Fiduciary Duties: To whom are they owed?
Mr. V. Umakanth had noted here the recent trend of imposing civil liability on auditors which are owed directly to shareholders. He had pointed out that this constitutes a departure from the traditional wisdom that the duty of reasonable care in such situations were owed to the company and not its shareholders. Along similar lines, V. Niranjan had discussed the recent decision of the Supreme Court in Reliance Natural Resources Ltd v. Reliance Industries Ltd. in the Indian Corporate Law blog. In particular, he had drawn the readers’ attention to observations in Justice Sudershan Reddy’s opinion that, “the board has to act in a fiduciary capacity vis-a-vis the shareholders”. While this controversial assertion (it runs contrary to the general understanding that fiduciary duties of directors are owed to the company and the company alone) is perhaps nothing more than a mere passing remark in the Reliance case, it seems to derive support from various other sources as well.
Prof. Gower, for instance remarks [Gower, Principles of Modern Company Law, 6th edn., p. 599-600]:
This however, does not mean that directors can never stand in a fiduciary relationship to the members; they well may if they are authorised by the latter to negotiate on their behalf with, for example, a potential takeover bidder. And something far less than the establishment of an agency relationship may suffice, particularly, as an important New Zealand decision illustrates, in the case of a family company, “depending upon all the surrounding circumstances and the nature of the responsibility which in a real and practical sense the director had assumed towards the shareholder”.
Courts have however not been able to precisely enumerate the circumstances when such a relationship may exist between the directors and shareholders. The decision of the Supreme Court in Sangramsinh P. Gaekwad v. Shantadevi P. Gaekwad [AIR 2005 SC 809] offers some guidance. The court in that case held:
A Director of a Company indisputably stands in a fiduciary capacity vis-à-vis the Company. He must act for the paramount interest of the company. He does not have any statutory duty to perform so far as individual shareholders are concerned subject of course to any special arrangement which may be entered into or a special circumstance that may arise in a particular case. Each case, thus, is required to be considered having regard to the fact situation obtaining therein and having regard to the existence of any special arrangement or special circumstance. [Paragraph 44]
Though the court conceded that “it is impossible to lay down a law which will have universal application”, it went on to enumerate at least two instances where the directors owe a direct duty to the shareholders. The first is when the directors take it upon themselves to advice shareholders and the shareholders act on such advice. This arises especially in cases where the shareholders are faced with the choice of accepting or rejecting a take-over bid. [Paragraph 79] The second is in a case of “transaction of sale and purchase of shares between the director and the shareholder”. [Paragraph 75] However, this was clearly not meant to be an exhaustive enumeration. Consequently, the Supreme Court ruling in Dale and Carrington v. P.K. Prathapan [(2005) 1 SCC 212] seems to add a third category of cases to this list. The court in that case opined:
It follows that in the matter of issue of additional shares, the directors owe a fiduciary duty to issue shares for a proper purpose. This duty is owed by them to the shareholders of the company.
The duty of directors to exercise powers conferred on them only for the purpose for which such powers were conferred is a well-established principle. However, the decision in Dale and Carrington arguably supports the view that every breach of the ‘proper purpose’ doctrine is a violation of the directors’ duty to the company’s shareholders which gives rise to an independent cause of action to the shareholder.
Prof. Wedderburn in his article in the Modern Law Review in 1965 had argued that the shareholders “over and above their specific rights under the articles (to dividend, share certificates etc.)” have “a personal right to have the company administered according to the terms of the articles”. [K. W. Wedderburn, “Contractual Rights under Articles of Association: An Overlooked Principle Illustrated”, 28(3) Modern Law Review (1965)] Is the decision in Dale and Carrington not implicit judicial recognition, albeit in a limited sense (i.e. restricted to cases improper purpose) of Prof. Wedderburn’s much criticised view?