In Cheshire Estate and Legal Limited v. Blanchfield and others (2024) EWCA CIV. 1317, the Court of Appeal considered the issue of whether the directors of a company were in breach of their fiduciary and statutory duties by taking steps towards setting up a competing business before they had resigned as directors.
Directors of the company owe a number of fiduciary and statutory duties as set out in Sections 170 to 177 of the Companies Act 2006.
In short, the seven main duties are to act within powers, promote the success of the company, exercise independent judgment, exercise reasonable skill and care, avoid conflicts of interest, not accept benefits from third parties and declare interests in transactions or arrangements.
On the facts of this case, the two main duties considered by the court were:
1. Section 172 – A director of a company must act in the way that they consider, in good faith, would be most likely to promote the success of the company for the benefits of the company as a whole.
2. Section 175 – A director of a company must avoid a situation in which he has, or can have, a direct or indirect interest that conflicts, or possibly may conflict, with the interests of the company.
In CEL v Blanchfield, two directors tended their resignations to CEL, a firm of solicitors specialising in financial mis-selling claims.
CEL agreed with the directors that they should be placed on gardening leave for 3 months and that their agreements would then terminate.
Following their resignations, CEL discovered that the directors had been taking the initial steps required to step up a competing firm of solicitors a number of months before they resigned.
The steps taken by the directors were as follows:
• Setting up a new company.
• Obtaining professional indemnity insurance for their new firm.
• Setting up a new website.
• Opening a new bank account for their new firm.
• Applying to the Solicitors Regulations Authority for approval.
• Entering into discussions with litigation funders.
CEL issued proceedings against the directors alleging that they had acted in breach of their directors’ duties and agreements and that they conspired with their new firm to injure CEL by unlawful means. CEL sought injunctive relief, an account of profits and damages.
The High Court held that the directors’ initial steps in setting up their new firm had not “crossed the line” or put them in a position of conflict to amount to a breach of their directors’ duties. There was no intention to injure CEL and so the conspiracy claim also failed. The High Court also found that there was no breach of the restrictive covenants in the directors’ agreements.
CEL appealed to the Court of Appeal.
The Court of Appeal dismissed the appeal. The Court found that “whether preparatory actions, short of active competition, are consistent with the directors’ fiduciary duties to the company is highly fact sensitive in every case, and that even an irrevocable intention to compete does not necessarily mean that merely preparatory steps are unlawful”.
Accordingly, the Court found that the directors had continued to act faithfully, honestly and to the best of their abilities to CEL and had not breached their directors’ duties to the company. For example, the directors had not diverted any of CEL’s business, contacts or resources to their new firm.
The decision highlights that these cases are highly fact sensitive. Taking initial steps to set up a competing business will not necessarily amount to a breach of a directors’ duty as long as those directors continue to act in the best interests of the company and avoid a conflict of interest.
In such situations, directors must be careful not to “cross the line” into activities that would breach their duties to the company, for example, actively soliciting clients, supplies or employees and otherwise diverting business into the new venture would probably be considered breaches of directors’ duties and cause loss to the company.
Should you require any further information regarding Company Law, Shareholder Disputes and Director’s duties, please do not hesitate to contact Mr Bill Dhariwal on DDI: 01489 864 117 or E: bill.dhariwal@lawcomm.co.uk
The contents of this article does not constitute legal advice
