Duties and Responsibilities of Directors

Duties and Responsibilities of Directors

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Duties and Responsibilities of Directors

Introduction

The job of a company director is to run the business the shareholders’ behalf. A range of tasks that directors owe to the corporation arise from this function and the powers that come with it. Essentially, directors are obligated to use their authority in the company’s best interests (Council, 2014). There are many obligations that a director will be obliged to comply with based on the organization’s structure and size. Many of these responsibilities impose enormous onus on the director to act in a certain manner – and failing to do so might result in serious consequences. Directors are responsible for acting in the firm’s best interest. This implies that the actions of the director must be in the best interest of everyone involved with the company (Council, 2014). However in some cases, they are allowed to take into account other interests like the interests of creditors, an individual member, employees, subsidiaries, other corporate groups, and the broader community. While a director may occasionally take into account the interest of a particular party which might be contradictory with the interests of other groups, their ultimate decision should be based on their ideas about the actions that will be in the company’s best interest.

Corporate Governance

Corporate governance refers to a set of rules, laws, and practices which manage and regulate the general behavior of the firm. In essence, corporate governance is a structure which defines the relationship that exists between the management of the company, shareholders, the directors, and other stakeholders (Cheffins, 2015). The corporate governance’s primary goal is to make sure that a company is ran ethically and legally and that the director is held accountable for his actions in the event that he acts against the firm’s interest or the members’ interest. The conception of what makes up a good corporate governance continues to be developed (Hussain, Ahmad, & Hassan, 2019). The aim is to incentivize the directors of the company to balance their duties to the stakeholders of the company with the community’s interest at large, particularly in relation to acting in a responsible and ethical manner. There are several mechanisms which play a vital role when it comes to corporate governance by making sure that firms are controlled and directed in a way that promotes and protects the interest of every stakeholder and participant (Chintrakarn et al. 2016). Evidently, each mechanism has a different level of influence based on the type of organization. Some of the mechanisms might lack relevance depending on the structure of that particular company.

The duties of a director are regulated particularly to make sure that directors not only conduct themselves in ways that would benefit the entire company, but also to make sure that the directors act in the benefit of the stakeholders of the company, both collectively and individually (Hussain, Ahmad, & Hassan, 2019). Some corporate governance’s mechanisms will influence particular type of firms more than it impacts others. For instance, the duties of directors that the statute imposed are not easily avoided without consequences and therefore, carries obligations on directors of every type of company while company directors listed on the Australian Stock Exchange will have requirements and duties that relates only to companies that are large and publicly listed (Ng’eni, 2015). The practice of good corporate governance including to ensure that directors are adhering to the imposed obligations through their duties as directors, aims to boost the investors’ confidence. Through this, the general economic growth is boosted as well as stability.

The Duties of Company Directors

In the process of performing their assigned roles, company directors are subject to fiduciary, statutory, and common law duties. They are also subject to the regulations that are stipulated in the constitution of the respective company (Mees & Smith, 2019). Many of such duties tend to overlap and if they breach such duties, the directors can face severe consequences. In some cases, if they breach their duties, it can lead to them being held liable the company’s debts.

Duty of Care and Diligence (Corporation Act section 180)

It is the duty of company directors to act with some level of care and diligence that a reasonable human is expected to exhibit in this role. To be precise, this means that company directors are required to exercise the power they have and discharge their duties with some level of care and diligence expected of a reasonable person who would occupy the same position (Mees & Smith, 2019). That is, having the same powers and responsibilities within the company. In addition, it is the duty of a director to take reasonable steps needed for the prevention of compliance failures in cases where potential failures create predictable risk of harm to that particular company. In essence, for any omission or act of a director to be capable of instituting a violation of section 180, there must be predictable risks of harm that could affect the company’s interest and to which a director did not prevent.

Duty of Good Faith and the Interest of the Company (Corporations Act section 181)

Company directors also have a duty to not only act in good faith, but also to act in the company’s best interest. They must also exercise their duties and powers for proper purposes. It includes ensuring that they avoid conflict of interest and revealing and management of conflicts whenever and if they come up (Mees & Smith, 2019). At the least, their duty of acting in good faith requires that directors should act in a way that they honestly believe are in the company’s best interest. Moreover, the general conduct of a director can be evaluated by reference to what another reasonable director would consider to be proper in the same circumstances, in the same position.

