The recent troubles that Satyam Computer Services has faced stemming from the admission of its chairman to the manipulation of its financial information, has triggered a debate in India about corporate governance and the duties of directors.
Statutory Fiduciary Duties
Generally under Indian law, the fiduciary duties of a director require that the director exercise his or her powers with care, loyalty and in good faith for the benefit of the company. The recent Companies Bill 2008 introduced in the Lok Sabha in October 2008 specifically lays down the duties of the director as including:
- the duty to act in good faith in order to promote the objects of the company for the benefit of its members as a whole, and in the best interest of the company; and
- the exercise of such duties with do and reasonable care, skill and diligence.
This formulation of a director’s duty is not dissimilar to the duties of directors formulated under Canadian corporate statutes. The Canada Business Corporations Act, for example, stipulates that a director shall:
- act honestly and in good faith with a view to the best interest of the corporation; and
- exercise the care, diligence and skill that a reasonably prudent person would exercise in comparable circumstances.
Interpretation of the Statutory Fiduciary Duties in Canada – The BCE Litigation
Giving meaning to exactly what such concepts mean in practical terms can sometimes be a challenge, particularly when directors of a public company are reacting to an acquisition proposal from an acquiror. Recently in Canada, in the context of the proposed $52 billion leveraged acquisition of BCE Inc. (Canada’s largest telecommunications company), the Supreme Court of Canada summarized the current Canadian law on directors’ duties. The Supreme Court concluded:
- The directors’ fiduciary duty is to act in the best interests of the corporation and that duty is owed only to the corporation.
- Directors may consider the interests of stakeholders in fulfilling their fiduciary duty to the corporation, but are not required to act in the interests of any particular stakeholders or to favour the interests of any one group of stakeholders (including shareholders) over any other.
- Courts should accord deference to the business judgment of directors who, in fulfilling their fiduciary duty to the corporation, take into account ancillary interests of stakeholders.
On June 29, 2007, BCE reached an agreement for the largest leveraged buyout in Canadian history whereby an investor consortium would acquire all the outstanding common shares of BCE pursuant to a plan or arrangement under the Canada Business Corporations Act. The transaction was initially scheduled to close prior to June 30, 2008; however, due to the deterioration of the credit markets, the transaction was restructured and the closing was rescheduled to December 11, 2008. Ultimately, the transaction did not proceed due to the inability of BCE’s auditor to deliver a positive solvency opinion, as contemplated under the amended agreement.
BCE planned to issue approximately $30 billion of additional debt in connection with the transaction. The debt would be guaranteed by Bell Canada, BCE’s principal operating subsidiary. The announcement of this additional debt had a major impact on the value of the outstanding debentures of Bell Canada. The market value of these debentures dropped by approximately 18% and they lost their investment-grade rating status. Although the provisions of the debentures did not preclude this action by BCE, several holders of the Bell Canada debentures brought actions challenging the transaction.
The debenture holders claimed that the transaction was oppressive or unfairly prejudicial to, or unfairly disregarded, their interests contrary to the oppression remedy provided under section 241 of the Canada Business Corporations Act. The debenture holders also argued that the transaction did not satisfy the “fair and reasonable” standard for approval of a plan of arrangement under the Canada Business Corporations Act.
The debenture holders’ claims were dismissed by the Quebec Superior Court, but successfully appealed to the Quebec Court of Appeal. The Supreme Court unanimously reversed the Quebec Court of Appeal and rejected the claims of the debenture holders.
The Oppression Remedy
The Supreme Court held that a two-phase analysis applies to claims under the oppression remedy. The first phase requires consideration of the objecting parties’ reasonable expectations. Only where a breach of the objecting parties’ reasonable expectations is established, is the second-phase analysis of whether the conduct complained of amounts to “oppression”, “unfair prejudice” or “unfair disregard” then undertaken.
The Supreme Court agreed with the trial judge’s finding that there was no breach of the reasonable expectations of the debenture holders. The evidence did not support an alleged expectation that the investment grade rating or the trading value of the debentures would be maintained. The debenture holders did establish that they had a reasonable expectation that their interests would be considered. However, since the BCE board of directors considered the interests of the debenture holders and concluded that the contractual terms of the debentures would be honoured, the Supreme Court found that this expectation was fulfilled. There was no affirmative obligation to go further and restructure the transaction. The Supreme Court noted that leveraged buyouts of the kind proposed by BCE are not unusual and, given the financial sophistication of the debenture holders, the failure to negotiate contractual protections for this contingency was significant.
Standard Approval of Plan of Arrangement under the Canada Business Corporations Act
The Supreme Court concluded that, in the absence of exceptional circumstances, the analysis of whether a plan of arrangement is fair and reasonable should focus on whether the objections of those whose legal rights are being arranged are being resolved in a fair and balanced way. The Supreme Court found that the plan of arrangement did not fundamentally alter the debenture holders’ rights, since both the investment and return contracted for would remain intact. The Supreme Court further found that the fact that the trading value of the debentures would diminish as a result of the plan of arrangement was a foreseeable risk, not an exceptional circumstance. Accordingly, the Supreme Court restored the trial judge’s approval of the plan or arrangement.
Fiduciary Duty of Directors
Although the Supreme Court’s decision focussed primarily on the statutory oppression remedy and standard for Court approval of a plan of arrangement under the Canada Business Corporations Act, the Supreme Court also considered the fiduciary duties of directors.
The Supreme Court discussed its previous ruling in Peoples Department Stores and reiterated that the directors’ fiduciary duty is to act in the best interests of the corporation, not any particular class of stakeholders. Although the directors’ duty to the corporation may also include a duty to treat the corporation’s stakeholders fairly, it is the interests of the corporation that prevail:
Where conflicting interests arise, it falls to the directors of the corporation to resolve them in accordance with their fiduciary duty to act in the best interests of the corporation. The cases on oppression, taken as a whole, confirm that this duty comprehends a duty to treat individual stakeholders affected by corporate actions equitably and fairly. There are no absolute rules and no principle that one set of interests should prevail over another. In each case, the question is whether, in all the circumstances, the directors acted in the best interests of the corporation, having regard to all relevant considerations, including — but not confined to — the need to treat affected stakeholders in a fair manner, commensurate with the corporation’s duties as a responsible corporate citizen. Where it is impossible to please all stakeholders, it will be irrelevant that the directors rejected alternative transactions that were no more beneficial than the chosen one.
The Supreme Court noted that the “business judgment rule” applies to decisions on stakeholders’ interests as much as other directorial decisions and the Courts should give appropriate deference to the business judgment of directors in this respect, referring to the Danier Leather and Maple Leaf Foods cases.
It will be interesting to see how broadly the reference to the “corporation’s duties as a responsible corporate citizen” in the passage quoted above is interpreted. However, the Supreme Court’s decision provides boards of directors with the ability to approve transactions that negatively impact specific corporate stakeholders.
Although the statutory duties of directors of Canadian and Indian companies is not dissimilar, for Indian acquirors of Canadian public companies, understanding the scope of such duties in the context of an acquisition will be useful in approaching their negotiations with the boards of target companies.