In order to properly discharge their obligations to a company which they are appointed, directors must be satisfied that they are using company money for ‘proper purposes’. By treating the company interests as their own interests they may be in breach of their fiduciary duties and engaging in conduct that would be oppressive to the rights of shareholders. This article will explore the principles that underpin when it is appropriate for company funds to be used. In short, company money must only be used for company purposes.
The separate legal personality of a company
A fundamental characteristic of a corporation is that it has its own legal identity.[1] This means the law will treat a corporation as a separate legal entity which is independent from the person(s) who represent it. The common law is clear in that a company’s actions, assets, rights and liabilities are separate from its individual members and their actions, assets, rights and liabilities.[2] It follows that even if a person owns all the company’s shares, they do not legally own the assets of the company.
Director’s duty to exercise their powers for a proper purpose
Company directors have a duty to exercise their powers for a proper purpose,[3] which usually does not exceed the powers conferred under the company’s constitution.[4] While directors may consider their interests as a shareholder of the company, a breach of director’s duties occurs if the main reason for exercise of power concerned his or her own interests.[5]
This principle applies to the use of company funds. In Advance Bank Australia Ltd v FAI Insurances Ltd (1987) 12 ACLR 118, it was held that directors must exercise the power to expend company funds for proper purposes and in the interests of the company as a whole. Later case law established that breach of this fiduciary duty to the company through the misuse of company funds and assets could constitute oppression of a minority shareholder.[6]
More recent cases have shown oppressive conduct resulting from misuse of company funds when directors arranged for the company to pay for personal expenses without authority and without disclosure,[7] or when company funds were diverted to another company controlled by the director.[8]
The withdrawal of company money, without any obvious entitlement, or entitlement to finance personal expenses, and subsequent refusal or failure to return moneys may also warrant a cause of action for the Court to impose a freezing order to preserve the assets of the applicant.[9]
Company paying the legal costs in proceedings on behalf of majority
In Re D G Brims and Sons Pty Ltd (1995) 16 ASCR 559 (Brims and Sons), the company was a closely held corporation that was a successful manufacturer of timber products. The relationships between the shareholders eventually broke down and an application was made by the minority shareholders for compulsory sale of shares due to a perceived unfairness in the conduct of the affairs of the company by the majority.
One of the arguments against the respondents was the use of company funds to pay ‘thousands of dollars spent on lawyers, accountants and valuers’ on behalf of the majority shareholders. In his judgement, Byrne J deemed such use of company funds as unfair and discriminatory.
Byrne J reasoned that the dispute, in essence, was between shareholders. It follows that company funds should not have been used to defend the majority shareholders.[10] Even if the board acted on legal advice, as in Coombs v Dynasty Pty Ltd (1994) 14 ACSR 60, this is no defence. This action by the respondents therefore infringed the foundational principle that:
“…the powers, and the funds, of a company may be used only for the purposes of the company.”
The effect of this principle emulates those earlier established in Mills v Mills (1938) 60 CLR 150 and Ngurli Ltd v McCann (1953) 90 CLR 425.
In the circumstances of the case, his Honour further clarified that expenditure was justifiable if:
- used for discovery;
- resisting orders in the proceedings that the company purchase shares; or
- to pay an unpaid dividend.
Effectively, company funds and resources may only be used for proper purposes of the company including expenditure to protect its discrete interests.
The company had also passed a board resolution in 1993 whereby upon conclusion of the case, the other respondents would pay any costs of representing them beyond those incurred for the company. However, Byrne J said that this was not the proper approach and the majority shareholders should be required to meet the “great bulk of the costs of representing all respondents”.
As to remedies, it was held that the unfair expenditure only diminished the company’s cash reserves, not dividends, therefore the applicants were not financially disadvantaged. Considering that the board had postponed major capital expenditure until proceedings finished, any loss suffered by the minority was interest that would have otherwise been derived through investment of capital and an indemnity in respect of liability incurred but not yet satisfied.
Currently, the basis for company expenditure still varies case-by-case as no conclusive and exhaustive statutory grounds exist. However, Brims and Sons Pty Ltd clearly established that using company funds to pay for the legal costs of proceedings on behalf of the majority is not justified as well as any expenditure beyond a proper purpose for the company.
Links and further references
Legislation
Uniform Civil Procedure Rules 1999 (Qld)
Cases
Advance Bank Australia Ltd v FAI Insurances Ltd and Another (1987) 9 NSWLR 464
ANZ Executors & Trustee Company Ltd v Qintex Australia Ltd [1991] 2 Qd R 360
Coombs v Dynasty Pty Ltd (1994) 14 ASCR 60
EBM Co Ltd v Dominion Bank [1937] 2 WWR 56
Exton v Exton Pty Ltd (2017) 118 ACSR 411
Martin v Australian Squash Club Pty Ltd (1996) 14 ACLC 452
Mills v Mills (1938) 60 CLR 150
Ngurli Ltd v McCann (1953) 90 CLR 425
Patterson v BTR Engineering (Aust) Ltd (1989) 18 NSWLR 319
Patterson v Humfrey (2014) 103 ACSR 152
Re a Company (No 4502 of 1988) [1992] BCLC 701
Re a Company (No 1126 of 1992) [1994] 2 BCLC 146
Re D G Brims and Sons Pty Ltd (1995) 16 ASCR 559
Further information about corporate law
Contact us for a confidential and obligation-free discussion:
Malcolm Burrows B.Bus.,MBA.,LL.B.,LL.M.,MQLS.
Legal Practice Director
T: +61 7 3221 0013 (preferred)
M: +61 419 726 535
E: mburrows@dundaslawyers.com.au
Disclaimer
This article contains general commentary only. You should not rely on the commentary as legal advice. Specific legal advice should be obtained to ascertain how the law applies to your particular circumstances.
[1] Corporations Act 2001 (Cth) s 124(1).
[2] EBM Co Ltd v Dominion Bank [1937] 2 WWR 56.
[3] Corporations Act 2001 (Cth) s 181(1)(b).
[4] Mills v Mills (1938) 60 CLR 150.
[5] Ibid.
[6] Martin v Australian Squash Club Pty Ltd (1996) 14 ACLC 452.
[7] Patterson v Humfrey (2014) 103 ACSR 152.
[8] Exton v Exton Pty Ltd (2017) 118 ACSR 411.
[9] Patterson v BTR Engineering (Aust) Ltd (1989) 18 NSWLR 319, 325; Uniform Civil Procedure Rules 1999 (Qld), rr 260A(1), 260D(3).
[10] Re a Company (No 4502 of 1988) [1992] BCLC 701; Re a Company (No 1126 of 1992) [1994] 2 BCLC 146.
Related insights about corporate law
-
Company money is for company purposes
This article examines the legal principles behind when it is permissible to use company funds, focusing on the case of Re D G Brims and Sons Pty Ltd (1995) 16 ASCR 559, which established that company funds must only be used for company purposes and not to pay for legal costs of proceedings for the…
-
A director’s duty to act in the best interests of the company: MG Corrosion Consultants Pty Ltd v Gilmour
The case of MG Corrosion Consultants Pty Ltd v Gilmour [2014] FCA 990 serves as a reminder of the need for Directors to uphold their obligations under the Corporations Act 2001 (Cth). Uncover the Courts findings and the implications for Directors.
