Decision Making and Director’s Duties

Chapter 2 2.0 Decision making organs A company has 2 primary organs, the members in general meeting and the directorate. A company is not considered to be sovereign but has a limited competence only. Within these limits, the Supreme rule is making authority rests with a general meeting of the members1 and the constitution may entrench certain rights still further by embodying them in the memorandum and providing that they shall be unalterable 2. 2.1The board of director Although once incorporated, a company is a separate legal entity, but it can only make decisions and change its business through the persons authorised for that purpose, usually the directors, who in turn are accountable to the members.The articles of association usually entrust the directors to manage the company collectively by providing them the power to exercise the company’s powers to achieve their task. It should be noted that directors do not have the power to act individually on behalf of the company3. In practice, the appointment of a board of directors will be found in the constitution of the company which will expressly delegate all powers of management to them4, and they in turn are generally empowered to sub – delegate to a committee or managing director. Thus, the act which gives birth to the company operates as an appointment and delegation by the company. ------------------------------------------------------------------------------------------------------------------------------------------ [1] Resolutions and voting [2] CA 2001, sec 42 [3] Re Haycraft Gold Reduction and Mining Co [1990] 2Ch230) = tolley’s rights n duties of directors – 4th edition- Martha Bruce FCIS, a member of the lexisnexis group.,pg 13. [4] Gower’s principles of modern company law,pg 140 2.3 Division of powers between the general meeting and the board By the end of the nineteenth century it was generally assumed that the principle remained intact that the general meeting was the company whereas the directors were merely the agents of the company subject to the control of the company in general meeting. Thus in Isle of Wight Ry. V. Tahourdin 5the court refused an application by the directors of a statutory company for an injunction to restrain the holding of a general meeting, one purpose of which was to appoint a committee to reorganise the management of the company. Cotton L.J. said: “It is a very strong thing indeed to prevent shareholders from holding a meeting of the company, when such a meeting is the only way in which they can interfere, if the majority of them think that the course taken by the directors, in a matter intra vires of the directors, is not for the benefit of the company.” The modern idea is that both the general meeting and the board are organs rather than agents of the company. This is how the courts have sometimes described them when considering the company’s liability for their acts and the distinction has, since the enactment if the European Communities Act 1972 become of greater importance. 2.4 Performance of the board Shareholders have the power to remove some or all of the directors of their company from office or not to re appoint them. Such decision is frequently judged according to the performance of the company, by whatever means it is measured. However, in the US approximately one third of large companies go further than this and have introduced formal board evaluation, often assessed externally, to measure the board’s performance6. In the contents of the Mauritian code of corporate governance, section 2.10 states the board and director appraisal which further highlights that those directors should be assessed both individually as well as collectively as a board. [5] 1883 25 Ch.D. 320, C.A, Gower’s principles of modern company law,pg 143 [6] tolley’s rights n duties of directors,pg 20 2.5 The directors as primary organs of the company Both the directors and the members in general meeting are primary organs of the company between whom the company’s powers are divided. The general meeting retains the ultimate control, but only through its powers to amend the articles and to remove the directors .Powers are conferred upon directors collectively as a board which is authorised expressly in the constitution. Prima facie therefore they can be exercised only at board meeting. Otherwise, in the absence of an express authorisation in the articles, the board will have no power to delegate such powers7. The board can delegate some of the tasks but must not delegate the exercise of its discretion and the maxim delegatus non potest delegare is regarded as applying8. 2.6 Duties of directors The duties fall into two categories, fiduciary duties (i.e. duties of good faith and honesty) and duties of skill and care. There are also statutory duties as well. Their general purpose is the protection of present and future shareholders and (to a lesser extent) creditors though they are generally expressed as being owed to ‘the company’. 