Recent Prosecutions and Implications for Directors and Advisors

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1 Recent Prosecutions and Implications for Directors and Advisors Michael Bennett Barrister 13 Wentworth Selborne Chambers

2 Directors Duties Presented by Michael Bennett Barrister, 13 Wentworth Chambers Overview Regulators Approach Common law duties Equitable, fiduciary duties Statutory duties care & diligence 180(1) Good faith & for a proper purpose s181(1) Use of position s182 Use of Information s183 Avoid conflict s191 1

3 Regulators Approach During February 2012 both chairman of the ACCC (Rod Sims) and the ASIC (Greg Metcraft) announced in speeches made at separate presentations that their organisations would be taking a more proactive approach in the administration of their particular areas of responsibility After initial criticism, ASIC is boasting considerable success against company officers (Enforcement Report 281, March 2012) Care & Diligence s180(1) History of statutory duty of care and diligence is reviewed by Austin J in ASIC v Vines (2003) 49 ACSR 322 and in ASIC v Rich (2003) 44 ACSR 341 Common law versus statute: ASIC v Rich [2009] NSWSC 1229 at [7174] per Austin J Negligence or Mistake? Forward looking 2

4 Care & Diligence s 180(1) What circumstances are relevant?: ASIC v Rich [2009] NSWSC 1229 at [7196] per Austin J Size and nature of the business Listed or unlisted Constitution Board composition Distribution of work between the board and company s officers Core duties What are the minimum standards for a director?: ASIC v Rich [2009] NSWSC 1229 at [2497,7200, 7201] To keep informed To monitor To know financial status of industry To have a reasonable opinion of company s financial capacity Competence 3

5 Good faith & Best interests S181(1)Good faith, best interests, proper purpose S184 Criminal sanctions where reckless or dishonest Conflicts Directors must avoid conflicts of interest and duty S191 must disclose personal interest S182 must not use position to gain personal advantage S183 must not use information to gain personal advantage 4

6 Personal Liability Must not trade whilst insolvent s588g, 588H Disqualification 206A Failure to pay employment debts Ch 5, Pt 5.8A Failure to pay tax debts 588FGA Remedies Derivative Action Pt 2F.1A Injunction 1324(8) Damages 1324 (10) 5

7 ASIC v Fortescue Metals Group Ltd First instance ASIC v Fortescue Metals Group Ltd [No 5] [2009] FCA 1586 per Gilmour J Full Court ASIC v Fortescue Metals Group Ltd [No 5] [2011] FCAFC 19 per Keane CJ, Emmett & Finkelstein JJ High Court argued on 29 February, 1 & 30 March 2012: decision pending ASIC v Fortescue Metals Group Ltd FMG planned to export iron ore from the Pilbara FMG entered into framework agreement with Chinese building companies for construction of mine & railway at Port Hedland FMG notified ASX it had entered binding agreements The Chinese company sought equity in the project & when this did not occur, denied that the agreements were binding 6

8 The Proceedings ASIC sued Fortescue & its director Twiggy Forest for breach of continuous disclosure obligations under s674(2) (ie disclosure to ASX of material that may affect share price) and s674(2a) ancillary liability ASIC alleged that the agreements were not binding and this would influence investors ASIC alleged Forest had authorised the disclosures and breached s180(1) by exposing FMG to serious harm Key Findings "Allegations of dishonesty made by ASIC against directors, in legal proceedings, are self evidently serious. They carry considerable weight and will often, as in this case, attract wide media coverage. That they are made by the corporate regulator may injure the business of the particular company and will tend to adversely affect the reputations of those against whom the allegations are made For at least these reasons, it is important that allegations of dishonesty should be made only where there is a reasonable evidentiary basis for them. It is my opinion that on the totality of the evidence available to ASIC there was no such basis in this case"per Gilmour J 7

9 Key Findings Assertions by FMG as to the legal effect of the agreements were matters of opinion FMG s opinion as to the effect of the agreements was reasonably and honestly held FMG had obtained legal advice that the agreements were binding & this was recorded in the minutes The conduct of the parties was consistent with a binding agreement The information was not price sensitive The Full Court On appeal the Full Court of the Federal Court of Australia upheld ASIC s appeal The announcements and failure to subsequently correct them were misleading and deceptive in breach of section 1041H of the Act (which deals with misleading or deceptive conduct in relation to securities) Mr Forrest was found to have been personally involved in the breaches and thereby contravened section 180 of the Act 8

