Company Law — Lecture 14 ■ Duty to act in good faith in the best interests of the company ■ Duty to act for a proper purpose ■ Consequences of breach of duty

Duty to act in good faith in the best interests of the company Section 131, Companies Act 1993 — also a common law duty What is meant by good faith? —director must act honestly —a subjective test

Duty to act in best interests of company (cont) What are the company’s interests? Possibilities are —shareholders —company as a commercial entity separate from its shareholders —creditors —other companies within a group of companies —employees, customers, suppliers and the community —shareholders interests of company are generally those of its shareholders but interests of shareholders may conflict, and directors must balance interests —company as a commercial entity separate from its shareholders conflicting court decisions

Duty to act in best interests of company (cont) What are the company’s interests? (cont) —creditors note s 135, Companies Act 1993 (Lecture 13) common law principle — when company is insolvent or nearly insolvent, its interests are those of its creditors not its shareholders Kinsela v Russell Kinsela Pty Ltd (in liq) Gray v Wilson

Duty to act in best interests of company (cont) What are the company’s interests? (cont) —corporate groups A Ltd B LtdC Ltd 50%+ (or “control”)  Can the directors of B cause B to enter a transaction that benefits A or C, but does not directly benefit B ?

Duty to act in best interests of company (cont) What are the company’s interests? (cont) —corporate groups (cont) ■ wholly owned subsidiaries — s 131(2), Companies Act 1993 —a director of a company which is a wholly owned subsidiary may, if permitted by the constitution, act in the interests of the parent company even though the action may not be in the best interests of the subsidiary subsidiaries which are not wholly owned — s 131(3), Companies Act 1993 —a director may, if permitted by the constitution and with the prior agreement of the shareholders, act in a manner which he or she believes is in the best interests of the parent company

Duty to act in best interests of company (cont) What are the best interest of the company? —employees, customers, suppliers and the community common law do not receive priority over interests of shareholders Parke v Daily News Ltd —s 131, Companies Act 1993 nothing in s 131 prohibits or restricts a director from making provisions for employees of the company or the subsidiary

Duty to act for a proper purpose Section 133, Companies Act 1993 Even if directors’ actions are in company’s best interests, they may still be a breach of duty if power is not exercised for a proper purpose Two-step analysis —question of law: what are the proper purposes for which the power in question may be exercised? —question of fact: for what purpose was the power actually exercised?

Duty to act for a proper purpose (cont) For example, the power to issue shares —normally a power of the board of directors —proper purposes include to raise capital for an employee share scheme as consideration for purchase of an asset —improper purposes may include to entrench the existing board of directors to fight off a hostile takeover bidder to make a majority shareholder a minority shareholder Powers other than issuing shares —Advance Bank of Australia v FAI Insurances Australia Ltd —Permanent Building Society (in liq) v Wheeler

Consequences of breach of duty See Lecture 16 for discussion