Class 12 – Directors’ duty to act in good faith and for proper purposes

The Director’s Duty to Act Bona Fide for the Benefit of the Company as a Whole

[7.125] An overview of remedies and their outcomes

• Redmond draws attention to two elements of the fiduciary duty imposed upon directors – the duty of good faith (which has several separate elements) and the fiduciary obligation to avoid situations of a conflict of interest without the company’s consent

• He distinguishes the duty of good faith from other general law doctrines on two bases:

  • The duty applies to directors making decisions or exercising powers for the corporation, or performing functions as individuals delegated to them by the board – but they are exercising corporate powers acting in a corporate role

  • The duty of good faith permits a challenge to be made of a particular decision taken or transaction entered into – with remedies including orders setting it aside (in appropriate case)

    • That is, personal liability isn’t the only possible consequence – it targets the decisions themselves.

    • The right of the company to set aside the transaction depends on proof that the other party to the transaction did or did not have notice of the breach (Harlowe’s v Woodside) – once breach and notice are established, this displaces the assumption that company officers properly perform their duty (s 129(4)) through knowledge or suspicion that it is indeed incorrect that they do (s 128(4))

• This is in contrast to the duties with respect to derivation of profits from their office or transaction – in these circumstances remedies for breach are concerned with personal liability rather than the particular decision

  • Thus the remedies sounding will be for equitable compensation to account for profits or liability as a constructive trustee of property acquired in circumstances sufficiently connected with the corporate office as to offend the equitable rule enjoining conflicting avoidance by fiduciaries

[7.220] Judicial reluctance to intervene in directors’ decisions

• Redmond quotes from justices who intimate that courts do not intervene into the policy decisions, or assess the merits of business decisions – reflecting the limited institutional expertise of the courts

• But despite this the duties of good faith fashioned by the equitable jurisdiction of the courts have created a tool for limited judicial control of the exercise of directors’ powers and management decisions

  • This has inexorably led to intervention into board decision and substitution of judicial views for that of directors, at least in the most egregious of cases

[7.225] The elements of the duty to act in good faith

• The duty was traditionally expressed as requiring directors to act bona fide for the benefit fo the company as a whole (same as for shareholder voting power) – however it differs due to the fiduciary nature of the duty

• Redmond comments that the duty is not readily divisible into its discrete elements of a subjective duty of good faith and an objective benefit into the company – it is directed at the intention, motive and beliefs of the directors and whether they made the interests of the company their principal consideration

  • Thus if the power is exercised for themselves (as in Gilbert’s Case) or to confer a benefit on a third party or class of shareholders (Kerry v Moon Dream Gold Mines) or damage the company itself – the duty will have been breached

• Redmond comments that the modern duty of faith contains three distinct elements which are independent but interrelated duties – all applicable to a directors exercise of corporate power. Each of them are a self-contained means to judicial review into directors decision.

[7.230] The duty of subjective good faith

• This is a duty to act honestly in the company’s interests as the directors perceive them – a duty of honesty/ subjective good faith.

  • Though good faith is determined objectively, the inquiry is confined to the director’s subjective intent.

  • An honest belief that action is in the company’s interest, though, a necessary not sufficient condition of the validity of a decision – the other two elements of the duty may vitiate it

[7.235] The duty to exercise powers for a proper purpose

• This element is a duty on directors to exercise corporate powers only for the purpose which they were granted to directors – it permits courts to invalidate decisions taken by directors if their motivating purpose is one which a court determines is beyond those which the power can be legitimately exercised

• Though some powers have specific limitations, others may be general and can’t be defined otherwise than having a “corporate purpose” or a director’s intention to benefit of the company

• The origin of the doctrine of equitable fraud in the proper purpose doctrine stems from the equitable doctrine relating to fraud on the powers of appointment given by one to another with respect to disposition of their properties

• Redmond notes that the distinction between this and the above duty is not so easily drawn and sometimes conflated (like in Ngurli v McCann) – sometimes the need to treat them separately won’t be necessary since decisions can be characterised equally as lacking subjective good faith or motivated by an improper purpose

  • This is so especially where the purpose characterisation of the corporate power in question is solely in terms of an intent to benefit the company

  • Thus where the power is capable of being characterised objectively the distinction between these two requirements becomes important

• Redmond notes that because the strict fiduciary duties do not sit comfortably with the realities of a directors’ office (like in proprietary companies where directors are also shareholders) – mixed purpose doctrines have been developed. In Mills v Mills

  • Latham CJ noted that invalidating actions just because of an interest would set an impossible standard and require directors to live in an unreal region of detached...

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