Legal Digest. Development In The Law Relating To Nominee Directors (Part II) Kala Anandarajah and Foo E Lin

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1 An online repository of various articles published by our lawyers Development In The Law Relating To Nominee Directors (Part II) Kala Anandarajah and Foo E Lin 1 Rajah & Tann 4 Battery Road #26-01 Bank of China Building Singapore Tel: Fax: eoasis@rajahtann.com Website:

2 Developments In The Law Relating To Nominee Directors (Part II) Kala Anandarajah and Foo E Lin Nominee directors are persons who are appointed to the board of directors of a company by a certain appointor. The appointor is usually a person with a large shareholding in the company and the nominee represents that appointor's interests. This happens most frequently in joint venture companies and in group companies where the parent company nominates individuals to sit as directors on its subsidiaries. Where the nominee does not participate in the day-to-day running of the company, he is regarded as non-executive, but not independent. It is possible to have a nominee director take on an executive position as well; but this is rare. The executive nominee director is a common appointee where a joint venture company is involved. Essentially therefore, the degree of extraneous commitment by a nominee director will vary according to the needs of his appointor. The nominee director may be obliged to supply information or use voting power at board meetings in the interest of the appointor. Despite his nominee status, however, a nominee director is fully clothed with all the rights, duties and obligations of a director. This gives rise to a dual duty owed by the nominee director: for example to the company as well as to his appointer. As these duties may be at odds with one another, a nominee director may be placed in a conflict situation and so must tread carefully. This gives rise to common issues such as the extent to which a nominee may act in the interest of his appointer and disclose information to his appointer, or the degree of involvement of the nominee director in the running of the company. It will be seen that the issues are complex and the legalities must be balanced with the commercial realities of doing business. This article provides only a brief overview of recent developments in the law relating to these issues affecting nominee directors. Fiduciary Duty The fact that a director is a nominee of a substantial shareholder does not modify his fiduciary duties to the company to which he is appointed. For instance, a nominee director is still under a duty to act in the best interests of the company and not for any collateral purpose. This principle has been established many decades ago, but perhaps finding the clearest pronouncement in the half a century old House of Lords decision of Scottish Co-operative Wholesale Society Ltd v Mayer [1959]. Additionally, the House of Lords also affirmed that where there is a conflict of interests, the nominee director cannot place the interests of his appointor above the company as that appointment is one where he acts in a personal capacity. This was affirmed by the Singapore Court of Appeal in Kumagai Gumi Co Ltd v Zenecon Pte Ltd (1995). This invariably raises concerns for a nominee director where, for example, he is a nominee of a substantial shareholder whose interests are at variance with the company in a takeover situation. Having said this, it must be pointed out that there is some case law from Australia and New Zealand which suggests rightly that a blanket approach of saying that the nominee director cannot be appointed to ever act in the sole interests of his appointor is wrong. The old Australian case of Levin and Clark (1962) notes that to argue that a director particularly appointed for the purpose of Page 1

3 representing the interest of a third party, cannot lawfully act solely in the interest of that third party, is in my view to apply the broad principle, governing the fiduciary duty of directors, to a particular situation, where the breadth of the fiduciary duty had been narrowed by agreement amongst the body of shareholders. What is important then is finding a balance to enable the nominee to act in favour of his appointor without at the same time breaching his fiduciary duties to the company to which he is appointed as a whole. Disclosure Of Information One of the common roles a nominee director performs is to act as a conduit for information about the company to his appointor. Where the information is confidential, however, the conveying of such information by a nominee to his appointor could amount to a breach of the duty of confidentiality as well as a breach of fiduciary duties, depending on the circumstances. There are also possible insider dealings issue and the treating of shareholders unequally. Yet, it is apparent that fetters against the disclosure of information by a nominee to his appointer do run counter to commercial realities and the way businesses are run. An attempt was made to mitigate some of these problems, but which attempt appears to have created unforeseen problems. The Company Legislation and Regulatory Framework Committee had recommended an amendment to the Companies Act (Cap 50) to recognise the reality underlying the appointment of nominee directors and, in particular, the issue of nominee directors making available corporate information to their appointors. Pursuant to this recommendation, a new s 158 was inserted into the Companies Act. Under s 158, a nominee director is permitted to provide information about the company to which he is appointed to his appointor, whether an individual shareholder or a corporate shareholder or to someone pursuant to whose directions he is accustomed to act, provided the following conditions are satisfied: (a) the director declares at a meeting of the directors of the company the name and office or (b) position held by the person to whom the information is to be disclosed; (c) the director declares the particulars of such information to be disclosed; (d) the director is authorised by the board of directors to make the disclosure; and (e) the disclosure will not be likely to prejudice the company. In addition, the matters declared by a director in (b) above must be recorded in the minutes of the meeting of the directors. While new s 158 is to be welcomed, the application of the section may prove to be tricky. For one, it is not always easy to ascertain whether the disclosure of certain information would prejudice the company as the scope of what amounts to prejudice is unclear. Additionally, a fiduciary duty is now placed upon the company's board, in addition to the director proposing to make the disclosure, to Page 2

