Breach of Directors Duties in Australia

SL
Stonegate Legal

Contributor

At Stonegate Legal our lawyers assist, advise, and help people, businesses and companies with all civil & commercial litigation, debt disputes, and insolvency matters throughout Queensland. Commercial Litigation – we help people, businesses, companies, and partnerships who are involved in commercial disputes, we act for both plaintiffs and defendants in commercial Court proceedings. Civil Litigation – we act for people involved in all civil litigation matters, including property damage, defamation; negligence; insurance disputes; estate litigation, nuisance & trespass, and administrative reviews / appeals. Debt Disputes – we help people who are involved in a debt dispute. We act for creditor plaintiffs seeking to recover a debt, and we act for debtor defendants seeking to dispute an alleged debt owed by them. Insolvency – we help people and companies facing insolvency against bankruptcy trustees and liquidators. We also act for insolvency practitioners against people and companies facing insolvency.
Discusses responsibilities and duties of directors and consequences that will occur if they are breached.
Australia Corporate/Commercial Law
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Article Summary

A director of a company has a number of duties and obligations. These include:

  1. Duty of care and diligence.
  2. Duty of good faith and the interest of the company.
  3. Duty to disclose all material personal interests to the company.
  4. Duty to maintain proper books and records.
  5. Duty to not improperly use information.
  6. Duty to not improperly use position.
  7. Duty to prevent insolvent trading.
  8. Duties at common law and in equity.

If a director breaches these duties, then the consequences can include:

  1. Personal liability.
  2. Commercial consequences.
  3. Criminal consequences.
  4. Disqualification from being a director.

A breach of director's duties may mean that the director is personally liable for payment of civil penalties, compensation to all affected third-parties, repayment of company debts & financial losses, and payment of the company tax obligations.

This article will explain in more detail.

A breach of directors duties can have very serious consequences. If you are the director of a company in Australia that is just starting off and are looking for some information about your duties, or you are an existing director with years of experience that just needs a little refresh, this this article will help.

The duties of directors of a company in Australia is important to understand, as you must fulfill your responsibilities as a director effectively. The role of a director is one of importance and responsibility.

As a director, you have elected to manage the business and affairs of the company you work for, which puts you in a position of power. As you have likely heard before in a superhero movie, with power comes responsibility! This responsibility comes in the form of several duties that you will have to fulfill to ensure that you are acting in the best interests of the company.

In this article, our company disputes lawyers discuss the responsibilities and duties held by directors to care for the business they direct and the consequences that will occur if they are breached.

What are the Duties of a Director?

A director of a company has a number of duties and obligations. These include:

  1. Duty of care and diligence (180 of the Corporations Act).
  2. Duty of good faith and the interest of the company (181 of the Corporations Act).
  3. Duty to not improperly use position (182 of the Corporations Act).
  4. Duty to not improperly use information (183 of the Corporations Act).
  5. Duty to prevent insolvent trading (588G of the Corporations Act).
  6. Duty to disclose all material personal interests to the company (191 of the Corporations Act).
  7. Duty to maintain proper books and records (286 of the Corporations Act).
  8. Duties at common law and in equity.

In ASIC v Adler and Ors [2002] NSWSC 171, Santow J provided a very succinct summary of the duties of a director of a company in Australia at [8]:

The director/officer liability provisions of the Corporations Act said to have been breached can be broadly summarised as follows. Section 180 requires the director or officer to exercise the degree of care and diligence that a reasonable person would exercise in the corporation's circumstances, with a "safe harbour" for those who satisfy the "business judgment" rule. Section 181 requires the director or officer to act in good faith in the best interests of the corporation and for a proper purpose. Section 182 prohibits a director or officer from acting improperly so as to use his position to gain an advantage for themselves or for someone else, or to cause detriment to the corporation. Section 183 precludes a person who obtains information because he is a director, from improperly using that information to gain an advantage for himself or for someone else, or to cause detriment to the corporation.

These are some of the main duties of a director. We will explain these in more detail below.

