FIDUCIARY D DUTIES OF A DIRECTOR: INVESTIGATION THROUGH CASE ANALYSIS
SUBMITTED TO
Dr. DIPAK DAS, Associate Professor, FACULTY: CORPORATE LAW
SUBMITTED BY
A!i"a# K S!$%&a SEMESTER'(I) SECTIO*'A ROLL.*O.'+
SUBMITTED SUBMI TTED O*' -t! Ari&, /+01
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TABLE
OF CONTENTS
ACK*OWLED2EME*TS
INTRODUCTION
4
OB3ECTI(ES
1
RESEARC4 MET4ODOLO2Y
1
FIDUCIARY DUTIES
6
DUTY OF GOOD FAITH FAITH AND BONA FIDE ACTS DUTY OF CARE DUTY NOT TO DELEGATE DUTY TO DO LEGAL ACTS AND PROPER USE OF POWERS UNFETTERED DISCRETION LACK OF CONFLICTING INTERESTS DIRECTORS’ AND BREACH OF TRUST
11
DIRECTOR’S KNOWLEDGE AS KNOWLEDGE K NOWLEDGE OF THE COMPANY 12 CASE LAW ANALYSIS
14
Dale and Carrington Carrington Investmen Investmentt (P) Ltd v. P.K. Pratha Prathapan pan
13 And Ors Regal (Hastings) Ltd. v. Gulliver and Ors 1 Aleander v. v. Automati! "elephone "elephone Co 16 #eedle Industries (India) Ltd. v. #eedle Industries #e$e% •
(India) Holding 16 Pier!% v. &. 'ills Co. Ltd.
•
1! "he "ea ro*ers (P) Ltd. and Ors. v. Hemendra Prosad arooah
18
FIDUCIARY DUTY AND INDIAN TRUSTS ACT 2 | Pag e
1"
CONCLUSION
21
BIBLIOGRAPHY
22
ACK*OWLED2EME*TS
This project is a result of sheer hard work and dedication. I would like to pay my heartfelt gratitude gratitude to my respected faculty Dr. Dia% Das Sir for providing such a challenging topic. If he had not shown faith in me, I don’t think this project would have been reality. He guided me at every footstep and providing me wholesome help, wherever I required. I would also like to say thanks to entire H!" administration for allowing me to use whatever the facilities available throughout the campus. !astly, from the very outset, I was encouraged by my friends and classmates in the right direction, so that I can focus on the task. #ome printing printing errors might have crept in, which are deeply regretted. I would be grateful grateful to receive comments and suggestions to further improve this project report.
A!i"a# K S!$%&a, Ro&& *o. +, Sectio" A, Se5 (I Batc! 6II.
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I*TRODUCTIO* “A living person has a mind which can have knowledge or intention and he has hands to carry out his intention. inte ntion. A corporation has none of these; it must act through living persons”. 1 Human beings have their hands and also possess the mental faculty. They are thus, capable of taking right decisions and actions. $ut a corporation, not being the natural person, is devoid of these essential elements and hence, it cannot take an action or a judgment judgment itself. %ather it requires a channel through, which it can take actions and decisions. The directors of the company thus serve as the required channel to accomplish the decision&making and action& taking task of the corporation. corporation. '( corporation corporation is an artificial being, being, invisible, invisible, intangible intangible and e)isting only in contemplation of law.* + ( corporation corporation cannot cannot have the the intention. intention. It is only the intention of its agents, which make it liable for the wrongs in the nature of torts or the criminal wrong. ( corporation has its separate identity than its shareholders and its agents. welling upon the necessity of the agents for carrying out its task, the role of the directors of a company becomes of paramount essence. ( irector is an agent of the -ompany for the conduct of the business of the company. The irectors of the subsidiary of a foreign company are not on any separate footing. (s (s agents or office officers rs of the -ompan -ompany y, directo directors rs have have a fiducia fiduciary ry relatio relation n with with the -ompan -ompany y and its shareholders. irectors are bound to use fair and reasonable diligence in discharging the duties and to act honestly, and with such care as may be reasonably e)pected from, having regard to their knowledge and e)perience. )press liability would usually arise only when a director has personally guaranteed the performance of a contract. (s far as fiduciary duties are concerned, any breach by directors would make them liable. irectors would be liable for 1 H(!( H(!( !- in !ennard’ !ennard’ss -arryin -arrying g -o. -o. v. (siatic (siatic /etroleu /etroleum m -o., 0102 01 02 (- 342 34 2 at p. 305. 30 5. 2 6(%#H(!! 7. in Trustees of artmouth -ollege v. 8oodward, 90:01; 03 "# 20:, <5<.
