From the Desk of Thio Shen Yi, SC.
It’s tough to be a director of a listed company these days. When things go wrong they are the first to the line of fire. Did they perpetrate, know of, or condone the wrongdoing? Or were they just wilfully blind, negligent, or sleeping on the job while collecting their fees?
The buck stops at the board, and the law does not make significant distinctions between directors who are executive and non-executive, or independent and non-independent. Every director owes fiduciary duties to the company.
These obligations manifest themselves in many forms. Directors are subject to a raft of rules and regulations – the Companies Act, the Securities and Futures Act, the Listing Manual, and their fiduciary obligations under common law and equity. And these are not exhaustive. It is understandably a challenge for any director to keep up.
For instance, directors cannot act in a manner that will harm the company. They must also act with reasonable care and skill in the conduct of the Company’s affairs. All that is obvious, but it doesn’t end there. They also cannot put themselves in a position where their private interests conflict with the company’s interests. As a corollary to this, there are restrictions against self-dealing, which find expression in the rules which limit interested or related party transactions (IPTs or RPTs). Clearly, IPTs and RPTs are not prohibited, but strict rules must be followed before they are allowed. Depending on their magnitude, they must be disclosed, and there must be consent, by the board, and sometimes by the shareholders.
Beyond the self-dealing prohibition, a director generally cannot make profits by reason of his position as a director, whether through corporate information or opportunities. Again, this is not an absolute rule. The obligation of directors to declare and disclose their interests and conflicts of interests, whether in transactions or relationships, is both a general and specific obligation. The raison d’etre of disclosure is not only prophylactic, but also to ensure accountability and transparency in the conduct of the company’s business where they intersect with a director’s private interests.
This is not all. The shareholder dynamics in listed companies differ from private companies. Directors of public companies have a duty to keep their shareholders informed, through the quarterly dissemination of financial information, and timely announcements of such material information as prescribed by the listing manual. In fact, in listed companies, the stakeholders can include the market and investing public at large. This means that the obligations owed by a director of a listed company are more extensive than in a private company. Directors must ensure that information material to the company is disseminated transparently and that there is no asymmetry in the flow of such information. They must also ensure that the information announced is not misleading, or does not create a false market.
How does one then navigate this plethora of rules and regulations, some in the fine print of legislation, and some in the ether of the common law?
It can in my view, be distilled to a simple equation. A director must always act in the best interests of the company. Who is the company? Where a company is solvent, it is the general body of its shareholders. The “best interests of the company” is the touchstone and point of reference for any director. All the specific rules and duties are arguably sub-rules which support this fundamental obligation.
The difficulty however, is always in the application. While we can articulate best principles, the real world of commerce can present multiple permutations for conflicts to arise, and each situation is highly fact sensitive and solutions are not always easy. A combination of principled and practical thinking is required. Take for example, a scenario where a director is also a director/shareholder of a counterparty in a transaction. Clearly, disclosure is required. Equally clearly, that director should not vote as there is an obvious conflict. Should that director take part is deliberations concerning that transaction? There is no absolute prohibition, but on balance, that director should refrain in order to avoid contaminating the discussion with a partisan view. Should that director then excuse himself from the meeting, or be excluded from all information concerning that transaction? That is less clear.
Take a scenario one step removed – there is a transaction, and a director has an interest in a professional services firm advising the counterparty; but that director is not otherwise involved on the deal. Disclosure is required at the appropriate time. That director also should not vote. Neither of these are controversial. But must the director refrain from deliberations or comment? Must that director excuse himself from any meetings or be excluded from any information on the transaction? There is no hard and fast rule. Once disclosure is made, there ought not in most cases, be any problem with a director commenting on a transaction as part of his duty to act in the best interest of the Company – either by providing insight, background, or domain expertise to assist the rest of the board when they vote. This is not uncommon in some larger corporate groups where there are IPTs or RPTs. The non-independent directors often take part in discussions, share their views and expertise, and then leave it to the independent directors to vote while they recuse themselves. What is important is that the board is aware of and directs its mind to the possibility of conflict, and there is a process to deal with potential conflicts of interests.
Ultimately, the rules and obligations that a director is subject to serves the larger objective of ensuring that the company’s best interests are advanced. It is quite often possible to detect technical lapses and breaches, which have no impact whatsoever on the decision making, or on the best interests of a company. The disclosure regime is one such instance. Sometimes disclosure of a director’s interest is not made, but the board and all involved in the decision making process are aware of that interest. In other instances, the director makes disclosure before any discussion to approve a transaction at a board meeting, and does not vote or influence the vote; but it transpires that he could have made disclosure at an earlier date. An argument could be made that those non-disclosures are strictly speaking, breaches, even though they cause the company no harm. That’s like a footballer being in an offside position but not interfering with play. No harm has been done, and to demand adherence to rules for the sake of strict adherence alone is valuing form over substance.
In fact, the converse can often happen also in the realm of disclosures and IPTs/RPTs. There may be full disclosure and consent to an IPT or RPT. But this still does not mean that the company’s best interests have been protected. Was the deal at arm’s length? Could the company have done better by dealing with a non-related party? There are other instances where executive directors who are also controlling shareholders of listed companies concurrently have private business interests in the same commercial space as the listed company. How do they then allocate the corporate opportunities that come their way? Do they direct that corporate opportunity to the listed company, or do they allocate that opportunity to their own private interests? How do they decide, and should they be making that decision? It may well be possible that all the appropriate disclosures are made, and on paper, all the required resolutions are passed and consents given. That is not a guarantee that the decision of the listed company, to for example, pass up the opportunity and let the relevant director pursue that privately, is genuinely in the best interests of the company. In that case, substance is not protected by adherence to form.
The bottom line is that with all the best will in the world, technical lapses and breaches can occur, and while we should work to minimise or eliminate them, those are not real threats to the corporate governance regime. This is not an excuse for carelessness. We should exercise vigilance in detecting these lapses, and put processes in place to deal with them, which ultimately build trust and confidence in the system. More subtle is the behaviour that scrupulously dots every “i” and crosses every “t”, but in substance, puts the company at risk or deprives the company of profit or opportunity – that is a far greater systemic and existential threat. Our increased scrutiny must be go back to basics – and focus on the core issue: Does this benefit the company; does this harm the company; or is this in the company’s best interests? Form facilitates, but it is not governance.
(This article appeared in The Business Times on 29 July 2016)
Read more at The Business Times