Chapter 4: An Evaluation of Directors’ Duties of Loyalty
4.3 The duty to avoid conflicts of interest: The underlying principles that shape the
One of the fundamental aspects of the duty of loyalty is to prevent directors from engaging in self-interest activities. In common law jurisdictions such as the UK, the law imposes a widely understood requirement upon directors to avoid any form of conflict of interests.1001
This is illustrated, as will be shown below, by the development of equity rules of no- conflict and no-profit that govern the relationship between a director as a fiduciary and a person in a position of trust, and the company. This introductory section will highlight the two rules of no-conflict and no-profit in the UK with examining the extent to which the Saudi corporate statute has recognised the rules in the corporate context.
4.3.1 No-conflict rule
In the UK, the duty to prevent conflicts of interest is the critical essence of the fiduciary relationship.1002 If directors do not conform to this obligation, they might be regarded as
performing their fiduciary duties disloyally and unfaithfully.1003 The no-conflict rule in the
context of conflicts involving directors was clearly stated in the case law before the CA 2006; for example, in the case of Aberdeen Rly Co v Blaikie Bros,1004 the House of
Lords ruled that a director cannot ‘enter into engagements in which he has or can have a personal interest conflicting or which possibly may conflict with the interests of those whom he is bound to protect’.1005 Following the introduction of the CA 2006, it is one of
directors’ obligation, under section 175, to ‘avoid a situation in which he has, or can have, direct or indirect interest that conflicts, or possibly may conflict, with the interests of the company’.1006The scope of section 175 is wide enough to include all conflicts between the
company’s interests and directors’ interests,1007 such as those arising from the directors’
exploitation of any company’s ‘property, information, or opportunity’.1008 Section 175 does
not, however, apply to a conflict of interests resulting from a situation where a director
1001 Gerner-Beuerle and Schuster (n 893) 212.
1002 Bristol & West Building Society v Mothew (n 624) 18. 1003 Ibid.
1004 Aberdeen Rail Co v Blaikie Brothers (1843-1860) All ER Rep 249. This case is about a self-dealing
transaction, but the no-conflict rule applies to self-dealing and to corporate opportunities.
1005 Ibid 252.
1006 Section 175(1) of the CA 2006.
1007 See Explanatory Notes to the CA 2006, para 339. 1008 Section 175(2) of the CA 2006.
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enters into a contract with the company (self-dealing transactions),1009 because such a
situation is governed by section 177 or section 182 of the CA 2006.
With regard to the Saudi law, there is no statutory provision placing directors under a general obligation to avoid conflict of interests. Instead, the statutory approach is to regulate a particular director’s conduct involving a conflict of interests in a separate article. Hence, it can be asserted that the no-conflict rule is recognised in both the 1965 version and the 2015 version of the CL. The rule underlies more specific provisions governing directors, such as the regulation of self-dealing transactions set out in article 71(1) of the CL 2015 (article 69 of the CL 1965), and the regulation of directors’ competition with the company in article 72 of the CL 2015 (article 70 of the CL 1965). Recently, Saudi law has recognised the obligation imposed upon directors to avoid exploiting the company’s secrets for their own benefit;1010 the no-conflict rule underlies such an obligation.
4.3.2 No-profit rule
In addition to the no-conflict rule, the UK law includes another principle in regulating the issue of conflicts of interest that prevents a fiduciary from making a profit.1011 In the
context of company law, the no-profit principle is mentioned in Regal (Hasting) v
Gulliver.1012 In this case Regal (Hastings) Ltd (Regal) owned a cinema and was interested
in obtaining long-term leases on two cinemas. Regal formed a subsidiary company, Amalgamated Ltd, to buy the two cinema leases. However, Regal did not have adequate funds to provide Amalgamated Ltd with £5,000 of equity capital and was only able to raise £2,000. The company’s directors and its solicitor agreed to provide £2,500 of equity capital (£500 each), and the chairman found outside subscribers to provide £500; thus, the capital
required by Amalgamated Ltd. was met. The directors made a profit on the subsequent sale
of the whole company including Amalgamated Ltd. The new owners of Regal appointed a
new board which brought legal action against the former directors to recover the profit they received from purchasing and selling their shares in Amalgamated Ltd.1013 The House of
Lords held that the directors were liable to the company for the profit that had been made from the exploitation of an opportunity that had become available ‘by reason’ and ‘in the
1009 Section 175(3) of the CA 2006. 1010 Article 74 of the CL 2015.
1011 George Bray v John Rawlinson Ford (1896) AC 44 , 51.
1012 Regal (Hastings) Ltd. v Gulliver (1967) 2 AC 134. This case sits in the context of corporate
opportunities.
