• DhammikaRanasinghe

Directors’ duties and liabilities under Companies act 7 of 2007


I N D E X

1-Meaning of director:

2-Powers:

3-Minimum number of directors:

4-Types:

5-Disqualifications:

6-Appointment

7- Removal and vacation of office:

8- Validity of acts :

9-Retiring age:

10-Duties:

11- Section 187 –Duty act in good faith and in the interest of the Company:

12- Section 188 - Duty not to contravene the law or the articles:

13- Section 189 - Directors’ standard of care:

14- Consequences of failing in duties:

15- Section 219 -Duty on insolvency:

16- Section 220 - Duty of directors on serious loss of capital:

17- Section 190 - Use of information and advice:

18 - Section 192 - Interest:

19- Section 191- Meaning of “interested in a transaction:

20 - Disclosure of interest:

21- Section 193- Avoidance of transaction:

22- Section 197- Use of company information:

23- Section 200 - Disclosure of share dealing by directors:

24- Section 198- Meaning of “relevant interest”:

1-Meaning of director:

Statutory interpretation of director of a company (private or public)

*Section 529

(a) a person occupying the position of director regardless of the name used;

(b) a person in accordance with whose directions or instructions a director/the board may be required or is accustomed to act;

(c) a person who exercises/ is entitled to exercise/ controls the exercise of/ is entitled to control the exercise of the powers which, apart from the articles, would be required to be exercised by the board;

(d) a person to whom a power or duty of the board has been directly delegated by the board with that person’s consent or acquiescence, or who exercises the power or duty with the consent or acquiescence of the board.

2-Powers:

*Subject to the provisions of the articles of the company, the statutory power of the management of a company is delegated to the board of directors of a company.

*Section 184 – Subject to the provisions contained in the articles of a company

(a) the business and affairs of a company shall be managed by or under the direction or supervision of the board of the company;

(b) the board of a company shall have all the powers necessary for managing and for directing and supervising the management of, the business and affairs of the company.

3-Minimum number of directors:

*Section 201 – a company must have at least one director and a public company must have at least two directors

4-Types:

* Executive Directors – Extensive management powers are normally delegated to them by the articles. Companies appoint Managing Director/ Chief Executive Officer with general and special powers under the same category of Executive Director

*Non-Executive Directors–Not part of the executive team. A non-executive director typically does not engage in the day-to-day management of the organization, but is involved in policymaking and planning exercises

*Alternate Directors – Articles should provide for the appointment of an alternate director. Alternate director is appointed by a sitting director and he/she can represent an elected director in his or her absence and represent at meeting/s of the board of directors. Generally entitled to perform all the duties and functions of the appointer in his/her absence

5-Disqualifications:

There are specific provisions governing disqualifications of being appointed as a director of a company. At the same time Articles of a company (typically in private companies) and other statutory or non statutory requirements (typically in Public listed companies and banks ) may regulate the qualifications of being appointed as a director

* Section 202 -

- Disqualified persons: - a person who is under 18 years of age;

- a person who is an insolvent;

- a person who is or would be prohibited from being a director of or be concerned or taking part in the promotion, formation or management of a company, under the Companies Act, No. 17 of 1982 but for the repeal of the same;

- a person who is prohibited from being a director or promoter of or being concerned or taking part in the management of a company under section 213 or section 214 of this Act;

- a person who has been adjudged to be of unsound mind;

- a person that is not a natural person (i.e. a body corporate);

- where certain qualifications are stipulated in Articles , any person who does not comply with such qualifications

* Section 213

Where a person—

(a) has been convicted of any offence under the Companies Act which is punishable by imprisonment;

(b) has been convicted of an offence involving dishonest or fraudulent acts;

(c) is adjudged insolvent under the Insolvency Ordinance (Cap. 97) ; or

(d) adjudged to be of unsound mind, such person shall not, during the period after the conviction or adjudication, as the case may be, be a director or promoter of or in any way, whether directly or indirectly, be concerned or take part in the management of a company, unless that person first makes an application to obtain the leave of the court. Leave may be given on such terms and conditions as the court thinks fit.

(e) A person who acts in contravention of this section or of any order made under this section, shall be guilty of an offence and be liable on conviction to a fine not exceeding or to a term of imprisonment not exceeding or to both such fine and imprisonment.

* Section 214

• Where a person—

(a) is prohibited from being a director of company under section 213 of the Companies Act;

(b) while a director of a company, has persistently failed to comply with the provisions of the Companies Act

(c) has been convicted of an offence of involving dishonest or fraudulent acts in a country other than Sri Lanka; or

(d) was a director of a company which became insolvent and that person’s conduct as a director of that company or of any other company makes that person unfit to be a director of a company, the court may make an order that the person shall not, without leave of court, be a director or promoter of or in any way whether directly or indirectly be concerned or take part in the management of a company, for such period not exceeding 10 years as may be specified in the order.

