Adams, Michael; Nehme, Marina --- "Australian overregulation directors liabilities" [2009] ALRS 6; (2009) 61(2) Keeping good companies 94

Australian overregulation? Effect on directors’ liabilities

By Professor Michael A Adams and Ms Marina Nehme,
School of Law, University of Western Sydney

Australia has come a long way over the last 20 years in terms of regulatory reform and in particular corporate law regulation. However, with the current credit crisis and economic recession, there are questions that have to be asked as to whether we are have got the extent of regulation right. Many commentators may not be surprised to hear that Australian directors are overregulated, which discourages their willingness to take a role on a board of a listed company. The Organisation for Economic Co-operation and Development (OECD) and a number of Australian regulatory reform agencies have discussed overregulation and the disincentive for people to become directors due to the potential liability and the lack of general defences.

Failure of the reforms in harmonizing Australian corporate regulation

Australian corporate regulations have been the subject of a number of reforms over the last two decades in a bid to simplify the provisions present in the corporation legislation. It also was intended to enhance Australia’s ability to prosper economically and compete with overseas legislation. The Corporations Law Simplification Taskforce in the 1990s drastically simplified the law relating to companies by instigating, among other changes, major alterations to the share buyback provisions, corporate structure and company registers.

At the end of the 1990s, the change of government led to a shift in policy and resulted in the introduction of the Corporate Law Economic Reform Program (known as CLERP) which aimed to modernise business regulation in Australia. However, these reforms have been subject to criticism.1 Even Justice Kirby of the High Court of Australia observed that ‘particular concerns have been voiced about the complexity, unintelligibility and inefficiency of Australia’s national regulation of corporations.’2 Ken Robson stated that:

We are now approaching some ten years of Corporations Law simplification and economic reform. Yet the law is longer than ever and is beginning to mount a serious challenge to the ITAA for the most complex legislation award.3

Similarly, Justice Austin of the NSW Supreme Court noted that ‘every significant amendment to the corporations’ legislation since that time [1998]

... has added substantially to complexity and, it has to be said, has created obfuscation.’4

Accordingly, more reforms are being conducted to improve Australian corporate law. In 2006, a report was issued by the government in a bid to reduce the regulatory burden on businesses.5 The report recommended that ‘the Australian Government should review the penalties for breaches of directors’ duties to ensure that they strike an appropriate balance between promoting good behaviour and ensure business is willing to take sensible commercial risks.’6 In 2007, the Commonwealth Treasury reviewed the criminal, civil and administrative sanctions present under the Corporations Act 2001 and the Australian Securities and Investments Commission Act 2001. Further, it considered the defences that may be available for directors in case of breaches of directors’ duties and it considers certain changes to the provisions of market manipulation in the Corporations Act.7

Even though a number of attempts have been made to reconcile the different laws that may apply to directors, the OECD highlighted the need for further reforms. Australian corporate regulations were considered as one of the least harmonised laws among a comparison of 30 countries.8 This led the Council of Australian Governments (COAG) to refer this matter to the Ministerial Council for Corporations in an attempt to increase harmonisation of the laws that deal with directors’ liability. Ultimately, the desired outcome is to strike a balance between giving directors and managers’ freedom to manage the company and holding them accountable for decisions made while conducting their work. This is a classic tension between capitalism and social accountability which is played out in any political environment.

Directors’ liabilities

Today, directors of a company have a number of duties imposed on them such as the duty to act in good faith and with a proper purpose, the duty to avoid conflict of interest, the duty of care, skill and due diligence and the duty to prevent insolvent trading.9 In addition, they have to be aware of the different laws relating to derivative liability or accessorial liability applicable as a consequence of corporate fault. All these liabilities add a burden to directors in their multiple roles. A further source of confusion is that the same laws apply to all directors irrespective of the role they play in a company.10

A 2008 survey that involved nearly 100 directors of S&P/ASX200 companies was conducted by the Commonwealth Treasury to determine the magnitude of such a burden. Of the directors surveyed, 84.2 per cent held the position of non-executive directors. Further, 90.1 per cent currently are appointed to the board of more than two companies while 75.3 per cent of respondents were directors of companies for more than ten years. The majority of these directors believed that the risk for being found liable for decisions that they made in good faith rated between medium and high. One director noted they had:

a special anxiety about liability under state laws for industrial manslaughter due to the reversal of the onus of proof in some states, OH&S laws generally and, of course, the insolvent trading laws as they were enforced in the recent judgment against Malcolm Irving in the Reynolds Wine case.11

Another director observed that:

High integrity and achieving the best outcome for stakeholders within the law is no longer enough. To avoid risk requires excessive corporate governance to the point of paralysis, and astrological capabilities.12

This small sample illustrates the general business community’s concern over directors’ liability.

Such fears seem to be realised in the case of Vines v Australian Securities and Investments Commission (2007) 62 ACSR 1 (Vines). This case related to a hostile takeover of GIO by AMP. In response to the takeover bid, GIO was required under the then Corporations Law provisions to provide its shareholders with a Part B (defence) Statement13 which contained information about the financial position of the company. The Part B Statement of GIO included an $80 million profit forecast from its reinsurance subsidiary GIO Re. This turned out to be misleading due to losses related to a hurricane in Florida.

