On 3 May 2012 the High Court, delivered an appeal judgement upholding the original findings against, at first instance the directors of James Hardie Limited for misleading conduct. A significant factor in the High Court hearing was the allegation that ASIC had breached a duty of fairness at original instance by failing to call James Hardie Industries Limited (JHIL) solicitor to give evidence of the directors proper conduct in preparing the February board meeting minutes. JHIL’s solicitor had supervised the preparation of the draft board minutes and had attended the February board meetings. The High Court held that there was no basis for inferring that JHIL’s solicitor would have given evidence favourable to the directors, and that the inaccuracies in the February board minutes did not counter their probative value as a contemporaneous and formally adopted record of what was done at the February meeting.

Continual clamp-downs on corporate disclosure obligations reveal ASIC’s intention to vigorously pursue contraventions by public companies. Recent action against heavyweight construction contractor, Leighton Holdings, acts as a reminder to directors to be vigilant in approving public announcements.

Under the continuous disclosure regime set out in the Corporations Act 2001 (Cth) and the ASX Listing Rules, listed entities are obliged to immediately notify ASX of any information that could affect a company’s share price. Leighton Holdings’ failure to adhere to these provisions resulted in a maximum penalty of $100,000 for each of the three alleged breaches. Accompanying this, Leighton will be required to have a consultant audit its disclosure practices for the next three years.  

The ASIC chairman has also recently indicated a desire to increase the maximum penalty to $500,000, reminding companies that inadequate notifications can amount to misleading and deceptive conduct which can also give rise to criminal sanctions and civil actions for loss and damages caused by such announcements.  

It is evident companies are getting the message in light of David Jones recently going into a trading halt when it was presented with a report downgrading its profits. Trading halts were endorsed by ASIC’s chairman as a reasonable course of action for dealing with the requirement of immediate notification.

Recent Decisions on Continuous Disclosure

ASIC v Healey & Ors (Centro Decision)

The directors of Centro Properties Group, a retail investment organisation, approved annual financial reports without questioning errors contained within the report. As such they failed to properly disclose billions of dollars worth of shortterm liabilities. In doing so, the directors relied on the advice of management, auditors and external advisors. The court found that by failing to rectify errors or make enquiries of the authors of the reports the directors had breached their obligations.

ASIC v Fortescue Metals Group Ltd

Fortescue Metals Group Limited publicised a series of announcements, media releases and investor presentations, indicating that a binding agreement had been made with three major state owned Chinese companies in relation to the mining and export of iron ore in Western Australia. In fact, the agreements only demonstrated a willingness to be bound in the future after later negotiations regarding the price and scope of the work. The publications were found to constitute misleading and deceptive conduct and were a breach of continuous disclosure which resulted in civil action against the chairman and the Chief Executive Officer of the company.

James Hardie Case

The directors of James Hardie Industries Limited were alleged to have approved misleading disclosures to the market to the effect that a foundation to manage and pay out asbestos claims was fully funded. The matter has been referred back to the Full Court of the Court of Appeal to determine penalty.

Tips for good Corporate Governance

Courts start from the fundamental premise that:

  • the company’s business must be managed by or under the supervision of the board
  • statutory obligations (such as approval of financial statements and offering documents) are obligations of directors, not of management
  • reliance on others is permitted but reliance on others in the performance of a task does not mean the underlying duties can be abdicated. Those duties remain to be discharged, and reliance is only acceptable when it is reasonable. See also our further alert on the impact of the James Hardie High Court Appeal decision and its implications on directors relying on legal counsel advice when settling board meeting minutes and corporate announcements.  

At a minimum, directors should be mindful that:

  • the difference between governance and management does not mean directors should only ever take a high level/ strategic view
  • particularly where public statements having legal effect or ramifications are concerned (prospectuses, financial statements, market disclosures), directors cannot ignore the detail, but must bring an enquiring mind and their own knowledge of the company to bear
  • bringing an enquiring mind to bear on a material statement requires the director actually to read it, not simply assume that management and/or advisers have done so
  • directors who are not sufficiently financially literate to be able adequately to monitor the business of the company should up-skill quickly
  • directors who do not understand the company’s business (and, in particular, key drivers and risks) should up-skill quickly
  • being wrong is not a breach of duty in and of itself — but being wrong because of unquestioning reliance on others, inadequate financial literacy or failure to bring an enquiring mind and knowledge of the business to the matter at hand is
  • if directors have doubts, they need to drill into them
  • just because the lawyers, auditors, trustee and the Financial Markets Authority have not raised red flags, does not mean directors are okay. The Courts have more than once ruled that directors’ duties are non-delegable
  • balancing the interests of new investors with those of current investors is not a justification for not disclosing material information on offering documents. If something is material, it must be disclosed regardless of whether disclosure will have an adverse effect on the value of existing securities.

Lessons for Companies

  1. Directors are required to have a basic understanding of the business they manage. While a boundary exists between management and governance, there is a high standard as to the level of engagement a director should have with the affairs of the company. Honest mistakes can be made but directors must take all reasonable steps to avoid error. The decision in Centro claims that a director must “take a diligent and intelligent interest in the information available to him or her, to understand that information, and apply an enquiring mind.”
  2. Financial literacy is a necessity for all directors, even those who bring specific expertise in other areas. Directors should possess the ability to read, interpret and understand the content of financial statements.
  3. Deeper enquiry is expected. If directors find content difficult or unfamiliar, they should ask questions until they are confident in their understanding.
  4. Directors must take independent responsibility without hiding behind collective decision making. Directors cannot rely blindly on management and external advisors.  

Resources and Oil and Gas Companies should also see the related article on ASX’s disclosure obligation reforms above and keep an eye out for our further alert on the impact of the James Hardie High Court Appeal decision on implications for Company Secretaries and General Counsel.