Governance Bites #25: other director duties, featuring Nick Summerfield.

 Nick Summerfield is Partner and Head of Banking, Financial Services and Insolvency at Anthony Harper. Nick advises on all areas of financial services law including investment funds, insurance, capital markets, financial advice, and financial service provider regulation. He also supports clients with regulatory reform and dealings with regulators.
In this second interview with Nick, Mark asks about duties of directors in the Companies Act and other legislation. They discuss the duty not to trade recklessly, the duty not to allow the company to incur an obligation it cannot perform, and other duties. They also discuss director liability. To wrap the interview, Mark asks Nick about the best advice he's been given.
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Transcript

0:06

Hi. Welcome to Governance Bites. I'm Mark Banicevich, and today it's my pleasure to spend some more time with Nick Summerfield. Hi, Nick. Hi, Mark. How are you? Good. Thank you very much for your time again, today. My pleasure. So, Nick's a partner at Anthony Harper, a law firm here in New Zealand. And a specialist in financial services. He's also had some experience on a school board, which you've said you really enjoy. Which is great. And what we'd like to talk about a little bit more, is director's duties. So, Nick and I caught up a little while ago, and we talked about section 131 [of the Companies Act 1993], which is acting in good faith and in the best interests of the company. And that's not the only duty of directors in the Companies Act, or, in fact, in legislation broadly. So, today we want to talk about the other duties that are in the Act. So, Nick, maybe you could open up with a little bit of an overview of the other duties that are in the Act. Yeah, thanks, Mark. And good morning, afternoon, evening everyone. So, there are a pretty extensive range of duties that apply to directors. As you said, we talked before about the duty to act in good faith and the best interests of the company. Two of the other most significant duties, in my mind, are duty not to trade recklessly, and a duty not to incur obligations that a company can't meet. So, for these two duties, here you're kind of talking about when a company's getting up to the brink. Or there's a risk of it getting up towards the brink, in terms of solvency, and so on. Related duties. Yes. And beyond that, there are other duties in the Companies Act[1993] that tend to deal with slightly more administrative things. There's a duty, for example, to comply with the Act and the company's Constitution. Bit of a no-brainer, that one is. Well, well, exactly right. But they have to say it, yeah. Look, a lot of the director duties are. That's the really interesting thing about it. And then, as you said, you move beyond the Companies Act, and directors are subject to a range of duties, and various other legislation in New Zealand. I think of the Health and Safety at Work Act [2015], for example. It's probably the most significant one. For our sector, Financial Markets Conduct Act [2013] imposes some duties on directors. Right. Depending on the type of entity. And then, beyond that, obviously, there's other legislation with, sort of, similar effect. Privacy Act [2020]. Yeah. Privacy Act is a good one. And then you move beyond that, and think about, well, duties directors might have under the constitution of the company, under a company's banking facility documents, or other contractual commitments - Yes. - that directors make. But they, kind of, all come back, I guess, particularly in terms of some of those operational covenants, I guess, to that concept of reckless trading, and incurring obligations that companies can't meet. Which, I guess, is really where the rubber hits the road, so to speak. Yes. Yeah. Yeah. So, let's dig into those two duties, in particular, a little bit more, then. Can you expand a little bit on reckless trading, and, you know, contracting in a way that the company can commit to those contracts? How they're different? And, you know, what it all means? Yeah. So, reckless trading is agreeing, or causing, or allowing the company to carry on its business, in a way that's likely to create a serious risk of loss - sorry, a substantial risk of serious loss - to its creditors. So, that's when you're sitting there, and going,“Well, she'll be right. You know, we'll sign this contract."We'll enter into this transaction. We'll do this thing.” When, really, you're at the point where you're not in a position to do so. And that, I guess, is similar to the duty not to incur obligations the company can't meet. They are quite related. That one's probably a little bit broader, I would think, because the reckless trading one implies it's quite financial. So, being able to pay all of the other creditors that you've already contracted to, before engaging new obligations. Whereas, that one, possibly, might be a little bit more around, as well as the financial obligations, can you actually, you know, fulfil the contract. Yeah, for sure. And, actually, that's a very good way to look at it. I think you're looking there about obligations where you may not be able to perform them when due. Yeah. Yeah. If you're a plumber, don't contract to build a house. Well, yeah, that's right. Good advice, Mark. Yeah. Now, there are a couple of other duties, as well, in the Act, right. There's the one around, if the company is moving towards insolvency, then there's the exception around acting in the best interest of the company, to act to be able to pay your employees, in that issue of insolvency, over and above the creditors, isn't it. Yeah. Employees do have a preference, I think, on insolvency. Which, I