This problem question concerns the potential breach of fiduciary duties of the directors of BC Limited (the “Company”), namely Mr. Jones, Mr. Ahmed and Miss Hartley. The directors’ fiduciary duties are codified under sections 171-177 of the Companies Act 2006. In Percival v Wright, the court held that the directors owe fiduciary duties to the Company and not to individual shareholders. Fiduciary duties are obligations owed in equity and are imposed by virtue of the underlying relationship of mutual trust and confidence between the parties (Bristol and West Building Society v Mothew). Directors owe such fiduciary duties to companies as they constitute the primary organs of management in the company who are able to directly influence the commercial interests of the company (Aberdeen Railway Co v Blaikie Brothers).
Mr. Jones
The first issue concerns the potential breach of fiduciary duty pursuant to sections 172, 176 and 177 of the Companies Act 2006 by Mr Jones when he proposes to the board of the Company to acquire an old office block from Mr. Warmington. He actively promoted to the Company by assuring the board of directors that this is an exceptionally good opportunity in terms of cost and location.
Mr Jones received a commission payment amounting to a secret benefit from Mr Warmington for facilitating the purchase of the old office block to the board of directors of the Company. By accepting and pocketing such a payment, he potentially breaches Section 176 of the Companies Act 2006 which states that a director has a duty not to accept benefits from third parties. This includes bribes and secret commission payments. In Attorney General for Hong Kong v Reid, a deputy public prosecutor serving the British crown in Hong Kong was convicted for receiving bribes from triad members in exchange for dropping prosecution cases against selected triad members. The Privy Council held that the receipt of bribes by a fiduciary constitutes a breach of the no-profit rule and as such, amounts to a breach of fiduciary duty.
Applying the above-mentioned case law, it is clear that Mr. Jones’s receipt of the 50,000 pounds payment from Mr. Warmington amounts to a bribe and secret commission. As a director owing fiduciary duties to the Company under section 176, Mr Jones should not accept such a payment as it breaches the no profit rule unless he first made a disclosure of such receipt to the board of directors of the Company. In FHR European Ventures LLP v Cedar Capital Partners LLC, the Supreme Court held that since equity treats the fiduciary as acting always in the best interests of the principal, the principal has proprietary interest in any bribe monies received by the fiduciary. In this regard, equity treats the fiduciary as receiving the bribe monies on behalf of the principal. As such, the fiduciary holds any bribe monies or secret commission received on constructive trust for the benefit of the principal. As such, Mr. Jones holds the 50,000 pounds of secret commission received from Mr. Warmington on constructive trust for the benefit of the Company.
In addition, Mr. Jones also potentially committed a breach of section 177 of the Companies Act 2006 when he failed to disclose his indirect interest in the proposed purchase of the old office block by the Company. Section 177(1) states that “if a director of a company is in any way, directly or indirectly, interested in a proposed transaction or arrangement with the company, he must declare the nature and extent of that interest to the other directors”. Such a declaration must be made before the Company enters into the transaction or arrangement. This duty to disclose or declare is only exempted if Mr. Jones is not aware of the transaction or arrangement in question (Section 177(5) of the Companies Act 2006) or if the other directors in the board are already aware of his interest (Section 177(6) of the Companies Act 2006). On the facts, these exemptions do not apply.
Applying the law on the facts, it is clear that Mr. Jones is indirectly interested in the proposed transaction of purchasing the old office block with the Company. As such, as a director of the Company, Mr. Jones has a duty to disclose the receipt of commission from the seller, Mr. Warmington in facilitating the purchase of the old office block.
Lastly, Mr. Jones is also likely to have breached his fiduciary duty pursuant to section 172 of the Companies Act 2006 for failing to promote the success of the company. By failing to spot the decrepit state of the old office block and its unsuitability for the Company’s use and the fact that Mr. Jones personally derived a financial benefit from the sale and purchase transaction of the old office block, the Company’s interests were largely ignored and he did not act in the best interests of the Company, let alone promoting its success. Therefore, there is a high likelihood that Mr. Jones had breached the duty imposed under section 172 of the Companies Act 2006.
Mr. Ahmad and Miss Hartley
On the facts, Mr. Ahmad and Miss Hartley potentially breaches section 174 of the Companies Act 2006 when they approved the purchase of the office block for 750,000 pounds. Section 174 states that a director of a company must exercise reasonable care, skill and diligence in carrying out his duties. In other words, the directors must not be negligent in carrying out their duties. Section 174(2) sets out a two limb test in determining whether a director breaches this duty (Re D’Jan of London).
The first limb sets out a minimum objective standard of duty whereby the directors are measured to the standard of a reasonable director holding office. The second limb then states that the standard of duty can be increased if the director in question possesses certain general knowledge, skill and experience. This is the subjective limb. In Re City Equitable Fire Insurance Co., Romer J offered some guidelines when explaining the application of this duty. The judge held that “directors must exercise such degree of skill and diligence as would amount to the reasonable care, which an ordinary man might be expected to take, in similar circumstances, if the business were their own. However, directors need not exhibit in the performance of their duties a greater degree of skill than may reasonably be expected from a person of their particular knowledge and experience”.
Having said that, “directors are not bound to give continuous attention to the affairs of the company because the duties of directors are of an intermittent nature to be performed at periodical board meetings, and at meetings of any committee to which the directors may be appointed, and though not bound to attend all such meetings the directors should attend them when reasonably able to do so. Directors may properly rely on the actions of company officials, unless there are reasonable grounds for suspecting that the officials are not adequately performing their roles”.
