Directors' Duties and Company Insolvency

The assignment delves into the complex realm of directors' duties under Australian law, specifically addressing their responsibilities concerning company solvency. It examines how directors can demonstrate solvency, rely on information from others, prevent insolvency, and operate effectively even in challenging financial situations. The analysis draws upon relevant legal frameworks and scholarly perspectives to provide a comprehensive understanding of this crucial aspect of corporate governance.

Running head: LAW OF BUSINESS ORGANIZATION 1
Law of Business Organization
Name:
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Law of Business Organization
Problem-Question 1
The question is concerned about the potential breach of director’s duties. Directors are
supposed to act according to statutory and general law. According to statutory duties, they are
required to disclose certain interests, not misuse their positions, act in good faith for the required
reason and the best interest of the company, and act with reasonable care and diligence (Bilchitz
& Jonas, 2016). Generally, they have a duty to retain discretions, avoid conflicts of interest, act
in good faith, use their powers properly, and act with reasonable care and diligence. The issue
here is whether the two directors, Mr. Eric and Mr. Morton act according to the directors’ duties
as defined in the Corporations Act.
Before making any decisions to get involved in the dealing with Tricky Partners, both
Eric and Morton are supposed to find out the interests of the two companies, Walker v Wimborn
(1975 – 1976) (Stapledon, Ramsay & Hanrahan, 2017). Of course, Tricky Partners would wish
that GoldCoin accepts their offer, but GoldCoin would only wish to get involved if it is
profitable to them. By so doing, the directors will be able to make the right decisions and act
with reasonable care and diligence according to s180CA and, thus, avoid conflicts of interest, act
in good faith in the interests of the company and employ their powers for the proper purpose
(s181CA). As such, to test whether there is a breach of the directors’ duty, is whether the two
directors could have reasonably alleged that their choices in the issue was for the benefit of
GoldCoin as demonstrated in the case Charterbride Corp Ltd (in liq) v Farrow Properties Pty
Ltd (in liq) (1997). Ss191-196 requires directors to disclose certain interests so that they can help
avoid the conflict of interest (Stapledon, Ramsay & Hanrahan, 2017).

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Apparently, the deal with Tricky Partners would only be a good one if it only benefits
GoldCoin, and not because of offering Mr. Eric a huge bonus. Therefore, despite offering him
the incentives, Mr. Eric and Mr. Morton should be able to argue that at the end of it all, it will be
beneficial to GoldCoin and thus they have to support it. If it is not beneficial, then Mr. Eric
should not push for it simply because of his interests and Morton on the other hand should
prevent the company from getting into an unworthy dealing by disclosing Eric’s interests.
Consequently, the decisions of the directors should be in line with the best interests of
GoldCoin. If Eric goes for it because he is aware of the huge bonus he will get by convincing the
other directors to vote in favor of the deal, then he will be doing that because of his own
interests, which is against ss181, 182 and 183 of the Corporations Act (Horne, 2017). On the
other hand, Morton has a right to avoid conflict of interest (Nolan, 2017). As such, boycotting
the board meeting so that he does not vote against the dealing makes him breach ss191-196 that
requires him to disclose the interests of Eric.
Problem - Question 2
Bricks Construction Co. is a company that builds railways. Out of the four directors with
equal shares, three of them were in dispute with the fourth director known as Oistrakh. They
started a negotiation by excluding as the directors of Bricks, however, before signing a new
contract the three set up their own company known as Bluffer. They convened a meeting and
used their votes to pass resolution that Bricks was not interested in the Swift contract, and that
the company will sell part of its equipment to Bluffer at lower cost. Therefore, it is clear that the
three directors have breach the statutory duties owed to Oistrakh.

