Duties of Directors Essay Example

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    Law
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    Undergraduate
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Duties of Directors

Introduction

In Australia, duties of directors are intended to encourage effective governance, as well as to make sure that directors’ actions are consistent with the company’s interests. This paper examines directors of company, their duties under the Australia Corporation Law, and the evolution of their duties and responsibilities. It further enumerates their duties and responsibilities today, the consequences of contravening the law and the remedies and aspects of the future direction of their duties in Australia.

Duties of directors

The Australian law requires companies to have at least one director, since companies are basically separate legal entities that cannot act independent of human interventions. Hence, company have to act through people. This is where the directors come in. Directors of company consist of individuals to whom the law gives the mandate to manage a company’s affairs in aid of the shareholders, or company owners. The Australian law perceives a technical difference between shareholder‘s interests as real company owners and directors duties and responsibilities, who are mandated to make decisions on behalf of the shareholder1.

The statutory description of a company director, as revised by the CLERP ACT, considers a director to be an individual who has been appointed to occupy the director’s position despite the title he is assigned. Indeed, according to Corporations Act 2001 s.9(a)(i), a director refers to an individual who gets nominated to assume the director’s position in a company. For this reasons, provided that the differing intention emerges, an individual who has not been validly nominated to the position of a director, although acts in that position may still be considered a director. Towards this end, directors have specific duties and responsibilities, which they must perform.

Directors have a duty to act in good faith and in agreement with the company’s interest, in agreement with of the Corporations Act 2001 s181. This duty has been chiefly viewed to be for the shareholders’ benefit2. Indeed, some studies have showed that Australian directors, different from other countries, consider their chief obligation to be the creation shareholder value. A breach of this duty amounts to violation of the Corporations Act 2001.

They may breach this duty when they do not subjectively provide proper consideration to the interests of the company, in conformity with Section 183 of the Corporations Act 2001. This may happen in a situation where the director has assumed the interests of the company to correspond with individual interests3.

Directors also have a duty to avoid acting for improper purposes. Hence, directors must exercise their powers in ways viewed to be for proper purposes. As was determined in the case law of Mills v Mills4, improper purpose entails acquiring personal advantages, such as through the a defeat of the shareholder’s voting power through creation of a new majority.

Directors have a duty of care to the company and its shareholders, as provided for by section 180(1) of the Corporations Act 2001. The section stipulates that a director has to exercise own powers, as well as perform their duties with a measure of care consistent with that of a reasonable person. They also have a duty of diligence, as was demonstrated in the case law of Statewide Tobacco Services Ltd v Morley5.

The duty does not diminish when they delegate responsibility to their subordinates. This duty also implies that directors cannot reason that they are ignorant of the company’s affairs, in cases where such ignorance results from their action or inaction6. Put differently, directors need to question often information presented to them to see to it that it truly reflects the position of the company. A possible scenario is when a director is furnished with a balance sheet that does not balance, he would have breached of his duty of care if he failed to direct that it be corrected.

Hence, directors also have the duty to avoid engaging in acts that could be termed as conflicts of interest. For instance, in cases where directors have an interest in a transaction, they have a duty to make full disclosure of their activities, as required by Corporation Act 2001 sections 191-193. This law has been tested in the case law of Duke Group Ltd v Pilmer7.

Directors are also considered to be having, “fiduciary duties,” which they owe to the company. This basically entails a duty of good faith and trust and requires the directors to give priority to the company’s interests rather than theirs. What this implies is that directors are not allowed to put themselves in circumstances where they have a personal interest that runs into conflict with their company’s interests. This includes entering into contract with a company that they directly or indirectly own.

Evolution of director’s duties

The evolution of director’s duties and responsibilities has a long history. After the rise of giant public corporation during wave of mergers in the 1890s, companies began to appreciate the role of board of directors. During this time, there was greater public concern over the state of the board, in addition to the power of the directors and the likelihood of abusing corporate power. The directors were during this time viewed to be trustees for the community8.

This went on into the 1930s when corporate director’s vision as trustees appeared to gain dominance in the legal discourse. However, this was transitory, as at the end of the Great Depression, the public raised concern over the corporate. During this time, discourses on the directors’ duties and liabilities became entwined with the objective of ensuring corporate democracy. This was based on the supposition that the individual shareholders needed protection from corporate management9. Indeed, from 1930s and into the 1960s, the courts considered directors to be representatives of shareholders, who protected shareholders from the potentials for abuses of power by the management.

This perception of the role of director appeared to be linked to the laws of liability standards and duty of care breaches. When the shareholders started to apply forcefully the derivative suits while looking to convey their concerns for some corporate actions, the courts saw the need to restate the business judgment rule, which recognized human imperfection. This rule was applied to contain the ability of shareholders’ to oversee corporate directors and the company management10. During the early 1960s, the corporate discourse shifted to start focusing on the market as the most effective institution capable of constraining corporate activities.