Therefore, applying the law on the given facts, Mr, Ahmad will be measured to the standard of a reasonable objective director and if he has more experience or knowledge or skill, then the standard of duty expected of him will be increased. It is highly arguable that a reasonable objective director would have obtained the services of an independent valuer or professional advice when seeking to purchase a high value premise for the company especially when the building in question is an old office block. A reasonable director would have been on notice to obtain more independent and professional advice before approving the transaction especially when the transaction involves a high value property purchase. Secondly, Mr. Ahmad did not seem to ask many questions, any at all, when approving the transaction and this is highly suggestive of a passive sleeping director on the Company’s board. His ready deference to the views of his fellow directors is evidential of his abandonment of his duty as a director. On this basis, Mr. Ahmad is likely to have fallen short and breached his duty.
In relation to Miss Hartley, she is also likely to have fallen short of her duty. On the facts, Miss Hartley possesses special knowledge as she is trained as a qualified surveyor. As such, her subjective skills and knowledge would mean that she owes a higher duty of care than an ordinary reasonable director who lacks such knowledge. Applying the law, it is highly unlikely that a qualified surveyor would have failed to detect the decrepit condition of the old office block which is contaminated with a high amount of asbestos. On this basis, Miss Hartley is likely to have been negligent and in breach of Section 174 of the Companies Act 2006 for failing to exercise reasonable care, skill and diligence in approving the transaction by the Company to purchase an asbestos-contaminated office block.
Defences
Notwithstanding the potential breaches above, it is possible for Mr. Jones, Mr Ahmad and Miss Hartley to rely on certain defences. Firstly, the shareholders can vote to ratify the possible breaches of fiduciary duties by Mr. Jones, Mr. Ahmad and Miss Hartley. Ratification amounts to a retrospective approval of a breach of fiduciary duty by the shareholders (North-West Transportation Co. Ltd. v Beatty). Section 239(1) of the Companies Act 2006 states that a company can ratify a conduct by a director amounting to negligence, default, breach of duty or breach of trust in relation to the company. Further, this can be done by way of an ordinary resolution of the Company. However, crucially, Section 239(4) sets out an important limitation on the voting by shareholders. It states that a resolution to ratify a breach can only be passed if the necessary majority is obtained disregarding votes in favour of the resolution by the director (if a member of the company) and any member connected with him.
Therefore, applying the law on the facts, Mr. Jones is not qualified to vote on the resolution to ratify his own breach of fiduciary duty pursuant to sections 176 and 177 of the Companies Act 2006 since he is an interested party. Similarly, Mr. Ahmad and Miss Hartley are also not qualified to vote on the resolution to ratify their own breaches of fiduciary duty pursuant to section 174 of the Companies Act 2006 respectively.
Secondly, Section 1157 of the Companies Act 2006 further states that the court has the judicial power to grant relief to officers of the company in certain cases. Section 1157(1) states that in relation to proceedings for negligence, default, breach of duty or breach of trust against an officer of the Company, a director included, the court may relieve him, either wholly or in part, from his liability on such terms as it thinks fit if the court holds that the officer has acted honestly and reasonably, and that having regard to all the circumstances of the case (including those connected with his appointment) he ought fairly to be excused.
Applying the law on the facts, it is unlikely that Mr. Jones will be granted relief by the court as he did not act honestly when he received the secret commission payment from his vendor friend, Mr. Warmington. He had intention to benefit and pocket the monies. With respect to both Mr. Ahmad and Miss Hartley, the circumstances are also such that they do not appear to ought fairly to be excused because they are both full time directors in the Company. As such, they are likely to be paid a reasonably high salary for their professional services as a director. By falling short of that duties and the remuneration that they receive, it is unlikely that the court ought to fairly excuse them as this will be unfair to the interests of the Company as a whole.
Conclusion
In view of the above, Mr. Jones is likely to be in breach of his fiduciary duty pursuant to sections 176 and 177 of the Companies Act 2006 for accepting the secret commission payment from his vendor friend, Mr. Warmington in the Company’s purchase of the old office block and also for failing to disclose his indirect interest in the proposed transaction with the Company. On a vote on the members’ resolution to ratify his breaches under section 239 of the Companies Act 2006, he is disqualified from voting as he is an interested party and he will only be relieved of liability if the other disinterested Company’s shareholders vote to pass a resolution to ratify his breach.
Mr. Ahmad and Miss Hartley are also both likely to be in breach of their fiduciary duties pursuant to section 174 of the Companies Act 2006 for approving the purchase transaction of the Company to purchase the old office block. On a vote on the members’ resolution to ratify their breaches, they will be disqualified from voting as they are an interested party and they will only be relieved of liability if the other disinterested Company’s shareholders vote to pass a resolution to ratify his breach.
It is also unlikely that the court will grant judicial relief to the directors based on the reasons given above.
Bibliography
Books
A. Dignam and J. Lowry, ‘Company Law: Core Text (Core Texts Series)’ (6th edition, Oxford University Press 2010)
B. Hannigan, ‘Company Law’ (3rd edition, Oxford University Press, 2012)
L. Sealy and S. Worthington, ‘Sealy's Cases and Materials in Company Law’ (9th edition, Oxford University Press 2010)
P. Davies and S. Worthington, ‘Gower & Davies: Principles of Modern Company Law’ (9th edition, Sweet & Maxwell 2012)
Declaration:
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