Directors beware!

Creditor protection from

insolvent trading
David B Goldman∗

INTRODUCTION
The liability faced by directors for insolvent trading and the recovery options available for the benefit
of creditors primarily through liquidators but also through the regulator, ASIC, are increasingly
complex. This article aims to assist directors and liquidators to consider these matters by reference to:
• statutory duties and remedies including the standing to bring proceedings
• elements of the statutory duties, including the meaning of the terms “director”, “incurring a
debt”, “insolvency” and “reasonable grounds for suspecting insolvency” by reference to recent
cases
• elements of the statutory defences, including reasonable grounds to expect solvency, reliance
upon a competent and reliable person, illness or some other good reason, by reference to recent
cases
• related sources of director liability for breach of fiduciary duty, for insufficient indemnification
from trust assets being available to a corporate trustee, for misleading or deceptive conduct and
statutory requirements to ensure payment of certain tax obligations
• recent invasions of the director’s comfort zone, including the ASIC National Insolvent Trading
Program, the loss of the perceived protection of deeds of company arrangement and the jailing of
a director
• proposed reforms to insolvent trading laws
A recent survey has shown that the construction industry comprised 22% of all reported insolvent
trading cases, followed by the retail trade and manufacturing industries, which both accounted for
17% each of the incidence of insolvent trading.1 The danger to directors is therefore pervasive and not
limited just to directors of failed insurance and “hi-tech” public companies such as HIH and One.Tel.
Accordingly, there is potential for creditors to obtain at least some redress for their misplaced faith.

∗
BEc, LLB(Hons) (Macq), LLM, PhD(Syd). Senior Associate, Deacons; Affiliate, Julius Stone Institute of Jurisprudence,
Faculty of Law, University of Sydney. I wish to thank Mitchell Mathas (Partner, Deacons) for comments on a draft of this
article, and Luisa Tan (Graduate Lawyer, Deacons) for her research assistance. A version of this article was presented to a
lunch time study group meeting of the Insolvency Practitioners Association of Australia, Sydney, 12 August 2004.
1
See James P, Ramsay IM, and Siva P, “Insolvent Trading – An Empirical Study” (The University of Melbourne Faculty of
Law Legal Studies Research Paper No 72, 2004) p 27.

© 216 (2005) 23 C&SLJ 216

 The Law of Shadow Directorships
Martin Markovic*
This article in providing an examination of the law of shadow directorships
highlights some contentious issues surrounding the wording of the statutory
definition pursuant to Corporations Law s 60(1)(b) and the professional
capacity exemption pursuant to s 60(2). The article also reviews the
controversial New South Wales Supreme Court decision of Standard
Chartered Bank of Australia Ltd v Antico and the New Zealand High Court
decision of Dairy Containers Ltd v NZI Bank Ltd.

Introduction
The Corporations Law imposes a wide range of duties and liabilities upon
company directors. Of particular concern to directors in recent years has been
the duty to prevent insolvent trading. Directors contravening this duty are
liable to compensate the company to the extent of the losses or damages
suffered by unsecured creditors. Certain duties and liabilities which are
imposed upon directors pursuant to the Corporations Law apply not only to
“de jure”1 directors but may also apply to “shadow” and “de facto” directors
as defined pursuant to CL s 60(1).2 A definition of shadow directors is
provided pursuant to s 60(1)(b) although the term shadow director is not
specifically mentioned in the subsection.
The law surrounding shadow directorships is far from settled. There
remains considerable uncertainty regarding the ambit of the definition
contained in s 60(1)(b) as a result of the lack of relevant judicial authorities.3
The issue of shadow directorships, considering its possible far reaching
ramifications, has also received scant attention in the literature. This article
provides an examination of the law of shadow directorships. It will highlight
some contentious issues surrounding the wording of both the definition of
shadow directors pursuant to s 60(1)(b) and the “Professional capacity or
business relationship” exemption pursuant to s 60(2). The position of parties
who may be at risk of falling within the ambit of s 60(1)(b) will also be
canvassed. The limited Australian, New Zealand and English case authorities
on shadow directorships will be reviewed including the recent controversial

* Senior Lecturer in Commercial Law, Department of Commerce, The University of Adelaide.

