High Court of Australia's decision on Arrium examination summons has far-reaching consequences for directors and insurers
Market Insight 24 February 2022 24 February 2022
The High Court of Australia has determined in a split 3:2 decision that shareholders of a company that is in liquidation can use the public examination powers in Part 5.9 the Corporations Act 2001 (Cth) (Act) to investigate personal claims against the company’s former directors and its auditor, even though those personal claims will not benefit the company or its creditors.
The High Court’s decision overturns a judgement of the NSW Court of Appeal that had previously determined that the use of an examination summons in those circumstances should be discharged as an abuse of process (see our previous update here: https://www.clydeco.com/en/insights/2020/12/public-examinations-cannot-be-used-for-private-pur ).
Up until now, public examinations have been chiefly conducted by ASIC and administrators/liquidators, and sometimes creditors, to benefit the company, its contributories or its creditors. The High Court’s decision opens up the public examination process to parties who may have a potential claim against the former directors and advisors of a company in liquidation. Directors, D&O insurers, and professional indemnity insurers can now expect an increase in the use of public examinations by shareholders (and litigation funders) to investigate potential securities class actions against directors and advisors. We could also see public examination of directors, officers, and advisors to investigate a wide variety of other private claims and disputes.
Clyde & Co Partner Marcus O'Brien and Special Counsel Steven Donley, who were involved in the case, consider the implications of the decision below.
Arrium Limited was an ASX-listed mining company, that was placed into external administration in April 2016. Commencing in April 2018, the administrators conducted 22 public examinations and two informal examinations and obtained over 200,000 documents pursuant to production orders. Liquidators were appointed to Arrium in June 2019.
On 5 April 2018, two Arrium shareholders requested permission from ASIC to be authorised as "eligible applicants" within the meaning of s 597(5A)(b) of the Act. In their request to ASIC, the shareholders stated that they wanted to examine former directors of Arrium to determine whether claims should be brought against the company’s former directors and its auditors in respect of alleged inaccuracies in the financial disclosure made by the company in its FY2014 financial statements. ASIC granted the request.
The shareholders applied to the NSW Supreme Court for a summons to examine the former Arrium director. The shareholders also sought orders for the production of documents by Arrium, its auditor, and an advisor in a capital raising. On 15 May 2019, the NSW Supreme Court granted the examination summons and the production orders.
Arrium’s liquidator, its auditor, and the former director unsuccessfully applied to the NSW Supreme Court to discharge the examination summons and the production orders, on the ground that they were an abuse of process. It was argued in support of the discharge application, among other things, that: (1) the shareholders’ request to ASIC proposed that they examine different former directors to the one that was ultimately named in summons; and (2) the examinee had already been informally examined the administrators.
Arrium’s liquidator and the auditor then successfully appealed to the NSW Court of Appeal. By the time the appeal was heard, the shareholders had already issued class action proceedings, but those proceedings did not name as a defendant the former director they sought to examine.
High Court Determination
The issue before the High Court was whether section 596A of the Act (which governs public examination summonses issued to former directors), when properly construed, allows the examination process to be used to investigate claims which have nothing to do with the external administration / liquidation of the company. It was common ground in the proceedings below that the Court has the power to discharge an examination summons as an abuse of process where the examination is to be used for a purpose that is foreign to the statutory purpose of s.596A.
In the decision below, the NSW Court of Appeal applied an established line of authority (primarily Evans v Wainter Pty Ltd (2005) 145 FCR 176) when interpreting s.596A to confine the permissible purpose of public examinations to those connected with the external administration of the company for the benefit of the company, its contributories and creditors.
In a narrow 3:2 decision (Edelman and Steward JJ, Gaegeler J concurring, Kiefel CJ and Keane J dissenting), the High Court overturned the NSW Court of Appeal’s decision. Gageler J stated the High Court’s intent was to “rechart” a new course from that which had been set by intermediate appellate Courts.
The High Court decided that s.596A does not require public examinations be conducted solely for the benefit of the company, its contributories, or creditors. The majority held that the purpose of s.596A was to allow for the examination of corporate officers to promote the administration or enforcement of the law concerning the public dealings of a company and its officers. The High Court considered that it was a legitimate use of s.596A to investigate any claim or action that furthers compliance with the Act or protects shareholders or creditors from corporate misconduct.
Gageler J also considered that the narrow operation of s.596A adopted in the NSW Court of Appeal’s judgment constrained ASIC’s ability to outsource regulatory enforcement action to “eligible applicants”. His Honour stated that, under the High Court’s wider interpretation of s.596A, “ASIC can take the view that the confident and informed participation of investors and consumers in the financial system would be promoted by authorising investors or consumers who might have suffered loss through corporate misfeasance to investigate that misfeasance through the public process for which Pt 5.9 provides with a view to them pursuing recovery of their losses by bringing civil proceedings of their own either under the ordinary processes of a court or under class action regimes”.
The High Court’s decision assists shareholders (and the litigation funders standing behind them) to pursue securities class actions, because potential claimants can now examine the former directors, officers and advisers of a company in liquidation, to investigate their claims. The potential claimants will still need to obtain “eligible applicant” status from ASIC before they can apply for an examination summons.
ASIC is likely to act on the High Court’s endorsement of it outsourcing investigation and enforcement, by being more liberal when granting “eligible applicant” status to private claimants to conduct examinations.
It will be interesting to see how widely the Courts will extend the access of “eligible applicants” to the examination process. The High Court minority was concerned about opening up the examination process to the investigation of claims that: (1) have a weak connection with the management of the company; and/or (2) are against parties who have a weak connection with the company. Given the many and wide-ranging statutory obligations imposed on directors, if the case law develops in a way that allows wide access, then examinations could potentially be permitted to aid claims such as environmental liability, consumer law breaches, workplace accidents and privacy breaches.
D&O insurers, and professional indemnity insurers of advisory firms, are likely to experience more claims for indemnity for public examination costs under the “investigations costs” policy provisions. The Act provides that the examinee (and thus the insurer) must bear their own costs of legal representation in respect of public examinations, unless the summons was obtained without reasonable cause. This case highlights how complex (and costly) it can be to respond to an examination summons of this type. The application to discharge the summons (and subsequent appeals) required detailed consideration of the motives of the eligible applicants; the effect of the proposed claim on the company’s liquidation, and the interaction between the class action proceeding and the public examination.
Finally, the High Court’s judgment stated a preference for the scope of the examination process to be appropriately supervised and confined by the Court during the examination, rather than having the examination summons discharged as an abuse of process. This leaves the door open for examinees to seek directions that examinations by eligible applicants ought to be confined to matters relevant to the subject matter of the proposed claim and/or the statutory purposes of s.596A as articulated by the High Court. This will add a further layer of complexity (and expense) to public examinations by eligible applicants.