Cayman Islands: Duties And Liabilities Of Directors Of Cayman Islands Companies

INTRODUCTION

This Memorandum provides a summary of duties and liabilities of directors of companies incorporated under the laws of the Cayman Islands. It is not intended to be an exhaustive statement of the law in this area but merely to be of some guidance to persons who act as directors of such companies. Particular circumstances or transactions should be the subject of specific legal advice given on the relevant facts at the relevant time.

Companies formed in the Cayman Islands and the duties and liabilities of their directors (both executive and non-executive) are governed by the Companies Law (as amended) of the Cayman Islands (the "Companies Law") and the common law so far as it has not been amended by statutory provisions. The Cayman Islands' courts would regard as highly persuasive the decisions of the English courts in relation to such matters.

STATUTORY DUTIES OF DIRECTORS

Maintain registers

The Companies Law requires each company incorporated under it to maintain certain registers. The Directors are responsible for ensuring that such registers are kept in the appropriate location and maintained in good order. The registers are:

1. The Register of Members. This must be kept at the registered office of the company in the Cayman Islands (except in the case of an exempted company when it can be kept at any other location, whether in the Cayman Islands or elsewhere). The register contains the names and addresses of and details of shares issued to the company's members.
   
   
2. The Register of Directors and Officers. This must be kept at the registered office of the company. The register contains the names and addresses of each of the company's directors and officers.
   
   
3. The Register of Mortgages and Charges. This must be kept at the registered office of the company. The register contains details of all mortgages and charges given by the company over any of its assets.
   
   

Reporting obligations

The directors are also responsible for ensuring that the company complies with all reporting requirements of the Companies Law. These are:

1. An annual return must be filed with the Registrar of Companies in January of each year accompanied by the payment of the annual government fee to keep the company in good standing. Failure to pay the fee and file the annual return by 31 March in any year will result in late payment or filing penalties as follows:
   
   

2. Payment or filing made between	Penalty
   1 April and 30 June	33.33% of the annual fee
   1 July and 30 September	66.66% of the annual fee
   1 October and 31 December	100% of the annual fee

   Failure to pay the fee or file the annual return by 31 December in the year in which it is due, will result in the company being liable to be struck off the Register. Should this happen, all assets owned by the company will be forfeited to the Financial Secretary of the Cayman Islands for credit to the general revenue.

2. Any change in the directors or officers of the company must be notified to the Registrar of Companies within 30 days.
   
   
3. Any change in the registered office of the company must be notified to the Registrar of Companies within 30 days.
   
   
4. Any special resolution adopted by the company (eg a resolution to change its name or its Memorandum or Articles of Association) must be notified to the Registrar of Companies within fifteen days.
   
   

Books of account

The directors are also responsible for ensuring that the company complies with the requirements of the Companies Law to maintain proper books of account, ie such books as are necessary to give a true and fair view of the state of the company's affairs and to explain its transactions.

Registered office

The directors are also responsible for ensuring that the company complies with the requirements of the Companies Law to maintain a registered office in the Cayman Islands, and to ensure that its name is properly displayed at its registered office, as well as on its stationery etc.

Annual general meeting

The shareholders of a company (but not an exempted company) must hold at least one general meeting in every calendar year, although this meeting does not need to be held in the Cayman Islands. Failure to hold such meeting will result in the company not being in a position to file its annual return and being subject to the penalties referred to above.

OTHER DUTIES OF DIRECTORS

Fiduciary duties

Apart from the specific duties referred to above, the Companies Law does not specify the fiduciary duties of directors. However, in the case of Cayman Islands News Bureau Limited v Cohen and Cohen Associates Limited [1988-89] CILR 195 it was held, per Harre J that the fiduciary obligations of a senior manager with major responsibilities was the same as that of a director or trustee, and these duties were listed as "the observance of general standards of loyalty, good faith, and the avoidance of a conflict of duty and self-interest". English case law is highly persuasive and the Cayman Islands Courts largely adopt English common law principles relating to directors' duties which can generally be summarised as follows:

1. a duty to act in what the directors bona fide consider to be the best interests of the company (and in this regard it should be noted that the duty is owed to the company and not to associate companies, subsidiaries or holding companies; what is in the best interests of the group (if any) of companies to which the company belongs is not necessarily in the best interests of the company);
   
   
2. a duty to exercise their powers for the purposes for which they are conferred;
   
   
3. a duty of trusteeship of the company's assets;
   
   
4. a duty to avoid conflicts of interest and of duty;
   
   
5. a duty to disclose personal interest in contracts involving the company;
   
   
6. a duty not to make secret profits from the directors' office; and
   
   
7. a duty to act with skill and care.
   
