BUSL301 Summary

Directors’ fiduciary duties

The fiduciary duties may be classified as follows:

Duty to act in good faith and in the best interest of the company.

Duty to act for a proper purpose.

Duty to avoid a conflict of interest.

Duty to retain discretion.

Directors owe their fiduciary duties to the company.

Directors’ duty to act in good faith in the best interests of the company and the shareholders as a

whole (a collective body) does not mean that they owe duties to particular shareholders.

However, in isolated and special circumstances, the fiduciary duty may be owed to an individual

shareholder.

For such circumstance to arise, the director must have been in direct and close contact with the

individual member so that the director caused the member to act in a certain way which turned out

to be detrimental to them.

Brunninghausen v Glavanics

Facts: B and G were the shareholders and directors in a family company, however after a

disagreement between them G took no active part in the management of the company until their

mother-in-law intervened to make peace. Shortly thereafter, G agreed to sell his shares to B.

However, G was not aware that B was negotiating to sell the company to another person for a higher

price per share than B was offering G. Thereafter, B sold the business and profited from the higher

price to the detriment of G.

Decision: The relationship between B and G was fiduciary in nature because G had been effectively

locked out of the company and had no way of verifying the true value of his shares in the company.

These elements of vulnerability and control in a small family company give rise to fiduciary

obligations on B to provide full disclosure to G regarding the potential sale of the business.

A breach of the fiduciary duties is enforced by the company.

If the company is in liquidation, it will be the liquidator who has the ability to bring actions on behalf

of the company.

The company enforces the general law duties seeking remedies.

Remedies available include:

Damages (what the company has lost)

An account of profit (what the director has gained)

Rescission of a contract and injunction (an order requiring and restraining a certain action)

Constructive trust arrangement (the effect of maintaining for the company the benefit gained by

directors as a result of the breach of duty)

Directors should not consider the interests of employees at the expense of the interests of the

company’s shareholder.

When a company is solvent, the directors should be aware of the shareholders’ interests.

Parke V Daily News Ltd

A company that controlled two newspapers sold one of them. The directors intended to distribute

surplus proceeds from the sale among its employees by way of compensation for dismissal. A

shareholder brought an action to prevent these payments.

It was held that the directors breached their fiduciary duties to act in the best interests of the

company because the proposed payments were not reasonably incidental to the carrying on the

carrying on of the company’s business. They were gratuitous payments to the detriment of

shareholders and the company as a whole.

Ratification

As the fiduciary duties are owed to the company, the law has permitted the company (via its

shareholders in general meeting) to ratify (approve or forgive) the conduct amounting to the breach.

Whereas ratification is available for general law breaches, its operation is limited.

If the company is insolvent the creditors are at risk. The directors should be aware of the creditors’

interests. Ratification is not possible if the company is in insolvent.

Kinsela V Russell Kinsela Pty Ltd===

The directors of a family company in financial difficulties arranged for the company to transfer its

business and lease its building to themselves on advantageous terms. This meant that when the

company went into liquidation the directors could continue to carry on the family business but the

company could not easily sell the property.

The court held that the liquidator could invalidate the lease because the directors breached their

duty. The company’s shareholders had no power to ratify the directors’ breach of duty upon the

ground of the company’s insolvency at the time of the transaction, and it involved their failure to

take account of the creditors’ interests.

Ratification will not be valid if a fraud on the minority shareholders

Cook V Deeks

Facts: In this case, several directors (including two Deeks brothers and another director) of the

Toronto Construction Company had a disagreement with one of the other directors (Cook). The

directors then negotiated a major construction project on behalf of the company, but diverted that

project to a new company that they had established in an attempt to exclude Cook from the project

(Cook was neither a shareholder nor director of the new company). The directors then used their

shareholdings to pass a resolution at a members’ meeting declaring that the company (that is

Toronto Construction) had no interest in the project, effectively freezing out Cook from the project.

Issue: Did the directors breach their fiduciary duty by giving the business opportunity to the new

company rather than Toronto Construction?

Decision: The directors acted in breach of their fiduciary duty and the shareholders’ resolution was

invalid because the directors/shareholders were acting under a conflict of interest.

The court remedied the loss to the first company (Toronto) by imposing a constructive trust

arrangement – the 3 directors holding the benefit of their breach (the business transferred to the

new company, Dominion) on trust for the first company

Duty to act in good faith

To act in good faith means the director must genuinely believe that they are acting for, and, in the

best interests of, the company. The determination of the duty has an objective element and this

means that directors will not necessarily comply with their duty merely because they have an honest

belief that they are acting in the company’s best interests. What the directors consider as in the best

interests of the company may not what the court considers.

Advance Bank V FAI Insurance Ltd

Directors used company funds to campaign for the election of certain candidates for election to the

board of directors. Although the directors honestly believed that they were acting in the company’s

best interests, because they resolved to form a campaign committee that used company funds to

promote the re-election of certain directors and to secure the defeat of candidates nominated by

FAI, a substantial shareholder. The information supplied by the committee to shareholders was

emotional and misleading.

Duty to act for a proper purpose

Directors have extensive powers to run the company however where they use such power to

prejudice groups of shareholders or to secure their own positions, they may breach their duty.

Howard Smith V Ampol – creating or destroying a majority of voting power

The Privy Council held that directors may act for improper purposes even where a share issue is not

motivated by self-interest. Directors breach their duty to act for proper purposes if they use their

power to issue shares for the purpose of creating a new majority shareholder or to manipulate

voting control within the company. This is so even where the directors may honestly believe their

actions are in the best overall interests of the shareholders.

Ngurli Ltd V McCann

Directors who issue shares for the purpose of maintaining their position of control of the company

breach their fiduciary duty and the share issue may be invalidated.

The power must be used bona fide for the purpose for which it was conferred, that is to say, to raise

sufficient capital for the benefit of the company as a whole. It must not be used under the cloak of

such a purpose for the real purpose of benefiting some shareholders or their friends at the expense

of other shareholders or so that some shareholders or their friends will wrest control of the

company from the other shareholders.

Duty to avoid a conflict of interest

Where the law imposes a duty to act honestly it is important that the person is seen to be acting

honestly.

