Gower, Principles of Company Law (6th ed.), citing Isle of Wight Railway v Tahourdin (1883) 25 Ch D 320.

However, by 1906, the English Court of Appeal
Court of Appeal of England and Wales
The Court of Appeal of England and Wales is the second most senior court in the English legal system, with only the Supreme Court of the United Kingdom above it...

 had made it clear in the decision of Automatic Self-Cleansing Filter Syndicate Co v Cunningham [1906] 2 Ch 34 that the division of powers between the board and the shareholders in general meaning depended on the construction of the articles of association
Articles of Association (law)
The term articles of association of a company, or articles of incorporation, of an American or Canadian Company, are often simply referred to as articles . The Articles are a requirement for the establishment of a company under the law of India, the United Kingdom and many other countries...

 and that, where the powers of management were vested in the board, the general meeting could not interfere with their lawful exercise. The articles were held to constitute a contract by which the members had agreed that "the directors and the directors alone shall manage."Per Cozens-Hardy LJ at 44

The new approach did not secure immediate approval, but it was endorsed by the House of Lords
Judicial functions of the House of Lords
The House of Lords, in addition to having a legislative function, historically also had a judicial function. It functioned as a court of first instance for the trials of peers, for impeachment cases, and as a court of last resort within the United Kingdom. In the latter case the House's...

 in Quin & Axtens v Salmon [1909] AC 442 and has since received general acceptance. Under English law, successive versions of Table A
Table A
Table A in UK company law is the old name for to the Model Articles or default form of articles of association for companies limited by shares incorporated either in England and Wales or in Scotland before 1 October 2009 where the incorporators do not explicitly choose to use a modified form...

 have reinforced the norm that, unless the directors are acting contrary to the law or the provisions of the Articles, the powers of conducting the management and affairs of the company are vested in them.

The modern doctrine was expressed in Shaw & Sons (Salford) Ltd v Shaw [1935] 2 KB 113 by Greer LJ as follows:


"A company is an entity distinct alike from its shareholders and its directors. Some of its powers may, according to its articles, be exercised by directors, certain other powers may be reserved for the shareholders in general meeting. If powers of management are vested in the directors, they and they alone can exercise these powers. The only way in which the general body of shareholders can control the exercise of powers by the articles in the directors is by altering the articles, or, if opportunity arises under the articles, by refusing to re-elect the directors of whose actions they disapprove. They cannot themselves usurp the powers which by the articles are vested in the directors any more than the directors can usurp the powers vested by the articles in the general body of shareholders."


It has been remarked that this development in the law was somewhat surprising at the time, as the relevant provisions in Table A
Table A
Table A in UK company law is the old name for to the Model Articles or default form of articles of association for companies limited by shares incorporated either in England and Wales or in Scotland before 1 October 2009 where the incorporators do not explicitly choose to use a modified form...

 (as it was then) seemed to contradict this approach rather than to endorse it.See Gower, Principles of Company Law (6th ed.) at 185.

Election and removal


In "most" legal systems, the appointment and removal of directors is voted upon by the shareholders in general meetingFor example, in the United Kingdom, see section 303 of the Companies Act 1985 or through a proxy statement
Proxy statement
A proxy statement is a statement required of a United States firm when soliciting shareholder votes. This statement is filed in advance of the annual meeting. The firm needs to file a proxy statement, otherwise known as a Form DEF 14A , with the U.S. Securities and Exchange Commission...

. For publicly-traded companies in the U.S., the directors which are available to vote on are largely selected by either the board as a whole or a nominating committee
Nominating committee
A nominating committee is a group formed usually from inside the membership of an organization for the purpose of nominating candidates for office within the organization...

. Although in 2002 the NYSE and the NASDAQ required that nominating committees consist of independent directors as a condition of listing,Chhaochharia V, Grinstein Y. (2007). Corporate governance and firm value: The impact of the 2002 governance rules. The Journal of Finance. nomination committees have historically received input from management in their selections even when the CEO does not have a position on the board. Shareholder nominations can only occur at the general meeting itself or through the prohibitively expensive process of mailing out ballots separately; in May 2009 the SEC proposed a new rule allowing shareholders meeting certain criteria to add nominees to the proxy statement.SEC. (May 2009). SEC Votes to Propose Rule Amendments to Facilitate Rights of Shareholders to Nominate Directors. In practice for publicly-traded companies, the managers (inside directors) who are purportedly accountable to the board of directors have historically played a major role in selecting and nominating the directors who are voted on by the shareholders, in which case more "gray outsider directors" (independent directors with conflicts of interest) are nominated and elected.

Directors may also leave office by resignation or death. In some legal systems, directors may also be removed by a resolution of the remaining directors (in some countries they may only do so "with cause"; in others the power is unrestricted).

Some jurisdictions also permit the board of directors to appoint directors, either to fill a vacancy which arises on resignation or death, or as an addition to the existing directors.

In practice, it can be quite difficult to remove a director by a resolution in general meeting. In many legal systems, the director has a right to receive special notice of any resolution to remove him or her;In the United Kingdom it is 28 days' notice, see sections 303(2) and 379 of the Companies Act 1985 the company must often supply a copy of the proposal to the director, who is usually entitled to be heard by the meeting.In the United Kingdom, see section 304(1) of the Companies Act 1985. A private company cannot use a written resolution under section 381A – a meeting must be held. The director may require the company to circulate any representations that he wishes to make.In the United Kingdom, see sections 303(2) and (3) of the Companies Act 1985 Furthermore, the director's contract of service will usually entitle him to compensation if he is removed, and may often include a generous "golden parachute
Golden parachute
A golden parachute is an agreement between a company and an employee specifying that the employee will receive certain significant benefits if employment is terminated. Sometimes, certain conditions, typically a change in company ownership, must be met, but often the cause of termination is...

" which also acts as a deterrent to removal.

In a recent academic study that was published in the Journal of Finance, Drexel University
Drexel University
Drexel University is a private research university with the main campus located in Philadelphia, Pennsylvania, USA. It was founded in 1891 by Anthony J. Drexel, a noted financier and philanthropist. Drexel offers 70 full-time undergraduate programs and accelerated degrees...

’s LeBow College of Business professors Jie Cai, Jacqueline Garner, and Ralph Walkling examined how corporate shareholders voted in nearly 2,500 director elections in the United States. They found that directors received fewer votes from shareholders when their companies performed poorly, had excess CEO compensation, or had poor shareholder protection. They also found that directors received fewer votes when they did not regularly attend board meetings or received negative recommendations from RiskMetrics (a proxy advisory firm). This evidence suggests that some shareholders express their displeasure with a company by voting against its directors. The article also shows that companies often improve their corporate governance by removing poison pill
Poison pill
A shareholder rights plan, colloquially known as a "poison pill", or simply "the pill" is a type of defensive tactic used by a corporation's board of directors against a takeover...

s or classified boards and by reducing excessive CEO pay after their directors receive low shareholder support.Cai, J., J. L. Garner, and R. A. Walkling, 2009. Electing Directors. Journal of Finance 64 (5), 2387–2419.

Board accountability to shareholders is a recurring issue. In 2010, the New York Times noted that several directors who had overseen companies which had failed in the financial crisis of 2007–2010 had found new positions as directors.Craig S, Lattman P. (2010). Companies May Fail, but Directors Are in Demand. New York Times.

Exercise of powers


The exercise by the board of directors of its powers usually occurs in board meetings. Most legal systems require sufficient notice to be given to all directors of these meetings, and that a quorum
Quorum
A quorum is the minimum number of members of a deliberative assembly necessary to conduct the business of that group...

 must be present before any business may be conducted. Usually, a meeting which is held without notice having been given is still valid if all of the directors attend, but it has been held that a failure to give notice may negate resolutions passed at a meeting, because the persuasive oratory of a minority of directors might have persuaded the majority to change their minds and vote otherwise.See for example Barber's Case (1877) 5 Ch D 963 and Re Portuguese Consolidated Copper Mines (1889) 42 Ch D 160

In most common law
Common law
Common law is law developed by judges through decisions of courts and similar tribunals rather than through legislative statutes or executive branch action...

 countries, the powers of the board are vested in the board as a whole, and not in the individual directors.Breckland Group Holdings Ltd v London and Suffolk Properties
Breckland Group Holdings Ltd v London and Suffolk Properties
Breckland Group Holdings Ltd v London & Suffolk Properties Ltd [1989] BCLC 100 is a UK company law case, concerning the right of a majority shareholder to litigate in the company's name.-Facts:...

[1989] BCLC 100
However, in instances an individual director may still bind the company by his acts by virtue of his ostensible authority (see also: the rule in Turquand's Case
Royal British Bank v Turquand
Royal British Bank v Turquand 6 E&B 327 is a UK company law case that held people transacting with companies are entitled to assume that internal company rules are complied with, even if they are not. This "indoor management rule" or the "Rule in Turquand's Case" is applicable in most of the...