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The three directors owe the statutory duties to Oistrakh as demonstrated in
Brunninghousen v Glavanics case. It is clear that there is a relationship of trust and confidence
between the three and Oistrakh. It is because the four had equal shares in Bricks; hence, owed
one another statutory duties. Other than that, they were in a position of particular advantage
when they decided to set up a new company without the knowledge of Oistrakh (Valsan, 2016).
They owe him the duty of good faith and fair dealing and the duty to disclosure. Other than that,
they breach fiduciary duty by failing to disclose some information, misrepresentation in relation
to statement of fact, and misuse of influential position. Further, he can claim for damages that the
breach has caused him. The fiduciary duties govern by the state such the duty of board members
to represent the interests of the shareholders (Davis & Whitley, 2009).
It is evident that the three directors disregarded their duties of trust and confidence when
they decided to exclude Oistrakh in the negotiation that was between Bricks and the Swift
Railway. It means that they breached their duty of trust and confidence. They also failed to act in
good faith for welfare of the company that could have benefited the four directors, but instead
decided to satisfy their own personal gain (Valsan, 2016). Conversely, has the right to
information disclosure, but in this case the three directors decided not to inform him about the
negotiations that were held on behalf of Bricks. Moreover, they also refuse to inform him about
the existence Bluffer Company. They also used their number to influence the decision of the
board of directors for their personal gain (Davis & Whitley, 2009). They did this so that they
may benefit through their new company and to stop Oistrakh from benefiting. It shows that there
was a misrepresentation of the facts, which also amounts to breach of the statutory duties.
To conclude with, it is evident that the three failed to act in good faith and to benefit of
the company. It shows that they breached statutory duties owed to the company. They also

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breached the rights to information discloser and misrepresentation of facts. The three directors
failed to owner the fiduciary duties controlled by the statute by not representing the interests of
the shareholders.
Problem – Question 3
Ms. Hawker is a CEO and a director of the Comet Pty Ltd. She is also one of the
directors in AvantGarde Pty Ltd. In her position in AvantGarde she discovered that an
accountant has been embezzling the company’s funds. The level of the embezzlement is high
that it has affected the cash flow of the AvantGarde Company. Because of being afraid of her
reputation damage as a CEO of Comet, she decided to transfer funds from Comet to AvantGarde
without Coment’s director’s knowledge to cover up the AvantGarde’s cash shortfall. Because of
this she contravened her fiduciary obligation to both Coment and AvantGarde under the statute
law (Scharffs & Welch, 2005).
It is evident that there was a fiduciary relationship between Ms Hawker and Comet
Company at the time when the dispute occurred. Comet shareholders and the directors placed
confidence and trust in her with he full knowledge as a CEO. Therefore, she is bound to exercise
her rights and powers in good faith for the benefit of the company as stated under the general
law. However, she failed to protect the company from incurring debt; hence, breaching s
588G(2). Additionally, she failed her statutory duties under Corporation Acts s 9 (DiCarlo &
Hootkins, 2017). Other than that, Comet became insolvent after she transferred funds to
AvantGarde. Besides, she violated her duty of care to the company by secretly transferring cash.
She breached her duties by misappropriating funds (Waxman, 2014). Due to the money transfer,
Comet suffered damages contributing to its insolvency.

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On the other hand, she also owes AvantGarde fiduciary duty. It is because she transferred
funds to the company without the knowledge of the board of directors. This means that she has
contributed to the debt that AvantGarde owes to Comet. She failed to perform her obligation
duty of acting in good faith, fair dealing, and full discloser (Davis & Whitley, 2009).
Additionally, she breached her duty by failing to disclose information.
Hawker failed to exercise her rights and power in good faith for the benefit of the
company; instead she transferred the cash for her own personal gain. For example, she was
protecting her image instead of safeguarding Comet’s funds. Other than that, she secretly
transferred the money without disclosing her intention to the board of directors of Comet.
Similarly, she failed to disclose misappropriation of funds to the board of directors and
shareholders of the AvantGarde, and instead added debts to the company (Waxman, 2014).
Because of breaching fiduciary duties, the lawsuit will recover the actual damages incurred. The
lawsuit might also recover punitive damages if the breach could be proven to have been
committed out of fraud (Scharffs & Welch, 2005).
To conclude with, it is vital for all the company directors and CEOs to avoid putting
personal gain ahead of the company’s benefits for them to avoid breaching their fiduciary
obligation. Besides, the law states that directors should act in good faith and for the benefit of the
company, and that they have a duty to disclose information concerning the company. Therefore,
they should know that they are in contract with the company, board of directors, and the
shareholders and they must abide by the contract terms.
Problem-Question 4
Task 1