Where a director is in a conflict of interest it is no defence to show that the company did not suffer

any loss or that it was not in a position to take up the contract or that the contract was fair.

Directors’ fiduciary duties require them to act in the company’s interests at all time. In Furs v

Tomkies case, the court held that it will be a breach of duty where directors conduct secret

negotiation to the company’s detriment.

Where opportunities arise in the normal course of directors carrying out their role (corporate

opportunity) they should not seek to benefit personally, or take the matter further, unless they have

disclosed relevant matters to the board.

Queensland Mine Ltd v Hudson

Hudson was the managing director of Queensland Mine Ltd and in this position took up mining

exploration licences when the company was not in position to do so. At all times he made a full

disclosure. He resigned from his position and developed the venture.

Control of Queensland Mines Ltd changed and proceedings were brought against Hudson. It was

argued that he had breached his duty and abused his position as managing director.

The Privy Council held that the opportunity to earn the royalties arose from the use Hudson made of

his position as managing director. However, he fully informed Queensland Mines shareholders as to

his interest in the license, and the company renounced its interest and assented to Hudson

proceeding with the venture alone. Queensland Mines failed in its action for an account of the past

and future profits from the royalties payable to Hudson.

In regard to a director’s duty to avoid conflicts of interest, the Privy Council in this case said that

there must be a real, sensible possibility of conflict and not just a theoretical technical or remote

one.

Duty to retain discretion

Directors as the managers of a company must be allowed freedom to conduct the company’s

business. However, the principle has been developed that they should not be allowed to limit the

exercise of their discretion. Thus they cannot enter into a contract which will bind them into voting

in a particular way at board meetings.

If it can be shown that a contract to vote a certain way is in the belief of the directors in the

company’s best interests, the directors will not be in breach of their duty.

Directors’ Statutory Duties

Pursuant to s 185 the general law applies in addition to the duties set out in s 180 to s 184.

Where a director’s conduct contravenes a provision of the Corporations Act it will be ASIC, in its role

as corporate regulator that will investigate the contravention, commence proceedings and seek

appropriate penalties.

It should be noted that where directors breach their statutory duties ratification by the

shareholders is NOT available.

The relationship between the general law duties and the statutory duties of directors

General law duty (fiduciary duty) Corporation Act (statutory duty)Care and diligence S180 and 588GUse power for proper purpose S181 and 184Good faith and best interests of the company S181 and 184Avoid conflict of interest S182, 183, 191 and 195

Section 191 – director’s duty to disclose

S191(1), A director of a company who has a material personal interest in a matter that relates to

the affairs of the company must give the other directors notice of the interest unless they are

exempt from doing so under section s 191(2)

“Material personal interest” means it requires a real possibility of conflict

S191(2), list of situation:

- Director’s remuneration

- Interests where the director is a guarantor of a loan to the company

- Where the directors are already aware of such interest

One of the situations set out in s 191(2) is that which relates to where a company is a proprietary

company and the other directors are aware of the nature and extent of the director’s interest and its

relationship to the affairs of the company. In this case, the director with the material personal

interest does not need to disclose (s 191(2)(b)).

S191(3) sets out the detail required in the notice to the company, and any contravention of the

section has no affect on the validity of any transaction (s 191(4)). This section does not apply to a

proprietary company with one director only (s 191(5)).

The statutory duties of directors can be divided into 4 main groups:

Director’s position – good faith, proper purpose and avoid conflict of interest (s181, 182 & 183)

Dishonest and reckless conduct (s184)

Management standards – care and diligence (s180 & s588G)

Disclosure obligation (s191 & 192)

S181 – Good faith for the best interests of the company with a proper purpose

This section mirrors the general law duty to act in good faith, in the best interests of the company

and for a proper purpose. A breach of the duty to act in good faith is a civil penalty provision

(See s1317E – declaration of contravention).

Although these duties are expressed as two separate tests, there may be overlap in certain cases

(for example, the exercise of a power to benefit the directors rather than the company will breach

both limbs as it is not in good faith and not for a proper purpose.

S182 – Use of position (fiduciary duties relating to no conflict and no secret profit rules)

A director, secretary, other officer or employee of a corporation must not improperly use their

position to gain an advantage for themselves, someone else or cause detriment to the company.

A breach of this section is a civil penalty provision (See s1317E – declaration of contravention).

Whitlam v ASIC

The NSW Court of Appeal overturned the trial judge’s holding that Whitlam had breached his duty as

a director to act honestly, and made improper use of his position by deliberately failing to sign poll

papers with respect to his appointment as proxy at the NRMA’s annual general meeting.

S183 – Use of information (fiduciary duties relating to no conflict and no secret profit

rules)

A person who obtains information because they are, or have been a director, other officer or

employee of a company must not improperly use the information to gain an advantage for

themselves or someone else or cause detriment to the corporation.

A breach of this section is a civil penalty provision (See s1317E – declaration of contravention).

ASIC v Vizard

Vizard was a non-executive director of Telstra. During his time as director, Vizard obtained

information from board meetings and internal briefing documents that outlined a strategy of

acquisitions in other IT firms. Vizard then established a family trust, managed by his accountant, to

purchase shares in firms that Telstra had intended to takeover or acquire large stakes in. most of

these share trades were losses, and no Telstra funds were used for the acquisitions (that is Telstra

did not suffer any losses from the share trades). ASIC sued Vizard for breach of s183 (and its

predecessor provision).

Held: Vizard admitted liability and was ordered by the court to pay close to $400,000 in pecuniary

penalties and was disqualified from being a company director for 10 years. The court, relying on the

precedent in Regal Hastings, said: ‘a director is denied the ability to use such information for his or

her own purposes. It does not matter that the director’s action causes no harm to the company or

does not rob it of an opportunity which it might have exercised for its own advantage.’

S184 – Breach of ss181, 182, or 183 resulting in criminal offences.

Where directors or other officers act in a manner prohibited in ss181, 182, or 183, that is, they do

not exercise good faith or act for a proper purpose, or they misuse their position or their information

for gain, and in doing so they are reckless or intentionally dishonest, they will be in breach of s184.

