1. Directors Duties and Corporate Governance

2. Proprietary co must have only 1 director (s.201A(1), Saloman).
Number of Directors
Proprietary co must have only 1 director (s.201A(1), Saloman).
Public co must have at least 3 directors.
Definition
S. 9 – definition of director: a person who is appointed to the position of a director regardless of name given to their position.
Definition includes:
De facto directors
Person who acts in the position of a director, whilst not formally appointed to the office. OR continue to act even though expiration of the term of appointment.
top level management
how that person is perceived by outsiders
Shadow directors
a person whose instructions or wishes are customarily followed by the directors of a company.
Eg a holding company is sometimes seen as a ‘shadow’ director of the subsidiary.
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3. Types of directors (who are formally appointed) Managing director
Directors themselves can appoint one of themselves as a MD. (s.201J)
Has very wide customary authority to bind the co. (refer to co’s relations with outsiders)
Chair of directors
Function is to chair directors’ meetings, exercise procedural control.
Has a casting vote (vote to break a tie).
Executive director
Full time employee , day to day management of the co’s business.
Non-executive directors
Not full time employees, independent of management, substantial shareholders and suppliers / customers.
Important role when a conflict of interests arises.
Alternate directors
Like a “under study” or a “back up”.
No status if the ‘real’ director is present.
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4. Committees of the Board
Board Procedures
Board meetings – passing resolutions.
Procedures set out in RR or Constitution.
s.248G (RR) – resolution must be passed by a majority of the votes cast by directors entitled to vote .
s.248C (RR) – reasonable notice given for directors’ meetings.
S 248F (RR) – quorum is 2 directors.
S 195 – public co: director is prohibited from being present and voting at board meetings where a matter in which the director has a material interest is considered.
S 251A(1)(b) – proceedings and resolutions recorded in minute books.
Committees of the Board
delegated power from the board
ensure important matters are given full attention, and workload distributed , eg audit committee
Appointment of Directors
Persons under 18 can NOT be appointed. (s 201B(1)).
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5. Corporate governance
Rules, practices, checks and incentives to ensure management act in the interest of shareholders
Also addresses roles, functions and structures of the board and its relationship to management
The Board’s Accountabililty
How objectives and policies are set and achieved, how risk is monitored, and assessed, how performance is optimised.
Regulation of Corporate Governance is a mix of legal regulation (minimum standards) and Self-regulation:
Corporations Act 2001, Common Law duties
ASX listing rules, accounting standards, auditing standards
Voluntarty codes, such as:
(i) ASX Principle of Good CG; Listed entities must disclose in each annual report the extent to which they have followed to ASX recommendations. If they have not followed the ASX Recommendation, they have to identify which Recommendations they have not followed and explain why. This has been referred to as the “comply or explain” regime.
(ii) Best Practice recommendation, OECD (Organisation for Economic Co-operation and Development)
principles
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6. Duties of directors - 1 Overlapping duties
Sometimes more than one duty is breach by the same act. Eg, duty to exercise reasonable care, skill and diligence , as well as duty to act for proper purposes both breached when directors act to detriment of the co, to benefit another co. in which they have an interest.
1. DUTY TO ACT IN GOOD FAITH IN THE INTERESTS OF THE CO
Directors have: Both fiduciary duty (case law) and statutory duty (s 181(1)(a)) to act in good faith in the best interest of the company.
‘Good Faith’
“ Good faith ” : Directors genuinely believe that they are acting in the best interests of the company.
Must be more than subjective standard. Crt imposes an objective standard. does the director act in a way which a reasonable director considered to be in the best interests of the company ? (Parke v Daily News)
Usually easy to satisfy, what is hard is ‘For the benefit of the company’.
‘For the Benefit / In the Interest, of the Co’
- Starting point: Director’s duty is to the co.
(1)Members’ Interests
Generally, interests of the co. is same as collective interests of the members/shareholders. (Park v Daily News 1962 Eng) Both present and future shareholders. (Darvall v North Sydney Brick & Tile Co Ltd 1988)
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7. (2) Employees’ Interests
Director breaches his duty if he disregards the shareholders’ interests.
*Park v Daily News English Case
Facts
Co. is sold.
Co. paid out compensation to laid off employees out of co assets;
Shareholder challenged
Held
The benefit of the co. means the benefit of the shareholders as a general body.
