Duties of directors
and
officers
Corporate Law: Law principles and practice
The director’s and the board’s duty of care
The duty of reasonable care and skill—a duty to be reasonably
competent and proficient in carrying out their tasks—is owed
by the directors to the company and is relational in this sense,
given that they are:
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on the board of the company and paid a director’s fee if
they attend as a non-executive director
employed by the company as a full-time executive director
and attending the board meeting in that capacity
Directors have both contractual and tortious obligations
towards the company.
Corporate Law: Law principles and practice
Relevant statutory provisions
Section 179(1) of the Corporations Act 2001 (Cth) sets
out some of the most significant duties of directors,
secretaries, other officers and employees of corporations.
Other provisions of the Act, as well as other laws
(including the general law), impose other duties on these
parties.
Section 179(2) refers to the definition of ‘officers’ in s 9
and states that officers can be not only directors and
secretaries, but also other people who manage the
corporation or its property (such as receivers and
liquidators).
Corporate Law: Law principles and practice
Duties of directors and officers
Directors and officers have both common law and statutory
fiduciary duties
Directors owe fiduciary duties to the corporate entity itself
(e.g. the duties of skill and care).
A breach may result in a criminal offence involving a fine,
imprisonment, personal liability, disqualification from being a
director, or having to return funds to the company.
‘Fiduciary’ refers to trust and confidence. A fiduciary agrees to
act for, or on behalf of, or in the interests of, another person in
the exercise of a power or discretion that will affect the
interests of that other person in a legal or practical sense.
Hospital Products Ltd v United States Surgical Corporation
(1984) 156 CLR 41.
Corporate Law: Law principles and practice
Historical standards of diligence and care
Re City Equitable Fire Insurance Company Ltd (1925) Ch
407
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The degree of skill to be exercised by a director is not
an objective standard, but is gauged by reference to
the director’s particular knowledge and experience.
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The director need not give continuous attention to a
company’s affairs.
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Delegation by the directors to others is permissible, as
long as the circumstances are not suspicious.
Corporate Law: Law principles and practice
Duties of directors
Directors can no longer claim that they didn’t know about,
and consequently are not responsible for, company
activities.
Statewide Tobacco Services Ltd v Morley (1990) 8 ACLC
827
Corporate Law: Law principles and practice
The business judgement rule: s 180
(2) A director or other officer of a corporation who makes a
business judgment is taken to meet the requirements of
subsection (1), and their equivalent duties at common law
and in equity, in respect of the judgment if they:
(a) make the judgment in good faith for a proper
purpose; and
(b) do not have a material personal interest in the
subject matter of the judgment; and
(c) inform themselves about the subject matter of the
judgment to the extent they reasonably believe to be
appropriate; and
(d) rationally believe that the judgment is in the best
interests of the corporation.
Corporate Law: Law principles and practice
Duties of directors cont …
The bigger the company and the greater the amount the
directors are paid, the more is expected in terms
of skill and judgment compared to in a small company.
Corporate Law: Law principles and practice
The contemporary standard of care
ASIC v Healey: the ‘Centro litigation’
The directors and officers of this company did not
discover that the financial reports they signed off on were
seriously incorrect.
‘The directors failed to take all reasonable steps required
of them, and acted in the performance of their duties as
directors without exercising the degree of care and
diligence the law requires of them.’
Corporate Law: Law principles and practice
Considering the Centro decision
The Centro directors’ defence was that they were entitled
to rely on the advice of their specialist managers and of
their auditors, PricewaterhouseCoopers.
This did not excuse the directors for not finding the error
for themselves.
Corporate Law: Law principles and practice
Centro cont…
• Only one of the Centro directors had an accounting
qualification.
•
Should the directors (who were usually given board
papers about 450 pages long) have been focused on the
detail of the financial statements presented to them by
their management and auditors, or on matters of
economic substance?
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Should the directors have had sufficient knowledge of
accounting standards to be able to second-guess the
experts they were paying to ensure the accounts
conformed to the standards?
