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Has the law gone backwards?

5 September 2003

By AAR Partner Professor Bob Baxt, first published in the August edition of Company Director, the journal of the Australian Institute of Company Directors

There is little doubt that the New South Wales Court of Appeal's decision in the recent Whitlam appeal (ASIC v Whitlam [2003] NCWCA 183) has caused more public, professional and academic reaction, than any case involving directors' duties for some considerable period of time.

Indeed, in many ways the reactions have been as significant as those following the decision of Austin J in the New South Wales Supreme Court in ASIC v Rich, which was noted in Company Director in March 2003.

Yet the Rich case dealt with preliminary matters and did not really touch on questions of directors' liability. It ruled that ASIC could bring certain proceedings against a chairman of a company; the Whitlam case has in some respects set the law backwards in dealing with directors' duties.

In the Whitlam case at first instance ((2002) 42 ACSR 407) the facts were briefly these: ASIC, in its statement of claim, alleged that Whitlam, in relation to the conduct of a meeting, had failed to sign a poll paper with respect to some 3973 votes directing him to vote against a particular resolution dealing with remuneration of directors. On the basis of legal advice received at the time, the returning officer refused to count the votes with the effect that the amendments to the articles were initially passed. However, later, as a result of further advice, the votes were counted and the resolution was defeated so that the wishes of those particular members were in effect 'granted'.

ASIC alleged that the conduct of Whitlam in deliberately failing to sign the proxy paper in respect of these votes was a breach of section 250A of the Corporations Law (now the Corporations Act). This section requires the person given the proxy to vote in the way directed. ASIC also alleged that he had breached sections 232(4), 232(2) and 232(6) of the Corporations Law (the equivalent to sections 180, 181 and 182 of the Corporations Act) - namely that he had not acted honestly, that he had acted without the appropriate care and diligence, and that he had made improper use of his position as a director.

Gzell J held that Whitlam's failure to sign the poll paper was a deliberate and premeditated action in breach of section 250A. He also held that the behaviour constituted breaches of duties under the relevant provisions of the Corporations Law referred to above. As a result of these findings, Whitlam was later disqualified from being a director for a number of years. Whitlam appealed and the New South Wales Court of Appeal has reversed those rulings.

The Court of Appeal found, on its evaluation of the evidence at the initial trial, that Whitlam was not guilty of a breach of his duty as a director in dealing with the proxies. Similarly, the Court of Appeal held that there was inadequate evidence to suggest that there were other breaches of the Corporations Law. As a result the disqualification orders, etc. were rescinded.

If ASIC decides to seek leave to appeal the decision on issues of the law that are relevant to the High Court (which many hope will be the case to clarify the law), it is highly unlikely that any further proceedings will be brought in relation to these matters.

The Australian Financial Review suggested in its editorial of 15 July 2003, that the Court of Appeal decision that a chairman/director of a meeting who had been given proxies did not owe a higher standard of care which many had thought had been established under the Corporations Act (and its predecessor), to the shareholders in exercising the obligations in relation to those proxies, was a decision that 'defies common sense, and is out of step with modern understandings about corporate governance and the duties of directors and chairmen'. The Financial Review then made the very clear point that the decision was not necessarily legally wrong but that it required scrutiny.

When a person who is the chairman/director of a company seeks proxies on behalf of the company, should the law impose on that person additional obligations which relate to his or her position as a director, or indeed as the chairman (assuming that this might carry with it additional duties to that of a normal director), or is the Court of Appeal correct in suggesting that the only obligation on the person is that of an agent exercising the duties of an agent in the normal course? The duties of an agent are quite different from that of a director.

It had been argued by Whitlam that simply because a person became a chairman of a company or a meeting, did not mean that in carrying out those duties that person was obliged to behave as though he or she were a director of a company. Gzell J at first instance while acknowledging that the duties of a chairman of a meeting might be different from the duties owed by a director of the company, noted 'that does not mean, however, that the duties of a chairman are mutually exclusive or that a breach of the Corporations Law section 250A (now section 250A of the Corporations Act) cannot also constitute a breach of [relevant provisions of the Corporations Act].' The judge held that there were no decision he could find that obliged him to reach a contrary decision (see 42 ACSR para 147).

Gzell J later added that a director of a company did not cease to be a director simply because he or she chairs a meeting of the company and that indeed it was important that the director who was the chairman continued to observe all of the obligations cast upon that person.

