Duty of Care and Business Judgment Rule: An Analysis of CorpGain's Decision

The case discusses the obligation of directors to inform themselves about a decision made by the company, especially if it involves entering into an agreement that requires consent from all parties. The case highlights the importance of honesty and reasonable diligence in making such decisions. It also discusses the defences that can be raised by directors, including the Honest and Reasonable Director Defence and the Business Judgment Rule defence. The summary concludes that directors have a duty to inform themselves about the decision made, and if they do not, it may be considered as breach of their duties with care and diligence.

Corporate Law

TABLE OF CONTENTS
CASE STUDY 1..............................................................................................................................1
CASE STUDY 2..............................................................................................................................4
A..................................................................................................................................................4
B...................................................................................................................................................6
CASE STUDY 3..............................................................................................................................6
Scenario A...................................................................................................................................7
Scenario B....................................................................................................................................8
REFERENCES..............................................................................................................................10

CASE STUDY 1
As per the case given, it has been witnessed directors of Uninest Ltd. are agree with the
idea given by Neales. This is the reason; by relying on her views, the BODs (board of directors)
have passed a resolution that Neales has suggested to them. Her opinion was to provide Gilligan
with the loan on which no interest will be charged. In lieu of the same, Gilligan was issued with
mandatory shares on his name. The case shows that Christine Neales is a consultant in Uninest
who is working here and with her experience in the field, she has taken many important
decisions for company. Neales is given with the great autonomy for taking decisions for the good
of organisation and by relying solely on her decision in which she suggested the directors to pass
a resolution for Uninest to lend Gilligan a sum of $30 million who is one of the directors on
which no interest will be charged. It has been further assessed that this is a strategy proposed by
Neales so that the price of shares can be significantly increased and for Urbanlodge Ltd., it
would become difficult to take over the management of Uninest as it has made an offer of $12.00
per share while, the price of shares of Uninest is $10. It is desired by Urbanlodge Ltd. to replace
the entire management team of Uninest consisting all board of directors with a new management
team if it will become successful in its takeover bid.
In accordance with the Corporations Act 2001 (hereinafter referred as the 'Act'), directors
of companies are obliged with some general duties that they have to perform in relation with
business judgement rule. In accordance with this act, it is necessary for the directors to make
every decision for a valid purpose as well as in the interest of business. However, it is clearly
stated in the act that any decision taken by the directors must be in the interest of company only
and there should not be any kind of personal interest of the decision maker. It is also obligatory
for the directors to inform themselves with respect to every aspect in relation with the decision
made so that its appropriateness can be justified1. In addition to this, the act states that the
decision made by directors must be in the best interests of concerned business.
Section 180 of the Act specifically states that in a corporate, the power exercised by
every director along with other officers must be used with proper care and attentiveness. Along
with that, at the time of performing their respective duties, it is necessary for them to discharge
1 Lanis, Roman, and Grant Richardson. 'The effect of board of director composition on corporate tax
aggressiveness.' (2011) 30.1 Journal of Accounting and Public Policy 50-70.
1

the same with high diligence and would not make any misuse. Further, according to Section 181
of the Corporations Act 2001, it has been stated that directors must undertake their roles in good
faith so that best interests of company can be effectually catered as well as every duty must be
performed for a valid purpose. In addition to this, the court has a statutory support according to
which on often basis, the business judgement rule is used. In accordance with the case of
Australian Securities and Investment Commission v. Mariner Corporation Ltd., (2015) it has
been stated that if there is breach of duty, the authorities become liable to make evaluation of the
application given by court i.e. business judgement rule as enumerated in Section 180(1) of the
Corporations Act 20012. In lieu of the same, there are some factors which court should keep in
mind at the time of determining liability. These are:
 Terms of constitution
 Nature that business possess
 Surrounding circumstances
 Composition of people selected in board of company
 Role that directors are playing in company
 Position that directors have in a corporate
 Terms and conditions on which directors are performing their work
 Way of distribution of their responsibilities with other officers
 The applied legal framework in company
 Reporting systems and other requirements of corporate
As per the present given case scenario, as Urbanlodge intends to takeover Uninest, thus,
to avoid the same, business decision is made as per which a significant amount of money will be
lend to Gilligan who is one of the directors in BODs of firm. With this, he will come in position
to make a purchase of shares even at a higher rate by which Urbanlodge would not be able to buy
company’s shares which it has decided to make the takeover bid successful3. It can be said that
this decision was taken by completely relying on the proposal made by consultant, Neales.
According to the case given, it can be inferred that directors of the company have neither
2 Richardson, Grant, Grantley Taylor, and Roman Lanis. 'The impact of board of director oversight
characteristics on corporate tax aggressiveness: An empirical analysis.' (2013) 32.3 Journal of Accounting
and Public Policy 68-88.
3 Hahn, Peter D., and Meziane Lasfer. 'The compensation of non-executive directors: rationale, form, and
findings.' (2011) 15.4 Journal of Management & Governance 589-601.
2

