LECTURE 7 DIRECTOR AND DIRECTOR’S DUTIES II

Directors’ Duties
- Agency Relationship
- General Law: CO s.465
- Statutory: e.g.: CO Part 11 on Fair Dealing
- Non-Statutory: CR Guide on Director’s Duties)
- Fiduciary Duties
• Duty to act bona fide (in good faith) in the interests of the company
• Duty to exercise powers for proper purposes
• Duty to avoid conflict of interests

Proper Use of Directors’ Powers

- The directors are not required to make the best possible decision, but the powers of
directors are limited insofar as:
• they are made in good faith for the benefit of the company (subjective and a
question of fact) AND;
• they have been exercised for a proper purpose (objective test determined by
looking at the primary purpose v. proper purpose of power).

1. Duty to act bona fide in the interests of the company

In Re Smith and Fawcett Ltd (1942)
- Art 10: The directors may at any time in their absolute and uncontrolled discretion
refuse to register any transfer of shares ...
- Facts: The issued capital of the company consisted of 8002 ordinary shares, of which
the two directors of the company, F and S held 4001 each. F died, and his son as his
executor applied to have the testator's shares registered in his name. S refused to
consent to the registration but offered to register 2001 shares and to buy 2000 at a
fixed price.
- Held: S did not breach his fiduciary duty. [Lord Green MR: that directors are bound
to exercise the powers conferred upon them “bona fide” in what they consider – not
what the court may consider is in the interest of the company.
What is “the interests of the company” in insolvency?
Kinsela v Russell Kinsela Pty Ltd (1986) 4 NSWLR 722
- Facts:
• The company had leased one of its properties to two of its directors (a couple)
with an option to purchase when the company was insolvent. The term of the
lease was commercially questionable.
• The transaction was approved by all of the shareholders with informed
consent. An action was taken by the liquidator.
- Held:
• Transaction voidable – it was entered into by the directors in breach of their
duty to act bona fide in the interests of the company.

2. Duty to exercise powers for proper purpose

Extrasure Travel Insurances Ltd v. Scattergood and Another [2003] 1 BCLC
598
- Objective assessment: 4-stage test (“Dominant Purpose Test”)
1. Identify the power whose exercise is in question.
2. Identify the proper purpose for which the power was delegated to the directors.
3. Identify the substantial (special) purpose for which the power was in fact exercised;
AND
4. Decide whether that purpose was proper.

2. Duty to exercise powers for proper purposes

Howard Smith v Ampol Petroleum Ltd [1974] AC 821
- RW issued $4.5m new shares to H
- Consequences of issuance of shares to H:
1. RW had extra capital
2. A+B 55%-> 36.6%
3. H positioned to takeover M Ltd
- Apply the Dominant Purpose Test:
1) Identify the power used by directors
- Allotting shares
2) Identify the proper purpose for which that power was delegated to the board of
directors
- Raise capital
3) Identify the substantial purpose for which the power was in fact used
- Destroying an existing majority/creating a new majority
4) Decide whether that purpose is proper
- No
- Similar to the case of Hogg v Cramphorn Ltd [1966] 3 All ER 420
3. Duty to Avoid Conflict of Interests
- Fiduciary duty requires fiduciaries to put their principals’ interests ahead of their own;
it requires fiduciaries to act altruistically.
- Unless a fiduciary has his principal’s prior informed consent, he cannot enter any
transaction that involves a conflict between his personal interests and his management
duties (conflict rule) and cannot profit in any secret way from his position (profit
rule).
• “informed” -> disclosure duty
• “consent” -> prior approval

3. Duty to Avoid Conflict of Interests - Disclosure

Disclosure duty at general law
- Disclosure of conflict of interest must be made - Furs Ltd v Tomkies (1936) 54 CLR
583.
- Effects of non-disclosure: transaction voidable at the election of the company.
- The general meeting or the articles can modify the duty by requiring disclosure to be
made to the board only.
- CO s.536 Director must declare material interests to other directors.
- A director or shadow director who contravenes s.536 commits an offence and is
liable to a fine.

4. The director’s statutory and equitable duty to disclose

Man Luen Corp v Sun King Electronic Printed Circuit Board Factory Ltd
(1981)
- Compliance with statutory obligations does not mean there is compliance with
equitable obligation.
- Directors need to disclose both to the general meeting and the board. “Section 162
[s536 of New CO] of Companies Ordinance (Cap 32) merely supplemented the duties
imposed by the general law upon directors.... Strict compliance of the general law on
disclosure at shareholders’ meeting was required.” Otherwise, he is bound to account
to the company the profit obtained.
- It is irrelevant that the transaction was fair for the company (Aberdeen Railway Co v
Blaikie (1854) 1 Macq 461) B agreed to manufacture iron chairs for the railway
 company and sued to enforce the contract. Railway company argued it was not bound
because the chairman of the board was a managing partner of B. The railway
company was entitled to avoid the contract.)

No-Conflict Rule
Transvaal Lands Co v New Belgium (Transvaal) Land and Development Co
[1914] 2 Ch 488
• H and S had a beneficial interest in a NB which sold shares to T which he was a
director, H took part in the decision to make the purchase.
• Held: The transaction can be set aside because of non-disclosure.
• No-conflict rule can be breached irrespective of the extent of the adverse interest.

Profit Rule
Regal (Hastings) Ltd v Gulliver [1967] 2 AC 134
- Facts:
• The proposed sale of the cinema and leases fell through – instead, what was
sold was the shares in both the holding co and the subsidiary owned by
individual shareholders – they were sold at a profit of £2.16 per share.
• Regal sued directors and alleged that they had obtained that profit by using
their offices as directors and solicitor and were therefore accountable for it to
Regal, and also that in so acting they had placed themselves in a position in
which their private interests were likely to be in conflict with their duty to
Regal.
- Held:
• Directors are in breach of their fiduciary duties and should account profits to
Regal.

Business Opportunity
- Duty to avoid conflict of interests prevents a director pursuing opportunities for
himself that he has a duty to pursue for the company.
- A director is barred from taking up opportunities he comes by because of his director
role i.e.: he learns of a business opportunity in the capacity of a director. [See
Industrial Development Consultants Ltd v Cooley C[1972] 2 All ER 162.]

Liability for breach of duty

- A director in breach of his duties and the breach has not been disclosed/ratified by a
company, and action may be brought for one or more of the following
remedies(solutions):
• Account of profits (independent of whether company has suffered any loss)
• Rescission (s.118 CO)
• Injunction (to prevent it from happening)
 • Damages

Companies Ordinance Fine Level

Criminal Procedure Ordinance (Cap 221), Schedule 8. The court has the discretion to impose
a fine of up to the following amounts:
- Level 1 HK$2,000;
- Level 2 HK$5,000;
- Level 3 HK$10,000;
- Level 4 HK$25,000;
- Level 5 HK$50,000 and;
- Level 6 $100,000 under the CO.