10 The Full Court The Full Court concluded that the announcements were statements of fact that went beyond the contents of the Framework Agreements It found that Mr Forrest had not taken any steps such as obtaining legal advice, to satisfy himself that the agreements were in fact binding The Court further held that the business judgment rule defence was unavailable because the decision related to compliance with continuous disclosure obligations, rather than a business judgment The case is currently on Appeal to the High Court: Forrest v ASIC & Anor P44/2011; Fortescue Metals Group Ltd v ASIC P45/2011 on the basis that the conduct did not contravene s1041h of the Corporations Act (misleading & deceptive conduct) because the maker of the statements had an honest and reasonable belief The High Court Decision is eagerly awaited On reading the transcript of argument there is a suggestion, from some judges questions, the court will discuss interpretation of both continuous disclosure regime and business judgment rule in s 180(2) 9

11 Practical Implications The case was decided on the specific facts Companies should obtain legal or other advice as to whether information may be price sensitive Directors and officers remain responsible for announcements ASIC v McDonald & Ors ( James Hardie ) First instance ASIC v Macdonald (No 11) [2009] NSWSC 287 per Gzell J (45 hearing days) On appeal Morley & Ors v ASIC [2010] NSWCA 331 per Spigelman CJ, Beazley & Giles JJA (9 hearing days) Further appeal ASIC v Hellicar & Ors [2012] HCA 17 & Shafron v ASIV [2012] HCA 18 (1 hearing day) 10

12 James Hardie James Hardie sought to quarantine its exposure for liability to asbestos victims by transferring the relevant subsidiaries to a separate trust (Medical Compensation & Research Fund) JH provided funding to the trust When it became apparent that the funding would be inadequate to meet all claims, JH was publicly criticised and ASIC commenced proceedings The Proceedings ASIC sued James Hardie companies & 10 directors and executives ASIC alleged statements about establishment and funding of Medical Research & Compensation Foundation to pay asbestos compensation claims in breach of Corporations Act Non executive directors alleged that they had not seen the announcements so could not have approved them (but this also deprived them of a s180(2) business judgment rule defence) 11

13 Key Findings Gzell J in found that the companies, directors and 2 executives had breached s180 by approving the statements Announcements to the ASX in 2001, press conferences and investor roadshows that the fund was fully funded ($284M) and provided certainty for claimants and statements made at a press conference were misleading All 7 directors breached s180(1) duty of care and diligence Key Findings CEO and general counsel had breached s180(1) by failing to advise Board appropriately Not obvious what loss JH or anyone else suffered. If no loss, how could directors be in breach of s180(1)? Not obvious that asbestos sufferers were misled as they had been sceptical of the adequacy of the funding since the announcements Gzell J said: there was the danger that [James Hardie] would face legal action for publishing false or misleading statements, its reputation would suffer and there would be a market reaction to its listed securities. 12

14 Key Findings In making statements to ASX re sufficiency of funding, JH breached s1041e (false statements re financial products) and s1041h (misleading or deceptive conduct re financial products) of the Act ASIC failed to make out breach of s181 (good faith obligations) against CEO Where company is making a major announcement, directors may not be exonerated by delegating responsibility to other directors or management The Court of Appeal The Court of Appeal of New South Wales upheld appeals brought by James Hardie s non executive directors. The Court found that James Hardie had breached s1041e (false statements re financial products) and s1041h (misleading or deceptive conduct re financial products) of the Corporations Act However, ASIC failed to make out breach of s181 (good faith obligations) against CEO 13

15 The Court of Appeal The Court overturned the factual finding of Gzell J that the non executive directors had in fact approved a misleading draft ASX announcement. The Court noted that ASIC is a model litigant and criticised it for failing to call one of JHINV s legal advisors. The Court would have reached the same conclusion as Gzell J had it not overturned the factual finding The High Court 3 May 2012 High Court, in 2 unanimous decisions (Heydon J giving separate reasons), allowed appeals In Hellicar confirmed Gzell s J decision In Shafron upheld Shafron liability for failing to provide adequate advice to JH s board Remitted matters to Court of Appeal in relation to issue of penalty 14

16 Practical Implications Directors should ensure that the basis for their decisions on crucial matters are noted in the minutes Senior management should bring to the board s attention material information on which public announcements are based Directors should read documents they are asked to approve and understand underlying facts this is a non delegable obligation Practical Implications Directors will be presumed to have read and understood material in board packs Directors who disagree with a decision should speak up and have their dissent recorded General counsel are regarded as officers and have a duty to protect their company from legal risk General counsel cannot split officer role from General counsel role 15

