What is a 'Duty of Loyalty'

Duty of loyalty is a director's responsibility to act at all times in the best interests of their company. The duty of loyalty is one of the two primary fiduciary duties required to be discharged by a company's directors, the other being the duty of care. The duty of loyalty requires a director to be completely loyal to the company at all times. It also imposes the responsibility to avoid possible conflicts of interest, thereby precluding a director from self-dealing or taking advantage of a corporate opportunity for personal gain. Violation of the duty of loyalty may expose the director to a court order to pay restitution and stiff fines.

Breaking Down 'Duty of Loyalty'

The duty of loyalty imposes a number of additional responsibilities upon directors of a company. They are required to keep confidential, and not disclose or use, any information that they come across in their official capacity as directors. They also have to report all conflicts of interest, whether actual or potential, real or perceived, to the Board of Directors, and obtain legal advice in cases where it is unclear whether or not a conflict exists. In cases where a conflict does exist, the director should be fully transparent about it and disclose all relevant information.

Duty of Loyalty Key Components

A director's duty of loyalty has three main components:

  1. They must not usurp corporate opportunities for their own personal gain.
  2. They must avoid having a personal interest in transactions between the corporation and another party.
  3. They must keep the corporation's information private.

While these may seem like onerous requirements, a director who is completely loyal to the company will have no problem in adhering to the duty of loyalty. But problems will arise when directors place their own interests above those of the company, or have an undisclosed conflict of interest.

Duty of Loyalty Example

Assume the director of a pharmaceutical company learns in advance that one of its most promising drug candidates has failed to meet the primary endpoints of a pivotal Phase 3 trial. The press release about this negative development is scheduled to be released after market close the next day. The director immediately places an order to sell his substantial share holdings at the current market price, as the stock price is bound to slump when the news is released. By doing so, the director has used confidential information for his own enrichment, opening himself up to insider trading charges and violating the duty of loyalty.

RELATED TERMS
  1. Inside Director

    An inside director is a board member who is an employee, officer ...
  2. Import Duty

    Import duty is tax collected on imports and some exports by a ...
  3. Loyalty Program

    Loyalty programs encourage shoppers to return to stores where ...
  4. Dummy Director

    Dummy directors are most commonly used when a private company ...
  5. Independent Outside Director

    An independent outside director is a member of a company's board ...
  6. Conflict of Interest

    A conflict of interest occurs when a corporation or person becomes ...
Related Articles
  1. Financial Advisor

    Identifying a Breach of Fiduciary Duty

    Pension fund managers are not the only entities owing a fiduciary duty to stockholders. Corporate officers and directors have key fiduciary roles.
  2. Personal Finance

    Do Customer Loyalty Programs Really Save You Money?

    Here is a look at what customers have to do to ensure that loyalty programs help them shop smarter.
  3. Investing

    The Basics of Corporate Structure

    CEOs, CFOs, presidents and vice presidents – learn how to tell the difference.
  4. Financial Advisor

    Where Rich Investor Loyalty Lies: Firm or Advisor?

    Affluent investors are evenly split when it comes to being loyal to their advisor vs. their financial services firm. How can advisors sway them.
  5. Personal Finance

    How to become a managing director at an investment bank

    Find out what it takes to become managing director at a major investment bank, starting from business school and surviving all of the titles in between.
  6. Financial Advisor

    Fund Boards: What They Do and Why You Should Care

    Fund boards oversee management and operations of the fund on behalf of shareholders. Make sure you've got a board that will look out for you.
  7. Investing

    Evaluating the Board of Directors

    Learn how evaluating the board of directors corporate structure can tell you a lot about a company's potential.
  8. Managing Wealth

    3 reasons to separate CEO and chairman positions

    Separating the high-profile positions of chairman and CEO can help to strengthen the overall integrity of a company.
  9. Small Business

    Governance Pays

    Learn about how the way a company keeps its management in check can affect the bottom line.
  10. Personal Finance

    Why Johnny Depp and Mike Tyson Sued their Advisors

    We may not be victimized A-listers, but what can we learn from their financial mistakes?
RELATED FAQS
  1. Who is Responsible for Shareholders Interests?

    Several parties are supposed to be responsible for protecting and managing shareholders' interests, including the company's ... Read Answer >>
  2. How do a corporation's shareholders influence its Board of Directors?

    Find out how shareholders can influence the activity of the members of the board of directors and even change official corporate ... Read Answer >>
  3. What's the difference between a merger and a hostile takeover?

    Understand the difference between a merger and a hostile takeover, including the different ways one company can acquire another, ... Read Answer >>
  4. What are the key barriers to entry in electronics?

    Learn how the entry barriers of economies of scale and scope, research and development, capital, and brand loyalty affect ... Read Answer >>
Trading Center