Conflicts of Interest and Duty and Continuous and Periodical Disclosure - Assignment Example

CORPORATE LAW QUESTION ONE – CONFLICTS OF INTEREST AND DUTY Conflicts of Interest A conflict of interest is a situation that enables a director to misuse his position for business or personal gain. When a particular decision can be advantageous to a director or some person proximate to the director, then that director cannot decide impartially and has a conflict of interest. In contrast to this, a conflict of duty is a conflict between two dissimilar ethical or legal duties. It comes to the fore when the obligations of a director towards a company are compromised due to his obligations towards another company.1 Corporate governance concentrates upon material conflicts of interest. A formal description of a material conflict of interest in the statutory law is lacking. Consequently, the degree to which an interest can be described as material has to be assessed on the basis of the circumstances of specific instances. The term material, in the case law, denotes that a reasonable individual could surmise that the conflict has the capacity to affect the vote of the concerned director. 2 There is no necessity for the interest to have a direct financial nature. For instance, the personal relationship of a director could be relevant. For example, the spouse of the director could be an employee of the company, and the board could be envisaging a decision regarding remuneration that could affect this spouse. In this case, the director would have a material interest. It is indispensable for every director to determine whether he has a material personal interest. Moreover, the other directors cannot declare a conflict of interest for a director, regarding whom they are convinced that there is a conflict of interest. 3 The directors of a company owe fiduciary duties towards the latter. It is a significant legal relationship and constitutes a duty of the utmost good faith and trust. From this perspective, directors have to make their interests subservient to those of the company. As such, directors cannot place themselves in situations involving a personal interest that conflicts or could conflict in the future with the company’s interests. 4 Conflicts of interest could be direct or indirect, and the directors have a duty to ensure that in transactions with the company, they do not have a personal interest. When a director enters into a contract with the company by personally contracting with the latter, it constitutes a direct contract with the company. On the other hand, a director can also enter into an indirect contract with the company, for instance as the directory of another company. In both these cases, the director is in breach of the aforementioned duty.5 As such, the fiduciary nature of the role of a director is reflected in the common law rule against conflicts of interest. The gist of this rule is that the director has to avoid situations entailing a reasonable likelihood of conflict between the personal interests of the director and that of the corporation.6 The statutory duties of directors are enshrined in the provisions of the Corporations Act. Sections 182 and 183 of the Corporations Act 2001, impose a duty upon directors to abstain from misusing their position or information to which they are privy as directors, to obtain an advantage for themselves or others. They are also precluded from jeopardising the interests of their company. In addition, the common law imposes fiduciary duties on directors, which prohibit them from utilising their position for personal advantage. 7 However, there is an overlapping between the statutory duties imposed by the Corporations Act 2001 on directors and such fiduciary duties. The judiciary has categorised these fiduciary duties as the following obligations. First, to act bona fide in the best interests of the company. Second, to exercise powers for a proper purpose. Third, to maintain discretion. Fourth, to avoid any conflict of interests.8 There are four guiding principles that supports the policies and procedures of conflicts of interest. First, to protect the public interest. Second, to support accountability and transparency. Third, to promote personal example and individual responsibly. Fourth, to create a supportive organisational culture. 