LOYALTY AND DILIGENCE SOON NO LONGER ENOUGH TO SHIELD HONEST DIRECTORS FROM LIABILITY – LISE CONRADIE
When discussing the treatment of directors’ duties in the Companies Bill, which on 15 May 2008 was approved for submission to Parliament, most commentators refer to a codification of directors’ common law duties, while also noting that the Companies Bill specifically provides that the “standards of director’s conduct” set out in section 91 of the Bill “are in addition to, and not in substitution for, any duties of the director of a company under common law” (section 91(6)). This is unsurprising - the explanatory memorandum to the Bill itself refers to a “codified regime of directors’ duties…which operate in addition to existing common law duties”.
To what extent are such summations substantiated by a closer study of section 91? (Section 92 of the Bill sets out additional fiduciary duties developed in terms of the common law, relating mainly to the fiduciary duty of a director to avoid a conflict between her interests and those of the company on whose board she serves. As these provisions do not depart materially from the common law and as the duty of a director to disclose a personal interest in a contract is already regulated, although differently, in terms of section 234 the Companies Act 61 of 1973 (the “Act”), they shall not be discussed here.)
It is clear that, in consequence of the continued application of the common law in relation to directors’ fiduciary duties and directors’ duties of care and skill, directors will not be able to avoid stricture by perpetrating questionable acts not expressly traversed in the Bill, but which are within the parameters of prohibited conduct in terms of the common law. To the extent that a duty stipulated in the Bill differs from its common law counterpart by setting a higher standard of conduct than that provided for in terms of the common law, the intention must be to substitute such legislative arrangement for the common law position, otherwise there would be no purpose to the laying down of a supposedly carefully articulated standard having the express purpose of creating legal certainty.
With this in mind, how do the directors’ fiduciary duties and the duty of care and skill conveyed in section 91 of the Bill differ from the common law fiduciary duties developed by way of more than one hundred years of judicial precedent?
Significantly, the explanatory memorandum refers to the introduction of a “duty of reasonable care” in addition to “a fiduciary duty”.
The Bill provides that a director of a company is under a duty to exercise the degree of care, skill and diligence in relation to the company which would be exercised, not merely by a person having “the general knowledge, skill and experience of that director”, but also to exercise “the general knowledge, skill and experience that may reasonably be expected of an individual carrying out the same functions as are carried out by that director in relation to the company”.
It has never been the case that a person is entitled to engage in activities which require special skills and then attempt to avoid liability by contending that he acted as the reasonable person having the same knowledge and skills would have acted, as it is without more negligent to engage in activities requiring specialised skills at all when one manifestly lacks such skills.
A directorship has however never been treated as imposing a higher standard of care and skill on a person acting in that capacity, regardless of her individual level of experience, knowledge and skill (which constitutes the subjective element in the evaluation of the reasonableness of conduct), than on an ordinary person who has assumed particular “non-expert” obligations. A director is not, in terms of the present dispensation, expected to have greater skill than she actually has.
Pursuant to the Bill, the duty of care and skill imposed on directors is set to become more in the nature of the standard of care imposed on persons having or professing to possess specialised skills, such as doctors, accountants, lawyers or architects. This is in acute contrast to the existing position, in terms of which a director is not required to possess any special business acumen or even experience in the business of the company – but merely to act with the degree of care that can in the circumstances reasonably be expected of a person having his particular knowledge and experience, unless of course he knew or ought reasonably to have known that he was attempting to attend to certain specialised matters in respect of which he lacked the requisite skill.
Section 91 does not affect the requirement to prove a causal link between the particular conduct in breach of a director’s duty of care and skill and the harm suffered by the company - and in this respect at least directors’ exposure to liability is not amplified.
The Bill also contemplates a more exacting variety of the fiduciary duty of a director to act in good faith in the interests of the company. In addition to the common law obligation of a director to act in a way which he considers to be in the best interests of the company, the Companies Bill introduces an objective element to the duty by providing that a director has a “duty to act honestly and in good faith, and in a manner the director reasonably believes to be in the best interest of, and for the benefit of, the company”.
A number of factors are listed which, if complied with by a director, will ensure that he will be regarded as having acted reasonably. The factors are, cumulatively, that he must not have had “a personal financial interest in the subject matter of the judgment”, must have taken “reasonably diligent steps to become informed about the subject matter of the judgment” and that the judgement is one which “a reasonable individual in a similar position could hold in comparable circumstances”
Under common law, a director who has exercised his discretion in a way which he in good faith believed to be, in aggregate, in the best interests of the shareholders, will not be found liable by the courts merely because from a business perspective the decision was not the wisest or most beneficial decision which could have been reached – or the decision which a reasonable person in the same position would have reached. (This notwithstanding, it is improbable that a court could be persuaded that a decision for which no reasonable grounds existed was nevertheless honest and bona fide and not actuated by an improper purpose.)
Despite the higher standards imposed on directors in terms of section 91 of the Bill, section 248 of the Act, designed to function as an escape hatch for directors who, though negligent, acted excusably and understandably in the circumstances, and which stipulates that a court may relieve a director, either wholly or partly, from liability in respect of negligence, default, breach of duty or breach of trust, if it appears that the director, has acted “honestly and reasonably” and ought in “all the circumstances of the case…fairly to be excused for the negligence, default, breach of duty or breach of trust”, is not replicated in as forgiving a form in the Companies Bill.
Rather, the Companies Bill, per section 93, bars a court from absolving a director from liability if the proceedings against him are for gross negligence, wilful misconduct or a breach of trust. Currently, most, if not all, breaches of fiduciary duties also constitute breaches of trust, as the origin of directors’ fiduciary duties is the position of trust they occupy in relation to the company.
Unless the meaning to be attached to a “breach of trust” as the concept is employed in section 93 is to differ from its present meaning, which is essentially synonymous with the breach of a fiduciary duty, and which therefore does not necessarily involve bad faith, the circumstances under which a director can be excused from liability, though the risk of incurring such liability be substantially elevated, will be markedly circumscribed.
Lise Conradie is an associate in the Corporate Department at Bowman Gilfillan.