This section targets criminal liability and through schedule 3 of the Corporations Act results in

punishments including fines and imprisonment.

Kwok v R

A director who deliberately failed to disclose a conflict of interest in relation to a lease transaction

with associated companies was held to have acted dishonestly and thereby breached s184. The

director was sentenced to periodic detention.

Duty of care, skill & diligence

Arises under:

General law

- Under general law, whether a director had breached the duty of care and diligence depended on

a largely subjective assessment of the director’s own skills and knowledge. Directors need only

display the skill and care as would be expected of such person with his or her experience and

knowledge. Thus little knowledge and skill on the part of the director would mean a low standard

of care and skill.

- This standard (as applied in Re City Equitable) is no longer relevant.

Re City Equitable Fire Insurance Co Ltd

Romer J considered directors did not need to exhibit a greater degree of skill than may reasonably

be expected from a person of their particular knowledge and experience. However, as the

commercial environment increased in complexity during the later part of the 20th century,

accountability and objectivity altered the application of the standard. Accordingly, the standard

applied to a director’s duty of care in Re City Equitable is no longer relevant. Today, as established in

AWA v Daniels, an objective standard applies.

Statute Law

S180(1) act with reasonable care and diligence

S180(2) business judgement rule (BJR)

AWA v Daniels – the modern duty of care and diligence

During the late 1980’s, AWA Ltd enter into investment in foreign exchange (FX). It had initially

seemed that the FX trading was profitable, however this was due to the deception of one of its

middle managers who, without adequate supervision, concealed losses of almost $50 million. During

the time that these losses where accumulating two audits were conducted and even though the

audit partner in charge (Daniels) raised some concerns as to AWA’s internal controls (although these

did not reach the board) the true position was not made clear in either on the audits.

The NSW Court of Appeal found that the auditors were primarily responsible for the loss but that

nonetheless the company’s directors had a duty to take reasonable steps to monitor management

and be familiar with the company’s financial position. The Court of Appeal found the executive

directors to have been negligent and this was attributed to the company. Accordingly, the liability of

the auditors was reduced as the result of this contributory negligence.

Directors must be pro-active in their approach to management

Directors must possess a minimum objective standard of competency

They must keep informed of the company’s activities and engage in general monitoring of the

activities of the company

Maintain familiarity with the company’s financial position by regularly reviewing the company’s

financial position.

Attend board meetings regularly.

S180 – Care and Diligence

Directors must carry out their powers and discharge their duties with the degree of care and

diligence that a reasonable person would exercise if they were a director of the company, in the

company’s circumstances and occupied the office and had the same responsibilities within the

company as the director had (s180(1)).

Section 180(2) introduces into the law, a business judgement rule for directors. The BJR has,

according to the Explanatory Memorandum to the bill introducing these amendments, been

introduced to ensure responsible risk taking and not to insulate directors from liability.

Under the BJR, directors will be given the benefit of the doubt in making business decisions and

will be said to have acted with care and diligence in section 180(1), if they satisfy the four

requirements set out in section 180(2)(a-d).

- The judgement must be made in good faith and for a proper purpose;

- The director must not have a material personal interest in the subject matter

(Avoid conflicts of interest)

- The directors informed themselves about the subject matter of the judgement;

- The directors must rationally believe that the judgement is in the best interests of the

company

Business judgement is defined in section 180(3) to mean any decision to take or not to take action

in respect of a matter relevant to the business operations of the company.

ASIC v Adler

The Supreme Court of NSW found that Adler as a director was in breach of ss180, 181,182 and 183

of the Act as a result of a $10million payment by HIHC, a wholly subsidiary of HIH Limited, a listed

company, to a trust controlled by Adler Corporation; Adler was a director of HIHC and HIH. Adler

caused the money to be used for three main purposes.

1. A part of the $10 million was used to buy share in HIH to give the impression that the Adler family

was purchasing the shares. His purpose in doing this was to maintain or stabilise the HIH share price,

or prevent it falling by an even greater amount; his own company had a substantial investment in

HIH.

2. A further part of the $10 million was used to purchase shares in various unlisted speculative

companies from Adler Corporation, at cost after the collapse in April 2001 of the stock market. The

shares were in technology and communication companies and no independent valuation was made

of the shares.

3. The balance of the money was used to provide unsecured loans, without adequate

documentation to companies associate with Adler.

Adler (as well as Williams and Fodera) sought to rely on the business judgement rule as a defence

to the actions brought by ASIC for breach of duty of care under 180(1). However the court rejected

Adler’s defence upon the basis that the decision to invest the $10 million received from HIHC in

Pacific Eagle Equity Pty Ltd amounted to a clear conflict of interest (that is, Adler had a material

personal interest in the subject matter of the business judgement in breach of s180(2)(b))

Matters such as the advantage gained by Adler, the perilous financial position of HIH, the lack of

safeguards in place regarding the advance of funds, the risk involved , the false impression to the

market, the conflict of interest, all played a part in establishing the breaches.

As a result of the breach of his duties, Adler was disqualified from managing corporations for 20

years (s206C), ordered (Williams, the HIH CEO and Adler Corporation Ltd) to pay almost $8 million

compensation (s1317H) and fined $450,000 (Plus the same for Adler Corporation Ltd) under

s1317G.

Part B

Stacey, as a director of Expandoola Pty Ltd, owes fiduciary and statutory duties to the

company. Under the general law, the fiduciary duties that are owed by Stacey are the duty

to act in good faith for the best interests of the company with a proper purpose and the

duty to avoid conflicts of interest. These duties are also a reflection of the sections 181,182

and 183 under the Corporations Act. The main duty which Stacey has breached in this

context is the duty to avoid actual and potential conflicts of interest. The focus to be placed

on this matter is the duty to avoid of conflicts of interest other than the other duties

mentioned above. The duty to avoid conflicts of interest is a strict duty. A director may

breach the duty even though she acts honestly. The event associated with Noelation Pty Ltd

which is marketing the secret touch keypad may amount to a conflict of interest because it

involves a misappropriation of corporate opportunities by Stacey. A director’s fiduciary

position inhibits the director from taking up for him or herself business opportunities which

the director has a duty to obtain for the company. Where a director is in a conflict of

interest is no defence to show that the company did not suffer, any loss or that it was not in

a position to take up the contract or that the contract was fair. Director’s fiduciary duties

require them to act in the company’s interest at all time. In Furs v Tomkies case, the court

held that it will be a breach of duty where directors conduct secret negotiation to the

company’s detriment. Where opportunities arise in the normal course of directors carrying

out their role (corporate opportunity) should not seek to benefit personally, or take the

matter further, unless they have disclosed relevant matters to the board. However, certain

questions come across regarding the arguments supporting Stacey. Was Stacey under a duty

to obtain the opportunity for the company? She could have heard about it while having her

personal affairs done. Can directors exploit corporate opportunities which come to them in

their “private capacity”?

