Identifying a de facto director

Professor Bob Baxt explains why clarity around whether a person is a de facto or shadow director is a central theme for consideration by the court.

In these cases, the allegation of whether a person is a de facto or shadow director is occupying a central theme for consideration by the court.

The Australian Securities and Investment Commission (ASIC), and the liquidator of the Queensland Nickel Company, which was primarily financed by Clive Palmer, are conducting examinations of Palmer in the Federal Court to ascertain to what extent, if any, his involvement in the company meant that he should be regarded as a de facto or shadow director. The case has attracted considerable attention and the New South Wales Supreme Court in the matter of ACN 092 745 330 [2017] NSWSC 241, has provided some useful guidance on the way in which these matters should be evaluated.

In essence, the liquidator of the relevant company (i.e. ACN 092 745 330) was seeking to hold a Mr Battaglia responsible as a de facto director of the company for certain payments that he had made to himself, his wife and their family company, Fellmane Pty Limited (Fellmane).

It is unnecessary for me to consider the effect that such a ruling would have on the interpretation of ss 588FF and 588FDA of the Corporations Act 2001 (Cth) (the Act) in the context of this litigation. These provisions enable the regulator, or persons in a similar position, to obtain an order for repayment of payments made in breaches of the law. The facts that are relevant to our consideration are these. Battaglia was, at all material times, an officer of the relevant company and the question was whether he should be considered a de facto director pursuant to the interpretation of s9 of the Act. It was alleged by the liquidator that at all material times, Battaglia directed and managed the business of the company and that he had breached both statutory and fiduciary duties owed by him to the company. The liquidator sought to recover significant sums from Battaglia; actions were also brought against the family company, Fellmane and Battaglia’s wife.

The judgement

Acting Justice Barrett (he recently retired as a member of the New South Wales Court of Appeal) in considering the legal principles in assessing whether Battaglia was a de facto director, turned to s9(b)(i) of the Act and the Full Federal Court’s decision in Grimaldi v Chameleon Mining NL (No 2) [2012] FCAFC 6 (Grimaldi) for assistance.

He noted that in Grimaldi (at paragraph 70), the Full Federal court stated that cases in Australia and England have typically established “to be a ‘de facto director’ a person must be shown to have assumed or performed functions which only a de jure director or board can properly perform or which are the ‘sole responsibility’ of a director or board” (see the current case at paragraph 110).

The court in Grimaldi further noted, that while the shorthand description set out in the quotation above summarised in part “what is required to be established that a person is a sole director” may be understandable, “it has the capacity to mislead in that it suggests that the duties or functions that can only properly be performed by de jure directors – or which are their sole responsibility – are capable of a priori ‘description’”.

This may be possible in relation to those functions required by the Act or by the corporation’s constitution to be performed by directors or by the board (assuming the directors’ powers of delegation have not been exercised) see s198D of the Act. However, Acting Justice Barrett added that when one had to consider the fundamental functions of the management of a company “a priori classification has no general utility.”

The judge then turned to consider what he regarded to be the typical questions that one should examine to determine whether a person is a de facto or de jure director. He added that any comparison “of what an alleged de facto director does with the things done by a duly appointed director must take account of [all] relevant circumstances” (paragraph 113). He went on to consider some cases in the UK, which dealt with this matter in a slightly different fashion.

He concluded this general analysis by noting (at paragraph 113) that the focus should be on “the way the person operates within the particular corporate governance context, the degree of autonomy exercised and the appearance (and reality) of authoritative operations as a primary level decision-maker for the company.”

Directors and officers

The next part of his judgment examined in some detail various factors involved in Battaglia’s management of the company. He did not believe that there was any holding out by the company that Battaglia was a director.

While some outsiders may have considered him to be a director, this was not the way that he should be assessed from the relevant facts. The judge turned to the decision of Justice Black In the matter of Swan Services Pty Ltd [2016] NSWSC 1724 to confirm his view that Battaglia did not fit within the definition of “director” in s9 of the Act.

While he agreed that Battaglia did participate in making decisions that affected a substantial part of the business of the company, this made him an officer but not a director. In his view, the relevant company and the way it operated established that any claims against Battaglia pursuant to alleged breaches of the Act were breaches that needed to be brought in the context of him being an officer as opposed to a de facto director.

Being an officer of the company meant that he owed fiduciary duties to the company. Employees are a fiduciary in many cases and the legislation provides an extension of some of the fiduciary duties. Acting Justice Barrett relied on a number of cases to establish that Battaglia was to be considered a fiduciary of the company.

This required him to then consider the liability of Battaglia, if any, for the claims being made because he was an officer of the company and subject to fiduciary duties. Once again the judge found it useful to examine relevant cases, and in particular he relied on the decision of the New South Wales Court of Appeal in Crowe-Maxwell v Frost (2016) 91 NSWLR 414.

He concluded this examination by noting that a threshold question should be considered in cases of this kind: “whether the circumstances surrounding the payments in question show a departure from normal commercial practice such as to raise an inference of lack of commercial benefit to the company and whether there is some commercial explanation for what occurred” (paragraph 128).

In his view, most of these payments did have an adequate commercial explanation, the details of which are unnecessary for us to discuss in the context of this note.

Similarly, after examining the employment circumstances of Battaglia and the way in which payments were made to him, the judge concluded that the payments made to him could be accepted as cogent commercial payments. There was no evidence that Battaglia had unilaterally imposed either his own remuneration arrangements or the arrangements under which his wife was to be reimbursed upon the company, nor was Battaglia acting in an unreasonable fashion. After considering other evidence relating to the way in which these payments had been made and the manner in which Battaglia conducted the business of the company as an employee, his Honour ruled that the actions brought by the liquidator against Battaglia failed.

This decision is one of a growing number of such cases. In these cases, the allegation of whether a person is a de facto or shadow director is occupying a central theme for consideration by the court.

It is certainly advisable for directors who are faced with the difficulty of having to manage small companies (usually small private companies), to take account of the fact that they are often to be considered as acting in a fiduciary capacity.

As a result, the persons liable to the reach of provisions in the Act that require certain fiduciary duties to be observed, should minimise or limit the possible exposure of their activities to examination in that context. There will no doubt be many more cases in the months ahead in the context of these areas of law.