).

Duties


Because directors exercise control and management over the organization, but organizations are (in theory) run for the benefit of the shareholders, the law imposes strict duties on directors in relation to the exercise of their duties. The duties imposed on directors are fiduciary duties, similar to those that the law imposes on those in similar positions of trust: agents
Agency (law)
The law of agency is an area of commercial law dealing with a contractual or quasi-contractual, or non-contractual set of relationships when a person, called the agent, is authorized to act on behalf of another to create a legal relationship with a third party...

 and trustee
Trustee
Trustee is a legal term which, in its broadest sense, can refer to any person who holds property, authority, or a position of trust or responsibility for the benefit of another...

s.

The duties apply to each director separately, while the powers apply to the board jointly. Also, the duties are owed to the company itself, and not to any other entity.Percival v Wright [1902] Ch 421 This does not mean that directors can never stand in a fiduciary relationship to the individual shareholders; they may well have such a duty in certain circumstances.For example, if the board is authorised by the shareholders to negotiate with a takeover bidder. It has been held in New Zealand that "depending upon all the surround circumstances and the nature of the responsibility which in a real and practical sense the director has assumed towards the shareholder," Coleman v Myers [1977] 2 NZLR 225

Acting bona fide


Directors must act honestly and bona fide ("in good faith
Good faith
In philosophy, the concept of Good faith—Latin bona fides “good faith”, bona fide “in good faith”—denotes sincere, honest intention or belief, regardless of the outcome of an action; the opposed concepts are bad faith, mala fides and perfidy...

"). The test is a subjective one, and directors must act in what they consider is in the interests of the company, not what a court might consider to be those interests.Re Smith & Fawcett Ltd [1942] Ch 304 However, the directors may still be held to have failed in this duty where they fail to direct their minds to the question of whether a transaction was in the best interests of the company.Re W & M Roith Ltd [1967] 1 WLR 432

Difficult questions can arise when treating the company too much in the abstract. For example, it may be for the benefit of a corporate group as a whole for a company to guarantee the debts of a "sister" company,That is a company which has the same 100% shareholder even though there is no ostensible "benefit" to the company giving the guarantee. Similarly, conceptually at least, there is no benefit to a company in returning profits to shareholders by way of dividend
Dividend
Dividends are payments made by a corporation to its shareholder members. It is the portion of corporate profits paid out to stockholders. When a corporation earns a profit or surplus, that money can be put to two uses: it can either be re-invested in the business , or it can be distributed to...

. However, the more pragmatic approach illustrated in the Australian case of Mills v Mills (1938) 60 CLR 150 normally prevails:
"[directors are] not required by the law to live in an unreal region of detached altruism and to act in the vague mood of ideal abstraction from obvious facts which must be present to the mind of any honest and intelligent person when they exercise their powers as a director."

"Proper purpose"


Directors must exercise their powers for a proper purpose. While in many instances an improper purpose is readily evident, such as a director looking to feather his or her own nest or divert an investment opportunity to a relative, such breaches usually involve a breach of the director's duty to act in good faith. Greater difficulties arise where the director, while acting in good faith, is serving a purpose that is not regarded by the law as proper.

The seminal authority in relation to what amounts to a proper purpose is the Privy Council
Judicial Committee of the Privy Council
The Judicial Committee of the Privy Council is one of the highest courts in the United Kingdom. Established by the Judicial Committee Act 1833 to hear appeals formerly heard by the King in Council The Judicial Committee of the Privy Council (JCPC) is one of the highest courts in the United...

 decision of Howard Smith Ltd v Ampol Ltd [1974] AC 821. The case concerned the power of the directors to issue new shares
Stock
The capital stock of a business entity represents the original capital paid into or invested in the business by its founders. It serves as a security for the creditors of a business since it cannot be withdrawn to the detriment of the creditors...

.Following Hogg v. Cramphorn Ltd.
Hogg v. Cramphorn Ltd.
Hogg v Cramphorn Ltd [1967] Ch 254 is a famous UK company law case on the director liability. The Court held that corporate directors who dilute the value of the stock in order to prevent a hostile takeover are breaching their fiduciary duty to the company.-Facts:Mr Baxter approached the board of...

[1967] Ch 254
It was alleged that the directors had issued a large number of new shares purely to deprive a particular shareholder of his voting majority. An argument that the power to issue shares could only be properly exercised to raise new capital was rejected as too narrow, and it was held that it would be a proper exercise of the director's powers to issue shares to a larger company to ensure the financial stability of the company, or as part of an agreement to exploit mineral rights owned by the company.Teck Corporation v Millar (1972) 33 DLR (3d) 288 If so, the mere fact that an incidental result (even if it was a desired consequence) was that a shareholder lost his majority, or a takeover bid was defeated, this would not itself make the share issue improper. But if the sole purpose was to destroy a voting majority, or block a takeover bid, that would be an improper purpose.

Not all jurisdictions recognised the "proper purpose" duty as separate from the "good faith" duty however.This division was rejected in British Columbia in Teck Corporation v Millar (1972) 33 DLR (3d) 288

"Unfettered discretion"


Directors cannot, without the consent of the company, fetter their discretion
Discretion
Discretion is a noun in the English language with several meanings revolving around the judgment of the person exercising the characteristic.-Meanings:*"The Art of suiting action to particular circumstances"...

 in relation to the exercise of their powers, and cannot bind themselves to vote in a particular way at future board meetings.Although as Gower points out, as well understood as the rule is, there is a paucity of authority on the point. But see Clark v Workman [1920] 1 Ir R 107 and Dawson International plc v Coats Paton plc 1989 SLT 655 This is so even if there is no improper motive or purpose, and no personal advantage to the director .

This does not mean, however, that the board cannot agree to the company entering into a contract which binds the company to a certain course, even if certain actions in that course will require further board approval. The company remains bound, but the directors retain the discretion to vote against taking the future actions (although that may involve a breach by the company of the contract
Contract
A contract is an agreement entered into by two parties or more with the intention of creating a legal obligation, which may have elements in writing. Contracts can be made orally. The remedy for breach of contract can be "damages" or compensation of money. In equity, the remedy can be specific...

 that the board previously approved).

"Conflict of duty and interest"


As fiduciaries, the directors may not put themselves in a position where their interests and duties conflict with the duties that they owe to the company. The law takes the view that good faith must not only be done, but must be manifestly seen to be done, and zealously patrols the conduct of directors in this regard; and will not allow directors to escape liability by asserting that his decision was in fact well founded. Traditionally, the law has divided conflicts of duty and interest into three sub-categories.

Transactions with the company


By definition, where a director enters into a transaction with a company, there is a conflict between the director's interest (to do well for himself out of the transaction) and his duty to the company (to ensure that the company gets as much as it can out of the transaction). This rule is so strictly enforced that, even where the conflict of interest
Conflict of interest
A conflict of interest occurs when an individual or organization is involved in multiple interests, one of which could possibly corrupt the motivation for an act in the other....

 or conflict of duty is purely hypothetical, the directors can be forced to disgorge all personal gains arising from it. In Aberdeen Ry v Blaikie (1854) 1 Macq HL 461 Lord Cranworth
Robert Rolfe, 1st Baron Cranworth
Robert Monsey Rolfe, 1st Baron Cranworth PC was a British lawyer and Liberal politician. He twice served as Lord High Chancellor of Great Britain.-Background and education:...

 stated in his judgment that:
"A corporate body can only act by agents, and it is, of course, the duty of those agents so to act as best to promote the interests of the corporation whose affairs they are conducting. Such agents have duties to discharge of a fiduciary nature towards their principal. And it is a rule of universal application that no one, having such duties to discharge, shall be allowed to enter into engagements in which he has, or can have, a personal interest conflicting or which possibly may conflict, with the interests of those whom he is bound to protect... So strictly is this principle adhered to that no question is allowed to be raised as to the fairness or unfairness of the contract entered into..." (emphasis added)


However, in many jurisdictions the members of the company are permitted to ratify transactions which would otherwise fall foul of this principle. It is also largely accepted in most jurisdictions that this principle can be overridden in the company's constitution.

In many countries, there is also a statutory duty to declare interests in relation to any transactions, and the director can be fined for failing to make disclosure.In the United Kingdom, see section 317 of the Companies Act 1985

Use of corporate property, opportunity, or information


Directors must not, without the informed consent of the company, use for their own profit the company's assets, opportunities
Corporate opportunity
The corporate opportunity doctrine is the legal principle providing that directors, officers, and controlling shareholders of a corporation must not take for themselves any business opportunity that could benefit the corporation...

, or information. This prohibition is much less flexible than the prohibition against the transactions with the company, and attempts to circumvent it using provisions in the articles have met with limited success.