17 Practical Implications ASIC has no duty beyond model litigant (Heydon J) ASIC and opponents in civil penalty cases should approach on basis of civil rules of evidence ASIC Press Release 12 85MR dated 3 May 12: reinforce the behaviour expected of gatekeepers in our markets such as directors already shaping corporate behaviour and having a positive deterrent effect ASIC v Healey & Ors (Centro) 196 FCR 291 Middleton J found that the directors of Centro, a substantial publicly listed company, had breached their duties in relying on extensive advice from its accounting managers and auditors before approving annual financial reports that indicated Centro had no short term liabilities but rather non current liabilities when it was in fact due to repay $1.1Bn within 12 months The matters not disclosed were known to the directors or ought to have been known but the directors failed to apply their minds to the financial statements and failed to question the non disclosure. The directors were required to carefully read and understand the statements and make further enquiries where appropriate The directors were required to have sufficient knowledge of accounting practice and terminology & may not delegate responsibility for undertaking their own examination to specialist advisors Declarations were made that the directors and officers had breached s180 and certain provisions of the Corporations Act 16

18 Practical Implications Establish a sufficient process to prepare accounts and that these provide enough time for the board has enough time to consider the accounts; Read notes to the accounts, especially statements and assumptions attributed to the board; Meet the auditors (without management); CEO & CFO should check the s 295A declarations; Check D&O insurance policy to ascertain scope of cover ASIC v Rich [2009] NSWSC 1229 ASIC sued 4 directors of One.Tel Ltd following their collapse Breaches under 180(1) Corporations Act 2001 (Cth) failure of directors to disclose the true financial position of One.Tel during the period of January to May 2001 Penalties sought under Part 9.4B 17

19 The One.Tel Boys The Hearing By 2004, 2 directors accepted banning orders and agreed to pay between them $112 Million The trial lasted 232 days over 4 years 4,000 pages of submissions, 7000 pages of transcript Judgment pronounced 18/11/ pages surpassing C7 Spigelman CJ later noted it could have been handled better (in terms of time) 18

20 Key Findings There is a real Question whether ASIC should ever bring civil proceedings seeking to prove so many things over such a period of time as in this case. Austin J Findings Continued ASIC s evidentiary case was too big ASIC made submissions outside its pleaded case AON Risk Services Australia Ltd v Australian National University [2009] HCA 27 ASIC failed to call witnesses who might explain ambiguous documents ASIC s argument that the liquidity of One.Tel should be based only on its Australian operations was unsound 19

21 Business Judgment Rule Chapter 23 paragraphs 7178 to (2) is still an untested area of the law Business Judgment Rule Statutory Issue whether [directors] failed to meet the standard of care and diligence that the statute lays down that requires the defendant s conduct to be assessed with close regard to the circumstances existing at the relevant time, without the benefit of hindsight and with the distinction between negligence and mistakes or errors of judgment firmly in mind. At [7242] 20

22 Who bears the Onus? Defendant s argued that ASIC had to disprove the business judgment rule defence Austin J formed the view, with hesitation, that the defendant s have the burden of proving the elements of a defence under s180(2) At [7269] May be considered by Appeal Courts Mr James Packer Mr Packer s memory failed him 1, 951 times. Packer Jnr appeared to misunderstand the purpose of cross examination and gave evasive answers; and coupled with the inability to recollect important matters [he gave] angry answers accompanied by his banging his hand on the desk in front of him 21

23 Mr Murdoch Jnr He answered I can t recall in response to 881 questions, a higher daily rate than Mr Packer Jnr. This was despite having spent several days preparing to give his evidence He recalled very little, even on substantial matters such as what occurred at board meetings Shareholder Class Action Suits Allowed for 2 decades now Approx 14 filed in courts each year Makes up less than 1% of Federal Court cases I the area Cause of concern to directors 22

24 Shareholder Class Action Suits Recent high profile shareholder class action suits: Andrews & Ors v Australia and New Zealand Banking Group Limited [2012] HCATrans 181 (14 August 2012) Kirby v Centro Properties Ltd & Ors (various through 2012) On 19 June 2012, a settlement of $200 million was agreed to by all parties to the Centro class actions New Zealand Aspects Focus on related party transactions Between 2006 and 2010 approx 32 finance companies into receivership the decision of Heath J in R v Moses & Ors (CRI ), which arose from the collapse of Nathans Finance; and the decision of the Court of Appeal in R v Steigrad [2011] NZCA 304, which arose from the Bridgecorp collapse. 23