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Directors: Check your liability insurance

The new Companies Act (the Act) became effective in May 2011. It substantially increased directors’ personal liabilities but it allows for companies to take out insurance for directors with some restrictions.

This could have a significant effect on your business and on directors’ personal assets.

What are your new liabilities?

The old (1973) Companies Act had many criminal sanctions but they were seldom applied. The new Act gave directors more authority (subject to the “MOI” Memorandum of Incorporation) but also imposed additional civil liabilities on directors.

The most significant actions where directors can be held liable for loss or damages or costs sustained by the company are –
• Any breach of fiduciary duties per the common law and duties of directors specified in the Act – these codified duties include ensuring you are informed about pertinent matters in the company and you have the requisite skills, knowledge and experience that is expected of a director;
• Allowing the company to proceed with activities prohibited by the Act;
• Being a party to reckless trading (which includes trading under insolvent circumstances);
• Acting outside the director’s level of authority;
• Being a party to publishing false, misleading, incomplete or non-compliant financial information;
• Participating in any act or omission calculated to defraud any shareholder, employee or creditor;
• Not voting against a decision contrary to the Act or MOI. These decisions revolve around matters such as unauthorised allotment of shares, the provision of financial assistance to directors and paying dividends which could jeopardise the company’s financial position.

Stakeholders such as shareholders, trade unions, employees and creditors may sue directors for losses incurred as a result of directors’ actions.

liability insurance

Do these liabilities apply only to directors?

Alternate directors and any members of a board committee attract the above liabilities. There is no distinction in the Act between executive and non-executive directors – this is particularly onerous on non-executive directors as they have to inform themselves of matters in the business so they can make a rational and informed decision.

“Prescribed officers” also attract these liabilities. These are senior managers who have similar roles and responsibilities to those you would expect of directors.

Insurance and indemnification – the Good News

The Act does allow the company to indemnify and/or insure directors against liabilities. The best known is “D&O” (directors and officers) Insurance.

Considering the risks attached to these liabilities, you should seriously consider taking out insurance, especially if you want to attract non-executive directors. A costly legal battle could financially ruin a director and/or your business.

The limitations

You cannot insure or indemnify a director if it is proven that the director –
• Acted in the name of the company despite knowing that he/she lacked the authority to do so;
• Acquiesced in the carrying on of the company’s business despite knowing that it was being conducted in a reckless manner;
• Was a party to an act or omission by the company despite knowing that the intention was calculated to defraud a creditor, employee or shareholder of the company, or had another fraudulent purpose;
• Incurred any liability arising from wilful misconduct or wilful breach of trust; or
• Incurred a fine as a result of a conviction for an offence in terms of national legislation.

One aspect to be aware of is that there is no indemnification or insurance cover if the director should have been aware of material information – you cannot simply say “I didn’t know”. If the facts show you ought to have known, then you incur liability. It is thus vital that you keep a record of how you arrived at a decision – if you knew the key facts in a matter and applied your mind in reaching your decision, you should not incur any liability.

Article by DotNews

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