20 July 2022 by and Corporate & Commercial Alert

Liability of directors for potentially misleading product claims

The scope in which directors may incur personal liability is regulated by the Companies Act 71 of 2008 (Companies Act). To compete in any market directors are required to make strategic and “risk for reward” commercial decisions on behalf of a company.

However, certain forms of behaviour are prohibited outright and can attract personal liability. What follows is a theoretical discussion on whether this rings true in relation to potentially misleading product claims, taking into account the provisions of the Consumer Protection Act 68 of 2008 (CPA) and the Companies Act.

The CPA

Section 29(a) of the CPA states that a producer, importer, distributor, retailer or service provider must not market any goods or services “in a manner that is reasonably likely to imply a false or misleading representation concerning those goods or services, as contemplated in section 41”.

Section 41(1)(a) of the CPA states that when marketing goods or services, a supplier must not “directly or indirectly express or imply a false, misleading or deceptive representation concerning a material fact to a consumer”.

Read together, these provisions not only proscribe the act of sharing information that is blatantly false or misleading, but they also prohibit the marketing of products or services in a manner that would reasonably convey a false or misleading perception of a product or service.

These statutory prohibitions are widely known, as are the reputational and legal consequences flowing from them. However, understanding the extent to which a director may be held personally liable for damages incurred by a company for engaging in this practice requires a closer look at the provisions of the Companies Act.

The Companies Act

Section 76(3)(c) of the Companies Act codifies certain fiduciary duties that directors owe to a company which include “acting with the degree of care, skill and diligence that may reasonably be expected of a person (i) carrying out the same functions in relation to the company as those carried out by that director; and (ii) having the general knowledge, skill and experience of that director”.

In addition, section 77(2)(b) of the Companies Act provides that a director may be held liable in accordance with the principles of the common law relating to delict for any loss, damages or costs incurred by the company resulting from a breach of his or her duties contained in section 76(3)(c). It is important to note that under section 77 the plaintiff is the company, not the company’s consumers or creditors.

Without any authority to the contrary, it is not unreasonable to presume that a contravention, by a company, of sections 29(a) and 41(1)(a) of the CPA would prompt an investigation into whether the responsible director acted with the required degree of care, skill and diligence, particularly if the director was instrumental in the release of misinformation.

Section 77(3)(b) of the Companies Act provides that a director is liable for any loss, damages, or costs incurred by the company as a “consequence of the director having acquiesced in the carrying on of the company’s business despite knowing that it was being conducted in a manner prohibited by section 22(1)”.

Section 22(1) of the Companies Act states that “a company must not carry on its business recklessly, with gross negligence, with intent to defraud any person or for any fraudulent purpose”.

The key word here is “fraudulent” activities, the meaning of which extends far beyond the ambit given by its predecessor, section 424 of the Companies Act 61 of 1973 (Old Companies Act). Previously this only related to defrauding creditors, whereas under the current Companies Act this prohibition exists in relation to “any person or for any fraudulent purpose”.

Recent case law

However, when interpreting the meaning of “fraudulent” in section 22(1), recent case law shows us that the principles developed around section 424 of the Old Companies Act are still relevant. In this regard, Stegmann J summed up the position as follows:

It is confined to those instances in which it can be proved that the person who made the misrepresentation knew that it may not be correct and therefore had no honest belief in its truth, and yet, by making it, suggested that he did believe it to be true.”

Our judiciary has not had an opportunity to determine whether potentially misleading product claims would equate to fraudulent conduct. However, from a theoretical perspective this would not be a difficult connection to establish.

Liability of directors to third parties such as creditors and consumers remains an evolving area, in light of section 218(2) of the Companies Act, which is a general liability provision in respect of breaches of the Companies Act. Certain obiter dicta in Mirchandani v Unica Iron & Steel (Pty) Ltd and Unica Iron & Steel (Pty) Ltd v Mirchandani (802/2020, 813/2020) [2022] ZASCA 58 keep the possibility alive for third parties to hold directors personally liable (in delict) for a breach of their fiduciary duties. While almost every rule has its exceptions, balanced against the proposition of personal liability is the fundamental notion of the separate juristic personality of a company, the starting point always being that directors are not held personally liable where it is the company which acted. However, questions of delictual wrongfulness and “duty of care” also come into play.

Conclusion

From the above, it is evident that personal liability of directors for potentially misleading product claims has not received much attention from our judiciary. However, the dynamic nature of sections 76(3)(c), 22(1) and 218(2) of the Companies Act suggest that the imposition of personal liability under these circumstances is not out of the question. This would be so even if a director was not instrumental to, but nevertheless exercised control over, the release of such misinformation. To avoid being the subject of any future precedent on this topic, it is advised that directors scrutinise all commercial decisions against their duty toward a company and whether the risks relating to such decisions would survive the above provisions.

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