Conflicts of Interest and Confidentiality: Directors Beware!
This article is part of a series of bulletins on governance published in 2018, one of which dealing with the duties and obligations of directors.1 Two concepts flowing from the duty of loyalty of directors are conflicts of interest and confidentiality.
It is useful to begin with a review of the relevant provisions of the Civil Code of Québec (the “CCQ”)2 in this regard:
322. A director shall act with prudence and diligence.
He shall also act with honesty and loyalty in the interest of the legal person.
323. No director may mingle the property of the legal person with his own property nor may he use for his own profit or that of a third person any property of the legal person or any information he obtains by reason of his duties, unless he is authorized to do so by the members of the legal person.
324. A director shall avoid placing himself in any situation where his personal interest would be in conflict with his obligations as a director.
A director shall declare to the legal person any interest he has in an enterprise or association that may place him in a situation of conflict of interest and of any right he may set up against it, indicating their nature and value, where applicable. The declaration of interest is recorded in the minutes of the proceedings of the board of directors or the equivalent.
2138. A mandatary is bound to fulfill the mandate he has accepted, and he shall act with prudence and diligence in performing it.
He shall also act honestly and faithfully in the best interests of the mandatory, and shall avoid placing himself in a position where his personal interest is in conflict with that of his mandatory.
2146. The mandatary may not use for his benefit any information he obtains or any property he is charged with receiving or administering in the performance of his mandate, unless the mandator consents to such use or such use arises from the law or the mandate.
If the mandatary uses the property or information without authorization, he shall indemnify the mandator by paying, in addition to any indemnity for which he may be liable for injury suffered, in the case of information, an amount equal to the enrichment he obtains or, in the case of property, appropriate rent or the interest on the sums used.
Conflicts of interest
The concept of a conflict of interest (art. 324 CCQ) stems from the duty of loyalty, which entails acting at all times in the best interest of the corporation. Despite the theoretical simplicity of this obligation, its practical application is not always straightforward.
Among the obvious pitfalls, one can think of cases where directors would be using confidential information or corporate property for their own benefit, or unduly profiting from business opportunities as a result of their role. A director must avoid placing himself in a position of conflict between the interests of the corporation and his own interests or those of persons close to him. In the event of such a conflict, the director must immediately declare its existence to the board and refrain from taking part in discussions in that regard, and above all from voting on the matter.
But what about more complicated cases like that of a nominee director specifically appointed to the board by one or more shareholders? These more complex situations often occur where control of the corporation is held by a limited number of shareholders. The directors appointed by the controlling shareholders will naturally tend to have the interests of those they “represent” at the top of their minds. However, once appointed to the board, such directors must not give precedence to the interests of the shareholders who voted for them if those interests are at odds with those of the corporation. This basic principle is unfortunately often neglected in practice.
When the situation does become problematic because of the negative impact of a corporate decision on a group of shareholders or other stakeholders in particular, the existence of a conflict of interest will generally be one of the primary grounds relied on to challenge and attempt to overturn a board decision, or at the least obtain a financial compensation.
In its decision in BCE3, the Supreme Court of Canada stressed the importance of distinguishing the interests of the shareholders, or of any other stakeholders, from those of the corporation:
66. … However, the directors owe a fiduciary duty to the corporation, and only to the corporation. People sometimes speak in terms of directors owing a duty to both the corporation and to stakeholders. Usually this is harmless, since the reasonable expectations of the stakeholder in a particular outcome often coincide with what is in the best interests of the corporation. However, cases (such as these appeals) may arise where these interests do not coincide. In such cases, it is important to be clear that the directors owe their duty to the corporation, not to stakeholders, and that the reasonable expectation of stakeholders is simply that the directors act in the best interests of the corporation.
