The Board of Directors sets a corporation’s policy and direction, and is empowered to elect and appoint officers and agents to act on behalf of the corporation, declare dividends, and act on other major matters affecting the corporation. The Board is ultimately responsible for the actions of the corporation.
A director is a person appointed or elected, according to law, to manage and direct the affairs of a corporation or company. The whole of the directors collectively forms the Board of Directors.
Qualifications of Directors
Only a human being may serve as a director. This means that no business entity, whatever the form, may serve as a director.
Age is the one other qualification to be a director in most states. When age is a requirement, the typical limitation is that the director be at least 18 years of age.
Directors of a corporation are not required to be shareholders, nor reside in the state of incorporation.
Number of Directors
Although not necessarily specifically stated in your state’s corporation statute, it is understood that if your corporation has a single person who will be the officer, director, and shareholder, the corporation must still maintain all corporate formalities. A small corporation may have individuals who serve as officers, directors, and shareholders. If there will be more than one director for your corporation, it’s best to have an uneven number of directors to promote taking action by majority vote.
Each state’s corporation statute will set forth the minimum number of directors allowed. The bylaws will set forth the number of the directors for your corporation, as well as define majority and quorum for voting purposes.
Initial Appointment or Election of Directors
Directors are either named in the Articles of Incorporation or appointed by the Incorporator on formation of the corporation. After the initial appointment of the Board of Directors, directors will thereafter be elected annually. Except for the initial appointment of directors, the election or appointment of directors will be addressed in your corporation’s bylaws.
The Board of Directors may vote to pay directors reasonable compensation for the work they do for the corporation. This compensation is separate from any compensation received by a director for work performed as an officer. Directors may receive a reasonable per-diem for attending meetings, which includes travel and lodging expenses, and may also be offered stock options as an incentive to successfully oversee the affairs of the corporation. Be sure to read Compensation for Board Members for a good overview of this topic.
Duties and Responsibilities
Duty of Care
The most important duty owed by a director to a corporation is the Duty of Care. Most states define this duty in their corporation statute.
A typical corporation statute defining a director’s Duty of Care provides that a director’s duties must be performed, “with such care, including reasonable inquiry, as an ordinarily prudent person in a like position would use under similar circumstances.” This Duty of Care is very broad, and requires directors to diligently perform their obligations.
Business Judgment Rule
The Business Judgment Rule works in conjunction with the director’s Duty of Care. Under this rule, a director will not be held liable for mere negligence if exercising his or her Duty of Care. The rule can be stated as, “A director who exercises reasonable diligence and who, in good faith, makes an honest, unbiased decision will not be held liable for mere mistakes and errors in business judgment.” The rule protects directors from decisions that turn out badly for their corporation, even where the directors acted diligently and in good faith in authorizing the decision.
Duty of Loyalty
The Duty of Loyalty exists as a result of the fiduciary relationship between directors and the corporation. A fiduciary relationship is defined as a relationship of trust and confidence, such as between a doctor and patient, or attorney and client. The nature of the relationship includes the concepts that neither party may take selfish advantage of the other’s trust, and may not deal with the subject of the relationship in a way that benefits one party to the disadvantage of the other.
A director must perform his or her duties in good faith, and in a manner in which the director believes is in the best interests of the corporation and its shareholders.
Essentially, this duty means that while serving a corporation, the director must give the corporation the first opportunity to take advantage of any business opportunities of which he or she becomes aware that are within the scope of the corporation’s business. If the Board of Directors chooses not to take advantage of a business opportunity brought to its attention by a director, the director may then go forward without violating his or her duty.
See your state’s Secretary of State Web site for what is included in your state’s corporation statute regarding the duties of care and loyalty. Secretary of State Information for Incorporating in All States is a handy online directory with contact information for each state office.
In a small corporation, the directors, officers, and shareholders may all be the same. In larger corporations with a larger Board of Directors, it may not be possible for all directors to participate in certain Board decisions. In that case, the Board of Directors may appoint an Executive Committee to handle certain matters.
The grant of power from the Board to an Executive Committee is included in the bylaws. The grant of power to an Executive Committee can be fairly extensive, and can authorize the Committee to act on behalf of the Board and with the authority of the Board. However, Executive Committees may not take the following acts without the approval of the full Board of Directors:
- The filling of vacancies on the Board of Directors or vacancy on any committee;
- The fixing of compensation of the Directors for serving on the Board or any committee;
- The amendment of the Articles of Incorporation;
- The amendment or repeal of the Bylaws or the adoption of any new Bylaws;
- The amendment or repeal of any resolution of the Board of Directors which by its express terms is not so amendable or repealable;
- A distribution to the shareholders of the corporation, except at a rate, in a periodic amount or within a price range set forth in the Articles of Incorporation or determined by the Board of Directors;
- The appointment of any other committees of the Board of Directors or the members thereof;
- Adopting an agreement of merger or consolidation of the corporation;
- Recommending to shareholders the sale, lease, or exchange of all or substantially all of the Corporation’s property and assets;
- Recommending to the shareholders either a dissolution of the corporation or revocation of the dissolution of the corporation.
The Bylaws will include the authority and limitations for Executive Committee.
Conflicts of Interest
A conflict of interest is defined as a financial transaction so significant that it could influence the judgment of a director or officer.