Tag Archives: fiduciary duty

CONFLICT OF INTEREST


All corporate board members have fiduciary duties and a duty of loyalty (care and skill) to the corporations they oversee. If one of the directors chooses to take action that benefits them at the detriment of the firm, they are harming the company with a conflict of interest.

A conflict of interest involves a person or entity that has two relationships competing with each other for the person’s loyalty, such that serving one interest results in working against the other interest. The person’s vested interests raise a question of whether their actions, judgment, and/or decision-making can be unbiased. In a conflict of interest a director chooses personal gain over duties to the organization in which they are a director, or exploits their position for personal gain in some way.

Directors need to manage conflict of interests as these can lead to the transactions and decisions being nullified. It may even lead to prosecution.

Some conflict of interest is fundamental ad pervasive and therefore has to be avoided by a resignation e.g. if a director holds significant shares in a competitor, the conflict of interests will persist making his duty impossible. In that case the a director decides whether to dispose of the equity or to resign form the Board.

In some cases the conflict is temporal and so can be managed. For example if a director holds shares in a company bidding for a once off contract, the director can manage the conflict of interest by declaring his interest and recusing himself from the decision- making process for this contract.

Within the Companies Act (2008) Section 75 there are some specific conflict of interest situations which must be addressed and managed in accordance to the Act. A director must be knowledgeable of these situations and manage himself accordingly.

A conflict of interest must be declared when the matter comes up on the Agenda. The affected directors should make a full disclosure and contribute to the matter without lobbying. Immediately after that he should leave the meeting that will deliberate on the matter.

Some people erroneously believe that by simply declaring the interest they have fulfilled the obligation to manage the conflict of interest. I was once acquainted with an organization in which most of the service contracts awarded by the Company were to the Group CEO’s siblings. The belief in the organization was that since the GCEO had informed everyone of the interest, then everything was okay.

Some conflict of interest matters may not be material enough to be a problem statutorily but they may case a perception challenge that can damage the company’s reputation. For example if an executive director disposes shares that he owned just before a massive loss of stock prize based on an options contract that was due, this may be legitimate but it still cases reputational risks. A disinterested observer would be concerned.

Directors have a fiduciary responsibility to disclose conflicts of interest and to act with unfettered discretion. Where directors breach this duty they stand to attract civil and criminal sanction. Conflicts of interest have the potential to damage the company as any board decision taken in which a director has an undisclosed personal financial interest is void.

debunking some corporate leadership myths


In the last blog we established that the governing body (or board of directors for corporates) has legal responsibilities to exercise leadership over the organization or else face the possibility of legal liability as censure.

A common mistaken assumption is that if one is a Trustee or Board member of  a non governmental organization without pay, then they are exempt from legal liability. This is untrue. Your legal responsibility and the resultant liability exist irrespective of whether you are paid or acting pro bono. That is why it is important to demonstrate competency and skill in your directorship. Many directors or Trustees operate on the basis of herd mentality. In other words they flow with the team especially in the non profit sector. However this does not absolve you of personal liability.

A director should exhibit independence of thought, professional skepticism and competency in analyzing and discussing matters for the good of the organization – and I dare say for the director’s good as well since board negligence can lead to litigation. In SA in particular a director may be hauled before the courts and designated as a delinquent director. The case of the former SAA Chair is a case in point. Once designated as delinquent you can easily be barred from serving as a director for a period ranging from 7 years to for life.

It should be emphasized that while the Board acts corporately as a Team, each director personally owes the organization a duty of care and duty of good faith. The painful part of this potential liability is that since its joint and several, litigants prefer targeting the wealthier Board members to recover the full amount. After all the wealthier board members are likely to have more to lose from a potential litigation. If invited onto a Board do a due diligence on both the organization and the other Board members to ensure you limit your exposure.

Some people feel that they are covered by Directors indemnity insurance. Tis insurance will not cover for willful misconduct, breach of trust, reckless trading, acting outside your range of authority and being party to fraud. It is therefore important for directors not to take comfort in so called indemnity insurance. If you serve on a governing body, govern or if it is impossible to do so consider resigning.

