Melbourne University Law Students Society Student Tutorial Service Corporations Law 730-456 Edward Thompson

2. Administrative Matters Corporations Law 730-456 Contact Details Edward Thompson Email: e.thompson@pgrad.unimelb.edu.au Tutorial Times 1pm � 2pm Tutorial Room 106

3. Introduction Review of last week tutorial Structure for today�s tutorial Duty to act in Good Faith Overview of the objective standard Best interests of the Company? Good Faith? Duty to act for a Proper Purpose Overview of the objective standard What constitutes an exercise of power for proper purpose? Practice Hypothetical

4. Duty to act in good faith At general law and under the s 182(1)(a) the same objective standard applies, namely: � Would a reasonable person, in the director or officer�s position, acting in good faith, believe their actions were in the best interests of the Co? � This objective standard raises the following questions: What are the company�s best interests? Look to the circumstances of the company Has the director acted in the same way as the reasonable person in his position who believed in good faith that he was acting in those interests? Note the test is objectively determined, so the honest beliefs of the director are largely irrelevant

5. Duty to act in good faith What are the best interests of the Company? The following interest groups are relevant in all decision making: Shareholders� interests Employees� interests Community interests Creditors� interests Identity and separate entity status Interests of other members of the corporate group Prioritization of interests will depend on the circumstances of the company.

6. Duty to act in good faith Shareholder interests Generally, there will be parity between the best interests of a solvent Co and the maximization of shareholder profit: ASIC v Adler Where there is disparate interest groups among shareholders the rule in Mills v Mills applies Shareholder interests include present and future interests: Provident International Corp Employee interests Generally, directors do not have to have regard to employee interests: Park v Daily That said, consider soft factors which may impact on other interest groups: ASX Guidelines, Rule 10 Creditor's Interests Where company solvency is threatened, the interests of creditors will be superior to those of the shareholders: Walker v Wimborne; Kinsela v Russell Kinsela Case law unclear on the exact point when creditor interests are preferred

7. Duty to act in good faith Corporate Groups Under s 187 a wholly-owned subsidiary may act in the interests of its holding company where: The constitution of the subsidiary expressly authorizes the director to act in the interests of HC; and The director acts in good faith in the best interests of the holding company; and The subsidiary is not insolvent (or does not become insolvent) at the time of so acting. At general law a partially-owned subsidiary may act in the interests of its holding company where � an intelligent and honest person in the position of the director of the company could have reasonably believed that the transaction was for the benefit of the company as a whole.� : Equiticorp Finance Ltd v BNZ , per Clarke, Cripps JJ Note the dissenting views of Mason J in Walker v Wimborne and Kirby P in Equiticorp Finance Ltd v BNZ who adopt a stricter approach focusing on the subsidiary company�s interests and its interests alone.

8. Duty to act in good faith Relevance of good faith Courts have emphasised that the general law and statutory standards are objectively not subjectively determined: ASIC v Adler Accordingly, the presence of an honest good faith subjective belief on the part of the director will not provide a defense: � Bona fides cannot be the sole test, otherwise you might have a lunatic conducting the affairs of the company, and paying its money with both hands in a manner perfectly bona fide yet perfectly irrational.� : Hutton v West Cork Railway Co cited in ASIC v Adler That said, the subjective element remains relevant as intentional disregard of the Co's interest will constitute a breach of the good faith duty: Marchesi v Barnes

9. Duty to act for a proper purpose At general law and under the s 182(1)(b) the same objective standard applies, namely: � Would a reasonable person, in the director or officer�s position, believe the exercise of the power to be for a proper purpose? � There are two stages to the proper purpose inquiry: What are the purposes for which the power should be exercised? What are proper and improper purposes in circumstances? Did the director believe he was acting for a proper purpose and was that belief reasonable? On what basis did the director believe he was acting? Do the facts support this belief?