Duty of Care and Diligence

Directors have the duty to act with care and diligence regarding decisions and behaviours on behalf the company.

Section 180(1) of the Corporations Act 2001 (Cth) ("the Corporations Act") says:

(1) A director or other officer of a corporation must exercise their powers and discharge their duties with the degree of care and diligence that a reasonable person would exercise if they:

(a) were a director or officer of a corporation in the corporation's circumstances; and

(b) occupied the office held by, and had the same responsibilities within the corporation as, the director or officer.

As directors have a lot of power of the future and wellbeing of the company that they direct, they must be sure to act with care and diligence regarding their company.

To satisfy this requirement of the Corporations Act, the director must:

  1. Gain a functional understanding of the fundamental aspects of the company's operations.
  2. Possess the ability to read and comprehend the company's financial accounts, regularly reviewing the financial statements to familiarise themselves with the company's financial status.
  3. Stay updated about the company's activities and evaluate whether the management's business practices are secure and appropriate.
  4. Supervise corporate affairs and policies; and
  5. Take reasonable steps to guide and oversee the company's management.

Company directors are not permitted to act carelessly, meaning act without proper thought or consideration for the wellbeing of the company. Directors should also be aware of the internal and external affairs regarding the company.

Company directors must act with the care and diligence that a reasonable person would exercise if they were also a director or had the same level of responsibility as a director. This includes not causing the company to be liable for oppression claims.

When considering the standard of care and diligence required of a director, it is not a one shoe fits all kind of scenario. Those with a rich history in their role as a director or in the company world will, naturally, have a better understanding of what is required of them in this sense. They will also have a better perception of what constitutes as care and diligence than someone entirely new to the role.

This is reflected by their duties, as the personal background and experience of the director will be considered when stating the standard of care and diligence required. This, of course, does not allow a director to be entirely careless or foolish, as there is a minimum standard that must be upheld.

Duty of Good Faith and the Interest of the Company

Another duty held by directors of any company is to act with good faith. Section 181(1) of the Corporations Act states:

(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.

To act in good faith is to act with honesty and sincerity, meaning without any ulterior motives other than to help the company and its growth or maintenance, or acting in a bona fide manner.

In Australian Securities and Investments Commission v Maxwell & Ors [2006] NSWSC 1052 citing Malcolm CJ in Chew v R, Brereton J provides a summary of the good faith duty at [106]:

In Chew v R (1991) 5 ACSR 473, Malcolm CJ (at 499) summarised the requirements of the duty to act in good faith as including that directors (1) must exercise their powers in the interests of the company, and must not misuse or abuse their power; (2) must avoid conflict between their personal interests and those of the company; (3) must not take advantage of their position to make secret profits; and (4) must not misappropriate the company's assets for themselves. The words "in the best interests of the corporation" emphasise the significance of the relevant constituencies - in particular, the shareholders as a whole, and the creditors in the case of impending insolvency. This duty is imposed not to secure compliance with the various requirements of the Corporations Act, but, as it was at general law, to prevent abuses of directors' powers for their own or collateral purposes.

As a director, you should always be upfront with your motivation to act as you are and should not have any intention to deceive others involved in your company for personal gain.

A decision made in good faith is simply one that is made when you genuinely believe that the action in question will result in some kind of benefit for the company.

As a director, you will have personal interests and things that you are looking for from your company. This is perfectly valid and to be expected from any person involved in a professional position, as this is likely where your key form of income comes from.

However, when you allow your personal interests to interfere with your company decisions, this is where the issue arises.

Shareholders and other people that have interest invested in the company should be considered in your decisions, and if your actions benefit solely, you or specific group of stakeholders and results in harm to other parties, your duty has been breached.

Furthermore, if your company faces insolvency, your duty of good faith extends to any creditors that your company owes money to and you must act in their best interests also.

Duty to Not Improperly Use Position

In a role as a director of a company, a director also has the duty to avoid improper use of the role. Section 182(1) of the Corporations Act says:

(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.

A director will be conferred certain powers and benefits as the director of a company.

