The Securities and Futures Commission (SFC) has recently sought disqualification orders against listed company directors in a number of court actions commenced in the past few months. The proceedings against the directors have been brought under section 214 of the Securities and Futures Ordinance. If successful, the court has the power to disqualify the relevant directors from being directors or from being involved, directly or indirectly, in the management of any corporation for up to 15 years. The SFC is also seeking compensation orders from certain directors in some cases.There have also been a number of regulatory developments emphasising the role of boards of directors and senior management. These, together with the recent enforcement actions, highlight the increased focus on directors. In light of this, all directors, including non-executive directors, must ensure that they fully understand the regulatory framework and are able to discharge properly their responsibilities.
SFC's allegations regarding directors' conduct
The SFC has commenced a number of court actions over recent months against directors of listed companies. The specific allegations against the directors are different in each case, but all relate to breaches of directors' duties. Examples of alleged breaches include that the relevant director(s):
- Failed to act in good faith and in the interests of the company;
- Failed to question the viability of the company's business model where it involved sales to its connected parties or to properly assess the financial position of the connected parties;
- Failed to disclose relevant material information to shareholders;
- Failed to discloses a personal interest in a transaction;
- Failed to exercise reasonable care, skill and diligence in relation to transactions entered into by the company;
- Permitted or caused false or misleading information to be included in the company's announcements and circulars; and
- Failed to take steps to recover a loss suffered by the company.
The SFC has targeted both non-executive and independent non-executive directors in these matters, reinforcing the accepted position that non-executive directors have the same duties to exercise reasonable care, skill and diligence, as well as fiduciary duties, as executive directors. The SFC's allegations highlight the standards of conduct the regulator expects of executive and non-executive directors (in all cases, the Court of First Instance has not yet heard the petitions and is therefore yet to make a decision as to whether to grant the orders sought).
Increased focus on INEDs
In addition to the legal proceedings described above, there has been an increased focus by regulators on the role of the board of directors, and in particular the importance of senior management in ensuring robust risk management. On 14 December 2016, the HKMA issued a circular providing further guidance on the empowerment of INEDs in the banking industry. In particular, the circular contained measures to be taken by locally incorporated authorised institutions (AIs) to ensure that there are sufficient suitably qualified people willing to serve as INEDs on the boards of HK-incorporated AIs. On 16 December 2016, the SFC announced its new "Manager in Charge" regime in relation to licensed corporations, which is designed to enhance senior management accountability (please see our e-bulletins dated 19 December 2016 and 12 January 2017).
INEDs in the context of listed companies
The HKMA's circular and the SFC's new MIC regime add to the existing regulatory requirements concerning INEDs.INEDs are required by various Main Board Listing Rules, including those set out below, to be members of the board and certain important board committees:
- Every board of directors of a listed issuer must include at least 3 INEDs (rule 3.10);
- The majority of the members of the audit committee (rule 3.21) and the remuneration committee (rule 3.25) must be INEDs; and
- For any connected transaction, an independent board committee consisting of only INEDs must be formed to advise the shareholders: whether the transaction is fair and reasonable; whether it is on normal commercial terms or better; whether it is in the interests of the company and its shareholders; and how to vote on the transaction (rule 14A.39 and rule 14A.40).
Navigating through the regulation
It is clear that INEDs play a vital role in offering an independent perspective to board decisions, which is important in ensuring that board actions are made in the best interests of the company.
Although the increased focus on non-executive directors seeks to benefit companies and the market through clearer expectations of what constitutes best practice, it is important that non-executive directors are given the appropriate tools to navigate through the regulatory framework so that they can adequately discharge their responsibilities.To assist non-executive directors, we recommend that companies:
- Ensure that it and its non-executive directors are equipped with knowledge about the relevant regulatory requirements and best practices;
- Ensure that non-executive directors receive appropriate training about how to fulfil their obligations; and
- Have appropriate policies in place that assist non-executive directors to manage their responsibilities and the associated risks. For example, for connected transactions, considering whether it is appropriate for the independent board committee to have separate advisors to assist its members in discharging their duties.