Here employees are not legally entitled to the compensation, and paying them compensation is not in the interest of co. (eg not fostering better employer/ee relationship, because co. was not continuing its business in the future.)
Director’s duty is to the co., ie shareholders, not employees.
May take employees’ interests into account but shareholders’ interests are paramount.
Majority of shareholders are not entitled to ratify the decision to pay compensation to employees.
Injunction granted.
Comment
Directors can balance interests of stakeholders.
As long as directors do not disregard interest of shareholders entirely in order to confer a benefit to employees (as in Parke) , they are allowed to consider other interests beyond those of shareholders: ie employee’s intersts. They would not be in breach of their duty.
Patrick Amendments (2000) : after Patrick Stevedores’ dispute (1997), new Pt 5.8A requires that directors to consider the interests of employees in certain situations.
- Introduced to protect employees by preventing directors of employer companies stripping the companies’ assets and making the companies insolvent so to prevent employees enforcing their entitlements.
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8. (3)Corporate Group Interests
Consistent with separate legal entity, directors of a member co. in a corporate group must consider the interests of their company rather than the interests of the group as a whole.
- Rationale – each co. has its own creditors who may look to that co. for payment.
*Walker v Wimborne
Facts:
There was a ‘corporate group’ but no cross-shareholding.
E lent A $ on security.
At the same time, A lent $ to AS with no mortgage or security. Was this in the interest of the co. A?
Held:
This transaction is not in the interest of A, not even derivative benefits through shareholding ( no shareholding here). Possible to have derivative benefits through shareholding.
Each co. is a separate and independent legal entity, and it is the duty of the directors of A to consult its interests and its interests alone in deciding whether payment should be made to other cos.
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9. Objective test : --- an intelligent and honest man
*Equitycorp Finance Ltd v Bank of NZ (1993) NSW
Facts:
A big corp group, with 3 subsidiaries of an ultimate holding co (EHL), U, EFL and EFSA.
U got a loan from Bank, Bank got EFL and EFSA to repay. EFL and EFSA became insolvent.
Q: Was director of EFL and EFSA acting in good faith for the benefit of the two companies?
Held: (Majority – Clarke and Cripps JA)
Need to apply the objective test , (Charterbridge Corp v Lloyds Bank) which is : “ whether an intelligent and honest man in the position of the director could, in the whole of the existing circumstances, have reasonably believed that the transactions were for the benefit of the co.?”
Yes. No breach. Because:
Interdependence: Here the welfare of the group was intimately tied up with the welfare of individual companies, because of inter-company guarantees: if holding co. an’t pay, whole group would’ve collapsed.;
Transaction benefits U directly, but has derivative benefits for EFL and EFSA as well. The alternative was possible disaster for the whole group including the two co.s; (even though group collapsed anyway, but the important time is when the decision was made: was made in order to avoid collapse)
No need to (Too stringent) to ask whether director (subjective) actually gave separate consideration to the interests of the co, not just the group. Transaction might be beneficial to co. anyway. Breach should not flow from this if objectively beneficial.
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10. The purpose of the loan was remote from EFL and EFSA’s objects.
Obiter from Equitycorp: A better test would be to ask whether director (subjective) considered interests of co. No need to guess about hypothetical honest and reasonable. – here crt said would lead to same result anyway.
DISSENT: (Kirby J)
The purpose of the loan was remote from EFL and EFSA’s objects.
There is a breach of duty.
s.187: (introduced in 1999)
Director of a wholly-owned subsidiary will be taken to act in good faith in the best interest IF:
- constitution allows the director to act in the best interest of the holding co
- and director did act in the best interest of the holding co
- subsidiary must be solvent
gives recognition to commercial reality of corp groups.
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11. 2 DUTY TO ACT (EXERCISE POWERS) FOR PROPER PURPOSES
(similar to duty to act for the benefit of the co., except the cases breaching these duties usually acting in the interest of directors themselves, rather than employees, creditors, etc.)
Board given broad powers of management (usually) by the RR and Constitution.
In deciding if this duty is breach, court asks two Questions: (1) objective purpose for which a power was granted; (2) purpose actually motivated the exercise of power.