Corporate Law: Law principles and practice
Further statutory duties applying to directors
The following are covered in part 2D.1 of the
Corporations Act 2001 (Cth):
s 181 Good faith—civil obligations
Good faith—directors and other officers
(1) A director or other officer of a corporation must
exercise their powers and discharge their duties:
(a) in good faith in the best interests of the
corporation; and
(b) for a proper purpose.
Corporate Law: Law principles and practice
s 182 Use of position—civil obligations
Use of position—directors, other officers and employees
(1) A director, secretary, other officer or employee of a
corporation must not improperly use their position to:
(a) gain an advantage for themselves or someone
else; or
(b) cause detriment to the corporation.
Corporate Law: Law principles and practice
s 183 Use of information—civil obligations
Use of information—directors, other officers and
employees
(1) A person who obtains information because they are, or
have been, a director or other officer or employee of a
corporation must not improperly use the information to:
(a) gain an advantage for themselves or someone
else; or
(b) cause detriment to the corporation.
Australian Securities and Investments Commission v
Vizard [2005] FCA 1037
Corporate Law: Law principles and practice
Section 184 Good faith, use of position and use of
information—criminal offences
Good faith--directors and other officers
(1) A director or other officer of a corporation commits an
offence if they:
(a) are reckless; or
(b) are intentionally dishonest; and fail to exercise
their powers and discharge their duties:
(c) in good faith in the best interests of the
corporation; or
(d) for a proper purpose.
Corporate Law: Law principles and practice
S 184 Cont …
Use of position—directors, other officers and employees
(2) A director, other officer or employee of a
corporation commits an offence if they use their position
dishonestly:
(a) with the intention of directly or indirectly gaining
an advantage for themselves, or someone else, or
causing detriment to the corporation; or
(b) recklessly as to whether the use may result in
themselves or someone else directly or indirectly
gaining an advantage, or in causing detriment to
the corporation.
Corporate Law: Law principles and practice
S 184 Cont …
Use of information—directors, other officers and
employees
(3) A person who obtains information because they are, or
have been, a director or other officer or employee of a
corporation commits an offence if they use the
information dishonestly:
(a) with the intention of directly or indirectly gaining
an advantage for themselves, or someone else, or
causing detriment to the corporation; or
(b) recklessly as to whether the use may result in
themselves or someone else directly or indirectly
gaining an advantage, or in causing detriment
to the corporation.
Corporate Law: Law principles and practice
Parties within the company who have a fiduciary duty
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Chair–company
Director–company
CEO–company
Manager–company
All employees–company
Officers–company
Corporate Law: Law principles and practice
The company context
Directors owe their primary duty of allegiance to the
company (as a separate legal entity) and not to the
shareholders, creditors or fellow directors.
Percival v Wright (1902) Ch D 421
Courts, when dealing with director’s fiduciary duties,
have taken the following approach:
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They will not generally interfere with commercial
decisions taken by the directors.
They will concentrate on abuses of trust and
confidence and the manner in which directors have
exercised their discretionary powers.
Corporate Law: Law principles and practice
Duties on directors
The Common law imposes duties on directors, including:
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Directors cannot make secret profits out of their
position.
If directors were to make secret profits out of their
position, they hold such profits as constructive trustees
(the company being the beneficiary) and must account
to the company for them (that is, return them).
Information directors receive in relation to their
position is the company’s property.
Directors may, depending on the circumstances, have
to disclose information to the shareholders.
Corporate Law: Law principles and practice
Duties on directors cont …
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Directors cannot compete with the business during
their term of office.
After they depart the business, directors are bound to
comply with certain terms of departure including:
• a reasonable restraint of trade clause
• non-disclosure of trade secrets.
Corporate Law: Law principles and practice
Civil and criminal liability of directors
ASIC can prosecute under the Corporations Act 2001
(Cth), which specifies several areas of civil liability and
criminal liability.
The standard of proof for a civil matter is the balance of
probabilities; for a criminal matter, see s 184.
