On 8 September 2009, in the matter of ASIC v Somerville & Ors  NSWSC 934, the Supreme Court of NSW found that eight non-related directors of separate companies had breached their duties under the Corporations Act 2001 (Cth) (Act) by engaging in ‘phoenix1’ type asset stripping. The directors had all received and acted on advice provided to them by the same solicitor. In the first time that ASIC has successfully taken action against a solicitor for their role in a phoenix scheme, a solicitor was found to have also breached the Act for his part in aiding and abetting the directors’ actions.
Advisers, be warned
While this case was about a solicitor, there is nothing in the judgment, or the Act, that prevents a similar finding being made against other advisers, for example, insolvency practitioners advising near-insolvent companies. Advice or assistance to clients to carry out improper activities, even where that advice is nicely worded or the transactions are ‘sugar coated’ for the perception of legitimacy, may find the adviser in trouble with ASIC and the courts.
In ASIC v Somerville & Ors, eight directors of unrelated companies sought advice from their solicitor, Somerville, in circumstances where their companies were nearing insolvency. In each case, Somerville advised the directors to transfer the assets of the existing company to a new company, under an agreement whereby the existing company received shares in the new company as consideration for the purchase. To effect the transaction, Somerville arranged the registration of the new company, prepared the necessary returns and resolutions for the new company, and drafted the relevant sale agreements. Somerville advised that the transactions were not an asset stripping exercise because the creditors of the existing company would be paid out of the proceeds of dividends from the shares. In reality, there were no dividends declared on the issued shares, and the court found that there was no genuine intention that dividends would ever be paid for the benefit of creditors.
The court found that the purpose and effect of the transactions was to take assets out of the reach of creditors. The directors were held to have breached the following duties that they owed to the company (and, nearing insolvency, its creditors):
- under s181(1), the duty to act in good faith and for a proper purpose;
- under s182(1), the duty not to improperly use their position to gain an advantage for themselves or someone else; and
- under s183(1), the duty not to improperly use information obtained in their position as director, to gain an advantage for themselves or someone else.
Subsection (2) to each of sections 181-183 is in the same terms and states:
“A person who is involved in a contravention of subsection (1) contravenes this subsection.”
As to who is considered to be involved in a contravention, s79(a) provides that a person is involved in a contravention if they have “aided, abetted, counselled or procured the contravention.” Somerville advised on, and provided the documents required to effect, the transactions. The court found that, but for his involvement, the transactions would not have taken place. At paragraph 49, in finding Somerville liable under s79, Acting Justice Windeyer commented:
“… when advice is given by a solicitor to carry out an improper activity and the solicitor does all the work involved in carrying it out apart from signing documents, it seems to me that there can be no question as to liability.”
That the directors were taken to court by ASIC was not completely surprising: ASIC has warned that it is keeping a close watch on the actions of directors throughout the global financial crisis. Nor, on the facts of the case, was the finding against them novel (though it should serve as an important reminder of the responsibilities and duties of directors when their companies near insolvency).