1. Common Situations for breach
Common power to abuse is the Power to issue shares
(1) objective purpose of this power– considered by court as “proper”
- raising capital; issue shares as consideration for purchasing property
(2)Improper purpose of this power
Maintain control of the existing directors in power
to defeat a takeover bid (In many cases, the share issue is being made to ward off a hostile takeover. The stimulus for a takeover is generally that the offeror thinks they can manage the company's assets more profitably than the current managers. Accordingly, the directors of the target company (ie the company which is to be taken over) will be likely to lose their positions if the takeover is successful. One potential strategy for deteating the takeover is for the company to issue shares to someone who is sympathetic to management (often called a "white knight"), thus making it more difficult for the offeror to obtain sufficient acceptances of their offer to gain control of the company.
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12. (2) Improper Purpose of this Power (Contd) To Defeating takeover bid
* Howard Smith Ltd v Ampol Petroleum Ltd [1974] AC 821
Facts:
- Takeover battle over the control of R W Miller (Holding)Ltd;
- A & B controlled 55% of issued capital
- A & B made a joint takeover bid for all other shares
Howard Smith (HS), which was friendly to the board, also made a takeover bid offering a higher price
The board recommended the shareholders accept HS’s offer
A&B announced they would not sell to HS
- The Board decided to issue extra shares to Howard Smith, to reduce A& B’s shareholding into a minority shareholding
- A & B argued the decision to issue shares to HS was motivated by improper purpose
The Board argued the co was in urgent need of funds
Held
- The primary purpose was to reduce A & B’s shareholding so HS can succeed in the takeover bid.
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13. (2) Improper Purpose (continued)
creating or destroy a majority of voting powers
* Whitehouse v Carlton (1987) HC Aust (V. Authorative)
Facts:
Co. shareholders are family of husband , wife + children.
Constitution gives husband position of governing director, vests all powers of board in him alone.
Husband and wife separate.
Husband issued new shares to his sons to ensure wife does not have voting control.
Husband has a fallout with sons, now wants to argue the issue was invalid because of improper purpose.
Held:
The power exercised was issue of shares, limit of power: purpose of destroying or creating a majority of voting power is not a proper purpose.
Court order: Issue invalid. Revoked.
Other powers
The duty to exercise powers for proper purposes applies to all exercises of directors’ duties, not just share issues (see e.g. Darvall North Sydney Brick and Tile Co Ltd).
Mixed Purposes
- Directors may be motivated by a number of purposes, some proper, some improper, to issue shares.
‘But-for’ test: (Darvall, Whitehouse) Determine “But for the alleged improper purpose, would the directors have performed the act impugned?” Similar to causation test of the tort of negligence.
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14. Statutory Duty: S 181
“duty to act in good faith in the best interest of the company and for proper purpose”.
Same terminology as general law fiduciary duties, so legal principles from fiduciary
cases also apply to s181. act in good faith in the best interest of the company.
Civil penalty provision : s 1317E: percuniary penalty; disqualify; compensation
If “reckless or intentionally dishonest”: criminal liability s 184(1): harsher punishment
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15. Examples of breach of s 181:
* ASIC v Adler & Ors [2002] NSWSC 171 (confirmed on appeal ASIC v Adler [2003] NSWCA 131)
Facts:
Rodney Adler was one of the directors of HIH.
An HIH subsidiary paid $10 million to a company of which Rodney Adler was a sole director - “Pacific Eagles Equities”
By use of a trust mechanism, approximately $4 million was used to acquire HIH shares to prop up share prices, venture capital unlisted investments were purchased from another Adler company, and loans were made to entities which were associated with Adler.
These transactions occurred with no board or member approval and without disclosure – the loans were given without proper documentation or security being sought and the payment was made so that it would not come to the attention of other HIH directors.
Held:
Adler was found to have contravened
in good faith and for a proper purpose (s 181),
duty not to improperly use position (s 182),
duty not to improperly use information (s 183),
and the duty to act with due care and diligence(s 180).
Adler banned for 20 years from acting as a director and fined $450,000
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16. 3. DUTY TO AVOID CONFLICT OF INTEREST AND DISCLOSURE
1. General law – Fiduciary duties
Directors have a fiduciary duty of loyalty. There are two limbs to this duty, no conflict and
no profit:
“No conflict” - Directors must avoid putting themselves situations where they will be tempted to prefer their own interests, or someone else’s interests, over those of the company.
A director can be in breach even if she or he acts honestly and does not stand to make a profit.
Test - whether there is a “real sensible possibility of conflict”. Eg if director has only 2000 telstra shares, co uses Telstra for telephone services, no conflict.
“No profit” - If a director profits from using company information or his or her position, the director is accountable to the company for those profits.