10. Duty to act for a proper purpose Proper purposes include: Raising Capital Howard Smith Providing payment as consideration for the purchase of an asset Capitalising profits by issuing bonus shares: Mills v Mills A desire to give financial stability to the company or prevent a party who would have a destabilising interest from taking control : Darvall ; Cayne v Global Natural Resources Improper purposes include: Issuing shares (or otherwise exercise corporate powers) to deprive an existing majority shareholder of control: Howard Smith, Darvall Frustration of takeover offers which are beneficial to shareholders or in the best interest of the company: Darvall Issuing shares to confer a benefit on the directors themselves (such as increasing their own shareholdings) Contravention of provision of the Corporations Act (i.e. ss208, 260A: financial benefit) or the duty of loyalty: Chew v R

11. Duty to act for a proper purpose Mixed Purposes Look to the substantial or dominant purpose of the directors� exercise of power a decide whether it is improper: Mills; Permanent Building Society v Wheeler Factors relevant to determining the substantial purpose include: Application of the But for Test: Whitehouse per Mason, Deane & Dawson JJ The urgency or critical nature of particular purpose is: Howard Smith A merely incidental result ? improper purpose: Harlowe�s Nominees Where there is division in the board, the substantial purpose is the purpose shared by the majority of those casting the deciding vote: Harlowe�s Nominees

12. Duty to act for a proper purpose Reasonable belief? The test is objectively determined, so there can be a breach of the proper purpose duty even if the director believes that the exercise of the power is for a proper purpose. Honest or altruistic behaviour does NOT prevent a finding of improper conduct: Howard Smith v Ampol That said, evidence of the director�s motives and state of mind will be relevant to determining whether the proper purpose belief was actually held: Marchesi v Barnes

13. Sample Hypothetical Wallet Ltd is a listed company. Coin Ltd holds 40% of the issued shares in and Notes Ltd has 35% of the shares. The remaining 25% is held by a diverse group of shareholders Wallet Ltd has tendered for the construction of a large timber mill and is likely to be the successful bidder. It will need an injection of funds to construct the mill. The directors are concerned that Coin Ltd, which has other timber milling interests will launch a takeover of Wallet Ltd. At a board meeting, the directors resolve to allot a substantial number of shares to Note Ltd in consideration for a unsecured guarantee that Note Ltd will arrange finance for the construction of the mill. The finance required for constructing the mill is considerably less than the value of the shares issued to Note Ltd. Moreover, the allotment of shares has varied the shareholding power of Coin Ltd, such that Coin Ltd will now only command 10% of the voting power. Advise the directors about the possibility of any legal challenge to their actions.

14. Sample Response Introduction: Set out the Power: Directors under ss 124(1)(a) and 198A have the power to issue shares by a majority vote Discuss formalities governing share issues for non-cash payment Disclosure requirements under ss706, 707, 718 need to be adhered and lodged with ASIC otherwise Wallet in breach of s 254X(1)(e) which governs the issue of shares for non-cash payment Outline possible claimants: Coin Ltd General Law � Possible Residue Treatment application available Statute: - Statutory Derivative Action ASIC

15. Sample Response Introduction Cont.: Canvass means for challenging the share issue: Formation of the issue contract not crystallized Variation of Class Rights Breach of Directors Duties Breach of Financial Assistance provisions Points (1) and (2) not seriously pursued on account of the principles discussed in Re Wagg Ltd and Greenhalgh v Aderne Cinemas

16. Sample Response Directors Duties Proper Purposes: Identify the proper purpose: The proper purpose of the share issue was to raise capital to finance the mill What was the director�s actual purpose: In this case we have a dual purpose, namely (a) the creation of a new majority voting power and (b) the raising capital The improper purpose is likely to be dominant and significant purpose b/c : The impermissible purpose was causative: Whitehouse Finance was not urgent, Mill only in tender stage: Howard Smith There is no demonstrable benefit to the company as the transaction as the shares have been undervalued: Kokotovich Good Faith: Best interests of the Company Here the best interest of the Co are the collective interests of existing shareholders as whole In beach? Notwithstanding the threat of a takeover or any beliefs on the part of the directors that they were acting in the Co�s best interests , the reasonable person would not have issued shares in exchange for an unsecured guarantee which was inadequate consideration for the issue.

17. Sample Response Financial Assistance Arguably the share issue breaches s 260A(1)(a) as it materially prejudices the shareholders as whole Similar to ASIC v Adler in that involves conversion of a company asset into one of lesser quality Further information regarding the undervaluation of the shares will be need to make out this offence. Relief ASIC: civil liability of up to $200,000 per director Under statute and at general law, directors may be liable to pay compensation Share Transaction will not be set aside unless there is evidence that Notes had notice of the director�s impropriety.