Legal guide for company directors and CEOs in South Africa

BREAKING: Coronavirus (COVID-19) considerations for directors

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

Solvency and/or Business Continuity

The financial status of many companies was adversely affected during the national lockdown declared by the South African Government as from 27 March 2020 as a result of the COVID-19 pandemic (the “SA National Lockdown”), during which period non-essential businesses were not permitted to operate. Although the SA National Lockdown has been partially lifted with effect from 1 May 2020, directors must consider issues relating to financial management of the company including cash flow, the viability of the company’s current business model and/or reassessing business objectives. The directors will be required to undertake this exercise in order to determine if the company will be able to continue to honour its financial obligations. This may include the review of existing relief measures such as insurance for interruption of business operations and the governmental relief measures for combating the negative financial effects of the COVID-19 crisis that a company may be eligible for. In this regard, directors must be careful to ensure that they are not allowing the company to trade recklessly as to do so would be in contravention of the Companies Act No. 71 of 2008, as amended (the “Companies Act”). However, this exercise may be challenging for directors as it will require the passing of resolutions relating to the solvency and liquidity test in terms of the Companies Act. It may be presumed that most companies will not be able to meet the solvency and liquidity test given the detrimental financial effects of the SA National Lockdown on companies. Directors will therefore need to take due consideration of all such factors in conducting the company’s business operations during this period. 

Force Majeure

During the SA National Lockdown various companies are unable to perform their contractual obligations, be it in the form of rendering the services contracted for and/or paying the consideration due for services rendered. Directors may be required to review the company’s contractual arrangements to prevent financial liabilities arising as a result of non-performance or breach. To the extent possible, directors will need to engage with the counter-parties to their contractual arrangements to either suspend performance or opt for partial performance, to the extent possible. In all circumstances it is the directors’ prerogative to act within the best interests of the company. 

Labour Relations

With South Africa’s “risk-adjusted strategy” to be implemented as part of the partial uplift of the SA National Lockdown, certain industries and sectors will be permitted to resume operating. However various restrictions, particularly around social distancing, will still be required to be maintained by companies who are allowed to resume operations. These bring about challenges for employers to ensure that workplaces are not crowded, as to allow crowding would be in contravention of the required levels of social distancing and would thus expose employees to COVID-19 infections.

Accordingly, directors should also consider and make decisions on measures relating to employee safety and have systems in place for working remotely where necessary. Further, employers will need to consider the relevant employment legislations when recalling employees to resume duty. Proper protocols which include transparency will need to be followed in such processes and should, to the extent necessary, be conducted in accordance with applicable employment laws. It may also be necessary in such instances for directors to ensure that the relevant specialists are consulted to mitigate against any claims that may ensue pursuant to the recall of some, and not all, employees to resume duty. 

Financial Reporting

The restrictions imposed on companies during the COVID-19 pandemic may mean that companies are unable to comply with their reporting obligations including, for example, the submission of annual financial statements. Directors will be required to obtain advice on the implications of such failure and consider the interim measures that can be adopted by directors during such period. 

Directors’ Logistics

As further detailed below, the exercise by the board of its powers is often exercised in board meetings which form a vital part of a company’s business existence and a certain minimum number of meetings with defined purposes are required by the Companies Act. Although the Companies Act permits electronic participation by directors at board meetings, it may sometimes be difficult to contribute effectively to the debate and often, many of the nuances of personal interaction are lost by the directors not being present in the same room. In this light, directors must give consideration to required authorisations and/or any upcoming meetings during the COVID-19 pandemic and adequately prepare for same including, inter alia, putting measures in place for such authorisations to be obtained in writing to the extent permitted under the company’s constitution (being the memorandum of incorporation or MOI) and the Companies Act or, to the extent possible, postponing such meetings. 

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

The Department of Small Business Development (DSBD) has developed the Debt Relief Finance Scheme and Business Growth/Resilience Facility as measures to assist small-, medium- and micro-sized enterprises (SMMEs). The Debt Relief Fund is aimed at assisting SMMEs in acquiring raw materials and paying labour and other operational costs; while the Business Growth/Resilience Facility will offer working capital, stock, bridging finance, order finance and equipment finance. Eligible companies are required to submit applications to the DSBD and the amount required will be based on the funding requirements of each relevant business. Lastly, it is important to note that only SMMEs that are registered on the DSBD database will be considered.