The Court of Appeal, in evaluating the relevant issues, reached a different conclusion to Gzell J on this issue - ie whether Whitlam owed duties as a director in carrying out his role as a proxy holder. The court noted (at [2003] NSWCA para 150):

'The primary judge was correct to say that a director did not cease to be a director because he or she chairs a meeting of members; and indeed the circumstances that a director is acting as chairman or in any other role does not necessarily mean that he or she is not at the same time exercising a director's powers or discharging a director's duties. But he or she might not be doing so: not everything a director does that affects his or her company is an exercise of a director's powers or a discharge of (or even governed by) a director's duties.'

The Court of Appeal also suggested that Gzell J was wrong in concluding that when a director who had been appointed a proxy to vote was acting as a director. In the Court of Appeal's view the fiduciary duties that a chairman owed was not to the company but to the individual appointed and added these words:

'In addition, the director is subject to statutory requirements, such as those of s 250A that we have considered, but only in his or her capacity as proxy, not as a director. Further, these duties and requirements are not duties owed to the company: the fiduciary duties are owed to the particular member who appointed the director as proxy, and the statutory requirements do not appear to give rise to any duty owed to any legal entity other than that member and/or the State.' (at para 152)

Furthermore, the appeal court highlighted the potential conflict that might arise by suggesting that where a member directed the proxy (who was also a director) to vote in a way that the director might believe was not in the best interests of the company, the director would be obliged to vote in the way in which the proxy directed that person. In doing so, the Court of Appeal added, that the director would not generally be in breach of the director's duties to the company (see para 153).

Indeed, one could analyse the Court of Appeal's decision on the basis that the director was merely acting in an administrative capacity. Furthermore, the duty of a shareholder (or a representative of a shareholder) to consider decisions affecting the company is governed by a very different set of rules to those which govern the role of a director. A shareholder can be selfish in considering his or her own interests ahead of those of the company in appropriate circumstances. Accordingly, a person who is appointed as the representative of that shareholder could also take into account those selfish considerations ahead of the interests of the company.

The decision tantalisingly raises the prospect that had ASIC pleaded its case differently, a different result might have been reached. As has been noted above, ASIC argued that there was a breach of duty by the chairman in the context of section 250A which contains a mini code for the carrying out of certain obligations in relation to proxy contests. It linked those arguments to the specific provisions of the law referred to earlier. Had ASIC outlined its case (including evidence etc) more specifically on the basis for example that there was a general duty on the part of a chairman/director to act honestly and in the best interests of the company (as is now required under section 181 of the Corporations Act - previously section 232(2)) (as well as other specific provisions) a different result might have been reached.

The Court of Appeal noted:

'The court raised ... the possibility that [Whitlam owed a duty] as a director to the company to make an appropriate contribution to the proper running of the annual general meeting, and in particular to the carrying out of voting procedures, and a duty not to subvert those procedures; and that a deliberate attempt to subvert those procedures would be a breach of that duty as a director. Viewed in that way, while Mr Whitlam certainly had a duty as a fiduciary to the proxy givers to act in accordance with their directions, he may also possibly have had a duty to the company, in so far as he was a director having some control over the voting procedures, not to subvert those procedures. If so, those duties would have required him to vote as directed.' (at para 160)

The Court of Appeal then noted further that it was dealing with a very unusual organisation, a company like the NRMA where one of the roles of the director would be to serve the company and attend to fulfilling the members to vote their shares. The court added:

'When a director does so, particularly where the company has held out to members that a director will act as their proxy, it could be argued that the director then has the dual role of agent for the particular members and director serving the company. In those cases where a member gives no direction how to vote, it may be the case that the director must cast a vote bona fide in the interest of the company, so that there would be no difficulty in seeing this as an exercise of the director's duty. Where the member does give a direction of how to vote, the director's duty as agent for the member would generally require that this direction be followed, even if the director does not think it in the interests of the company; but it could possibly be argued that this does not mean that the casting of a vote is not a discharge of a director's duties, because the director has a duty to serve the company by acting faithfully as proxy (so that the company fulfils what it has held out to members), which displaces any duty of a director to consider how the vote itself would affect the interests of the company.' (at para 161)

Having tantalisingly raised this particular question the court did not answer the question.

In effect the New South Wales Court of Appeal suggested that while ASIC had pleaded in broad terms that Whitlam had breached the statutory duties contained in the equivalent of sections 180, 181 and 182 of the Corporations Act (sections 232(4), 232(2) and 232(6) of the Corporations Law) that the statement of claim and the evidence did not go into sufficient detail in setting out the basis of the claim. Where a breach of a penalty provision in the statute is pleaded, the obligation on the part of the prosecutor is to ensure that the black letter law is followed to the very last dot on the 'i' and the last cross on the 't'.

