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Focus: Corporate Governance – July 2005

Extent of liability of corporate officers and other individuals under review

In brief: The extent to which corporate officers and other individuals may be held personally liable is considered in two recently released Corporations and Markets Advisory Committee discussion papers. Senior Associate Katrina Bobeff and Lawyer Christine Swan explain.

Introduction

The Corporations and Markets Advisory Committee (CAMAC) released two discussion papers during May, which consider the extent to which corporate officers and other individuals may be held personally liable, albeit in different contexts.

In short, the discussion paper entitled:

  • Personal liability for corporate fault looks at the circumstances in which, where a corporation has contravened a statutory requirement, a director or manager of the corporation may be personally liable for that contravening conduct simply as a consequence of the position they hold, or the function they perform, within that corporation (and not as a consequence of their actual acts or omissions) (derivative liability) and proposes a number of model templates for the imposition of individual derivative liability both within and across each jurisdiction of Australia; and
  • Corporate duties below board level reviews the extent to which corporate officers (excluding directors), employees and other individuals are subject to personal duties and liabilities under the Corporations Act 2001 (Cth) and considers whether those classes of persons should be extended and whether a general dishonesty provision should be introduced into the Corporations Act.

An overview of the key issues raised, and the proposals made, in each of these two discussion papers is set out below.

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Personal liability for corporate fault
Review of existing derivative liability provisions

In preparing its discussion paper on Personal liability for corporate fault, CAMAC reviewed the means by which Commonwealth, state and territory environmental protection, occupational health and safety, hazardous goods and fair trading legislation impose derivative liability on directors and managers of corporations.

In essence, CAMAC found that the approach taken both within and between the Commonwealth, state and territory jurisdictions for imposing individual derivative liability is inconsistent. Broadly, however, the derivative liability provisions reviewed by CAMAC used one of four approaches to determine whether an individual may be held criminally liable as a result of a contravention by a corporation, namely, whether the individual:

  • held formal positions within the corporation (positional liability);
  • was concerned with, or involved in the management of, the corporation (managerial liability);
  • had operational or organisational responsibility for the contravening conduct (responsible officer liability); or
  • promoted, authorised or acquiesced in a contravention by the corporation (participatory liability).

CAMAC's concern is that this inconsistency may increase compliance costs and detract from good corporate governance by making it more difficult for directors and other individuals to fully comprehend their legal responsibilities. Accordingly, CAMAC has specifically invited comment on whether any companies have encountered difficulty as a result of the differences between statutes that impose individual derivative liability.

Public interest considerations versus individual rights

CAMAC notes that the individual rights of directors and other individuals must be balanced with the public interest of ensuring corporations (and their directors and officers) are duly accountable for corporate misconduct.

One justification for the imposition of individual derivative liability is that it may provide a greater incentive for those involved in the management of a corporation to monitor corporate compliance. Although CAMAC queries whether accessorial liability might be sufficient, it notes that one argument for going beyond accessorial liability to derivative liability is to impose an obligation on at least some individuals in key positions within a corporation to inform themselves and assist in the prevention of any misconduct by the corporation.

Arguably, the balance between the individual rights of corporate officers and the public interest of ensuring corporate compliance lies in the availability of fair and reasonable defences for corporate officers against any claim of individual derivative liability for corporate misconduct.

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General derivative liability template

CAMAC is of the view that one way to address the inconsistency in individual derivative liability provisions is to develop a standard legislative template for imposing such liability. It sees the benefits of a more standardised approach as including greater legal certainty and the ability for cost-effective compliance measures to be implemented.

Accordingly, CAMAC has put forward the following alternatives as possible templates for a general derivative liability provision, which could be incorporated into the Corporations Act or promoted as a model to which regard is to be had in drafting such a provision. Each alternative for general derivative liability is based on the concept of managerial liability (referred to above).

Approach proposed by the Australian Law Reform Commission

Under the approach proposed by the Australian Law Reform Commission (ALRC), if a corporation has contravened a statutory requirement, then to subject an individual associated with that corporation to personal liability under a derivative liability provision, the prosecution would need to establish beyond a reasonable doubt that the individual:

  • is concerned or takes part in the management of the corporation;
  • was in a position to influence the corporation's conduct in relation to the relevant conduct;
  • knew, or was reckless or negligent as to whether the contravening conduct would occur; and
  • failed to take reasonable steps to prevent that conduct.
Approach predominantly reflected in state and territory legislation

One alternative to the ALRC proposal is the approach primarily reflected in existing state and territory legislation. Under that approach, if a corporation has contravened a statutory requirement, then any director or other person who is concerned in, or takes part in, the management of that corporation is also liable unless the person proves, on the balance of probabilities, that he or she:

  • was not in a position to influence the relevant conduct; or
  • exercised all due diligence, or took all reasonable steps, to prevent the relevant conduct.
Approach in the Occupational Health and Safety Act 2004 (Vic)

Another alternative is the approach currently contained in Victoria's Occupational Health and Safety Act. Under this approach, where an offence committed by a corporation is attributable to an officer of the body corporate failing to take reasonable care, that officer is also guilty of an offence.

In determining whether the officer took reasonable care, regard must be had to, among other things, the officer's knowledge and the extent of the officer's ability to make, or participate in the making of, decisions that affect the body corporate in relation to the matter concerned.

