James Hardie Case Study – Shareholder’s Perspective Handout

Sienna Angela L. Nacario

Corporate Governance – Atty. Kalaw
September 14, 2021

I. The History of James Hardie

James Hardie Industries Limited (JHIL) was one of the most established companies based in
Australia. It was mainly engaged in the production of building and construction materials. One of
its key products was its Asbestos cement sheeting which was popularly used in the construction
of buildings due to its low cost, durability, and fire retarding qualities. JHIL manufactured and
marketed asbestos products until 1987 when cases such as asbestosis, lung cancer, and
mesothelioma started rising due to exposure to fibers from asbestos products. The effects of
these diseases usually manifest up to 40 years later after exposure and its effects are often fatal.1

Most of the victims of these diseases were the stakeholders of JHIL such as its workers,
employees, and customers as well as carpenters and builders who used the building materials
and those living near the asbestos manufacturing factories. These stakeholders were oblivious to
the risks of exposure to asbestos products since its effects only manifest after decades.

As early as the 1930s, studies associating asbestos and lung diseases have been published in
medical journals. Notwithstanding the growing evidence of the perilous effects of asbestos
exposure, JHIL continued to manufacture asbestos products instead of taking measures to cease
its production to protect its stakeholders. Hence, JHI as well as its subsidiaries, James Hardie &
Coy Pty Ltd and Jsekarb Pty Ltd, were found to be liable to provide compensation to the victims
of asbestos disease and their families. 2

1 Clarke, Thomas. International Corporate Governance: A comparative Approach. Abingdon, Routledge, 2007.
2 Id.
 II. Corporate Restructuring and the Creation of the Foundation

After abandoning asbestos and refocusing its activities into other building products, James Hardie
was able to build a successful house building industry overseas. Nevertheless, its asbestos
liabilities in Australia held back the company from further developing its business. 3 Shareholders
were starting to get concerned over the tax implications of transferring revenues overseas back
to Australia. Investors also expressed their concerns over its growing asbestos liabilities.

In response to these issues, JHIL endeavored to restructure the group to set apart its asbestos
liabilities in Australia from its operating business. Since the company had to meet future liabilities
by continuously earning sufficient profit, it was inclined to move its operating assets to a more
tax-efficient Dutch Company (JHNV) while all its liabilities were turned over to MCRF, which
would then act as a trust and manage the claims made against James Hardie and Coy and Jsekarb.
These subsidiaries dealt with the asbestos operations of the company. Between 1995 and 2000,
JHIL began gradually selling the assets of these subsidiaries, leaving them the asbestos liabilities.
Thereafter, shareholders swapped their shares in JHIL for shares in JHNV. 4

In 2001, the company established the Medical Research and Compensation Foundation (MRCF)
to manage its assets and compensate the victims of asbestos-related diseases. The establishment

3 Id.
4 Clarke, Thomas. International Corporate Governance: A comparative Approach. Abingdon, Routledge, 2007.
of the Foundation and restructuring of the company was aimed to efficiently facilitate current
and future claims, to guarantee the payments to victims of asbestos-related diseases, but most
of all, to allow the JHIL management to focus on growing the company and protect the interests
of its shareholders.

JHIL declared that it made an initial deposit of $293 million into MCRF, and guaranteed the
Supreme Court of New South Wales that $1.9 billion was already reserved to fund its asbestos
liabilities. However, as the number of new claimants increased and as the initial fund continued
to be used up, JHIL canceled access to the further $1.9 million in funds it promised.

JHIL, James Hardie and Coy, and Jsekarb Pty entered into an agreement whereby the former
subsidiaries agreed to indemnify JHIL concerning any asbestos-related claims. MCRF then
absorbed these two subsidiaries. This way, JHIL completely transferred all its asbestos liabilities
to MCRF, to make itself a better prospect for investors. Under this agreement, JHIL would pay
James Hardie and Coy, and Jsekarb Pty over a certain period. Thereafter, James Hardie and Coy
and Jsekarb Pty were transformed into shell companies and subsequently renamed Amaca and
Amaba respectively. 5

III. Government Inquiry into the underfunding of the MCRF

In 2003, the MCRF directors made a public announcement that the Foundation was severely
underfunded. This resulted in public outrage and JHIL has since been under serious scrutiny and
the subject of great media attention due to allegations that it deliberately underfunded the
MCRF. Furthermore, the public found that JHIL’s declaration regarding the viability of MCRF
misled the public and its investors concerning James Hardie's ability to fund claims. James Hardie
on the other hand refused to accept further responsibility for the liabilities on the basis that the
MRCF and James Hardie were separate legal entities.