The problem with the Court of Appeal decision is reflected by its own conclusions (at para 151) where it made these comments:

'The result is not entirely satisfactory. On the one hand, we are not able to find Mr Whitlam did not deliberately fail to sign the poll papers. On the other hand, the effect of dismissing the proceedings is to rule out the possibility that the defendant ... will be subject to being precluded from being a director of a corporation or corporations; and this could be considered as not being in the public interest in circumstances where the question of whether or not the failure to sign was deliberate has not been properly determined.'

What does this decision mean for the law relating to the duties of directors? The New South Wales Court of Appeal in two other important cases recently has confirmed that a much higher standard of care, skill and other obligations is expected of directors than may have been the case earlier. A differently constituted New South Wales Court of Appeal recently confirmed the judgment of Santow J in ASIC v Adler ((2001) 38 ACSR 266). Santow J in his long and important judgment examined the overlap between the common law and the provisions of the Corporations Act (or the Corporations Law as it then was) in relation to directors' duties. His assessment of these duties (covering a broad range of things that one would expect of a director - see para 372 of the judgment and the discussion of the Whitlam case in Company Director in September, 2002) was confirmed by the NSW Court of Appeal - it agreed with his interpretation of the law.

More recently, another New South Wales Court of Appeal in Deputy Commissioner of Taxation v Clarke [2003] NSWCA 91 confirmed that there was a high standard expected of directors in running companies. One would expect that these cases would influence the assessment of a director's role as chairman of the company.

When our law was changed in 1993 to allow ASIC to bring civil proceedings for breaches of directors' duties, this meant a lower standard of proof in establishing a breach of statutory rules in appropriate circumstances. It has led to an acceleration in successes by ASIC in cases involving breaches of directors' duties. But, as the Court of Appeal noted in the Whitlam case, a successful conviction, even in a civil case, can lead to disqualification of a director. Therefore, if proceedings are brought in relation to breaches of the Corporations Act, all aspects of the charge must be established by ASIC.

This black letter law approach is warranted in the context of maintaining the principle that we are all innocent before the law until proven guilty. One cannot simply assume that because many of us may feel that a person should be held guilty that that person is guilty - all aspects of the statutory breach should be established.

But, in the context of directors' duties, the courts are dealing with a variety of issues. It is not necessarily the statutory provisions that are under consideration. It is also the common law (can we equate common law with common sense - after Whitlam some people may suggest that we cannot) that is relevant. The duties of a director at common law, so well enunciated by the NSW courts in particular in the AWA cases in the 1990s, are now set at a fairly high standard. That evaluation has been confirmed in the Adler and Clarke cases.

To many it has come as a bit of a shock that that standard has not been applied in the context of the role of a chairman in relation to proxies. In organisations such as the NRMA, and in many other large public companies, where shareholders expect the directors, and especially the chairman, to look after their interests in pursuing company policies (after all there is usually heavy solicitation of proxy votes by the boards of companies) many would expect that the law would impose a fairly high standard on directors.

The danger of a decision such as Whitlam remaining 'at large' (one hopes we can get clarification from the High Court, or perhaps by some minor statutory amendment) is that there may continue to be an expectation that a different standard is to be applied to directors in their capacity as directors and chairmen in protecting the interests of the mums and dads of the world in the conduct of meetings.

This would be particularly unsatisfactory at a time when the Government is talking about selling the rest of Telstra, and encouraging more and more investors to become owners of companies.

Curbing misuse of market power

Section 46 of the Trade Practices Act lives

The call for reform of section 46 of the Trade Practices Act (the TPA) by outgoing ACCC chairman Allan Fels, and others, is clearly misplaced as is illustrated by the Full Federal Court decision in Safeway (ACCC v Australian Safeway Stores Pty Ltd (2003) FCAFC 149, delivered on 30 June 2003). We need to proceed very cautiously to amending our laws just because we are given a decision from the courts that is not 'a popular one'.

Following the Boral case (discussed in the June 2002 edition of Company Director) there was consternation that section 46 of the TPA was a 'dead duck'. Indeed, the Opposition parties in the Senate have now referred the question of section 46 to a further Senate enquiry despite the recommendations in the Dawson Report that the section was 'alive and well'.

The Safeway decision, although only a majority decision in the Full Federal Court, nevertheless clearly indicates that section 46 does have some mileage in it. One of the important aspects of the majority decision is that Heerey J, who was part of the majority, was the judge at first instance in both the Melway case and the Boral case both upheld by the High Court and in respect of which section 46 claims were lost. Although Justice Heerey had found that there was no breach of section 46 in either Melway and Boral, he held that there was such a breach in Safeway.

Australian Safeway Stores acquired bread from three wholesale bread bakers (plant bakeries), including Tip Top Bakeries. In 1994, Safeway adopted and implemented a bread policy (the policy) which it claimed was aimed at ensuring Safeway was competitive with independent stores on the price of bread. The policy involved, in effect, refusing to sell a plant baker's product if the plant baker had supplied its product to an independent retailer at a discounted price.

