Sunlight in an area of uncertainty

Professor Bob Baxt discusses a recent court case that examined whether a director was in breach of his duties when he took up an opportunity rejected by his company. 

Readers of this column will know that our law provides that directors should not allow a conflict of duty and interest to occur when carrying out their obligations and exercising their powers. The common law and the Corporations Act 2001 contain rules that are aimed directly and indirectly at ensuring directors do not take advantage of their position in a company so as to gain personally for themselves at the expense of the company. This may apply to prevent them misusing their position, using information confidential to the company or otherwise allowing a conflict to occur.

Our courts have found that one of the most difficult areas of the law for them to resolve disputes in is when this type of scenario occurs. A director is an influential person in his or her company. People who wish to sell an asset to the company, or offer the company an opportunity to engage in a major transaction, approach that director and encourage him or her to persuade the director’s company to purchase that asset or engage in the opportunity. The director brings the matter to the attention of the company. The board considers the matter and decides, usually with the director not participating in the matter, not to go ahead with the acquisition or not to take up the opportunity. Can the director, in those circumstances, take up the opportunity to purchase the asset, either in the director’s own capacity or through a separate company controlled by the director? This type of scenario can create significant problems for directors and raise fascinating questions before the courts.

The recent decision of Justice Ball in the New South Wales Supreme Court in Gladstone Pacific Nickel Ltd [2011] NSWSC 1235 posed a similar problem. In this case, Robash, a shareholder who held 2.2 per cent of the issued capital of Gladstone Pacific Nickel Limited (GPNL), sought leave to bring proceedings on behalf of this company against a leading mining entrepreneur, Clive Palmer, and three companies that were either owned or controlled by him, claiming Palmer was in breach of his duties as a director of GPNL. The claims arose in two ways. First was that he was in breach of his duty by allowing a conflict of duty and interest to occur in the carrying out of his duties in GPNL. Second was that he took up an opportunity that had come to GPNL while he was a director and pursued this opportunity through another company he controlled.

BHP Billiton owned a valuable nickel refinery at Yabulu and approached Palmer to see whether GPNL might be interested in acquiring it. Palmer brought the matter to the attention of the board of GPNL. Palmer owned over 50 per cent of the shares in GPNL. For various reasons, GPNL decided not to acquire the Yabulu nickel refinery. Instead, another company owned by Palmer agreed to purchase the nickel refinery from certain subsidiaries of BHP Billiton (Palmer had since resigned as a director of GPNL).

It was alleged by Robash that this amounted to a breach of duty by Palmer and the usurpation of a corporate opportunity. Robash wanted GPNL to sue Palmer (and his companies) but this would not occur while Palmer controlled GPNL.

Where a claim is made by a shareholder that directors have breached their duties, the claim is usually brought by the company against the director. If, however, the company chooses not to bring the action, or indeed if there is no real chance that the company will sue (for example, if the relevant director owns a majority of shares in the company), the provisions of sections 236 and 237 of the Corporations Act (the derivative action provisions) enable other shareholders to bring an action in the name of the company providing they have obtained leave from the court.

The allegation in this case was that Palmer had used his position as a director of GPNL, as well as his knowledge as a director of GPNL, to obtain a benefit for himself, or his subsidiaries, in acquiring the refinery.

In a case such as this, the judge had to satisfy himself or herself on a number of issues. These included that there was a serious question of law to be tried and that it would be in the interests of the relevant company to bring these proceedings.

Justice Ball in Gladstone carried out a detailed examination of the facts. The critical facts were that while a director of GPNL, Palmer received important information on whether GPNL should purchase the Yabulu nickel mine. There is little doubt that as a mining entrepreneur he would have been interested in this potential mining property if GPNL, for some reason, chose not to pursue it.

Was he in breach of his duties as a director, if, once GPNL had decided not to pursue the particular transaction, he could influence other companies in which he had a controlling interest to pursue the particular acquisition?

As Justice Ball noted: "Although … the proposed statement of claim pleads that Palmer breached his duties under sections 180, 181 and 182 of the [Corporations Act], as well as the duties he owed at common law, the statutory and common law claims rely on substantially the same facts and it is not suggested that they raise substantially different issues.

The critical question in both cases is whether there was a serious question to be tried [that Palmer acquired the relevant refinery]… in circumstances where he had an actual or possible conflict of interest and duty or in circumstances where he used his position as a director of GPNL, or information he acquired as a director of GPNL, for his own benefit. If he did, there is a question whether he obtained GPNL’s fully informed consent to his conduct." (at [69])

As noted earlier, Palmer had been approached by BHP Billiton because it felt he could influence GPNL to buy the nickel refinery. On the facts of the case (and I do not need to go into those for our purposes), Justice Ball was satisfied that Palmer had disassociated himself from the consideration of these matters by GPNL. The matter was considered by the remaining members of the board.

Having reviewed the evidence (much of it discussed in his interesting judgment), Justice Ball concluded: "[The] evidence falls short of establishing that there is a serious question that Palmer was in a position of conflict or possible conflict at the time he engaged in the conduct" (at [74]).

Justice Ball further noted that the only reasonable inference that could be drawn from the facts was that Palmer "had decided that he would not seek to acquire [the relevant refinery] for himself unless and until GPNL’s bid failed" (at [75]).

Justice Ball considered earlier cases in which the question of a misuse or usurpation of a corporate opportunity had been considered and concluded that on the facts, GPNL actually could not pursue the acquisition. In those circumstances, it was not improper for Palmer and his companies to take up the opportunity which had lapsed.

In reaching this conclusion, Justice Ball also ruled that Palmer had not committed a breach of any common law or statutory duties – he had not allowed a conflict of interest to occur.

By disclosing the matter to the board and encouraging GPNL to take it up, Palmer had clearly painted a dividing line. There was no way BHP Billiton would continue to deal with GPNL.

The second question that had to be considered by Justice Ball was whether it would be in the interests of GPNL to pursue the relevant claim. Because he had already ruled that there was no serious question of law to be tried (based on the evidence I have discussed, briefly above), Justice Ball concluded that it would not be sensible for Robash, on behalf of the company, to utilise its resources to sue Palmer and his associated companies.

The Gladstone decision is one that may well go on appeal because it raises important questions of law that come before the court from time to time. There are many cases in which the courts reach different conclusions to that reached by Justice Ball. Each case will turn its own facts and clearly depend on the nature of those facts. If there is an appeal in this case, it seems difficult to see how a court could reach a different conclusion unless it holds that Justice Ball misdirected himself in the consideration of the facts, and that there was a continuing obligation on the part of Palmer not to be involved in the transaction of this kind.

Professor Bob Baxt AO FAICDLife is an emeritus partner at Freehills and chairman of the Australian Institute of Company Directors’ Law Committee