On 27 June the Federal Court made declarations of contravention against the Directors of listed property group Centro for breaches of the Corporations Act 2001 (Commonwealth) (the Act) (ASIC v Healey [2011] FCA 717).

In 2007, when the companies were close to collapse, the Directors signed the 2007 Annual Reports of both Centro Properties Group (CNP) and Centro Retail Group (CER) which failed to disclose some $1.5 billion of short term liabilities by classifying them as non-current liabilities and failing to disclose guarantees of short term liabilities of an associated company of about US $1.75 billion which had been given after the balance date.  In the case of CER, the 2007 annual reports had failed to disclose some $500 million of short term liabilities that had been classified as non-current. 

His Honour, Middleton J, found that the proceeding was not about a mere technical oversight and that the information not disclosed was a matter of significance to the assessment of the risks facing CNP and CER.  He said that matters not disclosed were well known to the Directors, or if not well known to them, were matters that should have been well known to them.  He said that the central question in the proceeding had been whether Directors of substantial publicly listed companies were required to apply their minds to, and carry out a careful review of, the proposed financial statements and the proposed Director’s report, to determine that the information they contain is consistent with the Director’s knowledge of the companies affairs, and that they do not omit material matters known to them or material matters that should be known to them.  He said that because of their nature and importance the Directors must understand and focus upon the content of financial statements and, if necessary, make further enquiries if matters revealed in these financial statements call for such enquiries. 

He summarised the main issues in the proceeding as follows:

  1. Whether CNP had current interest bearing liabilities of $2.611 billion and CER had current interest bearing liabilities of $598 million which were required to be classified as current liabilities;
  2. Whether the entering into of certain guarantees were material events occurring after the balance date, matters or circumstances which significantly affected the state of affairs of CTP and Centro Managed Investment Scheme and its controlled entities in subsequent years within the meaning of section 299(1)(d) of the Act, and information that members of CPL (collectively with CTP known as CNP) would reasonably require to make an informed assessment of the financial position of CPL or its business strategies and prospects for future years for purposes of section 299A of the Act;
  3. Whether Directors knew or ought to have known at the time of approving the 2007 accounts of these specific liabilities;
  4. Whether a reasonable Director in the like position of the Directors was required to have:
    1. “sufficient” knowledge of “conventional” accounting principals and practices, including that current liabilities generally mean financial obligations which must be “paid” or “satisfied” within 12 months of the balance date and that the significant events which occurred after that date must be disclosed in the financial report; and
    2. Apply their minds and carry out a careful review of the 2007 accounts to determine whether they accurately reflected the financial position and performance of consolidated entities known to them.
  5. Whether the Directors failed to exercise their powers and discharged their duties with a requisite degree of care and diligence or failed to take all reasonable steps to secure compliance with the Act.

Solicitors involved in a class action against Centro Group and its auditors PwC will be edified by the result in which the Court observed that,

“The directors are intelligent, experienced and conscientious people.  There has been no suggestion that each director did not honestly carry out his responsibilities as a director.  However, I have found, in the specific circumstances the subject of this proceeding, that the directors failed to take all reasonable steps required of them, and acted in the performance of their duties as directors without exercising the degree of care and diligence the law requires of them.”

Relevant to the pending claim against the auditors His Honour said,

“I accept that the directors were assured by PwC, by their audit plans, that PwC would audit the accounts to ensure their compliance with accounting standards… that there is no evidence in this proceeding that PwC did raise any concerns regarding the accounts or their capability or diligence of management in the private sessions which management did not attend….

In view of the depth of detail in her (company secretary Elizabeth Horrigan’s) notes, it is inconceivable that the matter was not raised and not noted by her…. It is also beggars belief to suggest that the matter was not raised and not one person at the audit committee meeting on September 5, 2007 said anything about it.”

The Court found that the reliance of the Directors on management and auditors did not relieve them of liability.

Penalties have yet to be determined in respect of each of the Directors.

The decision highlights a need for Directors to not only offer diversity of views and backgrounds but to all have a minimum level of financial literacy to be able to scrutinise financial reports from management and from the auditors.