Tax measures

The Minister of Finance has put in place tax measures to assist businesses to alleviate some of the effects of the COVID-19 pandemic. Among other interventions, these include:

  • 4-month holiday for skills development levy contributions intended to assist businesses with cash flow
  • fast-tracking value added tax (VAT) refunds by allowing smaller VAT vendors that are in a net refund position to temporarily file monthly instead of once every 2 months
  • 3-month deferral by the Department of Mineral Resources and Energy for filing and first payment of carbon tax liabilities which were supposed to begin from 31 July 2020 (deferred to 31 October 2020)
  • increasing the deduction available for donations to the Solidarity Fund
  • postponing the implementation of some Budget 2020 measures which include the broadening of the corporate income tax base by restricting net interest expense deductions to 30% of earnings; and limiting the use of assessed losses carried forward to 80% of taxable income, and 
  • an increase in the proportion of tax to be deferred and in the gross income threshold for automatic tax deferrals etc.   

UIF Temporary Employer-Employee Relief Scheme (TERS)

In terms of the TERS process, the Unemployment Insurance Fund (UIF) may fund the distressed companies directly in relation to the TERS allowance provided that such distressed companies meet the specified requirements of the UIF.

Reporting obligation extensions

The government has also provided extensions for many corporate actions such as the filing of certain annual returns, audit requirements for listed entities, etc. However, it is advisable that every effort to comply with all ordinary regulatory requirements and corporate actions must be made. 

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

In terms of section 77(3)(b) of the Companies Act, as read with section 22 of the Companies Act, directors may be held personally liable to the company for any loss incurred through knowingly carrying on the business of the company recklessly, with gross negligence, with intent to defraud any person or for any fraudulent purpose. However, on 24 March 2020, the Companies and Intellectual Properties Commission (CIPC) issued a practice note stating that it would not invoke its powers under section 22 of the Companies Act where a company is declared as temporarily insolvent but continues to trade and/or carry out business. In these circumstances, the CIPC must have reason to believe that the insolvency is a result of the business conditions caused by the COVID-19 pandemic. This practice note will lapse within 60 days after the declaration of a national disaster has been lifted. 

Notwithstanding the above, it is important to note that the CIPC has merely given an indication of its practice. This practice note does not release a company from its statutory obligation under section 22 of the Companies Act. The board of a company is still obliged to fully apply the solvency and liquidity test wherever required by the Companies Act.

Directors duties and responsibilities

1. What form does the board of directors take?

The board structure in South Africa comprises a one-tier structure. Such a body is, in terms of section 66(1) of the Companies Act, responsible for the management of the business of a company and, in doing so, it acts as a unit. 

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

In law, there is no general distinction between fiduciary duties owed by executive directors and non-executive directors. At common law, once a person accepts an appointment as a director, he/she becomes a fiduciary in relation to the company and is obliged to display the utmost good faith towards the company and in his/her dealings on its behalf. The legal rules are the same for all directors but the facts of each case will determine how they are applied. One of the facts to be considered may be whether a director is engaged full-time in the affairs of the company. A clear distinction is noticeable between an executive director and a non-executive director. 

A non-executive director is a board member without responsibilities for daily management or operations of the company or organisation. Not being involved in the management of the company defines the director as non-executive. A non-executive director:

  • is generally not an employee of the company; is not part of the executive team; does not have an employment contract (and therefore has no employment benefits including a salary, although he/she may receive directors’ fees); and is not involved in the day-to-day management of the company 
  • contributes to the development of management strategies (strategy, performance, sustainability, resources, transformation, diversity, employment equity, standards of conduct and evaluation of performance); monitors the activities of the executive directors, rather than having intimate knowledge of the workings of the company; and plays an important role in providing objective judgment, independent of management, on issues the company is facing
  • does not carry an added responsibility. 