Kwok v Regina [2007] NSWCCA 281
Corporate Law: Law principles and practice
Other relevant provisions of the Act
Division 2 of the Corporations Act 2001 (Cth) provides:
s 191 Material personal interest—director’s duty to
disclose: a director needs to give notice to the company
of a ‘material personal interest’ when a conflict of
interest arises, unless excepted under s 191(2).
s 192 Director may give other directors standing notice
about an existing conflict. Directors can give a preemptive notice of a material conflict.
s 194 Voting and completion of transactions-directors of
proprietary companies: a director of a proprietary
company may vote once they have disclosed their
material personal interest.
Corporate Law: Law principles and practice
Other relevant provisions of the Act cont …
s 195 Restrictions on voting—directors of public
companies only: public company directors should not be
present or vote on matters in which they have a material
personal interest.
S 196 ASIC power to make declaration and class orders:
ASIC has the power to declare a material personal interest
in the case of a public company director.
Note:
• private companies—after disclosure of the interest, the
director can vote on the matter, as per s 194
• public companies—after disclosure of the interest the
director should not be present or vote on the matter,
as per s 195.
Corporate Law: Law principles and practice
The board and insolvency issues
The board must manage a company and use professional
delegates to ensure the company is solvent.
Companies must implement appropriate policies and
reporting systems to ensure the company is solvent.
The CFO reports to the directors on the company’s
finances.
A regular audit must be held which effectively and
independently verifies the finances.
Directors must sign off on the company financial reports
as true and fair view (Corporations Act 2001 (Cth)
ss 297, 308)
Corporate Law: Law principles and practice
Statutory provisions for solvency
Directors have a duty to prevent insolvent trading by the
company. Companies require sufficient funds to pay their
debts as and when they fall due (Corporations Act 2001
(Cth) s 588G).
The test applied to the directors is that of the ‘reasonable
person in a like position in a company in the company’s
circumstances’, as per s 588G(2).
Elliott v Australian Securities and Investments
Commission; Plymin v Australian Securities and
Investments Commission [2004] VSCA 54 (7 April 2004)
Corporate Law: Law principles and practice
Statutory provisions for solvency
Section 588G of the Corporations Act 2001 (Cth): the
director's duty to prevent insolvent trading by company.
(1) This section applies if:
(a) a person is a director of a company at the time
when the company incurs a debt; and
(b) the company is insolvent at that time, or becomes
insolvent by incurring that debt, or by incurring at
that time debts including that debt; and
(c) at that time, there are reasonable grounds for
suspecting that the company is insolvent, or would
so become insolvent, as the case may be; and
(d) that time is at or after the commencement of this
Act.
Corporate Law: Law principles and practice
Corporations Act 2001 (Cth) Section 588H defences
(1) This section has effect for the purposes of proceedings
for a contravention of subsection 588G(2) in relation to
the incurring of a debt (including proceedings under
section 588M in relation to the incurring of the debt).
(2) It is a defence if it is proved that, at the time when the
debt was incurred, the person had reasonable grounds to
expect, and did expect, that the company was solvent at
that time and would remain solvent even if it incurred that
debt and any other debts that it incurred at that time.
Corporate Law: Law principles and practice
s 588H cont …
(3) Without limiting the generality of subsection (2), it is a
defence if it is proved that, at the time when the debt was
incurred, the person:
(a) had reasonable grounds to believe, and did believe:
(i) that a competent and reliable person (the other
person) was responsible for providing to the firstmentioned person adequate information about
whether the company was solvent; and
(ii) that the other person was fulfilling that
responsibility; and
(b) expected, on the basis of information provided to the
first-mentioned person by the other person, that the
company was solvent at that time and would remain
solvent even if it incurred that debt and any other
debts that it incurred at that time.
Corporate Law: Law principles and practice
s 588H cont …
(4) If the person was a director of the company at the time
when the debt was incurred, it is a defence if it is proved that,
because of illness or for some other good reason, he or she did
not take part at that time in the management of the company.
(5) It is a defence if it is proved that the person took all
reasonable steps to prevent the company from incurring the
debt.
(6) In determining whether a defence under subsection (5) has
been proved, the matters to which regard is to be had include,
but are not limited to:
(a) any action the person took with a view to appointing an
administrator of the company; and
(b) when that action was taken; and
(c) the results of that action.