Legal guide for company directors and CEOs in Kenya

BREAKING: Coronavirus (COVID-19) considerations for directors

1. What are the key issues for directors during the COVID-19 crisis?

Restriction of movement: Directors may face challenges holding meetings in the normal way due to the social distancing guidelines imposed by the government of Kenya (the “government”). Therefore, directors of private companies have now been forced to hold virtual/electronic meetings and pass decisions by way of written resolutions subject to any prohibitions in the company’s constitution. Following a recent High Court ruling, public companies are also able to hold virtual/electronic meetings subject to a “no objection” confirmation received from the Capital Markets Authority.

Labour relations: Under the Occupational Safety and Health Act of 2007, employers have a duty to ensure the safety, health and welfare of workers and all persons lawfully present in the workplace. Employers also have a duty to give relevant safety and health information to persons other than employees who may be affected by the employer’s business operations. For instance, if an employee has symptoms of COVID-19 or tests positive for the virus, the employer has an obligation to inform the government as well as persons who have been in contact with the employee of that fact. Further, the employer must protect the employees’ welfare, for instance by providing washing soap or sanitizers and ensuring that measures are taken to adhere to social distancing directives. Under the new Public Health (Covid-19 Restriction of Movement of Persons and Related Measures) Rules 2020, any employer who contravenes these or other rules is guilty of an offence and may on conviction be liable to a fine not exceeding twenty thousand shillings or to imprisonment for a period not exceeding six months. Employers are also required under the Public Order (State Curfew) Variation Order 2020 to allow all staff who are not designated as critical or essential service providers to leave the workplace by no later than 16.00hrs for the duration of the dusk-to-dawn curfew which was imposed on 27 March 2020. From 25 April 2020, this period was extended indefinitely. This variation of working hours has far-reaching impacts on businesses, especially those that are heavily dependent on their workers working shifts. Companies with unstable cash flows, especially small and medium-sized enterprises (SMEs), have had to lay off employees or require some of their employees to take unpaid leave indefinitely.

Business agility: Many companies have been forced to scale down operations or close down following the restrictions put in place by the government to ensure there is minimum movement. The few who are able to carry on have had to realign their businesses to cope. For instance, some companies have now changed their core objectives to making masks and hand sanitizers to maintain cash flow and avoid insolvency.

Solvency: In the wake of the COVID-19 crisis and the economic challenges that come with it, directors now have tougher decisions to make to avoid insolvency and ensure business continuity. To achieve this, the directors must explore viable options such as seeking reliefs under the agreements entered into by the company i.e. force majeure, legal remedies i.e. frustration of contract, taking advantage of concessions available from lenders such as loan repayment holidays/payment extensions and considering feasible restructuring options such as cash calls from shareholders, conversion from debt to equity, among others.

Data protection: Every person has the right to privacy, which includes the right not to have information relating to their private affairs required or revealed. Under the Data Protection Act of 2019, an employee’s medical information is considered sensitive personal data and should not be disclosed. This runs contrary to the Public Health (Prevention, Control and Suppression of Covid-19) Rules 2020, which require employers to report to the authorities any persons in the workplace whom they suspect of exhibiting symptoms of COVID-19 or who has tested positive. This potentially gives rise to a breach of employees’ privacy which could trigger claims against employers.

Immigration: In March 2020, the government declared a partial lockdown by imposing a dusk-to-dawn curfew. All international flights in and out of Kenya were suspended. In April 2020, the government further ordered restriction of movement in and out of the Nairobi Metropolitan area as well as Kilifi, Kwale and Mombasa counties. What followed was the temporary closure or scaling down of services of various government offices, including the Department of Immigration Services. These measures have created a disruption of business for companies which rely on foreign expertise. Companies which have employees whose work permits have expired or are expiring are now faced with challenges in ensuring that such employees can work legally in Kenya, since the government has not addressed the issue of extension of validity of work permits.  