4 review the disclosure to be made to the director's appointor and provide approval if it finds that the disclosure will indeed not be prejudicial to the company. This is a duty which is not easy to perform. Another problem pertains to whether a blanket approval can be provided for certain types of information to be disclosed. The views are divided, but given the way in which the section has been framed, a sensible argument can be made that a blanket approval can be obtained for certain types of information to be disclosed. Such an argument also accords with commercial realities. As mentioned previously, yet a further problem relates to whether the provision of information would violate inside trading provisions or even the provisions of the Listing Manual. On a positive note, it is understood that the regulators are reviewing s 158 and the practical difficulties that have been caused by its introduction. There is hope that a change for the better might be in the pipeline. Taking An Active Role Whilst it is clear at law that a nominee director does not owe any less a duty to the company on which he sits as a director as compared to all other directors, it is often the case that a nominee director assumes a sleeping position. It is not unusual for such a director to refrain from asking questions as to the running of the company, enquiring into the financials and reviewing the processes and structures put in place. A recent Singapore High Court case based on a simple set of facts highlights the importance of nominee directors taking an active role in the company and not merely being 'puppeteered'. In Kwee Seng Chio Peter v Biogenis Sdn Bhd (2003), the plaintiff sought recovery of money remitted to the defendant company pursuant to a loan agreement. The loan was procured by Goh, who had set up the company and had appointed two directors to the company as his nominees. The directors of the company alleged firstly that they did not know about the loan, despite the fact that the loan agreement bore the signature of Ang, one of the directors. Secondly, they argued that the company was not bound by the loan agreement in the absence of a resolution by the board approving the loan and authorising Ang to execute it. The Singapore High Court found on the facts that the directors did have knowledge of the loan. However, and more importantly, the Court said that even in the absence of such a finding, the directors would be imputed with the knowledge of the loan transaction that Goh, their principal and puppet master, possessed. The knowledge would be imputed because the directors had allowed themselves to be nominees of Goh, who procured the loan, without the exercise of their own discretion or volition and in utter disregard for their duties as directors. In arriving at this conclusion, the Court relied on the earlier Privy Council decision of Selangor United Runner Estates Ltd v Cradock (No 3) (1968). However, as the nominee directors were not being sued in their personal capacity, no liability was found vis-à-vis them. On the second allegation, the Court noted that the power to borrow money was within the express powers of the defendants under the memorandum of association of the company. Further, on the facts, it was found that there was evidence that the directors were prepared to do whatever Goh required and that Goh had put in place the loan to the defendants. Such evidence of compliance was, in the Court's view, proof of the directors' informal assent. This informal assent was tantamount to a Page 3

5 resolution of the board and was sufficient to vest authority in Ang to sign the loan agreement, following the principle enunciated in the Singapore Court of Appeal decision of SAL Industrial Leasing Ltd v Lin Hwee Guan (1998). On this basis, the loan was binding on the defendant company. Concluding Words The current corporate arena in Singapore, as in many other jurisdictions, sees many individuals acting as nominee directors on boards of companies at the requests of their employers. This could be in a group corporate structure, the government linked companies corporate structure or even family owned corporate structures. In each of these structures, the nominee director's greatest dilemma would be how to balance his duties and obligations to his employer with that of fiduciary duties that cloak him as a director. Oftentimes, the nominee will differ to the views of his appointor. Where this converges with that of the company as a whole, no duties would have been breached. It is where there is divergence that concerns arise. To this end, it is evident from the brief discussion above that nominee directors must awaken to the potential liabilities they can face when they act on the basis that they owe greater allegiance and duty to their appointor. This is particularly so with the gradually increasing penalties for breaches of fiduciary duties. Whilst this is a difficult line to thread and a constant balance between commercial realities and the law must be achieved, perhaps an even greater concerted effort needs to be undertaken to increase awareness of nominees and potential nominees of their divergent duties. This would at the end of the day work towards better corporate governance. This article first published in Singapore Law Gazette, March Rajah & Tann is one of the largest law firms in Singapore, with a representative office in Shanghai. It is a full service firm and given its alliances, is able to tap into resources in a number of countries. Rajah & Tann is firmly committed to the provision of high quality legal services. It places strong emphasis on promptness, accessibility and reliability in dealings with clients. At the same time, the firm strives towards a practical yet creative approach in dealing with business and commercial problems. The information contained in this newsletter is correct to the best of our knowledge and belief at the time of writing. The contents of the above are intended to provide a general guide to the subject matter and should not be treated as a substitute for specific professional advice for any particular course of action as the information above may not necessarily suit your specific business and operational requirements. It is to your advantage to seek legal advice for your specific situation. In this regard, you may call the lawyer you normally deal with in Rajah & Tann or the Knowledge & Risk Management Group at eoasis@rajahtann.com. Page 4