Oct 15, 2015

DIRECTORS: LEGAL APPROACHES TO CONFLICTING CORPORATE INTERESTS by Adeleke Solanke

Credits - Bloomberg.com



Introduction
Who are corporate directors?
The phrase “corporate director” is a combination of the words “Corporate” and “Director”. The word “corporate” is defined as “of or relating to a corporation especially a business corporation”. The word “director” is also defined as “1. One who manages, guides or orders; a chief administrator. 2. A person appointed or elected to sit on a board that manages the affairs of a corporation or other organization by electing and exercising control over its officers”.

From the above definitions, a corporate director can be simply defined as one who directs, regulates, guides or manages the affairs of a business corporation and who sits on the board of such corporation.


In some jurisdictions[3], one of the cardinal requirements for the formation of a company is the appointment of person(s) to act as directors of the company by the subscribers to the memorandum of association of the company. The names of such person(s) are usually submitted as part of the requirements for the registration of the company. The minimum number of directors vary from jurisdiction to jurisdiction and after incorporation the first directors may be changed, re-appointed or added to.
Directors are not regular employees of a company but they are officers for the purpose of making a company vicariously liable for their negligence while engaged in the business of the company.[4]

Conflict within the Board
The management of a company is vested in the board of directors collectively so as to ensure the collective knowledge and wisdom of the board is available and to ensure discussions take place before decisions are made. The board is made up of different persons (natural and juristic) and it is reasonable to expect that discussions will bring as many varying ideas and opinions to the fore. Disagreements and conflicts may arise in the course of these discussions therefore it is important for a company to have a systematic and efficient way of resolving these conflicts because of the negative impact they may have on the company.

A board that has identified a pragmatic approach to resolving its conflicts may discover that not only will they resolve disputes more efficiently but they would also enhance their collaborative problem-solving and decision-making capabilities. It is important that these conflicts are recognized, managed and turned into a positive force for advancing the goals of an organization.

Conflicts are more likely to occur between directors that were subsequently appointed after the first directors. This may be because the first directors were involved in the formation of the company and are likely to have similar goals and approaches on the direction and management of the company. Subsequent directors however come with different opinions from different backgrounds and to mix these with differing temperaments may make conflicts inevitable. On the other hand, conflicts between board members may also be a spill-over from the existing and unresolved conflicts between sitting directors who may have been influential in the appointment of the new directors to the board. The new directors may have a prejudice against some directors as possibly influenced by the sitting directors.

The personality of certain board members may also make conflicts inevitable. In a situation where a director has a domineering personality and as such appears to be keen on influencing the decision of the board often, there is the likelihood of a constant face-off between such domineering director and other members of the board. A conflict may also arise within the board where a director with the highest shareholding in the company appears to be keen on running the affairs of the company parallel to the authority of the board.

Possible conflict scenarios abound and arise in the normal course of running a company. The need to resolve board conflicts quickly, efficiently and effectively cannot therefore be over emphasized. Several methods of resolving board conflicts may be adopted and each method may be more suited for peculiar scenarios. An effective conflict-management plan must however begin with the board itself[5]. It is advisable that when boards are appointing new directors, people management skills and the ability to respond constructively to developing and full blown conflicts should be considered. Some of these essential skills include but are not limited to: individual initiative, negotiation skills, informal mediation skills, investigative skills, decision making ability and people management skills.
The sitting directors should take the pain of evaluating and appraising each potential director to identify their traits, orientation, background and overall nature. This will help expose the possibility of a conflict arising between in-coming directors on one hand and between an in-coming director and a sitting director on the other.

Alternative Dispute Resolution (ADR) methods have been identified as one of the most effective methods of resolving board conflicts mostly because it is interactive and less divisive. The model more described as the Collaborative Problem Resolution (CPR) which was developed based on the principles of ADR has been identified as one of the most successful methods of resolving board conflicts[6]. CPR process helps in the early detection of conflicts and turning same into a productive stimulant for growth. Through regular interaction, official or unofficial, the body language of some board members can reveal a brooding conflict and therefore can create an avenue to address same early. CPR is designed to guide disputing participants through the initial stage of negotiation to mediation, then to conciliation and finally to arbitration[7].