In Regal (Hastings) Ltd v Gulliver
Regal (Hastings) v Gulliver
Regal Ltd v Gulliver [1942] , is a leading case in UK company law regarding the rule against directors and officers from taking corporate opportunities in violation of their duty of loyalty. The Court held that a director is in breach of his duties if he takes advantage of an opportunity that the...

[1942] All ER 378 the House of Lords, in upholding what was regarded as a wholly unmeritorious claim by the shareholders,In summary, the facts were as follows: Company A owned a cinema, and the directors decided to acquire two other cinemas with a view to selling the entire undertaking as a going concern
Going concern
A going concern is a business that functions without the threat of liquidation for the foreseeable future, usually regarded as at least within 12 months.-Definition of the 'going concern' concept:...

. They formed a new company ("Company B") to take the leases of the two new cinemas. But the lessor insisted on various stipulations, one of which was that Company B had to have a paid up share capital
Share capital
Share capital or issued capital or capital stock refers to the portion of a company's equity that has been obtained by trading stock to a shareholder for cash or an equivalent item of capital value...

 of not less than £5,000 (a substantial sum at the time). Company A was unable to subscribe for more than £2,000 in shares, so the directors arranged for the remaining 3,000 shares to be taken by themselves and their friends. Later, instead of selling the undertaking, they sold all of the shares in both companies and made a substantial profit. The shareholders of Company A sued asking that directors and their friends to disgorge the profits that they had made in connection with their 3,000 shares in Company B – the very same shares which the shareholders in Company A had been asked to subscribe (through Company A) but refused to do so.
held that:
"(i) that what the directors did was so related to the affairs of the company that it can properly be said to have been done in the course of their management and in the utilisation of their opportunities and special knowledge as directors; and (ii) that what they did resulted in profit to themselves."


And accordingly, the directors were required to disgorge the profits that they made, and the shareholders received their windfall.

The decision has been followed in several subsequent cases,Industrial Development Consultants v Cooley [1972] 1 WLR 443 (corporate information), Canadian Aero Service v. O'Malley (1973) 40 DLR (3d) 371 (corporate opportunity) and Boardman v Phipps [1967] 2 AC 46 (corporate opportunity, which again, the company itself had declined to take up) and is now regarded as settled law.

Competing with the company


Directors cannot compete directly with the company without a conflict of interest arising. Similarly, they should not act as directors of competing companies, as their duties to each company would then conflict with each other.

Common law duties of care and skill


Traditionally, the level of care and skill which has to be demonstrated by a director has been framed largely with reference to the non-executive director. In Re City Equitable Fire Insurance Co
Re City Equitable Fire Insurance Co
Re City Equitable Fire Insurance Co [1925] Ch 407 is a UK company law case concerning directors' duties, and in particular the duty of care. It is no longer good law, as it stipulated that a "subjective" standard of competence applied...

[1925] Ch 407, it was expressed in purely subjective terms, where the court held that:
"a director need not exhibit in the performance of his duties a greater degree of skill than may reasonably be expected from a person of his knowledge and experience." (emphasis added)


However, this decision was based firmly in the older notions (see above) that prevailed at the time as to the mode of corporate decision making, and effective control residing in the shareholders; if they elected and put up with an incompetent decision maker, they should not have recourse to complain.

However, a more modern approach has since developed, and in Dorchester Finance Co Ltd v Stebbing [1989] BCLC 498 the court held that the rule in Equitable Fire related only to skill, and not to diligence. With respect to diligence, what was required was:
"such care as an ordinary man might be expected to take on his own behalf."


This was a dual subjective and objective test, and one deliberately pitched at a higher level.

More recently, it has been suggested that both the tests of skill and diligence should be assessed objectively and subjectively; in the United Kingdom, the statutory provisions relating to directors' duties in the new Companies Act 2006
Companies Act 2006
The Companies Act 2006 is an Act of the Parliament of the United Kingdom which forms the primary source of UK company law. It had the distinction of being the longest in British Parliamentary history: with 1,300 sections and covering nearly 700 pages, and containing 16 schedules but it has since...

 have been codified on this basis.

Remedies for breach of duty


In most jurisdictions, the law provides for a variety of remedies in the event of a breach by the directors of their duties:
  1. injunction
    Injunction
    An injunction is an equitable remedy in the form of a court order that requires a party to do or refrain from doing certain acts. A party that fails to comply with an injunction faces criminal or civil penalties and may have to pay damages or accept sanctions...

     or declaration
    Declaration (law)
    In law, a declaration ordinarily refers to a judgment of the court or an award of an arbitration tribunal is a binding adjudication of the rights or other legal relations of the parties which does not provide for or order enforcement. Where the declaration is made by a court, it is usually...

  2. damages
    Damages
    In law, damages is an award, typically of money, to be paid to a person as compensation for loss or injury; grammatically, it is a singular noun, not plural.- Compensatory damages :...

     or compensation
  3. restoration of the company's property
  4. rescission
    Rescission
    In contract law, rescission has been defined as the unmaking of a contract between parties. Rescission is the unwinding of a transaction. This is done to bring the parties, as far as possible, back to the position in which they were before they entered into a contract .-In court:Rescission is an...

     of the relevant contract
    Contract
    A contract is an agreement entered into by two parties or more with the intention of creating a legal obligation, which may have elements in writing. Contracts can be made orally. The remedy for breach of contract can be "damages" or compensation of money. In equity, the remedy can be specific...

  5. account of profits
    Account of profits
    An account of profits is a type of equitable remedy most commonly used in cases of breach of fiduciary duty...

  6. summary dismissal

The future


Historically, directors' duties have been owed almost exclusively to the company and its members, and the board was expected to exercise its powers for the financial benefit
Corporate benefit
The interest of the company is a concept that the board of directors in corporations are in most legal systems required to use their powers for the commercial benefit of the company and its members...

 of the company. However, more recently there have been attempts to "soften" the position, and provide for more scope for directors to act as good corporate citizens. For example, in the United Kingdom, the Companies Act 2006
Companies Act 2006
The Companies Act 2006 is an Act of the Parliament of the United Kingdom which forms the primary source of UK company law. It had the distinction of being the longest in British Parliamentary history: with 1,300 sections and covering nearly 700 pages, and containing 16 schedules but it has since...

 requires directors of companies "to promote the success of the company for the benefit of its members as a whole", but sets out six factors to which a director must have regards in fulfilling the duty to promote success. These are:
  • 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, and
  • the need to act fairly as between members of a company


This represents a considerable departure from the traditional notion that directors' duties are owed only to the company. Previously in the United Kingdom, under the Companies Act 1985
Companies Act 1985
The Companies Act 1985 is an Act of the Parliament of the United Kingdom of Great Britain and Northern Ireland, enacted in 1985, which enabled companies to be formed by registration, and set out the responsibilities of companies, their directors and secretaries.The Act was a consolidation of...

, protections for non-member stakeholders were considerably more limited (see for example, s.309 which permitted directors to take into account the interests of employees but which could only be enforced by the shareholders and not by the employees themselves). The changes have therefore been the subject of some criticism.Director's duties

Compensation


Directors of Fortune 500
Fortune 500
The Fortune 500 is an annual list compiled and published by Fortune magazine that ranks the top 500 U.S. closely held and public corporations as ranked by their gross revenue after adjustments made by Fortune to exclude the impact of excise taxes companies collect. The list includes publicly and...

 companies received median pay of $234,000 in 2011. That was an increase of 10% from 2010.
A board of directors is a body of elected or appointed members who jointly oversee the activities of a company or organization
Organization
An organization is a social group which distributes tasks for a collective goal. The word itself is derived from the Greek word organon, itself derived from the better-known word ergon - as we know `organ` - and it means a compartment for a particular job.There are a variety of legal types of...

. Other names include board of governors
Board of governors
Board of governors is a term sometimes applied to the board of directors of a public entity or non-profit organization.Many public institutions, such as public universities, are government-owned corporations. The British Broadcasting Corporation was managed by a board of governors, though this role...

, board of managers, board of regents
Board of Regents
In the United States, a board often governs public institutions of higher education, which include both state universities and community colleges. In each US state, such boards may govern either the state university system, individual colleges and universities, or both. In general they operate as...

, board of trustees, and board of visitors. It is often simply referred to as "the board".

In some European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 and Asia
Asia
Asia is the world's largest and most populous continent, located primarily in the eastern and northern hemispheres. It covers 8.7% of the Earth's total surface area and with approximately 3.879 billion people, it hosts 60% of the world's current human population...

n countries, there are two separate boards, an executive board, also called corporate executive team,http://www.gsk.com/about/management.htm for day-to-day business and a supervisory board
Supervisory board
A supervisory board or supervisory committee, often called board of directors, is a group of individuals chosen by the stockholders of a company to promote their interests through the governance of the company and to hire and supervise the executive directors and CEO.Corporate governance varies...

, also called board of directorshttp://www.gsk.com/about/management.htm (elected by the shareholders) for supervising the executive board.

