Directors must perform their duties properly or face potential liability

Business

With the introduction of the Health and Safety at Work Act 2015 (HSWA) it is timely to revisit the core directors’ duties in particular those duties expressly stated in the Companies Act (Act).

Directors’ duties under the Act are fiduciary in nature. Generally, the directors’ duties under the Act are primarily owed to the company. In some situations those duties are also owed to the company’s shareholders and / or its creditors.

In this article we will examine briefly the core directors duties under the Act, these are:

  1. Duty to act in good faith and in the best interests of the company (s131);

  2. Duty to exercise powers for a proper purposes (s133);

  3. Duty to avoid reckless trading (s135);

  4. Duty not to agree to a company incurring certain obligations (s136);

  5. Duty of care (s137);

  6. Duty not to disclose, make use of or act on company information (s145).

Duty to act in good faith and in interests of the company (s131)
A director, when exercising powers or performing duties on behalf of a company, must act in good faith and in what they believe to be the best interests of the Company.

The test under section 131 is subjective (ie what the director honestly believed to be right).   However the courts generally apply a mix of subjective and objective tests (ie what the director honestly believed to be in the best interest of the company and how a reasonable director might expect to act).

There are certain exceptions to the duty to act in the best interests of the Company, these include situations where directors can act in the best interest of its subsidiary or joint venture company.  In addition, section 132 allowed directors to make provision for the benefit of employees of the company where a company ceases to carry on the whole or part of its business.

While the duty to act in good faith and with proper motive is generally accepted and understood, there are times when the lines may be blurred when it comes to dealing with conflict of interest situations – the director’s personal interests should never be promoted at the expense of the company.

The cases of Wagner v Gill [2013] NZHC 1304 and NZF Money Limited (in rec) v O’Connor [2012] NZHC 803 illustrate situations where directors are held to be in breach of their duty  under s131 by putting his/her own interest first (Wagner v Gill) or the interest of the group ahead of the company (NZF Money).

Duty to exercise powers for a proper purpose (s133)
A director must exercise powers for a proper purpose - what compromises proper purpose cannot be defined in advance and each case is judged on its own facts.

The most common issue relating to this section of the Act relates to directors exercising their power to issue further capital. In such cases, the director’s powers should be exercised primarily for the benefit of company, and not, for example, to gain a majority in voting on a key decision or to defeat a takeover.

Duty to comply with Companies Act and Constitution (s134)
Directors must not act, or agree to the company acting in a manner that contravenes the Companies Act or the constitution of the Company.  The liability can arise from omission / or a failure to act, for example, failure to keep proper accounting records or failure to maintain share register can mean a breach of this section.

It is important for directors to ensure that there are guidelines and procedures put in place to ensure the company is in compliance.

Reckless Trading (s135)
A director must not cause or allow the business of the company to be carried on in a manner likely to create a substantial risk of serious loss to the company’s creditors.

The aim of this section is principally aimed at protecting creditors.  A breach under this section may arise if (for example) a director carries on trading knowing that continuing to do so will cause serious harm to the company. The test is objective, hence the personal opinion of the director is irrelevant.

In Wait Investments Limited (in liq) [1997]; McCallum v Webster [1997] 3 NZLR 96 the directors were held liable on the basis that an ordinary prudent director in the circumstances would have seen the real possibility of serious loss to at least one creditor.

Duty not to agree to a Company incurring certain obligations (s136)
Similar to s135, this section is primarily aimed at protecting creditors.

A director must not agree to the company incurring an obligation unless the director believes at that time on reasonable grounds that the company will be solvent.

A director must honestly believe on “reasonable grounds” that the Company will be able to pay its debts when they fall due for payment.  In order to form this belief, directors should seek the appropriate information to form an opinion.

Director’s duty of care (s137)
Directors must exercise the care, diligence and skill that a reasonable director would exercise in the same circumstances.  Section 137 of the Act sets out the factors to be taken into account to ascertain whether the director has executed a sufficient level of duty of care.

  • Nature of the company;
  • Nature of the decision;
  • Position of the director and nature of the responsibilities undertaken by the director.

The test is objective, however the Act recognises that circumstances differ widely from company to company.  In practice, to meet the requirements of this duty, a director must take an active interest in the company and its business affairs, they cannot rely on others’ assurances alone.

It is recognised that directors are not of unlimited capacities or capabilities and hence directors are not expected to know every aspect of the business.

Section 138 enables a director to rely on reports, statements, financial data and other information and advice prepared or supplied by:

  • An employee who the director reasonably believes to be competent and reliable in relation to matter concerned;
  • A professional adviser/expert on matters in his/her competence.
  • Any other director or committee of the board which the director did not serve upon.

To rely on this information, directors must act in good faith, make proper inquiry where required, and have no knowledge that such reliance is unwarranted.

Generally, directors must take an active interest in the affairs of the Company, for example, make sufficient inquiries before acting or relying on other parties’ advice.

Duty not to disclose, make use of or act on company information (s145)
Section 145 imposes duties and obligations on directors not to disclose or use confidential information without the company’s consent.

Company information includes anything raised or referred to in the course of the director’s governance relating to the company, examples include proprietary information, trade secrets, opportunities (whether or not rejected) and financial information.  Directors should not use their position to gain personal advantage particularly if it potentially causes the company harm – such a duty extends to situation where a director has resigned from his/ her position as a director of a company.

Health and Safety
The HSWA places active duties and due diligence on directors of companies to practically manage workplace health and safety.

Under HSWA, such duties are imposed on “Persons Conducting a Business or Undertaking” (PCBU).

In the case of companies, the responsibilities of the PCBU will fall on the directors under the HSWA.  Directors of companies are required to exercise care, diligence and skill to ensure that the Company complies with the duties. What is required of the directors in question will depend on the circumstances, nature of the business, and the directors’ roles and responsibilities.

Due diligence is defined in Section 44 (4) of HSWA to include taking reasonable steps:

(a) To acquire and keep up to date knowledge of work health and safety matters; and
(b) To gain an understanding of the nature of the operations of the business or undertaking of the PCBU and generally or the hazards and risk associated with those operations; and
(c) To ensure that the PCBU has available for use, and uses, appropriate resources and processes to eliminate or minimise risks to health and safety from work carried out as part of the conduct of the business or undertaking; and
(d) To ensure that the PCBU has appropriate processes for receiving and considering information regarding incidents, hazards, and risks and responding in a timely way to that information; and
(e) To ensure that the PCBU has, and implements, processes for complying with any duty or obligation of the PCBU under the Act; and
(f) To verify the provision and use of the resources and processes referred to in the above paragraphs (c) to (e).

Most agencies, including Work Safe New Zealand have put in place guidelines and information to assist companies/directors to manage health and safety risk.  The standard of care varies from one entity to another depending on the types of business being carried on.  It is certainly an important time to review your procedure and process to ensure that the risk of breaching the HSWA is minimised.

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