Corporate Law

Author: Andrew Hennigar & Mike Weber

What would you say if someone described to you an actual instance of a company’s failure to keep adequate corporate records and observe corporate formalities costing that company over $100,000 in cold, hard cash – not lost opportunity, but an actual payment? That was the cost of obtaining a B.C. court order to rectify a series of share issuances effected without proper board approval, and without proper record keeping. This company was unable to attract growth capital until it could show investors a record book that accurately reflected its capitalization. While perhaps an extreme example, far too often we see companies incur significant, and avoidable, costs associated with necessary corporate “clean up” that could be avoided if best practices were followed from the start.

Record keeping and observing corporate formalities by a board of directors is critically important for three reasons.

  • First, it is the law. All Canadian corporate statutes require companies keep certain records at its records office, and grant shareholders and others the right to inspect certain records upon request. While you may think you can overlook this requirement in the early days of your company’s existence, doing so creates a bad habit that you will need to unlearn as your company looks to issue shares outside of your initial founder group.
  • Second, in connection with any significant transaction, such as an equity raise, loan, sale, or IPO, one or more parties is certain to conduct due diligence of the company to assess the risk of a dispute arising over who owns shares in the company, or whether a previous transaction was validly undertaken. If a company’s house is not in order, a prospective investor, lender, underwriter, or even customer may pass on the opportunity for fear of inviting themselves into a future conflict. Similarly, overall transaction costs can be greatly reduced if your company does not have to retroactively create a corporate record to ratify actions previously taken without observing proper formality.
  • Third, record keeping and observing corporate formalities is a key element of directors discharging their fiduciary duties. For many aspects of a director’s fiduciary duty, a “due diligence” defense is typically available against a shareholder claim of wrong-doing. If faced with such a claim against a board of directors, the first step is to examine the record of what lead to the board’s decision, and the process by which formal approval to take the action was obtained. If your board plays fast and loose with the formality of its proceedings, it undercuts any defense that it was duly diligent in reaching its decision. The rhetoric so often lobbed against sloppy boards to their detriment is: how could the board have been duly diligent in reaching a decision if it didn’t even take care enough to document its process?

While you are redesigning your board procedures, consider also the composition of your board and how you are, or are not, leveraging the skills and networks of its members. Board member positions are sometimes considered a nice way to flatter an investor or early supporter of a company but you need to expect more out of your board members. Board members chosen for their skills, experience and network can help supplement your company’s weaknesses or need for insight into future growth plans where experience is otherwise short.

Assembling a well-designed board is not enough, however, you need to make use of those skills and networks of your board members. One effective method is to seek out guidance and input, informally outside of scheduled board meetings, from your board members on proposed courses of action that fall within their experience or expertise. Consider your board as an asset like any other to be exploited to support your company’s growth. The stronger your relationship with your board, the stronger their buy-in to the company’s well-being, and greater their contribution to its growth. In turn, the stronger your board’s buy in, the easier it may be to ensure they are spending sufficient time on company matters and conducting their activities in accordance with the best practices outlined above.

Interested in hearing more about managing your board of directors and other topics important to the operation of your growth stage company? Don’t miss our upcoming webinar, Smooth Operator – Managing an Operating Business, jointly presented with Boast Capital from 11:00am – 12: 00pm PST on March 24, 2016, or contact MEP Business Counsel at 604-669-1119. To participate in the webinar REGISTER HERE.

This post is for informational purposes only and does not constitute legal advice or an opinion on any issue. If you are interested in receiving additional details on the topic above or advice about specific circumstances, please contact MEP Business Counsel at 604-669-1119.