Director\’s personal liabilities for acts of fraud and mismanagement under UAE and US company laws

Director\’s personal liabilities for acts of fraud and mismanagement under UAE and US company laws

Introduction

With the current constant integration of different types of corporations globally, the idea of the responsibility and liability of a particular director is being scrutinized by most scholars (Otman 12). Per se, any firm aiming at penetrating either the U.S or UAE’s markets must first familiarize itself with the respective country’s legislations on set-up and management of the company (Otman 13). Both nation’s company laws contain relevant provisions on the specified duties of the directors of a corporation. It is imperative that such a firm familiarize itself with the dynamics of the market and to subscribe to the instituted legislations (Otman 14). A manager of a particular company has a simple task which is to avoid such actions that may be viewed as unethical or rather unlawful. When these duties are breached, a liability ensues implying that the company must articulately comprehend various duties and oblations of its directors depending on the specified legislations of the host nation (Otman 17). For instance, a director ought to exercise ‘reasonable care’, acting within the jurisdiction and the duty not to open any other related enterprise that may compete with the firm (Zona, Fabio, Alessandro, and Alessandro 301).

Additionally, a director is under oath not to engage the firm in a credit contract for fear of misrepresenting the firm’s financial position. The director must also swear to selfishly protect the secrets of the establishment without taking advantage or holding the company hostage by amassing profits out of these profits (Zona, Fabio, Alessandro, and Alessandro 305). As aforementioned, when the above obligations are breached, a director will be held responsible and dealt with according to the stipulated legislations. The study gives an explicit analysis of the possible factors to be taken into consideration when acts leading to frauds and mismanagement occurs in a firm. The study is very accurate with the UAE and U.S legislations articulately analyzed. More specifically, this document will put particular emphasis on individual liability (directors) as stipulated in both the U.S and UAE company laws.

Case study of the UAE Company Laws

The Federal Law No. 2 (2015) specifies all the rules and regulations that companies operating in the UAE must subscribe to. This new set of legislations stresses on the importance of all companies operating within the UAE improving their governance. Every director must, therefore, be aware of the specific liabilities and comprehend scope of actions.

Directors’ Liabilities for acts of Mismanagement and Fraud in the UAE

Company laws in the United Arabs Emirates give various provisions on the specific actions to be taken by a director of a company associated with mismanagement and fraud (Black, Brian, and Michael 11). In essence, a director has the responsibility to act honestly and demonstrate fairness in the execution of duty. Also, the directors must aligned all their actions in accordance to law and not to abuse their powers and privileges. Any director of a company operating in the UAE who for personal gain, or any other ‘irrelevant’ purpose transact business in the name of the company bears a personal liability (Black, Brian, and Michael 12). Article 9 of the New UAE legislations asserts that a company shall act as a legal entity, and any individual or contract signed therein in its name shall bear all the liabilities and obligations that may arise. The article specifies the varied forms that a company shall assume, and that any company that shall fail to adopt any of the postulated form shall considered null and void. Per se, the directors shall be individually or jointly liable for any responsibility ensuing from such contracts. Moreover, when a particular director is involved in providing a document that contains false data leading to fraudulent activities using the company’s credentials will be fined or even prisoned in extreme cases (Black, Brian, and Michael 15). Fine imposed or prison sentence rendered will depend on the extent and seriousness of the problem coupled with how the jury will interpret the laws. Similarly, when a director transacts using false data and information containing the firm’s logo and signatures with prior knowledge of the possible consequences will attract similar penalties int the United Arabs Emirates (UAE) (Black, Brian, and Michael 18).

The current economic complexities have necessitated the scrutiny of most companies by their stakeholders to identify possible transactions that may not be authorized coupled with other commercial challenges. In the UAE, for example, there is common notion that a company’s director has limited functions, and that the position is largely ceremonial (Black, Brian, and Michael 21). In other countries such as the U.S, various legislative trends are springing out clearly explaining the responsibilities and duties of these directors (Black, Brian, and Michael 22). It is important to note that the UAE legislations on companies do not specify any action against managers involved in fraudulent activities and potential misuse of the resource.

Directors under UAE Company Law are held liable when the performances of the firms are below what is expected (Loss 38). Notably, ‘mismanagement’ as a form of liability is not clearly advanced under Article 15 resulting in very few directors being held accountable for their actions. The article stresses on the significance of engaging ‘competent’ parties in the management of the company. According to Article 15, this can be attained through registering a memorandum of association detailing the varied responsibilities of the directors, otherwise, the directors shall not bear any liability to the third party (debtors and creditors). Any damage suffered by the company, however, shall be indemnified by the company directors due to possible non-registration of the MOU or any other relevant amendment.