2. What government relief measures have been made available to directors?

Government authorities have issued various relief measures to assist companies during the pandemic. The relevant measures for companies include:

  • reduction of corporation tax rate for resident companies from 30% to 25%
  • reduction of turnover tax rate, payable by every resident person whose turnover from business is more than KShs. 1 million but does not exceed KShs. 50 million during any year of income, from 3% to 1%
  • removal of the requirement to pay presumptive income tax by persons who fall within the turnover tax regime
  • reduction of the standard VAT rate from 16% to 14%
  • lowering of the Central Bank Rate to 7% and the cash reserve ratio to 4.25%
  • temporary suspension of the listing with Credit Reference Bureaus of micro, small and medium-sized enterprises (MSMEs) and corporate entities whose loan account falls overdue or is in arrears
  • proposed suspension of fees, interest or any other penalty by a lending financial institution for non-payment or late payment of obligations through the Pandemic Response and Management Bill 2020.

3. What changes have been made to directors’ duties as a consequence of the COVID-19 crisis?

Given the special circumstances that companies find themselves in during this crisis, the directors not only have a duty to act in the best interest of the company in ensuring business continuity but must also take into account their employees, creditors and other stakeholders’ interests in the management of company affairs. Directors’ focus will now be redirected to planning and putting in place restructuring strategies that will ensure continuity of business after the COVID-19 crisis for the benefit of all stakeholders. This will also help avoid potential lawsuits against companies arising from breach of contract, employment disputes, insolvency proceedings, data protection issues, etc. 

Directors duties and responsibilities

1. What form does the board of directors take?

The board of directors is unitary, typically consisting of executive and non-executive directors. The Companies Act No. 17 of 2015 (the “Companies Act”) does not make a distinction between a management (executive) and supervisory (non-executive) board, and in practice the board acts as one.

2. What is the role of non-executive or supervisory directors?

Ordinarily, non-executive directors enhance the independence and objectivity of the board and provide the necessary checks and balances in the board by contributing independent views to matters under consideration. Board charters of several companies mandate non-executive directors to take a supervisory role by reviewing the executive directors’ and other senior management members’ performance, compensation and succession planning.

3. Who can be appointed as a director?

The Companies Act imposes the following restrictions on who can be appointed as a director:

  • A person is required to be at least eighteen years of age
  • A company may have natural and corporate persons as directors but must have at least one director who is a natural person
  • There are no restrictions as to the nationality of directors
  • No special qualifications or expertise are required for appointment as a director under the Companies Act. This notwithstanding, companies will typically require their boards to ensure that they comprise a diverse mix of skills and expertise critical for effective oversight of the management of the company’s affairs and that only those persons with appropriate professional skills, training and background are appointed as directors.
  • However, the Insolvency Act No.18 of 2015 (the “Insolvency Act”) and the Companies Act prescribe instances where a person may be disqualified from being or acting as a director of a company. These include:
    • conviction of an offence relating to the promotion, formation, management, liquidation or administration of a company
    • conviction of an offence involving failure to lodge returns or other documents with the Registrar of Companies
    • where a person is found to have participated in fraudulent trading by a company in liquidation
    • if the person was a director of a company which became insolvent at the time he/she was a director of the company
    • if the person is an undischarged bankrupt
    • in the case of a foreigner, the person is disqualified under the law of a country or territory outside Kenya because of misconduct, incompetence or mental or physical incapacity.

4. How is a director appointed?

Generally, the first directors of the company are appointed in writing by the subscribers to the company’s memorandum of association.

Thereafter, a person willing to act as a director (upon signing a consent form) may be appointed to be a director by ordinary resolution or by a decision of the directors as provided by the company’s articles of association. A private company is required to have at least 1 director or such higher number as may be prescribed in the articles of association of the company. Where there is more than 1 director appointed, at least one of them must be a natural person. There is no maximum number of directors unless a maximum is prescribed by the articles of association. The Companies Act does not prescribe a term of office; if desired, the company may prescribe the term of office for the directors in its articles of association.

A parent undertaking has the right to appoint or remove a majority of the board of directors holding a majority of the voting rights at meetings of the board on all or substantially all matters in a subsidiary undertaking.

An administrator may also appoint and remove a director from office where the company is under administration.

The company must notify the Registrar of Companies of the appointment of a director within 14 days after the appointment.

5. How is a director removed from office?

Section 139 of the Companies Act provides that a director may be removed from office by ordinary resolution of the company at a meeting before the end of the director’s period of office, subject to the director’s right to protest against removal. A special notice of the resolution must be sent to the members of the company and the delinquent director. Within twenty-one days after the notice is given, the director may make representations in writing to the company with respect to the motion and request that the members of the company be notified of the representations. A copy of the representations is sent to every member of the company to whom notice of the meeting is sent. If there is not sufficient time to make written representations, the director may orally require the representations to be read out at the meeting. A resolution to remove the director is then passed and a new director may be appointed at the meeting to fill the vacant position.

