The Law Months, Part III: s.174 Companies Act 2006

To what extent does the case law prior to the Companies Act 2006 help us to understand how s.174 (the duty to exercise reasonable care, skill and diligence) is likely to be interpreted by the courts? You should illustrate your answer with at least TWO decided cases.

This question is about director’s duties, specifically the duty to exercise reasonable care, skill and diligence (s.174). In this essay I will look at relevant case law and statute to draw a conclusion on whether the new duty is an improvement on the old common law duty.

Section 170(1) CA 2006 states that the duties codified in ss.171-177 CA 2006 are owed by a director of a company to the company (Pervical v Wright). These duties are based on, and have replaced the old common law duties (s.170(3)). However, we must still understand the old common law to be able to understand and interpret the new duties and principles.

Section 174(2)(a) looks at “the general knowledge, skill and experience that may reasonably be expected of a person carrying out the functions carried out by the director in relation to the company”. This is an objective test which looks at the function of the director i.e. what that director is expected to be able to do in that role. For example, in the case of Dorchester Finance v Stebbing it was found that the directors had all breached their duty to exercise reasonable care and skill by acting negligently and signing blank cheques.

In the case of Re City Equitable Fire Insurance, three propositions had been laid down by Romer J regarding the duty of skill and care owed by directors. The first proposition created a subjective test whereby a director “need not exhibit a greater degree of skill than may reasonably be expected from a person of his knowledge and experience” – i.e. the director is not liable for mere errors in judgement (Norman v Theodore Goddard). The second proposition, based on Marquis of Bute’s Case, was that a director need not pay continuous attention, as his duties are of an intermittent nature. The final proposition is based on the idea that directors may delegate, and trust those to whom they have delegated. Section 174(2)(b) incorporates the first proposal (subjective test) as “the general knowledge, skill and experience that the director has”.

In conclusion, I think that the case law prior to the CA 2006 gives reasonable guidance as to how this section is to be interpreted and understood. The language used is fairly similar in terms of ‘care, skill and diligence’, and similarly both the objective and subjective tests had been established prior to the CA 2006. The main improvement that has been made on the old law is that the rulings from these cases have been used to help make this section more stringent by wording it in such a way that it must be viewed in respect of a ‘reasonably diligent person’, making this section more accessible.

Click here for a downloadable copy of explanatory notes for each of the cases used in this essay.

Table of Cases

Dorchester Finance v Stebbing [1977] BCLC 498

Marquis of Bute’s Case [1892] 2 Ch 100

Norman v Theodore Goddard [1992] BCC 14

Percival v Wright [1902] 2 Ch 421

Re City Equitable Fire Insurance Co. [1925] Ch 407

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Categories: Law

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