When you might be seen as a de facto director

Professor Bob Baxt reviews a recent court case that throws light on when an “informal” involvement in the decision-making of a public company can lead to a de facto directorship.

The Full Federal Court in Grimaldi v Chameleon Mining NL (No. 2) [2012] FCAFC 6 had to determine a number of very interesting issues surrounding the obligations of directors and the role of fiduciaries arising out of perceived conflicts of interests. It also had to decide how a person involved "informally" in the decision-making of a company may be held to be a de facto director.

The decision of Justices Finn, Stone and Perram canvasses many interesting issues surrounding the proper "definition" of a de facto director and what influence such a person may have in relation to a company. In doing so, the Full Federal Court embraced the ruling reached by Justice Jacobson in the case at first instance (Chameleon Mining NL v Murchison Metals Ltd [2010] FCA 1129).

Grimaldi appealed the decision that he was a de facto director, and thus liable for various breaches, because he was not formally involved in making certain decisions.

To understand the background against which this decision was made, it is useful to set out the critical facts briefly. They concerned various transactions involving what the court described as "junior mining exploration activities" that had developed from "faltering beginnings ... to a significant mining project" (at [2]).

In paragraphs three and four of the judgment, the court described the relevant facts in these words: "What this project required were, first and foremost, potentially productive iron ore tenements; secondly, a publicly listed company as a vehicle for investment; thirdly, the progressive aggregation of risk capital; and fourthly, experienced geologists. The central human actors developing the project were either well known to each other or else fortuitous ‘co-venturers’ sharing ambitions of individual gain. Unorthodox steps were taken with little or no regard for corporate forms or for the fiduciary responsibilities for company directors and officers. And, there were winners and losers as the project evolved. These proceedings are, in substance, in the nature of a retrospective attempt to re-allocate gains and losses and consequences of events occurring and actions taken for the most part in 2004. The mining project was developed by Murchison Metals.

"To put the matter inexactly, in 2004, through a series of transactions later to be examined, it acquired control of what for convenience we will call the ‘Iron Jack Tenements’. These were located in the Jack Hills region of Western Australia, which lies inland about half way between Perth and Port Hedland. The nearest available port is Geraldton. From the 1960s, mapping and prospecting for iron ore had been undertaken in the area. Though iron ore was detected, the area was not developed primarily because of the then low ore price and its ready availability from the Pilbara region. With the growth of the Chinese market by 2005, the previously deemed marginal iron ore resources of Jack Hills became viable. Murchison now exports that ore to China."

It was noted in passing that the value of the relevant ore to be mined and exported was over $1 billion. Chameleon Mining was the principal corporate player. The court noted that many of the companies had changed their names.

As indicated above, the court was considering claims brought by Chameleon against the formally appointed directors and Grimaldi, in his capacity as a de facto director, to reimburse the company for the profits and advantages that they had "taken" as a result of their alleged failure to comply with their obligations to act in a proper fiduciary manner and with appropriate due diligence.

The Full Federal Court’s decision is fascinating for several reasons and warrants closer study to better understand the different obligations of officers of a corporation. There is a full and helpful examination of the way in which the current definition of "director" in the Corporations Act 2001 has developed. There is also a detailed comparison with the definition of "directors" and "de facto directors" in the UK. This comparison also highlights, in a sense, the differences between a de facto director and a shadow director (see the decision in Buzzle Operators Pty Ltd (In Liq) Apple Copmuters Australia Pty Ltd [2011] NSWCA (Company Director, July 2011)).

In considering whether the trial judge had properly assessed Grimaldi as a de facto director, the Full Federal Court noted that considerable emphasis had been placed on the fact that Chameleon was listed on the Australian Securities Exchange. It had a properly constituted board of directors. It was suggested that the members of the board were not particularly anxious to regard Grimaldi as a director or to have held him out to act as a director.

In dismissing Grimaldi’s claims that he was not a de facto director, the court noted that the company had a properly functioning board. It also had recorded minutes from time to time at which decisions were taken and at which two of the executive directors of the company had dealt with various matters of company business. But the court noted that despite these steps, the board had performed its functions in quite an informal manner. So, for example, there were "no minutes approving some number of transactions entered into by Grimaldi which were of significance" to the company. "We accept that the board members seem only to have allowed Grimaldi’s attendance by invitation and did not appear to regard him as a director as such. However, while they did not hold him out as a director eo nomine [by that name], they clearly authorised him on occasion to perform functions such as would lead a reasonable third party dealing with him to believe that he was acting as a director of Chameleon... More generally, Grimaldi was allowed either to perform functions – for example, fundraising and share placements – or to arrogate to himself functions in which it pleased either or both of the executive directors acquiesced with knowledge" (at [133]).

The Full Federal Court also noted that Grimaldi was a resourceful and experienced person. "The extent of his participation and intrusion into Chameleon’s affairs could hardly have gone unnoticed. There is little room for doubt that the executive directors knowingly and willingly utilised his skills and experience over a diverse range of matters, acquiescing in, if not always authorising, what he did" (at [134]).

The court further noted that there was an interesting letter in which one of the executive directors described Grimaldi as a "pseudo director" (this term applying not only to Grimaldi, but to another person) (at [134]). The court added: "The description’s application to Grimaldi, if apparently jaundiced, captures a certain reality about his role in the affairs of Chameleon" (at [134]).

Finally, the Full Federal Court did not consider that "giving of prior authorisation to act for Chameleon or the need for subsequent court action to effectuate what [Grimaldi] had done, changed the character of what he was allowed to do in circumstances where what he did was what a person acting in the position of a director would be expected to do" (at [135]).

The court examined in considerable detail different transactions in which Grimaldi either acted as a so-called "consultant", or as a person who was acting in the position of a director (even though he was not in fact appointed as such).

In conclusion, after reviewing the various transactions, the court noted: "Even though not authorised to be a director, Grimaldi was either given, or had arrogated to himself with the acquiescence of at least two of the executive directors ... functions in the affairs of Chameleon which would probably be expected to be informed by a director of that corporation given its circumstances. Given the extent and the significance of those functions, he so acted in the position of a director as to warrant the imposition on him of the liabilities, statutory and fiduciary, of a director" (at [142]). The Full Federal Court believed the trial judge had made no error in reaching his conclusions on that matter.

An additional comment is also relevant: "While some of the acts done by Grimaldi which evidenced his acting in the position of a director, were done at the request or with the authorisation of the board, others were not" (at [142]).

The court affirmed that while it had concentrated on whether Grimaldi was a director or not, this question was in a sense a distraction from the principal decision it had to make. "The nature of the decision-making in which he participated and the demonstrable capacity he had to affect significantly Chameleon’s financial standing both in negotiations conducted on its behalf and as a decision-maker in it… demonstrably brought him within the definition of ‘an officer’ for [the purposes of sections 9(b)(i) and (ii) of the Corporations Act]. We so find that finding, which raised a far less complex inquiry than the de facto director one, was all that Chameleon needed for the purposes of this litigation" (at [143]).

The decision is an important one. It should be read closely by persons who are not necessarily directors of companies, but act in a capacity where activities and obligations are complementary to those associated with directors. While no comments were made on the obligations of Grimaldi as an officer, the recent High Court decision in Shafron vs ASIC, referred to briefly last month, highlights the increasing obligations being imposed on officers by the courts.

Professor Bob Baxt AO FAICDLife is an emeritus partner of Freehills, chairman of the Australian Institute of Company Directors’ Law Committee and author of the 20th edition of Duties and Responsibilities of Directors and Officers