That said, it is not uncommon (particularly for start-ups and SMEs) for family members and friends to ‘get involved’ in an unofficial capacity in providing advice to the business. At times, friends and family even engage in discussions around the making of major decisions for the business. You may have already found yourself in the position of offering guidance and support to someone who was starting their own business or managing a SME.
As a business grows and develops, it will also likely continue to receive support from third parties, including investors, advisers and accountants. Clearly, not all these people will be officially appointed as directors or officers of the company.
The question then arises: when will the input of these individuals be so influential that they are deemed, at law, to have the same responsibilities (and liabilities) as a director of the company?
De facto directors and Shadow directors
The law does not limit the definition of “director” to only those persons formally appointed to that position by the company.
The Corporations Act specifically states that a “director” includes individuals that are not validly appointed to the role of director but who:
- act in the position of a director (including by carrying out the role and duties that would usually be performed by a director of the relevant company). These individuals are known as “de-facto directors” and it is often the case that third parties outside of the company assume that the person is, in fact, a director of the company due to the role that they play;
- provide instructions, directions or advice which the validly appointed board of directors are accustomed to ‘adopt’ and act in accordance with. These individuals are known as “shadow directors” and it may not be immediately obvious to the public that such a person is steering the operations and decisions of the company.
Notwithstanding de facto and shadow directors are not officially appointed to the board, they are subject to the same duties and obligations as the officially appointed board members. These duties include, amongst others, the duty to act in the best interests of the company, to ensure the company is not trading while insolvent, not to improperly use the position to gain an advantage for themselves or someone else or to cause detriment to the company.
Where is the line drawn?
The question then arises: in practice, when will a person that is giving advice or recommendations to a company ‘cross the line’ so as to be considered, at law, a director?
Relevant considerations to determine whether someone is a de-facto director
There are a number of relevant considerations that are taken into account to determine whether or not a person is a de-facto director. These include (amongst other factors):
- whether the person takes an active part in directing the affairs of the company (even if not necessarily on a full-time basis);
- the nature and extent of the functions performed by the person; and
- any constraints imposed on the person by the company.
The issue of ‘de-facto’ directorship arose recently in relation to a company, Valance Corp, that was wholly owned by Holly Valance but her mother was the sole registered director. Holly, whilst not a validly appointed director, took on the role of directing the activities of Valance Corp. As a result, it was held that she became a de facto director of the company as soon as she turned 18.
In another example, a husband who took over the management of a company after his wife (who was a validly appointed director) passed away was deemed to be a de facto director of the company.
Relevant considerations to determine whether someone is a shadow director
The mere fact that the board takes advice from a person will not make that person a shadow director. There are a number of relevant considerations that are taken into account to determine whether a person is acting as a shadow director of a company. These include:
- whether there is a causal connection between the alleged shadow director giving an instruction and the board acting on it; and
- the extent to which the directors are acting in the interests of the company in making a decision recommended by a person or whether they are simply deferring to the shadow director’s wishes.
It is also possible for a corporation to be a shadow director of another company. This usually occurs where the board habitually defers to the instructions or wishes of the first company (this may be, for instance, a parent company, or a creditor or supplier company).
However, it is certainly not the case that all persons who provide advice or guidance to the board of a company will be deemed shadow directors. The threshold factor is that the shadow director company has the ability to control the decisions of the board of the other company.