3. Who can be appointed as a director? 

The definition of “director” in the Companies Act includes a member of a board of a company, or an alternate director of a company, and includes any person occupying the position of a director or alternate director, by whatever name designated. The definition is extended to include a prescribed officer, being anyone who fulfils the role of a director but who is operating (intentionally or otherwise) under a different designation. A company secretary may, for example, fall within the definition of prescribed officer in terms of the Companies Act even though he/she may not be a director appointed to the board of a company.  

As a general rule, a director is not required to have any special qualification, special business acumen or expertise, any singular ability, or even any experience in the business in which the company is engaged. The MOI may set out the eligibility requirements for a director. However, a director is expected to exercise the care which can reasonably be expected of a person with his/her particular knowledge and experience and is required to apply such skill to the advantage of the company. In practice, persons to be appointed as directors are required to be competent as such, have the necessary knowledge and experience to fill the gap in the board, be persons of integrity and have the required skills and capacity to discharge their fiduciary duties. 

Further, the Companies Act does not prescribe the requirements for a person to qualify as a director, rather it prescribes instances where a person will be disqualified and/or ineligible to act as a director. In terms of section 69, a person will be disqualified and/or ineligible to act as a director where such person: (a) is a juristic person; (b) is declared a delinquent by a court; (c) is prohibited in terms of any public regulation to be a director of a company; (d) is an unemancipated minor; (e) was removed from office of trust due to dishonesty; (f) was convicted of a crime of dishonesty (including, inter alia, fraud and theft) without an option of a fine; or (g) does not meet the qualifications set out in the company’s MOI. 

4. How is a director appointed?

With the exception of incorporators who are automatically the first directors of a company by virtue of section 66(7) of the Companies Act, a person taking up office as a director must be appointed or elected to that office and must deliver to the company a consent to serve as a director. It must be noted that a director is not entitled to act as such until he/she provides the company with a written consent to serve as such. 

The MOI determines the minimum number of directors and alternate directors which, in the case of a private company, may not be less than one director; there is no restriction on the number of directors.

In terms of the Companies Act, a company’s MOI may specifically:

  • authorise one or more named persons to appoint and remove one or more directors 
  • provide for one or more persons to be ex officio directors of the company. A person can also be an ex officio director as a consequence of that person holding some office or designation. This type of director has all the functions, duties, liabilities and powers as any other director, except if the company’s MOI restricts or limits it, and 
  • provide for the appointment or election of one or more persons as alternate directors of the company. 

Importantly, in the case of a profit company (other than a state-owned company), the MOI must provide for the election by shareholders of at least 50% of the directors and 50% of any alternate directors. 

The appointment of directors of a company is prescribed in section 68 of the Companies Act. This section stipulates that each director of a company must be elected by the persons entitled to exercise voting rights in such an election. Furthermore, each director should be elected to serve for an indefinite term or for a term as set out in the MOI of the company, which term may be on a rotational basis. In addition, and unless the MOI provides otherwise, directors are to be elected separately, i.e. the election is to be conducted as a series of votes, each of which is on the candidacy of a single individual to fill a single vacancy, with the series of votes continuing until all vacancies on the board at that time have been filled. A vacancy is filled by a majority of voting rights exercised in support of a candidate. 

The board may also appoint an eligible person to fill a vacancy temporarily until an election is held unless the MOI provides otherwise. During the temporary period of appointment as director, the person so appointed has all of the powers, functions and duties, and is subject to all of the liabilities, of any other director of the company. The appointment of a director by the board to fill a casual vacancy left by an elected director is, however, subject to such vacancy being ultimately filled by an election by shareholders. Vacancies on the board arise if a director resigns or dies, ceases to hold office, title or designation in the company that entitles such person to be an ex officio director, or if he/she becomes incapacitated or disqualified or is removed from the office of director. 

5. How is a director removed from office?

Section 71 of the Companies Act provides that a director may be removed in one of three ways: by way of an ordinary shareholders’ resolution, a board resolution (at a board meeting) or by the Companies Tribunal. 

In the case of removal by the board or by the Companies Tribunal, the procedure to be followed depends on the number of directors on the board. In the case of three or more directors, a board resolution will suffice, whereas in the case of two or less directors, the Companies Tribunal must determine the removal of the director on application by a shareholder or director. Any director or shareholder of a company with fewer than three directors may apply to the Companies Tribunal to make a determination contemplated in section 71(3) of the Companies Act.