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This question is concerned about the application of the duty to act with reasonable care
and diligence towards the company at general law and in accordance with s180 of the
Corporations Act, 2001 (Cth). With regards to the case, the chief operating officer was given the
chance to recruit a team of new experts to work on a feasibility study for the company’s new
project. The chief operating officer, however, recruited her friends who were bright and young
but inexperienced resulting to the company’s substantial loss. Therefore, the issue here is
whether the chief operating officer breached the duty of care and the possible defenses she could
use.
Since the chief operating officer is entrusted by the Board to select a new team, she has a
duty to act with care and diligence (Nolan, 2017). Therefore, the test of whether she failed to
comply with the law is to find out if she was negligent. According to the negligence law,
negligence is defined as failure to apply reasonable care resulting to harm to the company or to
another party (Pagura, 2015). The Chief operating officer is obliged to exercise her powers and
discharge her duties with reasonable care and diligence (s180 (1) CA) (Bilchitz & Jonas, 2016).
Therefore, an individual or company becomes generally liable when they injure another party in
a negligent way (Mullender, 2005).
The possible defenses include: (1) Reliance on others (s189CA). After making an
independent assessment, the chief operating officer found that her friends were bright and young
and could be able to prepare the report for the new project. Besides, she had good faith in
selecting her friends. Her reliance on the selected team is reasonable unless the Court proves
otherwise (Mullender, 2005). Nonetheless, the case of ASIC v Healey proves that reliance
defense does not always work (Stapledon, Ramsay & Hanrahan, 2017). Nonetheless, (2) the
business judgment rule can work as a defense in this case (s180(2) CA). Apparently, not all

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decisions made in business will always be good. Instead, most of them take in a degree of risk.
Besides, if the decision made was not right then it does not imply that it is a breach of duty.
Of course, the choice of friends to work for a project does not necessarily imply that the
decision is wrong (Stapledon, Ramsay & Hanrahan, 2017). They could be friends who are bright
and competent even if they are inexperienced. Everything starts from somewhere. It could be the
best chance for the young individuals to learn about new things and work for them to help them
gain experience.
As such, despite having chosen inexperienced young friends, the chief operating officer
could still be working in the best interests of the company. This does not imply that she breached
the duty of care because the chosen team was bright and could be competent. Besides, it is
reasonable to choose young individuals to carry out a project as compared to the old. Aside from
that, the law accepts that not all decisions made will turn out to be good and advantageous to the
company. Instead, they have a degree of risk as they can sometimes fail as what happened with
the decision of the chief operating officer.
Task 2
This question is concerned about the application of the directors’ duties on care skills and
diligence in the workplace. The newly elected directors were required to prepare a feasibility
study for the ShaleRock’s new project. To carry out their duty, they were not only supposed to
work on the technical needs but also to report on the accuracy of the predicted oil reserves.
However, the individuals were inexperienced as they were bright young people fresh from
school. As a corollary, they failed to detect some issues in their reports which in turn led to the
company experiencing some substantial loss. Therefore, the issue in this question is whether the

