The Australian Securities & Investments Commission (ASIC) commenced civil proceedings in the Supreme Court of NSW against James Hardie Industries Limited (JHIL), James Hardie Industries NV (JHINV), seven former non-executive directors and three former executives of JHIL for breaches of the Corporations Act 2001 (Cth) (Act) in relation to the preparation and approval of public statements.
The decision is significant because it is the first time that ASIC has successfully prosecuted non-executive directors. The decision highlights the importance placed on the role of directors (both executive and non-executive) and senior executives when considering and implementing important strategic matters of a company. Aside from the corporate governance issues, the decision raises ASIC’s increasing focus on non-executive directors and senior executives below board level.
JHIL was the holding company of the James Hardie Group and manufactured and sold asbestos products until 1937. From 1937 to 1987 two wholly owned subsidiaries of JHIL, James Hardie & Coy Pty Ltd (Coy) and Jsekarb Pty Ltd (Jsekarb), also manufactured and sold asbestos products.
In early February 2001, the Board of Directors of JHIL established the Medical Research and Compensation Foundation (Foundation) to manage and pay out asbestos claims made against the James Hardie Group. In relation to the establishment of the Foundation, the Board approved a draft ASX announcement for public release. Also at this time, JHIL entered into a deed of covenant and indemnity with Coy and Jsekarb, which indemnified it from all liabilities arising from the manufacture and sale of asbestos products (Deed).
The James Hardie Group then released an ASX announcement which stated that the Foundation had assets of $293 million and would have sufficient funds to meet all legitimate compensation claims anticipated from people injured by asbestos products. A press conference was also held where it was alleged that Mr Macdonald, the CEO of JHIL, made statements conveying that the Foundation had sufficient funds. Similar ASX announcements were made about the Foundation in the following weeks. The Deed was not disclosed in any ASX announcement.
After the establishment of the Foundation, the James Hardie Group was then restructured under a new holding company, JHINV, which was incorporated in the Netherlands.
In 2002, Mr Macdonald gave presentations overseas about the James Hardie Group making representations that the Foundation had sufficient funds.
In February 2007, ASIC commenced civil proceedings against JHIL and JHNIV for misleading and deceptive conduct, false statements in relation to securities and continuous disclosure breaches. ASIC also commenced proceedings against the non-executive directors, the CEO, General Counsel and the CFO of JHIL.
In summary, Gzell J found that:
- In relation to the draft ASX announcement - all seven former non-executive directors, the CEO, the General Counsel and the CFO of JHIL had breached s180(1) of the Act by failing to ensure that the draft ASX announcement regarding the Foundation holding sufficient funds to pay compensation was not misleading or deceptive
- In relation to the Deed – the CEO and General Counsel had breached s180(1) of the Act by failing to advise the Board appropriately to disclose the Deed
- In relation to approving the ASX Announcements - the CEO breached s180(1) of the Act by failing to ensure that the ASX Announcements were not misleading or deceptive. JHIL had also breached ss995(2) and 999 of the Act by releasing the ASX Announcement which was misleading and deceptive
- In relation to the presentations made by the CEO – he had breached s180(1) of the Act by failing to ensure that the presentations were not misleading or deceptive. JHINV had also breached ss1041E and 1041H of the Act by engaging in misleading and deceptive conduct in relation to those presentations made to the ASX.
His Honour also found that ASIC had failed to establish a number of allegations against the James Hardie Group, its non-executive directors and executives. These allegations included a claim against the CEO for breach of s181 of the Act in relation to his obligations to act in good faith.
There were a number of factors which were considered by His Honour in finding against the executive and non-executive directors and executives of the James Hardie Group, including the experience, sophistication and intelligence of the directors, the nature of the company and the significance of the restructure, and the fact that the non-executive directors were given considerable professional advice in connection with the restructure.