Section 71(3) of the Companies Act allows any shareholder (or any director as the remedy is not limited to shareholders) of a company, regardless of the size of his/her shareholding or influence in the company, to allege that a particular director has: 

  • become ineligible or disqualified or incapacitated to the extent that he/she is unable to perform the functions of a director, and is unlikely to regain that capacity within a reasonable time, or 
  • neglected, or been derelict in the performance of, the functions of director, 

then the board, other than the director concerned, must determine the matter by resolution and may remove a director deemed to be so ineligible or disqualified, incapacitated, negligent or derelict, as the case may be. The board must then call a meeting of directors to determine the matter. The beleaguered director is then given an opportunity to make representations, in person or through a representative, at the board meeting which entails being given a prior notice (at least equivalent to the time which a shareholder is entitled to receive such notice) of the meeting and the resolution. It must be noted, however, that shareholders need not have a reason in order to remove a director using section 71(1) of the Companies Act. Further, the removal of directors in terms of section 71 of the Companies Act applies in respect of all directors even if elected for an indefinite term.

If a director is removed, he/she will be entitled to recourse to the court to review the determination to remove him/her. Conversely, should the director not be removed by the board, the directors who voted in favour of the removal of the director in question, or the aggrieved shareholder who initially laid the complaint, or any holder of voting rights entitled to be exercised in the election of that director, will likewise have recourse to the court to review the determination. 

Where the MOI does not require that written notice of resignation is required, a director may resign from his/her office by giving written or oral notice of resignation. Where the MOI provides that a director is to vacate his/her office ipso facto if, by notice in writing to the company, he/she resigns, an oral resignation, if accepted by the company, is nevertheless effective. However, unless the MOI provides otherwise, acceptance by the company (or the directors, if the MOI requires the notice to be given to them) of a resignation by the director in accordance with the MOI is not a pre-requisite to the effectiveness of the resignation, which ordinarily is a unilateral act not dependent for its effectiveness on its acceptance. Consequently, notice of resignation given in accordance with the MOI which does not render its effectiveness dependent on its acceptance by the company (or the directors) cannot be withdrawn without consent. 

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

In terms of section 66(1) of the Companies Act the business of a company must be managed by or under the direction of its board and the board has the authority to exercise all the powers and perform any of the functions of the company. The powers conferred on the board of directors are conferred upon them collectively to be exercised (unless the MOI or the Companies Act provides otherwise) in accordance with the will of the majority of them or unanimously. Accordingly, directorial powers are not conferred on directors individually, and individual directors may not act as agents to bind the company unless specifically so empowered by the MOI or in respect of particular acts, on behalf of the board, authorised by a board resolution. As such, a single director is not entitled to act on behalf of the company merely by virtue of him/her being a member of the board of directors. However, a delegation by the directors of any of their powers to one or more of their number may ensue not only formally by way of a board resolution, but also informally by the directors acquiescing in a course of dealing, which might be inferred from the circumstances of a particular case. 

The Companies Act states that when a director deals with a third party, and the third party acts in good faith, the power of the director to bind the company is unlimited. Therefore, for all intents and purposes, the directors have the power to enter into contracts and agreements with third parties and the company will be bound by those contracts, even though the director in question may be acting outside the scope of his/her authority, which might have been limited by his/her employment contract or resolutions. By way of example, anyone dealing with a CEO of a company is entitled to assume that the CEO has authority to bind the company in dealings with third parties even though he/she may in fact lack authority. Such assumption arises pursuant to the doctrine of ostensible authority, which refers to the apparent authority of an agent (here the CEO) acting on behalf of a principal (the company) as it appears to third parties with whom the agent interacts. 
Even though directors are not limited in their dealings with the outside world, their powers can be limited by the MOI of the company. As stated above, these limitations will not affect third parties but may make the director liable towards the company for his/her actions. 

7. How does the board operate in practice?

The Companies Act expressly spells out the management role and authority of directors in that it stipulates in section 66(1) of the Companies Act that “The business and affairs of a company must be managed by or under the direction of its board, which has the authority to exercise all of the powers and perform any of the functions of the company, except to the extent that this Act or the company’s memorandum of incorporation provides otherwise.”

