Analysis Of SF Ltd’s Directors’ Breach Of Statutory Duties And Proposed Safe Harbour Defence

Part A

If individual is appointed as a director of the company, then he/she is responsible to manage the company’s affairs. It becomes necessary for the person who is appointed as the director of the company, to comply with the legal obligations which are stated for the directors under Corporation Act 2001. Individual is liable to comply with these regulations even if such individual is appointed as an agent for the purpose of look after the affairs of the company.

Duties imposed on directors: number of important responsibilities and duties are imposed on the individual appointed as director of the company by Corporation Act 2001 and some other laws also including the general law. Some of these duties are stated below (Australian Institute of Company Directors, 2013):

Care and diligence- Section 180 of the Act impose duty on the director of the company to perform their actions with due care and diligence that would be performed by any reasonable person in similar situation. Similar duty is imposed on the directors by the common law. This can be understood through case law ASIC v Hellicar. In this case, Court considers that directors of the company breach their duties by causing the company to enter into any transaction which is risky in nature. Court further states, directors of the company also breach their duties if they fail to inform the board about any matter which must be considered by the board before entering into any such transaction.

Section 180(2) states, it is the duty of the director to satisfy the below stated requirements while making any business judgment:

• Directors of the company must make the business judgment in good faith and for proper purpose.
• Directors must not have any material personal interest in the subject matter of the judgment.
• Directors of the company must inform themselves in relation of the business judgment up to the extent they think appropriate.
• Directors must believe rationally that judgment taken by them is in the best interest of the company (Corporation Act, 2001).

Good faith- section 181 of the Act states, directors are under obligation to act in good faith and in the best interest of the company. This section further states that directors must act for the proper purpose which also includes measures to avoid conflict of interest. This duty is also known as fiduciary duty of director which is imposed by general law (Corporation Act, 2001).  

Improper use of position- Section 182 of the Act states, it is the duty of director not to use their position for any improper purpose and to gain advantage for themselves or for any other person (Corporation Act, 2001).  

Improper use of information- Section 183 of the Act impose duty on director of the company not to use any information which they receive in the capacity of director for their own advantage and for someone else advantage or for the purpose of detriment the company (Corporation Act, 2001).  

In case law Asic v Adler and 4 Ors, Court held that Business judgment rule was introduced for giving protection to the directors against any judgment made which was made in good faith and with due care. Court further stated that in this case, it was not possible for directors to use this rule as defense because directors fail to satisfy the requirements of this rule as per section 180(2). Court found that Adler fails to disclose material personal interest, and in case of other two directors William failed to make judgment in good faith and Fodera fails to inform the board about the transaction.

This case also emphasis on the duties of non-executive directors and state that non- executive directors must have necessary knowledge of the business conducted by the company and other necessary transaction in which company enters. Non-executive directors are also responsible to aware themselves about the material transactions and actively participate in the meetings.

Part B

In the present case, all the directors of the company breach their statutory duties towards the company in following manner:

• John breach section 180 of the Act by not satisfying the requirements of the business judgment rule, because he fails to consider various factors of financial assistance such as asbestos fund. Therefore, he fails to inform the board and himself in relation of the business judgment up to the necessary extent.
• All the directors fail to consider the fact that development site was contaminated by asbestos and it would be expensive to remove this contamination.
• Brain fails to disclose material interest to the board.
• Both George and Ringo are the non-executive directors of the company, and fail to inform themselves about the material transaction, and also fail to actively participate in the meeting held for this purpose.

Corporation Act 2001 imposed fiduciary duty on the director of the company to act in good faith, honestly, and in the best interest of the company. This fiduciary duty is imposed by Section 181 of the Act. As per this section directors are under obligation to act in good faith and in the best interest of the company. This section further states that directors must act for the proper purpose which also includes measures to avoid conflict of interest. This duty is also imposed by common law.

Section 191 of the Act imposes duty on director to disclose his/her material personal interest related to any transaction to the board of directors (Corporation Act, 2001).  

Section 208 of the Act states, director must take approval from shareholders of the company as per the requirement of the public companies under which approval of the shareholders must be taken for related party transactions (Corporation Act, 2001).  

This can be understood through case law McGellin v Mount King Mining NL (1998) 144 FLR 288. In this case, Court stated that material interest must be considered in lieu of capacity to influence the vote of any particular director.

In the present case, Brain breached his fiduciary duties because he fails to perform his action in good faith and for proper purpose. Brian also breaches section 191 and 208 of the Act by not disclosing his interest in the Norwegian Wood Pty Ltd and take shareholder approval for related party transaction respectively.  

Proposed amendments related to the ‘safe harbour’ exclusion were introduced in the parliament on 1^st June and now these amendments were passed by the government under “Treasury Laws Amendment (2017 Enterprise Incentives No. 2) Bill 2017”. These amendments become effective after receiving the Royal Assent (Federal register of Legislation, 2017).

Amendments are introduced   for the purpose of providing comfort and relief to the directors of the Australian companies. This paper analyze the proposed defense available to the directors of the company regarding statement “directors will only be liable for the debts of an insolvent company where it can be shown that they were not taking a course of action reasonably likely to lead to a better outcome for the company and its creditors as a whole than proceeding to immediate administration or liquidation”. Subsequently, Paper is concluded with brief conclusion.

As per Section 588G, directors of the Australian company are personally liable for the further debts incurred by the company, if sufficient reasons are present to suspect that company was insolvent or becomes insolvent. It must be noted that this risk cannot be considered as remote risk, and it is real. Pressure is put on the board of directors through insolvency law for the purpose of solving the conflict between the personal interest of the directors and shareholder’s interest (Corporation Act, 2001).

