Utah is open for business. Many businesses are incorporating in Utah while other businesses are moving to Utah from other states because of the conducive business environment. As the business grows, the board of directors tend to induct new members. Being on the board of directors of a Lehi, Utah company is a great achievement. But you should be prepared for your role as a director.
If you have been appointed the director of a company in Lehi, Utah, consult with an experienced corporate lawyer. The post of a director comes with a lot of responsibilities. As a director you have certain duties towards the company and its shareholders. Even if it is your family owned business, as a director, the law imposes certain duties on you. Violations of these statutory duties can result in penalties and sometimes criminal prosecution.
A company can sue a director who is in breach of the equitable duty of care and skill for equitable compensation. The purpose of equitable compensation is, as might be expected, to compensate the victim of the wrongdoing.
The director has traditionally been thought of in fiduciary role, that is, as a caretaker or trustee of the owners’ assets. That is clearly the most important role that today’s outsiders see themselves playing and the second most important role as seen by both top-management directors and other insiders.
The words of most state statutes have not changed much over the years regarding what a director is supposed to do and generally state that “directors shall manage the affairs of the corporation” or “the corporation shall operate under the direction of a board of directors.” What has happened in recent years is that more parties–especially individuals and government–have been willing to try to show in the courts that directors of specific companies have, in fact, not managed well the affairs of the corporation and that they should be personally held liable for poor results, illegal or fraudulent actions, conflicts of interest, lack of attention, and so on.
A firm does not have to have a board of directors either to open its doors or to stay in business successfully. However, to be incorporated, for whatever underlying reasons, the company must, according to state statutes, have a board that will direct the affairs of the corporation. This is not to say, though, that all boards are active, involved, or know much of anything about what goes on. Generally, the smaller the firm, the less active the directors. There are usually no stated legal requirements for membership on a board to meet state incorporation statutes, and many boards of small and/or family concerns are composed of husband and wife (one of whom is usually the president and main principal), perhaps a son or daughter, or some other close members of the family. Recent research shows that as firms grow and go public, their boards tend to develop and move through three stages of roles and responsibilities:
• A legitimizing role that is generally passive and simply fulfills the legal requirements for the corporate charter. This role, especially, if it is the only one the board plays, is the one so heavily criticized these days. Although this is the basic role fulfilled by the boards of smaller firms, boards of most larger firms have moved into the next stage.
• An auditing role that tries to ensure the accuracy of information going to the public and to the government and the adequacy of financial reporting systems. This responsibility has been brought on and emphasized by the increasing pressures on and potential liabilities of directors. The audit committee of the board, found in virtually every large company, is especially important in this kind of environment.
• The third stage, the directing role, becomes more important as the board gets involved in focusing on the company’s future goals and derivation of the strategies by which they will be reached.
The Prudent Person Concept
One term, the prudent-person concept, means that directors must act with the degree of diligence, care, and skill that ordinary, prudent individual may exercise under similar circumstances in like positions. In practice, the legal application of “prudent man” can be very flexible depending upon industry, company size, the directors’ backgrounds and experiences, charter and bylaws, and so on.
Directors cannot take much comfort in specific definitions of their role and responsibilities, because there are none. Note that a director does not have to be active in terms of deviation from prudentiality. He or she may be liable for passive negligence: a failure to take action, failure to ask the discerning question, failure to study carefully operating material supplied by the company, and so on.
The courts realize that businesses always operate under risk and that just because a decision turned out wrong, a director may not necessarily be at fault. The courts are not in business to judge decisions with the accuracy of 20/20 hindsight. But the courts in a suit situation would be interested in knowing if there was intentional fraud or deceit, if directors acted in an active manner to discharge their duties, or if they were negligent. The duty of a director in any situation depends upon the totality of the circumstances, the facts and issues of a particular case will control the court’s evaluation of its members.
The laws require directors to act with the care an ordinarily prudent person in a like position would exercise under the same or similar circumstances. This is a basically objective standard but the phrases ‘like position’ and ‘similar circumstances’ allow for adjustments to the standard by reference to such matters as the activities carried on by the particular corporation and the background, qualifications and management responsibilities of the particular director.