2.6.1 Role of directors A director is in a similar position to that of a trustee. He is an agent of the company in which he holds office as an employee. Like a trustee or an agent he owes fiduciary duties to his principal, and in a director’s case, these duties are to his company 9. [7] Cartmell’s case [1874] L.R. 9 CH.App.691], Gower’s principles of modern company law pg 152 [8] by contrast the usa directors are generally regarded as possessing original and undelegated powers, which are capable of delegation : Goel [ 1969], 18 I.C.L.Q. 152 [9] UK company law, Nicholas Grier 2.6.2 To whom duties are owed? 2.6.2.1To the company as a whole As lord Greene MR said in the case of Re Smith & Fawcett ltd [1942] Ch 304(CA), directors are bound to exercise the powers conferred upon them ‘bona fide in what they consider-not what a court may consider-is in the interests of the company…’this duty of honesty and good faith in the exercise of his powers is in fact the primary duty of a director. It should be directors, and not some other person or body to whom they have purported to delegate their powers, who determine how the powers vested in the directors are best used to serve the interests of the company’. 2.6.2.2 To Members as a body but not to individual shareholders It should be noted that as a director of a company is bound by fiduciary duties at general law, these duties are owed to the company only. Thus they are not owed to other companies or bodies corporate with whom the company is associated. This proposition stems from Percival v Wright10 in which a group of shareholders in a company approached the directors with a request that the directors purchase their shares; some of the directors did so without disclosing that a purchase of the company’s undertaking was imminent, this being a piece of information which was known to them and to other members of the board, though not to any of the shareholders who were not directors. It was held that the directors must act bona fide for the interests of the company but they are not in a fiduciary duty in relation to individual shareholders. -However in Peskin v Anderson [2001],it was held that a director may owe a fiduciary duty to individual shareholders where a director with special knowledge is buying shares for his own benefit [10] [1902]2 Ch 421 2.6.2.3 to Employees This provision was inserted in the CA 1985 s 309 to satisfy criticism that a company should be seen to give some attention to those who labor to produce the dividends that the members receive. 2.6.2.4 to creditors As creditor, he should be aware of the risk when he is dealing with the company. The directors of the company do not normally have a duty of care to any creditor of that company while the company is solvent. In Multinational Gas and Petrochemical Co ltd v Multinational Gas and Petrochemical Services ltd and others [1983] 1 Ch 258(a case which involved the alleged mismanagement of a solvent company) Dillon LJ said: “A company owes no duty of care to future creditors. The directors indeed stand in a fiduciary relationship to the company. As they are appointed to manage the affairs of the company and they owe fiduciary duties to the company though not to its creditors , present or future, or to individual shareholders” 2.6.2.5 to the board Directors individually owe a duty towards the board. 2.6.3 The interests of the company as a whole Modern management often takes the view that the interests to be taken into account by directors in running a company should include the interests of not only the present and future shareholders, but also the company’s employees, its customers and its creditors11 and, in the case of large public companies at least, the state and the general public. [11] Wiknworth v Edward baron development co ltd [1987] 1 all ER 114 2.6.4 Fiduciary Duties Every director has a fiduciary duty to act bona fide (in good faith) for the benefit of the company as a whole. Otherwise, they will be acting in someone else’s interests, quite often themselves. In Alexander v Automatic Telephone Co [1990] 2 Ch 56, each member of the company subscribed 6d per share. The 5 directors then held a board meeting at which it was decided that all members, with the exception of the 3 directors who had the largest shareholdings, should have to pay a further 2s 6d per share. The 3 non – paying directors justified their non- payment on the grounds that the articles permitted them as directors to issue shares on such terms as were expedient, and to treat some shareholders differently from others. It was held that they failed to carry out their duty to act in good faith in the best interest of the company as a whole; the directors had obtained a benefit for themselves at the expense of the other shareholders. It is to be noted that directors can subjectively believe that they are acting in good faith while carrying out an action for an improper purpose. Proper Purpose Rule Avoid conflict of interest It is to benefit the company or to help it fulfill the purpose for which the company was set up. The transaction must be intra vires, including what is mentioned in the company’s memorandum of association. The transaction must be reasonably incidental to the company’s business. Conflict of interest rule: When the directors stand to gain personally from a transaction in which the company is involved. It is not the job of a director to improve his own personal position12. The directors must not compete with the company, nor should they keep any profits, nor contract with the company except when the Articles allow it or when it has been approved by a general meeting. [12] In Cook v Deeks [1916]Ac 554 2.6.5 Duty of skill and care The directors are expected to manage the company with due skill and care; failure to fulfill this common law duty may result in the company or other aggrieved plaintiff raising an action for negligence against the directors13, proving all 3 of the following:

