Are you a director of an Australian subsidiary company? Does your parent company expect you to sign or accede to company group arrangements from time to time? You could personally be at risk and also place the company of which you are a director at risk without conducting an independent review of what you are being asked to sign or accede to.
It is common for directors and officers of wholly-owned subsidiary companies to be directed by their parent to enter into or accede to financial arrangements. Often this is by a request being made of the subsidiary company to provide collateral, security or additional guarantees for loans or advances entered into by the parent company or the relevant company group of which the subsidiary forms a part.
In our experience, in these circumstances directors of subsidiary companies often consider themselves to be under a duty to support the interests of their parent or company group of which they form a part, and hence sign up to what they are being asked without question.
Whilst this is understandable and a subsidiary company’s interests and that of its parent are usually generally aligned, acting on any such a direction will not absolve directors from their usual duties as outlined below. Further, directors who fail to independently review any proposed arrangements run the risk that they may inadvertently place the company of which they are a director into a precarious position. See below for what legislative protection can be afforded and common risk areas to watch out for in this regard.
What duties are owed by directors?
The key duties of company directors under the Corporations Act 2001 (Cth) (Corporations Act) (for which significant penalties can apply for breach) include:
- acting with care and diligence;
- acting in good faith in the best interests of the company and for a proper purpose;
- not improperly using their position to gain an advantage for someone else, or cause detriment to the company; and
- not improperly using information to gain an advantage for someone else, or causing detriment to the company.
Does the Corporations Act offer any protection for directors and officers?
Section 187 of the Corporations Act provides that a director of a wholly-owned subsidiary of a body corporate is taken to act in good faith in the best interests of the subsidiary if:
- the company’s Constitution expressly authorises the director to act in the best interests of the holding company; and
- the director acts in good faith in the best interests of the holding company; and
- the subsidiary is not insolvent at the time the director acts and does not become insolvent because of the director’s act.
Although its good practice for directors to ensure that a subsidiary company’s Constitution includes a clause that complies with section 187 of the Corporations Act, they should nevertheless take care as the requirements under section 187 are cumulative and the mere existence of such a clause in the company’s Constitution will not necessarily protect them. For example, how is a director of a subsidiary company to know what is in the best interests of the holding company? This is especially so, if the holding company is overseas.
Common risk areas for directors of subsidiary companies to watch out for and assess independently.
Directors of subsidiary companies being asked to enter into or accede to financial arrangements made by their parent or group company should take care to:
- check whether the subsidiary company is capable of giving and complying with all contractual warranties in the security documents it is being asked to sign; security documentation often contains warranties pertaining to matters such as insurance being maintained, the value of assets owned by the company and representations regarding financial matters and compliance with monetary thresholds both at the time the security is being provided and in respect of future transactions;
- be mindful that in providing any security over the assets of the subsidiary company that this will include the benefit of any contractual rights or benefits owed by third parties; contracts often provide that any rights or benefits can only be assigned or charged with the prior written consent of the other party; and
- consider whether any definition of a permitted security interest in any security documentation being entered into or acceded to is adequate to cover any existing security interests of the subsidiary company or whether any such definition ought to be amended to include such existing interests; and
- note that particular care should be taken if the subsidiary company has any possible concerns in respect of its solvency.
Failure to check such matters can result in the subsidiary company being in default of the documents it is entering or acceding into, thereby potentially also triggering a default by its parent company or the company group of which it forms a part under the relevant financial arrangements to which the parent company or any other group company already is a party. In these unfortunate circumstances a director may also be personally at risk for breaching their duties as a company director.