A company’s articles may also provide that a director may be removed from office on the occurrence of certain events, such as bankruptcy, prohibition under the Companies Act or any other law, a mental disorder, resignation or failure to attend three consecutive meetings of the board without reasonable cause and consent of the board.

The company must notify the Registrar of Companies of the cessation of a director to hold appointment as a director within 14 days after cessation to hold appointment.

6. What authority does a director have to represent the company?

The Companies Act provides that the power of a director to bind the company is free of any limitation and a person dealing with the company in good faith is not bound to enquire into any limitation on the power of the director to bind the company. As such, a director will be regarded by third parties as having apparent authority to represent the company. The company will therefore be bound by contracts and agreements entered into by the directors on its behalf even though the director in question may be acting beyond the scope of his/her authority.

However, freedom from limitation of the directors’ powers does not affect the right of a member of the company to bring proceedings to restrain the doing of an act that is beyond the powers of the directors unless such an act is done in fulfilment of a legal obligation arising from a previous act of the company. A derivative claim by a member may also be brought against a director in respect of a cause of action arising from an actual or proposed act or omission involving negligence, default, breach of duty or breach of trust by a director of the company.

7. How does the board operate in practice?

A company has wide discretion to determine the operation of the board. This may be contained in the company’s articles of association or in a board charter. The Companies Act requires a notice of a meeting to be issued to all directors of a company. Generally, the articles of companies may provide for at least 7 days’ notice (inclusive of the date of service and the date of the meeting) of all board meetings be given to all directors. A company may conduct its meetings by conference, telephone facilities or any other telecommunications systems provided that any resolutions passed will only be valid if documented in writing and signed.

A director is also allowed to appoint an alternate to act in his/her place during meetings of the board in his/her absence. An alternate is in all respects regarded as a director and is entitled to exercise all the rights and powers of the director and to attend and vote at meetings of the board at which the alternate’s appointor is not personally present and would have been entitled to vote if the appointor were.

The board may also discharge any of its responsibilities through board committees appointed from amongst its members subject to the applicable laws and may delegate any of its powers to the committees. Any committee formed must conform to any regulations that may be imposed on it by the board while exercising the powers so delegated.

8. What contractual relationship does the director have with the company?

A director is not considered an employee of the company by virtue of his/her appointment as a director. The company’s articles ordinarily entitle a director to remuneration for his/her services as the company may determine and to reimbursement by the company in respect of travel, hotel and incidental expenses reasonably incurred while engaged in the business of the company. Any director who performs special or extraordinary services on behalf of the company may be paid such extra remuneration, whether by way of lump sum, salary, commission or percentage of profits, as the board may determine.

A director acting as a managing director has a contractual relationship with the company and is entitled to receive remuneration, whether by way of salary, commission, participation in profits or otherwise, as the board may determine and either in addition to or in lieu of the director’s remuneration as a director as the company’s articles may provide.

A director may also hold any other office or position of profit under the company (other than the office of auditor and, if the company has only one director, the office of company secretary) in conjunction with the office of director provided that the director has declared the nature and extent of his/her interest (as discussed below).

9. What rules apply in respect of conflicts of interest?

The Companies Act imposes a duty to avoid a direct or indirect interest that conflicts or may conflict with the interests of the company, particularly with regard to exploitation of any property; confidential information of the company; the director’s position in the company; or opportunities in or for the company. The duty applies regardless of whether the company could take advantage of the property, confidential information or opportunity. The duty is not infringed if the matter has been authorised by the directors, so long as nothing in the company’s constitution invalidates the giving of such an authorisation. The duty to avoid conflicts of interest extends to the duty not to accept benefits from third parties and the duty to declare an interest in a proposed or existing transaction or arrangement entered into by the company. Ordinarily, a director with a material interest is restricted from voting in respect of the transaction, arrangement or contract in which he/she is so interested or being counted for quorum purposes in respect of the transaction, arrangement or contract.