• Every person who acts in contravention of an order made under this section shall be guilty of an offence and be liable on conviction to a fine or to a term of imprisonment or to both such fine and imprisonment.

6 -Appointment

* Section 203 -

–A person will be appointed as a director of a company if he has, in the prescribed form

(a)consented to be a director; and

(b)certified that he is not disqualified from being appointed or holding office as a director of a company.

* Section 204 –A person named as a director in the application for incorporation/in an amalgamation proposal (first director/s), is entitled to hold office as a director from the date of incorporation/amalgamation, as the case may be, until that person ceases to hold office as a director in accordance with the provisions of the Companies Act. However, all subsequent directors of a company, unless the articles otherwise provide, must be appointed by shareholders

7- Removal and vacation of office:

* Section 206

Subject to the articles of the company, a director may be removed form office by ‘ordinary resolution’ passed at a meeting called for that purpose or for purposes that include the removal of the director.

* Section 207 –The office of director of a company shall be vacated if the director:

(a) resigns from his office;

(b) is removed from office in accordance with the Companies Act or the articles;

(c) becomes disqualified in terms of section 202;

(d) dies;

(e) vacates office pursuant to Section 210 (2) (attaining age of 70 years)

(f) otherwise vacates office in accordance with the articles.

8- Validity of acts :

*Section 209-

Action by a director who is not validly appointed (contravening the provisions of law or Articles)is considered as valid as action by a director who is duly appointed

– * The acts of a person as a director shall be valid notwithstanding the fact that

– (a) the person’s appointment was defective; or

– (b) the person is not qualified for such appointment.

9-Retiring age:

* Section 210 -

* A person who has attained the age of 70 years is not capable of being appointed a director of: - a public company; or - of a private company which is a subsidiary of a public company.

* When a director of a public company or of a private company which is a subsidiary of a public company, reaches the age of 70 years, he/she must vacate office at the conclusion of the annual general meeting commencing next after he attains the age of 70 years.

* If a person is reappointed as a director after attaining the age of 70 years, he must vacate office at the annual general meeting following that re-appointment.

– * Section 211 – However, the appointment of a director who has attained the age of 70 years cannot be prevented, or require a director who has attained that age to retire, if the appointment is or was made or approved by a resolution passed by the company at a general meeting which declares that the age limit referred to in section 210 will not apply to that director. Any such resolution will be valid only for 1 year from his appointment.

10-Duties:

The directors’ duties to the company is governed by the equitable principles of fiduciary duties. Fiduciary duties as a director reflect a relationship of trust and loyalty between the director, the company, its members, and stakeholders. The expectation is that you will act in good faith, and in the best interests of the company

The Companies Act sets down the 3 fundamental statutory duties of directors as follows:

– i. Section 187- duty to act in good faith and in what the director believes to be in the best interests of the company;

– ii Section 188- duty not to act or agree to the company acting in contravention of the Companies Act or the articles ;

– iii. Section 189 - duty not to act in a manner which is reckless or grossly negligent and to exercise the care, diligence and skill a reasonable director would exercise standard of care.

11- Section 187Duty act in good faith and in the interest of the Company

Directors are required in common law to exercise their powers to obtain what they believe to be the best interest of the company.

* Arguably the interest of the company in common law view may not be the same as the interest of its shareholders as a whole.

* This means only the company could take action against directors for breach of their duties as directors owe fiduciary duties to the company, but do not necessary owe to the individual shareholders or the company creditors.

* Since the interest of the major shareholders is generally also in the interest of the company, the Companies Act addresses this issue by providing a balance between the legislation and the business reality, as well as providing some duties of directors are owed directly to shareholders.

* Directors of a company that is a wholly owned subsidiary may act in a manner which they believe to be the best interest of the holding company, even if it may not be the best interest of the company

12- Section 188- Duty not to contravene the law or the articles:

* A director of a company shall only act within the provisions of the Companies Act, or the provisions contained in the articles of the company.

These are the powers as specified in the company’s Articles of Association, and they should only be exercised for the purposes intended, i.e. for the good of the company rather than the director concerned

* If a director acts or proposes to act in contravention of the Companies Act or the articles, shareholder/s and/or the company can take action against such director.

13- Section 189- Directors’ standard of care:

* A person exercising powers or performing duties as a director of a company:

(a) shall not act in a manner which is reckless or grossly negligent; and

(b) shall exercise the degree of skill and care that may reasonably be expected of a person of his knowledge and experience.

The duty of care has been developed under the Companies Act that a director is required to exercise the care, diligence, and skill that a reasonable director would exercise in the same circumstances, taking into account, but without limitation, the nature of the company, the nature of the decision, and the position of the director and the nature of the responsibilities undertaken.

