A Little Bit About Directors...

That’s company directors, not Hitchcock, Fellini and so on.

Well, actually this is more about how a board of directors works, since I’ve had a few conversations with founders recently who had a slightly shaky grasp of how this works. It’s fundamental to how startups run - actually, how any company runs - so I thought I’d summarise it quickly here.

A couple of points before I start. First, there are no stupid questions. Don’t be embarrassed if you weren’t familiar with some of this stuff. It’s a technical minefield. The most important thing is that we get it right in future. Second, there’s stacks of law and commentary on directors and boards. I’m just summarising the very basics here. If you need more help, talk to a lawyer. And make sure they’re actually qualified and know what they’re talking about.

Shareholders and Directors

OK, so you will be aware that as a founder you hold shares in your company. There are a very small number of individuals who are held out as founders who only hold options, but generally we take it that if you call yourself a founder, you hold shares.  

As a founder, you are *probably* also a director of the company. These two things are different.

Shareholders own shares in the company. Those shares entitle them to do certain things, like benefit from a distribution of the assets or the proceeds of a trade sale or to receive a dividend. Usually, shares also entitle shareholders to vote on resolutions, either at a general meeting or on a written resolution that is circulated to all shareholders. I say “usually” because you can have non-voting shares.  

(If you are not sure whether your shares give you the right to vote, just go on to Companies House and look through the “filing history” - see which class of shares you hold and then find a description of the rights that apply to that class. It’s all published information that the public can view.)

Shareholders do not play a part in the day to day running of the business but ultimately they can remove directors with an ‘ordinary resolution’ (that’s one vote above 50% of the voting rights participating in the vote) at a meeting of the shareholders.

Directors are different. Directors run the company from day to day. Actually, what is happening here is that the board of directors as a whole runs the company and answers to the shareholders. However, your board meeting can’t be in permanent session. We’ve got stuff to do. So what happens is that the board delegates authority to individual ‘executive directors’ - that’s a director who is employed by the company - and they then get on with the job of running the business between board meetings. Hence you get all those other fancy titles: MD, CEO, FD, CTO, etc.

Your Articles of Association (that’s like the constitution of a UK company, usually referred to as ‘the Articles’) may govern how often you’re to have board meetings, but if it doesn’t, you can have them as often as you like but generally I would say not more often than once a month and not less often than once a quarter. But it all depends on the context. You can have them every week if you want but you don’t have to have them more than once a year (to approve and sign off up the year-end accounts).

The Board

The board of directors is made up of, well, the directors, plus a company secretary if you choose to have one. When we use the term ‘director’ here, what we’re talking about is somebody appointed to be a director of the company in accordance with the Articles and the Companies Act 2006. Once appointed, the director’s name (and some other information about them) must be recorded in the company’s Register of Directors and then you have to tell Companies House. Companies House’s record is only a reflection of the position, though. If you forget to tell Companies House (technically, that’s an offence under the Companies Act), the director is still validly appointed.

A little tip - don’t appoint a director unless you have something in writing with them documenting how it’s going to work and in particular, the circumstances under which they may be removed. This might be a director’s service contract for an executive director or an appointment letter for others not employed by the company.

All companies used to have to have a company secretary but now only large companies tend to. Company secretaries can be useful to have in scaleups, though, as they can sign off on documentation on behalf of the company, including submitting information to HMRC and to Companies House, which can take a lot of heat off the directors. Company secretaries can speak at a board meeting without needing permission from the chair BUT they don’t get a vote and because of that, they don’t have the same kind of exposure to personal liability that a director has (which is a WHOLE other story…).

But at your board meeting, you may well have a number of different types of people. Firstly, there are the directors of course. Even these could be split into executive directors and non-executive directors (‘NEDs’) - the latter being people working with you voluntarily or on a contract but not employed in the business. An NED might play an active, if usually part time, part in the business or may just be there to consult and advise and generally give an opinion. However, an NED does have a vote, as to which, more in a minute.

You might also have board observers or board advisors. These are not legal terms of art but are just expedient labels for people we like or are required to have attending our board meetings. Again, this can include people who have really useful experience and we want to chip in. It can also include professional advisors, if the context requires it. An advisor could be an employee of the company (GCs and CFOs are often not directors but are usually expected to attend at least in part). Board observers and advisors may or may not have the right to speak - if not, they will have to ask the chair for permission to speak. They will usually get to see the papers prepared for the attention of the board in advance of a meeting but unlike a director, they don’t get to require something to be put on the agenda (unless their contract says otherwise). The most important difference between board observers/advisors and directors is that observers and advisors DON’T GET TO VOTE.

How the Board Decides

Now, I could be over-emphasising the whole vote thing a little. 99%+ of the decisions you will make in board meetings will either be made unanimously or will be based on a broad consensus of opinion amongst the directors. If the latter, you would minute any dissenting views amongst the directors but you don’t need to take a vote unless it’s less than obvious that such a vote would go one way or the other (or a director asks for a vote to be taken). Most of my clients have NEVER put anything to a vote in a board meeting.

This is where it gets really interesting. Whereas a shareholder gets one vote for each share s/he holds that carries voting rights, votes at board meetings are simply one director one vote. That’s it. OK, there are rare situations when your Articles (if you’ve spent a lot of money/time on them) may say different but in general, you don’t get more votes because you own more than 50% of the shares. You’re a director so you get one vote. And if you’re not a director you get precisely no votes. And if the votes are tied, the Chair may or may not get to vote again or the vote s/he has cast already may decide the matter. The exact position on that will be set out in your Articles.

So now you see why it’s soooo important to be careful about how your board is made up. And in particular, why we need to be careful about having too many investors as directors rather than observers. The make-up of the board really is, in my humble opinion, the most important battleground in your term sheet negotiation after valuation. Perhaps I have a slightly inflated view of this since I see the absolute mess some teams get themselves into, having not thought about this carefully enough.

In general, my view is that until you are the other side of Series A, the founders between them should carry a natural majority should anything be put to a vote without having to rely on deciding votes or any other chicanery.

Finally, how do you achieve this if you’re a sole founder and you already have a would-be investor insisting on having the right to appoint an investor-director? Appoint others that you can absolutely rely on to be your fellow directors. People who have the same incentives as you or people who will have your back through thick and thin. And get them on board before you get into your raise if you can, so that you don’t receive any flack for trying to stack the odds in your favour once the negotiation has started. If an investor likes the look of you from the first pitch, a very easy bit of early due diligence that s/he can conduct is to check you out on Companies House. It might look a bit rubbish if at that point you only have one director but by the time the round closes you have three or four.

Look, I’m just a tech lawyer. What I know about corporate law I have learned from my colleagues or picked up along the way (and in the work I do, every day is a school day). I have no idea about your circumstances so I can’t advise you so this note doesn’t and can’t count as advice. But hopefully it will get you thinking about the situation and then you can find a lawyer who does know about this stuff (or get in touch with me directly and we can talk).

And if you’re a lawyer reading this and tutting quietly to yourself, drop in a comment and let me and everybody else who might read this know your view. We’re all here to learn.