Argument supporting Stacey

It was outside the course of her office as a director. In Regal Hastings v Gulliver, the Lord

Russell held that a fiduciary is accountable for profit arsing by reason of and only in the

course of her or his fiduciary office.

Stacey was not given any responsibility by Expandoola to negotiate the agreement with

Noel.

Argument against Stacey

Expandoola has recently expanded into computer design and construction recently. This

means Expandoola has a strong intention and sign of interest in expanding further into the

market of computer hardware accessory. In the company’s standpoint, it is an obvious

breach of fiduciary duty to avoid a conflict of interest. Stacey as a director of the company

should always consider the company’s interest all the time. The corporate opportunity

should have been obtained for the benefit of the company. Stacey’s duty extends to a

business opportunity which although not within the director’s responsibilities is either being

actively pursued by the company, or in which the company might reasonably be expected to

be interested, given its current line of business and expansion. Applying this concept, Stacey

may be in breach of duty. There might also be a breach of s 184 which is based on the act

being reckless or intentionally dishonest in connection with ss 181,182 or 183.

The possible outcomes of Stacey’s conduct would be the remedies sought by both the

company under the general law and ASIC under the Corporations Act.

Expandoola may take an action against Stacey for an account of secret profit gained through

the involvement with Noelation even where Expandoola has not suffered a loss.

Accordingly, the company could terminate her employment contract and sue her for an

account of profit made through the secret involvement in Noelation’s business. However,

ratification is available to approve or forgive the breach conducted by Stacey through

shareholder’s general meeting under the general law.

ASIC may also prosecutes Stacey for contravening ss 181, 182 and 183 which attract a

pecuniary penalty of up to $200,000 under s 1317G. moreover, ASIC can bring an action for

breach of s 184 which targets criminal liability through schedule 3 of the Corporations Act

resulting in punishments including fines and imprisonment. As a result of contravention of

statutory duties, ratification would not be available if ASIC brings an action against Stacey.

Who could bring proceedings against Jess and Laura under s 588G of the Corporations Act

and analyse the prospects of success of any such proceedings.

If a company is insolvent, directors should not deteriorate the situation by incurring debt. In

fact, s 588G (the duty to prevent insolvent trading by company) makes directors personally

liable in such a situation. Insolvent trading by directors allows the liquidator, pursuant to s

588M, to claim the amount outstanding from the directors. Accordingly, what was originally

a company debt becomes the personal responsibility of the director. Moreover, s 588G is

also a civil penalty section allowing ASIC to pursue actions against directors. Civil penalty

orders and compensation can be sought.

In Expandoola’s case, when one of the creditors of Expandoola (Laurencla Pty Ltd) claimed

the payment, there were reasonable grounds for Laura and Jess in the director’s

circumstances to suspect that the company would become insolvent. In addition to that,

when Laura suggested to Stacey that the company’s accountants should be contacted for

advice at that time but Stacey did not take the matter further. Even if the company paid

back the owing amount to Laurencla, there were obviously a suspicion in regard of the

company’s financial position at the time when the creditor raised up the issue. In

Metropolitan Fire Systems Pty Ltd v Miller case, the court considered that the company

was insolvent having regard to the following factors: creditors were pursuing legal action;

amounts owed to creditors were large and well overdue; any assets the company had could

not be quickly realised; and funds to pay its current debts were not available at the time or

in the near future.

Even though the Corporations Act provides defences for directors to s 588G actions under s

588H, Jess and Laura‘s defence based on s 588H(2) which provides a defence where the

director had reasonable grounds to expect solvency and did expect that when the debt was

incurred the company was solvent and would remain solvent can be rejected by the court as

seen in Tourprint International Pty Ltd v Bott. In that case, the director failed to inquire as

to the company’s position from the accountant or other directors and did not inspect the

company’s book. This situation is really similar to how Laura responded to Stacey’s

suggestion on contacting the company’s accountant. Thus, Jess and Laura are unlikely to

protect themselves under s 588H against any proceedings brought by either the liquidator

or ASIC.

Takeover

S 608 – relevant interests in securities

Central in takeover law is the concept of ‘relevant interest’

A person will have a relevant interest in securities if they hold the securities, have the power to

control, the right to vote in relation to the securities or the power to control the disposal of the

securities.

S 606 – prohibition on certain acquisitions of relevant interests in voting shares

20% threshold

Prohibitions on acquisition to ensure fairness to target shareholders.

A person must not acquire a relevant interest in voting shares above the threshold limit of 20% of

the issued capital

A person must not acquire a relevant interest in voting shares which increases a person’s holding

to any percentage between 20% to 90%

The prohibitions in s606 do not apply if a person has over 90% relevant interest of the voting

shares

The threshold is based on relevant interest, not based on ownership.

For breaches of s 606 there are fines (s 1311 and schedule 3 are relevant). Other orders per s 1325

may be sought such as direct disposal of shares.

Compulsory acquisitions

To avoid a potential conflict arising from target shareholders’ disruption when takeover is

successful by a bidder

S 661A - Compulsory acquisition power following takeover bid

Where a bidder (inc. associates) has a total relevant interest in 90% of the voting shares and 75% of

the bid is accepted, then a compulsory buy out is possible.

S 662A – Bidder must offer to buy out remaining holders of bid class securities

Shareholders can avoid being locked in by forcing a bidder with a 90% relevant interest to buy them

out.