Exception for Both Rules : where the company’s fully informed consent has been obtained (Disclosure). Full disclosure to the general meeting, general meeting vote to ratify. OR
Often the constitution allows the board of directors to approve (instead of general meeting)
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17. Examples of breach of Conflict rules
Director selling property to co, get highest price possible or lowest price possible?
Director of two competing cos.
accepting a bribe to take a particular course of action (Boston Deep sea fishing)
misuse of company funds (Paul A Davies Pty Ltd)
taking up a corporate opportunity (Mordecai v Mordecai)
Misuse of confidential information (Thomas Marshall v Guinle - competed with co , soliciting business from co’s customer)
Differences between general law and statute
Statutory provisions dealing with improper use of position and info apply to directors, officer AND employees.
Statute overlaps with GL to a degree, but also provide additional rules such as Ch 2E financial benefits.
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18. Statute
Disclosure:
s 191 : directors of a co must disclose to other directors “material personal interests” in a matter that relates to the affairs of the co.
Entitlement of interested director to vote
Public co – s 195(1)–
A director who has a ‘material personal interest’ in a matter being considered at a meeting of directors must not vote on that matter or be present at the meeting while it is being considered.
Unless other directors allow it or ASIC makes an order allowing it
Private co – s. 194 – no prohibition; depends on constitution.
Duty not to misuse position or information
S 182(1) a director, secretary, other officer or employee of a corporation must not improperly use their position to:
(a) gain an advantage for themselves or someone else; or
(b) cause detriment to the corporation.
Eg director take assets from co; signing documents on behalf of co without authority; etc
S 183 (1) – a person who obtains information because they are, or have been, a director or other officer or employee of a corporation must not improperly use the information to:
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19. S 184- criminal offence if breach of ss 181, 182 & 183 is dishonest or reckless
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20. Related party transactions ---Public companies - Ch 2E
Ch 2E regulates ‘financial benefits to related parties’ - require member approval
a regime for regulating payment of financial benefits to directors of public companies
NOT RR:
The requirements of Ch 2E cannot be overridden by the constitution
Basic prohibition - s 208
Prevents a public company from giving a financial benefit to a director or other related party of a public company
Prevents an entity it controls from doing the same
Unless approved by members in general meeting AND benefit given within 15 months
What is financial benefit?
S 229
It may be non-monetary (giving assets, leasing assets) and indirect or informal
Who is a Related party?
Defined in s 228, including
- controlling entity of the public company;
- a director of the public company; a spouse or de facto spouse of such a director or person; parents, children.
- etc
When member approval not required
including
Reasonable remuneration to company officers
Advances to a director or their spouse or de facto spouse of up to $2,000
Consequences of contravention
Breach of s 208 does not invalidate the transaction: s 103
civil penalty provisions
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21. 4 DUTIES OF CARE, SKILL AND DILIGENCE Older Cases
OLD CASES imposes a very low burden on directors, very lenient.
OLD CASES say: No breach of the duty, if directors are inactive and does not participate in management. The director is not bound to come to meetings at all. In this case, he had no notice/knowledge of fraud. (Marquis of Bute’s case only came to one meeting in 38 years)
Director need not exhibit in the performance of duties a greater degree of skill that may reasonably be expected from a person of his knowledge and experience. (Re City Equitable Fire Insurance Co Ltd [1925])
so less experience, lower standard.
Current Standards- Duty of Care and Diligence
s. 180(1) & common law negligence & fiduciary  substance of duty imposed are the same, remedies different
“ Directors and other officers must exercise their powers and discharge their duties with the degree of care and diligence that a reasonable person would exercise if they
were a director or officer of a corporation in the corporation’s circumstances; and
occupied the office held by, and had the same responsibilities within the corporation as the director or officer.”
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22. S 180(1) s 180(1) applies to Directors and Other ‘OFFICERS’
includes secretary, executive officer, receiver, receiver and manager, administrator, liquidator, trustee, etc.