In relation to the section 182 duty, it is enough to demonstrate the intention of the director to gain a personal advantage, without the need to prove that the advantage was actually obtained. In Chew v R [1992] HCA 18, the High Court said at [11]:

It is a corollary of the interpretation which we favour that the accrual of an advantage or the suffering of a detriment is not an element of the offence. Thus, an officer who makes improper use of his or her office in order to gain an advantage is guilty of an offence, even if his or her purpose be thwarted as, for example, by the grant of an injunction preventing execution of an instrument or implementation of a transaction.

A further example is if a director engages in a transaction where they or a party to whom they owe a fiduciary duty can receive a benefit, but fails to disclose their interest adequately, their actions may be considered to be improper. In R v Byrnes & Hopwood [1995] HCA 1 the High Court said at [30]:

But a director who takes part in a decision to enter into a transaction in which the director or a third party in whom the director has an interest or to whom the director owes a fiduciary duty stands to gain an advantage or benefit but who does not make an adequate disclosure of his interest acts improperly.

The determination of whether something is "improper" is based on an objective assessment and does not rely on a director's subjective awareness of wrongdoing. It refers to a violation of the expected standards of behaviour that reasonable individuals, who possess knowledge of the responsibilities, powers, and authority associated with the position, would anticipate from the alleged offender given the circumstances of the case. In R v Byrnes & Hopwood [1995] HCA 1 the High Court cited Grove v Flavel (1986) 43 SASR 410 with approval at [30] and said:

The word 'improper' is not a term of art. It is to be understood in its commercial context to refer to conduct which is inconsistent with the 'proper' discharge of the duties, obligations and responsibilities of the officer concerned . It seems to me, therefore, that what is 'improper' for the purposes of s.124(2) [now s182 of the Corporations Act] cannot be determined by reference to some common, uniform, or inflexible standard which applies equally to every person who is an officer, but rather must be determined by reference to the particular duties and responsibilities of the particular officer whose conduct is impugned.

As above, aside from a director's role to oversee the affairs of the company, a director will also have quite a significant sway over the employees, finances, and general decision making of the company. This is an important aspect of a director's role.

Without access to these powers, a director would not be able to effectively carry out their role. It is important, however, that a director does not use the position for anything other than to direct the company.

Using a director's position to have a financial advantage or make a profit is considered to be a breach of your directors' duties.

Duty to not Improperly use Information

Similar to section 182 of the Corporations Act, a director of a company must not use company information in order to obtain an advantage for themselves or another person, or cause harm or damage to the company. Section 183(1) of the Corporations Act says:

(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.

This duty continues after the person stops being an officer or employee of the corporation.

Similar to 182 which relates to improper use of the position, section 183 relates to the improper use of information. This information may not necessarily need to be confidential information. In CellOS Software Ltd v Huber [2018] FCA 2069

. it is to be noted that information does not need to be a company's confidential information. But it must be information that has been acquired because of the relevant person's position in the company.

In Del Casale & Ors. v. Artedomus (Aust) Pty. Limited [2007] NSWCA 172 Hodgson JA said at [60]:

In my opinion, use of the information in breach of an equitable obligation of confidentiality would be improper use of the information.

In Windbox Pty Ltd v Daguragu Aboriginal Land Trust & Ors (No 3) [2020] NTSC 21, Hiley J said at [403]:

As I have previously noted, "information" that may be covered by s 183(1) does not necessarily have to be "confidential information". However, in most cases the information would be "improperly use[d]" because it was confidential. Consistent with what Hodgson JA said at [60] of Del Casale "improper use" of information in the sense used in s 183 corresponds with the protection equity or the common law will afford to the use of certain information.

In SBA Music Pty Ltd v Hall (No 3) [2015] FCA 1079, Wigney J said at [28]:

Each of ss 182 and 183 of the Corporations Act effectively reflects a fiduciary obligation under the general law . It follows that if a breach of a general law fiduciary duty is made out, it is likely that there will also be a contravention of ss 182 and/or 183 of the Corporations Act.

