It is well established that directors of a corporation owe their fiduciary duties to the corporation and its shareholders as a whole. The same is true for non-stock corporations. The duties are owed to the entirety of policy-holders of a mutual, the members of a member organization, or the stakeholders of a mission of a non-member organization.
While it seems basic on its face, this well established tenet of the corporate governance law, can be easily forgotten when the board includes “constituency directors.”
Constituency directors are those board members who are elected and/or appointed to a board by a particular group of stakeholders. Some more recognizable examples of a constituency board member would be:
- Private equity or venture capital representatives continuing on the board of the enterprise after it has again become a public company, until their firm’s investment has been completely liquidated;
- Directors elected by a separate class of securities (such as a preferred) entitled to board representation for so long as that class of securities is outstanding;
- Family board members (with significant equity ownership – directly or in family hands) continuing their directorships after their privately-held family enterprise becomes a public company;
- Directors of a mutual insurance company that are elected by a particular district or group of policyholders; or even
- CEOs of member companies sitting on the board of their trade association.
Constituency directors, at times, may mistakenly view their role on the board as representing their particular constituent that elected them. However, a constituency director as any other board member of the corporation owes his or her duty of care and duty of loyalty to the corporation and all of its shareholders (or policyholders, members, or stakeholders, as the case may be). While directors in most jurisdictions are “permitted” to take into account the interests of other constituencies -- their duty lies first to the corporation and shareholders (or policyholders, members, or stakeholders) as a whole.
There are three particular areas of concern for constituency directors -- those constituency directors that only vote on board issues in the best interests of its constituents and not the best interests of the entire organization; constituency directors who speak publicly outside of the boardroom and against the decisions of the entire board (as determined by a majority of directors at a meeting at which a quorum was present); and constituency directors sharing confidential board information with a constituent group. Regardless of the pressure placed upon them, directors must remember that their fiduciary duties go to the organization and the best interests of the shareholders as a whole and not just their constituents.
Additionally, an important part of both the duty of care and the duty of loyalty is to keep confidential all matters involving the corporation that have not been disclosed to the general public. Directors should presume and treat as confidential all matters involving the corporation until there has been a general public disclosure or unless the information is a matter of public record or common knowledge. This presumption should apply to all current information about legitimate board or corporate activities.
While there is not an independent fiduciary duty of confidentiality, such a duty is included within the duty of care (to act as a reasonably prudent person would under the circumstances) and the duty of loyalty (to act in or not opposed to the best interests of the company). There also may be company specific confidentiality policies to which directors are subject.
As such, directors, regardless of serving on a the board of a publicly traded company, privately held company or tax exempt corporation, need to remember they represent all shareholders, policyholders, members, or stakeholders and not a particular constituency. Although they may have been elected by one group, their duties are to all shareholders, and directors should be cautious about sharing board information to their constituency group.
A director of a publicly held corporation is sometimes asked by investors, analysts or investment advisors to comment on sensitive issues, particularly financial information; however, an individual director is not usually authorized to be a spokesperson for the corporation and, particularly when confidential or market-sensitive information is involved, should avoid responding to such inquiries. Even information that is not market-sensitive may be confidential. For example, information regarding new products or proprietary processes or strategic plans, should not be disclosed. A director who improperly discloses such information to persons outside the corporation can cause the corporation to violate federal securities regulations and can cause damage to investor relations, trigger personal liability as a “tipper” of inside information and harm the corporation’s competitive position. Directors should refer requests for corporate information to the CEO or other person designated by the corporation to deal with such inquiries.
Additionally, directors should refrain from speaking publicly while appearing as a director in opposition to decisions made by the board.
Organizations and their governing boards should speak with one voice or not at all. Directors should presume that this applies to all matters coming before the board for its consideration. This does not require unanimity in decisions, but instead requires a recognition that a board speaks only as a board as determined by a majority of its members at meetings in which a quorum is present. Occasionally, on matters where it is important to have a single message, a board will speak only through its chairperson or the chairperson’s designee.
Directors need to remember that the minutes are the official record of the corporation. The minutes should properly reflect the events that transpired at the meeting. No one director owns the individual right to speak on their own about what transpired at a meeting. The purpose of approving board minutes is not simply an administrative formality, but instead, the actual confirmation by the entire board of the actions taken at a particular meeting and the creation of the official record.
Regardless of whether any board information is utilized by the constituents for whatever purpose, the very fact that board deliberations may not be confidential, because of a constituency director’s perceived duty to his or her constituents, may very well lead to the poor performance by the board, as other directors will be less inclined to speak their minds and debate particular issues if such debates are shared with those outside of the boardroom, exposing such directors to personal liability.
Thus, it is critical that while serving on a board, directors, especially constituency directors, are always cognizant of what hat they are wearing and which where their duty flows. Failure to do so could lead to personal liability for breach of their fiduciary duties.