exercised any diligence or care in their own power for the purpose of taking appropriate decision
to resolve this situation; nor did they ascertain the accuracy and suitability of the judgement
made. Therefore, overall it can be said that the decision was entirely taken by the consultant,
Neales herself and on her judgement only, the resolution for granting interest free loan was
passed. Also, it was proposed and decided by Neales only to give significant shares to one of the
directors so that Urbanlodge would not be able to take over the firm, Uninest4. Therefore, it can
be said that the decision was made by Neales only and all directors of Uninest got agreed on the
same without checking the accuracy and suitability of the judgement by making use of by their
own skills and experience.
Apart from that, it has been given by the court in ASIC v. Rich (2009) that it is the
liability of both; the directors and officers of company to remain aware with the subject matter of
decision. It is important they would have the information regarding decision to the extent that
they will be able to check the accuracy and suitability of decision made regarding the interest of
business5. In accordance with the stated law and legal statement, it can be inferred that business
judgement rule imposed by court has not been followed by the Board of Directors in Uninest as
they did not inform themselves about the subject matter and completely got agree with the
decision made by consultant, Neales. However, they should have used their own intelligence,
skills, knowledge and experience for making judgement for the valid purpose and good faith of
company. Therefore, it can be said that there is the breach of duty of care and diligence. Also, the
same law is applied on other officers too as well as Neales should also be liable as he did not
evaluated all the aspects of decision made by her6.
CASE STUDY 2
As per the given scenario, Primo Construction Limited (‘Primo’) is an industrial
construction company that is working with Landstock Limited on an ongoing basis. The director
and shareholder of this company named Shane is aware with the fact that Landstock is going to
4 Muchlinski, Peter. "Implementing the new UN corporate human rights framework: Implications for
corporate law, governance, and regulation."Business Ethics Quarterly 22.01 (2012): 145-177.
5 Phillips, Damon J., Catherine J. Turco, and Ezra W. Zuckerman. "Betrayal as Market Barrier: Identity-
Based Limits to Diversification among High-Status Corporate Law Firms 1." American Journal of
Sociology 118.4 (2013): 1023-1054.
6 Klausner, Michael. "Fact and fiction in corporate law and governance." (2013).
3

