In our previous Focus Paper, we reported on a NSW Supreme Court decision1 which provided further guidance on the law of shadow directorship.
The NSW Court of Appeal has now upheld the initial decision,2 and further articulated some of the principles applicable to determining whether a person is a shadow director of a company.
Background
The facts are set out in more detail in our earlier FocusPaper, but in broad terms, it was alleged that, during a period in which Buzzle was insolvent, Apple had been a shadow director of Buzzle.
That allegation was based on:
- demands that Apple made of Buzzle as conditions for Apple granting consent to a critical transaction for Buzzle;
- the degree of influence that those demands were said to have had over Buzzle's appointed directors; and
- Apple's close participation in discussions relating to the transaction.
Buzzle's directors felt that they had "absolutely no choice but to agree to [Apple's] terms".
Under the Corporations Act, a person will be a "shadow director" of a company if the directors of the company are "accustomed to act in accordance with the person's instructions or wishes".3
On the facts, the trial judge found that Apple had not been a shadow director of Buzzle.
Court of Appeal decision
The NSW Court of Appeal upheld the trial judge's findings on this issue. In doing so, it summarised some key principles of the law of shadow directorship, which we paraphrase below:
- Even if a company's board generally heeds a person's advice, that of itself is not sufficient to make the person a shadow director of the company.
- If a person has a genuine interest of his/her/its own in giving advice to the board (eg. a bank or mortgagee), the mere fact that the board will tend to take that advice to preserve it from the person enforcing rights against the company, will not make the bank, mortgagee, etc a shadow director.
- The vital factor is that the alleged shadow director has the potentiality to control. The fact that he or she does not seek to control every facet of the company or the fact that from time to time the board disregards the person's advice is of little relevance.
- However, something more than just being in a position of control must be shown. The question is whether that power to control was put into practice.
- It becomes more complicated where the board of the company splits into a majority and minority faction, but as long as the person's influence controls the governing majority of the board, the person may be a shadow director.
The Court explained that for a board to be "accustomed to act in accordance with" a person's instructions or wishes - and for the person therefore to be a shadow director - there must be a causal connection between the instructions/wishes and the board's decision: it must be shown that the board is treating those instructions or wishes "as themselves being a sufficient reason so to act, rather than making their own decisions in which those instructions or wishes are merely taken into account as one factor.. bearing on what is in the best interests of the company".
In other words, if the directors have made a decision that it is in the best interests of the company to act in accordance with a person's instructions or wishes, then the directors have made the decision, not the person whose instructions or wishes are followed.
As before, we believe this is a welcome decision. It provides comfort that robust commercial dealings, including for example the threatened exercise of security or other rights, or the imposition of conditions to the giving of a consent, are not of themselves sufficient to trigger a shadow directorship.
Footnotes
[1] Buzzle Operations Pty Ltd (In Liq) v Apple Computer Australia Pty Ltd [2010] NSWSC 233
[2] Buzzle Operations Pty Ltd (In Liq) v Apple Computer Australia Pty Ltd [2011] NSWCA 109
[3] Section 9, Corporations Act 2001 (Cth)
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.