The CPR process also involves the participation of a third-party outsider who would help the disputing directors and the board as a whole in walking through unresolved conflicts and arriving at a resolution. Collaboration, however, does not mean all parties must agree but it behooves them to have a mutual understanding towards a collaborative effort in the overall interest of the company. Encouraging collaborative methods and efforts increases the opportunity to solve problems quickly among those directly involved.
 
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It is not unusual for the board to be divided on issues that they collectively lack expertise on. Companies in the course of their usual business activities are faced with making decisions on issues that boarder on specialized fields. When such occasions arise, the board may have different opinions on how to approach the issues and what steps to take. Each director’s opinion may be based on limited experiences gathered overtime which may be similar to but not identical with the scenario at hand. In such a situation, it is advisable that the board considers adopting the expert-opinion approach.

The appointment of an expert requires an independent and non-bias approach. If the board decides to appoint an expert, such expert is best appointed based on his/her expertise in the field and affiliation with the relevant professional body to which the conflict relates.
The expert opinion process is less divisive. The only shortfall however is that it only resolves conflicts that are based on particular subjects and may not be as effective for feuds that are more personal. It is also advisable that before the board decides to go with the expert opinion approach, the board must agree that the expert opinion will be final save for undue external influence from the directors.

The unique position board members hold in companies may require a more distinct and discreet approach to resolving issues that may not be met through existing conflict resolution structures within the company. A conflicting board may require an independent, highly competent and confidential resource that can help resolve a conflict discreetly and efficiently. In potent or sensitive matters, it may be inappropriate for a director to seek advice from an internal resource regarding problems with a fellow director[8]. These factors have added more credence to the role of a board ombudsman in resolving board conflicts.

The power of the board ombudsman stems from the individual’s credibility as an independent and neutral resource as well as an objective person and he acts as counselor, go-between, informal fact-finder, or upward feedback provider in the service of the board. The board ombudsman fills a need by acting as a confidential resource for informal, independent assistance and as a source for shuttle diplomacy and should be available on as as-needed basis[9]. The directors are given the option to decide when to seek the assistance of the board ombudsman so that the internal conflict resolution machinery is not completely jettisoned in situations where they may be applicable.

The board ombudsman could also have broader ongoing responsibilities to the board as one who can identify troubling patterns or trends developing within the board and to advice the board on how to efficiently control such brooding conflict.[10] It is however important that the ombudsman is independent of the formal internal structures of the company.

To achieve the desired result, the ombudsman needs to listen and understand issues while remaining neutral with respect to the facts. The ombudsman must be conscious not to judge or to decide who is right or wrong but to see issues from the perspective of each individual. This is a critical step in developing options for resolution.

Fiduciary duties of Directors
The nature of the legal duties owed by directors to the company is a reflection of the legal analysis of the relationship between the company and its directors because directors are regarded as agents and trustees of the company. Directors are required to exercise their powers with competence, reasonable skill and diligence in the best interest of the company. This duty is usually described as a fiduciary duty because the obligation to act in the best interest of the company, at its core, is an obligation of loyalty, honesty and good faith. Directors are trustees of the company and as such their fiduciary duty is primarily owed to the company even though there are instances where the fiduciary duty extends to shareholders. Directors must observe good faith towards the company and directors who use their powers to obtain benefits for themselves at the expense of the company cannot retain those benefits and must account for them.

The fiduciary duties of directors are not closed or limited. In some jurisdictions, the duties are provided for by statutes while some are identified by case law over time. Predominantly however, the clearly identifiable fiduciary duties of directors include but are not limited to: the duty not to act ultra vires the powers of the company, the duty not to act ultra vires the power given to them by the company, the duty to act bona fide, the duty to act honestly in the interest if the company, the duty to exercise their powers for the benefit of the company, the duty not to make secret profit from the use of company assets, information or opportunities, and the duty not to maintain a conflict between their personal interest and the overall interest of the company.

In the event of a breach of their fiduciary duties, many jurisdictions have remedies available to the company and, in some instances, shareholders. These remedies have overtime been backed up by statutory provisions, giving more legitimacy to their application which may range from removal from office to restitution.

Legal approaches to conflicting corporate interests
Directors are obligated to act in the interest of the company, to ensure their interests do not at any time conflict with that of the company and to have undivided loyalty to do what is best for the company and its shareholders. This duty is so important that it is reflected in statute in some jurisdictions[11]. Conflict of interest may take whatever form but at its core is the principle that the interest of the company is paramount.