During this time, internal management became increasingly powerful while the board of directors started being less engaged in the management of the corporate affairs. Discourse shifted to the agency and contract laws, as directors began to be described as agents of the shareholders. The definition was consistent with a certain role of the board that materialised during the 1970s, which involved overseeing the board, as well as made up of outside and majority of independent directors11.

Duties in proprietary companies and public companies

The duties of the directors are the same in both the proprietary companies and public companies depending on the areas they are anchored in, such as the constitution of the company, the statute law or as stipulated by the Corporations Act 2001 and lastly the common law. This is since, once eligibility of a company is established, it becomes a legal entity. For instance, an elemental principle of Corporations Act 2001
required than when the statutory prerequisites for registration of a company as a proprietary company are satisfied, a business is then considered a legal entity, which implies that a director would assume the same responsibilities and duties as an agent of shareholders. Such a situation was established in the case law of Lee v Lee’s Air Farming Ltd12.

The common law duties can be enumerated into that of acting bona fide or in the company’s interests. The second entails that of acting for a proper purpose. Next entails that duty of diligence and care, avoidance of actions and decisions that conflict with the company’s interest, making proper utility of their positions, avoidance of improperly using information and lastly, avoiding trading while insolvent.

Failures to act in good faith and for a proper purpose would amount to a breach of the Corporations Act 2001. Section 181(1)(b) of the Corporations Act 2001 stipulates that director have to exercise their powers, as well as perform their duties for proper purpose and in good faith. Section 184(1) further specifies that a director would have committed an offence when they are intentionally reckless, dishonest or even fail to perform the duties they are mandated to do in good faith.

Under the common law, this would be established subjectively, such as in the case law of Re Smith and Fawcett Ltd13. In determining the director’s good faith, and if they have made the interest of the company their top priority, three interrelated duties that apply to the directors are examined. These include duty of subjective good faith, duty to exercise power for a proper purpose and duty to confer with and act by the reference of the company’s interest.

Failure to avoid conflict of interest also amounts to a violation of Corporations Act 2001. The common law demands that the directors be obligated to avoid putting themselves in positions that are in conflict with the company’s interest, as showed in the case law of Aberdeen Railway Co v Blaikie affirmed in Guinness plc v Saunders14. Under this scenario, the legal principles that must be fulfilled to determine a breach include the reasonable obligation of conflict avoidance, which make transactions voidable.

Hence, a breach would have occurred when the interests of the director in the contract determined to be personal, or under a situation where the director is determined to be a shareholder of a different company. Such a scenario was demonstrated in the case law of Transvaal Lands Co v New Belgium (Transvaal)Land15. These would result to breaches of statutory and fiduciary duties.

A possible remedy for fiduciary and statutory breach is that of oppression remedy, which served to protect the rights of shareholders under Part 2F.1 of the Corporations Act 2001(Cth).

The oppression remedy is applied for by shareholders in situations where the directors or the majority shareholders are in breach of their duties of care. It also applies in situations where the directors use their positions of power unfairly16. As established in the case law of Fexuto Pty Ltd v Bosnjak Holdings Pty Ltd & Ors, the courts will intervene when the directors’ attempt to be oppressive to shareholders17, particularly minority shareholders.

An additional remedy is the statutory derivative action. This applies in case of director’s breach of fiduciary duties, duty of care, as well as when the directors abuse their positions of authority18. Section 237(2) (a) of the Act specified the conditions to be fulfilled if the remedy has to be granted by the court. First, there should be evidence that the company is unwilling to initiate the necessary proceedings, the director is not acting in good faith, and that there is a serious issue at stake due to the director’s action or inaction19.

Another remedy is the statutory injunction. The court may grant this remedy under section 1324 of the Corporations Act 2001 (Cth), when it proves that the directors or members have engaged in acts that the court considers improper actions. Pursuant to section 1324(10), the court will grant an injunction or even direct that the directors defendant to pay damages to the shareholders20

Future direction of director’s duties in Australia

I believe that in future, directors would begin acting in favour of creditor’s interest under their duties. This assumption is based on factors that led to the 2008-2009 financial crises, where companies failed to pay back their debts to creditors. Traditionally, the law requires that directors only act in the interest of creditors during insolvency. However, since the company trades with creditors’ money while approaching insolvency, it is argued that the creditors interest should be made to replace that of shareholders21. In which case, the creditors should in future become the company’s superseding interest even outside insolvency. These assumptions were recently argued in the case law of Walker v Wimborne & Others22.