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23. “ in the corporation’s circumstances”
Subjective elements:
“ in the corporation’s circumstances”
urgency and magnitude of problem faced by the co, financial affairs, size and business, constitution, composition of board. (Explanatory Memorandum)
“responsibilities”
- take account of special background, qualification, management responsibility of officer. (ASIC v Rich, ASIC v MacDonald)
- To some extent, the subjective skills/ability/background come into consideration. Eg if director was appointed BECAUSE of his special skills and expertise. (Gamble v Hoffman)
Objective elements: a reasonable person
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24. Standard of care for Non-Executive directors
Reasonable Person
Standard of Care of Executive directors
should take reasonable steps to place themselves in a position to guide and monitor the management of co. (AWA)
Continuing obligations to make inquiries & keep informed. (Francis v United Jersey Bank)
 must review the co.’s financial statements and inquire into matters in those statements which call for inquiry. Friedrich
 can not shut their eyes to misconduct.
Standard of care for Non-Executive directors
 not as high as executive directors
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25. AWA’s executive directors also negligent.
* Daniels v Anderson1995
Facts:
AWA allowed middle level manager K to handle AWA’s trading on the foreign exchange.
K hid losses of $50 million from directors, K carried out unauthorized borrowings.
Auditor did not detect. Gave warning to directors but did not say it was that bad or that urgent.
AWA sues auditor, Auditor counterclaims that AWA was contributorily negligent.
Held:
Auditor negligent.
AWA’s executive directors also negligent.
AWA’s non-executive directors were NOT negligent.
Executive / Non-executive Directors have different Standard of Care
Non-exec directors are only expected to decide on matters of policy, not day-to-day running of business. Not liable for corporate management failings. Because they are not paid as a full time employee, only attend a meeting every mth or so.
Executive directors should be subject to a higher standard of care, by reason of their contractual employee status.
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26. s.180(1) is a Civil Penalty Provision.
s.1317E Court may make orders to :
disqualification for a period; (this is not avail under general law)
pay the Cth a pecuniary penalty of up to 2000 penalty units.
the court may order compensation to co. if there is loss suffer. (similar to damages/eq compensation)
s.180(1) does NOT give rise to criminal liability – unlike other duties. “negligence” is not dishonest.
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27. Business judgment rule S. 180(2) : not liable if
DEFENCES to s.180(1):
Business judgment rule
S. 180(2) : not liable if
judgment is made in good faith
no material personal interest
directors were informed
judgment is rational
S.180(3) – definition of “business judgment’ : any decision to take or not take action in respect to a matter relevant to the business operations.
Reliance
s 189: – reliance on
reliable and competent employee;
professional advisor or expert
another director
a committee of directors
must act in good faith, reliance on reasonable grounds.
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28. 5 Duty To Not Fetter Discretions
Directors can not delegate functions of the board except to the extent permitted by the Constitution or by s 198D.
S 198D allows directors to delegate to a committee of directors; OR a director; OR an employee OR any other person; unless the Constitution states otherwise.
S. 190(1) – if directors delegate a power under s 198D, they are responsible for the exercise of the power
S 190(2) – defence
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29. 6 Duty not to prejudice creditor’s interests
Duty to act in good faith in the best interest of the co  when insolvent this duty is to act in the best interest of the creditors.
Examples of breach:
co lending money at less than market rates (Ring v Sutton)
loans made with no prospect of repayment (Walker v Wimborne)
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30. 7 Duty to prevent insolvent trading s 588G
the person is a director of the company when it incurs a debt
the company is insolvent at that time, or becomes insolvent by incurring that debt or debts including that debts
there are reasonable grounds for suspecting the company is insolvent or would so become insolvent
the director is aware that such grounds exist or a reasonable person in a like position in a company those circumstances would have been so aware
the director fails to prevent the company from incurring the debt
Definition of insolvency
s 95A(2) - A person who is not solvent is insolvent
s 95A(1) - A person is solvent if, and only if, the person is able to pay all the person’s debts as and when they become due and payable
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31. Defences To Insolvent Trading Contravention include:
s 588H (2) : the director had reasonable grounds to expect and did expect the company was solvent and would remain solvent; or
s 588H (3)the director reasonably believed (delegation)
a competent and reliable person was keeping him/her adequately informed about the company’s solvency, and
on the basis of that information expected that the company was solvent and would remain so
s.588H(4) the director did not take part in management of the company when the debt was incurred because of illness or other good reason
s.588H(5) the director took all reasonable steps to prevent the company incurring the debt
Consequences of a contravention
Civil penalty : disqualification, pecuniary penalty order
A director may be liable to compensate the company / liquidator
the liquidator may take action to recover as a debt to the company loss or damage suffered by the unsecured creditors at general law.
in limited circumstances individual creditors can sue the director
If the contravention is dishonest, the director face criminal penalties
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