1. That the director owed the plaintiff a duty to carry out his duties with skill and care
2. That the duty was not exercised
3. That the plaintiff suffered loss

In City Equitable Fire Insurance Co 1925 it was held that Directors need not exhibit in the performance of their duties a greater degree of skill and care than may reasonably be expected from a person of their knowledge and experience. They are not bound to give continuous attention to the affairs of the company and may delegate their powers. 2.6.6 Statutory Duties 14 There are two main types of such duties, the first are imposed on the directors whereas the second are imposed on the company in connection with the directors. The 2006 Act sets out seven statutory duties being, duty: • To act within powers (s. 171) • To promote the success of the company (s.172) • To exercise independent judgment (s.173) • To use reasonable care, skill and diligence (s. 174) • To avoid conflicts of interest (s. 175) • Not to accept benefits from third parties (s. 176) • To declare an interest in a proposed transaction or arrangement with the company (s.177). The second type of duties will usually include, duty to convene meetings, sign statutory declarations, deliver accounts and other tasks. [13][14] UK company law, Nicholas Grier pg402, pg409 Some of the other statutory duties will include the Prohibition on tax free payments to directors [15], the compensation for loss of office [16] and Directors are required to disclose interests in company contracts [17]. Moreover, Directors service contracts must be kept open for inspection [18]. The company should refrain from giving a director a contract for more than 5 years without approval from the members [19]. Substantial property transactions [20] and Loans from Directors to the company [21] also need approval from members whereby directors may not contract at all with their companies without the authority under the Articles and approval by an ordinary resolution. 2.6.7 Breach of duty If the directors by approving some transaction of the company have breached their fiduciary duty towards the company, it is sometimes permissible for the company to ratify the action that was the subject of the breach. In general, ratification will resolve any breach of the directors’ fiduciary duty unless:

• The transaction is inherently fraudulent,
• The transaction is not permitted under the company law generally because there are other procedures which must instead be followed22,
• The transaction has prejudiced a minority of the members, in which case the minority might seek redress under the CA 1985 (s 459),
• The transaction by the directors has prejudiced creditors because the company is insolvent. The directors of an insolvent company are treated as the custodians of the company’s assets for the creditors 23.

In the case of fraudulent trading, the Court may order the person to contribute to the assets of the company. Application is generally made by the liquidator. On the other hand, Wrongful trading occurs when the director ought to have known that there was no reasonable prospect that the company would avoid going into insolvent liquidation. In this circumstance, the liquidator is only required to prove negligence by the directors. [15] CA 1985 s 311 [16] ss215 to 222 CA 2006 [17] s.182 CA 2006 [18] ss227 to 230 CA 2006 [19] ss188 and 189 CA 2006 [20] CA 2006 s.190 [21] CA 2006, s. 197 – 225 [22] Aveling Barford Ltd v Perion Ltd and others[1986] BCLC 626 [23] West Mercia Safetywear ltd v Dodd [1988] BCLC 2.6.8 Relief from Liability In general, subject to certain exceptions, only the company may bring an action against a director to recover its losses. Where proceedings for negligence, default, breach of duty or breach of trust are brought against a director, the court may relieve him from liability if it considers both that he has acted honestly and reasonably24 .A director may also apply to the court for relief where he has reason to expect that a claim may be made against him. Although a company cannot exempt a director from any liability for negligence, default, breach of duty or breach of trust in relation to the company, it may indemnify the director against defense costs, or costs incurred in an application for relief, provided that the director repays the costs if he is unsuccessful. 2.6.9 Conclusion In order to stay in line with their duties directors must keep a close watch on the company's performance and take appropriate advice and action when necessary. General meeting should be conducted so that shareholders also can have their say in the company matters. [24] CA 1985 s 727

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