Conclusion

In conclusion, the Australian law perceives a technical difference between shareholder‘s interests as real company owners and directors duties and responsibilities, who are mandated to makes decisions on behalf of the shareholder. The duties of directors can be enumerated into that of acting bona fide or in the company’s interests. They also include acting for a proper purpose, duty of diligence and care, avoidance of actions and decisions that conflict with the company’s interest, making proper utility of their positions, avoidance of improperly using information and lastly, avoiding trading while insolvent.

Reference List

Aberdeen Railway Co v Blaikie affirmed in Guinness plc v Saunders (1854) 1 Macq 461]

Baxt, R 2005, Duties and Responsibilities of Directors and Officers, Australian Institute of Company Directors, Sydney

Devonshire, P 2008, «Account of Profits for Breach of Fiduciary Duty,» Sydney Law Review, vol 32, pp390-391

Duffy, M 2008, «Shareholders Agreements and Shareholders’ Remedies Contract Versus Statute?» Bond Law Review, vol 20 no 2, 1-26

Fexuto Pty Ltd v Bosnjak Holdings Pty Ltd & Ors (2001) 37 ACSR 672

Katz, A 2006, «Remedies for breach of contract under the CISG,» International Review of Law and Economics, vol 25 , 378-396

Lee v Lee’s Air Farming Ltd [1961] AC 12]

Mills v Mills (1938) 60 CLR 150 at 185

Mitchell, D 2008, «Status Bound: The Twentieth Century Evolution Of Directors’ Liability,» NYU Journal Of Law And Business vol 5, pp.63-150

OUP, Shareholder Rights and Remedies, Ch4, (2013) <http://www.oup.com.au/__data/assets/pdf_file/0020/124814/Chapter_24_Shareholders_Rights_and_Remedies.pdf>

Pilmer v Duke Group Limited (in liq) (2001) 207 CLR 165

Re Smith and Fawcett Ltd [1942] Ch 304

Statewide Tobacco Services Ltd v Morley (1990) 2 ACSR 405

Transvaal Lands Co v New Belgium (Transvaal) Land & Development [1914] Ch 488]

Walker v Wimborne (1976) 137 CLR 1

Whitehouse v Carlton Hotel Pty Ltd (1987) 162 CLR 285

1
Baxt, R 2005, Duties and Responsibilities of Directors and Officers, Australian Institute of Company Directors, Sydney

2
Whitehouse v Carlton Hotel Pty Ltd (1987) 162 CLR 285

3
Walker v Wimborne (1976) 137 CLR 1.

4
Mills v Mills (1938) 60 CLR 150 at 185.

5
Statewide Tobacco Services Ltd v Morley (1990) 2 ACSR 405.

6
Statewide Tobacco Services Ltd v Morley (1990) 2 ACSR 405.

7
Pilmer v Duke Group Limited (in liq) (2001) 207 CLR 165

8
Mitchell, D 2008, «Status Bound: The Twentieth Century Evolution Of Directors’ Liability,» NYU Journal Of Law And Business vol 5, pp.63-150

9
Ibid70-2

10
Baxt, R 2005, Duties and Responsibilities of Directors and Officers, Australian Institute of Company Directors, Sydney

11
Mitchell, D 2008, «Status Bound: The Twentieth Century Evolution Of Directors’ Liability,» NYU Journal Of Law And Business vol 5, pp.63-150

12
Lee v Lee’s Air Farming Ltd [1961] AC 12].

13
Re Smith and Fawcett Ltd [1942] Ch 304

14
Aberdeen Railway Co v Blaikie affirmed in Guinness plc v Saunders (1854) 1 Macq 461].

15
Transvaal Lands Co v New Belgium (Transvaal) Land & Development [1914] Ch 488].

16
OUP, Shareholder Rights and Remedies, Ch4, (2013) <http://www.oup.com.au/__data/assets/pdf_file/0020/124814/Chapter_24_Shareholders_Rights_and_Remedies.pdf>

17
Fexuto Pty Ltd v Bosnjak Holdings Pty Ltd & Ors (2001) 37 ACSR 672

18
Devonshire, P 2008, «Account of Profits for Breach of Fiduciary Duty,» vol 32, Sydney Law Review, 390-391

19
Katz, A 2006, «Remedies for breach of contract under the CISG,» International Review of Law and Economics, vol 25 , 378-396

20
Duffy, M 2008, «Shareholders Agreements and Shareholders’ Remedies Contract Versus Statute?» Bond Law Review, vol 20 no 2, 1-26

21
Wen. S 2013, Shareholder Primacy and Corporate Governance: Legal Aspects, Practices and Future Directions, Routledge, New York

22
Walker v Wimbourne (1976) (173 CLR1).