Concept of personal liability forces the board to considered voluntary administration rather than restructuring of the company. Industries do not considered this law appropriate, because it prevents the deserving and quality candidates to accept the position of the director. Government heard these complaints and acknowledged that insolvent laws of Australia mainly focus on penalizing the failure.

After considering the above facts, government proposed ‘safe harbour’ exclusion for the directors. These exclusions are introduced for the purpose of encouraging the culture of entrepreneurship and innovation. Provisions stated under these exclusions provide protection to the directors from personal liability in specific situations.  

As per these provisions, directors of the company are personally liable for the debts incurred by the company at the time of insolvency of the company, if sufficient grounds are present which state that directors fails to take course of action which would be taken by any reasonable person for the purpose of lead better outcome rather than conduct proceeding related to administration or liquidation (Giles & Remedi, 2017).

Following are some benefits which can be achieved by these proposed changes:

• Encourage chances of corporate solvency: there are number of directors of the companies who agreed that insolvency law of Australia focus on liquidation of the company and not on the restructuring of the business. Section 588G related to the personal liability of the directors prevents the directors to take any measures for restructuring of the business because in this failure of the directors will be penalized. However, safe harbor exclusions provide relief to the directors and help them in managing this issue.
• Some companies are less suitable for external administration: as per the research conducted by the government, a common concept is emerged which state that those companies whose business value is completely rely on the goodwill or sentiments of the public are less suitable for the external administration such as travel business. For these types of companies appointment of external administrator is considered as risky, because it would result in loss of public confidence. Loss of public confidence will itself considered as obstacle which makes the business restructuring difficult. Therefore, this new amendment will help the companies in managing these issues (Korda, 2010).
• Evidence stated that external administration occurred prematurely: it must be noted that there are number of cases in which it is found that external administrator was appointed at pre mature stage. This decision was taken by the directors of the company because of the less availability of the options. Therefore, this factor mainly influences the decision of the director. This problem result in loss of stakeholder support, and without the support of stakeholders it is not possible to opt any form of restructure.
• Loss of quality individuals: current law on insolvency result in loss of quality individuals, because of the provision related to personal liability of the directors of the company. Individuals do not prefer to take risk on their personal assets. This new amendment helps the directors in taking risk and managing this issue (Australian Government, 2010).

After analyzing the points in favor, there are some facts which work against this new amendment:

• Reduce accountability: this new amendment reduce the accountability of directors towards the creditors and other stakeholders of the company, because directors can take shield of this new amendment and use it as defense for avoiding their responsibility towards the creditors and company.
• Risk of director liability: This amendment also increase the risk of director’s personal liability. In case, director is not able to present sufficient evidence that he take reasonable care while incurring further debt at the time of insolvency then it will increase the risk of his personal liability.  Therefore, it is necessary for directors to take reasonable care while incurring debt under the protection of this new defense (Australian Institute of Company Directors, 2010).

After considering above arguments both in the favor and against of safe harbor exclusion, it is clear that these new amendments reflect more positive result as compared to negative effects.

Conclusion:

This paper analyze both arguments in favor and in against in the context of safe harbor exclusion. Arguments in favor state various points such as increase in the chances of corporate insolvency, reduce the loss of quality individuals, less suitability for external administration, etc. On the other hand arguments against these amendments state that these amendments reduce the accountability of directors.

After considering above arguments, it is clear that these new amendments reflect more positive result as compared to negative effects.

References:

Asic v Adler and 4 Ors [2002] NSWSC 171 (14 March 2002).

ASIC v Hellicar [2012] HCA 17.

Australian Government, (2010). Insolvent trading: A safe harbour for reorganisation attempts outside of external administration. Retrieved on 1^st September 2017 from: https://archive.treasury.gov.au/documents/1713/PDF/Insolvent_Trading_Safe_Harbour_DP.pdf.

Australian Institute of Company Directors, (2010). Insolvent trading: A safe harbour for reorganisation attempts outside of external administration. Retrieved on 1^st September 2017 from: https://archive.treasury.gov.au/documents/1748/PDF/Australian_Institute_of_Company_Directors.pdf.

Australian Institute of Company Directors, (2013). General Duties of Directors. Retrieved on 1^st September 2017 from: https://aicd.companydirectors.com.au/resources/all-sectors/roles-duties-and-responsibilities/general-duties-of-directors.

Corporation Act 2001- Section 180.

Corporation Act 2001- Section 181.

Corporation Act 2001- Section 182.

Corporation Act 2001- Section 183.

Corporation Act 2001- Section 191.

Corporation Act 2001- Section 208.

Federal Register of Legislation, (2017). Treasury Laws Amendment (2017 Enterprise Incentives No. 2) Bill 2017. Retrieved on 1^st September 2017 from: https://www.legislation.gov.au/Details/C2017B00100/Explanatory%20Memorandum/Text.

Giles, R. & Remedi, L. (2017). Good news for Australian company directors on personal liability risk. Retrieved on 1^st September 2017 from: https://www.kennedyslaw.com/es/article/australia-director-safe-harbour-provision/.

Korda, M. (2010). Insolvent Trading: A Safe Harbour for Reorganisation Attempts Outside of External Administration. Retrieved on 1^st September 2017 from: https://archive.treasury.gov.au/documents/1748/PDF/Korda_Mentha.pdf.

McGellin v Mount King Mining NL (1998) 144 FLR 288.