In Lifeplan Australia Friendly Society Ltd v Woff [2016] FCA 248 Besanko J said:

The standards imposed by these statutory provisions (ss 182 and 183 of the Corporations Act) are therefore essentially the same as those imposed by the common law and equity.

Essentially, a contravention of section 183 would be improper if it gave the director an advantage at the detriment of the company, which is also a breach of the director's fiduciary duties.

Duty to Prevent Insolvent Trading

In the role as a director of a company, a director also has the duty to prevent the company from engaging in insolvent trading.

Section 588G(1) of the Corporations Act says:

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.

When a company is insolvent, it means that they are not making enough money to continue to pay off the debts that they have incurred when that debt becomes due and payable.

Insolvent trading occurs when a company continues to incur debt while in a position of insolvency already or becomes insolvent because of incurring debt.

For example, if a company cannot pay a debt so they take out a loan to pay off the debt in question, this may be considered to be insolvent trading.

In Australia, there are strict laws regarding insolvent trading and ensuring that it is prevented, as it can be very damaging to creditors who have investments in a company without the awareness that the company is in serious financial trouble.

Trading while insolvent can make the director personally liable for the debts if the company goes into liquidation.

Duty to Disclose all Material Personal Interests

Section 191(1) of the Corporations Act says:

(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 subsection (2) says otherwise.

A "Material Personal Interest" refers to a significant personal stake in a matter that could reasonably affect a director's decision-making or create an actual or perceived conflict of interest.

In McGellin v Mount King Mining NL (1998) 144 FLR 288, Murray J observed:

'Material' in this context, I think, means that the interest involves a relationship of some real substance to the matter under consideration or the contract or arrangement which is proposed. In that way the nature of the interest should be seen to have a capacity to influence the vote of the particular director upon the decision to be made, bearing in mind that both the article and the section are concerned with that aspect of a director's fiduciary duties which relates to the resolution of conflict of interest which must, of itself, be of a real or substantial kind. The interest with which both the article and the section are concerned should be of a kind as to give rise to a conflict of that character. If that test is met, it seems to me not to matter that the nature of the interest may be described as direct or indirect, or vested in interest or contingent. It is the substance of the interest, its nature and capacity to have an impact upon the ability of the director to discharge his or her fiduciary duty which will be important.

Therefore, if a director has an interest that:

  1. Is a conflict of interest of some real substance; and
  2. The interest is direct or indirect, vested in or contingent; and
  3. The interest may have the capacity to influence the vote of the director.

Then this interest should be provided on notice to all other directors of the company.

Failure to do so may be a breach of this section, and a breach of the director's fiduciary duty to the company.

Duty to Maintain Proper Books and Records

Section 286(1) of the Corporations Act says:

(1) A company . must keep written financial records that:

(a) correctly record and explain its transactions and financial position and performance; and

(b) would enable true and fair financial statements to be prepared and audited.

In Manning v Cory & Sumner [1974] WAR 60, Burt J said at [62]:

The evident policy . is that the accounts should disclose or exhibit the financial position of the company at all times and at any time. They must be such as to enable one to say at any point of time where, in a financial sense, the company is, and it is not enough that they be such as to enable a competent accountant by producing a set of accounts long after the happening of the events to which they, i.e. the cheque butts, receipts and so on relate, to say where it has been and to establish the fact that it is then insolvent and unable to carry on. The whole policy of the section is to prevent this from happening, that is to say to prevent its officers from flying the company blind and upon its crash, and without having any information capable of sustaining the opinion, from then saying that he thought that he had more altitude.

This does not mean a spreadsheet in Excel and a shoebox full of receipts and invoices.

Failure to maintain and keep proper books and records pursuant to section 286, means that there is presumption of insolvency pursuant to section 588E(4) of the Corporations Act, which says:

(4) Subject to subsections (5) to (7), if it is proved that the company:

(a) has failed to keep financial records in relation to a period as required by subsection 286(1); or

(b) has failed to retain financial records in relation to a period for the 7 years required by subsection 286(2);

the company is to be presumed to have been insolvent throughout the period.

