Law Reporter

Professor Bob Baxt provides an overview of recent court decisions affecting the role and responsibility of directors. Many of the matters examined in the Law Reporter are discussed in greater detail in The Baxt Report published by Thomson Publishing.

Directors in conflict – some directors do not understand their obligations

Two interesting cases, some six months apart, one in Western Australia and the other in New South Wales, once again illustrate some basic principles which underpin a fairly trite rule that governs the way in which directors and officers of companies should behave. Regrettably the rule is often given inadequate attention and sometimes breached. Directors should not allow their personal interests or influences to override the obligations they owe to their companies. Breaches may result in a criminal prosecution being brought by the regulator as was illustrated in the recent High Court decision of R v Doyle, (see March issue of Company Director). But as the two recent cases suggest, the remedies that may be obtained can be varied, such as setting aside a share placement or requiring directors to transfer back to their company a property which the relevant directors thought that they could keep for themselves.

The first of the two cases involved a share placement which was made in the context of an ongoing family dispute that occurred in relation to certain Western Australian companies. Netbush Pty Ltd v Fascine Development Pty Ltd & Ors (2005) 23 ACLC 1145 (Netbush) arose out of disputes within a group of companies concerning the Roberts family. This case was discussed in the October issue of Company Director.

The second case, a decision of Austin J, concerned a fairly often repeated set of circumstances which make their way into a court. In Fibre Tek (Gold Coast) v Bennett ([2006] NSWSC 150) the relevant plaintiff argued that the directors and financial controller of the company were in breach of their fiduciary obligations under the general law because they allowed money which was due to the plaintiff company to be used in the purchase of a property for the defendant in New South Wales. The plaintiffs claimed that they could trace the funds from the company’s own bank accounts and from the bank accounts of the holding company.

One concern I have with this decision is that the defendant did not appear and therefore did not have the opportunity to contradict the evidence led by the plaintiffs. This evidence suggested that the relevant funds could be traced from the holding company into the property acquired for the defendant and the judge was convinced by the facts. Austin J noted (at paras 34 to 36 of the case):

“In the absence of any other explanation, the proper inference to draw [on the evidence] is that the payments were made for the purpose of assisting the defendant, by providing the funds for the acquisition of the [relevant property] which was acquired in her name and is still held by her.

[35] On the authority of Paul A Davies v Davies (1983) 1 NSWLR 440 I am satisfied that this evidence demonstrates a breach of fiduciary duty by one, some, or all of the two directors of the plaintiff [company] and the general manager. That breach of fiduciary duty gives the plaintiff, through its liquidator, a number of remedies, including the remedy of asserting an equitable proprietary interest against assets representing the proceeds of the breach of duty.

[36] In the present case the evidence shows, in the end quite clearly, that the entire purchase price for the [relevant property] was drawn from the plaintiff’s fund. The plaintiff is entitled to trace the moneys diverted from its bank accounts into that property.”

Whether or not prosecutions are brought in relation to matters such as this (assuming no appeal is brought and the decision stands) is another issue. What the case illustrates is the fairly simple proposition that directors should not use property and funds of a company for their own interests.

The mere fact that such cases continue to be brought in our courts is in one sense quite troubling. It suggests that perhaps there are too many persons out in the community who take on the responsibility of Company Directorships without obtaining the necessary qualifications or experience in order to ensure that they conduct the affairs of their companies in the appropriate fashion. The Australian Institute of Company Directors plays an important role in ensuring that education is delivered to those who wish to understand the obligations that are imposed on them as directors of companies. However, as has been the case over the 170-odd years since the limited liability has become a feature of our Western economies, these basic propositions and lessons need to continually be refreshed.

Irregularities at company meetings – they may be rectified by court order

One of the constant problems facing companies, and in particular chairmen of company boards, is how to deal with difficult questions of interpretation at meetings where there is a degree of disagreement as to what the relevant decision might be in relation to, say, voting at the meeting. The increasing reliance on proxy contests, the pursuit of appropriate voting majorities, issues surrounding the preparation of resolutions, and voting of resolutions at relevant meetings, can lead to difficult questions being raised for the chairman of the meeting. If the chairman (or chairperson) makes a ruling which is wrong and it can be argued that this is a procedural irregularity then it may be possible to rectify this by applying to the court under section 1322 of the Corporations Act – the courts are vested with a wide discretion.