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negligence, breach of trust, misfeasance, and ultra vires actions and for applying the funds of the company for such acts. It is stated that in applying the general equitable principles to directors of a company, four separate rules have emerged. These are= 90; that directors must act in good faith in what they believe to be the best interests of the company> 9+; that they must not e)ercise the powers conferred upon them for purposes different from those which they were conferred> 95; that they must not fetter their discretion as to how they shall act> and 9?; that, without the informed consent of the company, company, they must not place themselves in a position in which their personal interests or duties to other persons are liable to conflict with their duties to the company. company.5
RESEARC4 MET4ODOLO2Y
%esearch 6ethodology adopted in completion of this project is mainly octrinal in nature. #econdary sources such as $ooks and journals have been used widely in completion of this project
OB3ECTI(ES To study the position of directors with respect to the fiduciary duties they are required to perform To analy@e certain case&laws, Indian as well as $ritish, to study the fiduciary position of the directors with respect to the company
3 Aower’s principles of 6odern -ompany !aw 96 9 6 th Edition, 1!, page 6"1
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FIDUCIARY DUTIES
( irector owes fiduciary duties towards the company, and not to individual shareholders, creditors 9other than during winding up when their interest has to be taken care of; or fellow irectors. These generally consist of the following=
Duty of Good faith and bona fide acts
irectors must act honestly, without without negligence and in good faith in the #ona fide best fide best interests of the company. Interest of the company implies the interest of the present and future members of the company on the footing that the company would be continued as a going concern. 8hile applying this rule, irectors are not e)pected to act purely for the economic advant adv antage agess of the com compan pany y, dis disreg regard arding ing the int interes erests ts of the mem member bers, s, emp employ loyees ees or creditors. credito rs. The presumption presumption is that a irecto irector, r, acting within his or her authority, authority, has acted in good faith, though the act may have been foolish or wrong, unless proved otherwise. The -ourts -ou rts usu usually ally ref refuse use to sub substit stitute ute the their ir jud judgme gment nt for the com commer mercial cial jud judgme gment nt of the irector. The directors should not make any secret profits. He should also not e)ploit to his own use the corporate opportunity opportunity.. In Coke v. Veeks 4, it was observed that 'men who assume complete control of a company’s business must remember that they are not at liberty to sacrifice the interest which they are bound to protect and while ostensibly acting for the company, direct in their own favour business which should properly belong to the company they represent.* In this case there was an offer of a contract to the company. irectors who were the holders of the share 5B?th of the votes resolved that the company had no interest in the contract and later entered into the contract by themselves. Held, the benefit of the contract belonged in equity to the company. (s regards the director selling his property to the company there would be breach of faith and he would have to account for the profit to the company if the property was acquired by him under circumstances which made it in equity the property of the company. $ut if the property in equity as well as in law belonged to him, there is no breach of faith. 2
4 C010
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V. Gulliver case, In Regel (Hastings) Ltd. V. case, the plaintiff was a director in one company
and a shareh shareholder older and credit creditor or in another comp company any.. The second company was being woun wound d up and the plaintiff purchased the assets of the second company at a public auction in four lots. Ene such lot he sold to the former company 9in which he was a director; at almost the tree times the price he had paid for it. The lower -ourt decided that should account for the profit in resale to the company company.. $ut, the /rivy -ouncil overruled the decision. (gain if the property is acquired by a director by reason of the fact he is a director and in the course of the e)ercise of the office of director, then the profit on resale of such property would belong to the company.<
Duty of Care
( director must display care in performance of work assigned to him. He is, however, not e)pected to display an e)traordinary care but that much care only which a man of ordina ordinary ry pruden prudence ce would would take take in his own case. case. 7ustice 7ustice %omer %omer n Re City !"uitable #ire nsurance Co$%any& Co$%any&ss case observed=3
'irector’s duty will depend upon the nature of the company’s business, business, the manner in which the work of the company is distributed between the directors and other officials of the company. In discharging these duties a director must e)ercise some degree of skill and diligence. $ut he does not owe to his company the duty to take all possible care or to act with the best care. Indeed, he need not e)hibit in the performance of his duties a greater degree of skills than may reasonably be e)pected from a person of his knowledge and e)perience. It is therefore, perhaps another way of stating the same proposition that directors are not liable for mere error of judgment.* #imilar view was e)pressed in Lagunas 'itrate Co. Ltd v. Lagunas 'itrate yndicate , in the following words= 'If directors act within their powers, if they act with such care as is to be reasonably e)pected of them having regard to their knowledge and e)perience and if they act honestly for the 6 %egel 9Hastings; !td. F. Aulliver, C01?+D (ll % 53: 9H-; 7 $nfra, $nfra, 1 8 C0:11D + -h. 51+
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benefit of the company they discharge both their equitable as well as legal duty of the company.* Three Three propos propositi itions ons laid down by 7ustice 7ustice %omer %omer in City !"uitable #ire nsurance Co . 9which was relied upon in India in the case of 'ational *ank of +%%er ndia, Luckno- vs. Dina 'ath a%ru and others7: others7:0+
9i; ( director director need not e)hibit e)hibit in the performance performance of his duties a greater degree of skill than may reasonably be e)pected from a person of his knowledge or e)perience. 9ii; ( director is bound to give continuous attention to the affairs of his company, his duties being of an intermittent nature to be performed at periodical $oard meetings or committee meetings. He is not bound to attend all $oard and committee meetings, though he ought to attend all such meetings as he is reasonably able to. 9iii; In respect of all such duties as may be properly left to some other official having regard to the e)igencies of business or articles of association of the company, a director is, in the absence of grounds for suspicion, justified in trusting that official to perform such duties honestly. In discharging their duties, directors must act honestly and must e)ercise such reasonable degree of skill and diligence as would amount to reasonable care which an ordinary man might be e)pected to take. 00 8hile negotiating a contract for his B her company, a director should should make it clear to the other party that the contract contract will be entered into by the company company and not the director personally. If he does not do this and the other party believes that he is contracting with the director or agent and not the company, the contract they conclude will be a personal one made with the director and he will be personally liable for fulfilment of the promises made.0+
9 901+2; -h ?43 10 (I% 01+< Eudh +?5 11 Aovind arayan Garkade vs. %angnath Aopal %ajopadhye, (I% 0154 $om 23+. 12 %aja %am 7aiswal 7ais wal vs. Aanesh /rasad (I% 0121 (ll +1.