The risk for the director of the company is personal liability for insolvent trading, or the cost of having to prove that the company was solvent, something the Courts have described as "an onerous task and likely to be an expensive process".

Common Law / Fiduciary Duties of Company Directors

There are also a number of very similar common law / fiduciary duties of company directors, including:

  1. A common law duty to avoid conflict of interest.
  2. A common law duty not to abuse the opportunities of the company.
  3. A common law duty not to act for an improper purpose.
  4. A common law duty of care and diligence.
  5. A common law duty to act in good faith in the interest of the company as a whole.
  6. A common law duty to not disclose confidential information.
  7. A common law duty to retain discretion.

Mostly these are contained in the Corporations Act, except the duty to avoid conflict of interest.

Avoid Conflict of Interest

As a director, you also have the duty to entirely avoid any scenarios in which there may be an actual conflict of interest, or a perceived conflict of interest.

When you are in your role as a director, it should be your primary concern. This means that anything you do while in this role should not jeopardise the wellbeing of the company for any reason other than error, which can still potentially violate a duty if you did not act in care or diligence!

As much as your role as a director should be a key concern of yours, it is not the only thing in your life and that is absolutely okay. However, if you are involved in a situation where another company endeavour, or anything else for that matter, may sway you to a conflict of interest, meaning that your personal interests clash with those of the company, then it is your personal responsibility to remove yourself from the situation, or disclose those interests.

If you do find this to be the case at some point in your career as a director, you must be sure to not sit in on meetings or, more importantly, cast any type of vote to make a decision regarding this interest.

What are the Consequences of Breaching Director's Duties?

There are a number of consequences for breaching directors duties, these include

  1. Personal liability.
  2. Commercial consequences.
  3. Criminal consequences.
  4. Disqualification from being a director.

We will explain these in more detail below.

Personal Liability

A breach of director's duties may mean that the director is personally liable for payment of civil penalties, compensation to all affected third-parties, repayment of company debts & financial losses, and payment of the company tax obligations.

Sections 180, 181, 182, 183, and 588G of the Corporations Act are civil penalty provisions. Once a declaration has been made by a Court, ASIC can seek a pecuniary penalty order pursuant to section 1317G of the Corporations Act.

Section 1317G(3) states:

(3) The pecuniary penalty applicable to the contravention of a civil penalty provision by an individual is the greater of:

(a) 5,000 penalty units; and

(b) if the Court can determine the benefit derived and detriment avoided because of the contravention-that amount multiplied by 3.

The cost of a penalty unit at the time of writing this is $275. This is calculated in accordance with the section 4AA of the Crimes Act 1914 (Cth). This means that the penalty is the greater amount of $1,375,000, and the benefit derived/detriment to the company - multiplied by 3.

Directors may also be personally liable for non-compliance by the corporation with a wide range of legislation, including customs and excise, environmental protection, equal opportunity, occupational health and safety, tax and superannuation, and trade practices (Australian Consumer Law).

In relation to tax and superannuation, a director may be liable to receive a director penalty notice, making them personally liable for company debt.

A director will be personally liable in he/she caused the company to trade while insolvent pursuant to section 588M of the Corporations Act.

If a director fails to fulfill their statutory duties or breaches their fiduciary duties, a person who has suffered harm or loss as a result of that breach can initiate legal action against the director in some circumstances.

Commercial Consequences

A company's reputation holds significant value, and when a director breaches their duty, it is likely to tarnish that reputation.

Consequently, the company will face heightened scrutiny from the public, including current and potential investors, as well as regulatory bodies such as ASIC.

Criminal Consequences

In severe instances where a director has significantly violated their duty to act in good faith or breached their obligations regarding the improper use of information, a director may be subject to criminal charges which may lead to imprisonment for a maximum of 15 years.

Criminal convictions for breaches of this nature typically involve dishonesty or recklessness, such as making false or misleading disclosures or engaging in deceitful behaviour as a director.