give tender from various construction companies. This tender is for a new construction contract
for the purpose of building and industrial warehouse for unloading and storing of goods from
shipping containers that will be nearby to a major port. Therefore, in relation to the same, Shane
has formed a new firm named Iconstruct Ltd without making the directors of Primo informed
regarding this new firm and given a tender to Landstock for the same purpose, that is, for the
construction of warehouse. However, Shane was well known about the fact that Primo will
submit a tender for the contract with Landstock the price of which will be based on its
construction costs7. Thus, he submitted the tender with Landstock for a lower tender price on the
name of Iconstruct Ltd. Therefore, instead of being awarded to Primo, the contract was granted
to Iconstruct Ltd. in comparatively a lower price.
A.
According to Section 183(1) of the Act, the directors or other officers are restricted for
using a confidential information of the corporate for their personal interest. This information
states to the data that a particular person at specific position in company knows that can affect
the interest of business. In the case of ASIC v. Stephen William Vizard (2005) the court abstained
the director from his position when he has made misuse of the information of company. This
section takes into consideration all directors in the firm who are currently on this position or have
been in the past. At the time of dealing with a case under this section, the character of the
director or officer needs to be checked and evaluated as per the instructions of court. As per the
case of Vizard, generous roles and services offered by directors to society have been recognised.
However, in accordance with the case of Australian Competition and Consumer Commission v.
ABB Transmission and Distribution Ltd (2002) it has been stated that rather than taking character
of the director into consideration, nature of offence done by him should be considered as per the
contrary view made by court.
Further, according to specific duty under Section 183, there is obligation on the directors
to perform Fiduciary duties that are directly owned by company. Obligation behind this is that
director should never compromise on his trust as well as good faith towards company. It can be
said that the involvement of directors should be in any situation which is not in the best interest
7 Strine, Leo E. "Can we do better by ordinary investors? A pragmatic reaction to the dueling ideological
mythologists of corporate law." (2014).
4

of company. Further, as per the case of Fodare Pty Ltd. v. Shearn (2011) the court has imposed
that under the fiduciary duty, a director is always liable to perform his duties for the specific
purpose of company with due care and diligence as well as he must not make an improper use of
his position8. One of the most common instances regarding the obligation of not making misuse
of data is Insider trading stated under Division 3 of the Act. Insider trading is taken as an offence
depending on the below stated elements:
 If there is ownership or control of confidential information
 If data is having a material impact on the operations or profits of company
 If information is not available anywhere else
 If the concerned person is indulged in trading
 Or if the information that is private is pertinent for company
In relation to the stated acts, it can be inferred that there is breach of duty done by Shane
as per the Section 183(1) of the Act. Also, according to the offence made by him regarding
Insider Trading, he is the liable person. As per the case given, Shane was at the position of
director as well as shareholder in the firm, Primo Ltd. Therefore, he was aware with the
information that company was going to offer the price to Landstock. It can be said that Shane
formed a new company named Iconstruct Ltd. intentionally as he did not made the directors of
Primo aware regarding the same. Thus, as per the Corporations Act 2001, he has clearly violated
the law. In addition to this, Shane offered lower price quotation than that of given by Primo 9.
Thus, with all these justification, it can be said that Shane has conducted the offence of Insider
Trading. Moreover, he did not acted in good faith and loyalty as he made improper use of the
information and position he was having in Primo and thus, breached the general duties.
B.
In accordance with Section 1043B – J of the Act, there are certain statutory exceptions in
which insurance underwriters are involved along with disclosure of the data in relation with legal
obligation. Along with that, as per Section 1044A of the Act, if a communication is made
regarding some data without having any intention of contravention will also be considered as a
valid defence with regard to the offence of insider trading. However, there are no available
8 Keay, Andrew R. "Stakeholder theory in corporate law: has it got what it takes?." (2010).
9 Bainbridge, Stephen. Corporate Law. West Academic, 2015.
5

defences in the present case as Shane has used the information of company in a wrong way for
his personal interest.
According to the Act, penalty has to be made by Shane because of committing offence of
misusing the information of company being at the position of director as well as shareholder
which could be up to $450,000 fine and/or 10 years of imprisonment. Thus, under this offence,
Shane will be considered as the criminal10. Recently, in the year 2016, a case of insider trading
came in from of the court where the offender was Sydney stockbroker named Oliver Curtis who
imprisoned for 10 years. Under this case, it was ascertained that Oliver has made illegal profits
from insider trading up to $1.4million. This case has also made it clear that nature of offence
reduces the consideration that is given on the character of offender under the Act. Thus, in the
given case, as Shave has made this offence, the liability shall not be reduced.
However, on the other hand, civil obligations will be imposed as per the law in case if
there will be the breach of general duties. Along with that, if these civil obligations would not be
followed in the stated manner under act, payment of pecuniary penalty may have to be done up
to $200,000 as per the instruction given by court. This will help the business to sustain
commonwealth and compensation for the amount made to concerned company. Further, it has
also been inferred from the section 206C of the Act that the concerned director who made
offence accounts to be disqualified from the management for a certain period of time as per said
by the court.
CASE STUDY 3
In accordance with the given factual scenario, Dronebotics Ltd. is a start-up business
which designs, manufactures and supplies the autonomous drone systems that operate with using
automatic flying robots. These robots are programmed in such a way they monitor, inspect and
do survey and finally return to the base station. Dronebotics is approached by an agribusiness
named CorpGrain Limited (‘CorpGrain’) for using the autonomous drone system to inspect
towering grain silos. It is because; this task may prove to be dangerous for employees and thus, it
requires compliance with onerous safety regulations.
10 Yosifon, David G. "The public choice problem in corporate law: Corporate social responsibility after
Citizens United." NCL Rev. 89 (2010): 1197.
6