5 Id.
In 2004, a judicial inquiry into the underfunding of MCRF was commissioned by the New South
Wales Government. It was found that to predict the cost of future asbestos liabilities, JHIL
contracted the actuarial services of Trowbridge. The Trowbridge Report shows that the
prospective claims could amount to about $293 million. However, the estimated liabilities were
inadequate since it failed to take into account the separation of JHIL from its subsidiaries and the
financial model relied on did not consider the financial conditions of Amaca and Amaba whose
combined assets were insufficient to cover future liabilities. 6

Moreover, information in the Trowbridge Report accounting for the last nine months of claim
figures were not included in the report. These missing data seem to have made Trowbridge’s
predictions questionable. There were no stringent assessments as to whether the fund would be
sufficient to compensate future victims. The lawyers of the incoming directors of MCFL were
concerned about the withheld data and consulted JHIL’s general counsel Peter Shafron, who
assured them that these data are inconsequential. Immediately thereafter, using the actuarial
predictions in the Trowbridge report, JHIL’s President, Peter MacDonald announced the creation
of the Foundation.

According to Commissioner Jackson of the Commission of Inquiry of the New South Wales
government, the asbestos liabilities would not be less than $1.5 billion. This goes to show how
underfunded the foundation is. But the main question stands on whether or not this report was
relied on in good faith by the management of JHIL. Commissioner Jackson further opines:

“The evidence discussed so far makes it, to my mind, absolutely clear that JHIL, in permitting the
incoming directors and outgoing directors to rely on the Trowbridge Report, engaged in conduct
that was misleading and deceptive in contravention of s 52 of the Trade Practices Act, because
that report was wholly unsuitable to be used for the purposes of assessing the likely life of the
Foundation, and JHIL had no reasonable basis for implying that it was.”

6 Clarke, Thomas. International Corporate Governance: A comparative Approach. Abingdon, Routledge, 2007.
JHIL made it appear that it had sufficient funds to cover all future asbestos liabilities when in
reality, it does not. It was also proven that the net assets of Amaca and the foundation were only
$180 million which was far less than the figures estimated by the Trowbridge Report. This is
further refuted by the fact that JHIL was anticipating a new Australian accounting standard (ED
88) which requires companies to disclose its asbestos liabilities. The company also admitted
during the inquiry deliberation that the foundation had been very severely underfunded.

The release of the inquiry report tarnished not only James Hardie’s reputation but also that of its
directors and executives. Political and social pressure on James Hardie constrained it to negotiate
a compensation deal with eligible victims in 2005. While conflicts arose between the company
and the government regarding the tax-deductibility of donations to the voluntary fund, this was
later on resolved through legislation.7 Under the agreement, the estimate of future asbestos
liabilities released with the Agreement is A$1.568bn discounted for net present value, the
undiscounted estimate being A$3.306 billion. This agreement also aimed to protect James
Hardie’s directors and executives from being sued for further compensation, except for corporate
regulators such as Macdonald and Shafron who may be civilly and criminally liable for fraud if
proven that they knew their statements were false.8

IV. Corporate Governance Implications

Corporate restructuring was heavily influenced by the Shareholder Theory

Corporate restructuring is typically used in times of crisis. The restructuring was undertaken by
the James Hardie Group to rebuild its distinctive competencies and competitiveness in the
industry. To mitigate the impact of its asbestos liabilities, the management saw it fit to sell off
and redistribute its assets, transfer to another holding company and segregate its liabilities
through the creation of a separate entity (MCRF).

7 Person. (2006, November 9). Hardie claims tax break On compo. The Sydney Morning Herald. Retrieved September 14, 2021, from
https://www.smh.com.au/business/hardie-claims-tax-break-on-compo-20061109-gdosie.html.
8 Clarke, Thomas. International Corporate Governance: A comparative Approach. Abingdon, Routledge, 2007.
It is quite obvious that JHIL adopted a risk management mechanism primarily devised to isolate
itself from the asbestos liabilities of the company. Although it may be said that this was partly
driven by pressure from stakeholders and the Australian government, Clarke opines that the
corporate restructuring of the James Hardie group was evidently intended to maximize the
exclusive interests of its shareholders. From this, it can be inferred that JHIL adheres to the
shareholder theory.

