Case Study: Director's Duties, Insolvency, and Defenses

This case study delves into a Corporations Law scenario involving a clothing company facing financial difficulties and potential insolvency. It examines the duties of directors, particularly Alice Smith and Libby, under the Corporations Act 2001. The analysis explores the legal implications of their actions, including potential breaches of duty related to preventing insolvency, and the defenses they might claim, such as illness. Furthermore, the case considers the powers of the liquidator to recover debts from the directors, referencing relevant case law such as Commonwealth Bank v Friedrich and ASIC v Rich. The application section assesses the specific facts, including the appointment of Libby and the use of company funds for personal expenses. The conclusion determines the liquidator's ability to take action against the directors.

Running head: CORPORATIONS LAW
CORPORATIONS LAW
Name of the Student
Name of the University
Author Note

1CORPORATIONS LAW
Issue
The issue which can be understood from this case is whether action can be taken by the
liquidator from Alice Smith and Libby who are the directors of the clothing company what
defences can be claimed by them.
Law
There are certain duties which are laid down for the directors and the if there is any kind
of breach on behalf of the directors towards fulfilling the duties and the directors cannot prevent
the company from being insolvent that is laid down in the CA Act, 2001 u/s 588G which clearly
states that the director has certain duties where the director has to prevent the company from
being insolvent. This precise section is applicable to any individual or a person who at the time
of the insolvency of the company has been a director of the company when the company has
incurred debts. The company after incurring the debt or including any other kind of debt
becomes insolvent or there have been other reasons which creates suspicions regarding the debt
of the company or the insolvency of the company after the commencement of the act or during
that time. This section discusses that if the directors fails to comply to this section and fails in
preventing the company from incurring debts and the company suffers insolvency then it can be
understood that the person has contravened or violated this section. It can be said that a person
has committed an offence when the person has failed to prevent the company from incurring
debts and did not have any kind of doubts regarding the solvency of the company and if the
person cannot prevent the company from insolvency in a dishonest way which would mean that
the person has committed an offence. The case of Commonwealth Bank v Friedrich, (1991) 5
ACSR 115 which is a leading case on suspicions regarding the company not being solvent.

2CORPORATIONS LAW
There are certain defences that can be claimed by the directors if there are breach on
behalf of the duties of the directors if it is considered to be on reasonable grounds or if there are
any kind of illness u/s 588H of the Act. If the person who is the director of the company has on
reasonable grounds belief that he/she cannot perform the duties and thus appoints another person
who is reliable and competent in that place where the director gets adequate information in
relation to the solvency of the company then it can be proved as a defence as stated in the
section. The defences have been laid down under this specific section so that if the directors have
failed in performing their duties on reasonable grounds can prove these defences in the court. It
can be seen in the case of ASIC v Rich [2009] NSWSC 1229, (2009) 236 FLR 1.
Under section 477 of the CA, Act 2001 it discusses the powers of the liquidator. The
liquidator has the power to do all things which are needed and necessary for the process of
winding up of the company. The liquidator should be able to pay the creditors of that company in
full and would make any arrangements which are necessary with the creditors. The liquidator can
also bring up any kind of court proceedings on the behalf of the company. The liquidator has the
authority to claim for debts which have been caused by the directors and which has led the
company to be insolvent and try to recover the losses from the directors personally.
Application
In this specific case Alice Smith was considered to be a sole director of the clothing
company where the company was not in a good financial state as the company was not able to
pay any taxes and was incurring losses. The Australian Taxation Office had sent a notice to the
company but they were unable to pay the income tax. After a while the ATO were trying to
prepare for the process of winding up of the company. At the same time Alice got to know that
she was suffering from cancer and she would be unable to carry out the functions of the company

3CORPORATIONS LAW
so she appointed her daughter Libby as the director. Libby was not experienced and she took the
help of the experienced accountant Peggy where she was advised to liquidate the company as
they could not prevent the company from incurring losses. Libby was concerned about her
mother’s health and thus took out as an overdraft facility five hundred thousand dollars from the
company in order to pay for her mother’s medical expenses as a loan. In this case the directors of
the company could not prevent the company from being insolvent and incurring debts as
discussed in the above law. The directors could claim for defences since the money was taken for
a reasonable cause as discussed in the above law. The liquidator can personally claim the
directors to recover the debts which were owed by the directors to the company as the liquidator
had the power and the authority and an action could be taken against Alice and Libby. The
defences which can be used by Alice and Libby would be on the ground where Alice was
incapable of carrying out the performance of duties in the company due to her illness. The action
can be taken against the directors for breach of duty since the directors failed to prevent the
company from incurring debts and which led to the insolvency of the company as it can be seen
in the case of Commonwealth Bank v Friedrich. The liquidator can take action against the
directors to recover losses.
Conclusion
Therefore, the liquidator can take action against Alice and Libby.

4CORPORATIONS LAW
References
ASIC v Rich [2009] NSWSC 1229, (2009) 236 FLR 1.
Commonwealth Bank v Friedrich, (1991) 5 ACSR 115.
Corporations Act, 2001.