A recently certified class action could discourage lawyers from sitting on boards.
By Michael Rappaport, CCCA Magazine
For years, corporate lawyers proudly served as directors on their clients’ boards; it was considered a mark of prestige, proof of their role as trusted advisers, and an excellent way of generating business. But corporate governance rules have since tightened, placing greater emphasis on the independence of directors, widening the scope of their personal liability and conflicts of interest. Hence the growing reluctance among lawyers to sit on corporate boards.A recent class action certified by an Ontario court — addressing how the liability of a lawyer acting as a director might extend to his firm — is giving further reason to be wary.
Last January, in Allen v. Aspen Group Resources Corporation, Mr. Justice George Strathy of the Ontario Superior Court of Justice certified a class action on behalf of shareholders of Calgary-based Endeavour Resources Inc., which has been taken over by Aspen Group Resource, a Yukonbased oil & gas firm.
Wayne Egan, a partner at the prominent Toronto law firm WeirFoulds LLP, acted as legal counsel for Aspen from February 1995 and served on its board from 1996 onwards. The representative plaintiff pleaded that not only was Mr. Egan liable in his capacity as a director and for his advice in the preparation of the take-over bid documentation, but that liability also extended to his law firm, WeirFoulds LLP.
At the certification motion last September, WeirFould’s defence lawyer Les O’Connor argued that Mr. Egan was acting in his capacity as a director not a lawyer for WeirFoulds. O’Connor argued: “to hold the law firm liable for the lawyer’s actions as a director will have a chilling effect on the legal profession and will result in a nationwide flood of resignations of directorships.”
Justice Strathy disagreed. He found that the plaintiff’s pleading disclosed a potential cause of action reasoning that it was arguable that a lawyer who served on the board as a director and also acted as external legal counsel to a company may be acting in the “ordinary course of business of the law firm” – ergo Egan’s liability as a director could extend to his firm.
Protecting the law firm from liability
“Twenty years ago all of the senior corporate lawyers tended to serve on clients’ boards, because they wanted to strengthen the relationship with their clients and we were seen as trusted advisors,” says Ed Waitzer, a partner in the Toronto office of Stikeman Elliott LLP and the chair in corporate governance and director of the Hennick Centre for Business and Law at Osgoode Hall Law School. He cautions, “Now the norm has shifted… it’s not done without careful consideration.”
Today, many law firms discourage lawyers from serving on clients’ boards due to the perils of personal liability for the lawyer and the potential conflicts of interest issues for the firm. The ruling in Allen v. Aspen Group Resources, “highlights another level of potential risk that should be considered” says Jeremy Devereux, a partner and chair of the litigation group in the Toronto office of Ogilvy Renault LLP. “The risk to the law firm as a whole.”
In the aftermath of Allen v. Aspen Group Resources, how can law firms insulate themselves from potential liability for a partner or associate sitting on a corporate board?
“From the law firm’s perspective we must make it clear whether a lawyer is on a board of directors in a personal capacity or not,” advises Malcolm Mercer, general counsel for McCarthy Tétrault and a partner in its litigation group.
But distinguishing between acting as a director and a lawyer and between the lawyer and the law firm poses challenges since the lines are often blurry. “Wearing two hats is difficult,” says Waitzer . He continues, “it’s very hard to differentiate the lawyer from the law firm.”
Barry Reiter, a partner in the corporate law group in the Toronto office of Bennett Jones LLP says there is “nothing wrong with lawyers joining corporate boards provided they do not personally give legal advice.” Reiter regularly advises boards, directors and management on governance issues and sits on several boards. He warns: “never, ever give legal advice when sitting as a director.”
Although Justice Strathy did not address the issue of whether the lawyer or the law firm received the remuneration for serving as a director was a factor in determining that the liability of a lawyer sitting on a board could potentially extend to the law firm this is a line of inquiry which might be considered.
“If the [director’s] remuneration went only to lawyer and didn’t flow into the firm’s partnership pool, the law firm can argue there’s no liability on the part of the firm,” Devereux says.
“Most law firms regard directors’ compensation as firm asset,” says Reiter. “While it may not necessarily be definitive in assessing liability, I’d see it as a factor.” Mercer concurs: “One of the ways in which the role of lawyer as director can get confused is if the compensation that the lawyer receives is turned over to the firm.”
Waitzer says that some law firms take the view that any remuneration received by partners acting as directors goes to the law firm since it is a partnership while others take the opposite view and do not want to touch any remuneration from directorships. However, Waitzer says where the remuneration for directorships goes is irrelevant when it comes to assigning liability since it’s only “tinkering at the margin.”
The impact of Allen v. Aspen Group Resources
It is difficult to assess the significance of Allen v. Aspen Group Resources, since it has only cleared the barrier of certification and liability has not been found yet, says Mercer. However, he suspects that law firms may insist on waivers as protection from liability for lawyers sitting on boards in the future.
The test for certification of a class proceeding against a defendant is quite low. Under Ontario’s Class Proceedings Ac, the pleading need only “disclose a cause of action” and the Act has been interpreted liberally with absolutely no assessment made on the merits of the action at the certification stage.
“Judges tend to bend over backwards on certification, so I wouldn’t read too much into [the case],” Waitzer says.
In contrast Devereux says that “at a minimum the decision will discourage lawyers from sitting as directors,” which will “present problems for companies searching for highly qualified people to sit on boards.”
Reiter echoes and amplifies Devereux’s fears. “The decision will terrify lots of law firms. I wouldn’t be surprised if some law firms prohibit lawyers from being directors.”
Reiter says that he hopes law firms will take a more nuanced view of Allen v. Aspen Group Resources, and will “recognize the risks” but won’t “shriek in horror and run away” from directorship offers. “In today’s legal world of complex corporate governance it is very beneficial to have lawyers on boards.”