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Kenya Law / Blog / Case Summary: Award of damages as compensation for lost gain where directors breach their fiduciary duty to inform is an appropriate remedy

Award of damages as compensation for lost gain where directors breach their fiduciary duty to inform is an appropriate remedy

Ponce v Société d’investissements Rhéaume ltée

2023 SCC 25

Supreme Court of Canada

Wagner CJ & SCJ; Karakatsanis, Brown, Rowe, Kasirer, Jamal & O’Bonsawin, SCJJ

October 27, 2023

Reported by Faith Wanjiku and Betty Nkirote

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Company Law-directors-duties of directors-duty to inform-where the appellants learnt that Industrial Alliance Insurance and Financial Services Inc. (IA) was interested in acquiring Groupe Excellence-where the appellants failed to disclose IA’s interest in acquiring Groupe Excellence to the majority shareholders-where the appellants decided to buy the whole of the shareholders’ interests in order to resell them to the company for a substantial profit-whether failure by the appellants to disclose to the respondents the interest expressed by IA in acquiring Groupe Excellence constituted a breach of a contractual or legal obligation to inform owed to the respondents and therefore a civil fault-Civil Code of Quebec, 1991 articles 1375 and 1434.

Company Law- duties of directors-fiduciary and contractual obligations -breach of-remedies-where the respondents alleged breach of fiduciary and contractual obligations by the appellants-where the respondents alleged that the appellants had breached their duty to act in good faith, with loyalty and transparency in failing to inform them of IA’s interest in acquiring Groupe Excellence-where respondents claimed for damages of approximately $24 million as compensation for the lost gain-whether an award for disgorgement of profits or compensatory damages for the gain of which the respondents were deprived was an appropriate remedy-Civil Code of Quebec, 1991 article 1611.

Brief facts The respondents instituted proceedings against the appellants who were the presidents of a group of 3 thriving companies in the insurance industry (Groupe Excellence). The appellants had learnt that Industrial Alliance Insurance and Financial Services Inc. (IA) was interested in acquiring Groupe Excellence. Rather than revealing that to the group’s majority shareholders, the presidents decided to buy the whole of the shareholders’ interests themselves in order to resell them to the company for a substantial profit.

The respondents claimed for damages of approximately $24 million as compensation for the gain they would have made through that transaction of which they were deprived. They alleged that the presidents had breached their contractual and legal obligations and their fiduciary obligations, and in particular their obligations to act in good faith, with loyalty and transparency, by failing to inform them of the interest expressed by the purchaser company in acquiring the group. They argued that because of the presidents’ unlawful actions, they were entitled to claim the equivalent of the excess profits made by the presidents.

Issues

  1. Whether failure by the appellants to disclose to the respondents the interest expressed by IA in acquiring Groupe Excellence constituted a breach of a contractual or legal obligation to inform that was owed to the respondents and was therefore a civil fault.
  2. Whether an award for disgorgement of profits or compensatory damages for the gain of which the respondents were deprived was an appropriate remedy.