A board's activities are determined by the powers, duties, and responsibilities delegated to it or conferred on it by an authority outside itself. These matters are typically detailed in the organization's bylaws. The bylaws commonly also specify the number of members of the board, how they are to be chosen, and when they are to meet.

In an organization with voting members, e.g., a professional society, the board acts on behalf of, and is subordinate to, the organization's full assembly, which usually chooses the members of the board. In a stock corporation, the board is elected by the stockholders and is the highest authority in the management of the corporation. In a non-stock corporation
Non-stock corporation
A non-stock corporation is a corporation that does not have owners represented by shares of stock. That type of corporation is called a stock corporation. Instead, a non-stock corporation typically has members, who are the functional equivalent of stockholders in a stock corporation Non-stock...

 with no general voting membership, e.g., a university, the board is the supreme governing body of the institution; its members are sometimes chosen by the board itself.

Typical duties of boards of directors include:
  • governing the organization by establishing broad policies and objectives;
  • selecting, appointing, supporting and reviewing the performance of the chief executive;
  • ensuring the availability of adequate financial resources;
  • approving annual budgets;
  • accounting to the stakeholders for the organization's performance.
  • setting their own salaries and compensation


The legal responsibilities of boards and board members vary with the nature of the organization, and with the jurisdiction within which it operates. For public corporations, these responsibilities are typically much more rigorous and complex than for those of other types.

Typically the board chooses one of its members to be the chairman, who holds whatever title is specified in the bylaws.

Two-tier system


In most European Union
European Union
The European Union is an economic and political union of 27 independent member states which are located primarily in Europe. The EU traces its origins from the European Coal and Steel Community and the European Economic Community , formed by six countries in 1958...

 and many Asia
Asia
Asia is the world's largest and most populous continent, located primarily in the eastern and northern hemispheres. It covers 8.7% of the Earth's total surface area and with approximately 3.879 billion people, it hosts 60% of the world's current human population...

n countries, there are two separate boards, an executive board for day-to-day business and a supervisory board
Supervisory board
A supervisory board or supervisory committee, often called board of directors, is a group of individuals chosen by the stockholders of a company to promote their interests through the governance of the company and to hire and supervise the executive directors and CEO.Corporate governance varies...

 (elected by the shareholders) for supervising the executive board. In these countries, the CEO (chief executive or managing director) presides over the executive board and the chairman presides over the supervisory board, and these two roles will always be held by different people. This ensures a distinction between management
Management
Management in all business and organizational activities is the act of getting people together to accomplish desired goals and objectives using available resources efficiently and effectively...

 by the executive board and governance
Governance
Governance is the act of governing. It relates to decisions that define expectations, grant power, or verify performance. It consists of either a separate process or part of management or leadership processes...

 by the supervisory board. This allows for clear lines of authority. The aim is to prevent a conflict of interest
Conflict of interest
A conflict of interest occurs when an individual or organization is involved in multiple interests, one of which could possibly corrupt the motivation for an act in the other....

 and too much power being concentrated in the hands of one person. There is a strong parallel here with the structure of government, which tends to separate the political cabinet
Cabinet (government)
A Cabinet is a body of high ranking government officials, typically representing the executive branch. It can also sometimes be referred to as the Council of Ministers, an Executive Council, or an Executive Committee.- Overview :...

 from the management civil service
Civil service
The term civil service has two distinct meanings:* A branch of governmental service in which individuals are employed on the basis of professional merit as proven by competitive examinations....

. In the United States, the board of directors (elected by the shareholders) is often equivalent to the supervisory board, while the executive board may often be known as the executive committee (operating committee or executive council), composed of the CEO and their direct reports (other C-level officers, division/subsidiary heads).

Directors


The directors of an organization are the persons who are members of its board. Several specific terms categorize directors by the presence or absence of their other relationships to the organization.This section was developed from numerous definitions in USLegal.com, BusinessDictionary.com, Dictionary.com, The Free Dictionary by Farlex, ibid., ibid., ibid., Macmillan Dictionary, and Economics-dictionary.com.

An inside director is a director who is also an employee, officer, major shareholder
Shareholder
A shareholder or stockholder is an individual or institution that legally owns one or more shares of stock in a public or private corporation. Shareholders own the stock, but not the corporation itself ....

, or someone similarly connected to the organization. Inside directors represent the interests of the entity's stakeholders, and often have special knowledge of its inner workings, its financial or market position, and so on.

Typical inside directors are:
  • A Chief Executive Officer
    Chief executive officer
    A chief executive officer , managing director , Executive Director for non-profit organizations, or chief executive is the highest-ranking corporate officer or administrator in charge of total management of an organization...

     (CEO) who may also be Chairman of the Board
  • Other executives of the organization, such as its Chief Financial Officer
    Chief financial officer
    The chief financial officer or Chief financial and operating officer is a corporate officer primarily responsible for managing the financial risks of the corporation. This officer is also responsible for financial planning and record-keeping, as well as financial reporting to higher management...

     (CFO) or Executive Vice President
  • Large shareholders (who may or may not also be employees or officers)
  • Representatives of other stakeholders such as labor unions, major lenders, or members of the community in which the organization is located


An inside director who is employed as a manager or executive of the organization is sometimes referred to as an executive director (not to be confused with the title executive director
Executive director
Executive director is a term sometimes applied to the chief executive officer or managing director of an organization, company, or corporation. It is widely used in North American non-profit organizations, though in recent decades many U.S. nonprofits have adopted the title "President/CEO"...

 sometimes used for the CEO position). Executive directors often have a specified area of responsibility in the organization, such as finance, marketing, human resources, or production.

An outside director is a member of the board who is not otherwise employed by or engaged with the organization, and does not represent any of its stakeholders. A typical example is a director who is president of a firm in a different industry.

Outside directors bring outside experience and perspective to the board. They keep a watchful eye on the inside directors and on the way the organization is run. Outside directors are often useful in handling disputes between inside directors, or between shareholders and the board. They are thought to be advantageous because they can be objective and present little risk of conflict of interest. On the other hand, they might lack familiarity with the specific issues connected to the organization's governance.

Recapping the terminology:
  • director - any member of the board of directors
  • inside director - a director who, in addition to serving on the board, has a meaningful connection to the organization
  • outside director - a director who, other than serving on the board, has no meaningful connections to the organization
  • executive director - an inside director who is also an executive with the organization. The term is also used, in a completely different sense, to refer to a CEO
  • non-executive director - a director who is not an executive with the organization


Individual directors often serve on more than one board. This practice results in an interlocking directorate
Interlocking directorate
Interlocking directorate refers to the practice of members of a corporate board of directors serving on the boards of multiple corporations. A person that sits on multiple boards is known as a multiple director. A direct interlock occurs when two firms share a director or when an executive of one...

, where a relatively small number of individuals have significant influence over a large number of important entities. This situation can have important corporate, social, economic, and legal consequences, and has been the subject of significant research.

Sarbanes-Oxley Act


The Sarbanes-Oxley Act
Sarbanes-Oxley Act
The Sarbanes–Oxley Act of 2002 , also known as the 'Public Company Accounting Reform and Investor Protection Act' and 'Corporate and Auditing Accountability and Responsibility Act' and commonly called Sarbanes–Oxley, Sarbox or SOX, is a United States federal law enacted on July 30, 2002, which...

 (SOX) has introduced new standards of accountability on boards of U.S. companies or companies listed on U.S. stock exchange
Stock exchange
A stock exchange is an entity that provides services for stock brokers and traders to trade stocks, bonds, and other securities. Stock exchanges also provide facilities for issue and redemption of securities and other financial instruments, and capital events including the payment of income and...

s. Under the Act, directors risk large fines and prison sentences in the case of accounting crimes. Internal control
Internal control
In accounting and auditing, internal control is defined as a process effected by an organization's structure, work and authority flows, people and management information systems, designed to help the organization accomplish specific goals or objectives. It is a means by which an organization's...

 is now the direct responsibility of directors. The vast majority of companies covered by the Act have hired internal auditors to ensure that the company adheres to the highest standards of internal control. The internal auditors are required by law to report directly to an audit board, consisting of directors more than half of whom are outside directors, one of whom is an accounting expert.

Corporations


Theoretically, the control of a company is divided between two bodies: the board of directors, and the shareholders in general meeting. In practice, the amount of power exercised by the board varies with the type of company. In small private companies, the directors and the shareholders are normally the same people, and thus there is no real division of power. In large public companies
Public company
This is not the same as a Government-owned corporation.A public company or publicly traded company is a limited liability company that offers its securities for sale to the general public, typically through a stock exchange, or through market makers operating in over the counter markets...

, the board tends to exercise more of a supervisory role, and individual responsibility and management tends to be delegated downward to individual professional executives (such as a finance director or a marketing director) who deal with particular areas of the company's affairs.

