Home > Directors`duties > Is resignation in a troubled company a good decision for a director?

Is resignation in a troubled company a good decision for a director?

Spanish law establishes the Directors` Duty of Loyalty, as the obligation to act in favor of the firm`s interest, and to abide by law and by the company`s bylaws. The Duty of Care is also established as the obligation to act in a diligent manner, and to gather all the necessary information for that purpose.

 

The duty of care is internationally well-developed by law, and normally courts do not interfere in business decisions, according to the business judgement rule. That means business decisions, if informed, if adopted with all the necessary insights and risk analysis, cannot be blamed if results are bad, or different than thought, so directors are not liable for those results or the damages caused to the firm or the shareholders` wealth. The duty of loyalty is well-developed in Anglo-American systems, not so much in continental Europe.

 

The case in this post is in some occasions a director may find it difficult to determine how he best serves those duties. One of those situations is insolvency, bankruptcy or uncovered fraud situations. What should a director do? He might be considered responsible for the situation the firm has arrived to, so he could think of resigning; on the other hand, resigning lets the firm`s and shareholders` interest unattended. What serves those interest best then?

 

We will in this post consider some particular cases, or situations, extracted from the Delaware courts, (where many of US public companies are incorporated), and some other sources.

 

Recently in Spain, some non-executive directors offered their resignation, in a bankruptcy situation in Pescanova, an industrial fishing firm; once the judge decided to force all directors out of their jobs, appointing Deloitte as a temporary administrator, the Executive Chairman forced the company to appeal that decision, arguing the interest of the firm`s business and assets required incumbents to stay; but independents, and some other directors representing certain shareholders, (other than the Chairman), decided to resign, accepting the situation in which the firm already was would be best served by Deloitte than by the Chairman, whose bad governance practices in the past had been clearly damaging for the company, and themselves. Is this always the case?

 

Cattles, a financial services firm where a big financial hole was discovered, saw its Non Executive Directors stay and fight for the recovery of the firm, which forced them to dedicate much extra time and efforts. Of course, with no extraordinary payment for that.

 

From a personal point of view, once this kind of situation arrives, liabilities for the past activities of directors cannot be avoided it there was a breach of the duties, (loyalty, care and so on). So, if resigning does not help in that sense, it can instead damage a director`s reputation and future career prospects. On the other hand, staying in a damaged company will not harm directors` prospects, particularly if the company finally goes out of trouble successfully.

 

But other than that, can resignation itself be considered a breach of a director`s duties?

 

Some 2013 decisions by Delaware courts help navigate through this dilemma; in a fraud case, (Puda Coal), after Neds were stonewalled in their intentions to lead an inquiry and sue officials, they resigned; but it was considered those directors left the company`s assets on the hands of those officials they knew had been damaging the company, which was said to constitute itself a breach of the directors fiduciary duties. In Fuqi International, a similar case, resignation was considered an abdication of director`s fiduciary duties. A failure to act, in the face of a known duty, (even in cases where those actions are banned by officials, by a fractured board or any other cause), is a breach of the duty of loyalty.

 

As a conclusion, in a case of wrongdoing or corporate malfeasance, what should directors do? Some of the following actions can be recommended:

 

–         Taking all reasonable steps to stop any wrongdoing.

–         Engaging the board with appropriate advisors to effectively uncover the trouble, and determine the best actions to be adopted.

–         Of course, directors need to have all these engagement, inquiries, and actions recorded in the board`s minutes, so that it is clearly perceived directors fulfilled their obligations.

–         If these efforts by Neds are blocked, perhaps a resignation can be recommended. A noisy resignation can unveil the problems, but can also generate a reputation damage that could be attributed to the resigning director.

–         Moreover, in certain circumstances, resigning can undermine the probability that the company`s boards tackles the problems, (as a strong voice would be lost in favor of investigating and remedying the issue). In that case a director should stay, as stated in the cases above.

–         A director can then sue the company, which is costly and not always the most effective option. He can also support other legal actions initiated by shareholders, other third parties, or regulators.

–         And above all, a director needs to do an appropriate due diligence before accepting a nomination for a board, and of course be an active director, complying with his duties, so as to avoid participating in a path to the kind of situation we described in this post.

 

 

Sources:

–         Insolvent? Don`t do a runner, by Carly Chinoweth, 28 April 2013 The Sunday Times.

–         Can you resign from the Board of a troubled company?, by David A. Katz and Laura A. McIntosh, 23 May 2013, Columbia Law School`s blog on Corporation and the Capital Markets.

 

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