As is noted from the proviso at the end of section 66(1), the Companies Act provides for flexibility in the overall management structure, hierarchy and division of powers within a company. Whereas typically the board manages (or exercises control over management of) all aspects of the business and affairs of a company, with shareholder approval being required only in cases of fundamental matters pertaining to the existence and structure of the company, the proviso in section 66(1) allows this default position to be moulded and customised for each company’s particular requirements. In closely-held private companies, for instance, the shareholders often wish to limit or retain certain managerial powers which would ordinarily have vested in the board, and thus the MOI of such a company can accordingly provide that the exercise of certain managerial functions will not be within the board’s domain but must be decided on by the shareholders, for example borrowings or capital expenditure of certain thresholds. 

In practice, the board appoints the management and delegates responsibility for the day-to-day running of the business to the management, in accordance with the strategic direction determined by the board, unless such delegation is prohibited under the company’s MOI. Unlike the board, the CEO and management are not vested with direct authority by the MOI; management is often only granted enough authority to enable it to run the daily business of the company in a relatively unconstrained fashion, while simultaneously allowing the board to retain sufficient control. The board generally defines levels of material transactions in relation to the business of the company, reserving specific powers for itself and delegating other matters to management or to committees formed for a particular purpose. For example, the board may decide that contractual commitments below a certain defined limit can be entered into by management provided there are two signatories, one of whom must be the company’s head of legal affairs.

The exercise by the board of its powers is often exercised in board meetings which form a vital part of a company’s business existence and a certain minimum number of meetings with defined purposes (such as an annual general meeting, or AGM) are required by the Companies Act. Given modern technological advances, it is now possible to convene meetings without all the members being physically present in the same room, as they can electronically ‘be in the presence’ of one another to participate in a meeting. Section 73 of the Companies Act provides that, unless prohibited by a company’s MOI, meetings of the board may be conducted entirely by electronic means, or any one or more shareholders or directors may participate simultaneously in the meeting via an electronic link. 
On a practical level, although the Companies Act provides for electronic participation by directors at board meetings, it is submitted that the practice not be encouraged. Especially with a large board where it may sometimes be difficult to contribute effectively to the debate and often, many of the nuances of personal interaction are lost by the directors not being present in the same room.
Further, where an issue needs to be decided before the next board meeting or in circumstances where management requires urgent input from the board, it is possible to get the board to resolve an issue by a “round robin” resolution. Additionally, the Companies Act provides that the MOI of a company may allow directors to appoint alternate directors, being persons who can act as a director in the appointor’s absence. While acting in their capacity as an alternate, such alternate director has all the functions, duties, liabilities and powers as any other director; except if the company’s MOI restricts or limits the alternate, it owes the same duties to the company as a director does. 

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

A person becomes entitled to serve as a director if he/she is appointed or elected and has delivered a written consent to the company. However, the appointment as director does not translate to the appointment of a person as an employee of the company. This question often turns to whether a director is an executive or non-executive director. 

As stated above, executive directors are in the employ of the company and their directorial roles as members of the board are ancillary to their day-to-day functions as a result of their employment contract with the company – and they generally have employment benefits including a salary.

Executive directors are primarily members of management and there is often no distinction drawn between that portion of their remuneration which relates to their day-to-day duties and the remuneration paid for their services “as directors”. The managing director, for example, may be merely a director with additional functions and additional remuneration or else he/she may be a person holding two distinct positions – that of a director and that of a manager. His/her position, as between himself/herself and the company, depends on the effect of his/her contract with the company read with the MOI. He/she is, it is submitted, always in a contractual relationship with the company and if no contract is concluded between them separately from the MOI, the directors’ appointment of him/her to the office and his/her acceptance of the appointment creates such a contract. 

On the other hand, non-executive directors have no automatic rights to be remunerated other than a reimbursement of their expenses (unless otherwise excluded by the MOI which may provide that such directors be remunerated for their services). Most MOIs, however, do not exclude non-executive directors from being paid, and their remuneration is provided for in terms of section 66(8) of the Companies Act. As stated above, non-executive directors do not have an employment contract with the company. 