The ACCC brought an action against Safeway in which it alleged that the purpose of the policy was to punish plant bakers who supplied bread to independent stores at discounted prices. The ACCC relied on nine incidents in which Safeway deleted a plant baker's product from its shelves after it became aware that it had sold its product to an independent retailer at a discounted price.

The ACCC also alleged that Safeway and Tip Top entered into a price fixing arrangement to fix or control the retail price of bread sold by Tip Top at its Preston Market stall. Tip Top had, in earlier proceedings, admitted contraventions of the TPA in relation to its pricing and was ordered to pay pecuniary penalties.

At first instance, Goldberg J dismissed the claim. The ACCC appealed his findings in relation to the misuse of market power, price fixing and exclusive dealing allegations. No appeal was taken by the ACCC in relation to Goldberg J's findings on resale price maintenance.

Misuse of market power

The majority of the Full Federal Court agreed with Goldberg J that Safeway had a substantial degree of power in the wholesale market for the acquisition of bread in Victoria. However, the majority of the Full Court held that Goldberg J had erred in not finding that Safeway had taken advantage of its market power for a proscribed purpose, namely, the purpose of deterring or preventing the plant bakers and the independent bakers from engaging in competitive conduct (ie selling bread to independent retailers at a discounted price).

The majority went further than Goldberg J in relation to the question whether Safeway had a 'substantial degree of market power'. They observed that barriers to entry were not limited to the cost of setting up a retail store in competition with a Safeway store, but also included the ability of Safeway to negotiate terms of trade, prices, discounts and rebates as a result of the overall purchases it was prepared to make on a statewide basis.

The majority also held that Tip Top's conduct in raising its prices in response to Safeway's conduct was a strong indicator that Safeway had a substantial degree of market power, notwithstanding that other plant bakers did not succumb to the pressure. The fact that in a competitive market the plant bakers would not have been constrained in the manner in which they were was suggestive of Safeway's market power.

Justice Emmett, in the minority on this issue, held that Safeway did not have a substantial degree of market power as its ability to influence the price at which Tip Top supplied bread did not demonstrate its ability to influence the wholesale market; it was merely an instance of influencing a single participant in that market.

The majority of the Full Court concluded that Safeway had 'taken advantage' of its market power, on the basis that 'a firm without market power would not have pursued such a policy because to do so would have produced harm for itself without any countervailing benefit'. They agreed with Goldberg J that the purpose of the policy was a proscribed one, namely, to punish plant bakers for supplying cheap bread to an independent retailer and to deter them from doing so again.

The majority of the Full Court focused on the objective purpose of the impugned conduct and commented that too much emphasis had been placed, at trial, in ascertaining the subjective intention of the individual responsible for formulating Safeway's policy.

Price fixing agreement between Safeway and Tip Top

The Full Court unanimously held that Goldberg J erred in concluding that no agreement had been made between Safeway and Tip Top relating to the price to be charged for bread at the Preston Market and the conditions on which Safeway would acquire goods from Tip Top. At trial, Goldberg J found that there was insufficient evidence to infer a 'meeting of the minds' between Safeway and Tip Top and that the Safeway store manager did not have the actual or apparent authority to enter into a price fixing agreement on behalf of Safeway.

On appeal, the parties agreed that the store manager had no actual authority to meet with the Tip Top sales manager at the Preston Market and discuss the price at which bread was sold.

The Full Court held that it could be inferred from the facts of the case that the store manager had acted on the instructions of someone within Safeway. Further, they held that Goldberg J erred in refusing to draw an inference that Jones, the Safeway category manager, had instructed the store manager to meet with and reach an agreement with Tip Top.

Jones was the person responsible in Safeway for bread pricing issue and was the person to whom the store manager reported the results of his meeting with Tip Top. Although the Full Court agreed that it was possible that someone other than Jones instructed the store manager, the facts established 'to a standard of reasonable satisfaction' that it was indeed Jones. This issue is to be further considered by the court in assessing penalties.

Based on its findings that the store manager had been instructed by Jones to meet and discuss prices with Tip Top, the Full Court unanimously found that an agreement had been entered into by Tip Top and Safeway. Accordingly, the Full Court held that the parties had entered into an arrangement which had the purpose, or was likely to have the effect of fixing, controlling or maintaining the price for bread supplied by Tip Top.

Other issues

The Full Federal Court dismissed the appeal brought by the ACCC on the issue of exclusive dealing. It is unnecessary to discuss this aspect of the case.

[See also Check your insurance/indemnity policy carefully]


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