In summary, the present Company law enacted in 2007 is designed to restate aspects of the common law and to introduce some regulation rules imposed on directors. Notwithstanding the fact that the fiduciary duties of directors are owed to the company, directors are assumed to promote the interest of its shareholders or creditors when the company is insolvent.

14- Consequences of failing in duties :

*Removal The director may be removed from office if more than 50% of shareholders vote in favour, nevertheless the director must be allowed to offer their own representations during the meeting. The company’s constitution determines how this process is carried out, but removal may be temporary pending further investigation, or on a permanent basis.

*Interim injunction This would be issued by the court with the intention of halting any ongoing actions in breach of director duties. It serves to reduce the potential for further financial loss, and prevent irreversible damage to the company. It could be that the director in question is attempting to harm the reputation of the business and bring down its value down, for example.

*Shareholder proceedings In limited situations, shareholders can take litigation action on their own behalf if they fear other directors might support an errant director, but this is known to be a complex process.

15- Section- 219 -Duty on insolvency:

*A director who believes that the company is unable to pay its debts as they fall due, shall forthwith call a meeting of the board to consider whether the board should apply to court for the winding up of the company and the appointment of a liquidator or an administrator or carry on further the business of the company.

* Where a director fails to comply with the above requirement and at the time of that failure the company was unable to pay its debts as they fell due, and the company is subsequently placed in liquidation, the court may on the application of the liquidator or of a creditor of the company, make an order that the director shall be liable for the whole or any part of any loss suffered by creditors of the company as a result of the company continuing to carry on its business.

* If a meeting is called and the board does not resolve to apply to court for the winding up of the company and for the appointment of a liquidator or an administrator; at the time of that meeting there were no reasonable grounds for believing that the company was able to pay its debts as they fell due; and the company is subsequently placed in liquidation, the court may, on the application of the liquidator or of a creditor of the company, make an order that the directors, other than those directors who attended the meeting and voted in favour of applying to court for the winding up of the company and for the appointment of the liquidator or an administrator, shall be liable for the whole or any part of any loss suffered by creditor of the company as a result of the company continuing to carry on its business.

* Personal liability:

When a company is solvent, those duties are owed to the company personified by its shareholders. But when insolvency is pending, directors must act in the company's creditors' best interests. That difference means that the nature of the directors' duties undergoes a significant shift when insolvency threatens.

Directors are not generally personally liable for a company's debts and losses (unless they have given personal guarantees/indemnities). It is where they have acted improperly, negligently or in breach of their duties that culpability and the risk of personal liability arises.

16- Section 220 - Duty of directors on serious loss of capital:

* If at any time it appears to a director that the net assets of the company are less than half of its stated capital, the board must within 20 working days of that fact becoming known to the director, call an EGM of shareholders to be held not later than 40 working days form that date of calling of such meeting.

The calculation of net assets in this context will involve valuing the company's fixed and current assets on one of two distinct bases, either on a going concern basis or on a 'breakup' basis which is applied only where it is to be proposed that the company should go into voluntary liquidation.

* The notice calling a meeting must be accompanied by a report prepared by the board, which advises shareholders of—

(a) the nature and extent of the losses incurred by the company;

(b) the cause or causes of the losses incurred by the company;

(c) the steps, if any, which are being taken by the board to prevent further such losses or to recoup the losses incurred.

* Where the board of a company fails to call an EGM, every director who knowingly and willfully auothories or permits the failure or permits the failure to continue, shall be guilty of an offence and be liable on conviction to a fine.

17- Section 190- Use of information and advice:

* A director may rely on reports, statements, and financial data and other information prepared or supplied, and on professional or expert advice given by any of the following persons:

(a) an employee of the company;

(b) a professional adviser or expert in relation to matters which the director believes to be within the person’s professional or expert competence;

(c) any other director or committee of directors in which the director did not serve, in relation to matters within the directors or committee’s designated authority.

* The above will apply to a director, if, and only if, the director:

(a) acts in good faith;

(b) makes proper inquiry where the need for inquiry is indicated by the circumstances; and

(c) has no knowledge that such reliance is unwarranted.

18 - Section 192 -Disclosure of Interest:

* When a director becomes aware of the fact that he is interested in a transaction or proposed transaction with the company, he must immediately cause to be entered in the interests register and if the company has more than one director, disclose to the board of the company, the nature and extent of that interest.

