Section 19 - Relaxation of prohibition on provisions protecting directors etc. from liability
107.Section 19 does two things:
it inserts into the Companies Act 1985 three new sections - 309A, 309B and 309C - which replace the previous provisions on directors’ liability (but not auditors’ liability) in section 310 of that Act;
it disapplies section 310 from directors and other officers.
108.New section 309A begins by restating the core prohibition on companies exempting directors from, or indemnifying them against, liability. Many of the key elements are retained from the previous form of section 310 of the 1985 Act. In particular:
a company is prohibited from exempting a director from, or indemnifying him against, any liability “in connection with any negligence, default, breach of duty or breach of trust by him in relation to the company”;
a company is permitted to purchase and maintain insurance against any such liability.
109.There are however some important changes from the previous form of section 310 of the Companies Act 1985. New section 309A:
does not extend to liabilities of officers other than directors. It therefore permits companies to indemnify officers such as the company secretary;
does not retain the words “by virtue of any rule of law”, which are usually taken to refer to a rule of non-statutory law. As a result, the new provisions on directors’ liability are not limited to non-statutory liabilities;
prohibits indemnification of a director by an associated company as well as by his own company. “Associated company” is defined under new section 309A(6) as, in effect, a company in the same group. The prohibition on indemnification by an “associated company” is intended to prevent parent companies and subsidiaries from assuming liabilities in circumstances where the company itself would not be permitted to assume such liabilities. The intention is that the order commencing section 19 will provide that contracts which were permitted under former section 310 but are prohibited under new sections 309A and 309B will remain effective only if they were made before Royal Assent on 28 October 2004;
permits indemnification by the company in respect of proceedings brought by third parties (such as class actions in the US) and applications for relief from liability. New section 309A(4) explains that the prohibition on indemnification does not apply to a “qualifying third party indemnity provision” (“QTPIP”). This is explained further in new section 309B.
110.New section 309B explains that a QTPIP must satisfy three conditions:
Condition A is that the provision does not indemnify the director against a liability to the company or to any associated company;
Condition B is that the provision does not indemnify the director against payment of a criminal fine or a regulatory penalty (such as a fine imposed by the Financial Services Authority);
Condition C is that the provision does not indemnify the director against any liability incurred:
in defending any criminal proceedings in which he is convicted;
in defending any civil proceedings brought by the company, or an associated company, in which judgment is given against him;
in an unsuccessful application for relief from liability under the provisions for relief in the Companies Act.
111.New section 309B(5), 309B(6) and 309B(7) explain when legal proceedings will be considered to have concluded in respect of Condition C.
112.New section 309C requires the company to make two forms of disclosure about indemnification by the company or an associated company:
if a QTPIP is in force for the benefit of one or more directors or was in force during the previous year, this must be disclosed by the company in the directors’ report (and where the director is of one company but the QTPIP is provided by an associated company, in the directors' reports of both companies). Companies which choose not to indemnify directors will not have to make any disclosure;
it applies section 318 of the Companies Act 1985 (under which directors’ service contracts must be open to inspection by shareholders) so QTPIPs must be available for inspection by shareholders. This will permit shareholders to look at an indemnity provision in detail.
113.Section 19 also amends section 310 of the Companies Act 1985 by removing the references to directors and officers of the company. Section 310 now applies only to auditors, with new sections 309A, 309B and 309C setting out the prohibition and related provisions in respect of directors. Other officers, such as the company secretary, are no longer covered.
