Sports Direct, the FTSE 100 company effectively controlled by Mike Ashley, has attracted media interest once again after it was revealed the 26-year-old boyfriend of Ashley’s daughter was engaged to head up the property team and manage a £250m roll-out. It is said the boyfriend has no commercial property experience.

Following a media outcry, Sports Direct issued a stock exchange statement clarifying Mr Murray is not a director at Sports Direct, is not paid a salary and is a consultant. It stated that “remuneration is based solely on creating value, with the non-executive directors overseeing an independent review annually and deciding, in their absolute discretion, how much of any increased value … shall be paid.”

While there is no suggestion that Sports Direct has done anything illegal and listed companies are subject to additional requirements, for all companies the reason for making clear the distinction is because there are a number of protections for shareholders with regard to directors’ contracts. In brief these are:

Shareholder Approval

Shareholder approval is required for directors’ service contracts in excess of two years.  Approval may usually be given by a majority ordinary resolution.

Failure to obtain such shareholders’ approval results in the term of the relevant service contract effectively being reduced to two years, terminable by the company at any time on the giving of reasonable notice.

The inspection and disclosure of directors’ contracts;

Shareholders have the right, on payment of a fee, to request a copy of a director’s service contract, which the company must keep a copy of at the registered office. This applies regardless of the length of any service contract and whether or not it is terminable within 12 months.

Breach of certain of these obligations has criminal consequences for every officer in default (although not for the company itself) and may also entitle a shareholder to apply to a court for an order to compel compliance by the company.

The termination of directors’ service contracts and the compensation for such loss of office

A company may not make a payment for loss of office to a director unless such payment has been approved by a resolution of the shareholders. A memorandum setting out the particulars of the proposed payment must be made available to shareholders beforehand.

However, shareholder approval is not required for “payments made in good faith”:-

• in discharge of an existing obligation;
• by way of damages for breach of such obligation;
• by way of settlement or compromise of any claim arising in connection with the termination of a person’s office or employment; or
• by way of pension in respect of past services.

The remuneration of directors

The Secretary of State may make regulations requiring information about directors’ remuneration to be given in notes to a company’s annual accounts.  Such information may include gains by directors on exercise of share options, long-term incentive scheme benefits, payments for loss of office, benefits receivable for past services, and payments made to third parties for making available the services of a person as a director.

In addition to the above, a listed company should have regard to:

The provisions of the Listing Rules relating to the disclosure of directors’ service contracts and notice periods in the annual report and accounts the provisions of the UK Corporate Governance Code relating to directors’ remuneration and the duration and inspection of directors’ service contracts, and

The joint statement issued by the Association of British Insurers and the National Association of Pension Funds on executive contracts and severance containing best practice guidance relating to, among others, contract terms, notice periods and shareholder inspection arrangements of directors’ contracts and side letters.

To a large extent the above shareholder protections are based on transparency and reporting.

Shareholders in smaller more entrepreneurial private companies should be more proactive in protecting their position. It is vital to ensure a well drafted Shareholders’ Agreement is agreed by all shareholders at the outset setting out the restrictions that the parties may wish to impose on the management of the Company. The restrictions should cover the more important corporate actions.

For example, restrictions could be imposed upon introducing, for the benefit of any current or former director, any incentive or bonus scheme. Restrictions may also cover entering into any contract not provided for in the business plan or with a value exceeding a set amount; or which is outside the normal course of business or is otherwise than on arm’s length terms.

Ultimately shareholders own the company. If they do not ensure the directors act in their best interests, they have no one to blame but themselves.

See also: Not sharing the love – CEOs who have seriously fallen out with shareholders