* For this purposes , a general notice entered in the interests register or disclosed to the board to the effect that a director is a shareholder, director, officer or trustee of another named company or other person or is otherwise connected with another named company or other person, and is to be regarded as interested in any transaction which may after the date of the entry or disclosure be entered into with that company or person, is sufficient disclosure of interest in relation to any transaction with that company or person

* Every director who fails to enter in the interests register will be guilty of an offence, and be liable on conviction to a fine

19- Section 191- Meaning of “interested in a transaction:

* A director is interested in a transaction to which the company is a party if, and only if, the director:

(a) is a party to or will or may derive a material financial benefit from the transaction;

(b) has a material financial interest in another party to, the transaction; (c) is a director, officer or trustee of another party to or person who will or may derive a material financial benefit from the transaction, not being a party or person that is:

(i) the company’s holding company being a holding company of which the company is a wholly-owned subsidiary;

(ii) a wholly-owned subsidiary of the company; or

(iii) a wholly-owned subsidiary of a holding company of which the company is also a wholly owned subsidiary;

(d) is the parent, child, or spouse of another party to or person who will or may derive a material financial benefit from the transaction; or

(e) is otherwise directly or indirectly materially interested in the transaction.

A director of a company is not deemed to be interested in a transaction to which the company is a party, if the transaction comprises only of the giving by the company of security to a third party which has no connection with the director at the request of the third party, in respect of a debt or obligation of the company for which the director or another person has personally assumed responsibility in whole or in part under a guarantee, indemnity or by the deposit of a security

20- Disclosure of interest:

* Section 19-. A director of a company shall, forthwith after becoming aware of the fact that he is interested in a transaction or proposed transaction with the company, cause to be entered in the interests register and if the company has more than one director, disclosed to the board of the company, the nature and extent of that interest.

It is sufficient giving a general notice entered in the interests register or disclosed to the board to the effect that a director is a shareholder, director, officer or trustee of another named company or other person or is otherwise connected with another named company or other person, and is to be regarded as interested in any transaction which may after the date of the entry or disclosure be entered into with that company or person.

A failure by a director to comply with these requirements shall not affect the validity of a transaction entered into by the company or the director. Every director who fails to comply with these requirements shall be guilty of an offence, and be liable on conviction to a fine.

21- Section 193- Avoidance of transaction:

* A transaction entered into by the company in which a director of the company is interested, may be avoided by the company at any time before the expiration of 6 months after the transaction, and the director’s interest in it have been disclosed to all the shareholders (whether by means of the company’s annual report or otherwise).

* If the company receives fair value under it A transaction shall not be avoided. Fair value under a transaction shall be determined on the basis of the information known to the company and to the interested director, at the time the transaction is entered into.

* If a transaction is entered into by the company in the ordinary course of its business and on usual terms and conditions, the company shall be presumed to have received fair value under the transaction.

* Section 194 – avoidance of a transaction under section 193 shall not affect the title or interest of a person in or to property which that person has acquired, if the property was acquired:

(a) from a person other than the company;

(b) for valuable consideration; and

(c) in good faith without notice of the circumstances as a consequence of which the transaction becomes voidable.

22- Section 197- Use of company information:

* A director of a company who has information in his capacity as a director or employee of the company which would not otherwise be available to him, shall not disclose that information to any person or make use of or act on the information, except:

(a) for the purposes of the company;

(b) as required by law;

(c) if the director is first authorised to do so by the board if the board is satisfied that to do so will not be likely to prejudice the company and particulars of the authorisation are entered in the interests register; or (d) in any other circumstances in which the company’s articles authorise the director to do so.

* Regal (Hastings) Ltd. v Gulliver (1942) 1 All ER 378 – Good faith of the director and the fact that the company did not suffer a loss was irrelevant. Basis of liability arose from the fact of profits being made and not disclosed. Failure to disclose made it a secret profit.

23- Section 200 - Disclosure of share dealing by directors:

* Every director who has a relevant interest in any shares issued by the company must forthwith:

(a) disclose to the board the number and class of shares in which the relevant interest is held and the nature of the relevant interest; and

(b) ensure that the particulars disclosed to the board are entered in the interests register.

* A director who acquires or disposes of a relevant interest in shares issued by the company must forthwith after the acquisition or disposition:

(a) disclose to the board the number and class of shares in which the relevant interest has been acquired/ was disposed of; nature of the relevant interest; consideration paid/ received; and date of the acquisition/ disposition; and

(b) ensure that the particulars disclosed to the board are entered in the interests register.

24- Section 198- Meaning of “relevant interest”:

* A director has a relevant interest in a share issued by a company (whether or not the director is registered in the share register as the holder of it) if the director:

(a) is a beneficial owner of the share;

(b) has the power to exercise any right to vote attached to the share;

(c) has the power to control the exercise of any right to vote attached to the share;

(d) has the power to acquire or dispose of the share;

(c) has the power to control the acquisition or disposition of the share by another person;

(d) (f) under or by virtue of any trust, agreement, arrangement or understanding relating to the share (whether or not that person is a party to it) may at any time have the powers listed from (b) to (e) above.

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