Limitations on Directors' Exculpations

Dear clients and friends,

On May 7, 2014, the District Court for the Central District (the Hon. Judge Jacob Shienman) handed down its ruling in Derivative Motion 7147-09-10 Rafael Cohen v. Africa Israel Investments Ltd. et al, in which it set forth guidelines and limitations regarding the exculpation of directors.

In 2007, a subsidiary of Africa Israel Investments Ltd. (the “Company”) purchased the shares of a Ukrainian company.  A shareholder of the Company filed a motion for the approval of a derivative claim against the directors of the Company and its controlling shareholder, arguing that the acquisition was an act of fraud, intended to enable the withdrawal of funds from the Company for the benefit of its controlling shareholder.  The petitioner contended that the Company’s directors were involved, by action or omission, in these fraudulent activities.

The Company argued that the motion should be dismissed due to an exculpation provision included in an arrangement between the Company and its creditors (which was approved by the court in 2010).  The provision exempted the Company and its directors and officers from any claims pertaining to the Company’s activities prior to the date of the arrangement.  The Company argued that the exculpation provision applied to acts of fraud.

The District Court granted the motion and approved the filing of a derivative claim against the Company’s directors and its controlling shareholder.

The District Court reasoned that the Israeli Companies Law, 1999, does not permit to exculpate a director or officer for breaching his or her fiduciary duties towards the Company, or for intentionally or recklessly breaching his or her duty of care towards the Company.  Moreover, in order for an exculpation provision that is included in a creditors’ arrangement to apply to fraudulent actions, the provision must explicitly reference such situations, and the Company must present its motives for the inclusion of such a provision before the court while arguing in favor of the arrangement.

The District Court also ruled that exculpation does not apply to facts that were unknown to the parties approving the creditors’ arrangement at the time of approval, as otherwise directors and officers may be incentivized to refrain from disclosing material information to the parties approving the creditors’ arrangement, in order to be exculpated with respect to illegitimate acts committed by them in the past, which are known only to them.

This publication provides general information and should not be used or taken as legal advice for specific situations, which depend on the evaluation of precise factual circumstances.

No Fields Found.