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%ection &"1 states &"1 states a provision in the company’s (rticle or in any agreement that e)cludes the liability of the directors for negligence, default and misfeasance, breach of duty or breach of trust, is void. The company cannot even indemnify the directors against such liability. $ut, if a director has been acquitted against such charges, the company may indemnify him against costs incurred in defence. %ection 6'' further 6'' further states that where a director may be liable in respect of the negligence, default, breach of duty, misfeasance or breach of trust but if he has acted honestly and reasonably and having regard to all circumstances of the case, he ought fairly to be e)cused, the court may relive him either wholly or partly from his liability on such terms as it may think fit. However, the plea of a director that he was merely a non&e)ecutive independent director at the time of issuance of the prospectus by itself is not enough to grant him relief under #ection <55. 05 Duty not to Delegate Delegate
irector being an agent is bound by the ma)im (delegatus non potest delegare) which which means a delegate cannot further delegate.0? Thus, a director must perform his functions personally. ( director may, however, delegate in the following cases= • •
8here permitted by the -ompanies (ct or (rticles (rticles of the company. Having regard to the e)igencies of business certain functions may be delegated to the other officials of the company. company.
irectors have, both collectively and individually, a continuing duty to acquire and maintain a sufficient knowledge and understanding of the company’s business to enable them properly to discharge their duties as directors. 8hilst directors are entitled 9subject to the articles of assoc associat iatio ion n of the the comp company any;; to dele delega gate te part partic icula ularr func functio tions ns to thos thosee belo below w them them in management chain, and to trust their competence and integrity to a reasonable e)tent, the e)ercise of the power of delegation does not absolve a director from the duty to supervise the discharge of the delegated functions. It has been held that no universal application can be formulated as to this duty of supervision, and the question of whether it has been discharged,
13 T- Fenkatesh v. %E- C+443D 3: #-! 0 9(/; 14 6## I./., (6II#T%(TIF !(89: th dn. astern $ook -ompany; +40+.
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must must depe depend nd on the the facts facts of each each part particu icular lar case, case, inclu includi ding ng the the direc directo tor’s r’s role in the the management of the company. company.02 Though the directors as a body are responsible for the conduct of the company’s business, it is undoubted law that they can delegate their powers to one or more of themselves for the purpose of carrying it on more conveniently. conveniently.0< Duty to do Legal cts and /ro%er /ro%er use of %o-ers %o-ers
irectors must not e)ercise the powers conferred upon them for purposes different from those for which they were conferred. otwithstanding that irectors have acted in hone ho nest st be beli lief ef fo forr wh what at th they ey be beli liev evee to be fo forr th thee be bene nefit fit of th thee co comp mpany any,, th they ey may nevertheless be liable for improper use of their powers, especially for for purposes collateral to what they have been conferred for, for instance, furthering the irector’s own interests or diluting the majority shareholding. ( breach occurs when the dominant purpose of the act is improper .03 It is a settled principle principle of law that ignorance ignorance of the law is not a defence in legal proceeding proceedingss for violation of any statutory obligation. #pecifically in the conte)t of companies and its directors, it has been observed that where directors use their powers to part with the moneys of their company in a manner or for a purpose which the law forbids, it is not a defence to proceedings to make them liable for their act to plead merely that they acted in ignorance of the law. law.0: ( simila similarr proh prohib ibit itio ion n woul would d also also apply apply in cases cases where where a direc directo torr obta obtain inss any secr secret et commission or any illegal gratification for the award of a contract with the company. 01 ( company can recover from its director any money received by him by way of a bribe in fraud 15 $arings plc 9o. 2; %e 90111; 0 $-!- ?55 at page ?:1= 90111; 0 (ll % 0403 9-h ; b y 7onathan /arker, 7.
16 /ublic /rosecutor vs. T./. T./. Ghaitan 90123; +3 -om -ases 33, :5= (I% 0123 6adras ? 17 (, %amaiya, A"I TE TH -E6/(I# (-T, /(%T 0 90< th ed. +44:; 18 !ouis #teen vs. -harles (llen !aw 901<5; 5 (ll % 334 19 $oston eep #ea ishing J Ice -o. !td. vs. (nsell 90::<&0:14; (ll (ll % %ep <2 9-(;
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of the company and the company can also sue him and the person giving the bribe for any loss sustained through entering into a disadvantageous contract or the company may rescind the contract. +nfettered Discretion
irectors must not fetter their discretion for any reason whatsoever. They cannot validly contract or act pursuant to any arrangement either with one another or with third parties as to how they shall vote at board meetings or otherwise conduct themselves in the future. However, this does not include contracting to take further action to give effect to a contract entered into in a #ona fide e)ercise of such discretion. ominee irectors must be particularly careful not to act only in the interests of their nominators, but must act in the best interests of the company and of its shareholders as a whole.
