Directors Duties: Honesty and Goodfaith 

In June the Court of Appeal found that a director had failed to comply with their statutory duty. Despite a sincere belief he was acting in a way that would be most likely to promote the success of the company for the benefit of its members, because his conduct fell below the required standard of honesty.  

Background: 

The company concerned was owned by several investors, including Mr Costa who, along with two other investors, was a director of the company. The Shareholders Agreement (SHA) included an Investment Period clause detailing that the Company and Shareholders would ‘work together, in good faith, towards an Exit no later than 31 December 2019’.  

Mr Costa and a fellow director employed a financial adviser, but contrary to the SHA, Mr Costa provided the adviser with broad instructions, not limited to achieving an exit by the required date. When the third director shareholder became concerned that the sale process would not be completed, he asked Mr Costa for information on the company so he could engage with potential buyers, and attempted to introduce another potential buyer. Mr Costa declined, believing that delaying an exit past the end of 2019 would create more value for the company and its shareholders.  

The company did not achieve an exit by 31 December 2019, and as a result of the COVID-19 lockdowns, the company’s business was damaged.  

The third director shareholder consequently brought a claim for unfair prejudice.  

Findings of the Court: 

In the first instance, the Court did not find that Mr Costa had breached his duties to the company, including his duty under section 172 Companies Act 2006, because he had behaved in a way in which he sincerely believed would maximise value for the company, and would therefore promote the success of the company for the benefit of its members as a whole.  

The Court of Appeal disagreed.  

In good faith: 

The court found that section 172 cannot be read without the words “in good faith”. This section imposes two duties on directors: 

1. For a director, in all they do, to act in good faith towards the company, in the way they consider would be most likely to promote the success of the company for the benefit of its members as a whole; 
2. The requirement that the director acts in good faith, includes, as a fiduciary duty, a requirement that the director acts honestly towards the company. 

In coming to their conclusion, the courts drew on the two part test for dishonesty from Ivey v Genting Casinos [2017]: 

1. The actual state of the individual’s knowledge or belief as to the facts (subjective). 
2. Whether the conduct is dishonest when applying the standards of ordinary decent people (objective). 

What does this mean for directors of all companies: 

Whilst this case may not seem to matter unless you are intending to sell your company, the duty under section 172 is ongoing, and the fundamental principles of honesty and good faith apply to every decision taken by a director.  

Directors should therefore: 

• Document decision making – be able to justify exercising independent commercial judgement. 

• Collective decision making – whilst directors can take responsibility for different aspects of the company, collective decision making is vital to ensure that every director complies with their directors duty obligations.  

• When making decisions, consider your subjective choice as well as that of the ordinary decent person. 

• Act transparently– don’t conceal information or mislead the board in ordinary circumstances. 

• Falling below the standard and remedies – the court has a wide discretionary power. In this case, the director in breach was required to buy-out the shareholder’s interest, at the price that could have been achieved in 2019. 

If you would like further information or advice and support generally about governance or the Companies Act 2006, please feel free to reach out to our corporate team and we would be happy to help.