Held

  1. Two types of loyalty ought to be carefully distinguished. On the one hand, contractual loyalty which arose from good faith required a contracting party to take interests of other parties into account. On the other hand, loyalty in the exercise of a power ought to be exercised only in the beneficiaries’ interest or to achieve the goal that led it to be conferred.
  2. The appellants were not required by the president’s agreement or otherwise, to exercise powers for the benefit of the shareholders. They were not bound, on that basis, by an obligation of maximalist loyalty. The president’s agreement did not impose on the appellants an obligation of loyalty similar to that of a mandatory with the attendant obligation to inform because they did not have the power to represent the respondents in the sale of the groupe Excellence’s shares to IA.
  3. Given that the appellants were not administrators of the respondents’ property, they were correct to state that they did not have a duty of loyalty under article 1309 of the Civil Code of Quebec, 1991 (CCQ) that required them to subordinate their own interests to those of the respondents or their holding companies. The duty to inform owed by the appellants to the respondents could not originate in any obligation of loyalty in the exercise of powers. That meant that the non-disclosure of IA’s interests did not breach an obligation of maximalist loyalty.
  4. Good faith during the pre-contractual face, and by extension, the duty to inform which arose from it ought to be assessed in light the parties’ relationship which in the instant case included the atmosphere of trust that existed between the parties as well as the president’s agreement they had entered into. That pre-contractual duty to inform did not require a party to disregard their own interests or subordinate them to those of another.
  5. The nature of the president’s agreement led to the conclusion that an implied obligation to inform was incident to it. The president’s agreement was the cornerstone of the business relationship between the appellants and the respondents. The role of each party in that relationship was clear. The respondents provided the capital needed for the common enterprise while retaining ownership of the shares and the right to dispose of them, while the appellants agreed to contribute their expertise. That was how the parties chose to join forces contractually to pursue a common goal, the success of Groupe Excellence. Article 1434 of the CCQ provided that a contract bound the parties not only as to what they had expressed in it but also as to what was incident to it according to its nature and in conformity with usage, equity or law.
  6. An analysis of the general scheme of the president’s agreement showed that it was intended to formalize a mutually beneficial business relationship between the appellants and the respondents. In that sense, the agreement reflected and reinforced the high level of trust on which a common enterprise of that kind rested, including, above all, trust that the respondents placed in the appellants.
  7. The sharing of Groupe Excellence’s profits and increase in value was the centerpiece of the agreement because that mechanism encouraged the appellants to step up their efforts to ensure its success, which would ultimately benefit each of the parties. The agreement was such that it provided the appellants with significant benefits, even if the respondents sold their shares. It expressly set out those incentive pay terms and conditions for the appellant’s benefit without spelling out any reciprocal obligation for them. The appellants had an implied obligation to inform the respondents of any fact that could enable them assess the companies’ profits and value and decide whether to sell their shares and if so, at what price. Those implied obligations served to ensure the agreement’s internal coherence. According to the trial court’s findings of facts, knowledge of the interest expressed by IA in acquiring Groupe Excellence would have had a major impact on the respondents’ decision to sell to the appellants and on the price of that sale. IA’s interest in acquiring Groupe Excellence was therefore information that could have helped the respondents make a decision to sell their interests and determine a price. The non-disclosure of IA’s interest was a breach of the implied obligation found by the trial court.
  8. In finding that the appellants had breached the obligation to perform the presidents’ agreement in good faith, the trial court correctly assessed the scope of contractual loyalty and did not require the appellants to subordinate their interests to those of the respondents. The trial court’s findings concerning the appellants’ concealment of the IA’s interest in acquiring Groupe Excellence were not tainted by a reviewable error. The trial court and the Court of Appeal were right in finding two breaches which were inter-related of contractual loyalty, which attached to the presidents’ agreement through article 1375 of the CCQ.
  9. The prohibitive dimension of good faith required among other things, that parties to a contract not act dishonestly in performing it. In the instant case, contractual loyalty did not require the appellants to forsake their own interests to benefit the respondents, let alone to refrain from exercising the legal rights they had under the agreement. In the pursuit of their interests and the exercise of their rights, parties to a contract ought to conduct themselves loyally by not unduly increasing the burden on the other party or behaving in an excessive or unreasonable manner.
  10. In the instant case, the appellants conducted themselves in a disloyal manner and lacked probity when they failed to disclose the interests expressed by IA to the respondents and when they signed an undertaking of confidentiality with IA. The appellants were not obliged to subordinate their own interests to those of the respondents in performing the presidents’ agreement but they had to look out for the interests of the respondents in the legitimate pursuit of their own interests. The respondents could therefore legitimately expect the appellants to refrain from scheming in any way to enrich themselves at their expense. In the context of the business relationship in question, the appellants engaged in dishonest conduct that thwarted the respondent’s legitimate expectations, in pursuing the goal they all had, which was to maximize the profits and value of the Groupe Excellence’s companies for the benefit of both the appellants and the respondents.
  11. Disgorgement of profits without regards to injury was not an appropriate remedy in the instant case. The sanction requested was to compensate for a wrong. The demand was not simply for restitution of profits, much less for disgorgement of profits for a confiscatory or punitive purpose, a remedy that would potentially deviate from the general law of civil liability. It was therefore appropriate to assess, on the basis of the respondents’ alternative argument, the quantum of the damages to be awarded to them to compensate for the loss they claimed to have suffered.
  12. The respondents sought disgorgement of profits as the equivalent of a serious loss they claimed to have sustained as a result of the appelants’ breach of the requirement of good faith. That injury was equivalent to the gain lost by the respondents which was compensable. It could be assumed that, had it not been for the appellants’ wrongful omission, the respondents would have sold their interests to IA at the same price the appellants did. Therefore, what the appellants described as a loss of chance to negotiate ceased to be hypothetical and became simply a loss for which the respondents ought to be compensated in the absence of evidence to the contrary.
  13. The onus was on the appellants to establish on a balance of probabilities that the respondents would have sold their interests to IA for a price lower than the one obtained by the appellants. The appellants did not discharge that burden. The trial court accepted the assumption put forward by the respondent’s firm of experts, namely that, had it not been for the acts alleged against the appellants], the respondents would have received consideration equivalent to what IA paid to acquire the [appellants’ interests in Groupe Excellence rather than the amount they obtained from the [appellants.
  14. The damages owed to the respondents were equivalent to the difference between the sale price received by the appellants on the resale to the IA and the price received by the respondents on the initial sale to the appellants. The injury sustained by the respondents in the form of a lost gain thus amounted to $11,884,743, and the trial court’s award, upheld on appeal, was solidary. The court took note of the agreement reached by the respondents that the amount awarded would be divided in proportion to their shares in Groupe Excellence, to wit; 62 percent for Mr. Rhéaume’s companies and 38 percent for Mr. Beaulne’s companies. The damages were thus allocated as follows:
    1. $7,368,540.60 to Mr. Rhéaume’s companies; and
    2. $4,516,202.40 to Mr. Beaulne’s companies.