Another feature of boards of directors in large public companies is that the board tends to have more de facto
De facto
De facto is a Latin expression that means "concerning fact." In law, it often means "in practice but not necessarily ordained by law" or "in practice or actuality, but not officially established." It is commonly used in contrast to de jure when referring to matters of law, governance, or...

power. The shareholders tend to grant proxies to the directors and accept all recommendations of the board rather than try to get involved in management, since each shareholder's power is so small. Also, the large number of shareholders makes it hard for them to organize. However, there have been moves recently to try to increase shareholder activism among both institutional investors and individuals with small shareholdings.

Conversely, though, boards of directors in large public companies tend to wield very little practical power, because they delegate nearly all of their power to the top executive employees, adopting their recommendations almost without fail. As a practical matter, executives even choose the directors, as shareholders normally follow management recommendations when electing them.

A board-only
Board-only
A board-only organization is one that is managed by a board that is self-appointed or otherwise not accountable to a base of members through elections, a delegate body, etc. The growing trend to switch toward this type of structure is controversial. O'Regan & Oster have found that large, more...

 organization is one whose board is self-appointed, rather than being accountable to a base of members through elections; or in which the powers of the membership are extremely limited.

In most cases, serving on a board is not a career
Career
Career is defined by the Oxford English Dictionary as a person's "course or progress through life ". It is usually considered to pertain to remunerative work ....

 unto itself, but board members often receive remunerations amounting to hundreds of thousands of dollars per year since they often sit on the boards of several companies. Inside directors are usually not paid for sitting on a board, but the duty is instead considered part of their larger job description. Outside directors are usually paid for their services. These remunerations vary between corporations, but usually consist of a yearly or monthly salary, additional compensation for each meeting attended, stock options, and various other benefits. Tiffany & Co.
Tiffany & Co.
Tiffany & Co. is an American jewelry and silverware company. As part of its branding, the company is strongly associated with its Tiffany Blue , which is a registered trademark.- History :...

, for example, pays directors an annual retainer of $46,500, an additional annual retainer of $2,500 if the director is also a chairperson of a committee, a per-meeting-attended fee of $2,000 for meetings attended in person, a $500 fee for each meeting attended via telephone, in addition to stock options and retirement benefits.

Classification


The role and responsibilities of a board of directors vary depending on the nature and type of business entity and the laws applying to the entity (see types of business entity). For example, the nature of the business entity may be one that is traded on a public market (public company), not traded on a public market (a private, limited or closely held company), owned by family members (a family business), or exempt from income taxes (a non-profit, not for profit, or tax-exempt entity). There are numerous types of business entities available throughout the world such as a corporation, limited liability company, cooperative, business trust, partnership, private limited company, and public limited company.

Much of what has been written about boards of directors relates to boards of directors of business entities actively traded on public markets.See generally, Bowen, William G., The board book: an insider's guide for directors and trustees (2008 W.W. Norton & Co.); Murray, Alan S., Revolt in the boardroom: the new rules of power in corporate America (2007 Collins); Charan, Ram, Boards that deliver: advancing corporate governance from compliance to competitive advantage (2005 Jossey-Bass); Carver, John, Corporate boards that create value: governing company performance from the boardroom (2002 Jossey-Bass); Harvard business review on corporate governance (2000 Harvard Business School Press). More recently, however, material is becoming available for boards of private and closely held businesses including family businesses.See specifically Tutelman and Hause, The Balance Point: New Ways Business Owners Can Use Boards (2008 Famille Press).

History


The development of a separate board of directors to manage the company has occurred incrementally and indefinitely over legal history. Until the end of the 19th century, it seems to have been generally assumed that the general meeting (of all shareholders) was the supreme organ of the company, and the board of directors was merely an agent of the company subject to the control of the shareholders in general meeting.Gower, Principles of Company Law (6th ed.), citing Isle of Wight Railway v Tahourdin (1883) 25 Ch D 320.

However, by 1906, the English Court of Appeal
Court of Appeal of England and Wales
The Court of Appeal of England and Wales is the second most senior court in the English legal system, with only the Supreme Court of the United Kingdom above it...

 had made it clear in the decision of Automatic Self-Cleansing Filter Syndicate Co v Cunningham [1906] 2 Ch 34 that the division of powers between the board and the shareholders in general meaning depended on the construction of the articles of association
Articles of Association (law)
The term articles of association of a company, or articles of incorporation, of an American or Canadian Company, are often simply referred to as articles . The Articles are a requirement for the establishment of a company under the law of India, the United Kingdom and many other countries...

 and that, where the powers of management were vested in the board, the general meeting could not interfere with their lawful exercise. The articles were held to constitute a contract by which the members had agreed that "the directors and the directors alone shall manage."Per Cozens-Hardy LJ at 44

The new approach did not secure immediate approval, but it was endorsed by the House of Lords
Judicial functions of the House of Lords
The House of Lords, in addition to having a legislative function, historically also had a judicial function. It functioned as a court of first instance for the trials of peers, for impeachment cases, and as a court of last resort within the United Kingdom. In the latter case the House's...

 in Quin & Axtens v Salmon [1909] AC 442 and has since received general acceptance. Under English law, successive versions of Table A
Table A
Table A in UK company law is the old name for to the Model Articles or default form of articles of association for companies limited by shares incorporated either in England and Wales or in Scotland before 1 October 2009 where the incorporators do not explicitly choose to use a modified form...

 have reinforced the norm that, unless the directors are acting contrary to the law or the provisions of the Articles, the powers of conducting the management and affairs of the company are vested in them.

The modern doctrine was expressed in Shaw & Sons (Salford) Ltd v Shaw [1935] 2 KB 113 by Greer LJ as follows:


"A company is an entity distinct alike from its shareholders and its directors. Some of its powers may, according to its articles, be exercised by directors, certain other powers may be reserved for the shareholders in general meeting. If powers of management are vested in the directors, they and they alone can exercise these powers. The only way in which the general body of shareholders can control the exercise of powers by the articles in the directors is by altering the articles, or, if opportunity arises under the articles, by refusing to re-elect the directors of whose actions they disapprove. They cannot themselves usurp the powers which by the articles are vested in the directors any more than the directors can usurp the powers vested by the articles in the general body of shareholders."


It has been remarked that this development in the law was somewhat surprising at the time, as the relevant provisions in Table A
Table A
Table A in UK company law is the old name for to the Model Articles or default form of articles of association for companies limited by shares incorporated either in England and Wales or in Scotland before 1 October 2009 where the incorporators do not explicitly choose to use a modified form...

 (as it was then) seemed to contradict this approach rather than to endorse it.See Gower, Principles of Company Law (6th ed.) at 185.

Election and removal


In "most" legal systems, the appointment and removal of directors is voted upon by the shareholders in general meetingFor example, in the United Kingdom, see section 303 of the Companies Act 1985 or through a proxy statement
Proxy statement
A proxy statement is a statement required of a United States firm when soliciting shareholder votes. This statement is filed in advance of the annual meeting. The firm needs to file a proxy statement, otherwise known as a Form DEF 14A , with the U.S. Securities and Exchange Commission...

. For publicly-traded companies in the U.S., the directors which are available to vote on are largely selected by either the board as a whole or a nominating committee
Nominating committee
A nominating committee is a group formed usually from inside the membership of an organization for the purpose of nominating candidates for office within the organization...

. Although in 2002 the NYSE and the NASDAQ required that nominating committees consist of independent directors as a condition of listing,Chhaochharia V, Grinstein Y. (2007). Corporate governance and firm value: The impact of the 2002 governance rules. The Journal of Finance. nomination committees have historically received input from management in their selections even when the CEO does not have a position on the board. Shareholder nominations can only occur at the general meeting itself or through the prohibitively expensive process of mailing out ballots separately; in May 2009 the SEC proposed a new rule allowing shareholders meeting certain criteria to add nominees to the proxy statement.SEC. (May 2009). SEC Votes to Propose Rule Amendments to Facilitate Rights of Shareholders to Nominate Directors. In practice for publicly-traded companies, the managers (inside directors) who are purportedly accountable to the board of directors have historically played a major role in selecting and nominating the directors who are voted on by the shareholders, in which case more "gray outsider directors" (independent directors with conflicts of interest) are nominated and elected.

Directors may also leave office by resignation or death. In some legal systems, directors may also be removed by a resolution of the remaining directors (in some countries they may only do so "with cause"; in others the power is unrestricted).

Some jurisdictions also permit the board of directors to appoint directors, either to fill a vacancy which arises on resignation or death, or as an addition to the existing directors.

