The effect of the new Companies Act on boards and directors

Mark Fiandeiro

Article published with the kind cooperation of BKM Attorneys: For more information visit www.bkm.co.za

This article will outline the major impact of the New Companies Act 71of 2008 (“the Act”) on the responsibilities of boards and directors. Part 1 of this 2 part commentary will focus on the obligations and structure of boards as well as the responsibilities of boards and directors.

1. THE BOARD’S MISSION

For any business to succeed it needs good governance. It requires performance with conformance. In order for this to become a realization, one must be mindful of the key responsibilities and risks of directors in relation to the New Companies and other legislation, such as the Competition Amendment Act, the Consumer Protection Act, Protection of Personal Information Bill, Electronic Communications and Transactions Act and the Insolvency Act.

The duty of every company, whether a profit company or non-profit company is to survive and prosper by offering products and services that meets the needs of the marketplace. For this to happen a company has to have a business plan that is sustainable and viable. The aim of every company is to operate in the best interest of the shareholders and to this end, shareholders appoint boards of directors. Because a company is a separate legal entity, boards of profit companies have 2objectives:

i) To operate in the best interest of the shareholders; and
ii) To operate in the best interest of the company.

In order to achieve these goals, there has to be a framework of corporate strategy and corporate governance. The corporate strategy addresses the strategic decisions of choice of business plan, legal ownership entity, capital structure and having a strategic plan that will ensure the long-term sustainability of the company. What corporate governance aims to address is the implementation and execution of the corporate strategy as managed by the board of directors in terms of conformance and performance benchmarks.

2. THE DUAL ROLE OF DIRECTORS

Directors have two roles to play in a business environment. On one hand, directors are the agents of the shareholders. Their primary responsibility is to act in the best interest of the shareholders and the main goal is to maximise shareholder wealth. This is to ensure a return on shareholder investments greater than the cost of capital. On the opposite hand, directors are the trustees of the company. Their principal duty is to act in the best interest of the company itself. They act in a fiduciary capacity in relation to this objective. Thus they are accountable to the shareholders and responsible to the company.

This dual role of agent to the shareholder as well as trusteeto the company can only be satisfied if the best interest of the company is equated with the best interest of the shareholders.

3. THE CORRECT STRUCTURE OF THE BOARD

The correct board structure is therefore vitally important to ensure the alignment of the interests of the shareholders and the company. Secondly, the operations of the business are to be effectively managed, not in the best interest of the executives and managers, but rather in the best interest of the shareholders and the company. In light of this it is good corporate governance to have a board that consists of both executive and non-executive directors that will aim to include independent directors. This will ensure a clear separation of ownership from control and related goals, activities and reward structures.

In terms of section 66 of the Act, every company must appoint a board of directors:

– in the case of a private company or personal liability company, a minimum one director;
– in the case of a public company or a non-profit company, a minimum three directors.

4. RESPONSIBILITIES OF THE BOARD

In the Companies Act of 1973, the foundation of assessing the company’s financial position was the capital maintenance system. This impacted on whether the company could operate under insolvent conditions, possible liquidation, subordination agreements and the company’s inability to finance the acquisition of its own shares.

In the Act however, the existence and longevity of the company is determined by it meeting one test – the solvency and liquidity test. This test combines the two financial notions of success and survival. Solvency is the total financial state and position of the company. It relates to the net asset value or net worth of the business, where assets are valued at their market values and realisable values.

Liquidity is the other side of the solvency coin and is used in the following different ways:

1. It is used to describe the nature of a company’s asset holdings or mix. In other words how easily assets can be converted into cash.

2. It is used to describe the connection between a company’s liquid assets and its short-term liabilities. This is simply the firm’s ability to meet its short-term financial obligations when and as they become due and payable.

An insolvency audit or verification has to be focussed on the bigger picture of solvency long-term survival and sustainability and the short term picture of the firm’s capacity to pay its short-term obligations. The Act requires the need to have one test that incorporates both solvency and liquidity.

5. THE RESPONSIBILITIES OF DIRECTORS

A unique feature of the Act is the general duties of directors have now been codified. However, it is not entirely complete because the Act does not entirely exclude the application of the common law. The principal duties of directors are set out in Section 76:

While a director must still disclose any conflict of interest he has in relation to a matter before the board, as was previously the case, the notion of a conflict of interest has been extended to include a personal financial interest of a person related to the director and such a director may not take part in the board’s deliberation of that matter. A director may not use his position as director or any information gained in that capacity to:

(a) gain any sort of advantage for himself or any person other than the company or one of its wholly-owned subsidiaries; or

(b) knowingly cause harm to the company or any of its subsidiaries.

A director must communicate to the company any information that comes to his attention, at the earliest practicable opportunity, except where:

(a) he is bound not to make that disclosure by any legal or ethical obligation; or

(b) he reasonably believes that the information is not material to the company or is generally available to the public.

When acting in his capacity as a director, a director is required exercise his powers and perform his functions:

(a) in good faith and for a proper purpose;

(b) in the best interests of the company; and
(c) with the degree of care, skill and diligence that may reasonably be expected of a person carrying out those functions and having that director’s general knowledge, skill and experience.

Part 2 of this article will focus on more specific responsibilities and duties in terms of the Companies Act, board structure and corporate administration, the liability of directors and other key areas.

Written and prepared by

Mark FiandeiroBOUWER KOBELI & MORABE

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