Appeal dismissed; costs awarded to the respondents.

Relevance to Kenyan jurisprudence

The Black’s Law dictionary 11th Edition at page 770 defines “fiduciary” as someone who is required to act for the benefit of another person on all matters within the scope of their relationship; one who owes to another duties of good faith, loyalty, due care and disclosure. It is also defined as someone who must exercise a high standard of care in managing another’s money or property.

Flowing from the above definition, a company director owes fiduciary duties to the shareholders of a company due to the nature of their relationship. Section 140 of the Companies Act, No. 17 of 2015 (Companies Act) provides for general duties of directors which are based on common law rules and equitable principles that apply in relation to directors and have effect in place of those rules and principles with respect to the duties owed to a company by a director. The Companies Act does not provide for specific fiduciary duties of a director. They are provided for by common-law to be the duty of loyalty and good faith and duty of care and skill.

The Court of Appeal In Ajay Shah v Deposit Protection Fund Board as Liquidator of Trust Bank Limited (In Liquidation) [2016] eKLR, observed thus:

In truth, directors are agents of the company rather than trustees of it or its property. But as agents, they stand in a fiduciary relationship to their principal, the company. The duty of good faith which this fiduciary relationship imposes is virtually identical with those imposed on trustees and to this extent the description “trustee” still has validity. The duties of directors can conveniently be discussed under two heads: (a) fiduciary duties of loyalty and good faith (analogous to the duties of trustee’s stricto sensu) and (b) duties of care and skill.

The duties of loyalty and good faith can be expounded to include the duty not to profit from a position of trust which directors hold. That duty has been extended to protect opportunities available to a company. Thus a director, even where he is a shareholder should not take any corporate opportunities for personal benefits. That was the holding of the court in Pan Africa Insurance Holdings Limited & another v Dickson Ngatia Gachuche [2021] eKLR.

Further, in Eveready East Africa Limited v Energizer Middle East and Africa Limited & another [2017] eKLR, the court held as follows:

 As a general rule both directors are barred from acting in particular ways when there is conflict of their interest(s) with the interests of a company. There is a duty not to profit from a position of trust which directors hold. That duty has been extended to protect opportunities available to a company. Thus a director even where he is a shareholder should not take any corporate opportunities for personal benefits. The conflict will arise even where the company is not pursuing the opportunities in question and they are presented to the directors on their personal capacity. Where the director appropriates the opportunity, he is deemed as a trustee for the company of any profits made and he will be held liable to account in any action by the company for restitution.

Consequently, where directors of a company breach their fiduciary duty thereby resulting to loss of corporate opportunity to the shareholders, they are always treated as trustees and are required to account in damages to the shareholders for any lost profit.

This case is therefore relevant to Kenyan legal system as it expands Kenyan jurisprudence on the fiduciary duties of directors to act in good faith, with loyalty and transparency. It also sets out the appropriate remedy available to shareholders where directors breach their duty to inform owed to shareholders thereby resulting to loss of corporate opportunity.

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