In practice, it can be quite difficult to remove a director by a resolution in general meeting. In many legal systems, the director has a right to receive special notice of any resolution to remove him or her;In the United Kingdom it is 28 days' notice, see sections 303(2) and 379 of the Companies Act 1985 the company must often supply a copy of the proposal to the director, who is usually entitled to be heard by the meeting.In the United Kingdom, see section 304(1) of the Companies Act 1985. A private company cannot use a written resolution under section 381A – a meeting must be held. The director may require the company to circulate any representations that he wishes to make.In the United Kingdom, see sections 303(2) and (3) of the Companies Act 1985 Furthermore, the director's contract of service will usually entitle him to compensation if he is removed, and may often include a generous "golden parachute
Golden parachute
A golden parachute is an agreement between a company and an employee specifying that the employee will receive certain significant benefits if employment is terminated. Sometimes, certain conditions, typically a change in company ownership, must be met, but often the cause of termination is...

" which also acts as a deterrent to removal.

In a recent academic study that was published in the Journal of Finance, Drexel University
Drexel University
Drexel University is a private research university with the main campus located in Philadelphia, Pennsylvania, USA. It was founded in 1891 by Anthony J. Drexel, a noted financier and philanthropist. Drexel offers 70 full-time undergraduate programs and accelerated degrees...

’s LeBow College of Business professors Jie Cai, Jacqueline Garner, and Ralph Walkling examined how corporate shareholders voted in nearly 2,500 director elections in the United States. They found that directors received fewer votes from shareholders when their companies performed poorly, had excess CEO compensation, or had poor shareholder protection. They also found that directors received fewer votes when they did not regularly attend board meetings or received negative recommendations from RiskMetrics (a proxy advisory firm). This evidence suggests that some shareholders express their displeasure with a company by voting against its directors. The article also shows that companies often improve their corporate governance by removing poison pill
Poison pill
A shareholder rights plan, colloquially known as a "poison pill", or simply "the pill" is a type of defensive tactic used by a corporation's board of directors against a takeover...

s or classified boards and by reducing excessive CEO pay after their directors receive low shareholder support.Cai, J., J. L. Garner, and R. A. Walkling, 2009. Electing Directors. Journal of Finance 64 (5), 2387–2419.

Board accountability to shareholders is a recurring issue. In 2010, the New York Times noted that several directors who had overseen companies which had failed in the financial crisis of 2007–2010 had found new positions as directors.Craig S, Lattman P. (2010). Companies May Fail, but Directors Are in Demand. New York Times.

Exercise of powers


The exercise by the board of directors of its powers usually occurs in board meetings. Most legal systems require sufficient notice to be given to all directors of these meetings, and that a quorum
Quorum
A quorum is the minimum number of members of a deliberative assembly necessary to conduct the business of that group...

 must be present before any business may be conducted. Usually, a meeting which is held without notice having been given is still valid if all of the directors attend, but it has been held that a failure to give notice may negate resolutions passed at a meeting, because the persuasive oratory of a minority of directors might have persuaded the majority to change their minds and vote otherwise.See for example Barber's Case (1877) 5 Ch D 963 and Re Portuguese Consolidated Copper Mines (1889) 42 Ch D 160

In most common law
Common law
Common law is law developed by judges through decisions of courts and similar tribunals rather than through legislative statutes or executive branch action...

 countries, the powers of the board are vested in the board as a whole, and not in the individual directors.Breckland Group Holdings Ltd v London and Suffolk Properties
Breckland Group Holdings Ltd v London and Suffolk Properties
Breckland Group Holdings Ltd v London & Suffolk Properties Ltd [1989] BCLC 100 is a UK company law case, concerning the right of a majority shareholder to litigate in the company's name.-Facts:...

[1989] BCLC 100
However, in instances an individual director may still bind the company by his acts by virtue of his ostensible authority (see also: the rule in Turquand's Case
Royal British Bank v Turquand
Royal British Bank v Turquand 6 E&B 327 is a UK company law case that held people transacting with companies are entitled to assume that internal company rules are complied with, even if they are not. This "indoor management rule" or the "Rule in Turquand's Case" is applicable in most of the...

).

Duties


Because directors exercise control and management over the organization, but organizations are (in theory) run for the benefit of the shareholders, the law imposes strict duties on directors in relation to the exercise of their duties. The duties imposed on directors are fiduciary duties, similar to those that the law imposes on those in similar positions of trust: agents
Agency (law)
The law of agency is an area of commercial law dealing with a contractual or quasi-contractual, or non-contractual set of relationships when a person, called the agent, is authorized to act on behalf of another to create a legal relationship with a third party...

 and trustee
Trustee
Trustee is a legal term which, in its broadest sense, can refer to any person who holds property, authority, or a position of trust or responsibility for the benefit of another...

s.

The duties apply to each director separately, while the powers apply to the board jointly. Also, the duties are owed to the company itself, and not to any other entity.Percival v Wright [1902] Ch 421 This does not mean that directors can never stand in a fiduciary relationship to the individual shareholders; they may well have such a duty in certain circumstances.For example, if the board is authorised by the shareholders to negotiate with a takeover bidder. It has been held in New Zealand that "depending upon all the surround circumstances and the nature of the responsibility which in a real and practical sense the director has assumed towards the shareholder," Coleman v Myers [1977] 2 NZLR 225

Acting bona fide


Directors must act honestly and bona fide ("in good faith
Good faith
In philosophy, the concept of Good faith—Latin bona fides “good faith”, bona fide “in good faith”—denotes sincere, honest intention or belief, regardless of the outcome of an action; the opposed concepts are bad faith, mala fides and perfidy...

"). The test is a subjective one, and directors must act in what they consider is in the interests of the company, not what a court might consider to be those interests.Re Smith & Fawcett Ltd [1942] Ch 304 However, the directors may still be held to have failed in this duty where they fail to direct their minds to the question of whether a transaction was in the best interests of the company.Re W & M Roith Ltd [1967] 1 WLR 432

Difficult questions can arise when treating the company too much in the abstract. For example, it may be for the benefit of a corporate group as a whole for a company to guarantee the debts of a "sister" company,That is a company which has the same 100% shareholder even though there is no ostensible "benefit" to the company giving the guarantee. Similarly, conceptually at least, there is no benefit to a company in returning profits to shareholders by way of dividend
Dividend
Dividends are payments made by a corporation to its shareholder members. It is the portion of corporate profits paid out to stockholders. When a corporation earns a profit or surplus, that money can be put to two uses: it can either be re-invested in the business , or it can be distributed to...

. However, the more pragmatic approach illustrated in the Australian case of Mills v Mills (1938) 60 CLR 150 normally prevails:
"[directors are] not required by the law to live in an unreal region of detached altruism and to act in the vague mood of ideal abstraction from obvious facts which must be present to the mind of any honest and intelligent person when they exercise their powers as a director."

"Proper purpose"


Directors must exercise their powers for a proper purpose. While in many instances an improper purpose is readily evident, such as a director looking to feather his or her own nest or divert an investment opportunity to a relative, such breaches usually involve a breach of the director's duty to act in good faith. Greater difficulties arise where the director, while acting in good faith, is serving a purpose that is not regarded by the law as proper.

The seminal authority in relation to what amounts to a proper purpose is the Privy Council
Judicial Committee of the Privy Council
The Judicial Committee of the Privy Council is one of the highest courts in the United Kingdom. Established by the Judicial Committee Act 1833 to hear appeals formerly heard by the King in Council The Judicial Committee of the Privy Council (JCPC) is one of the highest courts in the United...

 decision of Howard Smith Ltd v Ampol Ltd [1974] AC 821. The case concerned the power of the directors to issue new shares
Stock
The capital stock of a business entity represents the original capital paid into or invested in the business by its founders. It serves as a security for the creditors of a business since it cannot be withdrawn to the detriment of the creditors...

.Following Hogg v. Cramphorn Ltd.
Hogg v. Cramphorn Ltd.
Hogg v Cramphorn Ltd [1967] Ch 254 is a famous UK company law case on the director liability. The Court held that corporate directors who dilute the value of the stock in order to prevent a hostile takeover are breaching their fiduciary duty to the company.-Facts:Mr Baxter approached the board of...

[1967] Ch 254
It was alleged that the directors had issued a large number of new shares purely to deprive a particular shareholder of his voting majority. An argument that the power to issue shares could only be properly exercised to raise new capital was rejected as too narrow, and it was held that it would be a proper exercise of the director's powers to issue shares to a larger company to ensure the financial stability of the company, or as part of an agreement to exploit mineral rights owned by the company.Teck Corporation v Millar (1972) 33 DLR (3d) 288 If so, the mere fact that an incidental result (even if it was a desired consequence) was that a shareholder lost his majority, or a takeover bid was defeated, this would not itself make the share issue improper. But if the sole purpose was to destroy a voting majority, or block a takeover bid, that would be an improper purpose.