Duty to Not Improperly Use Information (Corporations Act section 183)

It is the duty of company directors to refrain from improperly using the gained information by virtue of the position they hold in the company in order to gain an unmerited advantage for either oneself or others, or to cause harm to the company in some way (Mees & Smith, 2019). Frequently, this duty tends to overlap with the directors’ duty to refrain from using their position for inappropriate purposes. It commonly arises in matters that involve insider trading.

Duty to Prevent Insolvent Trading (Corporations Act section 588G)

A director has a duty to make sure that the company operates as economically sustainable and efficient as possible. A part of this duty involves to make sure that the respective company has the adequate resources needed to pay the debts that it has (Mees & Smith, 2019). This duty is a major indicator to find out if a company is solvent or not. Companies are prohibited from trading activities while they are insolvent. In that case, it is the duty of company directors to ensure that insolvent trading is prevented (Mees & Smith, 2019). In general, if a particular company trades while insolvent, the director/s will be held liable for the losses and debts that the company incurs. If they breach this duty, the ASIC may either impose fines or disqualify one from assuming the position of a director.

Duties relating to financial reporting (Corporations Act chapter 2M)

A company director has a duty to keep financial records that reflect the financial transactions of the firm as well as the company’s financial performance and position. In addition, the director has a duty to prepare financial statements that reflect the company’s fair and true financial position (Mees & Smith, 2019). If the company is listed, this duty tends to extend to constant disclosure of information which might affect the share price of the company, including availing this information to the stock market.

Defenses

Even with the duties listed above, there are accepted defenses that directors of a company are allowed to use in case something does not go right. In the duty of care and diligence case, the director who makes a “business decision” in good faith after taking into account every relevant material, where there is lack of personal interest in such a decision and in the case in which they believe the decision made is in the company’s best interest, are protected from being prosecuted. In the case of a company being insolvent, the defense in based on whether or not the director reasonably believed that the respective company was not insolvent or that he took every reasonable step to save the company from insolvency. Alternatively, if a director does not engage in the company’s management because of illness, he is protected as well. The Corporations Act as of the 19th of September, 2017, provides directors with safe harbor for insolvent trading. With this, a company is allowed to trade despite being insolvent under specific circumstances.

Responsibilities of Directors to Shareholders

One of the basic responsibilities that directors have to shareholders is in relation to their fiduciary duties which includes the duty of loyalty, care, and obedience. Such duties mandate directors to place the company’s best interest ahead of their own personal interests (Post & Byron, 2015). They are required to make decisions on behalf of the company and for the company and must act in a way that a prudent person would act. The duty of obedience mandates directors to make sure that the respective company complies with every law and regulation. The other responsibility of directors to shareholders is composing and maintaining an independent, diverse, and increasingly competent board. A sound decision making can only come from different perspectives. Shareholders are required to be sure that the board of directors responsible for overseeing the operations of a company is up to the task and well-qualified (Fernández-Gago, Cabeza-García, & Nieto, 2016). The board is required to take minutes during meetings to detail the issues being worked on. At times, shareholders tend to request copies of the minutes recorded during board meetings if they want to be sure that the directors are actively fulfils their duties of strategic planning and oversight. This, however does not imply that shareholders can direct the issues that the board of directors have chosen to address or how issues are prioritized.

Shareholders want to be sure that the company is financially strong and that it continues to prosper and grow. Therefore, it is the responsibility of the directors to create a short-term plan to ensure that there is sustainability (Post & Byron, 2015). Furthermore, the shareholders want to see that there is a long-term growth within the company. That way, they are sure that there is continued prosperity and security. Therefore, the directors are responsible for oversight of every department and the corporation’s aspect. The responsibilities include ensuring that operations run efficiently, company’s operations and purpose align, there are no fraud incidences, and they communicate the culture of the company, and oversee every department and company operations.

Thanks to the yearly audit, the shareholders can have a clear picture of the financial status of the company. Directors are held accountable to the shareholders when it comes to conducting audit (Post & Byron, 2015). The audit should be timely, complete, and accurate. In the contemporary business world, shareholders want readable, concise, and easily understandable financial records. The directors are also responsible for appointing, monitoring, and dismissing senior management executives including the CEO. Shareholders expect the senior management executives to be knowledgeable, competent, and capable of conducting the company’s strategic plans. The directors owe it to the shareholders the provision of the needed senior management oversight.