Lack of Conflicting nterests nterests
irectors must not, without the informed consent of the company, place themselves in a position in which their personal interests or duties to other persons are liable to conflict with their duties to the company or where there is a real and distinct possibility of conflict. This requirement covers the following aspects=+4 i.
ire i rect cto ors hav have to mak make co cont ntin inuo uou us di disc sclo losu sure ress of thei theirr in inte tere rest stss in the the va vari riou ouss transactions of, and with, the company. ( irector cannot enter into a contract with wi th th thee com compan pany y wi with thou outt it itss in info form rmed ed co cons nsen ent, t, ev even en if th there ere is no un unfa fair ir
ii.
advantage to be gained, or abuse of position, by such irector. irec ecttors ca can nnot use se,, without the consen entt of the compan any y, the co com mpany’s properties, opportunities or information for their own profit. In order to esta blish a breach of this duty, it must be shown= 90; that what the irectors did was so related to the affairs of the company that it can be said to have been done in the course of their management and in utili@ation of their opportunities and special know kn owle ledg dgee as i ire rect ctor ors, s, an and d 9+ 9+;; th that at wh what at th they ey di did d re resu sult lted ed in a pr prof ofit it to themselves. The nglish -ourts, adopting a strict approach, have held directors to be in breach of this fiduciary duty, even if the opportunity was not one which would have been of use to the company. Indian courts generally follow this strict nglish law approach.
20 Supra, 17
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iii.
irecto ir ectors rs have have a duty duty not to comp compete ete wit with h the the com company pany,, whi which ch is in in many many resp respects ects a corollary of the immediately preceding rule.
DIRECTORS’
AND BREACH OF TRUST %
Traditionally the duties of directors were non&statutory. They were fashioned out essentially from the common law as developed through cases. The igerian (ct contains the following provision on the point= +0 0 director of a co$%any stands in a fiduciary relationshi% to-ards the co$%any and shall observe the ut$ost good faith to-ards the co$%any in any transaction -ith it or on its behalf.1
The first and the most obvious obligation of persons in fiduciary positions are to act with honesty. 'Areatest good faith is e)pected in the discharge of their duties.* ++ Aood faith requires that all their endeavours must be directed to the benefit of the company. 8here a irector acts dishonestly to the interest of the company, he will be held liable for breach of fiduciary duty. 6ost of the powers of irectors are powers in trust and, therefore, should be e)ercised in the interest of the company and, not in the interest of the irectors or, any section of members. Thus, in a case where the irectors, in order to forestall a take&over bid, transferred the unissued shares of the company to trustees, to be held for the benefit of the employees, and an interest&free loan from the company was advanced to the trustees to enable them to pay for the shares, it was held to be a wrongful e)ercise of the fiduciary powers of the irectors. irectors irectors are bound bound to use fair and reasonable reasonable diligence in dischargin discharging g the duties duties and to act honestly, and act with such care as is reasonably e)pected from him, having regard to his knowledge and e)perience. #ensibility In R.2. Dal$ia and others v. 3he Delhi d$inistration 5 it was held that K( director will be personally liable on a company contract when he has accepted personal liability either 21 The -ompanies (ct and (llied 6atters (ct, 0114. #. +31. 22 $ank of /oona v. arayandas, (I% 01<0 $om +2+. 23 01<+ (I% 0:+0
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e)pressly or impliedly. irectors are the agents or the trustees of a -ompany.K (s far as fiduciary dutiesBobligations are concerned, any breach by any director would visit them with liability. Eur #upreme -ourt has considered this issue of fiduciary liability. It has been observed in 6fficial Li"uidator vs. / 3endulkar .+? Director&s 2no-ledge as kno-ledge kno-ledge of the co$%any co$%any
8here an individual can be identified with a company then that individual’s knowledge may be regarded as the knowledge of the company, company, if he is under a duty to communicate that knowled knowledge ge to the company company.. In most most cases, cases, a 6anagi 6anaging ng irecto irectorr is identi identified fied with his company and therefore the 6anaging irector’s knowledge is imputed to the company. +2 The officer of a company is under a duty, if he is aware that a transaction into which his company or a wholly owned subsidiary is about to enter is illegal or tainted with illegality, to inform the board of the company of this fact. +< It has been held that the default of the managing director who is the Ldirecting mind and will’ Lennard&s of his company, could be attributed to the company company..+3 In the same case 9i.e. Lennard&s Carrying Co$%any Case * Fiscoun Fiscountt Haldane Haldane articulated articulated the alter ego doctrine peculiar to
company law and as something distinct from the ordinary principle of agency and vicarious liability. In a celebrated passage 9 At At page !1';, !1';, he observed that 'M a corporation is an abstraction. It has no mind of its own any more than a body of its own> its active and directing will must consequently be sought in the person of somebody who for some purposes may be called an agent, but who is really the directing mind and will of the corporation.* This principle has also been followed in India inasmuch as the #upreme -ourt of India has, in 7. 2. ndustries Ltd. 8 6rs. v. Chief ns%ector of #actories and *oilers 8 6rs .&+ , held that, 'Msince a company is a legal abstraction, without a real mind of its own, it is those who 24 (I% 0135 #- 004? 25 "nion India #ugar 6 ills -o. !td., %e, (I% 0155 (ll <43 269$elmont inance -orporation vs. 8illiams urniture !td. 9o. +;, 901:4; 0 (ll % 515 27 !ennard’s -arrying -ompany vs. (siatic /etroleum !td. 0102 (- 342 9H!; 28 C0113D :: -omp -as +:2 9#-;
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in fact control and determine the management of the company, who are held vicariously liable for commission of statutory offences. The directors of the company are, therefore, rightly called upon to answer the charge, being the directing mind of the company*. The #upr #uprem emee -our -ourtt relied relied upon upon the the ennard)s ennard)s -arrying -ompany)s -ompany)s case as well well as esco %upermarkets vs. /attras, /attras,+1 where the House of !ords held that 'M the question= what natural persons are to be treated in law as being the company for the purpose of acts done in the course of its business, including the taking of precautions and the e)ercise or due diligence to avoid the commission of a criminal offence, is to be found by identifying those natural persons who by the 6emorandum and (rticles of (ssociation (ssociation or as a result of action taken by the directors, or by the company in general meeting pursuant to the (rticles, are entrusted with the e)ercise of the powers of the company.