   

Standard of skill and care: subjective test

The extent of, and the degree of skill necessary in the exercise of, a director's duties were formerly thought of in highly subjective terms, best illustrated in the English case of Re City Equitable Fire Insurance Co (1925) Ch 407. In that case it was held that:

1. a director did not need to exhibit in the performance of his duties a greater degree of skill than might reasonably have been expected from a person of his knowledge and experience;
   
   
2. a director was not bound to give continuous attention to the affairs of his company. His duties were of an intermittent nature to be performed at periodical board meetings and at meetings of any committee of the board upon which he happened to be placed. He was not however bound to attend all such meetings, though he should have attended whenever in the circumstances he was reasonably able to do so;
   
   
3. in respect of all duties that, having regard to the requirements of the company's business and the Articles of Association, might properly have been left to some other official, a director was, in the absence of grounds for suspicion, justified in trusting that official to perform such duties honestly.
   
   

Standard of skill and care: objective test

In recent years the English and Commonwealth authorities have moved towards an objective test for the standard of skill and care. It is likely that the Cayman Islands Courts will follow these authorities:

1. In the case of Re D'Jan of London Limited [1994] 1BCLC 561 Hoffmann J (now Lord Hoffmann) held that the common law duty of care owed by a director was accurately stated in s214 of the English Insolvency Act 1986.
   
   
2. Consequently the conduct now likely to be required of a director in the Cayman Islands (whether executive or non-executive) is the conduct of:

"A reasonably diligent person having both - (a) the general knowledge, skill and experience that may reasonably be expected of a person carrying out the same functions as are carried out by that director in relation to the company, and (b) the general knowledge, skill and experience that that director has".

3. Therefore, there is a minimum objective standard based upon the functions given to the director in question but the standard can be raised where the director in question has more knowledge, skill and experience than would normally be expected.
   
   
4. Given the way that the modern test is framed it would be wise whenever a director is appointed to define his functions specifically.
   
   
5. In Re Barings Plc (No 5) [2000] BCLC 523 the English Court of Appeal approved the summary given by Jonathan Parker J at first instance in that case in the following terms:
   
   

(a) "Directors have, both collectively and individually, a continuing duty to acquire and maintain a sufficient knowledge and understanding of the company's business to enable them properly to discharge their duties as directors.

(b) Whilst directors are entitled (subject to the articles of association of the company) to delegate particular functions to those below them in the management chain, and to trust their competence and integrity to a reasonable extent, the exercise of the power of delegation does not absolve a director from the duty to supervise the discharge of the delegated functions.

(c) No rule of universal application can be formulated as to the duty referred to in (b) above. The extent of the duty, and the question whether it has been discharged, must depend on the facts of each particular case, including the director's role in the management of the company."

This summary was most recently cited in Equitable Life Assurance Society v Bowley & 14 ors [2003] EWHC 2263 (Comm) by Lindley J who noted that the extent to which a non-executive director may reasonably rely on the executive directors and other professionals to perform their duties is one in which the law can fairly be said to be developing and is plainly "fact sensitive".

6. The degree of care required (as opposed to skill) has been described as "such care as an ordinary man might be expected to take on his own behalf": Dorchester Finance Company Limited v Stebbings [1989] BCLC 498. However, one of the leading texts, Palmers Company Law, Vol 2 para 8.050, suggests that if a non-executive director fulfills his duties conscientiously, the Court may be inclined to apply a different standard to the obligation to exercise skill, care and diligence from that applied to a full-time director. In Equitable (supra) Lindley J found that it was plainly arguable "that a company may reasonably at least look to non-executive directors for independence of judgment and supervision of the executive management."
   