However, Article 16 of the New UAE legislations has a provision that can force a director to take responsibility for the losses and even the compensate the company. For example, if a third party can prove that the existence of a company’s memorandum, the shareholders may still be held liable. Nevertheless, it must be proven beyond reasonable doubts that the director made an error in his decision or judgment, and that the director violated provisions stipulated under the memorandum of the company. Any person (s) that shall be in contact with the third party on behalf of the company shall be personally and jointly liable from the commitment that shall arise from such contracts. Notably, in case the company shall be ruled to be invalid, the company’s debtors shall not be discharged from their debts. Similarly, invalidity of the company shall imply that the said memorandum shall only be applicable in initiating the liquidation of the company, and settlement of the shareholders.

Provisions for possible consequences under UAE laws

Under the UAE’s legislation, the duties and responsibilities of the directors are found in the nation’s constitutional laws on companies among other ministerial resolutions as may be provided from time to time (Loss 43). Any other obligation of a director is precisely stated in various legislations, for instance, the Penal Code among other commercial laws. The country’s JSC laws provide various provisions that will be applicable in cases of mismanagement or fraud involving one of the company’s directors (Loss 46). In addition, a company director is not permitted to abuse any power accorded by law when discharging duties (Loss 48). The degree of care, especially in performance of the role of the directors, will be enacted depending on the particular interest of the company and that of the stakeholders.

Notably, the scope of mismanagement or fraud should first be analyzed before making any decision on the specified actions that can be taken by the director. Article 69 further stipulates various degrees under which company can pursue a director found to have mismanaged the firm or to have been involved in fraudulent activities. The article further stresses that ‘silent partners’ (directors) shall be held accountable for any ‘prohibited management acts’ that are not duly authorized by other partners. When shareholders suffer any loss as a result of the director’s actions, the UAE laws may allow the stakeholders to make a claim on the director (s). For example, when the manager fails to distribute profits or dividend among the stakeholders without accounting for the destination of the cash, a claim may be instituted (Funk 416). All these amounts to neglect to specific duties stipulated under various legislations on companies that are operating in the UAE.

However, any director bringing an issue against any of the directors must duly inform the board of any personal involvement in the case before being authorized to proceed with the investigations. Additionally, incorporating more directors into the management of the company shall be done upon consulting ‘competent entities’ as stipulated under article 75. The directors owe both the company and the stakeholders a duty to take great care of the firm with limited or no cases of mismanagement or fraud. The article specifies that increasing the number of partners to a certain limit shall require the notification of competent authorities within 30 days of the said increase. Article 75 of the UAE laws further asserts that every partner shall personally or jointly be held liable from their respective assets for the debts accrued by the company from the date the number of partners increased. Any partner not aware of the said increase shall, however, be exempted from such liabilities.

The right to bring an action against personal liability according to the UAE and U.S laws

Article 84 is very explicit on the liability of the managers to the company in case of any fraudulent acts or losses. Such managers shall be held liable for any losses or expenses suffered by the company because of misuse of power and infringement of the provisions of any relevant legislation. When instituting such actions, the corporation must take into consideration the actions of the firm’s stakeholders who are powered to initiate any form of punishment against the directors with personal liabilities cases (Funk 423). Based on this, any company operating in both countries is allowed by law to start actions against such a director in cases of mismanagement and fraud. However, the damage must be proved beyond reasonable doubts to have caused damages both to the firm’s clients and to the stakeholders (Funk 424). Notably, any actions against a specified director to face charges of fraud and mismanagement must have been endorsed by the stakeholders to initiate an investigation into the management (Funk 431). Moreover, the firm’s shareholders have the right to inaugurate any possible action against the director and push for the cancellation of employment contract if found to have contravened any legislation.

Article 162 further reiterates that the Board shall be held responsible towards the company especially if the damage arose from a wrong decision unanimously passed by them. However, one of the duties of a director is to charge responsibilities accorded with utmost decorum and honesty. Per se, any act of fraud or mismanagement on personal interest rather than that of the company shall have violated the provisions stipulated under Article 162 of the Federal company statutes. In addition, if the decision made on behalf of the company resulted in an error, the directors shall be held accountable. Those directors, however, who either may have rejected the decision, in writing or otherwise during the meeting in which the decision was made shall be exempted from bearing any form of liability. Being absent when the ‘bad’ decision was made will not exempt a director from being held liable unless it can be proven beyond reasonable doubts that the director was not aware of the meeting or the decision, and could not object to it thereof. The article also stipulates that a lawsuit on liability is permissible if the acts lead to loss of profits or dividends to stakeholders.