ASIC initiated legal action against Vines because it considered that he had breached his duty of care under s 180(1) by failing to properly investigate the accuracy of the proposed profit forecast and failing to adequately inform the company’s directors and its due diligence committee of material information, and lastly that Vines was negligent in allowing an incorrect profit forecast to be released to the public. The court found that Vines did in fact breach his duty of care. Such a decision was surprising in view of the fact that Vines was not a director ‘asleep at the wheel’. He was found negligent in a situation of extreme pressure where even seasoned professional managers would be sorely tested especially where Vines acted with the best of intentions, and took a number of precautions to ensure accountability and compliance with the law.14 A fine line seems to have been crossed and the balance appears to have tilted towards protecting the public at the detriment of directors’ interests.

Available defences

One way to lower the burden imposed upon directors is to revise the defences available to these individuals. The 2007 Treasury consultation paper entitled Review of Sanctions in Corporate Law proposed the introduction of a general defence that would apply if a breach of any directors’ duty occurs. The general defence requires proposed elements:

• in a bona fide manner

• within the scope of the corporation’s business

• reasonably and incidentally to the corporation’s business and

• for the corporation’s benefit.

The introduction of such a general defence may ensure that the duties and responsibilities imposed on officers of a corporation do not destroy innovation and prevent directors from being involved in decisions that may result in them bearing some degree of risk. This would be an extension of the existing business judgment rule in s 180(2) which has a very limited scope in its application at the moment.

A more general defence would be of greater value to the business community, especially the directors.

Even if new defences are available to protect directors, other liabilities still are of concern for these officers. The Treasury survey demonstrated that a number of specific laws such as derivative liability laws caused directors to be very cautious when reaching a business decision. Such unease is legitimate in view of the lack of regulatory harmonisation in the area of directors’ personal liability in the case of corporate fault. Such a problem was first discussed in Corporations and Markets Advisory Committee (CAMAC) discussion paper15 which was followed by a report16 on personal liability for corporate fault. The report drew attention to the differences between statutes in various jurisdictions even when such statutes are dealing with the same area of regulated activities. For instance, s 128 of the Residential Tenancies Act 1987 (NSW) notes that a person (including a director of a company) is liable not only if they contravene that Act but if they:

(a) aid, abet, counsel or procures a person to contravene it

(b) induce, or attempt to induce, a person, whether by threats or promises or otherwise, to contravene it

(c) are in any way, directly or indirectly, knowingly concerned in, or party to, the contravention by a person of it or

(d) conspire with others to contravene it.

However, s 503 of the Residential Tenancies Act 1997 (Vic) considers that a person (including a company director) is liable is they have aided, abetted, counselled or procured a person in the contravention of the offence.17 It can be noted that the liability under s 128 of the Residential Tenancies Act 1987 (NSW) is broader than the liability under s 503 of the Residential Tenancies Act 1997 (Vic).

The defences available for directors in case of personal liability for corporate fault are also different depending on the particular jurisdiction. For example, the statutory defences available to directors (and others) under s 91 of the Waste Management and Pollution Control Act 1998 (NT) are the due diligence defence and the body corporate defence. The director can also rely on the fact that they did not authorise the conduct or was not aware of the conduct to escape liability. Under s 55 of the Environmental Management and Pollution Control Act 1994 (Tas), a director may escape liability if they took all reasonable and practicable measures to prevent the commission of the offence or if the conduct was the result of a sudden or extraordinary emergency. These are simple examples of the complexity of Australia’s multiple jurisdictions between federal and state or territory and laws.18

This excessive regulatory burden may be even more accentuated by the introduction of new duties imposed on directors. For instance, in relation to long tail liability,19 the Australian Securities and Investments Commission supported the adoption of a new general duty that would be imposed on directors; namely, directors would have a duty to act in a way that does not materially prejudice the interests of unascertained future claimants.20 However, CAMAC did not support this proposal, believing that imposing a new duty on directors would cause confusion because long tail liability is, by its nature, hard to determine and assess. It would be difficult and burdensome for directors to discharge a duty that specifically considers the interests of unascertained future claimants.21

Further, under current laws, directors can take into consideration the interests of such claimants if this will benefit the company. This is possible because they are not confined to considering short-term considerations when managing the affairs of the company.22 In summary, CAMAC maintained that discretion should be given to directors in relation to long tail liability. Such a move is commendable due to the uncertain nature of long tail liabilities. In an earlier study, which had a focus on financial services entities, it was discovered that there is overregulation which is a cost to businesses as well as directors personally.23

Conclusion

The current economic environment naturally places all directors under greater pressure for accountability. The complexity of directors’ duties and the lack of consistent defences mean that insolvent litigation may continue for the next five years. This does not encourage future investment by either international or domestic funds. The OECD Report indicated that Australia has fallen behind 30 other countries due to our over-regulation of corporations laws. It is time for a major overhaul of the state or territory and federal regulation which overlap.

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