10. What other general duties does a director have?

Other general duties imposed by the Companies Act include:

  • duty to act within powers, requiring a director to act in accordance with the constitution of the company and only exercise powers for the purposes for which they are conferred
  • duty to promote the success of the company by having regard to:the long-term consequences of any decision of the directors
    • the interests of the employees of the company
    • the need to foster the company’s business relationships with suppliers, customers and others
    • the impact of the operations of the company on the community and the environment
    • the desirability of the company maintaining a reputation for high standards of business conduct, and
    • the need to act fairly as between the directors and the members of the company
  • duty to exercise independent judgment
  • duty to exercise reasonable care, skill and diligence exercisable by a reasonably diligent person with the general knowledge, skill and experience that may reasonably be expected of a person carrying out the functions performed by the director in relation to the company and the general knowledge, skill and experience that the director has
  • duty not to accept benefits from third parties, and
  • duty to declare any interest in proposed or existing transactions or arrangements.

11. To whom does the director owe duties?

The general duties specified under the Companies Act are owed by a director of a company to the company itself.

12. How do the director’s duties change if the company is in financial difficulties?

When a company is trading solvent, director’s duties are owed solely to the company. However, under common law, when the directors know or ought to know that the company is insolvent or likely to become insolvent, the directors’ duties are extended significantly towards the creditors and as such, they must take into account the interests of all the creditors. The directors must do all that is legally possible to prevent the company from being placed in insolvent liquidation. The directors are required under the Insolvency Act to avoid wrongful and fraudulent trading and to ensure that the creditors are adequately informed of the true financial position of the company.

In the event of liquidation of a company, all the powers of the directors cease on the appointment of a liquidator, except so far as the liquidation committee, or if there is no such committee, the creditors, sanction their continuance (Section 411 of the Insolvency Act). However, the directors are expected to co-operate with the liquidators i.e. by providing a statement of the company affairs to ensure that the liquidation proceedings are managed smoothly.

13. What potential liabilities can a director incur?

A breach of the directors’ duties can lead to personal liability. For instance, under Section 386 of the Insolvency Act, a director or former director who allows a company to trade while insolvent is personally liable to contribute to the company’s assets to the extent necessary to satisfy the company’s insufficiency to pay its debts. The directors may also be held personally liable for wrongful and fraudulent trading, in which case they are compelled to contribute to the company’s assets upon liquidation.

The director may also be disqualified from being or acting as a director in the promotion, formation or management of the company or any other company for a prescribed period of time. The Insolvency Act prescribes a disqualification period of 5 years from and including the date on which the liquidation of a company commenced.

Directors also risk criminal prosecution for breach of their duties as directors.

There is also a possibility of demands being made under guarantees and loss of assets where the directors have issued guarantees or offered personal assets as collateral in relation to the debts of the company. 

Under Section 504 of the Insolvency Act, if a director is found to have misapplied or retained, or become accountable for, money or property of the company or committed misfeasance or a breach of any fiduciary or other duty in relation to the company, such a director may be compelled by the High Court of Kenya to repay, restore or account for the money or property or any part of it, with interest at such rate as the Court considers appropriate or to contribute such amount to the company’s assets as compensation for the misfeasance, breach of fiduciary or other duty as the Court considers fair and reasonable.

14. How can a director limit his/her liability?

Indemnity: The Companies Act generally prohibits any provision (either in a company’s constitution, contract, scheme or arrangement or any other document to which the company is a party) by which a company indemnifies a director of the company or of an associated company against liability attaching to the director in connection with any negligence, default, breach of duty or trust in relation to the company. However, under Section 196 of the Companies Act, a company may indemnify a director of a company out of the company’s assets against liability incurred by the director to a person other than the company or an associated company in connection with any negligence, default, breach of duty or breach of trust in relation to the company or associated company. This exemption does not cover any liability incurred by the director in defending civil or criminal proceedings against the director. 

Insurance: In practice, the directors of a company may decide to purchase and maintain insurance at the expense of the company for a director of a company against any liability attaching to the director in connection with any negligence, default, breach of duty or breach of trust (except for fraud) in relation to the company or any liability incurred by the director in defending any proceedings taken against the director for any negligence, default, breach of duty or breach of trust (including fraud) in relation to the company.

Mitigation of risk: To mitigate against risk of liability, it is advisable for directors to seek appropriate professional advice on the risks and options available to the company. Directors should also ensure that they are well informed of the affairs of the company at all times.

Ashwini Bhandari
Ashwini Bhandari
Partner
Nairobi
Jacinta Ngumo
Jacinta Ngumo
Associate
Nairobi
Jessica Mutemi