Litigation and Dispute Resolution

Running out of time: When do debts expire?

11 September, 2018

Officers of corporations, such as directors, owe various duties to their company and can be held personally liable in the event of a breach. This includes duties to avoid insolvent trading, a duty of care and skill, good faith, and to keep books and records. Normally it is clear who the officers of the company are. Directors and secretaries are appointed pursuant to the terms of the company constitution. However, the Corporations Act will treat some people as directors even if they have not been formally appointed, with the High Court weighing in recently.

What seems to be the problem, officer?

People who are treated as officers at law, despite not being formally appointed as such, are often referred to as “shadow” directors or “de facto” directors. The relevant test is contained in subsection (b) of the definition of “officer” in section 9 of the Corporations Act, which reads:

“officer” of a corporation means:

(a) A director or secretary of the corporation; or

(b) a person:

(i) who makes, or participates in making, decisions that affect the whole, or a substantial part, of the business of the corporation; or

(ii) who has the capacity to affect significantly the corporation’s financial standing; or

(iii) in accordance with whose instructions or wishes the directors of the corporation are accustomed to act (excluding advice given by the person in the proper performance of functions attaching to the person’s professional capacity or their business relationship with the directors or the corporation);

The effect of this is that the law will treat someone who satisfies one of the above three criteria as an officer of the company, even if they are not formally appointed as such, and they will accordingly owe duties to the company as a result.

The meaning of this definition, and in particular (b)(ii), was recently considered by the High Court of Australia in ASIC v King [2020] HCA 4.

The King runs out of funds for his Castle

This case concerned the MFS Group, which was a Gold Coast group of companies that provided tourism and travel related services as well as financial services including managed investment schemes. Michael King was the director and CEO of MFS Ltd, the parent company of the group. However, he was not formally an officeholder for every company in the group.

Notably, he was not formally a director of MFS Investment Management Pty Ltd (MFSIM), which was the company responsible for the largest managed investment scheme and “flagship fund’ of the MFS Group. MFSIM had the benefit of a $200 million facility with the Royal Bank of Scotland, which was to be used solely for the purpose of this managed investment fund.

One of the companies in the group, MFS Castle Pty Ltd, was the debtor under a short-term loan of $250 million to a third party, Fortress. MFSIM had no liability with respect to this debt. With time running out for MFS Castle to pay this loan, it was arranged for MFSIM to make a $150 million drawdown on the Royal Bank of Scotland facility, and provided those funds, without security or promise of repayment, to other companies within the MFS Group to attend on the payment of the debt to Fortress.

By engaging in these transactions, MFSIM had engaged in multiple contraventions of the Corporations Act. ASIC also brought proceedings against Mr King. ASIC alleged that he breached director duties to MFSIM, to act honestly and exercise due care and skill, by being involved in the transactions. Mr King was not formally a director of MFSIM, so the question became whether he was an officer under section 9 of the Act.

The approach of the Queensland courts

At trial, the Supreme Court of Queensland found in favour of ASIC. The Court held that Mr King was indeed an officer of MFSIM as he fell within section (b)(ii) of the definition above. That is, Mr King has the capacity to effect the financial standing of MFSIM. Mr King appealed to the Court of Appeal.

The Court of Appeal did not disturb any of the findings of fact from the Supreme Court. Notably, the Mr King acted as the over boss of the group, took overall responsibility for MFSIM, spoke daily to its directors who took instruction from him, and approved the relevant transactions.

Rather, the Court of Appeal interpreted the definition in (b)(ii) to hold that Mr King was not an officer. The Court of Appeal found that because Mr King’s ability to effect the financial standing of MFSIM did not derive from any occupation of an “office” within MFSIM, the definition did not apply. That is, the Court of Appeal was departing from the literal words of (b)(ii) and importing a requirement that Mr King be a formal office holder for the sub-section to apply.

Appeal to the High Court of Australia

ASIC appealed to the High Court, who unanimously overturned the Court of Appeal’s decision. The High Court described this interpretation of (b)(ii) to be “contrary to orthodox view” and as the effect to “read paragraph (b)(ii) out of the Act”. That is, the Court of Appeals interpretation of section (b)(ii) renders it redundant. This is because subsection (a) simply defines officer to include secretaries and directors. If subsection (b)(ii) to only apply to directors and secretaries, it offers nothing to the definition and fails to extend the scope of the definition of “officer”, which was clearly the legislative intention behind the sub-section.

Mr King sought to take a wide view of the Court of Appeal’s decision. Before the High Court he accepted that it was not necessary for him to be a director or secretary for section (b)(ii) to apply, but rather it was necessary for him to have some kind of recognised office with rights and duties attaching. The High Court did not accept this, finding that it has “no support in, and is indeed contrary to, the statutory text”.

The High Court also emphasised that the orthodox interpretation gave effect to the purpose of the section, being to protect shareholders and creditors in circumstances where, for example, the CEO of a parent company is unrestrained by any duties that would apply if they were an officer of the subsidiary companies.

What does this all mean?

The High Court has emphatically rejected the Queensland Court of Appeal’s restrictive interpretation of the definition of officer. Those involved in the management of a company or group of companies ought get legal advice to determine whether they are, in substance, an officer of that company. This is so regardless of whether they formally hold such a position. If the law will treat them as an officer, important duties to the company are owed and personal liability can flow in the event of breach.

McCabes Litigation and Dispute Resolution group has experience in advising private and corporate clients in relation to their position as a director and the duties they owe as a result. Get in touch with us today.

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