Question

Scenario 2:

Murphy Jones and his wife Lorreta Jones were the two directors of BEST Equipments Pty Ltd. Murphy managed all the affairs of the company and Loretta was just a housewife and had no business experience and knowledge, due to her busy schedule she had most willingly left the management of the business to her husband.

BEST Equipments Pty Ltd had been facing liquidity problems and Murphy was well aware of this fact and yet continued to operate the business, took additional financial loans and made purchases on credit. Lorreta would often sign the business documents as and when requested by her husband.

BEST Equipments Pty Ltd was unable to pay the loan instalments on due dates and some of the cheques issued by the business were not cleared due to shortage of funds. The business could not withstand the financial pressures for long and received court orders to wind up and the court appointed an official liquidator for settling the liabilities and payments to creditors.

Lorreta in her defence said that she signed the documents as she had always been doing so, as and when requested, and the documents were never explained to her and neither did she feel the need for it as she totally trusted her husband’s business skills.

You are now required to read the above case scenario and answer the following questions:

1. Define insolvency as mentioned in s95A of the Corporations Act?
2. As per s588G of the Corporations Act, which statutory duty of the director has been breached by Murphy and Lorreta? What fact mentioned in the related case indicates application of liability of s588G.
3. For the purposes of deciding the liability of Lorreta, was it a “good reason” for her not to take part in the management, is it a sufficient defence available for breach.

HINT: Response must be based on Director’s duty to prevent insolvent trading, and defences available for breach of the same (s588G and s588H). Facts mentioned in   Deputy Commissioner of Taxation v Clark

Answer 1

1. Insolvency is defined under s95A of the corporations act ... as an inability to pay debts as they fall due out of the debtor's own money. But the debtor's own moneys are not limited to his cash resources immediately available. They extend to moneys which he can procure by realisation by sale or by mortgage or pledge of his assets within a relatively short time - relative to the nature and amount of the debts and to the circumstances, including the nature of the business, of the debtor. The conclusion of insolvency ought to be clear from a consideration of the debtor's financial position in its entirety and generally speaking ought not to be drawn simply from evidence of a temporary lack of liquidity. It is the debtor's inability, utilising such cash resources as he has or can command through the use of his assets, to meet his debts as they fall due which indicates insolvency."

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Rule

2. As prescribed in CORPORATIONS ACT 2001 - SECT 588G

The duties

The Corporations Act 2001 requires that directors must:

• Use the care and diligence of a reasonable person, in the same position and with the same responsibilities as the Director (s180);

• Act in good faith in the best interests of the corporation and for a proper purpose (s181);

• Not use their position improperly to gain an advantage for themselves or someone else or cause detriment to the corporation (s182); and

• Not use improperly information obtained as a result of being a director to gain an advantage for themselves or someone else or cause detriment to the corporation

In the case of Murphy Jones and his wife Lorreta Jones Murphy breached the duty of care and diligence, he knew that company is facing financial pressure still he took new loans. new loans increased the burden on the company. Lorreta Jones also breached the duty of care,due diligence and acting in good faith. She relied on her husband blindly and did not perform her duty, as she did not review the documents properly. As she is a director of the organisation and thus has a responsibility to take due care while taking action on behalf of the organisation and acting in good faith for benefit of the organisation.

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3. No, it is not a good reason” for her not to take part in the management, it is not a sufficient defence available for breach.

Case reference

As stated by The Honourable James Spigelman in the case of Deputy Commissioner of Taxation v Clark Lorreta Jones Murphy that she relied on her husband completely to manage the company, he concluded that 'there is no justification for a doctrine, which would hold sleeping directors to be `de facto non-directors', who should be relieved of their liabilities, but court of appeal against her on the ground. That-executive directors are reminded that their role is a serious undertaking with legal responsibilities and consequences. The Courts have clearly indicated a willingness to impose high standards on directors' conduct and will not provide any leniency for non-executive directors or 'sleeping' directors where breaches of directors' duties occur.