CASE LAW ANALYSIS 9. Dale and and Carrington Carrington nvest nvest$ent $ent (/) Ltd v. v. /. /.2. /ratha%an /ratha%an nd nd 6rs, 5:
(t this stage it may be appropriate to consider the legal position of irectors of companies registered under the -ompanies (ct. ( company is a juristic person and it acts through its irectors who are collectively referred to as the $oard of irectors. (n individual irector has no power to act on behalf of a company of which he is a irector unless by some resolution of the $oard of irectors of the -ompany specific power is given to himBher. 8hatever decisions are taken regarding running the affairs of the company, they are taken by the $oard of irectors. The irectors of companies have been variously described as agents, trustees or representatives, but one thing is certain that the irectors action behalf of a company in a fiduciary capacity and their acts and deeds have to be e)ercised for the benefit of the company. They are agents of the company to the e)tent they have been authori@ed to perform 29 9013+; (- 025 9H! 30 9+44? ;0++ -omp -ase 0<0 #-, 9+44?; ? -omp !7 0 #-
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certain acts on behalf of the company. In a limited sense they are also trustees for the shareholders of the company. To the e)tent the powers of the irectors are delineated in the 6emorandum and (rticles of (ssociation of the company, the irectors are bound to act accordingly. (s agents of the company they must act within the scope of their authority and must disclose that they are acting on behalf of the company. The fiduciary capacity within which the irectors have to act enjoins upon them a duty to act on behalf of a company with utmost good faith, utmost care and skill and due diligence and in the interest of the company they represent. They have a duty to make full and honest disclosure to the shareholders regarding all important matters relating to the company. It follows that in the matter of issue of additional shares, the directors owe a fiduciary duty to issue shares for a proper purpose. This duty is owed by them to the shareholders of the company. Therefore, even though #ection :0 of the -ompanies (ct which contains certain requirements in the matter of issue of further share capital by a company does not apply to private limited companies, the directors in a private limited company are a re e)pected to make a disclosure to the shareholders of such a company when further shares are being issued. This requirement flows from their duty to act in good faith and make full disclosure to the shareh sharehold olders ers regard regarding ing affairs affairs of a company company.. The The acts of directo directors rs in a private private limited limited company are required to be tested on a much finer scale in order to rule out any misuse of power for personal gains or ulterior motives. on&applicability of #ection :0 of the -ompanies (ct in case of private limited companies casts a heavier burden on its directors. /rivate limited companies are normally closely held i.e. the share capital is held within members of a family or within a close knit group of friends. This brings in considerations akin to those applied in cases of partnership where the partners owe a duty to act with utmost good good fait faith h towa toward rdss each each othe other. r. on& on&ap appl plica icabil bility ity of #ect #ectio ion n :0 of the the (ct to priv privat atee comp compan anie iess does does not not mean mean that that the the direc directo tors rs have have abso absolu lute te freed freedom om in the the matte matterr of management of affairs of the company. This -ourt held that the directors act on behalf of a company in a fiduciary capacity and their acts and duties are to be e)ercised for the benefit of the company. It, however, while analy@ing the acts of a director as an agent of the company observed that in a limited sense they are also trustees for the shareholders of the company. However, without discussing the limitations of such fiduciary relationship, it was observed= K02N The fiduciary capacity within which the irectors have to act enjoins upon them a duty to act on behalf of a company with utmost good faith, utmost care and skill and due diligence and in the interest of the company they represent. They have a duty to make full and honest disclosure to the shareholders
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regarding all important matters relating to the company. It follows that in the matter of issue of additional shares, the directors owe a fiduciary duty to issue shares for a proper purpose. This duty is owed by them to the shareholders of the company. Therefore, even though #ection #ection :0 of the -ompanies -ompanies (ct which contains contains certain requirements requirements in the matter of issue of further share capital by a company does not apply to private limited companies, the directors directors in a private private limited company are e)pected e)pected to make a disclosure disclosure to the shareholders shareholders of such a company when further shares are being issued. This requirement flows from their duty to act in good faith and make full disclosure to the shareholders regarding affairs of a company. The acts of directors in a private limited company are required to be tested on a much finer scale in order to rule out any misuse of power for personal gains or ulterior motives.K Gulli ver and 6rs, 59 !ord %ussell of Gillowen observed as +. Regal (Hastings) Ltd. v. Gulliver
under= Kirectors of a limited company are the creatures of a statute and occupy a position peculiar to them. In some respects they resemble trustees, in others they do not. In some respects they resemble agents, in others they do not. In some respects they resemble managing partners in others they do not. The said judgment quotes from /rinciples of quity by !ord Games. In one sentence the entire concept is conveyed. The sentence runs Kquity prohibits a trustee from making any profit by his management, directly or indirectly. "ltimately the issue in each case will depend upon facts of that caseK.