9 For example, the issue in ASIC v Adler,10 was a $10 million payment made by a subsidiary of HIH to a company whose sole director was Adler. Around $4 million was employed, via a trust mechanism, to obtain HIH shares. In addition, this trust mechanism was utilised for purchasing venture capital unlisted investments from another company owned by Adler, and for providing loans to some of the associates of Adler.11 These transactions were not divulged and had not been approved of by the company board or members. Moreover, there were several serious lacunae in the documentation obtained for granting these loans. In addition, no security had been sought for providing these loans, and the disbursement of these loans was in a manner that would not attract the attention of the other directors of HIH. 12 The court held that Adler had breached certain sections of the Corporations Act 2001.13 The first was the Section 181 of the Corporations Act 2001, which required the director of a company to act in good faith and for a proper purpose. The second infringement was that of Section 182 of this act, which stated that the director had a duty to not to improperly use position. The third breach was that of Section 183, which enjoined a duty not to make improper use of information. The last violation was that of Section 180, which imposed a duty upon directors to act with diligence and due care. 14 It was determined by the court that three of the former directors of HIH, in conjunction with a corporation controlled by Adler, had with full knowledge engaged in the breach of the related party rules. This was under Section 79 of the Corporations Act 2001. In their defence these individuals had contended that they had erroneously concluded that the transaction came under the ambit of the arm’s length exception. This exception has been described under Section 210 of the Corporations Act 2001.15 As such, in ASIC v Adler,16 the court ruled that directors had a higher obligation to ensure that the essential corporate approvals had been procured. This was with regard to situations involving potential conflicts of interest. Public companies that are licensees of Australian financial services, are obliged to manage conflicts adequately. This entails, in general, upon recording the reasons for relying upon the arm’s length exception. The term arm’s length, as deduced from the case law, denotes a relationship between parties, wherein no specific duty or obligation is borne by either of the parties towards the other party.17 Conflict of interest emerges from situations wherein a director has interests that conflict with the interests of the company. It also arises when the director has interests that could reasonably be regarded as being in conflict with the interests of the company. Every director is under a personal statutory obligation to reveal any conflict of interest. At some stage of their career, the majority of the directors are likely to encounter such conflicts of interest. There is nothing wrong in the existence of such interest. As such, a conflict of interest does not intrinsically generate a breach of duty. QUESTION TWO – CONTINUOUS AND PERIODICAL DISCLOSURE Continuous Disclosure The Corporate Law Reform Act 1994 furnished a statutory basis for the continuous disclosure requirements of the Listing Rules of the ASX, BSX and NSX. In addition, it made it obligatory for the unlisted disclosing entities to fulfil continuous disclosure requirements. Investor protection and market integrity are critically dependent upon disclosure. Continuous disclosure improves investor participation in a confident and informed manner, in the secondary securities markets. The listing rules of the National Stock Exchange of Australia (NSX) provide for continuous disclosure. 18 In 2002, draft amendments advocated transfer of the carve-out to Listing Rule 3.1A, to prevent materially price sensitive information from being concealed by a listed entity. In addition, the scope of the carve-out was to be limited, by mandating that listed entities had to release adequate information to rectify a false market for their securities. Under this proposal, materially price sensitive information could be retained confidential, as long as it did not cause a listed entity to forsake its duty to circumvent a false market for its securities. 19 There are three prescribed financial markets in Australia, namely the ASX, BSX, and NSX. The statutory basis for the continuous disclosure requirements of the listing rules, for these financial markets, is provided by the Corporations Act 2001. Consequently, breach of the relevant listing rule is, in addition, a breach of Subsection 674(2) of the Corporations Act 2001. 20 Moreover, Subsection 674(2) of the Corporations Act 2001 provides a financial services civil penalty. Thus, for a serious loss a financial penalty could be imposed that does not exceed $200,000. In addition, Subsection 674(2) of the Corporations Act 2001 empowers the courts to grant an array of other orders, with respect to its contraventions. Some of these are compensation and injunctive orders.21 These provisions emerged from the Corporate Law Reform Act 1994. A report by CASAC in 1991, formed the basis for these provisions. This report had recommended the implementation of a superior statutory disclosure arrangement. Before these legislative amendments, the continuous disclosure system had been contained only in the ASX Listing Rules. 