Here’s a question for everyone: if Company A, a publicly listed company, submits misrepresented financial statements, against whom will the Securities and Futures Investors Protection Center (the "Protection Center") file civil claims? The answer is: directors, accountants, and finance officers, etc. Specifically, regarding directors (including independent directors), since Article 20-1, Paragraph 2 of the Securities and Exchange Act provides that, “ …a person … shall not be liable for damages when he or she can demonstrate that they exercised all due diligence and had legitimate cause to believe that the reports or documents contained no misrepresentations or nondisclosures,” directors are held liable on a presumption of negligence. That is, originally, the Protection Center (acting as the plaintiff) would have to prove the directors’ fault, but due to this presumption of negligence, directors now must provide evidence to prove they are not at fault.

■Directors Seeking Exemption from Liability Face Challenges

So, how can (independent) directors exempt themselves from liability? Consider the following common excuses and see if they demonstrate due diligence. For instance, “I didn’t attend the board meeting on that day,” “I’m not familiar with the details of the company’s daily operations,” “The financial report was audited by a professional accountant and reviewed by the CFO. If they couldn’t spot issues as professionals, how could I have known?” or “I was deceived too!” Unfortunately, most courts would not accept these explanations. Why? These statements merely express the defendants’ (directors’) desire for sympathy and are not actual evidence.

Then, what kind of evidence might a court accept to hold that a director exercised due diligence? Legal experts have analyzed court opinions and suggest two approaches to increase the likelihood of being exempted from liability: 1) recording and retaining dissenting opinions in board meeting minutes, or 2) promptly reporting any concerns to regulatory authorities upon discovering issues.

In similar cases that I have represented or through conversations with directors of publicly listed companies, I find most directors understand that, to exempt themselves from liability, they need to have written records. However, in reality, directors learned that something was wrong only after things had happened or they realized that they had been deceived. At that time, it was already too late to document any dissent. Therefore, directors are more interested in knowing if there are any indicators or warning signs that might help them record their dissent (evidence) in advance and in time. My advice is to understand the matter from the perspective of the wrongdoers: What prompts them to commit crimes? What methods would they use? Then, from these answers, find the patterns of fraudulent behaviors, and use these as early indicators (or warning signs) to start documenting your dissents.

For example, suppose the chairman of Company A, Mr. B, intends to embezzle company assets. A clever Mr. B might think, “Directly moving assets (cash) out of the company is too risky and could be easily detected, so instead, I’ll set up a separate company to conduct transactions. This way, I can claim (to board members, employees, shareholders, etc.) that these payments are out of legitimate transactions.” However, to implement this plan, Mr. B needs to address several issues: where to set up the company and who will be the nominal responsible person. A clever and cautious Mr. B would know that using a “related party” (legally or financially in form) would make these transactions appear as related-party transactions, which would be scrutinized by the board, accountants, and disclosed in financial statement notes, thus exposing his scheme. Therefore, he would look for someone who isn’t legally or financially classified as a related party but is still loyal to him and would not tell him off to be the company’s responsible person.

In addition, a cautious Mr. B would consider that the recipient of the payments—the place to park the embezzled funds—shouldn’t be easily traceable or seizable by the prosecutors and/or investigators. Thus, he might choose to register the company in a “blacklisted or graylisted tax haven” (countries that often refuse information requests based on client privacy protection, and where the prosecutors/investigators have limited access to seize assets). He might also appoint someone as the company’s dummy responsible person (judging from experience, the person could be a distant relative, classmate, comrade from military service, former or current employee of Company A, mistress/paramour, chauffeur, or even someone provided by a proxy service). In any rate, one would want to avoid having a legally or financially defined “related party” to be the responsible person.

■Recognize Abnormality Indicators of Criminal Intent to Gather Evidence and Protect Yourself

Once you understand Mr. B’s potential schemes, you can look for warning signs: if a transaction’s counterparty company is based overseas, especially in a blacklisted or graylisted tax haven country, and the counterparty’s head has ties to a senior executive (i.e., characteristic of a typical dummy), then you, as a (independent) director, should exercise caution. You need to verify whether the transaction with this company follows transparent procedures, abides by the acquisition and disposal of assets rules, includes all required documents, and so forth. This vigilance can protect you. (Due to length limitation, this article focuses on identifying abnormalities in the “counterparty” of a transaction. In the future, we’ll cover how directors can detect abnormalities in the “content” of a transaction.)

This article was published in the Expert’s Commentary Column of the Commercial Times. https://www.ctee.com.tw/news/20241008700110-439901

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