Shareholders will only be involved if the company has duly failed to act against the director in question, and if such fraudulent actions lead to personal loss of profits or dividends to be remitted to the shareholders (Funk 433). Any foreign national, however, that shall not be directly affected by the actions of the directors will not be in a position to initiate a legal procedure or action against the firm’s directors. Article 109 postulates that the ‘founders’ shall be held liable for any loss arising from the mismanagement of the establishment. Per se, possible repayments and dividends shall be remitted by the ‘founders’ within a specified time frame as emphasized under article 128. These companies operating in the UAE shall be jointly and personally responsible for all their actions whatsoever as explicitly stated under article 328 of the new UAE Company laws. The article further affirms that every foreign company operating in the UAE shall be duly licensed by competent authorities with the consent of the relevant ministry explicitly detailing the company’s activities. Per se, if the company breaches any provisions, the persons conducting such activities shall be held personally and jointly liable for any damage.

Remedies against the directors under the UAE laws

Directors operating under the UAE Company rules has a limited remedy against purported breach of obligations and accountabilities (Adawi, and Kami 276). Getting any form of injunction from the courts in the UAE is a difficult task. As such, restraining a director under the UAE company laws for acting in a particular way is also challenging. Such a director has various options through which they can duly protect himself against any claim of mismanagement or fraud (Adawi, and Kami 278). For example, a director may claim that the company granted him an indemnity and that no amount of damages that are to be awarded may be incurred by him.

Furthermore, most of the managers have insurance policies that cover them against most of these penalties and costs (Adawi, and Kami 279). Another possible claim is that the reported failure by the corporation can only be attributed to market failures and that the manager could not effectively control such acts (Adawi, and Kami 276). Bringing such a claim will, therefore, be a direct breach of some of the duties and responsibilities of the directors. In essence, the use of insurance policy and indemnification as a form of remedy in the UAE is a very common practice (Elewa 19). However, the postulated solutions that the directors can claim are subject to specific provisions of the UAE Company Laws which must be taken into serious consideration (Elewa 19).

Case study of the U.S laws

Under the U.S laws, any decision made by a director of an enterprise will not be subjected to individual liability in the event of any failure (Dix, Fernand, and Kimberly 21). Even if the director is proven beyond reasonable doubts to have been in contravention of such acts, or if the results were due to the wrong decisions made by the director, the U.S law does not give any provision rendering the director liable (Dix, Fernand, and Kimberly 23). However, many institutions of law are designing appropriate ways through which they can effectively expand provisions on individual liability of directors operating in the U.S. The principal argument that the company itself functions as a legal entity and that any decision made will be directly attributed to the firm and not individual stakeholders (Dix, Fernand, and Kimberly 27). An organization can own assets and enters into contracts as a legal person and liable to own credits and obligations.

In other words, an individual cannot be held accountable for making decisions in a corporation simply by being a director of the company (Dix, Fernand, and Kimberly 29). Fraud and proven mismanagement, however, are considered to be tortious acts, and individual perpetrators will be held personally liable for any loss the company may record in the process. Personal liability under the U.S laws for fraud of mismanagement cannot be perused effectively (Dix, Fernand, and Kimberly 31). Unless the action involves the dissolution of the entity, a director in most of the U.S company laws has a fiduciary relation to the enterprise in question. A director has a particular responsibility of using personal expertise to expand and improve the operations of a business (Dix, Fernand, and Kimberly 33). They are responsible for making most of the important decisions that determine the survival of an enterprise. Article 154 of the U.S company laws gives the directors absolute authority to act on behalf of the company, and that any liability will be on the firm being a legal person.

Fraudulent Trading and Wrongful Trading     

Fraudulent trading can be defined as any activity that is aimed at defrauding the stakeholders of a particular company. Wrongful trading describes a serious form of fraudulent trading covering every aspect of a company. Per se every country has specific legislations that governs and controls the possibility of these cases occurring or recurring. The directors are liable toward the company, shareholders and third parties. Here, third parties include people like liquidators and creditors who could initiate legal action accusing the Directors of either acting fraudulently or negligently. In such cases, the U.S or UAE Judge would lift the veil of incorporation and require the Director to contribute/ compensate the company’s losses.

The Directors’ fiduciary obligations and lifting the veil of incorporation are inseparable. In other words, if the Director of a company breaches his obligation to use reasonable care, skill and diligence, it means he is acting negligently. And if the Director breaches his obligation to exercise the powers of the company for the purposes for which the powers were given but uses his powers to accomplish ulterior motives, his actions would connote to his acting fraudulently. Breaching fiduciary obligations would lead to lifting the veil of incorporation.