   
7. It is likely that there is now a positive duty to act. The old English cases suggesting that nonattendance at board meetings would not of itself normally amount to a breach of the duty of care (for instance, Re Cardiff Savings Bank [1892] 2Ch 100) can no longer be regarded as good law in the Cayman Islands. In the case of Daniels v Anderson, Judgment 15th May 1995, the Court of Appeal of New South Wales observed that:

"The responsibilities of directors require that they take reasonable steps to place themselves in a position to guide and monitor the management of the company...Nor can a director rely blindly on the judgment of others". (Headnote)

This is supported by Palmers (supra) which suggests that "A non-executive director has the duty to keep himself informed about the business activities and financial status of his company, to attend board meetings with fair regularity and to check on the activities of the full time directors and leading executives." )

The new Combined Code on Corporate Governance published by the English FRC for reporting years beginning on / after 1 November 2003 is also a good point of reference. Although not directly binding in the Cayman Islands, it is best practice and more up to date than Daniels v Anderson. The code provides that directors have, both collectively and individually, a continuing duty to acquire and maintain sufficient knowledge and understanding of a company's business to enable them properly to discharge their duties as directors.

8. Notwithstanding the above, by definition the duty of care is not absolute. Therefore it is still proper for the board of directors to delegate management functions, especially in large companies. Particular functions may be further delegated to others in the company. However, delegation does not absolve a director from the duty to supervise the discharge of the delegated functions. Nevertheless the Cayman Islands Courts will examine the conduct of the director in any individual case to ascertain whether he met the standard required of him as described above. It follows that each separate set of circumstances should be the subject of specific legal advice, which takes into account the prevailing factors.
   
   

LIABILITIES OF DIRECTORS

Generally speaking, directors are not personally liable for the debts, liabilities or obligations of a company except for those debts, liabilities or obligations which arise out of the negligence, fraud or breach of fiduciary duty on the part of an individual director, or an action not within his authority and not ratified by the company.

The analysis of directors' liability is assessed under two separate heads:

1. liability to the company and its shareholders; and
   
   
2. liability to third parties outside the company.
   
   

Liability to company and shareholders

Under the first heading the question would arise where the director provides negligent advice or acts negligently with the result that the company's assets are diminished and as an indirect consequence the market value of the shares falls. The general principle laid down by the English case of Foss v Harbottle (1843) 2 Hare 461 would apply in that the directors' duties are taken to be to the company and not to its individual shareholders. This can give rise to difficulties where, for example, the directors have voting control of a company and use that control to block any action by the company against them. There are, however, several exceptions where the shareholders can bring action against the directors but this action (called a "derivative action") is raised by the shareholders (or one or more of them) acting on behalf of the company. The shareholders are merely seeking to obtain a remedy for the company itself for the wrong done to the company. Generally speaking, it is possible for minority shareholders to sue on behalf of the company where some reason can be shown that, unless they are permitted to do so, the interests of justice will be defeated. The law relating to derivative actions is extremely complex and the foregoing remarks are intended only to highlight the manner in which shareholders could take action against the company's directors.

Liability of other directors

The mere fact that one director is liable to the company for a breach of duty does not of itself render the remaining directors also liable. Thus, for example, in the absence of negligence the director is not liable for a breach of duty by other directors of which he was ignorant. Decided English cases have held that failure to attend board meetings does not of itself make a director liable for the act done at those meetings by his co-directors, and agreement to a course of practice resulting in loss does not create a liability where a director has taken no part in the specific action giving rise to the loss.

However, a director will be liable if he has failed to supervise the activities of a guilty director in circumstances where his duty of care obliges him to do so, or where he has knowingly participated in or has sanctioned conduct which constitutes a breach of duty - and in these circumstances a comparatively slight degree of participation is sufficient to create liability.