. Lindley ;R observed observed in le
KThe -ourt of -hancery has always e)acted from directors the observance of good faith towards their shareholders and towards those who take shares from the company and become co&adventurers with themselves and others who may join them. The ma)im K-aveat emptorK has no application application to such cases, and directors directors who so use their powers as to obtain obtain benefits for themselves at the e)pense of the shareholders, without informing them of the fact, cannot retain those benefits and must account account for them to the company, company, so that all the shareholders shareholders may participate in them.K
31 C01?+90; (ll % 531D 32 90144; + -h. 2<
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?. 'eedle ndustries (ndia) Ltd. and 6rs v. 'eedle ndustries 'e-ey (ndia) Holding Ltd. and 6rs 55 is a judgment of this -ourt in which amongst various other aspects the
power of directors regarding issue of additional share capital was also considered. This -ourt observed= KThe power to issue shares is given primarily to enable capital to be raised when it is required for the purposes of the company but it can be used for other purposes also as, for e)ample, to create create a suffic sufficien ientt number number of shareh sharehold olders ers to enable enable the company company to e)erci e)ercise se statut statutory ory powers, or to enable it to comply with legal requirements as in the instant case. Hence if the shares are issued in the larger interest of the company, the decision cannot be struck down on the ground that it has incidentally benefited the irectors in their capacity as shareholders. #o if the irectors succeed, s ucceed, also or incidentally, in maintaining their control over the company or in newly acquiring it, it does not amount to an abuse of their fiduciary power. 8hat is objectionable is the use of such power simply or solely for the benefit of irectors or merely for an e)traneous purpose like maintenance or acquisition decontrol over the affairs of the company. 8here the irectors seek, by entering into an agreement to issue new shares, to prevent a majority shareholder from e)ercising control of the company, they will not be held to have failed in their fiduciary duty to the company if they act in good faith in what they believe, on reasonable grounds, to be the interests of the company. $ut if the power to issue shares is e)ercised from an improper motive, the issue is liable to be set aside and it is immaterial that the issue is made in a bona fide belief that it is in the interest of the company.K
2. /iercy v. . ;ills 8 Co. Ltd., 54 where directors, who controlled merely a minority of the voting power in the company allotted shares to themselves and their friends not for the general benefit of the company, but merely with the intention of thereby acquiring a majority of the voting power and of thus being able to defeat the wishes of the e)isting minority of shareholder. It was held that, 'irectors are not entitled to use their powers of issuing shares merely for the purpose of maintaining their control or the control of themselves and their friends over the affairs of the company, or merely for the purpose of defeating the wishes of the e)isting majority of shareholders.K even assuming that the directors were right in considering that the majorityOs wishes were
33 (I% 01:0 #- 0+1: 34 01+4 0 -h 33 9-h ;
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not in the best interests of the company, the allotments were invalid and ought to be declared void and was held that It follows from this case that the e)ercise by directors of fiduciary powers for purposes other than those for which they were conferred is invalid. invalid. It may be said that although although the power of issuing shares is given to directors directors primarily for the purpose of enabling them to raise capital when required for the purpose of the company, company, this was not the object object of the directors in this case...K
<. 3he 3ea *rokers (/) Ltd. and 6rs. v. He$endra /rosad *arooah 5= was also a case of a minority shareholder who on becoming managing director of the company, issued further share capital in his favour in order to gain control of management of the company. $arooah and his friends and relations were majority shareholders of the respondent company having <3P of the total issued capital of the company. $arooah personally held 544 equity shares out of 0022 shares issued by the company. company. He was at all material times a director of the company. His case was that he was wrongfully and illegally ousted from the management of the company. company. Ene Ghaund, who initially started as an employee of the company had 004 shares in the company and belonged to the the mino minorit rity y grou group. p. Ghau Ghaund nd was was appo appoin inted ted as the the mana managi ging ng dire directo ctorr of the the company. $arooahOs grievance was that Ghaund took advantage of his position as managing director and acted in a manner detrimental and prejudicial to the interests of the company and in a manner conducive to his own interest. Ghaund had hatched a plan with other directors, to convert petitioner $arooah into a minority and to obtain full and e)clusive control and management of the affairs of the company. In a petition filed under #ections 513 and 51: of the -ompanies (ct, 012<, acts of Ghaund were found to be by way of Ooppression and mismanagementO within the meaning of #ections 513 and 51: of the -ompanies (ct. (llotment of 044 equity shares by the company to Ghaund at a meeting of the $oard of irectors said to have been held on 0? 7anuary, 0130 was held to be illegal. The $oard of irectors of the company was superse superseded ded and a special special officer officer was appointe appointed d to carry carry on managemen managementt of the company with the advice of $arooah, Ghaund and a representative of labour union. There were several other directions issued by the court which are not necessary to be mentioned mentioned here. The ivision $ench considered considered in detail the relevant relevant legal position. position. 8ithout using the phrase Oproper purpose doctrineO the principle enunciated therein, 35 C9011:; 2 -ompany !aw 7ournal ?<5D