Not all jurisdictions recognised the "proper purpose" duty as separate from the "good faith" duty however.This division was rejected in British Columbia in Teck Corporation v Millar (1972) 33 DLR (3d) 288

"Unfettered discretion"


Directors cannot, without the consent of the company, fetter their discretion
Discretion
Discretion is a noun in the English language with several meanings revolving around the judgment of the person exercising the characteristic.-Meanings:*"The Art of suiting action to particular circumstances"...

 in relation to the exercise of their powers, and cannot bind themselves to vote in a particular way at future board meetings.Although as Gower points out, as well understood as the rule is, there is a paucity of authority on the point. But see Clark v Workman [1920] 1 Ir R 107 and Dawson International plc v Coats Paton plc 1989 SLT 655 This is so even if there is no improper motive or purpose, and no personal advantage to the director .

This does not mean, however, that the board cannot agree to the company entering into a contract which binds the company to a certain course, even if certain actions in that course will require further board approval. The company remains bound, but the directors retain the discretion to vote against taking the future actions (although that may involve a breach by the company of the contract
Contract
A contract is an agreement entered into by two parties or more with the intention of creating a legal obligation, which may have elements in writing. Contracts can be made orally. The remedy for breach of contract can be "damages" or compensation of money. In equity, the remedy can be specific...

 that the board previously approved).

"Conflict of duty and interest"


As fiduciaries, the directors may not put themselves in a position where their interests and duties conflict with the duties that they owe to the company. The law takes the view that good faith must not only be done, but must be manifestly seen to be done, and zealously patrols the conduct of directors in this regard; and will not allow directors to escape liability by asserting that his decision was in fact well founded. Traditionally, the law has divided conflicts of duty and interest into three sub-categories.

Transactions with the company


By definition, where a director enters into a transaction with a company, there is a conflict between the director's interest (to do well for himself out of the transaction) and his duty to the company (to ensure that the company gets as much as it can out of the transaction). This rule is so strictly enforced that, even where the conflict of interest
Conflict of interest
A conflict of interest occurs when an individual or organization is involved in multiple interests, one of which could possibly corrupt the motivation for an act in the other....

 or conflict of duty is purely hypothetical, the directors can be forced to disgorge all personal gains arising from it. In Aberdeen Ry v Blaikie (1854) 1 Macq HL 461 Lord Cranworth
Robert Rolfe, 1st Baron Cranworth
Robert Monsey Rolfe, 1st Baron Cranworth PC was a British lawyer and Liberal politician. He twice served as Lord High Chancellor of Great Britain.-Background and education:...

 stated in his judgment that:
"A corporate body can only act by agents, and it is, of course, the duty of those agents so to act as best to promote the interests of the corporation whose affairs they are conducting. Such agents have duties to discharge of a fiduciary nature towards their principal. And it is a rule of universal application that no one, having such duties to discharge, shall be allowed to enter into engagements in which he has, or can have, a personal interest conflicting or which possibly may conflict, with the interests of those whom he is bound to protect... So strictly is this principle adhered to that no question is allowed to be raised as to the fairness or unfairness of the contract entered into..." (emphasis added)


However, in many jurisdictions the members of the company are permitted to ratify transactions which would otherwise fall foul of this principle. It is also largely accepted in most jurisdictions that this principle can be overridden in the company's constitution.

In many countries, there is also a statutory duty to declare interests in relation to any transactions, and the director can be fined for failing to make disclosure.In the United Kingdom, see section 317 of the Companies Act 1985

Use of corporate property, opportunity, or information


Directors must not, without the informed consent of the company, use for their own profit the company's assets, opportunities
Corporate opportunity
The corporate opportunity doctrine is the legal principle providing that directors, officers, and controlling shareholders of a corporation must not take for themselves any business opportunity that could benefit the corporation...

, or information. This prohibition is much less flexible than the prohibition against the transactions with the company, and attempts to circumvent it using provisions in the articles have met with limited success.

In Regal (Hastings) Ltd v Gulliver
Regal (Hastings) v Gulliver
Regal Ltd v Gulliver [1942] , is a leading case in UK company law regarding the rule against directors and officers from taking corporate opportunities in violation of their duty of loyalty. The Court held that a director is in breach of his duties if he takes advantage of an opportunity that the...

[1942] All ER 378 the House of Lords, in upholding what was regarded as a wholly unmeritorious claim by the shareholders,In summary, the facts were as follows: Company A owned a cinema, and the directors decided to acquire two other cinemas with a view to selling the entire undertaking as a going concern
Going concern
A going concern is a business that functions without the threat of liquidation for the foreseeable future, usually regarded as at least within 12 months.-Definition of the 'going concern' concept:...

. They formed a new company ("Company B") to take the leases of the two new cinemas. But the lessor insisted on various stipulations, one of which was that Company B had to have a paid up share capital
Share capital
Share capital or issued capital or capital stock refers to the portion of a company's equity that has been obtained by trading stock to a shareholder for cash or an equivalent item of capital value...

 of not less than £5,000 (a substantial sum at the time). Company A was unable to subscribe for more than £2,000 in shares, so the directors arranged for the remaining 3,000 shares to be taken by themselves and their friends. Later, instead of selling the undertaking, they sold all of the shares in both companies and made a substantial profit. The shareholders of Company A sued asking that directors and their friends to disgorge the profits that they had made in connection with their 3,000 shares in Company B – the very same shares which the shareholders in Company A had been asked to subscribe (through Company A) but refused to do so.
held that:
"(i) that what the directors did was so related to the affairs of the company that it can properly be said to have been done in the course of their management and in the utilisation of their opportunities and special knowledge as directors; and (ii) that what they did resulted in profit to themselves."


And accordingly, the directors were required to disgorge the profits that they made, and the shareholders received their windfall.

The decision has been followed in several subsequent cases,Industrial Development Consultants v Cooley [1972] 1 WLR 443 (corporate information), Canadian Aero Service v. O'Malley (1973) 40 DLR (3d) 371 (corporate opportunity) and Boardman v Phipps [1967] 2 AC 46 (corporate opportunity, which again, the company itself had declined to take up) and is now regarded as settled law.

Competing with the company


Directors cannot compete directly with the company without a conflict of interest arising. Similarly, they should not act as directors of competing companies, as their duties to each company would then conflict with each other.

Common law duties of care and skill


Traditionally, the level of care and skill which has to be demonstrated by a director has been framed largely with reference to the non-executive director. In Re City Equitable Fire Insurance Co
Re City Equitable Fire Insurance Co
Re City Equitable Fire Insurance Co [1925] Ch 407 is a UK company law case concerning directors' duties, and in particular the duty of care. It is no longer good law, as it stipulated that a "subjective" standard of competence applied...

[1925] Ch 407, it was expressed in purely subjective terms, where the court held that:
"a director need not exhibit in the performance of his duties a greater degree of skill than may reasonably be expected from a person of his knowledge and experience." (emphasis added)


However, this decision was based firmly in the older notions (see above) that prevailed at the time as to the mode of corporate decision making, and effective control residing in the shareholders; if they elected and put up with an incompetent decision maker, they should not have recourse to complain.

However, a more modern approach has since developed, and in Dorchester Finance Co Ltd v Stebbing [1989] BCLC 498 the court held that the rule in Equitable Fire related only to skill, and not to diligence. With respect to diligence, what was required was:
"such care as an ordinary man might be expected to take on his own behalf."


This was a dual subjective and objective test, and one deliberately pitched at a higher level.

More recently, it has been suggested that both the tests of skill and diligence should be assessed objectively and subjectively; in the United Kingdom, the statutory provisions relating to directors' duties in the new Companies Act 2006
Companies Act 2006
The Companies Act 2006 is an Act of the Parliament of the United Kingdom which forms the primary source of UK company law. It had the distinction of being the longest in British Parliamentary history: with 1,300 sections and covering nearly 700 pages, and containing 16 schedules but it has since...

 have been codified on this basis.

Remedies for breach of duty


In most jurisdictions, the law provides for a variety of remedies in the event of a breach by the directors of their duties:
  1. injunction
    Injunction
    An injunction is an equitable remedy in the form of a court order that requires a party to do or refrain from doing certain acts. A party that fails to comply with an injunction faces criminal or civil penalties and may have to pay damages or accept sanctions...

     or declaration
    Declaration (law)
    In law, a declaration ordinarily refers to a judgment of the court or an award of an arbitration tribunal is a binding adjudication of the rights or other legal relations of the parties which does not provide for or order enforcement. Where the declaration is made by a court, it is usually...

  2. damages
    Damages
    In law, damages is an award, typically of money, to be paid to a person as compensation for loss or injury; grammatically, it is a singular noun, not plural.- Compensatory damages :...

     or compensation
  3. restoration of the company's property
  4. rescission
    Rescission
    In contract law, rescission has been defined as the unmaking of a contract between parties. Rescission is the unwinding of a transaction. This is done to bring the parties, as far as possible, back to the position in which they were before they entered into a contract .-In court:Rescission is an...

     of the relevant contract
    Contract
    A contract is an agreement entered into by two parties or more with the intention of creating a legal obligation, which may have elements in writing. Contracts can be made orally. The remedy for breach of contract can be "damages" or compensation of money. In equity, the remedy can be specific...

