Directors are employed to not just manage the affairs of the business, but also take necessary risks, often under severe time pressures – some risks pay off and some risks do not. The directors’ key skill is one of balancing the risk and time factors, recognizing that their company’s success and failure will depend on their not being unduly cautious as well as avoiding fool-hardiness.
However, previously, the law doubted whether directors who were found to be negligent could ever be deemed to have acted reasonably. They held this because they believed that negligence usually demonstrates a failure to exercise reasonable care and skill. In other words, directors were strictly liable when they breach their duties.
The new Companies Act can be seen as providing stricter guidelines on the exercise of powers by directors by codifying various duties and even providing the power for shareholders to sue directors directly for breach of the duties or when they act illegally.
However, one important aspect of the new Companies Act that is not being talked about in section 121. In terms of section 121 of the Companies Act, a decision made by an officer of the company shall, subject to the disclosure of the company be considered to be valid if the
- in good faith for a proper purpose,
- the director has no personal interest in the decision,
- the company is appropriately informed of the subject matter and
- the director reasonably believes the decision was in the best interests of the company.
If all these four All these requirements must be met before a decision in breach of the officer’s duties considered valid by the company. If the decision is considered valid, section 122(2) (b) of the Companies Act provides that the officer of the company shall be indemnified for that decision.
Sections 121 and 122 (b) of the Companies Act are also very similar to the Business Judgment Rule that exists in the United States, Australian and South African law. The business judgment rule provides that where a director genuinely believes he was acting in the company’s best interests, such a director should escape liability for breach of any of his duties provided it is shown he exercised reasonable care, skill and diligence when performing his duties.
Therefore under the business judgment rule, section 76(4) of the South African Companies Act provides that a director will be protected from allegations of breach of the duty to act in the best interests of the company and with care, skill and diligence in relation to a matter where that director has:-
- taken reasonably diligent steps to become informed about the matter,
- either had no conflict of interest in relation to the matter or complied with the rules on conflict of interests; and
- had a rational basis for believing, and did believe, that his decision was in the best interest of the company
The business judgment rule is therefore very similar to section 121 because under both rules protect a director who has acted in the best interests of the company and exercised reasonable skill and care. Section 121, however, is more stringent than the business judgment rule in some respects. Firstly, section 121 provides that the director should have made a decision in good faith and for a proper purpose – this requirement is provided for in Australian law but not in South African law. Therefore apart from exercising powers with reasonable care, skill and diligence and acting in the best interests of the company, a director will only be protected if it is shown they acted for a proper purpose.
A second reason that shows that section 121 is more stringent than its South African counterpart is that section 121 provides that the director must “reasonably believe” the decision was in the best interests of the company whilst the South African rule provides for having a “rational basis”. Although the tests for rationality and reasonableness are similar, reasonableness is much more stringent. Rationality is less stringent as it is a simple determination of whether the means are rationally linked to the ends.
Reasonableness, on the other hand, demands an assessment of whether the chosen means actually justify the ends pursued. It essentially requires that it be shown that the means chosen were the most appropriate, or ‘suitable’, in the circumstances. This test is aimed at avoiding ‘an imbalance between the adverse and beneficial consequences of an action and to encourage the director to consider both the need for the action and the possible use of less drastic or oppressive means to accomplish the desired end. Therefore, the added proportionality ingredient is what distinguishes review for reasonableness from rationality review.
Therefore, to succeed under section 121 of the Companies Act, it must be shown, objectively, that the belief that the director had must be one that no unreasonable person in the position and circumstances of the director would have made.
Even though section 121 of the Companies Act is more stringent than the South African rule, it is a welcome development that offers some protection to directors in Zambia. Whereas directors need to act correctly and respect their fiduciary duties, they do have some protection where they make negligent mistakes believing it was truly and reasonably in the best interests of the company. In other words, where directors make a legitimate business judgment, the law in Zambia now provides that these directors could be protected rather than being strictly liable as was the case before.