The case reveals that Frank and Diane are the two executive directors of Dronebotics and
they both are keen on taking up the project for the purpose of getting expand in different
industries. From the case, it has been assessed that both these directors are ready to take the risks
while performing business operations and this is the reason they are ready to get enter into the
agreement11. However, on the other side, it can be said that Ron and Kelly are other two non-
executive directors who are not at all in the favour to enter in this agreement as according to
them, it would not prove to be feasible for the business. As per their opinion, the present
technological capability that they have is showing that they are not efficient enough to undertake
the complex task required by CorpGain Ltd. in an effectual manner. In addition to this,
considerable cost and proper research are also required for the purpose of developing a suitable
software. Therefore, it can be said that Ron and Kelly are experts who have adequate knowledge
about the matter and thus, they submitted report to the board in relation with the feasibility of
projects as per the current level of operations possessed by CorpGain Ltd.
Scenario A
There is liability on the directors of a company under general law and relevant statute. On
the basis of these obligations, court comes in position to take appropriate and suitable remedies.
In equity, there is liability on the directors regarding fiduciary relationship with the help of which
standard of loyalty is set to be very high. Further, these duties play a significant role in getting
merged into the Act named as General Duties of Director. Apart from that, according to Section
181, 182 and 183 of the Act, a general duty on all the directors of corporates are imposed with
some general duties12. In accordance with the recent case of Jaques v. AIG Australia Ltd. (2014)
it can be said that there is the liability of executive and non-executive directors both according to
which they need to fulfil some legal requirements being at the position of directors. However,
there is some difference in the manner in which court expects them to play their respective roles.
Therefore, in lieu with the Section 180(1) as per the business judgement rule, it is the
liability of directors to perform their duties accordingly in with proper care and diligence. Also,
they are liable to be informed regarding the subject matter on which decision is made as well as
11 Letsou, Peter V. "Implications of Shareholder Diversification on Corporate Law and Organization: The
Case of the Business Judgment Rule." (2010).
12 Johnson, Lyman. "Unsettledness Delaware Corporate Law: Business Judgment Rule, Corporate
Purpose." Del. J. Corp. L. 38 (2013): 405.
7

about its appropriateness. However, the case reveals that instead of being at the position of
executive directors, Frank and Diane have failed to exercise their duty. Apart from that, it can be
inferred from the fact that they both did not attend the meeting where it was decided by the
experts that to enter into the agreement with CorpGain would not be a feasible decision for
company. Furthermore, these directors not even read the report given by experts13. Therefore, it
is clear that executive as well as non-executive directors; both did not exercise their duty to act
with care and diligence.
As per the case of ASIC v. Healey & Ors. (2011) it can be inferred that every director in
the board is liable for the decision taken by them. From the case, it can be seen that Ron and
Kelly made every effort by which they can enter into the agreement with CorpGain. Also, they
attended the concerned meeting so that information regarding the same can be gained being
given by the experts. However, the fact cannot be ignored that they did not exercise their duty
and power with care and diligence at the time of making judgement as they got influenced by the
decision of Frank and Diane.
Scenario B
As per the current level of technology being used by CorpGain, it was decided that the
project would be feasible for firm and it will be right for the parties if they will be given with the
acceptance regarding decision. However, it can be said that if Frank and Diane did not inform
themselves about the decision made, it would have been considered as that they have not fulfilled
their duties with care and diligence. Along with that, the case reveals that drone system is
supplied to CorpGain14. However, using of the same created a lot of technical difficulties because
of which the decision was taken that the agreement is not feasible as technological abilities of
company are not competent enough to perform the required task. Therefore, as per the court,
there is obligation on every director for making the judgement to enter into this agreement as for
same, consent of all was there. But, there are some of the defences that can be raised by
directors. The first one is Honest and Reasonable director Defence according to which it could be
argued by Ron and Kelly that took the advice of experts seriously and had acted accordingly.
13 The Business Judgment Rule: ASIC v Rich and the reasonable-rational
14 Findlaw Australia, Civil penalty and disqualification orders: An overview of the Vizard case (2017)
<http://www.findlaw.com.au/articles/1970/civil-penalty-and-disqualification-orders-an-overv.aspx>
8

