When the new Companies Act 71 of 2008, as amended, (the “new Act”) was enacted, the overall opinion was that its enactment would stifle entrepreneurship, mainly because fewer business people would be willing to subject themselves to these new risks of serving as a director.
Section 424 of the Companies Act 61 of 1973 (the “1973 Act”) balanced the need to protect directors and creditors well, but many have debated the need for new introductions.
These new introductions or increased provisions and reiterations of existing provisions include, director duties and liability. In addition, has outlined who should not serve as a director or be removed as such. Furthermore, it has introduced extended liability.
Section 22(1) of the new Act provides:
“A company must not –
(a) Carry on its business recklessly, with gross negligence, with intent to defraud any person or for any fraudulent purpose….”
Section 218 (2) of the new Act further provides that:
“Any person who contravene any provision of this Act is liable to any person for any loss or damage suffered by that person as a result of that contravention.’
Section 77(2) states:
“A director of a company may be held liable-
(a) in accordance with the principles of the common law relating to breach of a fiduciary duty, for any loss, damages or costs sustained by the company consequences of any breach by the director of a duty contemplated in section 75, 76(2) or 76(3)(a) or (b);…"
Section 77(3) states:
“A director of a company is liable for any loss, damages or costs sustained by the company as a direct or indirect consequence of the director having -
(b) acquiesced in the carrying on of the company’s business despite knowing that it was being conducted in a manner prohibited by section 22(1)
(c) been a part to an act or omission by the act or omission was calculated to defraud or creditor, employee or shareholder of the company, or had another fraudulent purpose.”
Removal of a director
Section 76 of the new Act sets out the standard of conduct expected of a director. This is in addition to the duties outlined in our common law, other sections of the new Act, and the King Report on corporate governance for South Africa IV (“King IV”). Section 77 of the new Act further deals with directors’ liability.
Allegations of director misconduct can have serious ramifications for both the company and the director concerned. Not only can this result in the removal of a director or the prevention of taking office in future, but it also affects the director’s reputation. As such, allegations of misconduct are serious and should be treated with care, particularly until there is certainty regarding the accuracy thereof.
Some examples of director misconduct that we see most often are:
- Disclosing confidential information (including information relating to boardroom discussions)
- Failing to disclose conflict of interests and acting upon such conflict
- Competing with the business of the company
- Failing to abide by the rules of the company and board policies (such as code of conduct and ethics)
We recommend that companies update their Memorandum of Incorporation (“MOI”) so as to include disqualifying factors to serve as a director.
Section 69 of the new Act includes the following factors:
- If found guilty of a crime involving dishonesty, fraud or misrepresentation, and have either been imprisoned without the option of a fine or fined more than the prescribed amount;
- Prohibition by court to act as director or declaring him/her delinquent;
- Prohibition in terms of any public regulation to be a director;
- If removed from an office of trust on the grounds of misconduct involving dishonesty.
In addition, it is as important as Human Resources Policies, to include board policies and director service level agreements. The IODSA further recommends establishing a Directors Code of Conduct (that sets out the ethical values, conduct and behaviour expected as well as how breaches of the code will be dealt with) applicable to both executive and non-executive directors.
Some other useful arrangements include:
- A policy detailing the process and procedure for lodging complaints/allegations of director misconduct, and the investigation of such allegations etc.;
- Appropriate whistle-blowing policies or procedures to be created;
- Adequate training and induction programmes should be provided to all directors on their roles, responsibilities and duties, so as to raise awareness of the conduct and standards expected; and
- Regular performance measurement tools and evaluations of the board, individual directors and chairman of the board, should be conducted.
In the case of a complaint, the following options broadly exist:
- Follow the complaints procedure as outlined in company policies,
- If the director is the member of a professional regulatory body and the potential misconduct may also be a breach of professional duties, such as the law society in case of attorneys, lay a complaint with the professional body, or
- Take legal action to remove the director in terms of the new Act.
In terms of the new Act, a director may be removed by court application if the director’s misconduct falls within the circumstances provided under Section 162(5), (7) and (8), and this would warrant legal action in order to remove the director from the board in the best interest of the company –
“A company, a shareholder, director, company secretary or prescribed office of a company, a registered trade union that represents employees of the company or another representative of the employees of a company’, the Companies and Intellectual Property Commission or Takeover Regulation Panel’, and ‘any organ of state responsible for the administration of any legislation”
The company may apply to court for an order declaring a director a delinquent.
On the other hand, in terms of Section 71 of the new Act, the shareholders (by way of ordinary resolution) and/or the board (by way of resolution) has recourse to remove a director who has been found to be negligent or not performing in terms of his/her duties or functions.
Delinquency and criminal liability
Whenever a court finds that a person contravened Section 77(3)(a), (b) or (c), it must make an order declaring such a person delinquent in terms of Section 162(5)(c)(iv). The section is worded in peremptory terms, in other words, there is no alternative. This means that such a person, in addition to being personally liable for the company’s debts, will not be allowed to act of any company again for a period of at least seven years, subject to certain conditions imposed by the court (such as limiting the delinquency to a particular category of companies (Section162(6)(b)).
In Gihwala and others v Grancy property Ltd and Others 2017 (2) SA 337 (SCA), the directors tried to attack the constitutionality of Section 162(5)(c) on the grounds that it infringed on Section 22 of the Constitution because, they argued, it limited their constitutional right to choose their trade, occupation or profession freely. This did not succeed.
These processions are powerful tools in the hands of creditors as the Supreme Court of Appeal has shown in the Gihwala-case. The consequences for the directors when a company, in breach of contract, does not pay its creditors, could be severe. The position of trust held as a director should therefore never be undertaken lightly.