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Responsible officer derivative liability template

CAMAC also proposes an individual derivative liability template based on the concept of responsible officer liability (referred to above). In essence, where it is appropriate to identify one or more persons as being responsible for certain conduct, the particular legislation will provide that:

  • a corporation must appoint an individual within the corporation to be a responsible officer for that conduct or, alternatively, each director will be deemed to be a responsible officer; and
  • a responsible officer is liable for the corporation's non-compliance with that conduct unless they can prove all reasonable steps were taken to ensure compliance.  

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Corporate duties below board level

The discussion paper entitled Corporate Duties Below Board Level gives consideration to some of the recommendations made by Justice Neville Owen in the HIH Royal Commission Final Report, The Failure of HIH Insurance (the HIH Report) and, having regard to those recommendations, puts forward some possible amendments to the Corporations Act.

Extension of corporate duties imposed below board level: background

The HIH Report raised a series of questions about whether the Corporations Act adequately reflects the commercial practicalities of running a modern corporate enterprise. Traditionally, directors were the decision makers of a corporation but, in today's corporation, operational decision making may devolve to managers and other individuals below board level, including consultants and contractors. In the HIH Report, Justice Owen made the observation that many of the practices found to be undesirable within HIH were undertaken by middle managers, but that the law on the liability of middle managers is unclear. He also noted that, in today's corporate groups, many operational and management decisions are made by centralised executive committees or those employed by another corporation within the same corporate group.

The HIH Report recommended that, among other things, the definitions of 'officer' and other personnel upon whom duties are imposed under the Corporations Act be repealed and replaced with clear, simple and certain provisions (Recommendation 2) and that the focus be on the function performed by relevant personnel (rather than on their legal classification).

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Discussion paper

Having regard to the recommendations made in the HIH Report, in its discussion paper on Corporate duties below board level, CAMAC:

  • reviews existing personal duties and liabilities under the Corporations Act of corporate officers, employees and other individuals below board level; and
  • asks whether the classes of persons subject to sections 180(1) (the duty of care and diligence), 180(2) (the business judgement rule), 181 and 184(1) (the duties of good faith and proper purpose) should be extended to 'any person who takes part, or is concerned, in the management of that corporation' (Proposal 1, 2 and 3) (the Executive Officer Test).

This proposed extension closely reflects the 'executive officer' test, which was repealed from the Corporations Act in 2004, and includes a broader range of persons than the term 'officer' as it is currently defined in section 9 of the Corporations Act (for example, consultants, contractors and those outside the corporation but employed within the corporate group). CAMAC notes that there may be some benefit in clarifying the activities that fall within 'management' in the context of the proposed Executive Officer Test and, accordingly, queries whether 'the management of a corporation' should be defined (Proposal 1).

CAMAC also considers whether the application of the Executive Officer Test is sufficient for the purposes of sections 182 and 184(2) (improper use of corporate position) and sections 183 and 184(3) (improper use of corporate information). Concerned that it may not be, CAMAC queries whether the duties imposed by these sections should be extended to 'any other person who performs functions, or otherwise acts, for or on behalf of the corporation' (the Functions Test) (Proposal 4 and 5). Like the Executive Officer Test discussed above, this test is also intended to capture consultants, contractors and those outside the corporation but employed within the corporate group.

The Functions Test is also proposed for sections 1309(1) (knowingly providing false or misleading information), 1307(1) (misconduct concerning corporate books) and 1309(2) (ensuring the veracity of information) (Proposal 6, 7 and 8). CAMAC notes, however, that the extension of the duty in section 1309(1) may inappropriately extend its application (for example, to competitors) and that to extend the application of section 1309(2) may be overly burdensome.

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General dishonesty provision

Following a recommendation made in the HIH Report, CAMAC separately considers whether there should be a general dishonesty provision contained in the Corporations Act (ie a provision prohibiting individuals from acting dishonestly in connection with the performance or satisfaction of any obligation imposed on a corporation by any statute). It notes that the general dishonesty provision recommended in the HIH Report, which is referable to the obligations imposed on a company by 'any statute', is extremely broad and may capture obligations under overseas laws.

In addition, CAMAC highlights several possible difficulties with introducing a general dishonesty prohibition, including:

  • statutory duplication resulting in forum shopping;
  • the need to determine the responsibility for enforcement;
  • enforceability (to the extent that it applies to obligations under overseas laws); and
  • constitutional issues associated with including such a provision in the Corporations Act.

Accordingly, in seeking comment on this issue, CAMAC specifically asks whether any general dishonesty provision should be restricted to obligations only under the Corporations Act, or to obligations under Commonwealth, state and territory statutes applicable to corporations.

Submissions

Submissions on the first discussion paper are invited until 12 August and on the second discussion paper until 26 August. AAR intends to lodge a response to the paper on personal liability for corporate fault. Accordingly, if you would like to have your views reflected in our submission, please contact one of the partners listed below, or your contact partner.

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Conclusion

The Parliamentary Secretary to the Federal Treasurer, Chris Pearce, recently made a reference to CAMAC regarding the extent to which directors' duties under the Corporations Act should 'include corporate social responsibilities or explicit obligations to take account of the interests of certain classes of stakeholders other than shareholders'.1 This reference, together with the two discussion papers referred to above, indicate that the duties and obligations of directors and other corporate officers will be the subject of scrutiny for some time to come.

If you have any questions in relation to any aspect of the above, please contact one of the partners listed below, or your contact partner.

Footnote
  1. Letter from the Hon. Chris Pearce MP to the Corporations and Markets Advisory Committee dated 23 March 2005.

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