Liability to third parties

The directors can also in certain circumstances incur personal liability to third parties eg a director is potentially liable in tort for his acts as a director. By way of example, if a director makes a negligent statement to a third party relating to the company's clients or its business generally and the third party suffers a loss as a result of reliance upon such statement, the director could incur personal liability. Again, the circumstances in which the third party could take such action vary and depend also on the degree of professional skill exercised by the director in providing advice to the third party.

Powers of liquidator

Mention should also be made of the provisions of sections 171 and 172 of the Companies Law by virtue of which the liquidator of a company is empowered to take action against any past or present director, manager, officer or member of the company if it appears in the course of the winding up that such person has been guilty of a criminal offence in relation to the company.

Indemnities

Cayman Islands laws do not prohibit or restrict a company from indemnifying its directors and officers against personal liability for any loss they may incur arising out of the company's business. The indemnity extends only to liability for their own negligence and breach of duty and not where there is evidence of dishonesty, wilful default or fraud. Accordingly, and subject to the above exception, many companies registered in the Cayman Islands include an indemnity for the benefit of all their directors and officers in the Articles of Association. The company will then usually insure against its own liability under the indemnity.

AUTHORITY OF DIRECTORS TO ACT

Authority under the Articles

The constitutional documents of a Cayman Islands company consist of its Memorandum of Association and Articles of Association. The Memorandum of Association generally sets out the objects and powers of the company and the Articles of Association deal with matters related to its internal workings.

The Articles of Association generally authorise the directors to transact the business of the Company and to exercise all its powers, usually without the participation of the shareholders. It is open to the directors to delegate (if they are permitted by the Articles of Association to do so) any specific function to any one of their number or to committees or to the company's officers. Without such delegation and in the absence of any provision in the Articles of Association to the contrary, no director or officer or other person is empowered to individually act to bind the company. There is the exception of "ostensible authority" where in certain circumstances it may appear to a bona fide third party that a director or officer is empowered to act for the company and the company may be bound thereby, but any director attempting to proceed in reliance of this should exercise caution. It is advisable that the delegation of any power to any particular director, officer or other individual to act on behalf of the company be fully considered and expressly approved by the board of directors.

Authority under the Memorandum

Section 7(4) of the Companies Law provides that:

A company's Memorandum may therefore restrict capacity and powers to act to the furtherance of specified objects (although it should be noted that this is the exception rather than the rule). Any action of the company decided on by the directors for which the company is without capacity or which is not in furtherance of the specified objects will be ultra vires.

Ultra vires

With regard to lack of capacity or powers of a company and ultra vires acts, section 28(1) of the Companies Law provides that:

In addition, section 27(2) the Companies Law provides that no act or disposition will be ultra vires by reason of lack of corporate benefit to the company.

Transactions entered into with third parties will therefore not be rendered invalid by virtue of lack of capacity or lack of corporate benefit.

Neither actions of the company that are ultra vires the Memorandum of Association nor the directors' breach of duty to the company in entering into such an ultra vires transaction are ratifiable, even by a unanimous vote of all the shareholders. However, actions taken by the directors of a company that are ultra vires the powers vested in the directors by the Articles of Association (eg in respect of which the directors lacked the capacity to act, or where there is no benefit to the company) can be ratified by the company in general meeting.

The difference between acting ultra vires the Memorandum of Association and acting ultra vires the Articles of Association is important as, if the directors effect an unauthorised act, their personal liability for so doing may depend upon whether such act is capable of ratification and is subsequently ratified by the company in general meeting.

SEGREGATED PORTFOLIO COMPANIES

Directors of any Exempted Segregated Portfolio Company (an "SPC") have additional duties and liabilities pursuant to Part XIV of the Companies Law. These include:

1. the duty to establish and maintain the segregation of a portfolio's assets from other segregated portfolios and the general assets of the SPC; and
   
   
2. the duty to ensure that the SPC states the capacity in which it is contracting in relevant transaction documentation.
   
   

For further information see the Walkers memorandum on Segregated Portfolio Companies.

Cayman Islands Wayne Panton, Partner London David Whittome, Partner Jersey Heather Bestwick, Partner

British Virgin Islands Jack Boldarin, Partner Hong Kong Philip Millward, Partner Dubai Rod Palmer, Partner

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.