guess, you know, reflects their role. We've seen that, well certainly, recently when this was filmed, in terms of the Supie grocery business. Well, I think ultimately, someone else stepped in to pay those employees, which was a pretty awesome news story. Right. But, yeah, I mean, there are, look, there's quite a range of duties. It's around the legal priority, in that instance, of who gets paid first if the company goes insolvent, right. Yeah. So, employees, and then you'll have secured creditors, and then unsecured creditors, and then, eventually, shareholders. Yeah. Well, shareholders certainly come last. And that's right, there is a hierarchy. And in terms of who gets paid, yeah. And, as you've said, we could talk a little bit about the legislation that may be specific to the industry that the entity is operating in. Yep. And for us, of course, financial services, we've got the Financial Markets Conduct Act [2013]. And, of course, off the back of all of, or many of, these Acts, you've also got the regulations that, kind of, put the meat on the, the flesh on the bones. Right. So, the higher-level duties are in the Act. But then the regulations will have a little bit more detail about what's required. Yeah. That’s certainly true. And, you know, everyone in the sector will know that it's an area with a lot of regulation. A lot of rules that directors need to be on top of. A little bit of risk involved in that. It's certainly, you know, at times a challenging sector to operate in. So, if you're coming in as a director, where would you look? What would you do to find out what all these duties and obligations are? Yeah, good question. There is some good guidance out there. The Institute of Directors in New Zealand, for example, is a really good body, which provides guidance on the duties of directors. If you're looking at sector specific stuff, you can get a little bit of guidance out of the Financial Markets Authority, and the other regulators, as to what directors should and shouldn't be doing. Yes. Lawyers, obviously - a slight plug - Absolutely. - are good at giving guidance on, you know, what directors should and shouldn't be thinking about. Yeah. There's also some great content on business.govt.nz. Even the company's office website, companies.govt.nz, have got some great information for directors, too. So, you know, do your Google searches first, and find out that broad information. And then when you’re getting a little bit specific about the stuff in your industry, go to your industry groups and find that stuff. And then, ultimately, you know, seek some legal advice, if there's anything you're unsure about. And get some training, you know. Go to a body such as the Institute of Directors, and learn a bit more about your obligations. Yeah, I'd agree with that. And if you're looking to get into a governance role, then start small. You mentioned school board stuff, which is obviously totally unrelated to the sector. But, yeah, doing something like that. Or getting involved in governance-level in a sports club, or something that you personally are really into, is a really good way to get a bit of a, sort of a trial run at what governance means. And what you can, you know, what you can do. I would add to that, do your due diligence. You know, not every board that you will come into, particularly amateur boards, really have the right skill sets. So, you might go in there and find that you're in a rather dangerous situation, really. So, you know, whatever board you're going into, I'd just say, make sure that there are some experienced directors on the board, that understand the stuff, that you can learn from, rather than a bunch of well-meaning amateurs that are, kind of, plodding along and hoping for the best. Yeah, for sure. And, you know, there's a real difference between governance and management, which I imagine you've covered in another, you know, other interviews. We won’t talk about that today, but, yeah, you're right. Yeah. Yeah. Now, we spoke in our previous conversation around the liability of directors, particularly under the Companies Act [1993] of, you know, for egregious stuff through up to five years’ imprisonment. For the civil liability, you know, larger damages, and so forth. Does that vary in some of the other legislation that we've been talking about? The Privacy Act [2020], the Health and Safety at Work Act [2015]? Is any of that more extreme than that, you know, five years’ imprisonment? Or is that, kind of, the upper limit of what you could be on the hook for? No, look, it can get worse. But I think that five years is a pretty good indicator of the type of consequences. You know, some of our legislation has, quite rightly, set some very serious penalties. Health and Safety at Work Act [2015] is a great example of that. But you're really talking about the particularly bad conduct, to find yourself in that type of position. Certainly, on the criminal liability side. I mean, yes, we've seen in Mainzeal, for example, which probably, you know. Tell us a bit more about that case. Yeah, well, yeah. Mainzeal is a great example, actually, of the potential consequences of failing to comply with those obligations around trading recklessly, and so on, that I mentioned. So, Mainzeal, very high-profile decision earlier this year, of the Supreme Court. Very large award of damages against the directors, which included an ex- Prime Minister, for failing to meet, you know, those duties that we've talked about. Very significant penalties, civil, rather than criminal. But, yeah, a great - great is the wrong word - but, a really significant precedent. And a good case study, that I actually encourage people to go and do a bit of reading about. Do you know what the magnitude of the damages was? My recollection is, we're talking $40 million was similar.