S 664A & S 664AA – Threshold for general compulsory acquisition power and time limit on

exercising compulsory acquisition power (6 months rule)

Where a person has a full beneficial interest in 90% (even if not acquired during a takeover) they

may, subject to certain conditions, compulsorily acquire the balance within 6 months.

Acquisitions exempt from the s 606 prohibition

There are basically two paths by which shares can be acquired beyond the threshold:

(i) exempt acquisitions that involve of the permitted means of acquisition; and (ii) other exempt

acquisitions.

S 611 – Exceptions to the acquisition

Permitted means of acquisition (takeover bid, market bid and off-market bid)

Creeping takeover (if a person hold 19% of the company’s share for a continuous period of 6

months or more they may acquire 3% each 6 months thereafter)

An acquisition under a will or by operations of law

An acquisition that results from an issue under a disclosure document in relation to an initial public

offering (a company is floated onto the stock exchange and offers its shares to the public for the

first time)

Permitted means of acquisition

Together with acquisitions that are exempt because of their nature (such as under a will) s 611 sets

out the means by which a bidder may proceed with a takeover even though the bid seeks to acquire

an interest above the threshold limit of 20% in s 606 and would therefore be otherwise in breach of

that section. The permitted means are:

Off-market bid

Procedure outlined in s 632 and s 633

The target company can be listed or unlisted

The bid can be a full bid or a partial bid

The bid can be conditional (subject to some restrictions)

The consideration can be proportional by way of cash and/or share

Market bid

Procedure outlined in s 634 and s 635

The target must be listed

The bid must be a full bid

The bid must be unconditional

The consideration can only be cash

In both forms of permitted means of acquisition, the Corporations Act requires preparation of

documentation aimed at providing sufficient information for both of the target and the bidder.

Bidder’s statement – content requirements in s 636

The identity of the bidder

Terms of bid

Details of bidder’s intention

- In relation to the continuation of the business of the target

- Any major changes to be made to the business

- Plans for the future employment of the present employees of the target

Various reports included in bidder’s statement from experts or others must be accompanied by a

statement indicating the persons consent to the use of the information

Lodged with ASIC, however, ASIC has no responsibilities for its content

Target’s statement – content requirements in s 638

Informs its own shareholders

Details of target’s statement

- Directors recommendation

- must include all information that shareholders and its advisers would reasonably require to

make an informed assessment whether to accept the offer under the bid.

- Directors of a target company who do not make a recommendation in the target’s statement

must give reasons as to why a recommendation is not made.

S 640 requires that an expert’s report accompany the target’s statement if:

The bidder is connected with the target; or

The bidder is already entitled to not less than 30% of the shares

The expert must report on whether the takeover is fair and reasonable

S 670A

This section specifically focuses on takeover situations and prohibits misleading and deceptive

statements in takeover documentation.

S 670A imposes criminal and civil liability on certain people for false or misleading materials in

documents and statements in relation to takeover bids.

Those who may be exposed to the liability during takeover:

- Directors if they prefer their own interest

- Experts who provide reports containing material omissions

Insider Trading

S 1043A(1)(a)-(b), an “insider” is a person who possesses price sensitive information which is

information not generally available and if it were available, a reasonable person would expect it to

have a material effect on the price or value of financial products. Financial products are defined to

include securities.

The person:

Trades in the share – Trading offence

Procures someone else to trade in the share – Procuring offence

Gives the information to someone who will likely to trade in the share or procure someone

else to do so – Tipping offence

Prohibitions in s 1043A

According to S 1043A, an insider must not apply for, acquire or dispose of the relevant financial

products (or procure another person to do so) or enter an agreement to that effect. That is, the

insider cannot trade or tip in relation to the securities and cannot induce or encourage (s 1042F)

others to do so.

For a breach of the prohibited conduct in s 1043A is an offence under s 1311. Civil penalty

provisions apply to breaches of the insider trading provisions and note Schedule 3 (2000 penalty

units and/or 5 years imprisonment)

S 1042A sets out the meaning of inside information.

S 1042A includes (in the definition of ‘information’) matters of supposition and other matters that

are sufficiently definite to warrant being made known to the public, and matters relating to the

intentions or likely intentions of a person.

Defence to insider trading

In s 1042C information is described as generally available if it consists of readily observable matter

or it has been made known in a manner that would likely be brought to the attention of people who

commonly invest in financial products of a kind that might be affected by the information; since it

was made known, a reasonable period for it to be disseminated among such persons has gone by.

It is important to note that despite the use of the word “insider”, the s 1043A prohibitions do not

focus on whether the person has a connection with a company. The insider trading prohibitions

apply to anyone, whether they have a business or employment connection with a company or not.

The prohibitions focus on the possession of inside information.

R v Rivkin

Mr Rivkin was negotiating the sale of his property to Mr McGowan, the CEO of Impulse Airlines.

Qantas was about to purchase Impulse Airlines (thereby taking a competitor out of the market).

McGowan informed Rivkin about the confidential transaction and Rivkin arranged for his family

company to acquire Qantas shares. When the transaction became public knowledge Qantas shares

rose in value and Rivkin sold at a profit. He was convicted of insider trading, sentenced to 9 months

periodic detention and fined $30,000.

Insolvency & Restructuring

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.

(2) – A person who is not solvent is insolvent

If a company is in financial difficulty and its creditors seeking payment from the company, there are

several ways of dealing with the situation.

Where company restructure is possible

Scheme of arrangement

Voluntary administration

Receivership

Where no restructure is possible

Liquidation or winding up

Insolvency is commonly the reason why a company goes into restructuring or liquidation. However,

it is possible for a receivership, voluntary administration, schemes of arrangement or winding up to

take place even where a company is solvent.

Scheme of arrangement

Member’s scheme of arrangement

This scheme is one way of a company can be reorganised while it is still solvent.

“friendly takeover” – reorganisation of member’s right

- Share rights may be altered or classes of shares converted;

- Members may agree to a transfer of the company’s assets to another company, cancelling their

shares and then receiving shares in the other company;

-where a scheme involves the acquisition of shares and the acquirer has achieved 90% of the offered

shares a compulsory buy-out of the remaining shares is possible. Similarly the remaining

shareholders can force a bidder to buy them out (s 414). This restructure is not intended to avoid the

takeover provisions and operates with the same level of disclosure.

