In 2004, in response to the massive redemption wave triggered by the United Securities Investment Trust Co., the Financial Supervisory Commission (“FSC”), in an effort to eliminate systemic risks in the domestic financial market, required all bond funds raised by domestic investment and trust companies to liquidate all structured bonds by the end of 2005. The principles, including complying with existing laws and regulations, not allowing fund investors to suffer losses, and making the shareholders of the investment trust companies bear any losses (“FSC Three Principles”) should also be complied.

A and B were respectively the founder and chairman of a securities company (“Company C”)The investments company owned by A’s family, along with their controlling dummy account (“ A’s Family Company”), held 55.6% of the equity interest in an investment and trust company (“Company D”). Company C held 20.72% of the equity interest in Company D. At the end of 2004, the value of the structured bonds held by Company C reached TWD 27.69 billion. In May 2005, Company C had incurred a loss of TWD 776 million in handling TWD 4.8 billion of. However, Company C resolved to increase its shareholding in Company D to 83.19% in September 2005. Subsequently, Company D disposed of the remaining TWD 13.35 billion of structured bonds and incurred millions of losses Due to Company C's increased of shareholding in Company D, Company C also suffered TWD 444.833 million of losses by sharing Company D's above losses.

In 2006, the prosecutor investigated the case upon the FSC's report, and considered that A and B had clear knowledge of  the FSC’s Three Principles, the fact that Company D had already incurred losses in handling its TWD 4.8 billion structured bonds, and that Company D would incur more losses for its structured bonds that have not yet been handled. Nevertheless, A and B had sold the shares of Company D held by A’s Family  Company to Company C, with the intention of transferring to Company C the structured bonds losses by Company D that should have been bored by A’s Family Company.  A and B were suspected in violation of breach of trust under Article 171(1)(iii) and Article 171(2) of the Securities and Exchange Act.

The judgements of this case (this case was dismissed on extraordinary appeal by the Supreme Court Criminal Judgement No. 105-Tai-Fei-Zi-138) held that A and B, as the persons in charge of Company C, were aware of FSC’s Three Principles, that Company D had already incurred a loss due to the handling of TWD 4.8 billion of structured bonds, that Company D was likely to incur more losses due to the structured bonds of TWD13.35 billion that had not yet been handled, and that after Company C had increased its shareholding in Company D, Company C definitely would have to share further losses in accordance with the proportion of shareholding. However, B, who clearly knew that he had the obligation to supplement and correct the resolutions of the Audit Committee and the Board by Company C, so as to prevent the members from making wrong decision and thus jeopardizing the interests of Company C, did not take any action.  B was in breach of its fiduciary duty and constituted the breach of trust under the Securities and Exchange Act. A, as an important decision maker, the key person, and the one who actually profited from the crime, should be treated as a co-conspirator of breach of trust in accordance with the preceding paragraph of Article 31(1)and Article 28 of the Criminal Code.

It is worth considering that A and B argued that FSC’s Three Principles are the information disclosed in the market, and that there is no possibility of hiding structured bonds information and that the shareholders of Company D should share the loss of structured bonds. In this regard, the court held that the fact that losses would be incurred from structured bonds transaction was material information to be considered when increasing the shareholding. Before Company C resolved to purchase additional shares of Company D, A and B did not inform the remaining directors of the information known to them, nor did they provide additional explanations or corrections on the contents of the manager's report The concealment of the increase of loss-sharing ratio in the equity transaction has prevented Company C's Audit Committee and the Board from judging the necessity or timing of the purchase of additional shares of Company D or setting transactional conditions that would exempt Company C from suffering loss sharing ratio. Since the resolution was adopted without any of the above procedures, it was difficult to assert factors, e.g. FSC’s Three Principles was disclosed information, or the hierarchical responsibility and professional specification in a company, to exempt the duty of disclosure by directors.

It is worth noting that the court has clarified the scope of the directors' duty of disclosure (which is a part of the directors' duty of loyalty and the duty of care) that, in addition to actively reporting in detail any information known to the directors, in the event of any material information affecting a transaction, even if such information has already been disclose to the public, the directors may still be found in breach of the  duty of disclosure if they are aware of such information but do not specifically explain or correct it when such information is not reported in detail to the Audit Committee or to the Board. In addition, in this case, the loss of Company D's structured bonds that should have been bored by A’s Family Company was transferred to Company C after Company C increased its shareholding in Company D. This is probably the key point that makes it difficult for A and B to render FSC's policy as safe harbor in dealing with structured bonds, just like other enterprises have done, and assert that their conducts are meant to comply with the requirements by the competent authority and could therefore be protected by the business judgment rule.

(The article is originally in Chinese which can be found here.)