[$39.8 million plus 10 years’ interest.] But I. Across the directors? Yeah. But I'd have to. It's quite significant, right? It's a large sum of money. Well, it's a very large sum of money, yeah, that's right. Of course, Mainzeal was quite a large company, so you're talking at the listed end of companies, in this case. Oh yeah, very significant in undertaking. And, you know, the size of the damages reflected that. But, you know, that's a pretty big shot across the bow. So, it certainly seems that, you know, that, as you say, it's really rewarding, getting into the governance space and helping entities, whatever they may be, to identify their purpose, and meet their objectives, and do more of what they want to do. Don't do it lightly! Make sure that you go on with your eyes open. You understand what your obligations are, so that you can do the job well. Because, it's not something you want to go in and do a half-cocked job in. No, I agree. There's nothing worse, really, than, you know, going into a role like that, and not giving it your all. That's when you will get in trouble with those director duties. If you're talking about a company, you know, you're there, responsible for everything that happens. Or for overseeing everything that happens. Yes. And you need to be, have an understanding of, all aspects of the business. That means, as an example, understanding financial matters, even if you're not an accountant. You can't simply say,“No, that's not my thing. It's not my problem.” Because you're a director. You are responsible. Right. So, you've got to get that broad business understanding, to be able to do the job effectively. Yeah, I mean, you do. And we talked about this in our last interview. You do have the ability to rely on others in some circumstances. Yes. But that's not a,“I didn't know, I didn't care, it wasn't my problem” defence. That's something you really have to test the people on. You have to have an understanding of all aspects of the business. And certainly, you know, the courts have been very clear in respect of financial matters that, that is the whole board's responsibility. And your advice to new directors last time was very much around asking questions on that basis, right? So, get in there and, you know, if you don't understand something, ask about it. Ask questions. Ask questions. Ask questions. And don't just sit there and be a passive seat on the board. Yeah, for sure. Absolutely. Yeah. Yeah, great. Thank you. So, now, of course, the duties around directors will be, particularly in the legal space, will differ from country to country, from jurisdiction to jurisdiction. Yep. We've been talking very much about New Zealand law here. Yep. The principles of governance, I think, are very similar around the world. Yep. But, of course, those verbatim duties will differ from country to country, because they're all based in law, right? Yeah, that's right. And there's no doubt that's true. I come back to those principles, I think. You know, I can't speak for every country, of course, but my experience in most countries is, well, they kind of deal with the same types of issues in a broadly similar way. When we're talking about principles of directorship, then, yeah, certainly, relevant across the world. There's unlikely to be a country in the world that says,“Do what you want for yourself.” It's generally going to be about acting for the entity. And it'll be variations about what acting for the entity means, in terms of acting for other stakeholders, and how that fits in. So, there are some differences in Europe, for example. We've got some differences where they can be a little bit broader around other entity, other stakeholders, right? Yep. Yeah, yeah, that's right, yeah. That's exactly right. Sort of, the principles of there, the detail may differ. The process may differ. But you're, kind of, trying to do broadly the same thing. Okay. So, what's the best advice that you've received in this kind of space? Ah, well, I think. Yeah. I think the first piece of advice I really like is, to remember that a well-functioning board is one where everyone is involved. Where everyone, you know, you don't have to be best mates, but you have to get along. You have to be collegial. You have to have a good working relationship. You have to value everyone's input, and, you know, deliver as a team. Have those hard conversations if you have to. But really work together as a group. And that's certainly how you get the best results as a group, yeah. Right, absolutely. And I think one of the other, you were saying, you know, you got to be collegial. If you all get along too well, you may be too similar, and you may have a bit of group think going on there. So, you know, you should be challenged on the board. You should have people that think a different way from you, that make you feel a little bit uncomfortable. That's important. And you've got to be professional with those people. Yep. And, as you say, with collegial those people, - Yep. - to have a good working relationship to get the best outcomes for the entity. Yeah, I totally agree. I think, you know, most stuff in the sector, there's no one right answer. You know, you get different perspectives that influence your view, and that challenge you, if that's what needs to happen. If you need to be challenged, great. And then you'll come together, and you know, come up with an answer, or a path forward, which is better than the sum of the individuals. Great, okay. So, Nick, thank you very much again for your time today. It's been really cool to catch up again. I'll look forward to seeing you soon. And catch up with you next episode. Thank you. Thanks, Mark.