Disqualification from Being a Director

If a director breaches a civil penalty provision, and the Court is satisfied that the disqualification is justified, then the Court may disqualify a person from managing corporations for a period that the Court considers appropriate pursuant to section 206C of the Corporations Act.

ASIC can disqualify a person from managing corporations for up to 5 years in certain circumstances.

Who Can Sue a Director of a Company?

The following class of litigants can bring an action for breach of director's duties in different circumstances:

  1. A competitor or the ACCC (restrictive trade practices).
  2. A liquidator of the company once appointed.
  3. A third party for breach of fiduciary duties, negligence, etc.
  4. An employee of the company who has suffered loss and damage.
  5. Another director or shareholders of the company.
  6. Creditors of the company.
  7. The Australian Securities and Investments Commission (ASIC).

The company may also be sued. However, there are a few defences to a breach of director's duties.

Defences to a Breach of Director's Duties

There are a few defences to a breach of director's duties, including:

  1. The reasonable reliance defence.
  2. The business judgment rule.
  3. Statutory defences.

We will explain these in more detail below.

Reasonable Reliance Defence

Directors may rely on information, reports, or statements provided by professionals, such as lawyers, accountants, or experts, as long as they reasonably believe the information is accurate and reliable.

Business Judgment Rule

Directors may be protected if they can prove that their decisions were made with due care, diligence, and an honest belief that they were acting in the best interests of the company.

This rule acknowledges that directors may make mistakes or exercise judgment that, in hindsight, could be seen as imprudent.

Statutory Delegated Power

In certain situations, a director can rely on the fact that another person was responsible for making a particular decision or exercising judgment through the delegation of power.

Similarly, the director must demonstrate that they had a genuine belief, supported by reasonable grounds and in good faith, that the delegated person was reliable and competent to carry out the assigned responsibilities.

Breach of Director's Duties Key Takeaways

A director of a company has a number of duties and obligations. These include:

  1. Duty of care and diligence.
  2. Duty of good faith and the interest of the company.
  3. Duty to disclose all material personal interests to the company.
  4. Duty to maintain proper books and records.
  5. Duty to not improperly use information.
  6. Duty to not improperly use position.
  7. Duty to prevent insolvent trading.
  8. Duties at common law and in equity.

If a director breaches these duties, then the punishment can include:

  1. Personal liability.
  2. Commercial consequences.
  3. Criminal consequences.
  4. Disqualification from being a director.

A breach of director's duties may mean that the director is personally liable for payment of civil penalties, compensation to all affected third-parties, repayment of company debts & financial losses, and payment of the company tax obligations. The end result could mean bankruptcy!

Most importantly, it is vital that you seek qualified legal advice as soon as possible.

Directors Duties FAQ

We get asked a number of questions on a daily basis, and so the FAQ section of our article is where we address commonly asked questions regarding directors' duties.

What constitutes a breach of directors duties?

A breach of directors duties means a failure to:

  1. Act with due care and diligence.
  2. Act with good faith and the interest of the company.
  3. Disclose all material personal interests to the company.
  4. Maintain proper books and records.
  5. Properly use information.
  6. Properly use position.
  7. Prevent insolvent trading.
  8. Comply with fiduciary duties.

Who can bring a breach of directors duties claim?

The following class of litigants can bring an action for breach of director's duties in different circumstances:

  1. A competitor or the ACCC (restrictive trade practices).
  2. A liquidator of the company once appointed.
  3. A third party for breach of fiduciary duties, negligence, etc.
  4. An employee of the company who has suffered loss and damage.
  5. Another director or shareholders of the company.
  6. Creditors of the company.
  7. The Australian Securities and Investments Commission (ASIC).

What are the Defences to breaches of directors duties?

There are a few defences to a breach of director's duties, including:

  1. The reasonable reliance defence.
  2. The business judgment rule.
  3. Statutory defences.

Can directors be held personally liable?

Yes, a breach of director's duties may mean that the director is personally liable for payment of civil penalties, compensation to all affected third-parties, repayment of company debts & financial losses, and payment of the company tax obligations.

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.

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