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course’ of their directorship.1014 It is important to say that the Regal (Hastings) case, as has
been noted,1015 is an example of a case decided on the no-profit rule without reference to
the no-conflict rule.1016 This supported the view that believes that the no-profit rule is
stand-alone and independent from the no-conflict rule.1017 As Koh claims, it may be more
accurate to treat the rules as separate as it is probable in certain circumstances that it will only be possible to hold directors accountable for the breach of his fiduciary duty in accordance with one of these rules.1018
Interestingly, there is disagreement as to whether the CA 2006 clearly recognises the no- profit rule or not. While some assume that the no-profit rule is codified in section 176,1019
others suggest that the CA 2006 lacks clear mention of the no-profit rule.1020 It appears that
the no-profit rule is not directly stated in the CA 2006 and section 176 cannot be viewed as codifying the no-profit rule. While section 176 concerns benefit received by a director from a third party because of his/her being a director or doing something as a director,1021
this is different from the no-profit rule. As one commentator correctly explains, it is true that the directors in the Regal (Hastings) case, for instance, made a profit by reason of their directorship, the benefit resulted from selling the shares to a third party. However, the directors did not receive this benefit because of their position in the company, but because they owned shares.1022 Kershaw perceives that s 176 was simply introduced to ban the
receipt of benefits such as bribes that result from their occupying the position of director.1023 Nevertheless, this does not mean that the position of common law will be
overruled, enabling directors to keep the profit made because of and in the course of their directorship.1024 It rather means that the obligation to avoid conflict of interests requires
directors, as a general rule, not to make a profit as a result of their directorship.1025 Put
differently, the director is only accountable under the no-profit principle once the breach of the no-conflict rule has been established.
1014 Ibid 147–149.
1015 See A McClean, ‘The Theoretical Basis of the Trustee’s Duty of Loyalty’ (1969) 7 Alta L Rev 218, 224. 1016 See Regal (Hastings) Ltd. v Gulliver (n 1012) 139.
1017 See Quarter Master UK Ltd v Pyke (2004) EWHC 1815, para [55]. For recent cases viewing the no-profit
rule as an application of no-conflict rule, see Towers v Premier Waster Management Ltd (2012) BCC 72 ,73.
1018 P Koh ‘Once a Director, Always a Fiduciary’ (2003) 62 Cambridge Law Journal 403, 406.
1019 See, for example, J Lowry, ‘Codifying the Corporate Opportunity Doctrine: The (UK) Companies Act
2006’ (2012) 5 International Review of Law 1,7.
1020 See, for example, Davies and Worthington (n 2) 543. 1021 See section 176(1) of the CA 2006.
1022 D Kershaw (n 310) 574. 1023 Ibid.
1024 Ibid.
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Under Saudi law, neither the CL 1965 nor the CL 2015 involves any provision requiring directors to avoid making profit because of and in the course of their tenure. The effect of this non-recognition is evident when the issue of exploitation of corporate opportunities is discussed below.1026 Further, the CL 2015, as its predecessor of 1965, remains silent about
whether the disgorging of profits is available for the company as a remedy for the breach in situations involving conflicts of interest. The only exception to this is found in article 71(2) of the CL 2015. It clearly states that the directors’ engagement in self-dealing transactions without meeting the disclosure/approval requirement could trigger their liability to account to the company for profits made, as one of remedies for the breach of no-self-dealing rule.1027 The wording of article 71(2) suggests that the fact that a director has made a profit
is not sufficient to impose a liability as the company needs to establish first that the director has engaged in an unauthorised self-dealing transaction.
Having considered the underlying rules shaping the framework of the duty to avoid conflict of interests, the subsequent task is to discuss the application of the two rules in practice. The following two sections will analyse directors’ exploitation and self-dealing transactions under the UK and Saudi laws respectively.