Key points

  • General counsel have a duty to protect the company from legal risk.
  • In a takeovers context, general counsel may breach their duty of care and diligence under section 180(1) of the Corporations Act if the bidder’s statement or other public disclosures include misleading statements.
  • General counsel need to be vigilant to ensure that potential disclosure issues are properly dealt with and, where necessary, brought to the attention of the board.  

The recent decision in the James Hardie case has generated a great deal of media interest, particularly the findings made against the former James Hardie directors.

However, the findings made against the former General Counsel and Company Secretary, Peter Shafron, have been largely overlooked, despite raising interesting questions about the role of general counsel in finalising public disclosures and the prospect of personal liability for breach of section 180(1) of the Corporations Act 2001 (Cth) (Corporations Act) when those disclosures prove to be defective.

Background

ASIC commenced civil penalty proceedings in the New South Wales Supreme Court against the former non-executive directors and executives of James Hardie entities and the entities themselves. In broad terms, the proceedings examined two key issues arising from the 2001 restructure of the James Hardie Group:

  • the publication of certain statements (subsequently found by the Court to be misleading) in various ASX announcements and other public materials concerning the adequacy of funding of the Medical Research and Compensation Foundation, the vehicle established by James Hardie to compensate asbestos victims, and
  • the failure to disclose under the continuous disclosure rules certain information (subsequently found by the Court to be price sensitive) relating to various indemnities and other covenants provided by James Hardie entities in connection with the establishment of the Foundation.

The Court found that, in authorising a draft ASX Announcement which detailed in ‘emphatic’ terms the ability of the relevant James Hardie entity to fund its anticipated asbestos liabilities, the non-executive directors engaged in misleading conduct that exposed the company to possible legal liability. The non-executive directors and CEO thereby failed to act with care and diligence as required by section 180(1) of the Corporations Act.

The Court also found that the relevant James Hardie entity had breached its continuous disclosure obligations by failing to disclose the indemnity and covenant arrangements when those arrangements were entered into.

It is important to note that the judgment is subject to an appeal.

Findings against the General Counsel

Mr Shafron was found to have breached his duty of care and diligence in section 180(1) of the Corporations Act for failing to advise the board that the ASX Announcement was expressed in too emphatic terms and that it was misleading. He was also found to have breached section 180(1) by failing to advise the CEO or the board properly in relation to the company’s continuous disclosure obligations.

The Court had no hesitation in confirming that Mr Shafron was an ‘officer’ for Corporations Act purposes, as his functions involved him participating in the making of decisions that affected the whole or substantial part of the business of James Hardie. Mr Shafron was therefore subject to the duty of care and diligence in section 180(1). In considering the scope of the duty, the Court noted that all of the responsibilities of the person occupying the relevant office are within the scope of the duty of care and diligence, and not just those responsibilities limited to the particular office. In this case, the Court observed that Mr Shafron had played a ‘vital role’ in the board’s deliberations on the restructuring proposals.

The Court found that Mr Shafron had a duty to protect the company from legal risk. This duty required him to warn the board that the relevant statements to be included in the company’s ASX announcements regarding the level of funding for the Foundation were misleading and that those statements were based on independent reports of limited scope. In making these findings, it did not matter to the Court that the ASX announcement had been approved by the board and that a ‘reasonable director’ would have realised for himself that the relevant statements were misleading.

In the context of the company’s continuous disclosure obligations, Mr Shafron’s duty required him to either advise the CEO or board on the need to consider whether the relevant information is required to be disclosed; seek advice for the CEO/Board on the issue; or provide his own advice on whether the company was required to disclose the information. This was despite the company having in place continuous disclosure policies of which the directors and other executive officers were aware. The Court went on to say that, even if Mr Shafron had raised the disclosure issue with the CEO, and the CEO had decided to take no action, he would then be obliged to raise it directly with the Board.

Implications in a takeovers context

Although the James Hardie litigation primarily concerned ASX announcements, there is no reason why the Court’s reasoning as to the duties of general counsel would not be equally applicable in other situations where a company makes public disclosures, such as in bidder’s statements, target’s statements and other takeover documents.

General counsel could find themselves in breach of their duty of care and diligence if they fail to warn the board about the inclusion of a statement in a bidder’s statement or other takeovers documents which subsequently prove to be misleading. This highlights the need for general counsel to be vigilant as to the adequacy of the drafting and verification process adopted in the preparation of takeover documentation. General counsel should also be proactive in ensuring that any potential continuous disclosure issues are properly dealt with and, if not addressed satisfactorily, are promptly brought to the attention of the board.

While the full impact of the James Hardie judgment on corporate governance and decision making processes is yet to play out (noting the judgment is subject to appeal), the decision places the spotlight squarely on the duties owed by general counsel in public disclosure contexts, requiring general counsel to always be mindful of their overarching duty to protect the company from legal risk. We envisage that this will lead to greater scrutiny being placed on the role of general counsel in takeover disclosure contexts than is currently the case.