As mentioned earlier, JHIL created a separate legal entity (the MRCF) to manage JHIL’s asbestos
liabilities. At first glance, this undertaking by the company seems to provide a more efficient
approach in facilitating its asbestos liabilities for the benefit and convenience of successful
claimants. However, as can be observed from the timeline of events such as the transfer of assets
and the following cancellation of funding, the move was actually made primarily for the
protection of the shareholder’s interests. This is also evidenced by the hasty decisions made by
the management in order to separate itself from its liabilities and the subsequent cancellation of
partly paid shares which was intended to serve as the reserve fund of MCRF.

By insulating itself from its past liabilities through restructuring its organizational makeup and
transferring its assets, the company became more attractive to investors and shareholders were
given more assurance that the progress of the company will not be held back by its history in
asbestos. These undertakings taken altogether, according to Clark, “obscured the human
dimension of the problem.” In clearly miscalculating the impacts of the asbestos issue, the
company exposed itself to more risks. It failed to take into account a stakeholder-based approach
which recognizes that business ethics and stakeholder relations go hand in hand since it may
affect the reputation and long-term success of the corporation. 9

Liabilities could have been prevented had there been good corporate governance and proper
risk management put in place at the onset

9 Maria Maher and Thomas Andersson. (n.d.). CORPORATE GOVERNANCE: EFFECTS ON FIRM PERFORMANCE AND ECONOMIC GROWTH.
An effective risk management plan allows a company to establish procedures to avoid potential
threats, minimize their impact should they occur and cope with the results. A company that
understands and controls risk also enables it to be more confident in its business decisions.
Furthermore, strong corporate governance principles which specifically focuses on risk
management can help a company develop its business while mitigating the effects of its
liabilities.10

Under the Agency theory, shareholders delegate the work of running the business to the
directors or managers who act as agents of the shareholders. However, conflicts may arise when
management decisions and their risks are not communicated to the shareholders. James Hardie
misled investors and shareholders into thinking that an adequate compensation fund was
available for asbestos victims when the directors of JHIL released such a misleading statement to
the stock exchange. This admittedly affects the confidence reposed by the investors in the ability
of JHIL to overcome its liabilities. As a result, the company’s share price suffered badly.

A transparent organization provides information in such a way that the stakeholders involved can
obtain a proper insight into the issues that are relevant to them.11 In the case of James Hardie,
the way the management’s decisions were reached did more harm than good although they were
made in consideration of the shareholder’s best interest. First, there was a failure to assess and
consider other viable options for effective risk management. Second, there was a failure to
further inquire into the questionable and inadequate actuarial report released by Trowbridge.
These failures are indicative of the company’s defective corporate management practices. As can
be gleaned from the facts, most of the management’s decisions were reached without
considering the interests of other stakeholders nor was there any discourse with other key
officials to thresh out the liability issues of the company. Instead, the decisions were reached in
a haste with the company solely relying on the Trowbridge report.

10
Cole, B. (2020, April 7). What is risk management and why is it important? SearchCompliance. Retrieved September 14, 2021, from
https://searchcompliance.techtarget.com/definition/risk-management.
11 Wim Dubbink, Johan Graafland and Luc van Liedekerke. (n.d.). CSR, transparency and the role of intermediate organizations. Retrieved from

https://www.montesquieu-instituut.nl/9353000/1/j4nvih7l3kb91rw_j9vvj72dlowskug/vjclg3i5c7dc/f=/artikel_johan_graafland.pdf.
Clarke suggests that the JHIL board's failure to control its officers (such as Macdonald and
Shafron) was because the directors involved were not independent. For instance, the directors
of James Hardie and Coy included two executives of JHIL and this relationship may have caused
them to give more credence to the resolutions and judgments made by JHIL management. What
they failed to consider was the Trowbridge report’s inadequacy. Clarke also posits that it is
questionable whether the boards were capable of dealing with the issue of the asbestos liabilities
in terms of their overall skill set and experience. Hence, the flawed reliance on the Trowbridge
report which led to fraudulent statements regarding the liquidity of the MRCF proves that JHIL
did not make a moral and sensible course of action given the gravity of the situation.

Limited Liability of shareholders is likely to be abused

The inclusion of the doctrine of limited liability in corporate law was intended to attract people
to make investments in companies. This doctrine primarily operates to protect the stockholders
in situations when the corporation has become insolvent.12 Clarke submits that the purpose of
this doctrine becomes problematic when the same is applied in the case of groups of companies.
In the case of James Hardie, the protected shareholder (JHIL) is merely “another company in the
group” and the doctrine when applied permits assets to be moved around the group to avoid
claimants from recovering from the shareholders’ investments or contributions.

