- This case demonstrates the risks to financiers and the need to carefully consider directors' duties issues at any time security is taken from a company in a corporate group where that company does not directly receive the financial accommodation secured.
The judgment in The Bell Group Ltd (in liq) v Westpac Banking Corporation [No 9]  WASC 239, which was handed down on 28 October 2008, is over 2,600 pages long. Of all the issues considered in that case, we will focus on two particularly interesting ones:
- did the directors of the Bell Group companies breach their duties in granting security to the financiers of certain companies in that group?
- If so, were the financiers receiving the benefit of those securities involved in that breach of duty and what are the consequences for those financiers?
Without providing too much detail, the essential facts relevant to these issues are as follows. Financing had been provided by two different groups of financiers to certain companies in the Bell Group. One of the financings was structured as a series of bilateral loans on similar terms and the second was a syndicated loan. At the time the financings were initially put in place, all financiers were unsecured.
The Bell Group then encountered financial difficulties. The financings were restructured and, amongst other matters, certain Bell Group companies who were not party to the original financing arrangements provided security over all of their assets in favour of the financiers. Approximately one year after the restructuring occurred, most companies in the Bell Group were placed into insolvency administration of some form or another.
This case was commenced by the liquidator of the Bell Group companies, over 13 years ago, to recover for the benefit of unsecured creditors the money received by the financiers from enforcement of the security. The case was heard over 404 court sitting days and is rumoured to have cost the parties more than $300 million to run.
Nature of directors' fiduciary duties
The Court held that, in granting security in these circumstances, there had been a breach of directors' duties. The duties that were breached were the duty to act in good faith in the best interests of the company and the duty to act for a proper purpose.
Justice Owen, in considering who the duties of a director are owed to, took the view that these are owed to the company itself, not simply the then existing shareholders. Justice Owen also held that directors' may, in discharging their duties, be required to take into account the interests of the creditors of the company. His Honour's view (in obiter) was that creditors' interests would need to be considered at a point in time prior to the point at which the relevant company was insolvent.
In considering a director's duties to act in good faith in the best interests of a company and for a proper purpose, Justice Owen found that this needs to be considered subjectively. In other words it was necessary for the Court to look at the state of mind of the directors, not impose an objective analysis.
The final general issue that Justice Owen considered was whether, in discharging their duty to act in good faith in the best interests of the relevant company, the directors of a group company could legitimately take into consideration the interests of that group or were confined to considering only the interests of the company in question. Justice Owen held that the directors would need to balance the interests of the specific company in question and the interests of the group.
Was there a breach of those duties?
In light of this analysis of the duties of a director, had the directors of the relevant company breached those duties? Yes, the directors had.
On the facts, the companies that had provided security over their assets were insolvent at the relevant time (and although the directors were not aware of the actual insolvency, the directors were aware of the prospect of insolvency). The interests of each specific company therefore at that time included the interests of the other unsecured creditors of the company. The directors had not taken into account those separate interests at all, but had considered only the interests of the Bell Group as a whole. Prior to the transaction, the obligations to the financiers had been limited to specific companies in the group. Following the transaction, all companies granting security owed obligations directly to the financiers. The transaction was, of course, also prejudicial to the interests of other unsecured creditors of each individual company as the financiers would have preferential rights to the assets of the companies under the security arrangement. In short, the companies had incurred liabilities under the transaction without a realistic likelihood of obtaining any benefit.
Certain directors breached their duty to act for a proper purpose by entering the transaction for the purpose of reducing the likelihood of Bond Corporation Holdings Limited being placed into insolvency administration.
Lawyers tend to place great value on the directors' meeting minutes reciting why a company has entered into a particular transaction and often require the minutes to set out the views of the directors in relation to the transaction under consideration. Interestingly, Justice Owen essentially dismissed a consideration of the minutes of the relevant companies here as he did not consider that those documents accurately recorded what had in fact occurred.
What was the liability of the financiers?
The Court considered whether the financiers could be liable in respect of receipt of the benefit of the securities under the rule in Barnes v Addy. Essentially this rule provides that a person may have a liability in equity if:
- at the time of receipt of trust property that person knows of the existence of the relevant fiduciary duty and that the property has been transferred in breach of that fiduciary duty (this is the first limb in Barnes v Addy); or
- that person knowingly assisted in a dishonest and fraudulent breach of fiduciary duty, which is the second limb in Barnes v Addy.
The first issue that Justice Owen was required to consider was whether the rule in Barnes v Addy applied in the case of a breach of a director's fiduciary duty where a security interest is granted over the assets of the company. He held that it did. In other words, a director should be considered to be in the same position as a trustee and the rule should be applied on the basis that a company's assets are trust assets.
On that basis, Justice Owen went on to consider whether the facts supported a claim based on either limb. On the facts, the second limb was not made out as the liquidator had not sought to establish that the directors had in fact acted dishonestly and fraudulently.
However, a breach of the first limb was established because the financiers did have a sufficient level of knowledge of the breach.
Although, for other reasons not explored in this discussion, the financiers may not be required to disgorge to the liquidator the proceeds that they received from enforcement of the securities granted in breach of the relevant directors' fiduciary duties, this case demonstrates the risks to financiers and the need to carefully consider directors' duties issues at any time security is taken from a company in a corporate group.
It is important to bear in mind that the Court considered the law as it was at the time the conduct in question took place. Therefore this case does not consider the current Corporations Act provisions, for example, section 181 (directors' duties) and section 79 (which expands the category of persons who may be "involved in" a contravention of the Corporations Act), though the case does provide useful indications of how those provisions would be interpreted.
As this is a first instance decision, and the judgment did not involve making orders against any of the parties to the litigation, this decision is unlikely to be the final word on this case.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.