I once served on a Board of a financial institution. At some point the CEO openly ignored the Board’s decision on a critical matter that was detrimental to the interests of the organizations because of an emotional bond to an executive who was destroying value. When the Board could not take a meaningful position to correct the anomaly and it became evident that the CEO was overbearing on the Board, I opted to resign. In my resignation letter I clearly explained my reasons for resigning. At times we need to make decisions based on principle.

When you structure your business corporately, be aware that the moment you have a minority shareholder or a substantial public interest in your business or potential impact on the community by your business then corporate governance issues kick in. Many SME bring on board smaller equity partners and continue to operate as if they are sole owners. The moment you issue shares to another party, you now have responsibilities to those shareholders to consider in every corporate decision you make.

In the next blog we will discuss the matter of ethical and effective leadership.

corporate leadership


I am preparing for certification in Corporate Governance with IoDSA. In that process I will be sharing my thoughts on corporate governance based on the King IV Report and the South African Companies Act 2008. While this is primarily as part of my studies, I certainly hope that this will help some of my readers. I have served on numerous Boards over my time and so will use some of my experiences to illustrate concepts.

In the next few posts we start be interrogating the definition of corporate governance. Many definitions have been proferred but I believe that the King IV Report one is quite succinct and user friendly.

“Corporate Governance -is the exercise of ethical and effective leadership by the governing body towards achievement of the following governance outcomes: ethical culture, good performance, effective control and legitimacy.” King IV Report

The corporate governance is really an exercise of leadership by the governing Board (Board of Directors, Trustees etc). This definition clearly places the leadership responsibility of the corporation in the hands of the directors.

Leadership of the organization is not vested in the shareholders or the management. It is vested in the Board.

I remember reading of a business leader and major shareholder who claimed that he employed and paid the Board and so he was not going to be hamstrung by the Board. I have also heard sentiments expressed in non governmental organizations that the Board is simply advisory. This is a major misunderstanding. The Board exercises leadership of the organization.

Leadership means to govern, direct, control within the context of fiduciary duties of the directors/trustees (members of governing body) to the body corporate. Fiduciary duties refer to the duty of acting in good faith towards the organization. Put in another way fiduciary duty means a legal obligation of one party (the governing body) to act in the best interest of another (the company) when entrusted with the care of the corporate’s assets.

The primary responsibility of the governing body is to act in the best interests of the organization AND not necessarily in the best interests of the shareholders.

Remember that the organization is a separate legal person from the shareholders.  

When the interests of shareholders and the organizations diverge, the Governing Body is legally bound to act in the best interests of the organization.

(We will examine this duty in depth later on)

From the foregoing it is clear that the leadership of the organization does not lie in the management or the shareholders. But actually lies in the governing body i.e. the body of directors or trustees. Shareholders entrust the leadership to the directors while directors appoint and are responsible for management to whom they delegate certain leadership responsibilities. Yet many governing bodies do not actually exercise leadership of the organization.

To emphasize the leadership responsibility of the governing body of organizations, notice that at law, the legal liability of the organization is broken down as follows: shareholders’ liability is limited to their shareholding, management’s liability is limited to their levels of authorizations or negligence WHILE the liability of the Board members is unlimited.

In other words the greatest legal liability for a corporate body’s failure lies with the Board members both individually and jointly.

As an aside it is important for Board members not to treat their responsibilities lightly as they can expose their personal wealth at risk for the liability coming from their Board seating.

I once served on the Board of a non governmental organization which had a rental dispute with its landlord and was in arrears. As directors we were sued in our personal capacity while the management (who in effect were responsible for the delinquency) were not included in the litigation. Fortunately we managed to negotiate and get the organization to pay its obligations. If it had failed to do that all the Board members were to be personally liable for the organizations’ rentals.

It is also important to be cautious about the Board seats that you accept. Do proper due diligence. Otherwise you are putting your own wealth at risk if you seat on a Board that does not exercise leadership on the organization

In the next post we will take a closer look at the nature of this leadership.