Breach of directors' duties in the Corporations Act

What are the Consequences of Breaching Director's Duties Under the Corporations Act?

Directors of Australian companies have significant responsibilities under the Corporations
Act 2001 (Cth) (Corporations Act). Breaching these duties can result in serious
consequences, including civil penalties, criminal charges, and disqualification from managing
corporations. This article explores the key duties of directors under the Corporations Act and
the implications of breaching these obligations.

Core Directors' Duties

Act with care and diligence (section 180)

Directors must exercise their powers and discharge their duties with the degree of care and diligence that a reasonable person would exercise if he or she were a director in the
company's circumstances and had the same responsibilities of that director.

This duty requires directors to:

• become familiar (and maintain familiarity) with the fundamentals of the business or businesses of the organisation;
• stay informed and make appropriate inquiries about the organisation's activities;
• monitor, generally, the organisation's affairs and policies;
• maintain familiarity with the organisation's financial status by appropriate means, including review of its financial statements and board papers and make further inquiries into matters revealed by those documents where appropriate; and have an informed opinion of the organisation's financial capacity and solvency.

Act in good faith (section 181)

Directors must exercise their powers and discharge their duties in good faith in the best interests of the corporation, and for a proper purpose.

Not improperly use information or position (sections 182 and 183)

Directors must not improperly use their position, or information they obtain because they are or have been a director, to gain an advantage for themselves or someone else, or cause detriment to the company.

Manage conflicts of interest

Directors must avoid or appropriately manage conflicts between personal interests and the company's best interests.

Prevent insolvent trading (section 588G)

Directors have a duty to ensure that a company does not trade whilst insolvent or where they suspect it might be insolvent.

What are the Consequences of Breaching Directors' Duties?

Breaches of directors' duties can result in various consequences: 

Criminal sanctions

Contravention of certain duties under the Corporations Act or other laws constitutes a criminal offence. For example, under the Corporations Act, contravention of the duty of good faith or improper use of information or position, if it involves dishonesty or recklessness, is punishable by substantial fines and potential imprisonment for up to 15 years (s 184).

Civil sanctions

A contravention of the duties under the Corporations Act can make a director liable to a substantial fine. Shareholders or others (for example, creditors) may also take action against directors who have failed to comply with their duties.

Disqualification

Both ASIC and the courts have the power to disqualify directors for long periods of time for failure to comply with their duties under the Corporations Act (Part 2D.6). Directors are automatically disqualified on conviction of certain serious offences or an undischarged bankruptcy (s 206B).

Commercial consequences

The most serious consequences of breaching directors' duties are often not the legal ones but the commercial ones. A corporation's most valuable asset is its reputation. The company will likely be subjected to much greater scrutiny, both by investors and regulators, where directors breach duties. At worst, market and stakeholder reaction may mean the company will cease to exist."

How do Directors Protect Against Breaches?

Directors can take steps to protect themselves:

Business judgment rule

This rule seeks to avoid unnecessary restrictions on proper entrepreneurial activity. It provides a defence for directors in relation to the duty of care and diligence if they:

• make the judgment in good faith for a proper purpose;
• do not have a material personal interest in the subject matter of the judgment;
• inform themselves about the subject matter of the judgment to the extent they reasonably believe to be appropriate;
• andrationally believe that the judgment is in the best interests of the corporation.

Stay informed

Directors should apply an enquiring mind, consider the overall position of the company, test information put before them by management and proactively consider what other information they require.

Manage conflicts of interest

Once a conflict has been identified, the board must decide if it can be managed, and how. This may include refraining from discussions, leaving the room, or abstaining from voting on related matters.

Directors must be aware of their duties under the Corporations Act and the potential consequences of breaching these obligations. By understanding these duties, seeking appropriate advice, and implementing good governance practices, directors can minimise the risk of breaches and protect both themselves and their companies.

The AICD has a range of courses and programs to enable directors to effectively perform their duties.