Duty of Loyalty
By assuming the office of a director, you commit allegiance to the enterprise and acknowledge that the best interests of the corporation and its shareholders must prevail over any interest of your own. In other words, the director must not use corporate position and privileged access to confidential information to make a personal gain. Actual or possible conflicts of interest must be faced quickly and openly.
Duty of Care
The employees of a company owe contractual duties to their employer. These may overlap with the equitable duty of care and skill but in certain respects contractual duties can be stricter. For example, the equitable duty of care and skill as it has been developed in relation to directors does not require them to devote themselves to the company’s affairs on a full-time basis but full-time employment is likely to be norm for a company’s employees. Directors are not automatically employees of their company but they can become employees. For directors who are employees, their contracts of employment are the primary tool for regulating the standards of care, skill and devotion to the company’s affairs that they are required to demonstrate. The equitable duty of care and skill is therefore most relevant to those directors, such as non-executives, who are not employees of the company.
In addition to being loyal to the corporation on whose board he or she serves, the director also assumes a duty to act carefully regarding corporate actions and decisions. The American Bar Association cites the Model Business Corporation Act, a fundamental precept for direct conduct, as setting forth the legal standard for the Duty of Care. A direct must perform his duties in good faith and in a manner that he reasonably believes is in the best interest of the company. He must exercise such case as an ordinary prudent person would under the same circumstances. This duty of care also applies to the duties of a director as a member of any committee of the board upon which he may serve.
Unfortunately, there are no precise, unilateral definitions for some of the key groups of words in the above statement such as, “good faith,” “reasonably believes,” and “an ordinarily prudent person.” By and large, though, the Act implies, if not later states, that directors are not necessarily expected to act without error or be financial or management geniuses. In fact, directors do not even have to have specialized training in the firm’s field of endeavor to serve properly.
However, if things do go wrong in the company and a director is sued individually or as part of the board–even if no premeditated wrongdoing is implied–it is clear that the courts will compare what each director has done in the way of fulfilling the Duty of Care vis-à-vis what directors in other similar corporations have done or would do.
Duty of Attention
A large part of a person’s successful performance as a director involves Duty of Attention, which means that the director must be active in the overseeing of the corporation’s affairs. Such active participation can be carried out by attending all regular and special meetings of the board; by reading all material distributed to board members; by participating in and monitoring delegated activities, especially committees of the board; and by reviewing adequate information that should be available to the corporate director in time so as to permit an informed judgment.
The courts do not expect directors to be perfect in their business judgment and decisions. They are allowed to depend upon information supplied by the company. But wisdom suggests that the director should not blindly accept this information but should study it, ask good questions about its meaning, seek clarification if confused, and ask for, or get from other sources, additional data if that will be or could be helpful to the decision-making process.
Both the insider and outsider can be held liable for “poor business practice,” which implies both willful and neglectful aspects of the decision-making process, but the courts have not adequately defined what constitutes poor business practice. There are two standards of judgment: one for the outsiders and a stricter code for insiders. The feeling is that since insiders have access to much more day-to-day information about the company and are actively involved in its ongoing operations, they ought to be better informed and make better decisions.
There is much written about the legal responsibilities of directors and each case of alleged negligence or willful wrongdoing will be judged on its own merits. But to avoid as much trouble as possible, a director ought always to have the interests of the stockholder first in his actions and decision making; study carefully the information sent out by the company; be prepared for the board meetings; not be afraid to ask tough questions or seek more information; be totally honest; avoid any appearances of conflict of interest; and be willing to speak up at board meetings and, if necessary, stand alone in a vote. Certainly, directors should look carefully at a company and its top officers before accepting a chair on its board and should be willing to resign if they do not have adequate time available or if the company is steering a course with which the director simply cannot agree.
Whereas contractual duties can be tailored to apply in an appropriate fashion to each individual director, the equitable duty of care and skill has a more broad-brush application. Within a company the functions performed by the various directors may vary greatly and, when different companies are compared, the differences can become increasingly stark: for example, the function performed by the finance director of a listed company will obviously be very different from that of a director of a family company; and a director of a company who is expected to perform a monitoring function will be in a very different position from a person who is appointed to a directorship of a family company largely for sentimental or ceremonial reasons.
Before you accept your appointment as a director of Lehi, Utah company, speak with an experienced corporate lawyer to know your duties. Once you are aware of your duties you will be able to discharge your responsibilities as a director without any fear or favor as expected from you.
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