But what if the chairman decides to exclude a shareholder from voting at a meeting? This can have very dramatic consequences! In the recent decision of Palmer J in Cordiant Communications (Australia) Pty Ltd v The Communications Group Holdings Pty Ltd ((2005) 55 ACSR 185) some interesting guidelines are provided on when the court should ‘excuse’ an irregularity.

The issue in this particular case was whether a special resolution had been properly passed in light of a company saying it could vote by virtue of a proxy it received at the relevant meeting. It was argued that the proxy that had been given by a shareholder to a representative at the meeting was not valid because under a shareholders’ agreement another person had been given the right to attend and vote. The judge ruled that the special resolution which had been passed as a result of the use of the proxies was invalid and that the relevant company (Cordiant) should be restrained from further breaches of the shareholder agreement which it had entered into and which provided the power of attorney.

Of particular interest are some guidelines laid down by Palmer J in interpreting when the courts would be able to provide ‘relief’ from the procedural irregularity under the Corporations Act. Palmer J (at para 103 of the case) noted that the following general propositions may be followed in these cases:

1. What is a ‘procedural irregularity’ will be ascertained by first determining what is the ‘thing to be done’, the procedure is to regulate.
2. If there is an irregularity which changes the substance of the ‘thing to be done’ the irregularity will be substantive.
3. If the irregularity [in effect only] departs from the prescribed manner in which the thing is to be done without changing the substance of the thing, the irregularity is procedural.

One has to first ask what is the ‘thing to be done’ – what is the substantive vote to be taken. So, if a shareholder has been wrongly excluded from voting or wrongly admitted to voting, especially where the vote could have made a difference to the result of the meeting, it would normally be treated as a substantive issue which could not be validated by applying to the court under section 1322. But Palmer J felt that in such a case the court “may in the exercise of its discretion upon equitable principles, make a declaration that the result of the meeting is valid, notwithstanding the substantive irregularity which has occurred.”

In this particular case, the judge ruled that the chairman’s ruling which denied Cordiant its statutory right to vote in respect of its relevant shares was one which could not be validated by an application to the court.

Role of the takeovers panel confirmed – it still has a vital part to play

Although the Takeovers Panel (the Panel) and the government may be irritated and disappointed by the decision handed down on 22 March 2006 by Justice Emmett in Glencore International AG v Takeovers Panel [2006] FCA 274 (Takeovers Panel), they will be pleased with the important ruling by the judge that the Panel was empowered to make the type of decisions being considered in this case.

The facts surrounding the decision of the Panel in the relevant matter (whether Glencore International AG’s action in relation to its acquisition of a substantial interest in the target company, Austral Coal Limited (Austral), raised matters amounting to unacceptable circumstances), is of major interest to lawyers and those advising in this area. Emmett J was critical of the Panel’s decision that the behaviour of Glencore in this matter amounted to unacceptable circumstances. But he ruled that the Panel was an integral part of the process in dealing with takeovers.

The following extract from his judgement is an important recognition that the Panel will continue to play a significant role in the examination of takeovers in the Australian market.

“The Panel, of course, is expressly empowered by s 657(1) [of the Corporations Act] (the Act) to make declarations notwithstanding that there has been no contravention of the Act. Part 6.10 of the Act provides flexibility in the regulation of the acquisition of shares in circumstances where the literal operation of the regulatory regime is either unnecessarily restrictive or ineffective to achieve the object of Chapter 6 [of the Act]. It is clear enough that the regime involving the Panel is designed to ensure regulation of the acquisition of shares over and above the provisions contained in the balance of Chapter 6” (at para 135).

In this case the Panel had made its declaration of unacceptable circumstances notwithstanding the fact that Glencore, and the banks with which it was working, had apparently complied with the requirements of the law. The Panel believed that the purposes of the disclosure regime –?as contained in a different section of the Act – had not been achieved. As Emmett J noted this was exactly why the Panel was given to power to declare certain conduct ‘unacceptable’. Emmett J went on to note that it was not “unreasonable for the Panel, if its decision was otherwise lawful and authorised, to reach that conclusion. The fact that participants in the market do not necessarily make disclosure of cash settled swaps does not necessarily mean that the failure to do so is not unacceptable” (at para 135).

In his view, the Panel was wrong in reaching that particular conclusion. While the result may, as noted earlier, create problems for certain persons, the important thrust of the decision of Emmett J, is that the Panel does have a vital and important role to play and it is likely that it will continue to do so.