Also, as per the decision of ASIC v. Rich (2003) it can be said that directors could also raise a
defence depending upon Business Judgement Rule as enumerated in Section 180(2) of the Act15.
Safe harbour can be considered under the same as per which directors are protected from some
kind of risk and subjected to the same, they gain opportunities. Therefore, it can be said that Ron
and Kelly could raise defence in the given circumstance in accordance with the case of ASIC v.
Adler (2002).
15 Legal Services Commission, General Duties of Directors – Corporation Act 2001(2017)
<http://www.lawhandbook.sa.gov.au/ch05s01s03s02.php>
9

REFERENCES
Books and Journals
Bainbridge, Stephen. Corporate Law. West Academic, 2015.
Hahn, Peter D., and Meziane Lasfer. 'The compensation of non-executive directors: rationale,
form, and findings.' (2011) 15.4 Journal of Management & Governance 589-601.
Johnson, Lyman. "Unsettledness Delaware Corporate Law: Business Judgment Rule, Corporate
Purpose." Del. J. Corp. L. 38 (2013): 405.
Keay, Andrew R. "Stakeholder theory in corporate law: has it got what it takes?." (2010).
Klausner, Michael. "Fact and fiction in corporate law and governance." (2013).
Lanis, Roman, and Grant Richardson. 'The effect of board of director composition on corporate
tax aggressiveness.' (2011) 30.1 Journal of Accounting and Public Policy 50-70.
Letsou, Peter V. "Implications of Shareholder Diversification on Corporate Law and
Organization: The Case of the Business Judgment Rule." (2010).
Muchlinski, Peter. "Implementing the new UN corporate human rights framework: Implications
for corporate law, governance, and regulation."Business Ethics Quarterly 22.01 (2012):
145-177.
Phillips, Damon J., Catherine J. Turco, and Ezra W. Zuckerman. "Betrayal as Market Barrier:
Identity-Based Limits to Diversification among High-Status Corporate Law Firms
1." American Journal of Sociology 118.4 (2013): 1023-1054.
Richardson, Grant, Grantley Taylor, and Roman Lanis. 'The impact of board of director
oversight characteristics on corporate tax aggressiveness: An empirical analysis.' (2013)
32.3 Journal of Accounting and Public Policy 68-88.
Strine, Leo E. "Can we do better by ordinary investors? A pragmatic reaction to the dueling
ideological mythologists of corporate law." (2014).
Yosifon, David G. "The public choice problem in corporate law: Corporate social responsibility
after Citizens United." NCL Rev. 89 (2010): 1197.
Online
Findlaw Australia, Civil penalty and disqualification orders: An overview of the Vizard case
(2017) <http://www.findlaw.com.au/articles/1970/civil-penalty-and-disqualification-
orders-an-overv.aspx>
Legal Services Commission, General Duties of Directors – Corporation Act 2001(2017)
<http://www.lawhandbook.sa.gov.au/ch05s01s03s02.php>
10

The Business Judgment Rule: ASIC v Rich and the reasonable-rational divide (2011)
<http://epublications.bond.edu.au/cgi/viewcontent.cgi?article=1021&context=cgej>
11