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

Based on a director’s fiduciary relationship with the company, directors have a duty to disclose their personal financial interests in the business of the company. Further, a director is not only obliged to disclose his/her own personal financial interests but also those of parties related to him/her (including natural and juristic persons). In terms of the Companies Act, “personal financial interest” comprises a direct material interest of a financial, monetary or economic nature, or to which a monetary value may be attributed, but excludes unit trusts or collective schemes.  

The Companies Act imposes a statutory duty on directors to actively avoid conflicts of interest. In terms of this duty, a director who fails to take steps to avoid or terminate a situation where he/she has a conflict of interest may be held liable for breach of his/her fiduciary duty. In addition, at the beginning of each meeting, specific conflicts in respect of matters on the agenda must be declared. In terms of the Companies Act, a director must disclose his/her interest in advance before it is considered by a meeting of the board, and must recuse himself/herself by leaving the meeting without taking part in the discussion. 

Failure to comply with the steps in section 75 of the Companies Act leads to invalidity not only of the board resolution, but also of the ensuing transaction, unless the shareholders ratify it or an application is successfully made to court to validate the resolution and the transaction. 

It is good governance practice for companies to have rigorous policies in place for identifying and managing conflicts of interests. A conflicts of interest policy should aim to set objective standards designed to govern certain potentially compromising situations and prevent these from arising. What is appropriate for a particular company will depend on the company’s specific business model, size, structure, geographical spread and the nature of its business activities. It is impossible however to regulate every situation, and suffice it to say, this is an area in which ethics and common sense should prevail.

The requirement to disclose a conflict of interest in terms of section 75 of the Companies Act does not apply where the sole director is also the sole shareholder, where the decisions to be determined generally affect all of the directors in their capacity as such, where the decision relates to a class of persons even if that director belongs to that class, and where there is a proposal to remove a fellow director from office. 

10. What other general duties does a director have?

South African corporate law sets out the standard of directors’ conduct in section 76 of the Companies Act. This standard of directors’ conduct imposes two primary duties on a director: firstly, the ‘fiduciary duty’ and secondly, the ‘duty of skill and care’. These duties form the basis for all other duties of directors in the Companies Act and entail the duty of a director to always act in good faith, for a proper purpose and in the best interest of a company as a whole. 

The directors’ duties pertaining to skill and care impose a duty on directors to act with skill and care. A director is required to exercise his/her powers and carry out his/her office in good faith and for the benefit of the company. In doing so, he/she must, in accordance with section 76(3) of the Companies Act, display the same care as would a reasonable person in the conduct of his/her own affairs, and display the degree of skill which may reasonably be expected from a person of his/her particular knowledge and expertise. On the other hand, fiduciary duties imply that a director stands in a fiduciary position to his/her company and must therefore act in good faith in his/her dealings with or on behalf of the company, and must exercise his/her powers and fulfil the duties of his/her office with honesty, integrity and without self-interest. Directors’ fiduciary duties encompass the following: (i) duty to avoid a conflict of interest; (ii) duty not to exceed their powers; (iii) duty not to exercise powers for an improper or collateral purpose; and (iv) duty to exercise an unfettered discretion.

In addition to the primary duties outlined above, there are also a number of additional statutory administrative duties imposed on directors by the Companies Act and the company’s MOI which include:

  • duty to “manage” the company, which includes all duties of the company, as well as keeping proper accounting records and minutes, preparation of annual financial statements, filing of annual returns, calling of general meetings, etc
  • duty to apply the solvency and liquidity test whenever a “distribution” or other transactions are carried to be out by the company (section 46 of the Companies Act)
  • duty to determine the adequacy of consideration offered for any authorised shares to be issued
  • duty not to continue to act if they are disqualified or ineligible, and
  • duty not to neglect or be derelict in their functions as directors.  

In practice, the directors are required, in carrying out their duties, to maintain the highest standard in respect of their duties and ensure that they comply with the administrative provisions of the other legislation applicable to the company in which they serve including the Companies Act, Financial Intelligence Centre Act, Income Tax Act, Competition Act, Labour Relations Act, Occupational Health and Safety Act, Protection of Personal Information Act, Consumer Protection Act, National Credit Act, Basic Conditions of Employment Act, Insolvency Act, VAT Act, etc and industry- or sector-specific legislation. 

