While corporate M&A activity is typically implemented by management, it should always be done under the supervision and direction of the Board of Directors. This article provides a handy cheat sheet on directors’ duties when dealing with M&A transactions.
Board Duties Generally – Supervise, Direct and Oversee Management
Generally speaking, the Board’s role regarding the management of the business and affairs of a corporation can be summarized as follows:
- The Board supervises, directs or oversees the business and affairs of a corporation.
- The Board appoints executive officers who are delegated responsibility for the day-to-day management of the corporation’s affairs (i.e. the CEO, President, CFO, and other senior executives).
- The Board sets a strategic direction for management to follow and sets limits on management’s ability to act without first seeking board approval.
- And the Board exercises proper oversight to ensure that management is following that strategic direction and staying within those limits.
Board Duties for M&A Transactions – Supervise, Direct and Oversee Management
With that in mind, the Board’s role in M&A transactions can be summarized as follows:
- The CEO and other senior executives are typically responsible for implementing M&A transactions, under the direction of the Board.
- The Board’s role includes:
- Overseeing M&A preparedness.
- Determining whether a transaction can or should be pursued.
- Ensuring conflicts are identified and addressed.
- Overseeing the M&A process.
The Board’s role becomes even more pronounced when faced with a potential change of control transaction for the corporation due to both (i) the significance of the transaction for the corporation and (ii) the potential for management and some Board members to be conflicted.
Fiduciary Duties: (i) Duty of Loyalty and (ii) Duty Of Care
Corporate statutes impose two principal duties on directors:
- Duty of Loyalty: Each director must act honestly and in good faith with a view to the best interests of the corporation.
- Note that the board must consider the interests of all relevant stakeholders of the corporation such as shareholders, bondholders, creditors, employees, etc. and ensure that each group is treated fairly.
- Duty of Care: Each director must exercise the care, diligence and skill that a reasonably prudent person would exercise in comparable circumstances.
Directors cannot contract out of these responsibilities. And directors may be personally liable for any breach of these duties.
Business Judgement Rule
Generally speaking, the “business judgement rule” is a common law concept adopted by the courts whereby the courts will not second guess the decisions of the Board and will consider the directors to have honoured their fiduciaries duties as long as:
- The Board acted with the proper motivation.
- The Board’s decision was un-conflicted.
- The Board was properly informed.
- The Board’s decision fell within the range of reasonable choices.
In the Peoples Department Stores case, the Supreme Court of Canada stated:
“Directors and officers will not be held to be in breach of the duty of care … if they act prudently and on a reasonably informed basis. The decisions they make must be reasonable business decisions in light of all the circumstances about which the directors or officers knew or ought to have known. In determining whether directors have acted in a manner that breached the duty of care, it is worth repeating that perfection is not demanded. Courts are ill-suited and should be reluctant to second-guess the application of business expertise to the considerations that are involved in corporate decision making, but they are capable, on the facts of any case, of determining whether an appropriate degree of prudence and diligence was brought to bear in reaching what is claimed to be a reasonable business decision at the time it was made.”
Where it is reasonable to do so, and subject to appropriate scrutiny, the Board is entitled to rely on (i) information prepared by management, including the financial statements and (ii) reports of experts, such as lawyers, accountants and appraisers.
Board Process for M&A Transactions
Given the foregoing, to protect themselves and their decisions, directors need to be concerned with the process as much as the result. As such, directors should keep the following in mind the following 5 guidelines when faced with a potential M&A transaction:
1. Be Engaged:
- Be actively engaged throughout the transaction.
- Oversee negotiations.
- Approve key decisions.
- Understand key issues.
- Where appropriate, review key provisions in transaction documents.
- Ask questions; Consider the interests of all stakeholders.
2. Avoid Conflicts of Interest:
- Determine if any board members, management or other interested parties (including expert advisors) have any conflicts of interest with respect to the matter in question.
- When conflicts of interest do arise within the Board, consider in camera sessions or the appointment of a special committees.
- If conflicts of interest exist among expert advisors, consider retaining un-conflicted advisors.
3. Make Informed Decisions:
- Receive and review appropriate documentation.
- Consider if a fairness opinion, valuation or any other expert report is required or desirable. As mentioned above, also consider if any of those experts have any potential conflicts of interest.
4. Due Deliberation:
- Devote adequate time to consideration of matters.
- Consider the interests of all stakeholders and whether the transaction is fair to each of them.
- Consider available alternatives.
- Consider tactical matters including both transaction strategy and the fit within the corporation’s strategy.
5. Keep Proper Records:
- Board considerations and decisions should be carefully documented.
- Ideally, minutes should show:
- The directors understood their (i) duty of loyalty and (ii) duty of care.
- Sufficiently in advance of being required to make a decision, the directors were provided appropriate information and materials necessary to make an informed decision including (i) draft copies of documents or summaries of material provisions and (ii) information on available alternatives.
- The directors had adequate time to deliberate in reaching decisions.
- The directors received and considered the input and recommendations of management and, where utilized, independent and un-conflicted expert advisors.
- The Directors had reasonable access to appropriate management and, where utilized, expert advisors in order to ask appropriate questions.
- The directors considered the relevant factors and issues at stake.
- The decision of the directors and the rationale for that decision.
Invitation for Discussion:
The legal complexities of Board duties in M&A transactions may seem ominous but, with the right legal guidance, the Board should be able to easily manage these legal complexities and maintain its focus on using its sound business judgement to make the right decision for the corporation. At Linmac LLP, we have a wealth of experience as legal advisors on M&A transactions, both large and small, and understand the role of the board. If you are contemplating buying or selling a business, please do not hesitate to contact one of the lawyers in our business law group. We would be happy to assist you on this exciting journey.
Disclaimer:
Note that the foregoing is for general discussion purposes only and should not be construed as legal advice to any one person or company. If the issues discussed herein affect you or your company, you are encouraged to seek proper legal advice.