South African company law has long recognised the general rule that a contract made by a company with one of its directors, or with a company or firm in which that director is interested, is voidable at the instance of the company in question, unless the company’s shareholders have approved it.
This rule stems from the principle that directors of a company should not allow their personal interests to interfere with their duties to that company. Section 75 of the Companies Act, 71 of 2008 (the “Act”), to a large extent, codifies this rule and obliges directors to disclose their personal financial interests in certain circumstances and thereafter to recuse themselves from taking part in the consideration of any matter relevant to the company which relates to a personal financial interest.
Section 75 provides, amongst other things, that if a director has a personal financial interest (or knew that a related person had a personal financial interest) in a transaction in which the company had a material interest, and if there was no disclosure of the director’s personal financial interest, then the relevant agreements would be invalid and would only become binding if (i) the transaction had subsequently been ratified by an ordinary resolution of the shareholders following disclosure of that interest or (ii) if a Court so declares in terms of section 75(8).
In this case, Atlas Park Holdings Proprietary Limited (“Atlas Park”) brought an application in terms of section 75(8) of the Act to Court to declare a lease agreement valid. It sought an order from the Court declaring the lease agreement, concluded between itself, as lessor, and Tailifts South Africa Proprietary Limited (“Tailifts”), as lessee, valid despite non-compliance with the necessary disclosures by Mr van Breda (“van Breda”), a director in both Atlas Park and Tailifts.
Tailifts refused to abide by the lease agreement on several grounds, the most important of which was that Tailifts asserted that van Breda acted with a conflict of interest. This was because, unbeknownst to the other director at Tailifts, van Breda created a corporate structure within which a special purpose vehicle secured mezzanine finance for both the buyout of a major shareholder in Tailifts and also the property which formed the subject of the lease agreement in question. The structuring of funding for the acquisition of the property in which Tailifts conducted its manufacturing operations were not disclosed to Tailifts to consider whether it should acquire the property itself.
The Court considered this the real issue: did the failure to disclose the details of this structuring to the directors of Tailifts fall within the section 75(3) net?
Overall, the Court found that the duty to disclose existed in this case, but refused to grant relief in terms of Atlas Park’s application.
Do you have to disclose an indirect personal financial interest?
Atlas Park contended that if any necessary disclosures were not made concerning the director’s financial interest in the entities upstream of Atlas Park, this was immaterial as the financial interest in question was only an indirect interest (as opposed to a direct interest) which section 75(5) of the Act was designed to exclude from consideration. In addition, Atlas Park contended that a related person is limited to a company in which the relevant director also held a directorship.
The Court rejected this contention and noted that the Act defines ‘related’ in broad terms, which includes an individual who directly or indirectly controls a juristic person. In addition, section 2(2)(d) of the Act provides that control will also arise “if a person has the ability to materially influence the policy of the juristic person”.
The Court was of the view that the legislature would have been astute to realize that interposing a single juristic person, or a multitude of them, between the conflicted director and the entity in which that director had a personal financial interest would be a simple way to get around the underlying purpose of the legislation.
Accordingly, the Court found that van Breda did indeed have a personal financial interest in the lease since he was a director in Atlas Park and controlled it as well as the intermediate, penultimate and ultimate beneficial owners of the shares in Atlas Park.
Was the acquisition of the property in this case a corporate opportunity?
The Court was also of the view that where a director engages in a transaction where they take a corporate opportunity for personal financial advantages through economic benefits via another company, then this would constitute a direct personal financial interest. The Court found that the structuring in the case at hand was a corporate opportunity that should have been presented to the other director of Tailifts for their consideration.
Atlas Park contended that Tailifts could not have taken up the acquisition of the property directly as it was unable to procure finance from its commercial banker. The Court’s response to this contention was that it did not matter if the company could take up the corporate opportunity or not, and that the director was obligated to disclose it and then leave it up to the neutral directors to make the determination once apprised of all of the relevant details.
What is the appropriate remedy in the circumstances? I.e. should the Court grant relief in terms of s 75(8) of the Act?
The Court stated that each case depends on its own facts, but that in this case, the following was relevant:
- When seeking relief Atlas Park remained guarded about the facts that should have been disclosed to allow Tailifts to make an informed decision in relation to the corporate opportunity. A failure to disclose in terms of section 75(3) cannot be perpetuated under section 75(8) in terms of a Court application.
- The nature of the relationship between the shareholders. A distinction must be made between amorphous shareholders in a public listed company and a small or closely held private company.
- Whether there was any actual loss or prejudice to the company. Here the question of whether the company could have taken up the corporate opportunity may become relevant.
- The degree of the breach of the fiduciary duty and the advantage obtained by the director.
- Whether a lesser remedy would suffice – whether the company or other affected shareholders would be content with a civil remedy or one of the other remedies provided for under the provisions of the Act.
- Whether the interests of the other potentially affected parties should be considered.
In this matter, the prime considerations were the following:
- van Breda did not make a frank disclosure to the Court;
- the nature of van Breda’s breach of his fiduciary duty, deliberately not telling the other directors of the financial leverage that could be secured, which went to the heart of the relationship between management and company; and
- that the breach amounted to a material and wilful non-disclosure for his own ends.
Accordingly, the Court dismissed the application.
Directors should not take for granted that decisions, agreements, or transactions of which a personal financial interest has not been disclosed will be declared valid if an application is brought in terms of section 75(8) of the Act. It is therefore imperative that directors understand their fiduciary duties and specifically the obligations relating to disclosure that arise by virtue of the provisions of section 75.
Atlas Park Holdings (Pty) Ltd V Tailifts South Africa (Pty) Ltd provides much needed guidance as to the kind of considerations which a Court will take into account when deciding whether to apply the provisions of section 75(8) to validate a decision, agreement, or transaction by the board, and whether a subsequent full and complete disclosure has been made by the relevant director.
This bulletin was prepared by partner Daniel Hart and candidate attorney Hadassah Laing.
Read the full publication at Fasken.