Directors' Duties - What Directors Need to Know

In New Zealand, there are few prohibitions on who can become a director of a company, and no real qualification requirements.  This means that some people become directors without actually understanding what their role requires.  This can result in a company not being managed and governed as required by the Companies Act 1993 ("Act"), which in turn can lead to a breach of duty, which can have very serious consequences, up to and including personal liability for company debts or even criminal sanctions in the worst of cases.

This brief article simply provides an overview on a director's core duties under the Act.  Over time, we will be adding (as links) more specific articles relating to those duties and how New Zealand Courts have dealt with breach of duty cases before them.

It is very important to be aware that Section 138 of the Act allows a director to rely on professional and expert advice given by certain persons when exercising powers or performing duties as a director – professional or expert advice can assist in avoiding a breach of duty, although only where the director acts in good faith in relying on that advice, makes proper inquiry where the need for enquiry is indicated by the circumstances, and has no knowledge that such reliance is unwarranted.

Article:    Company Law:  The importance of professional advice

Section 131:    Duty of directors to act in good faith and in best interests of the company

Subject to exceptions set out in Section 131, a director of a company, when exercising powers or performing duties, must act in good faith and what the director believes to be in the best interests of the company.

The exceptions relate to allowing directors of subsidiary companies to favour the interests of the parent company (if that is expressly permitted by the constitution of the company) or for joint venture shareholders to act in the best interests of shareholders (if expressly allowed by the constitution of the company).

Section 132 provides that Section 131 does not limit the power of a director to make provision for the benefit of employees of the company in connection with the company ceasing to carry on the whole or part of its business, although the provision made for employees must comply with the Act and be exercised for a proper purpose.

Article:     Section 131:  Acting in good faith and in the best interests of the company

Article:     Mike Pero

Section 133:    A director must exercise a power for a proper purpose

Section 134:    Directors to comply with Act and constitution

A director must not act, or agree to the company acting, in a manner that contravenes the Act or the constitution of the company.

Article:     Mike Pero

135    Reckless Trading

A director of a company must not -

(a)    Agree to the business of the company being carried on in a manner likely to create a substantial risk of serious loss to the company's creditors; or

(b)    Cause or allow the business of the company to be carried on in a manner likely to create a substantial risk of serious loss to the company's creditors.

Article:     Reckless Trading - Case Studies

136   Duty in relation to obligations

A director of a company must not agree to the company incurring an obligation unless the director believes at that time on reasonable grounds that the company will be able to perform the obligation when it is required to do so.

137    Director's duty of care

A director of a company, when exercising powers or performing duties as a director, must exercise the care, diligence, and skill that a reasonable director would exercise in the same circumstances taking into account, but without limitation, -

(a)     The nature of the company; and

(b)     The nature of the decision; and

(c)     The position of the director and the nature of the responsibilities undertaken by him or her.

Criminal Offences:

Section 138A:  Offence for serious breach of director's duty to act in good faith and in best interest of the company

(1)    A director of a company commits an offence if the director exercises powers or performs duties as a director of the company -

        (a)    in bad faith towards the company and believing that the conduct is not in the best interests of the company; and

        (b)    knowing that the conduct will cause serious loss to the company.

(2)    However, a director does not commit an offence under subsection (1) if the power or duty in question is exercised or performed under any of Section 131(2) to (4) or is a power exercised under Section 132.

(3)    A person who commits an offence under this section is liable on conviction to the penalties set out in Section 373(4).

This section is a relatively new addition to the Companies Act 1993 – it is uncertain when a director wholly favouring their own interests and causing loss to a company as a result may become criminally liable under this section – however, it is best to always act in accordance with advice and the duties set out previously in this article to avoid a potential prosecution.  The penalty for being found to have committed an offence under this section is a maximum five years in prison or a fine not exceeding $200,000.00.

Section 380:  Carrying on business fraudulently or dishonestly incurring debt

Among other dishonesty offences, Section 380(1) provides:

(1)    Every person who is knowingly a party to a company carrying on business with intent to defraud creditors of the company or any other person or for a fraudulent purpose commits an offence and is liable on conviction to the penalties set out in Section 373(4) of this Act – which provides the same potential penalties as a     contravention of Section 138A (mentioned above).

Please kindly direct any enquiries to:

Andrew Knight on (09) 306 6730 (aknight@mcveaghfleming.co.nz)

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