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directors had potential breaches in their duties with regards to their qualifications to work for the
company and whether they have any possible defenses.
According to AWA case, all directors are obliged to have a basic understanding of the
business in their organizations and familiarize themselves with the business fundamentals
(Bilchitz & Jonas, 2016). Besides that, they are supposed to be informed about the activities of
the company. According to s180(1)CA, the statutory duty of care requires that directors are
obliged to discharge their duties reasonably with care and diligence. There are high chances that
the employed directors breached the Corporations Act for being inexperienced but still carried on
to prepare reports for ShaleRock’s new project. In this regard, it is also clear that the directors
also breached the negligence law.
Nonetheless, according to CACL, there are possible defenses for these directors. For
instance, the business judgment rule, indicates that directors can meet the statutory and general
law duties if they exercised their business judgment in good faith, for the required reason and if
they believed that what they judged was in the best interest of the company (s180(2)CA) (Horne,
2017). Moreover, the directors thought the investment would actually be highly successful. The
business judgment rule is in support of this as it clearly indicates that not all the business
decisions will end up being good, ASIC v Adler (2002) 41 ACSR 72 (Stapledon, Ramsay &
Hanrahan, 2017). They have a degree of risk as sometimes they will fail.
It is evident that the selected directors were inexperienced and incompetent. This is seen
as they were unable to detect the flaws in the investments and their reports clearly indicated that
the investment would be highly successful to ShaleRock. Unfortunately, their predictions did not
work as expected. Being that they worked in the company without fully understanding the

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company’s business, activities and requirements, they breached the Corporations Act as stated in
AWA case. Despite having these issues, it is possible for the directors to defend themselves
according to the business judgment rule.
Nonetheless, it is not right for business directors to go against the law, as they can highly
cause damages to the company, which in turn will make them punishable in the court of law. The
directors must understand the organization’s business meaning they must be experienced in what
they are doing.
Problem-Question 5
Here, the question is about the application of the statutory law on preventing insolvent
trading as a director’s duty (Hedges, Bird, Gilligan, Godwin & Ramsay, 2017). In order to
minimize ShaleRock’s losses and insolvent risk, the directors opt to transfer the company’s funds
and start a joint venture with a major transnational company. The issue is how the directors’
decision could not prevent insolvent trading leading to a breach of the statutory duty and the
defenses available for them.
When a company is at risk of being insolvent or is already incurring debts, directors have
a duty to prevent the company (Marsh & Roberts, 2017). S588G of the Corporations Act applies
if the directors were already in their positions when the company incurred the debts.
Nonetheless, the directors were already aware that ShaleRock was at risk of incurring the debts
as defined in section 95A of the Corporations Act, but still went on with their decision to transfer
the company’s funds.
The test to show that the directors contravened s588G(2) of the Corporations Act is
showing whether they failed to prevent the company from insolvency despite the fact that they

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could suspect the risk (Stapledon, Ramsay & Hanrahan, 2017). Additionally, the cashflow test
shows that delays by creditors to enforce the payments cannot stop the owed amounts from being
counted as debts, Southern Cross Interiors Pty Ltd (in liq) v DCT (2001) 53 NSWLR 213.
Clearly, the directors were aware that the company was already incurring debts and their
decision was not in the best interest of the company. This action could only be in favor of the
partner company but not to ShaleRock.
However, there are possible defenses to the breach of this director’s duty. For instance,
the law in s588H(2) of the Corporations Act provides that there are reasonable occasions when
solvency can occur in a company (Stapledon, Ramsay & Hanrahan, 2017). This is demonstrated
in the case of Metropolitan Fire Systems v Miller (1997) 23 ACSR 699 (Ponta, 2015). Aside
from that, Deputy Commissioner of Taxation v Clark (2003) 21 ACLC 1,063 illustrates s588H(4)
on the absence from management (Horne, 2017).
Generally, directors have a duty to prevent insolvent trading as demonstrated in s588G.
The cash flow test and section 95A of the corporations act, on the other hand, explains how a
company is said to be incurring debts (Marsh & Roberts, 2017). However, s588G describes how
directors can be held liable of breaching the law that prevents insolvent trading. For instance, if
they are aware of the company’s risk of insolvency, they are supposed to prevent it, otherwise,
they are said to breach the law. As a consequence, the court may order for civil penalty or
compensation to benefit the unsecured creditors (s588MCA). Nonetheless, they may have
defenses under s588H(2), s588H(3), s588H(4), s588H(5) and s588H(6) of the Corporations Act.
There are reasonable ways to show solvency, to rely on others, to prevent the company from
insolvency and work without the management.

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