The theory of corporate interest means that directors when making management decisions are obligated to act in the best interest of the company, usually commercially. This is more so as most companies are usually set up to make profit.  At common law, transactions which were not ostensibly beneficial to the company were set aside as being void as against the company and transactions which though are outside the powers of the company and thus outside the scope of the directors’ authority may be ratified by shareholders thereby making same binding on the company because such transaction was to the benefit of the company.[12]

A director cannot use his position to further his or a third party’s interest at the detriment of the company but it is not strange for directors to have interests that have the potentials of conflicting with the interest of the company and if not well handled may result in a breach of the director’s fiduciary duties to the company. Directors may, for example, have interests in an entity which has entered or is about to enter into a contract with the company. A director may also, in his personal capacity, be interested in a business venture which the company could pursue. It is also not strange for a director to sit on the board of one or more companies, whether in the same line of business or not, and the director may find himself in a dilemma as to which company’s interest should come first in such situations. In whichever scenario the director finds himself, he must not abdicate his duty to act in the best interest of the company and must been seen to have acted fairly to the company.

In resolving the issue of conflicting corporate interests some jurisdictions have taken the extra step of addressing possible conflict situations through by legislation. In the Federal Republic of Nigeria, for example, there is a restriction on dual directorship for some statutory flavoured appointments[13]while there is also a duty on directors interested in a contract or a proposed contract to disclose the nature of their interests in the contract to the board failing which they will be liable to pay a fine.[14] The state of Nevada in the United States of America also addresses the issue of conflicting corporate interest in the Nevada Revised Statutes 2010[15].

In summary, the law[16] provides that a transaction is not void or voidable merely because of the presence or involvement of an interested or common director and went further to list instances where the exceptions may apply as summarized: 1. Where the board, though aware of the interest of the director proceeds to approve the transaction in good faith while excluding the vote of the interested director. 2.  Where the shareholders though aware of the interest of the director, approve the transaction in good faith by a majority vote, including the vote of the interested director. 3. Where the common director himself is unaware of the interest at the time the transaction is brought before the board, and 4. Where the contract in itself is fair to the company as at the time it was approved.

The principles enunciated above[17] provide a guideline to managing instances of conflicting corporate interest but the ultimate test is the fairness test. The directors must be seen to have acted fairly and that the transaction was a fair one failing which there would be a breach of their fiduciary duty to the company. Furthermore, where a potential conflict situation arises, the concerned directors are advised to voluntarily alert the board of the potential of a conflict and then excuse themselves from participating in the transaction. This eliminates the possibility of a breach their fiduciary duties.
In a situation where a director takes steps which are perceived not to be in the overall interest of the company, the transaction may be set aside for not being fair. The company can also enforce the fiduciary duty of the director and seek compensation for breach and the director may also be held personally liable.

Conclusion
The interest of the company is paramount and overrides the interest of any other stakeholder including directors. As such directors must ensure to act in good faith and in the interest of the company at all times. Directors must also realize that internal conflicts can cripple the company and stifle its growth and must avoid such at all cost. Companies that wish to grow and stay relevant in business cannot ignore the need to have an efficient conflict resolution method in place but as earlier stated an efficient conflict management method must begin with the board itself coupled with the genuine desire of its members to put the interest of the company before theirs.

 By: Leke Solanke








Foot notes
[3] The Federal Republic of Nigeria and the United Kingdom
[4] Palmer’s Company Law, 24th Edition, 1987 page 875
[6] Ibid. 4 pg 2
[7] Ibid.
[8] Ibid.
 [9] Ibid
[10] Some schools of thought have argued against this due to the need for the board ombudsman to strictly maintain his independence and neutrality
[11] a. Section 279 (3) of the Companies and Allied Matters Act, Laws of the Federation of Nigeria 2004 (CAMA). b. Section 172, The Companies Act of the United Kingdom 2006 Chapter 46.
[12] http://en.wikipedia.org/wiki/Interest_of_the_company
[13] Section 10 (2) of the Central Bank of Nigeria (CBN) Act 2007 prohibits a Director of the CBN from holding a similar office in any government establishment to the exclusion of private organizations.
[14] Section 277 of the Companies and Allied Matters Act, Laws of the Federation of Nigeria 2004
[15] Section 78 (140) (1) and (2)
[16] Ibid.
[17] Ibid 14, 15, 16

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