  5. account of profits
    Account of profits
    An account of profits is a type of equitable remedy most commonly used in cases of breach of fiduciary duty...

  6. summary dismissal

The future


Historically, directors' duties have been owed almost exclusively to the company and its members, and the board was expected to exercise its powers for the financial benefit
Corporate benefit
The interest of the company is a concept that the board of directors in corporations are in most legal systems required to use their powers for the commercial benefit of the company and its members...

 of the company. However, more recently there have been attempts to "soften" the position, and provide for more scope for directors to act as good corporate citizens. For example, in the United Kingdom, the Companies Act 2006
Companies Act 2006
The Companies Act 2006 is an Act of the Parliament of the United Kingdom which forms the primary source of UK company law. It had the distinction of being the longest in British Parliamentary history: with 1,300 sections and covering nearly 700 pages, and containing 16 schedules but it has since...

 requires directors of companies "to promote the success of the company for the benefit of its members as a whole", but sets out six factors to which a director must have regards in fulfilling the duty to promote success. These are:
  • 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, and
  • the need to act fairly as between members of a company


This represents a considerable departure from the traditional notion that directors' duties are owed only to the company. Previously in the United Kingdom, under the Companies Act 1985
Companies Act 1985
The Companies Act 1985 is an Act of the Parliament of the United Kingdom of Great Britain and Northern Ireland, enacted in 1985, which enabled companies to be formed by registration, and set out the responsibilities of companies, their directors and secretaries.The Act was a consolidation of...

, protections for non-member stakeholders were considerably more limited (see for example, s.309 which permitted directors to take into account the interests of employees but which could only be enforced by the shareholders and not by the employees themselves). The changes have therefore been the subject of some criticism.Director's duties

Compensation


Directors of Fortune 500
Fortune 500
The Fortune 500 is an annual list compiled and published by Fortune magazine that ranks the top 500 U.S. closely held and public corporations as ranked by their gross revenue after adjustments made by Fortune to exclude the impact of excise taxes companies collect. The list includes publicly and...

 companies received median pay of $234,000 in 2011. That was an increase of 10% from 2010.http://www.usatoday.com/money/companies/management/story/2011-10-25/director-compensation-rising/50918332/1

Failures



While the primary responsibility of boards is to ensure that the corporation's management is performing its job correctly, actually achieving this in practice can be difficult. In a number of corporate scandals of the 1990s, one notable feature revealed in subsequent investigations is that boards were not aware of the activities of the managers that they hired, nor the true financial state of the corporation. A number of factors may be involved in this tendency:
  • Most boards largely rely on management to report information to them, thus allowing management to place the desired 'spin' on information, or even conceal or lie about the true state of a company.
  • Boards of directors are part-time bodies, whose members meet only occasionally and may not know each other particularly well. This unfamiliarity can make it difficult for board members to question management.
  • CEOs tend to be rather forceful personalities. In some cases, CEOs are accused of exercising too much influence over the company's board.
  • Directors may not have the time or the skills required to understand the details of corporate business, allowing management to obscure problems.
  • The same directors who appointed the present CEO oversee his or her performance. This makes it difficult for some directors to dispassionately evaluate the CEO's performance.
  • Directors often feel that a judgment of a manager, particularly one who has performed well in the past, should be respected. This can be quite legitimate, but poses problems if the manager's judgment is indeed flawed.
  • All of the above may contribute to a culture of "not rocking the boat" at board meetings.


Because of this, the role of boards in corporate governance
Corporate governance
Corporate governance is a number of processes, customs, policies, laws, and institutions which have impact on the way a company is controlled...

, and how to improve their oversight capability, has been examined carefully in recent years, and new legislation in a number of jurisdictions, and an increased focus on the topic by boards themselves, has seen changes implemented to try and improve their performance.

Process


The process for running a board, sometimes called the board process, includes the selection of board members, the setting of clear board objectives, the dissemination of documents or board package to the board members, the collaborative creation of an agenda
Agenda (meeting)
An agenda is a list of meeting activities in the order in which they are to be taken up, by beginning with the call to order and ending with adjournment. It usually includes one or more specific items of business to be discussed. It may, but is not required to, include specific times for one or...

 for the meeting, the creation and follow-up of assigned action items, and the assessment of the board process through standardized assessments of board members, owners, and CEOs.Board Process The science of this process has been slow to develop due to the secretive nature of the way most companies run their boards, however some standardization is beginning to develop. Some who are pushing for this standardization are the National Association of Corporate Directors
National Association of Corporate Directors
The National Association of Corporate Directors is an independent, not-for-profit membership organization, dedicated to serving the corporate governance needs of directors of public, private, and non-profit organizations. Founded in 1977, NACD is headquartered in Washington, D.C. and serves...

, McKinsey Consulting and The Board Group.

See also

  • Agency cost
    Agency cost
    An agency cost is an economic concept that relates to the cost incurred by an entity associated with problems such as divergent management-shareholder objectives and information asymmetry...

  • Alternate director
    Alternate director
    An alternate director is a person who is appointed to attend a board meeting on behalf of the director of a company where the principal director would be otherwise unable to attend...

  • Board of governors
    Board of governors
    Board of governors is a term sometimes applied to the board of directors of a public entity or non-profit organization.Many public institutions, such as public universities, are government-owned corporations. The British Broadcasting Corporation was managed by a board of governors, though this role...

  • Board of regents
    Board of Regents
    In the United States, a board often governs public institutions of higher education, which include both state universities and community colleges. In each US state, such boards may govern either the state university system, individual colleges and universities, or both. In general they operate as...

  • Celebrity board director
    Celebrity board director
    A celebrity board director is an officer with significant influence in the company's governance decision-making process and who possesses one or more celebrity traits including credibility, goodwill, rights, image, influence, liability, and standard of value...

  • Chairman
  • Chief executive officer
    Chief executive officer
    A chief executive officer , managing director , Executive Director for non-profit organizations, or chief executive is the highest-ranking corporate officer or administrator in charge of total management of an organization...

  • Company (law)
  • Corporation
    Corporation
    A corporation is created under the laws of a state as a separate legal entity that has privileges and liabilities that are distinct from those of its members. There are many different forms of corporations, most of which are used to conduct business. Early corporations were established by charter...

  • Corporate governance
    Corporate governance
    Corporate governance is a number of processes, customs, policies, laws, and institutions which have impact on the way a company is controlled...

  • Corporate title
    Corporate title
    Publicly and privately held for-profit corporations confer corporate titles or business titles on company officials as a means of identifying their function in the organization...

    s
  • Executive compensation
    Executive compensation
    Executive pay is financial compensation received by an officer of a firm, often as a mixture of salary, bonuses, shares of and/or call options on the company stock, etc. Over the past three decades, executive pay has risen dramatically beyond the rising levels of an average worker's wage...

  • Finance director
  • Interlocking directorate
    Interlocking directorate
    Interlocking directorate refers to the practice of members of a corporate board of directors serving on the boards of multiple corporations. A person that sits on multiple boards is known as a multiple director. A direct interlock occurs when two firms share a director or when an executive of one...

  • Managing director
  • Non-executive director
    Non-executive director
    A non-executive director or outside director is a member of the board of directors of a company who does not form part of the executive management team. He or she is not an employee of the company or affiliated with it in any other way...

  • Parliamentary procedure in the corporate world
    Parliamentary procedure in the corporate world
    Parliamentary procedure in the corporate world may follow traditional parliamentary authorities such as Robert's Rules of Order or simpler rules of order considered by some commentators to be more appropriate in the corporate setting.-In general:...

  • President
    President
    A president is a leader of an organization, company, trade union, university, or country.Etymologically, a president is one who presides, who sits in leadership...

  • Sarbanes-Oxley Act
    Sarbanes-Oxley Act
    The Sarbanes–Oxley Act of 2002 , also known as the 'Public Company Accounting Reform and Investor Protection Act' and 'Corporate and Auditing Accountability and Responsibility Act' and commonly called Sarbanes–Oxley, Sarbox or SOX, is a United States federal law enacted on July 30, 2002, which...

  • Say on pay
    Say on pay
    Say on pay is a term used for a rule in corporate law whereby a firm's shareholders have the right to vote on the remuneration of executives.Often described in corporate governance or management theory as an agency problem, a corporation's directors are likely to overpay themselves because,...

  • Supervisory board
    Supervisory board
    A supervisory board or supervisory committee, often called board of directors, is a group of individuals chosen by the stockholders of a company to promote their interests through the governance of the company and to hire and supervise the executive directors and CEO.Corporate governance varies...

     (in German: "Aufsichtsrat")
  • Vorstand
    Vorstand
    In German corporate governance, a Vorstand is the management board of a corporation. It is hierarchically subordinate to the Aufsichtsrat , as German corporate law imposes a two-tier board system....

    , German for "management board"

External links