Sources of personal responsibility under the U.S Company Laws

When it can be proven beyond reasonable doubts that there was a breach of the fiduciary relationship between the director, and the company, a claim against a director (s) may be instituted (Saunders, Anthony, Marcia, and Patricia 23). For instance, when the director is personally responsible for conducting businesses that are fraudulent on behalf of the company, he will be held accountable for any loss. In addition, a director may volunteer to be liable for any form of mismanagement of the enterprise and will be sued based on this claim (Saunders, Anthony, Marcia, and Patricia 27).

Fraud is largely a personal offense, and when a director is found to have facilitated it, the liability will be personal prompting a possible litigation. There must be a viable proof that the director acted in individual capacity during the fraudulent act of claiming personal commitment. The U.S laws clearly stipulates that the company (being a legal person) will be held liable and subjected to legal suits for any action of the directors. The unlawful actions or bad decisions made by the directors shall be a direct responsibility of the company as stipulated in the same article (Saunders, Anthony, Marcia, and Patricia 33).

Conclusion

The above analyzes are very precise on the personal responsibility of every director in cases of fraud or even mismanagement as stipulated in the U.S and UAE laws. A director that will be ascertained to have violated any law will be sued based on the stipulated legislations and subsequently prisoned or even fined. Per se, a good director should dispense duties diligently and with the requisite decorum based on the postulated laws and with good intentions to avoid the possibility of personal liabilities. Minimal responsibilities of directors under U.S laws allow them to have a greater say in the decision-making processes. Notably, both the U.S and UAE’s legislations on the liabilities of directors stipulate various conditions under which a claim can be instituted against fraud and mismanagement. A ‘good’ director will ensure strict adherence to the duties and responsibilities assigned by the respective enterprise.

 

Work Cited

‘Federal Law No. 2 of 2015 Issued on 1/04/2015 Corresponding to 17 Dhi Al-Hijjah 1436 H. ON COMMERCIAL COMPANIES’ Retrieved from: https://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=books&cd=1&cad=rja&uact=8&ved=0ahUKEwiXmtKJ8Z7LAhUnYpoKHeaxAVcQFggcMAA&url=http%3A%2F%2Fejustice.gov.ae%2Fdownloads%2Flatest_laws2015%2Ffederal_law_2_2015_commercial_companies_en.pdf&usg=AFQjCNF4wig6mMK_ct1qNXO_OiKVmOrpLg&sig2=7s7S7DKgBF4KfHvzwHNFvg&bvm=bv.115339255,d.bGs

Adawi, Mohamed, and Kami Rwegasira. “Corporate boards and voluntary implementation of best disclosure practices in emerging markets: Evidence from the UAE listed companies in the Middle East.” International Journal of Disclosure and Governance 8.3 (2011): 272-293.

Black, Bernard S., Brian R. Cheffins, and Michael Klausner. “Outside director liability: A policy analysis.” Journal of Institutional and Theoretical Economics JITE 162.1 (2006): 5-20.

Dix, Nancy O., Fernand A. Lavallee, and Kimberly C. Welch. “FEAR AND LOATHING OF FEDERAL CONTRACTING: ARE COMMERCIAL COMPANIES” REALLY” AFRAID TO DO BUSINESS WITH THE FEDERAL GOVERNMENT? SHOULD THEY BE?.” Public Contract Law Journal (2003): 5-36.

Elewa, A. A. “New UAE commercial companies law soon.” Gulf News 26 January (2007).

Funk, Stephen F. “Recent Developments in Delaware Corporate Law: In re Caremark International Inc. Derivative Litigation: Director Behavior, Shareholder Protection, and Corporate Legal Compliance.” Del. J. Corp. L. 22 (2007): 311-1337.

Loss, Louis. “THE FIDUCIARY CONCEPT AS APPLIED TO TRADING BY CORPORATE “INSIDERS” IN THE UNITED STATES*.” The Modern Law Review 33.1 (2000): 34-52.

Otman, Khaled Abdelkader Muftah. Corporate governance and firm performance in listed companies in the United Arab Emirates. Diss. Victoria University, 2014.

Saunders, Anthony, Marcia Millon Cornett, and Patricia Anne McGraw. Financial institutions management: A risk management approach. Vol. 8. McGraw-Hill/Irwin, 2006.

Zona, Fabio, Alessandro Zattoni, and Alessandro Minichilli. “A contingency model of boards of directors and firm innovation: The moderating role of firm size.” British Journal of Management 24.3 (2013): 299-315.