Directors and officers are subject to three basic duties in performing their responsibilities. In addition, this section looks at the Business Judgment Rule which is an excellent 'test' of an individual decision. If a decision can meet the criteria posed by the Business Judgement Rule, you will have an excellent defense against a directors and officers claim. The three duties of a director and officer of an Organization are as follows:
Duty of Diligence
Directors and officers generally must act with the care that a reasonably prudent person in a similar position would use under similar circumstances. They must perform their duties in good faith and in a manner they reasonably believe to be in the best interest of the corporation. Prior to making a business decision, D&O's must inform themselves of all material information reasonably available to them.
This duty requires not only reasonable behavior with respect to matters submitted for approval, but also requires reasonable inquiry and monitoring of corporate affairs. Although directors and officers are not insurers of the integrity of their subordinates or of general organizational performance, they are required to implement reasonable programs to promote appropriate organizational conduct and to identify improper conduct.
In some jurisdictions, this duty of diligence may be higher for D&O's of charitable or other types of non-profit entities. The higher standard of care is similar to the high fiduciary duty owed by trustees to beneficiaries of the trust they administer. The justification for this higher standard is the perception that the non-profit D&O's are entrusted with assets and responsibilities for the benefit of people who have little or no input into the selection of the D&O's.
Duty of Loyalty
Directors and officers are required to refrain from engaging in personal activities which would injure or take advantage of the organization. They are prohibited from using their position of trust and confidence to further their private interests. This duty requires an undivided and unselfish loyalty to the organization and demands that there be no conflict between one's duty to the organization and self-interest. Examples of prohibited conduct in this regard include:
- D&O's may not realize secret profits or unfair gain through personal transactions with or on behalf of the Organization
- D&O's may not compete with the organization to its detriment
- D&O's may not usurp an opportunity of the organization
- D&O's may not realize personal gain from the use of material, nonpublic information
- D&O's should avoid even the appearance of a conflict of interest
Duty of Obedience
Directors and officers are required to perform their duties in accordance with applicable statutes and the terms of the organization's charter D&O's may be liable if they authorize an act which is beyond the powers conferred upon a corporation by its charter or by the laws of the state of incorporation.
Non-profit organizations are frequently regulated by a multitude of statutes, rules and regulations with which outside directors are typically unfamiliar. For example, charitable organizations may be subject to statutes regulating fund raising, political and business activities. Publicly supported organizations may be subject to unusual terms and restrictions in various grant or financial assistance documents.
If the non-profit organization is exempt from federal or provincial income tax or if contributions to it are intended to be tax deductible, a myriad of additional restrictions and requirements may apply. For example, the corporation may jeopardize its tax exempt status if its earnings privately inure to the benefit of any individual, if it is operated for non-charitable purposes, if it engages in certain types of political or legislative activities, if it fails to file or obtain required returns or certificates, or if as a private foundation it violates any of a series of rules prohibiting the appearance of self-dealing, large business holdings and the like. Failure to comply with these technical requirements may subject the D&O's to personal liability for the damage thereby caused to the organization and perhaps others.
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