Eiffel Towers Ltd, a listed company, was a builder and property developer specialising in projects in Brisbane’s central business district. It has five directors. Giscard is the managing director and Henri is the chief financial officer. They are the only

Reading

Text, Chapters 13, 14 &17

Objectives

On successful completion of this module, you should be able to:

· explain the meaning of corporate governance

· describe the role and obligations of the company secretary

· discuss the statutory duty of care imposed on directors and officers

· explain the manner in which the standard of care is measured and applied to directors and officers under the modern law

· understand the circumstances in which an officer may be excused for a breach of duty and provide appropriate advice in a factual scenario involving breach of duty.

· where there has been a breach of duty, advise on the relevant legal consequences, including appropriate legal remedies for breach of duty;

8.1 Introduction

This module and next module are on directors’ duties. These are two of the most important modules in this course. Considerable emphasis is placed on this topic as:

· It has been the subject of considerable debate over recent years, given the collapse of many corporations and the public outcry over the desire to make directors take more responsibility for such failures; and

· It is highly likely that you will have contact with or act as directors in your professional life and will need a thorough understanding of the provisions relating to potential liability.

Directors are fiduciaries, occupying a position of trust and power within the company. Good corporate governance strives to ensure that directors, by their conduct, do not abuse the position of trust, responsibility and seniority held within the company’s management structure. One way to ensure that is to have a board of directors, comprising both executive and non-executive directors. Such combination results a board whose decisions reflect a responsible balance between the commercial reality of profit-driven expectations, and the legal obligations imposed by law.

The position of director has developed over time. Directors act as agents for the company, and as agents have a certain scope of authority granted by the internal rules of the company and by the Corporations Act. Directors also separately stand in a fiduciary relationship to the company and thus owe duties to the company comparable to those duties which are owed by partners in a partnership, and which are owed by a trustee of a trust to the beneficiaries of the trust. This overriding fiduciary duty of ‘loyalty and good faith’ includes such matters as duties to:

· act bona fide in the interests of the company;

· exercise their powers for proper purposes;

· to retain their discretions;

· avoid conflicts of interest, includingcontracts with the company, bribes, taking advantage of corporate opportunities, using the company’s confidential information or competing with the company.

Added to the ‘fiduciary duties’ is also the common law duty imposed on all of us to avoid negligent acts – namely to exercise reasonable care to avoid foreseeable harm. In the director context, this has evolved into a duty to exercise reasonable care and skill (and if the skill is not present, not accept the directorship). Together, these duties are known as ‘common law duties’ because they originated in decisions made by courts.

The Corporations Act has also built on those duties, and nowadays simultaneously also imposes on directors (and ‘officers’) some specific statutory duties (that means, duties imposed by statute). The legislation was drafted with knowledge of the common law duties and thus uses similar concepts and overlaps a great deal with the common law. Also, court decisions in relation to the common law duties have been used to interpret the meaning of certain words in the sections imposing statutory duties. However, the duties are different and separate (although simultaneous), and there are different consequences for breach of

statutory duty and for breach of fiduciary duty and for negligence and so the duties must be considered separately here also.

This course will examine directors’ duties under common law, equity and statute . The main duties will be covered in this and next modules are as follows:

i. Duty of care (present under common law and statute)

ii. Duty to act in good faith and for a proper purpose (present under equity and statue)

iii. Duty to avoid conflicts of interest(present under equity and statue)

iv. Duty to avoid insolvent trading (present under statute)

Your textbook discusses a wider range of director obligations, including corporate governance principles. You will need to read your textbook very carefully in order to understand how to establish a breach of directors’ duties, what defences are available for breach of each directors’ duties, and what are the legal consequences and remedies etc. These questions are the focus of this and the following modules.

8.2 Directors & officers

Although a company is recognised as a person in law, it is not a physical, human person and thus needs humans to act on its behalf. A company generally acts through its officers, most commonly its directors. More often than not, the officers authorised to perform this function are the directors.

There are a few different types of directors discussed in your textbook. Read it carefully and compare the differences between them. Pay attention to those who are considered as de facto and shadow directors. Directorship is appointed. S201 of Corporations Act sets out rules on director’s appointment. Not everyone can become a director of a company. People under the age of 18 years cannot be appointed as directors: s 201B(1). People that are disqualified from managing a company by s206 cannot act directors.

Under certain circumstances, directors can be removed from office. The rules that regulate removal of directors are different for public and proprietary companies. Members of a proprietary company can only remove a director in accordance with the internal rules. Under the replaceable rules, members can remove and appoint directors by ordinary resolution: section 203C. Naturally, this can be amended by a specific company’s constitution. Members of a public company can only remove a director in accordance with the Corporations Act. An inconsistent provision in the constitution will not override the provisions of the Corporations Act. Under section 203D(1), a director of a public company can be removed by an ordinary resolution passed at the general meeting s 203D(1), provided that at least 2 months’ notice of the resolution is given to the company; the director is then entitled to circulate a statement to members. The company must then give its members at least 21 days (in an unlisted company) or 28 days (in a listed company) notice: ss 249H and 249HA.

