Professional Practice Committee

Guideline – Acting as a Director of a Client Company 2008

The following Guideline has been approved by both the Professional Practice Committee and the Company Law Committee.

From time to time the Society is asked to provide guidance to solicitors who have been asked to act as a director of a company which is also a client of the firm (and also where a company of which the solicitor is a director becomes a client of the firm). This is a complex subject and it is impossible to provide more than an indication of the main points which a solicitor in this position should bear in mind. Many firms have their own policies on this, and this note is not intended to displace them in any respect. The Society would appreciate any comments with a view to improving the guidelines given in this note in a future edition.

There is no prohibition on a solicitor acting as a director of a client company, but there are a number of issues of which a solicitor should be aware if asked to act in this capacity. A directorship should not be accepted or retained if any of these give rise to difficulty.

Know the law

The law relating to the duties and responsibilities of a company director, and the inherent risks of that office, is complex. A solicitor asked to act as a director of any company (not just a client) should only accept office if he or she is fully aware of the relevant law. A director also has to keep abreast of changes in company law which are constantly occurring.

Conflict of interest

A director is obliged by statute to disclose to the directors of the company any arrangement or transaction between the company and the director or any firm of which he is a member (ss 182 to 187 of the Companies Act 2006). This applies, in particular, to the provision of legal services to the company.

The articles of the company may impose additional conditions beyond those required by statute.

A solicitor acting as a director of a client company must be aware that there is an inherent conflict of interest between the solicitor and his or her firm with respect to fees for legal services and related matters. The solicitor should ensure that any decision on these matters is taken by the directors other than himself or herself.

As a director, a solicitor’s primary duty is to the company in which he holds that office. This may give rise to particular difficulties, (1) if the company is a wholly owned subsidiary and there is conflict between the interests of the subsidiary and the parent company; and (2) where a solicitor director has confidential information about another client which is relevant to the interests of the company.

Point (2) is a particular instance of the circumstances considered by the House of Lords in Hilton v Barker Booth [2005] 1 All ER 657, in which a solicitor was found liable in damages to a client from whom information was withheld on the grounds of a duty of confidentiality to another client.

Privileged communications

Another issue which needs careful thought is the matter of legal professional privilege, particularly in relation to EU competition issues. The European Court of Justice has recently reaffirmed (in Akzo Nobel Chemicals Ltd v Commission) that in an EU context legal privilege only applies to the extent that the lawyer is independent – i.e. not bound to his client by a relationship of employment. The Commission accepted in its submission that it is possible for documents written by in-house lawyers in preparation for legal proceedings to be subject to privilege but not other documents, and the court appears to have accepted that argument. While this decision obviously applies to executive directors, it is possible that the court could extend it to non-executive directors, particularly if there is an issue of breach of competition law before the court.

Risk areas

As noted above, it is impossible in a note such as this to give a full account of the risks and responsibilities borne by a company director. The following may be taken as indications of the main areas:

1. Legislation contains numerous criminal offences which arise if a director is responsible for the company’s failure to observe the provisions of the legislation, as well as his or her own failure to do so.

2. A director may be subject to a claim by a member (or a liquidator etc) that an act or omission in which he or she participated amounts to a breach of duty, and this may expose the director to liability to compensate the company.

3. It is important for a director, whatever the terms of his or her appointment, to participate fully in the management of the company and, in particular, to ensure that he or she receives and understands regular management accounts where the company is actively trading.

4. If the company goes into insolvent liquidation, the liquidator may consider imposing personal liability on a director in respect of his or her failure to take adequate steps to protect the interests of creditors.

5. If the company goes into insolvent liquidation, administration or receivership, all current directors and those who held office in the recent past will automatically be the subject of a report to the Secretary of State on whether proceedings to disqualify them from holding the office of director (and certain other offices) should be taken, on the grounds that the conduct of the director makes him or her unfit to hold that position. This constitutes a particular risk for those solicitors whose firms have become limited liability partnerships. Disqualification as a company director also disqualifies the individual from being a member of an LLP (and vice versa).

6. The duties, responsibilities and risks of a company director also extend to “shadow directors”, i.e. persons on whose instructions the board of a company is accustomed to act. The definition contains an exception, however, for professional advice. This exception may be lost if the person in question is actually a director, and in those circumstances, his or her firm may be deemed to be a “shadow director” of the company and exposed to the same risks as outlined above.

7. It would be imprudent for a solicitor to act as a nominee director for another person.

This guidance note is prepared according to the Society’s understanding of the law in April 2008.

Guideline on Document Control and File Tracking 2008

The Society’s Professional Practice Committee has considered both the requirements and likely consequences of a formal recommendation in relation to document control and file tracking made by the Scottish Legal Services Ombudsman in terms of s 34B of the Law Reform (Miscellaneous Provisions) (Scotland) Act 1990. Members of the committee met with the Scottish Legal Services Ombudsman to discuss the issues further and the following guidance accommodates some of the Scottish Legal Services Ombudsman’s precise views on the matter of lost files, that she had identified as a persistent problem in the context of complaints by members of the public to the Society.

The Guideline

When a solicitor takes control of files from another solicitor for any reason and in any situation (including but not limited to receipt of files either in implement of a mandate or where files are taken over from a ceased practice), the solicitor receiving the files should keep a record of all the files received. This should include where the files are stored, such as within the office, electronically, off-site, or with a named storage provider. The solicitor who receives a mandate should comply with para 11 of the Society’s Guideline on Mandates 1998 (see below).

Mandates

The Scottish Legal Services Ombudsman observed in an opinion that if a firm is unable to produce a file because it has been mandated, the solicitor should retain a separate record of the date on which the mandate was implemented. To accommodate this observation an addition has been made to the Guideline on Mandates 1998.

This addition has been included as numbered para 11, under the heading “Receiving Mandates”:

“Separate record of the date on which a mandate is implemented

11. Following the delivery of a file and any other documents in implement of a mandate, the original solicitor should retain the mandate and a separate record of the date on which the mandate was implemented, to include a general description of what was delivered in implement of the mandate. (introduced July 2008)”

Ownership and destruction of files

The Scottish Legal Services Ombudsman observed in an opinion that if a firm is unable to produce a file because it has been destroyed, the solicitor should retain a separate record of the date on which the file was destroyed. To accommodate this observation an addition has been made to the Guideline on the Ownership and Destruction of Files 2001.

This addition has been included as the first bullet point under the heading “IMPORTANT NOTES” at the end of the Guideline:

“When files, papers and/or documents are destroyed, a separate record should be retained of the date of destruction to include a general description of what was destroyed. (introduced July 2008)”