The reputation of the company is of importance to the shareholders. Therefore, they rely on the directors to protect it from any form of fraudulent activities, negative publicity, and issues that are capable of harming the reputation of the company (Nottage & Aoun, 2015). Board of directors work to identify any reputational risk that could lead to the company losing revenue, increase in cost of operation, and damage to shareholder value. On top of the fact that shareholders have more say in the decisions of the board, a place in which roles are a bit blurry is that some shareholders are normally a part of the senior management. At times, shared roles can cause problems when shareholders and boards do not share similar perspectives on long-term and short-term strategies.

Sanctions for Breaking the Laws that Cover Director’s Duties

Under Australian law, directors that fail in their duties and responsibilities can either be fined or be subjected to criminal or civil penalties. The civil sanctions can include huge fines of up to a million dollars or three times the benefit that has been acquired from the breach (Nottage & Aoun, 2015). Additionally, the respective directors can be sued by creditors or shareholders. If at all the breach was dishonest and intentional, the respective director can be liable for criminal charges. They can be fines or be incarcerated for five to ten years. If one fails in his duty as a director, they risk being removed from that position and may even be banned from serving as director of any company for a long time. Although some organizations insure their directors, it does not cover dishonest behaviors on the part of the director.

Criminal sanctions

Infringement of some duties under the Corporations Act institutes a criminal offence. For instance, a director’s violation of the duty of good faith or inappropriate use of position or information, involving recklessness or dishonesty, is punishable by significant fines and possible sentence of up to fifteen years (Nottage & Aoun, 2015). Also, it is unlawful for a company to insure its executives against legal costs and any financial penalties for this behavior.

Civil sanctions

An infringement of duties under the Corporations Act makes a director liable to a significant fine (Nottage & Aoun, 2015). Shareholders or creditors can also take legal actions against the directors that have not complied with their duties.

Disqualification

Both the courts and the ASIC can disqualify a director for an extended period of time for failing to comply with their respective duties under the Corporations Act (Nottage & Aoun, 2015). A directors is automatically disqualified on conviction of some serious offence or an undischarged bankruptcy.

Commercial consequences

The most serious consequence of infringing the duties of a director is the commercial one rather than the legal one. The most valuable asset of a company is its reputation. The firm will most likely be a subject of greater scrutiny by regulators and investors (Nottage & Aoun, 2015). At worst, the reaction of the stakeholders and the market may imply that the respective firm may cease to exist. Such commercial consequences can occur even before a ruling from a judge.

Relationship with other Corporate Stakeholders

The relationship that exists between directors and the company stakeholders is fiduciary in nature. This means that the former undertakes to act not only in the company’s interest but also the interest of the stakeholders (Hussain, Ahmad, & Hassan, 2019). The dominant duty of a fiduciary tends to be the undivided loyalty obligation. The director is obligated to act in good faith, honestly, and to the best of his ability in the interest of all the stakeholders. Moreover, the directors should never allow personal advantages or contradictory interests to supersede the interest of the stakeholders. Nor should they take part in board deliberations if they have personal duties or interests that may conflict with those of the stakeholders. While directors are normally said to make idealistic decisions for which they take idealistic responsibility, the Australian law tends to impose individual duties on a director.

References

Cheffins, B. R. (2015). Corporate governance since the managerial capitalism era. Business History Review, 89(4), 717-744.

Chintrakarn, P., Jiraporn, P., Kim, J. C., & Kim, Y. S. (2016). The effect of corporate governance on corporate social responsibility. Asia‐Pacific Journal of Financial Studies, 45(1), 102-123.

Council, A. C. G. (2014). Corporate Governance Principles and Recommendations, 3rd edition (ASX, Sydney).

Fernández-Gago, R., Cabeza-García, L., & Nieto, M. (2016). Corporate social responsibility, board of directors, and firm performance: an analysis of their relationships. Review of Managerial Science, 10(1), 85-104.

Hussain, S., Ahmad, T., & Hassan, S. (2019). Corporate Governance and Firm performance using GMM. International Journal of Information, Business and Management, 11(2), 300-316.

Mees, B., & Smith, S. A. (2019). Corporate governance reform in Australia: A new institutional approach. British Journal of Management, 30(1), 75-89.

Nottage, L., & Aoun, F. (2015). The Rise of Independent Directors in Australia: Adoption, Reform, and Uncertainty. U. Miami Int’l & Comp. L. Rev., 23, 571.

Ng’eni, F. B. (2015). The corporate governance and firm performance: A review of existing empirical evidence. Corporate Governance, 7(33).

Post, C., & Byron, K. (2015). Women on boards and firm financial performance: A meta-analysis. Academy of management Journal, 58(5), 1546-1571.