Directors' duties to avoid conflicts of interest

Company directors have statutory legal duties to avoid situations that create a conflict between their personal interests and the interests of the company.

The legal consequences and remedies for breach of these duties may include compensation, damages or an injunction. The most serious conflicts of interest can also constitute a criminal offence.

Duty to avoid conflicts of interests

A director must avoid situations in which they have a direct or indirect interest which conflicts, or possibly may conflict, with the interests of the company. The most obvious example is where a director of company A is also a director of company B, which competes, or potentially could compete, with company A. This duty is wide, however, and can include a director personally taking advantage of a commercial opportunity that they knew the company was not going to pursue. The law also covers indirect benefits where there is a conflict of interest, such as where a director’s family members are shareholders of a directly competing business which benefits from the director failing to act in accordance with their legal duties.

As such, directors need to be vigilant and maintain a clear separation between their personal dealings and interests and those which may affect the company.

Duty not to accept benefits from third parties

A director must not accept a benefit from a third party which is conferred because they are a director, or because of anything they do or do not do as a director. What constitutes a benefit is widely interpreted and can relate to any financial or non-financial benefit, or gift, received during their time as a director or, in certain circumstances, after they cease to be a director where the benefit relates to actions taken while they were a director.

For example, receiving free tickets to an event or a free holiday during the course of negotiations with a potential supplier would constitute a benefit from a third party. This duty only arises if the benefit could reasonably be regarded as giving rise to a conflict of interest.

Duty to declare any interest in a proposed or existing transaction

A director who is in any way, directly or indirectly, interested in a proposed or existing transaction or arrangement with the company must declare the nature and extent of that interest to the other directors.

Under this duty, if there is a proposed transaction, the director must declare their interest in order to comply with the duty. As long as the interest has been declared and the board decides to continue with the transaction anyway, then there will generally be no breach of this particular duty.

What can a company do if a director breaches their duties?

The legal consequences of a breach will vary depending on the severity of the breach and the damage caused to the company. This can be limited to compensation or damages payable to the company. However, certain failures to disclose an interest in an existing transaction can also constitute a criminal offence and may result in a fine.

Ultimately, it is the company that will decide whether to pursue a director for breach of duties. If the directors and shareholders believe that the director has acted honestly and in the best interests of the company, the company may decide not to pursue a claim for compensation. However, breach of one of the key conflict duties can generally not be ratified after the event, except in specific circumstances, by the board or shareholders.

What can Directors do to avoid a conflict of interest?

Some directors, especially non-executive directors, do not always have day-to-day involvement or regular knowledge of what is happening within a company on whose board they sit. In this scenario, the director should be proactive in ensuring they have enough information to identify and avoid a conflict. It is incumbent on a director who is not actively involved in the business to be alert to the potential for conflicts of interest, especially if they sit on the boards of a number of businesses.

Directors should ensure that where any potential conflict of interest might arise, they have a policy of seeking clear approval and authorisation from the board of directors before proceeding.

Being clear about the extent of the potential conflict and avoiding the acceptance of inappropriate benefits from third parties will generally help directors comply with the relevant duties.