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    Director betrayed loyalty to his company

    A company director who failed to disclose his own misconduct to the company was in breach of his duty of loyalty to the company because he had tried to divert the company’s business to another established for his own purposes.

    An employee who was paid monthly in arrears and was summarily dismissed was entitled to be paid to the date of his dismissal.

    The Court of Appeal so held, dismissing an appeal by the defendant, Kouroush Fassihi, from a decision of Mr Nicholas Strauss, QC sitting as a deputy judge of the Chancery Division ([2003] 2 BCLC 1) that he was in breach of a duty to disclose his own misconduct as a director of the claimant, Item Software Ltd, in diverting Item’s business to another company that he had established for the purpose, and allowing an appeal from the judge’s decision on a counterclaim by the defendant, under section 2 of the Apportionment Act 1970, for the payment of his salary to the date of his dismissal even though the date for payment had not then been reached.

    At the relevant time, the major part of Item’s business was the distribution of software products for another company, Isograph Ltd.

    The directors of Item were Mr Fassihi and one other. Mr Fassihi was employed from May 1 1995 under a contract which provided for him to receive a salary of £28,000 a year, payable monthly in arrears on the last working day of each month, terminable on three months’ notice.

    The contract expressly provided that Mr Fassihi should not use confidential information belonging to Item for his own purposes.

    In November 1998, Item decided to negotiate more favourable terms with Isograph. At the same time Mr Fassihi secretly approached Isograph with his own proposals which involved establishing his own company to take over the contract.

    Negotiations failed because Item insisted on terms that Isograph was not prepared to meet. Isograph terminated the contract by giving 12 months’ notice expiring on May 11, 2000.

    Item then discovered that Mr Fassihi’s misconduct in seeking to divert Item’s business to his own company, and he was summarily dismissed on June 26, 2000.

    Item brought proceedings against Mr Fassihi alleging that he was in breach of duty as a director and employee in seeking to divert the contract with Isograph and for pressing his fellow director to take a hard line in negotiations.

    Mr Fassihi counterclaimed for wrongful dismissal and for arrears of salary for the period of 26 days prior to his dismissal on June 26, 2000.

    Item’s claims failed insofar as the judge found that the failure of negotiations with Isograph was not caused by Mr Fassihi’s misconduct, but succeeded on a further allegation that Mr Fassihi was in breach of duty in failing to disclose to Item his own wrongdoing.

    Mr Fassihi’s claim for wrongful dismissal and for payment of salary for the period up to June 26 failed. Mr Fassihi appealed on the issues of disclosure and arrears of salary.

    Mr Nigel Dougherty, instructed by the Bar Pro Bono Unit, for Mr Fassihi; Mr Ben Quiney for Item.

    Lady Justice Arden dismissing the appeal in relation to the disclosure issue, said that a director was subject to fiduciary duties and obligations. One of those obligations was the liability to account for secret profits.

    Unlike such authorities as Bell v Lever Brothers ([1932] AX 161), In Re Bhullar Brothers Ltd, Bhullar v Bhullar ([2003] BCLC 24I) and Industrial Development Consultants Ltd v Cooley ([1972] 1 WLR 44), this cause was concerned not with a duty to account for secret profits, but with a claim for loss resulting from breach of duty to disclose. That had not been previously considered by the court.

    While it could not be inferred from the cases that a fiduciary owed a separate and independent duty to disclose his own misconduct, there was a fundamental duty to which a director was subject, namely, the duty to act in what he considered in good faith to be generally in the best interests of the company.

    Mr Fassihi could not have fulfilled his duty of loyalty except by telling Item about his setting up a new company to acquire the Isograph contract for himself.

    There were also policy reasons for holding that Mr Fassihi was in breach of his duty of loyalty. If the approach of the law were overly intrusive, legitimate entrepreneurial activity might be discouraged.

    But that would not be the result of holding that a duty of loyalty applied in the present case because on well established principles, Mr Fassihi’s setting up of a new company to which the business of Item would be diverted was not a legitimate entrepreneurial activity.

    Moreover, a conclusion that a director owed no obligation to disclose his improper actions would also be inefficient in economic terms. It would mean that the company would have to expend resources in investigating his conduct and that the liability to compensate the company for misconduct would depend on the chance that the company found out about the impropriety.

    The apportionment issue. On the fact of it, the 1870 Act provided that a proportional part of salary might be claimed. Section 5 provided that annuities included salaries.

    Section 2 provided that rents, annuities, dividends and other periodical payments in the nature of income “shall… be considered as accruing from day to day, and shall be apportionable in respect of time accordingly”.

    If section 2 applied, Mr Fassihi could claim that part of his June salary which was referable to June 1 to 26, 2000. His employment contract contained no provision expressly excluding the operation of the 1870 Act.

    None of the authorities cited detracted from the interpretation of the 1870 Act that Mr Fassihi could make a time apportioned claim for his salary from June 1 to 26. Accordingly on that issue Mr Fassihi’s appeal should be allowed.

    Mr Justice Holman delivered a concurring judgment and Lord Justice Mummery agreed.

    Court of Appeal published October 21, 2004.

    Item Software (UK) Ltd v Fassihi
    Before Lord Justice Mummery, Lady Justice Arden and Mr Justice Holman
    Judgment September 20, 2004

    The Times: 21.10.2004