In late July 2009, the Court heard submissions from all parties as to whether the various defendants should be exonerated under ss1317S or 1318 of the Act for these contraventions, or whether some form of penalty or other sanction should be imposed. ASIC submitted to the Court that:
- the CEO should be disqualified from managing a company for 12 to 16 years and receive a fine of between $1.47 and $1.81 million
- the General Counsel should be disqualified from managing a company for a minimum of 8 years and receive a fine of between $350,000 and $450,000
- the CFO should be disqualified from managing a company for a minimum of 6 years and receive a fine of between $150,000 to $250,000
- each of the non-executive directors should be banned from managing a company for 5 years and receive a fine of between $120,000 and $130,000, and
- the defendants jointly and severally pay 90% of ASIC’s costs.
ASIC also submitted that when the Court is considering penalties to be imposed on the defendants, it should take into consideration the issue of indemnity. While the Act prohibits an Australian company from indemnifying against this type of civil penalty, ASIC submitted that some of the defendants may be indemnified by foreign companies within the James Hardie Group.
With the exception of the CEO, who had admitted that the breaches were serious, but that the fine and banning orders sought by ASIC were excessive, the defendants sought to be fully exonerated.
On 20 August 2009, Justice Gzell refused to exonerate any of the former board members and handed down the following penalties:
- the CEO was disqualified for 15 years from managing a company and is to pay a fine of $350,000
- the General Counsel was disqualified for 7 years from managing a company and is to pay a fine of $75,000
- the CFO was disqualified for 5 years from managing a company and is to pay a fine of $35,000
- each of the non-executive directors were disqualified for 5 years from managing a company and were to pay a fine of $30,000 each, and
- James Hardie NV was to pay a fine of $80,000.
ASIC considers this case to be a landmark decision in Australian corporate governance because it provides corporate boards with important guidance and direction on:
- the practical application of the scope and content of the duties of executives (chief executives, company secretaries and chief financial officers) when taking important matters to the Board and disclosing those matters to the market, and
- the responsibilities of non-executive directors of public companies when asked by management to consider strategic matters and to approve disclosure to the market of the Board's decisions.
In addition, ASIC states that the findings illustrate that in making statements to the market, companies should carefully assess and check the veracity of those statements.
- Directors should be more inclined to ensure that the bases of their decisions at board meetings on crucial matters are understood and noted in the minutes
- Management should be clear as to whether it is seeking the directors' approval or providing documents for information where no immediate action is required
- Until it is clarified (on appeal), where the board is asked to approve a draft announcement which is placed before it and it concerns a matter of particular significance, caution should be exercised in delegating the approval to a sub committee or the chief executive
- General counsel should be aware of the true position of a matter and as such will be subject to the Corporations Act duties. Failure to warn of a foreseeable legal risk on significant matters can be held against general counsel
- If general counsel has an enhanced duty to warn the board of foreseeable legal risks associated with particular transactions, the same might apply to senior executives warning of risks in their particular areas of responsibility, such as the CFO, the treasurer or the chief risk officer.
ASIC prosecution has broadened the focus beyond the traditional executive directors. This decision affirms that non-executive directors are in the firing line to the same extent as executive directors. The focus of this decision was also on management below board level, including the CEO and General Counsel, affirming the decision in ASIC v Vines  NSWSC 760 and the positive duties of management.
The increasing focus on non-executive directors and senior executives below board level gives rise to the possible exposures of a larger group of people covered under a D&O insurance policy than traditionally experienced. Whilst this broadening of regulator interest has been happening for some time, this decision reaffirms this and sets the bar even higher for non-executive directors. This is likely to translate into larger premiums for D&O insurance cover, particularly in the current climate where claims against directors and officers are on the rise.
Section 199A of the Act prohibits, among other things, an insurer from indemnifying directors and officers for pecuniary penalties ordered under s1317G and compensation orders under ss1317H and 1317HA of the Act. This includes legal costs in defending proceedings where the person is found to be liable for such pecuniary penalties.
D&O insurers have incurred significant costs in defending the insureds. Until there is a finding precluding cover, the D&O policy advances defence costs. In circumstances where most directors and officers had separate legal representation, significant costs would have been incurred and significant portions of the policy limit would no doubt have been eroded.
Australian Securities and Investments Commission (ASIC) v Macdonald (No 11) (2009) 256 ALR 199;  NSWSC 287 (23 April 2009)