Under the replaceable rules, a director can resign by giving written notice: s 203A. If the company constitution provides that a director is appointed for a specific period, then the directorship of that person terminates at the end of that period of time. The constitution may allow that person to be re-elected, but this is a matter for each company’s own internal rules.

Reading activity 8.1

1. Who is an officer of a company and who is included as a director?

2. Must a director consent to becoming a director?

3. According to the replaceable rules, how is a director appointed?

4. When does section 206B automatically disqualify a person from managing corporations? How long does the disqualification last?

5. When can a court disqualify a person from managing a corporation under section 206C, 206D, and 206E? What must the court be satisfied of, before it will grant the order? How long does the disqualification last?

6. Must a company secretary consent to the appointment?

7. What does a company secretary do? What responsibilities does he/she have?

Who is responsible for these matters if the company does not have secretary?

8.3 Duties of directors

As mentioned above, directors’ duties are present under common law, equity and statute . Some of these duties overlap with one another. For example, duty of care is a common law duty as well as a statutory duty required by s180. Use the general guide below and refer to your textbook to find out more details.

Common law duties

Added to the ‘fiduciary duties’ is also the common law duty imposed on all of us to avoid negligent acts – namely to exercise reasonable care to avoid foreseeable harm. In the director context, this has evolved into a duty to exercise reasonable care and skill (and if the skill is not present, not accept the directorship). The equivalent statutory duty of care can be found in s180.

Fiduciary duties

The position of director has developed over time. Directors act as agents for the company, and as agents have a certain scope of authority granted by the internal rules of the company and by the Corporations Act. Directors also separately stand in a fiduciary relationship to the company and thus owe duties to the company comparable to those duties which are owed by partners in a partnership, and which are owed by a trustee of a trust to the beneficiaries of the trust. This overriding fiduciary duty of ‘loyalty and good faith’ is also incorporated by Corporations Act ss181-183.

Statutory duties

The Corporations Act has also built on those duties, and nowadays simultaneously also imposes on directors (and ‘officers’) some specific statutory duties (that means, duties imposed by statute). The legislation was drafted with knowledge of the common law duties and thus uses similar concepts and overlaps a great deal with the common law. Also, court decisions in relation to the common law duties have been used to interpret the meaning of certain words in the sections imposing statutory duties. However, the duties are different and separate (although simultaneous), and there are different consequences for breach of

statutory duty and for breach of fiduciary duty and for negligence … and so the duties must be considered separately here also.

8.3.1 Duty of care and skill

Under common law, directors have a duty to exercise a reasonable degree of care and skill. This duty is mirrored by the statutory duty in section 180, which requires an officer to exercise the degree of care and diligence that a reasonable person in a like position in a corporation would exercise in the corporation’s circumstances. There are three statutory defences available for directors if they are alleged to breach the duty of care and skill. Your textbook has well explained such defences.

· The business judgment rule: s180 (2)

· Reliance on others: 189

· Delegation of responsibility to others: s190 (2)

Reading activity 8.2

1. Why would the decision of Re City Equitable Fire Insurance Co Ltd not be strictly applied today? What cases demonstrate a changed attitude of the courts? What standard is now required of directors?

2. How did the standard of the duty change in ASIC v Rich, when the company’s financial circumstances were so rapidly deteriorating?

3. How does a director’s position as a non-executive director affect the standard of the duty which is owed?

4. What duty will apply to the chair? How was the chair’s duty breached in ASIC v Rich?

5. How were breaches of duty illustrated in the following cases:

a. Daniels v nderson

b. ASIC v Healey

c. ASIC v Adler

Read ‘the business judgment rule’ carefully, and answer the following:

6. What are the elements of this defence?

7. What is a ‘business judgment’?

Read ‘reliance on others: s189’ carefully and answer the following questions:

When can directors rely on the truth of information provided to them by others?

Can a director use section 189 to simply leave the running of the company to the other directors?

Module 8 Tutorial Questions

1. Mike was appointed director of XG Ltd at a remuneration of $50 000 per annum for three years. What are Mike’s rights in the following situations?

a. Recently, a notice to pass a resolution at the general meeting to remove Mike was given.

b. At the last board of directors’ meeting, it was decided, by a simple majority, that

Mike should be removed as director.

2. A, B and C were the only directors of a large public company, D Ltd. A is the managing director, B is the finance director and C is the non-executive director. The board of directors approved a $20 million interest-free loan to be granted by D Ltd to a different company, E Ltd. There was no independent appraisal of this proposed investment. The board did not obtain security for the loan before lending the money to E. The borrower, E Ltd, was in fact controlled by A and the loan moneys were used by E Ltd in ways that benefited A and his associated business directly and indirectly.

Discuss the breach of directors’ duty and explain whether the directors can rely on the business judgment rule to defend themselves.

3. Michael is the managing director of EG Pty Ltd, who accepted a very large order for electrical fittings from Shifty Sellers Pty Ltd. The order was delivered to Shifty Sellers which failed to pay for the fittings. It appears that Shifty Sellers was well known as a bad credit risk within the industry, including by Michael. Shifty Sellers later went into liquidation without ever paying the company for the electronic fittings.

Could Michael be held personally liable for Shifty Seller’s unpaid debt?