Law Reporter March 2008

Professor Bob Baxt provides an overview of recent court decisions affecting the role and responsibility of directors.

More ammunition to challenge directors’ decisions. In 2001, when the Corporations Act was amended to introduce the statutory business judgment rule (now contained in section 180(2)), the legislation was also amended to make it easier for shareholders to bring legal proceedings in the names of their companies when wanting to challenge the decisions of directors. This was to overcome the famous rule in Foss v Harbottle, a decision made in 1843.

The difficulties that shareholders face in trying to persuade a company to bring action against its own directors can be quite significant. The introduction of specific statutory provisions to allow a statutory derivative action (an action that derives from the rights vested in the company) was seen as an important quid pro quo to the creation of opportunities for directors to limit or escape liability through the business judgement rule.

There have been very few reported cases in which the statutory derivative action has been effectively used. However, a recent decision of the South Australian Full Supreme Court in FWV Stanke Holdings Pty Limited v O’Meara; Von Stanke v O’Meara [2007] SASC 413 saw the court provide an opportunity for a member of a family in an interesting industry to challenge the way in which the business of the company was being run.

The relevant facts were that the three Von Stanke brothers (Fred, Bob and Jack – all now deceased) had started a business involving the catching and processing of lobster in Carpenter Rocks in South Australia. In 1965, they incorporated two ‘roof’ companies to conduct their business – H Stanke & Sons (HSS) and Cape Banks Processing Company (CBP). The companies conducted their relevant businesses in partnership. At the same time as these were established, each of the three brothers incorporated family companies to hold their various respective interests in HSS and CBP. Fred established FWV Stanke Holdings (FWV). Bob established RCV Stanke States (RCV) and Jack established a third company JHV Properties (JHV). After their deaths, their interests in these companies had been taken up by their respective sons who all became directors of HSS and CBP. Mrs O’Meara, the intervener in this case, had obtained her shares in FWV from her parents. Her father was one of the founding directors of the two roof companies. Her brother, John, was executor of the father’s will and controlled the voting rights attached to the shares in FWV.

Years later, the company JHV began proceedings against the two roof companies running the businesses, suggesting that they had not provided sufficient information or distributed sufficient dividends to the various shareholders. Seeking an order for oppression, JHV asked the Supreme Court of South Australia to direct the two companies (HSS and CBP) to purchase the shares of JHV; alternatively the two other family companies FWV or RCV should be ordered to buy these shares.

Mrs O’Meara was unhappy about how the case was being defended by her own company (which was controlled by her brother). So she sought to intervene in the litigation by virtue of the provisions in the Corporations Act which allowed a statutory derivative action – namely section 236 and 237. At first instance, Justice Sulan ruled in her favour, but limited the remedies that she was able to obtain. The companies appealed and she cross appealed. The details of their appeals are not important for our purposes.

In order for Mrs O’Meara to succeed, she had to establish that she should be given leave to intervene and run the action on behalf of the company. There are a number of criteria set out in section 237(2) of the Corporations Act which had to be satisfied before an action can be brought in the name of a shareholder. These are:

It was probable that the company will not itself bring the proceedings and take responsibility for them or for the steps in them;

That the intervenor was acting in good faith;

That it was in the best interest of the company that the application be granted for Mrs O’Meara to intervene;

That there was a serious question to be considered by the court; and

That proper notice had been given or notwithstanding that it had not been given, leave should be granted.

The Full Supreme Court of the South Australian Supreme Court, with the judgment being delivered by Justice White, (the other members of the court were Chief Justice Doyle and Justice Anderson) upheld the findings of Justice Sulan in favour of Mrs O’Meara. She was able to establish in the case at first instance, and the Full Supreme Court agreed, that as her brother had a controlling interest in FWV and was also a director of the two roof companies HSS and CBP, he had a conflict of interest. The so-called conventional understanding that had been agreed to by the two roof companies, and which included letting the businesses plough corporate profits back into the companies rather than distributing them amongst shareholders, were matters that could be challenged. Justice White was satisfied (as had been the trial judge) that Mrs O’Meara’s brother might not pursue the case as vigorously as he would have if there was no potential conflict of interest.

The Full Supreme Court was also satisfied that Mrs O’Meara was acting in good faith. In that context, they relied on earlier decisions in which this principle had been discussed. Justice White held that her purposes were consistent with the principles laid down in earlier cases and concluded that notwithstanding her motivation, which involved an altruistic factor, she was still acting in good faith.

Justice White also agreed with Justice Sulan that there were serious issues to be tried and that it was in the best interests of the company that she was given the opportunity to test those particular issues. He also felt that despite the fact that she had some funding available to her, it was not fair that she should bear the burden of funding the case. The company itself should bear the burden. This was because it was in the interests of the company that the case should be pursued.

Finally, while there had been some delay in the intervention by Mrs O’Meara, Justice White felt that this was not serious enough to defeat her case.

The decision is a most interesting one. It is the first decision, to my knowledge, where a Full Supreme Court has looked at the statutory derivative action being tested in this fashion. It will give heart to shareholders of companies, but at the same time will create concerns for company directors.

It will be fascinating to see if the matter is taken further.