Example case is the acquisition of Coles Group Ltd by Westfarmers Ltd

Arrangements are made with shareholders, not creditors

Member’s schemes will continue to be an important tool in effecting the reorganisation or

reconstruction of a solvent company

Creditor’s scheme of arrangement

This scheme is used between the company and its creditors in an attempt to rescue a company in

financial difficulties.

Insolvent situation

Arrangements are made with creditors

This form of restructuring is not often chosen in situations of insolvency because it is slow to

complete and the need for the courts consideration of the scheme before it is finalised creates

uncertainty among creditors.

Complex procedural requirements:

- Lengthy documentation

- Separate meetings of various categories or “classes” of creditor

How a scheme may work

If such schemes are approved they will generally involve either a compromise (creditor accepts part

of debt and/or an instalment arrangement is adopted) or a moratorium (creditor waits for part or

all of debt).

If the scheme affects creditors, a 75% majority (by way of total debts) is required. If the scheme

affects members, the requirement is a majority in number (overall) and 75% of those votes cast at

the meeting (s 411(4)). The scheme must then be approved by the court (s 411(4)(b)).

Procedural requirements set out in ss 411 and 412

S 411(4)(b) – court approval is required to initiate a scheme and also for an order that is

made for a meeting of creditors or members convened

If the company is being wound up, the liquidator also may apply

A copy of the court order approving the scheme must be lodged with ASIC – s 411(10)

If a meeting is ordered by the court, the company must send an explanatory statement and

other relevant information to those entitled to attend – s 412

Voluntary Administration

Voluntary administration does not last for a long time (about a month). It is a means to quickly

assess the company’s position and then leave the decisions as to its future to the creditors.

This is the most popular restructuring mechanism due to the characteristics as follows:

Quick to implement (about a month)

Not subject to court intervention

The aim of VA is to give insolvent companies a chance of survival or , if it is not possible at

least to maximise the return to its creditors – s 435A

Who may appoint the administrator?

Chargees (secured creditors) – s 436C

Liquidators, or provisional liquidators – s 436B

The board of directors – s 436A

Qualification of administrator

A person appointed as an administrator must be a registered liquidator – s 448B

Requirements for registration as a liquidator – s 1282

Member of ICAA/CPA

Completion of a course in Corporations Law as part of an approved degree

ASIC must be satisfied that the applicant will properly perform the duties of a liquidator

Disqualification of administrator – s 532

A person cannot be appointed as an administrator where that person owes the company, or the

company owes that person, an amount exceeding $5,000;

Where the person is a director or employee of the company or;

Where the person is an auditor, or a partner or employee of an auditor, of the company

Liability of administrator

Administrators owe fiduciary duties to the company. They will also be subject to various statutory

duties, as pursuant to s 9 they are defined as officers of the company (e.g. ss 181, 182 and 183).

The administrators are also personally liable for certain categories of debts incurred during

the period commencing more than 5 business days after the appointment (s 443B).

Examples of the debts are services rendered to the company, goods brought or property

hired, leased or used by the company (s 443A).

Pursuant to s 443D the administrator has a right of indemnity from the company’s property

in relation to any liability under s 443A

Powers of the administrator

The administrator takes control of the company and has wide powers of investigation (s 438A). The

role of an administrator is set out in s 437A and includes exercising all of the functions that the

company or any of its officers could perform. The administrator will be the company’s agent for

the carrying out of its business (s 437B).

Limitation on administrator’s power is that administrator cannot destroy property rights that arose

before administration except where expressly authorised by state.

Effect on directors

During an administration, the company falls under the control of the administrator.

Directors may perform company functions only with the administrator’s written consent

approval – s 437C

Directors may enter the contracts or transactions pursuant to an order of the court – s 437D

Directors who breach these provisions may be order to pay compensation where the court is

satisfied that the company or another person has suffered loss or damage because of the act or

omission constituting the offence – s 437E

Effect of the administration

During the period of administration, there is a moratorium or “freeze” or “stay” (held up) on

creditors bringing court action, winding up proceedings and other claims: ss 440A – 440G

However, there are exceptions as follows:

In s 441A a substantial charge that enforces within ‘the decision period’ is not bound by the stay.

The ‘decision period’ is defined in s 9 and is the period beginning on the day when: notice of the

appointment of the administrator is given (if required) to a chargee under s 450A(3); or the day

administration begins, and ends on the 13th business day thereafter.

In s 441B a chargee that enforces prior to the appointment is not bound;

In s 442C a chargee with a charge over perishable property is not bound.

Obviously, the extent to which a company under administration has its funds depleted by chargees

exercising their rights under ss 441A, 441B, or 441C will affect the possibility of a successful

restructure. Creditors may reject a restructure if their return is insufficient.

Schedule of administration

First creditors’ meeting takes place within 8 business day after the commencement of

administration – s436E

The administrator convenes the meeting by giving written notice to the creditors and by publishing

the notice of the meeting in a national or relevant states’ newspaper at least 5 business days before

the meeting – s436E (3)

At this meeting the creditors:

Must decide whether to appoint a committee of creditors

If creditors committee is appointed, it has power to consult with the administrator and receive and

consider reports by the administrator – s436F

Replace the administrator and appoint someone else as administrator

Second creditors’ meeting is to be held within 5 business days before, or within 5 business days

after the end of the “convening Period” – s439A

The outcome of the meeting is a choice to be made from 3 options: Deed of Company

Arrangement, company wound up; or administration simply ends without either of these options

being chosen – s439C

Deed of company arrangement

The aim of saving the business of the company and preserving employment is achieved if the

creditors choose to enter a deed of company arrangement under s 439A. All creditors are bound by

the deed, however a secured creditor is not prohibited from enforcing or otherwise dealing with its

security, subject to certain matters set out in s 444D. The effect of s 444D is that a secured creditor

(chargee) will not be bound by the terms of a deed of company arrangement unless they have

either voted in favour of the deed at the second creditors meeting, or the court has made an order

restricting the realisation (enforcement) of their security.

s 444E – once a deed of arrangement is in place, and until it terminates, those bound by its terms

cannot make an application to wind up the company or continue an application commenced prior to

the deed, nor can they bring or continue proceedings or enforcement process against the company.

s 444G – a deed of company arrangement not only binds the company but also its officers and

members, and the deed’s administrator.