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was applied. The following observations observations of 3$stice A.*. Se" are rero8$ce8 = KIt is well settled that the directors directors may e)ercise e)ercise their powers powers bona fide and in the interest of the company. If the directors e)ercise their powers of allotment of shares bona fide and in the interest of the company, the said e)ercise of powers must be held to be proper and valid and the said s aid e)ercise e)ercis e of powers may not be questioned and will not be invalidated merely because they have any subsidiary additional motive, even though this be to promote their advantage. )ercise of power by the directors in the matter of allotment of shares, if made mala fide and in their own interest and not in the interest of the company, will be invalid even though the allotment may result incidentally in some benefit to the company.K
FIDUCIARY D DUTY AND UTY AND INDIAN TRUSTS ACT -hapter IQ of the Indian Trusts (ct provides for certain obligations in the nature of trusts. The Trust (ct recogni@es various kinds of trusts including resulting trust. (n e)press trust, however, may be created by reason of an agreement between the parties. 5< $y reason of #ection :: of the Indian Trusts (ct, a person bound in fiduciary character is required to protect the interests of other persons but the heart and soul thereof is that as between two persons one is bound to protect the interests of the other and if the former availing of that relationship makes a pecuniary gain for himself> #ection :: would be attracted. 8hat is sought to be prevented by a person holding such fiduciary benefit is unjust enrichment or unjust benefit derived from another which is against conscience that he should keep. 8hen a person makes a pecuniary gain by reason of a transaction, the cestui 0ui trust created there under must be restored back.
( irector of a -ompany indisputably stands in a fiduciary capacity vis&a&vis the -ompany. He must act for the paramount interest of the company. He does not have any statutory duty to perform so far as individual shareholders are concerned subject of course to any special arran arrangem gemen entt whic which h may be ente entered red into into or a speci special al circu circums msta tanc ncee that that may arise arise in a particular case. ach case, thus, is required to be considered having regard to the fact situation situation obtaining therein and having regard to the e)istence of any special arrangement arrangement or special circumstance.53
36 $arclays $ank v. Ruistclose Investments C0134D (- 2<3
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Kirectors owe no fiduciary or other duties to individual members of their company in directi directing ng and managi managing ng the company companyOs Os affairs affairs,, acquir acquiring ing or disposi disposing ng of assets assets on the companyOs companyOs behalf, entering into transactions transactions on its behalf, behalf, or in recommendin recommending g the adoption by members of proposals made to them collectively. If directors mis&manage the companyOs affairs, they incur liability to pay damages or compensation to the company or to make restitution to it, but individual members cannot recover compensation for the loss they have respectively suffered by the consequential fall in value of their shares, and they cannot achieve this indirectly by suing the directors for conspiracy to breach the duties which they owed the company. However, there may be certain situations where directors do owe a fiduciary duty and a duty to e)ercise reasonable skill and care in advising members in connect connection ion with with a transact transaction ion or situatio situation n which which involv involves es the company company or its busine business ss undertaking and also the individual holdings of its members.K 5:
In Da-son nternational %lc vs. Coats /atons %lc 5> was relied upon upon holdin holding g that that the irectors are, in general, under no fiduciary duty to shareholders and in particular current shareholders with respect to the disposal of their shares in the most advantageous way as directors are not their agents and as such are not normally entrusted with the management of their shares. It was, however, observed that if the directors take it upon themselves to give advice to current shareholders they have a duty to act in good faith and not fraudulently nor can mislead the shareholders whether deliberately or carelessly, in which event, they may have a remedy. ( distinction, thus, has been carved out as regards the fiduciary duty of the directors with regard to the property and funds of the company as contra&distinguished from the duty of directors to current shareholders as sellers of their shares. In case of conflict between two interests, inter ests, the companyOs interest must be protected. protecte d. The directors, however, will have a fiduciary relation if they have taken unto themselves the burden of giving advice to current shareholders.
