LIABILITY OF CORPORATE DIRECTORS
By: Daniel P. Simpson
All corporations share the same basic structure: they are owned by the stockholders who elect the directors who manage the corporation by appointing officers, including a President, who actually run the business. Unfortunately, few people appreciate the responsibilities and liabilities that one assumes as a director of a corporation. Understanding these issues is important before deciding whether or not to accept an offer to become a director. Similarly, one should appreciate these matters before offering a directorship to someone else.
Each and every director is obligated to be familiar with the business and to keep informed about general activities. This is true whether or not the Board of Directors meets frequently or never. This is true whether the minute book is filled with minutes or has absolutely none.
The obligation to keep informed is a continuing one so directors may not close their eyes to misconduct by officers and then claim as a defense that they did not observe the misconduct. It has been said, “the sentinel asleep at his post contributes nothing to the enterprise he is charged to protect.”
While a director’s duties are to generally monitor corporate affairs and policies rather than to be involved with management on a day-to-day basis, a director should be sure that the Board meets regularly and that he or she attends all, or at least, most meetings. In fact, a director who fails to attend a meeting will be presumed to approve all actions taken unless he files a dissent with the secretary of the corporation within a reasonable time after learning of the action. This is particularly important because certain corporate actions which a director approves can be the basis for statutory liability, including the declaration of dividend or the redemption of shares when there is not sufficient surplus or the distribution of assets to shareholders upon dissolution without paying or providing for all known debts and obligations.
Included in the duty to generally monitor corporate affairs is the obligation to maintain familiarity with the financial status of the company as revealed in its financial statements. In addition, the review of those financial statements may require a director to make further inquiry concerning matters disclosed therein. For instance, if financial statements were to reveal substantial new stockholder loans while the company was losing money, a director should investigate.
Directors are bound to exercise ordinary care in the discharge of their responsibilities, understanding that they have obligations not only to stockholders but to creditors of the corporation. Thus, if a company fails due to misappropriations which a director in the exercise of due care should have discovered, the director may be liable to creditors who are not paid when the company closes.
Part of the obligation of ordinary care is to acquire the knowledge necessary to exercise that due care. Thus, if a director does not feel that he or she has sufficient business experience to be able to perform the responsibilities of a director, he or she should either acquire that experience very quickly or resign the position.
To meet the duty of due care, a director may be under a duty to do more than just object to actions taken at Board meetings. He or she may be may be obliged to seek advice from counsel concerning the propriety of actions taken by officers, other directors or himself or herself.
Contrary to popular belief, there is no such thing as a figure-head director. “A director is not an ornament but an essential component of corporate governance” with attendant responsibilities and liabilities.
This publication is intended for general information purposes only and does not constitute legal advice. The reader should consult legal counsel to determine how the law may apply to specific situations.