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Executive decision: When is a director truly a "non-executive director"?

Source: Asia Insurance Review | Mar 2015

In a recent case in Australia, it was decided that the determination of whether a director is an executive or non-executive one lies with his or her functions in the company. Mr John Edmond, Ms Avryl Lattin and Ms Leah Hewish of Clyde & Co, Australia explain.

In a recent decision of the Victorian Court of Appeal1, Warren CJ, Neave and Hansen JJA found that, in the absence of a definition in a directors and officers insurance policy, an executive director can be distinguished from a non-executive director by the performance of “executive functions in the management and administration of the company”. 
 
Such powers must be expressly delegated to the director by the company. This will be a question of fact in each case, determined by examining the role of the director in question, not just the labels they, or others, may attach to their position. 
 
Background 
Under a directors and officers policy issued to Australian Property Custodian Holdings (Holdings), there was a limit of A$5 million for a loss borne by a director on account of a claim being made against them during the policy period for a wrongful managerial act. An additional “special excess limit” of $1 million was available for non-executive directors to which Mr Jaques, an insured under the policy, sought access. 
 
“Non-executive director” was only defined in the policy as “any natural person who serves as a non-executive director” of the Insured and so the trial concerned the definition of “non-executive director”. 
 
Although the Insurer accepted that Mr Jaques was a non-executive director until April 2004, his claim was refused on the basis that he was an executive director thereafter, following his appointment as the general manager of a related company. At this time, Mr Jaques ceased to receive a director’s fee from Holdings and took a full-time salary from the related company. 
 
The decision at first instance 
The trial judge held that whether a director was an executive or non-executive director was a question of fact and that the roles were distinguished by an executive director’s involvement in the management of the company, usually as an employee. The trial judge found that, despite his role managing a related company, Mr Jaques was not an executive director of Holdings until his appointment as such in June 2007. 
 
Definition of “non-executive director” 
The trial judge’s conclusion was affirmed on appeal. Warren CJ, Neave and Hansen JJA held that “the essential element of the distinction for the purposes of construing the term non-executive director in the policy, is whether the director is performing executive functions in the management and administration of the company”. 
 
The degree of involvement of a director in the operations of the company and their connection with the business of the company will be relevant to this distinction. The Court found that, in the absence of an express conferral of executive power from the company on the director, such as in the form of an employment or services agreement, the director should generally be considered to be a non-executive director, as “The starting position must be that the mere fact of appointment does not normally give a director any executive powers”. 
 
Although the Court was entreated to entertain a more expansive definition of “non-executive director” that took account of how the director was represented to the board and investors, it was held that the title of a director will not always be determinative. 
 
The subjective view of the board, investors or the director him or herself was said to be “of little relevance” to the construction of the policy. As such, even though Mr Jaques was named as a “Director” of Holdings in publications such as Product Disclosure Statements during the relevant period, their Honours confirmed that any contemporaneous records were relevant to the distinction between the two roles only in so far as they provide evidence of the role performed by the director. 
 
In addition, although it was argued that the role of a non-executive director is to “guide and monitor the company”, the Court held that merely supervising and guiding management alone will not determine that a director is a non-executive director, as independent judgment is an attribute of all directors. 
 
Implications 
As this judgment makes clear, in the absence of express wording in the policy, directors will generally only be considered to be an executive director when they take on an active role in the business operations of the company and are expressly delegated such executive function by the company. Should it be intended that coverage under a policy distinguish between an executive and non-executive director in another way, it will be advisable to include a specific definition in the policy.
 
Mr John Edmond is a Partner, Ms Avryl Lattin is a Senior Associate and Ms Leah Hewish is an Associate, at Clyde & Co, Australia.
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