11. To whom does the director owe duties?

A director’s primary fiduciary responsibility is to the company on whose board he/she serves. However, it is arguable that directors are ultimately accountable to their shareholders in that they owe their duties to the shareholders as a body (as the proprietors of the company), and the shareholders hold the power to appoint and remove directors. They can remove directors without giving reasons for the removal by means of ordinary resolution. 

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

To the extent that a company is in financial distress, the Companies Act imposes additional responsibilities on the directors. Such obligations are to ensure that, inter alia, the company is not trading recklessly and thus resulting in the interests of stakeholders (including creditors) being affected. It has been submitted that the focus of the directors in such instances is for the company to be able to pay its creditors. The additional responsibilities include the requirement of the directors to, inter alia, deliver to the business rescue practitioner, all books and records relating to the affairs of the company which are in such director’s possession or to inform such practitioner of the whereabouts of such books and records. 

In this regard, section 22(1) of the Companies Act prohibits reckless trading and provides that a company must not carry on its business recklessly, with gross negligence, with intent to defraud or for any fraudulent purpose. Therefore, if a company continues to incur debts where, in the opinion of a reasonable businessman standing in the shoes of the directors, there would be no reasonable prospects of the creditors receiving payment when due (i.e. commercial insolvency), it will in general be a proper inference that the company’s business is being carried on recklessly or negligently as contemplated by section 22(1) of the Companies Act. Such inference is equitable to a company being financially distressed as contemplated in the Companies Act. 

Where a director has acquiesced in the carrying on of the company’s business recklessly, with gross negligence, with intent to defraud any person or for fraudulent purpose, the consequences for directors when a company, in breach of contract, does not pay its creditors can be severe. Considering that companies who operate in contravention of section 22(1) of the Companies Act are often insolvent, creditors often do not hesitate to go after the directors of companies who do not pay them without first resorting to liquidation proceedings. The rationale for this is that it is the directors who defraud the creditors after all, as the company acts through them, and the directors should not be able to hide behind the legal personality of the company. 

13. What potential liabilities can a director incur?

The Companies Act provides for sanctions in many cases where a director is party to, or fails to take all reasonable steps to prevent, a breach of its provisions. Failure by a director to discharge his/her responsibilities, in addition to constituting grounds for his/her removal as director, may render him/her liable to both civil and criminal penalties. Depending on the offence and the extent of loss or damage caused, the penalties could include accounting to the company for any gains improperly made, indemnifying the company for any loss or damage, incurring personal liability to third parties acting in good faith or, in very few instances, criminal sanctions including the payment of a fine or imprisonment.

Directors may be held personally liable for any loss, damages or costs sustained by the company and, consequently, the director is rendered personally liable for the debts of the company. Some of the instances where directors may be held personally liable include the following:

  • where a director breached his/her fiduciary duties, his/her duties of reasonable care and skill, or any other statutory duty imposed on such a director
  • where a director breached the MOI of the company
  • on the grounds of breach of warranty of authority, where he/she has acted beyond the scope of his/her powers and such fact was not actually or constructively known to the counterparty
  • where a director has acquiesced in the carrying on of the company’s business recklessly, with gross negligence, with intent to defraud any person or for fraudulent purpose
  • where a director has acted fraudulently or where a director was a party to any fraudulent action by the company
  • where a director was a party to the publication of a false or misleading financial statement or prospectus 
  • where a director, having been present at a meeting or participated in the taking of a decision by round robin, failed to vote against, inter alia, the provision of financial assistance contemplated in sections 44 and 45 despite knowing that the provision of financial assistance is inconsistent with such sections or the company’s memorandum of incorporation;
  • where a director has bound himself/herself personally for the liability of the company, e.g. as a surety and co-principal debtor
  • where a director has acted negligently, except if such negligence can be justified on the basis of an error in an honest and considered business decision
  • where a director has wrongfully procured a breach of contract by the company or deliberately committed an act disabling the company from performing its duties under the contract, and 
  • where a director has constituted the company for purposes of performing a wrongful act or, being in control, has directed that a wrongful act be committed.  