The benefit of the creditors entering a deed of company arrangement is primarily that a

restructure of the company, by providing the opportunity for it to trade out of its financial

difficulties, is more likely to maximise a return in relation to their debt. Certainly this is a reason that

a voluntary administration would propose a deed of company arrangement.

Receivership

Two main ways receivers are appointed:

By court

S 1323 – the grounds of appointment where an investigation is being carried out by ASIC as

concerns a breach of the Corporations Act.

S 233 – where a shareholder succeeds in an action for oppression (s 232)

By secured creditors

Most receivers are appointed privately (rather than by the court) by secured creditors who wish to

enforce their security.

s 418 – a person appointed as a receiver must be a registered liquidator

A receiver is an agent of the company and will owe a duty to the company to act in good faith as

included in the definition of an ‘officer’ in s 9.

The board of directors remain in place but certain directors’ powers are superseded or modified.

Powers such as those relating to financial reports are not affected.

The appointment of a privately appointed receiver does not alter the legal personality of the

company.

Powers of receivers

s 420

Enter into possession and take control of the company’s property;

Carry on the business of the company;

Execute documents or to bring proceedings; and

Engage or discharge employees

Further powers are outlined in s 429, s 430 and in s 431 which sets out the power to inspect the

books of the company relevant to the property that forms the subject of the receivership.

Duties of receivers

General law or Statutory law

Owes duties to the secure creditors by whom the receiver was appointed

When appointed by the court a receiver takes on a fiduciary relationship with the company

Receiver is an officer for the company provisions

s 420 – the receiver is under a duty of care to sell company property at market value or otherwise at

the best price that is reasonably obtainable having regard to the circumstances existing when the

property is sold. This is to avoid the practices of receivers who ignore the company’s interests and

focus on their appointers’ (chargees’) interests only.

Liquidation

Where restructuring is not successful, or not attempted, a company has a final mechanism that

enables to deal with its financial difficulty. This is liquidation. Once a company is in liquidation

(wound up) it ceases to exist as it did before and comes under the control of the liquidator whose

job it is to finalise any outstanding matters, identify assets and accumulate and convert them so that

creditors receive a proportionate return on the amount they are owed. There are two main types of

winding up which are voluntary winding up by the members or creditors, or compulsory winding

up by the court.

Voluntary winding up

There are two types of voluntary winding up:

Members voluntary

Provided the company passes a special resolution (75%) – s 491

The directors make a written declaration of solvency that the company will be able to pay

its debts in full within 12 months after the commencement of winding up – s 494

The company will go into voluntary liquidation and a liquidator will be appointed by

ordinary resolution. The powers of the directors will cease and the liquidator will take the

control of the company – s 495

The company files a copy of resolution to ASIC within 7 days and within 21 days published

causes of notice of passing of resolution in Government Gazette – s 491

Creditors voluntary

If the company is not solvent (it is insolvent) then the voluntary winding up can still proceed with the

approval of the creditors. An example of this is where at the second meeting of creditors under a

voluntary administration the creditors vote to wind up the company (s 459A).

Compulsory winding up

In s 459A, and pursuant to an application under s 459P, the court may order that an insolvent

company be wound up.

S 95A sets out that a person is solvent if they can pay all of their debts as and when they become

due and payable. Accordingly insolvency is when this cannot happen.

An application under s 459A that a company be wound up in insolvency can be made by several

parties including the company, a creditor, a member, a director, or ASIC.

Application by ASIC

The leave of the court must be sought. Pursuant to s 459P(3) leave will be given where the court is

satisfied that there is a prima facie case that the company is insolvent.

Application by creditors

Where a creditor seeks to wind up a company under s 459A based upon service of a statutory

demand (s 459E) there are three main elements of which a court must be satisfied.

The applicant for the order must prove:

1. Insolvency

2. The amount outstanding exceeds the statutory minimum ($2,000 or other prescribed

amount)

3. The court has jurisdiction (that is, the company is one to which the Corporations Act

applies)

A company is insolvent if it can’t pay its debts as they become due and payable. A creditor can rely

on certain presumptions in s 459C to establish insolvency. These include that a receiver has been

appointed under a floating charge, or that execution of process has been returned unsatisfied (this

means that a sheriffs officer has not been able to collect a judgement debt).

Statutory demand – s 459E

The most common presumption of insolvency is the company failed to comply with a statutory

demand (s 459C(2)(a)). This sets out that the court must presume that the company is insolvent if,

during or after the three months ending on the day when the application for winding up was made,

the company failed to comply with a statutory demand. Accordingly for a creditor to be able to

establish insolvency as the result of non-compliance with a statutory demand, the non-compliance

must have occurred within the three months before the application to wind up was

filed/commenced, or after that date.

Key elements of statutory demand

A statutory demand must be a written document (s 459E(2)(d)) prepared by creditor which sets out

the details of the debt and that if the debt is not satisfied with 21 days of service of the demand

then the company is presumed insolvent pursuant to s 459C.

It must relate to a debt which is due and payable, and the amount of the debt is at least the

‘statutory minimum’.

service of the demand is by pre-paid post to the registered office of the company as set out in the

ASIC records.

Unless the debt referred to in the statutory demand is a judgement debt, the demand must be

accompanied by an affidavit verifying that the amount claimed is due and payable (s 459E(3)).

Defence of a company against a statutory demand

A company that has an offsetting claim in relation to the debt and for some other reason disputes

the statutory demand has 21 days from service of the demand to apply to the court to set it aside

(s 459G).