Another complex situation is where the nominee director is also an employee of a shareholder. Such a director could find himself in a conflict between his duty of loyalty to the corporation, on the one hand, and his duty of loyalty to his employer as an employee (art. 2088 CCQ) or as a mandatary (art. 2138 CCQ), on the other hand. Here again, when someone is acting as a director, he does so personally, and not as the employee of the shareholder. It would thus be prudent for the director and his employer to sign an agreement specifying the employee’s independence when acting as a director. Such an agreement would achieve two objectives: (1) reassure the employee that he will suffer no repercussions by voting for decisions that can go against the interests of the employer-shareholder, and (2) demonstrate to stakeholders, if this proves necessary, that the employee-director is acting as a member of the board completely independently, in accordance with his fiduciary duty.
These rules regarding the nominee director also apply in cases where a director represents stakeholders specifically related to the corporation. The appointment of this type of director affords the undeniable advantage of benefiting from the input of stakeholders who could be affected by the corporation’s decisions. However, the interests of stakeholders may well differ from those of the corporation, and in such cases the interests of the corporation must take precedence.
Obligation of confidentiality
According to the CCQ, a director’s duty of loyalty also entails that he must preserve the confidentiality of sensitive information obtained while acting as a member of the board.
In its decision in Peoples4, the Supreme Court explained the directors’ duty of confidentiality in conjunction with their obligation to avoid placing themselves in a conflict of interest:
The statutory fiduciary duty requires directors and officers to act honestly and in good faith vis-à-vis the corporation. They must respect the trust and confidence that have been reposed in them to manage the assets of the corporation in pursuit of the realization of the objects of the corporation. They must avoid conflicts of interest with the corporation. They must avoid abusing their position to gain personal benefit. They must maintain the confidentiality of information they acquire by virtue of their position. Directors and officers must serve the corporation selflessly, honestly and loyally: see K. P. McGuinness, The Law and Practice of Canadian Business Corporations (1999), at p. 715.
Confidential information is often defined as information that cannot be obtained publicly. It is often the senior officers and directors of the corporation who determine what information is to remain confidential and what can be shared with the public.
The deliberations of a board of directors are usually considered confidential until such time as the organization decides to render them public. It is more often the resolutions voted on, rather than the discussions leading up to the vote, that are made public.
In the case of nominee directors, it is important to note that they do not have the right to share the confidential information they obtained (by virtue of being a director) with the shareholders or interest groups that appointed them. A way for such directors to avoid this restriction is to obtain the authorization of the corporation, as well as of the shareholders and other stakeholders who participated in their election, to share with the latter a certain portion of information considered confidential.
If there is any doubt, a prudent director will maintain the confidentiality of the information obtained unless there is a clear indication to the contrary.
Conversely, in rare cases, the obligations incumbent on directors may entail the duty to disclose to the board information that they have been given by the shareholders or stakeholders they “represent”, if that information could clearly have negative repercussions on the corporation5.
The duties and obligations of directors should never be taken lightly. They entail a constant concern to be acting at all times in the best interests of the corporation, which means always being vigilant for any potential conflict of interest and exercising a high degree of discretion regarding discussions at board meetings and confidential information obtained by virtue of being a director.
1 Duties and Obligations of Directors: a Brief Overview
Beyond the Duties of Care and Loyalty … the Civil Liability of Directors
Statutory Liabilities of Directors: Marking the Risk Areas to Avoid Sliding out of Control
Directors’ Liability: Get the Means to Defend Yourself!
Cybersecurity Is Also a Question of Governance
Governance in the Era of the #Metoo Movement: an Overdue Wake-up Call
Compliance Programs: A Guardrail to Keep You on the Path of Good Governance
2 The provincial and federal statutes governing business corporations are to the same effect: see Canada Business Corporations Act, R.S.C. 1985, c. C-44, s. 122(1)(a); Business Corporations Act (Quebec), R.S.Q. c. S-31.1, s. 119, para. 2.
3 BCE Inc. v. 1976 Debentureholders,  3 SCR 560, 2008 SCC 69 (CanLII)
4 Peoples Department Stores Inc. (Trustee of) v. Wise, 2004 SCC 68 at para. 35.
5 PWA Corporation c. The Gemini Group Automated Distribution Systems. Inc. et al., 15 O.R. (3d) 730