It must be noted that section 77 of the Companies Act creates the so-called “joint and several” liability of directors where there is more than one wrongdoer, i.e. where for instance two or three directors breached their duties which resulted in the same loss. Joint and several liability means that the company can sue any one director and recover the full amount of the loss or damages from him/her, and that director will then have to claim a contribution from his/her co-wrongdoers. 

In addition to the remedies contained in section 77:

  • section 218(2) of the Companies Act provides that any person who contravenes any provision of the Companies Act is liable to any other person for any loss or damage suffered by that person as a result of that contravention. This section would allow a creditor to claim against the company as well as against a director(s) or any person who caused loss or damage to the creditor as a result of a contravention of the Companies Act. For instance, this section would allow a creditor to institute an action against the directors for the cost of the goods or services supplied on credit to the company which ultimately remained unpaid, if the business of the company was carried on recklessly or negligently at the time the goods were procured or the services rendered by the company 
  • section 162 provides that the court: 
    • must declare a person to be a delinquent director if that person, inter alia: (a) while a director, intentionally or by negligence, inflicted harm upon the company or a subsidiary of the company; (b) acted in a manner that amounted to gross negligence, wilful misconduct or breach of trust in relation to the performance of the director’s functions within, and duties to, the company, and 
    • may make an order placing a person under probation if: (a) while serving a director: (i) such director was present at a meeting and failed to vote against a resolution for the provision of financial assistance despite the inability of a company to satisfy the solvency and liquidity test contrary to the Companies Act; or (ii) otherwise acted in a manner materially consistent with the duties of a director; or (b) within any period of 10 years after the effective date, the person has been a director of more than one company, irrespective of whether concurrently or at unrelated times, and during that time, two or more of those companies each failed to fully pay all of its creditors or meet all of its obligations other than in terms of business rescue or a compromise with creditors 
  • section 214 criminalises various offences committed in contravention of the Companies Act and provides that a person is guilty of an offence if the person is, inter alia, a party to the preparation, approval, dissemination or publication of any financial statements (including annual financial statements), knowing that those statements fail to meet the requirements of the Companies Act or are materially false or misleading 
  • section 332 of the Criminal Procedure Act 51 of 1977 imposes liability on directors for certain offences committed by the company. A number of statutory provisions state that, where an offence has been committed by a company with the consent or connivance of, or attributable to, the neglect of a director, such director may also be guilty of the offence unless he/she proves on a balance of probabilities that he/she did not take part in the commission of the offence and could not have prevented it. 

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

Companies are entitled to indemnify their directors for the consequences of their actions. Directors are generally insured against claims made by third parties against the director, losses made by the company arising from decisions of the director, liabilities of the company to third parties arising from the decisions of the director and/or legal expenses. 

The scope of an indemnity given to directors will however be subject to the restrictions in the Companies Act and the company’s MOI. In terms of section 78(2), a company cannot, however, adopt any internal remedy to relieve a director of any duty of liability, or negate, limit or restrict any legal consequences arising from an act or omission that constitutes wilful misconduct or wilful breach of trust on the part of the director, and any such action by a company is void. The prohibited indemnities include insurance against the following: 

  • any liability arising from:
    • acting in the name of the company, signing anything on behalf of the company, purporting to bind the company, authorising the taking of any action by or on behalf of the company, despite knowing that the director lacked the authority to do so
    • the acquiescing in the carrying on of the company’s business despite knowing that it was being conducted in a manner prohibited by section 22(1) of the Companies Act, being the prohibition against reckless trading
    • being a party to an act or omission by the company despite knowing that the act or omission was calculated to defraud a creditor, employee or shareholder of the company, or had another fraudulent purpose 
  • wilful misconduct or wilful breach of trust, or
  • any fine that may be imposed on the director of the company as a consequence of that director having been convicted of an offence.

Further, a company may not directly or indirectly pay any fine that may be imposed on a director of the company, or on a director of a related company, as a consequence of that director having been convicted of an offence, unless the conviction was based on strict liability. 

Deepa Vallabh | Head of Africa: M&A | Co-Head of Corporate & Commercial | South Africa
Deepa Vallabh
Partner
Johannesburg
Lebogang Molebale | Senior Associate | Corporate & Commercial
Lebogang Molebale
Senior Associate
Johannesburg