Due to the application of the doctrine of limited liability in the present case, JHIL was insulated
from asbestos claims made against its subsidiary, James Hardie and Coy. The abuse of this
doctrine is further substantiated by JHIL’s conduct of transferring assets from its subsidiaries to
itself by way of dividends or management fees. By doing this, the transferred assets will no longer
be made available to successful claimants against James Hardie and Coy.

12Neil. (2020, February 24). Commentaries on the One Person Corporation under the Revised Corporation Code. BusinessWorld. Retrieved
September 14, 2021, from https://www.bworldonline.com/commentaries-on-the-one-person-corporation-under-the-revised-corporation-
code-4/.
In conclusion, the drawbacks of the doctrine of limited liability which enabled JHIL to avail of
corporate restructuring schemes caused ethical and financial apprehensions for
stakeholders.13 The applicability of this doctrine must be revisited, especially where the
corporate veil is obviously being used in order to evade corporate liability. 14

13 Nzenza, T. I. (2019, July 25). The James Hardie Saga. Medium. Retrieved September 14, 2021, from
https://medium.com/@taffyirvine_26157/the-james-hardie-saga-5d3c4f2ebf00.
14 Clarke, Thomas. International Corporate Governance: A comparative Approach. Abingdon, Routledge, 2007.
 Definition of Terms

Risk Management - Risk management is the process of evaluating alternative regulatory and
non—regulatory responses to risk and selecting among them. The selection process necessarily
requires the consideration of legal, economic and social factors.15

Corporate Social Responsibility - a management concept whereby companies integrate social

and environmental concerns in their business operations and interactions with their
stakeholders. CSR is generally understood as being the way through which a company achieves
a balance of economic, environmental and social imperatives, while at the same time addressing
the expectations of shareholders and stakeholders.16

Corporate Restructuring - an action taken by a company to significantly modify the financial and
operational aspects of the company, usually when the business is facing financial pressures.
Restructuring is a type of corporate action taken that involves significantly modifying the debt,
operations, or structure of a company as a way of limiting financial harm and improving the
business.17

Agency Theory - defines the relationship between the principals (such as shareholders of
company) and agents (such as directors of company). According to this theory, the principals of
the company hire the agents to perform work. The principals delegate the work of running the
business to the directors or managers, who are agents of shareholders. The shareholders expect
the agents to act and make decisions in the best interest of principal. 18

15 Directorate, O. E. C. D. S. (n.d.). RISK MANAGEMENT. OECD Glossary of statistical terms - risk management definition. Retrieved September
14, 2021, from https://stats.oecd.org/glossary/detail.asp?ID=2361.
16
What is CSR? UNIDO. (n.d.). Retrieved September 14, 2021, from https://www.unido.org/our-focus/advancing-economic-
competitiveness/competitive-trade-capacities-and-corporate-responsibility/corporate-social-responsibility-market-integration/what-csr.
17
Twin, A. (2021, May 19). Restructuring: How to limit financial loss and improve business. Investopedia. Retrieved September 14, 2021, from
https://www.investopedia.com/terms/r/restructuring.asp.
18 Theories of corporate governance: Agency, stewardship ETC. Paper Tyari. (2021, April 25). Retrieved September 14, 2021, from

https://www.papertyari.com/general-awareness/management/theories-corporate-governance-agency-stewardship-etc/.
Shareholder Theory – a corporation’s managers have a duty to maximize shareholder returns.
According to the theory, which was first introduced by Milton Friedman in the 1960s, a
corporation is primarily responsible to its stockholders due to the cyclical nature of business
hierarchy. Shareholders approve the salary of a corporation’s business managers, who, in turn,
are in charge of the corporation’s spending, which should also be in line with the wishes of the
shareholders.19

Stakeholder Theory - incorporates the accountability of management to a broad range of

stakeholders. It states that managers in organizations have a network of relationships to serve –
this includes the suppliers, employees and business partners. The theory focuses on managerial
decision making and interests of all stakeholders have intrinsic value, and no sets of interests is
assumed to dominate the others.20

Timeline of events:

Main Reference: Clarke, Thomas. International Corporate Governance: A comparative

Approach. Abingdon, Routledge, 2007.

19 Hunsaker, E. (2019, February 11). Stockholder theory vs. stakeholder theory. Bizfluent. Retrieved September 14, 2021, from
https://bizfluent.com/info-8483188-stockholder-theory-vs-stakeholder-theory.html.
20 Id.