37 #upra, 03 38 In /enningtonOs -ompany !aw |
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The aforement aforemention ioned ed princi principle pless of law found favour favour with with the -ourt in 'eedle ndustries (ndia) Ltd. nd 6thers Vs. 'eedle ndustries 'e-ey (ndia) Holding Ltd. 4: wherein it was
held= K8here directors of a company seek, by entering into an agreement to issue new shares, to prevent a majority shareholder from e)ercising control of the company, they will not be held to have failed in fiduciary duty to the company if they act in good faith in what they believe, on reasonable grounds, to be the interests of the company. If the directorsO primary purpose is to act in the interests of the company, company, they are acting in good faith even though they also benefit as a result.K
In *a?a? uto Ltd. v. '.2. #irodia and nother 49, the -ourt -ourt was concerne concerned d with with the discretionary e)ercise of power by the irectors in terms of #ection 00095; of the -ompanies (ct. In the light of refusal by director to register a transfer, the -ourt held that it is necessary for the directors to act bonafide and not arbitrarily in the following terms= K (rticle 2+ of the appella appellant nt compan company y provid provided ed that that the irecto irectors rs might might at their their absolu absolute te and uncont uncontrol rolled led discr discret etio ion n decli decline ne to regi registe sterr any tran transfe sferr of share shares. s. iscr iscret etio ion n does does not not mean mean a bare bare affirmation or negation of a proposal. iscretion implies just and proper consideration of the proposal in the facts and circumstances of the case. In the e)ercise of that discretion the irectors will (ct for the paramount interest of the company and for the general interest of the shareholders shareholders because the irectors irectors are in a fiduciary fiduciary position both towards the company company and towards every shareholder. The irectors are therefore required to act bona fide and not arbitrarily and not for any collateral motive.K This -ourt therein also applied the bona fide test of the irector irector and for the benefit of the company as a whole. whole. In that case, the directors assigned reasons which were tested from three angles view, vi@., 9i; whether the directors acted in the interest interest of the company> company> 9ii;, whether whether they acted on a wrong principle> principle> and, 9iii; whether they acted with an oblique motive or for a collateral purpose. It was observed in ;@s. Harinagar ugar ;ills Ltd. v. hya$ under 7hun?hun-ala 8 6thers 4 that the action of
the directors must be set s et aside if the same was done oppressively, capriciously, capriciously, corruptly or in some other way mala&fide. In this case, this -ourt is not faced with such a situation. The $oard has observed that it is universally recognised that the director of a company stands in a 40 901:0; 5 #-- 555 41 C90134; + #-- 224D 42 C901<+; + #-% 551D
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fiduciary capacity with the company> the e)tent of his fiduciary duties is not codified by any statute and is tested on the facts of each case.
CO*CLUSIO* The liability of a director arising under the above and any other laws can be mitigated by delegating the responsibility to some other officer of the company, company, provided however the director could be held liable if his knowledge, consent or attribution to the offence is established. The company in respect of the negligence, default, breach of duty, misfeasance or breach of trust tr ust may ma y indemnify director, if he has acted honestly and reasonably in discharge of his duties. In principle, the company is bound to indemnify the director against the consequences of all lawful acts done by him in e)ercise of the authority conferred upon him. (ccoun (ccountab tabilit ility y is an import important ant element element of $oard $oard effecti effectiven veness. ess. There There should should be some some mechanism for evaluating the performance of the directors. The e)tent of liability of a director would depend on the nature of his directorship. inally, I would like to make note that for prosecuting a person 9whether a company or a natural person; some ne)us must e)ist between the offence committed and the person charged B held responsible for the offence. (s stated herein above, in some cases, the statute itself clearly identifies identifies the person who will be held responsible responsible for the commission commission of an offence, offence, and in other cases much depends on the prosecution’s establishing a case against such person. In the current Indian scenario, one is observing renewed force and attention being given to norm normss of good good corp corpor orat atee gove govern rnanc ancee and and a depr depreca ecati tion on of corp corpor orate ate misfe misfeasa asanc ncee B malfeasance. malfeasance. "nfortunately "nfortunately,, however, however, there is no codified law 9other 9other than provisions provisions of the -ompan -ompanies ies (ct; that that could could define define clearly clearly the roles roles and respons responsibi ibiliti lities es of a 6anagi 6anaging ng irector specifically in this conte)t of corporate governance. However given the fiduciary nature of a irector’s position, it is obligatory for a irector to act, at all times, in a reas reason onab able le and and resp respon onsi sibl blee mann manner er and and in the the inte intere rest st of a comp compan any y as well well as its its shareholders.
BIBLIO2RAP4Y
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Boo%s Referre8'
6(7"6( 6(7"6(%, %, (.G., (.G., ( ( G(/EE% G(/EE%,, %. A.G., A.G., -E6/( -E6/( !(8 !(8 ( ( /%(-TI /%(-TI-, -, Ta)mann Ta)mann /ublications 9/; !td., ew elhi, 05 th ed, +44: #IAH, r. (FT(%, /%I-I/!# E 6%-(TI! !(8, :0:, astern book -ompany, !ucknow, 3 th ed., +442 #IAH, r. (FT(%, -E6/( !(8, 02th edn, $-.
Halsbury’s !aws of ngland, L(gency’, ? th edition, +404.
/ollack J 6ulla, Indian -ontract and #pecific %elief (cts, 05 th edition, +404.
(, %amaiya, %a maiya, A"I TE TH -E6/(I# (-T, (-T, /(%T /(%T 0 90< th ed. +44:;
Wesites Referre8' www.readycompanies.com www.narasappa.com www.companydirectors.com businesshelp.lloydstsbbusiness.com
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