22 All the same, with the enactment of the Corporate Law Reform Act 1994, listed companies were obliged to adhere to a stricter regime of periodic reporting. Such reporting had to be undertaken periodically, throughout the year. Section 317A(1) of the Corporate Law Reform Act 1994 introduced the enhanced disclosure (ED) regime. This required submission of accounts of companies that could be classified as disclosing entities. 23 The recommendations emerging from this piece of legislation, were; audit of biannual statements, wider disclosure in annual and biannual financial statements submitted to ASIC, and more detailed preliminary and half-yearly reports submitted to ASX. In addition, Section 317A(1) of the Corporate Law Reform Act 1994, required the disclosing entities to submit financial statements to ASIC for the accounting period. A disclosing entity is required by the current legislation to lodge annual and semi-annual financial reports. Moreover, a copy of these reports has to be furnished to ASX, since this disclosure to ASIC is deemed to be material, under the provisions of Section 1001D/677 and the listing rule 3.1. 24 In addition, Subsection 675(2) of the Corporations Act 2001 requires unlisted disclosing entities to reveal materially price sensitive information to ASIC, as quickly as reasonably possible. The exception is when such information has to be included in a replacement or supplementary disclosure document. In addition, the provisions and remedies that come into play on account of a contravention of Subsection 674(2) of the Corporations Act 2001 are also applicable to contravention of Subsection 675(2) of the Corporations Act 2001.25 QUESTION THREE – SMITS V BROWN In Smits v Brown, 26 the plaintiff had once again engaged in the same proceedings against the defendant. Initially, he had done so in July 2008, which had been dismissed by the court in August 2008. Therefore, it was contended by the counsel for the defendant that Smits’ claim for the same debt against Brown was inadmissible. 27 In support of this contention, it was claimed that first, the entry of judgment extinguished the right to maintain proceedings on the same cause of action. Second, the action was barred by an Anshun estoppel, to the extent that the claim was based upon some other basis.28 This type of estoppel was identified in Port of Melbourne Authority v Anshun Pty Ltd.29 It can preclude a party from making claims that should have been pursued in the former proceedings. A judicial determination is distinguished by the following fact. When it involves an issue of fact or of law, it disposes, with finality, the issue under consideration. Hence, it can no longer be raised between the same entities. The estoppel, in question, encompasses solely those issues that the previous decree, judgment or order had ineludibly determined to be the legal basis or validation of its decision. This is independent of whether moneys are to be recovered, whether an act has to be mandated or prohibited, or whether rights are to be affirmed. 30 Issue estoppel and res judicata are dissimilar in that the cause of action or right claimed or contested has in the latter instance transited into judgment. This renders it merged and therefore bereft of an independent existence. On the other hand, with regard to issue estoppel, the object of some other cause of action or claim, or law is alleged or denied, and the existence of the same is determined on the basis of prior judgment, order, or decree.31 I do not agree with the findings of the court, since they ignored new claims, such as the plea of debts assigned to Smits by the firms, Setglade and Baseline. The court did not make any findings regarding this new claim. In other words, it was not decided whether that debt was a partnership debt, having a binding effect on the former partner Brown, and whether those debts were incurred during the winding up of the partnership. Without making any final determination in this regard, summary judgment would result in injustice to the claimant. BIBLIOGRAPHY A Cases ASIC v Adler [2002] NSWSC 171. Port of Melbourne Authority v Anshun Pty Ltd [1981] HCA 45. Smits v Brown [2012] QSC 180. B Legislation Corporations Act 2001 (Cth). Corporate Law Reform Act 1994 (Cth). C Other Australian Government The Treasury, Strengthening the financial reporting framework . Australian Institute of Company Directors, Conflicts of interest and duty (2012) . Australian Securities and Investments Commission, Related party transactions (2011) . Continuous Disclosure for Australian Listed Companies . Galbraith, C, Conflicts of Interest (1 April 2007) Australian Institute of Company Directors . Governance Institute of Australia, Good Governance Guide (2014) . Independent Commission Against Corruption, Managing Conflicts of Interest in the Public Sector (2004) . PricewaterhouseCoopers, A guide to directors’ duties and responsibilities for non-listed public companies and proprietary companies in Australia (2011) . Supreme Court of Queensland, Smits v Brown (2012) . Read More