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Directors: caught up in the code

9th July 2009

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The Companies Act of 2008 ("the Act") has been promulgated and will come into operation on a date to be published in the Government Gazette, which may not be before 9 April 2010. One part of the Act attracting attention is the "codification" of the duties of a director. The purpose of this article is to discuss some of the effects of this codification.

The "code" is contained in section 76(3), which states as follows:

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"Subject to subsections (4) and (5), a director of a company, when acting in that capacity, must exercise the powers and perform the functions of director-

(a) in good faith and for a proper purpose;
(b) in the best interests of the company; and
(c) with the degree of care, skill and diligence that may reasonably be expected of a person-

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(i) carrying out the same functions in relation to the company as those carried out by that director; and
(ii) having the general knowledge, skill and experience of that director."

It is important to note that these duties are not only imposed on those who are directors in the strict sense of the word as 'director' includes, inter alia, a "prescribed officer" and a member of the company's audit committee, irrespective of whether or not such person is also a member of the company's board1. Furthermore, the Act does not really codify the duties of directors because the duties imposed by the common law are not excluded2. The rationale behind the codification is therefore unclear but it has been suggested that the section assumes an educational or informative role, which may prove useful to the lay director.3

Having introduced a code of conduct, the Act also provides the yardstick against which the director's conduct is to be measured, this is the so called "business judgment rule"4:- the director will have satisfied the obligations of acting for a proper purpose and with the required care, skill and diligence if he/she: has taken reasonably diligent steps to become informed about the matter; has no material personal financial interest in the subject matter of the decision (or has disclosed it at required); and had a rational basis for believing (and did in fact believe) that the decision was in the best interests of the company. In addition, the director will have had to have acted in good faith and for proper purpose.

Directors may take comfort in the fact that the rule provides a standard against which the exercise of their duties are to be judged. It is for this reason that many have welcomed its inclusion in the Act. However, the rule has also shared in its fair share of criticism. One complaint is that the inclusion of new criteria in the rule which are not dealt with under the common law (eg that the director has taken "reasonably diligent steps" to become informed and whether he had a "rational basis for believing" that the decision was in the company's best interests), will result in an unnecessary interpretational burden on the courts. It has been suggested that the burden is unnecessary owing to the considerable extent to which consideration has been given to the duties at common law. Another criticism is that the duty of care and skill required by the code is rendered 'virtually irrelevant when viewed against this low threshold of "reasonably diligent steps" and rationality'5.

For directors, one downside of the Act is that anyone (not just the company) who has suffered loss or damage as a result of the director's contravention of any provision of the Act can sue for non-compliance of the directors' duties6.

Where a director is found to have breached his duties, his liability for harm suffered will be determined in accordance with the common law7. For breach of a fiduciary duty, liability is determined in accordance with the common law on breach of fiduciary duties. For breach of the duty to act with care, skill and diligence, liability is determined in accordance with the common law principles relating to delict. Depending on the duty that is breached, therefore, the quantum of liability is assessed differently.

In mitigation of the arguably expansionary effects of the codification, the Act allows a company, in most circumstances, to indemnify a director against liability arising from a breach of duty. Finally, it may also be a relief for directors to learn that, as a last resort, the court has been granted a considerably wider discretion to relieve them of liability arising from a breach of the statutory duties.

By: Jorge Araujo and Greg Palmer of Webber Wentzel

 

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