The two main grounds on which the court may set aside a demand are:

That it contains a major defect: s 459J(1)

There is a genuine dispute about the existence or amount of debt: s 459J and s 459H

In Graywinter Properties Pty Ltd v Gas Fuel Corp Superannuation Fund case, it was established that

a mere assertion of a genuine dispute, or a bare claim that the debt was disputed, were both

insufficient for the purposes of s 459G

Compulsory winding up by the court on ground other than insolvency – s 461

Oppression of the minority

The company has no members

ASIC reports that the company should be wound up

The court is of the opinion that the company should be wound up

The company fails to commence business or cease operations for a year or more

The company passes a special resolution to compulsorily wind up

Liquidator duties – Distribution of funds

The liquidator’s role involves identification, collection and distribution of the company’s assets.

The liquidator may need to examine the directors of the company or other relevant parties to assist

in the identification of assets. The liquidator will also meet with the creditors and keep them

informed of the progress of the liquidation.

Following the processes of collection, the liquidator will be in a position to distribute funds.

First, to secured creditors. Before any distribution under the priorities in the Corporations Act

occurs, the secured creditors are entitled to enforce their security.

After the secured creditors have enforced their claims the remainder of the funds are distributed

pursuant to the priorities in s 556 . The order of priority includes:

The cost of preserving the company’s business and realising its property,

The costs of the winding up (including solicitors costs);

Other costs necessary to winding up such as those of administration or liquidator;

Wages (employee directors are subject to a limit in the amount claimed);

Compensation for injury;

Holiday or sick pay entitlements (directors subject to a limit);

Retrenchment; and

Non-priority creditors ranked equally pursuant to s 555

The principle of equality of distribution set out in s 555 is referred to as the pari passu rule and

reflects that the basis of the process of liquidation is designed to benefit the creditors generally.

Liquidators’ power to recoup funds

Liquidator is able to claim compensation from any director who has breached their duties and

target directors personally where there is insolvent trading (s 588G)

In Paul A Davies (Aust) Pty Ltd v Davies, the company had been placed into liquidation. The

liquidator targeted a director for breach of fiduciary duty and succeeded in recouping the total

benefit gained by the director as a result of the breach.

Liquidator is able to “claw back” via court proceedings, under the “voidable transactions”

Provisions

Voidable Transactions

Voidable transaction is a transaction entered into by a company in the period leading up to its

winding up.

There are two major criteria that must be addressed before the liquidator can succeed in calling in,

or collecting, assets pursuant to the voidable transactions provisions.

1. The issue of the company’s insolvency at the time of the transaction

2. When the transaction took place

The liquidator can look for past transactions over varying periods depending on the type of

transaction. The period that can be examined is called the relation-back-day period.

Start of relation-back-day (RBD):

Compulsory liquidation

The day on which the application for the order was filed

Voluntary liquidation

The day the special resolution to wind up the company was passed

Company in voluntary administration

The day of commencement of the administration

The orders that can be sought by the liquidator are set out in s 588FF and include:

An order directing a person to pay to the company an amount equal to some or all of the money

that the company has paid under the transaction

An order directing a person to transfer to the company property that the company has transferred

under the transaction

An order “undoing” the transaction

Defences to voidable transaction

S 588FG sets out that transactions are not voidable as against certain persons in a number of

circumstances.

The court is not permitted to make an order which materially prejudices the person’s right or

interest if the person receives no benefit because of the preference transaction or if he or she did

receive a benefit:

It was in good faith

When received the person had no reasonable grounds for suspecting that the company was

insolvent or would become insolvent

A reasonable person in the person’s circumstances would not have had such grounds for

suspecting the insolvency of the company

Insolvent Trading –s 588G

If a company is insolvent, directors should not compound (multiply) the situation by incurring debt.

In fact, s 588G makes directors personally liable in such a situation. Insolvent trading by directors

(s 588G) allows the liquidator, pursuant to s 588M, to claim the amount outstanding from the

directors. Accordingly what was originally a company debt becomes the personal responsibility of

the director.

S 588G is also a civil penalty section allowing ASIC to pursue actions against directors. Civil penalty

orders and compensation can be sought.

The purpose of the liquidator using s 588G is to recoup funds to meet amounts owing to creditors

by the company

There is a breach of s 588G if a company incurs a debt and at the time (or by the incurring of the

debt) a director is aware of insolvency or there are reasonable grounds for a person in the

director’s circumstances to suspect that the company is (or would become) insolvent.

A breach of s 588G enables the liquidator to sue the directors for compensation.

S 588G is also a civil penalty section. Accordingly, breach may result in a director being subject to a

pecuniary penalty of up to $200,000 (s 1317G), an order to pay compensation to the company

(s 1317H) and disqualification from managing a corporation (s 206C).

Elliott v ASIC

The facts of the matter involved two companies, Water wheel Holdings Limited and Water Wheels

Mills Pty Ltd that were placed into voluntary administration by their directors. ASIC brought

proceedings under s 588G against three of the directors including Mr Elliott, a non executive

director. The Court considered that although Elliott had substantial business experience and should

have obtained the relevant financial information about the company from management, he failed to

do so and in fact ignored the company’s liquidity crisis.

The Court of Appeal held that it was not necessary in proving a breach of s 588G(2) that ASIC

establish that the director (Elliott) was under a duty to take any particular step which would have

prevented the company incurring the debt. In essence a failure by a director to prevent a company

from incurring a debt is a failure by that director to take all reasonable steps within his power to

prevent such debt. As a result of the finding that he breached the insolvent trading provisions Elliott

was fined, ordered to pay compensation to the companies and disqualified from managing a

corporation.

Defences to an insolvent trading action – s 588H

S 588H(2) provides a defence where the director had reasonable grounds to expect solvency and did

expect that when the debt was incurred the company was solvent and would remain solvent.

In ASIC v Plymin, the Court rejected a defence based on s 588H(2) advance by Mr Elliott, a director,

on the grounds that he failed to obtain from those managing the company essential matters

including a list of the amounts owing to creditors and regular profit and loss and cash-flow

statements.

S 588H(3) provides for a defence where there is reliance on reasonable grounds that a competent

and reliable person, who was responsible for providing information regarding the company’s

solvency, indicated that the company was solvent.

S 588H(4) provides a defence where illness results in not taking part in the management of the

company.

S 588H(5) provides a defence if the director took reasonable steps to prevent the company incurring

a debt.