This article was developed from the paper “Section 60(1)(b) Corporations Law Casts a Long
Shadow for Directors” presented at the 1996 National Corporate Law Teachers Conference,
Bond University.
1 A de jure director is a director who has been validly appointed to the position pursuant the
company’s articles of association.
2 P Redmond, Companies and Securities Law Commentary and Materials, The Law Book
Company Ltd, Sydney, 2nd ed, 1992, p 264 refers to the High Court decision in CAC v
Drysdale (1979) ACLC 40-505 as being widely regarded in standard textbooks as “authority
for the general proposition that de facto directors are subject to the same liabilities and
penalties as de jure directors”.
3 As P Loose, J Yelland and D Impey, The Company Director: Powers and Duties, Jordans,
Bristol, 7th ed, 1993, p 222 highlight “it cannot be pretended that the judges have thrown
much light on the outer limits of ’shadow status’”.

323
324 (1996) 6 Australian Journal of Corporate Law

New South Wales Supreme Court decision of Standard Chartered Bank of

Australia Ltd v Antico4 and the New Zealand High Court decision of Dairy
Containers Ltd v NZI Bank Ltd.5
A principle area of concern to shadow directors is the duty of directors to
prevent insolvent trading pursuant to s 588G. Section 588G applies “if a
person is a director”. “Director”, however, is not defined in Div 3. As such, the
definition of director pursuant to s 60(1) applies to s 588G.6 It is only logical
that the definition of director pursuant to s 60(1) applies to the insolvent
trading provisions as highlighted by Millett J in Re Hydrodam (Corby) Ltd
when discussing liability for wrongful trading (the UK equivalent to
Australia’s insolvent trading) pursuant to s 214 Insolvency Act 1986 (UK):
Liability for wrongful trading is imposed by the Act on those persons who are
responsible for it, that is to say, who were in a position to prevent damage to
creditors by taking proper steps to protect their interests. Liability cannot sensibly
depend upon the validity of the defendant’s appointment. Those who assume to act
as directors and who thereby exercise the powers and discharge the functions of a
director, whether validly appointed or not, must accept the responsibilities which are
attached to the office.7
However, although parties who fall within the ambit of the definition of
directors pursuant to s 60 are subject to certain statutory duties and liabilities,
including the duty to prevent insolvent trading, it must be noted that the
definition of director does not apply to all sections of the Corporations Law
which makes reference to directors. As Browne-Wilkinson VC in Re Lo-Line
Electric Motors Ltd explains in reference to the Companies Act 1985 (UK):
Since the definition of director is inclusive and not exhaustive its meaning has to be
derived from the words of the Act as a whole. In my judgment it is not possible to
treat a de facto director as a ’director’ for all the purposes in the 1985 Act. Thus in
ss 282 (minimum number of directors) 291 (directors’ share qualification) 293(2)
(age limits) and 288 (register of directors) the word director must be referring to de
jure directors alone. On the other hand, in some sections the word director must
include a person who is not a de jure director. Thus s 285 validates acts of a director
notwithstanding a defect in his/her appointment ie the acts of someone who is not
a de jure director.
It follows that the word director is capable of including de facto directors but may
not do so. The meaning of director varies according to the context in which it is to
be found.8
Parties who may be at risk of falling within the definition of shadow
director and being subject to the duty to prevent insolvent trading include:
(i) the bankrupt who installs his wife as sole director; and (ii) the fraudster who
makes use of nominee companies as his vehicles operated by nominee directors

4 (1995) 13 ACLC 1,381.

5 (1995) 7 NZ CLC 96-669.
6 See Hodgson J in Standard Chartered Bank of Australia Ltd v Antico (1995) 13 ACLC 1,381
at 1,436 where his Honour applied the definition of director pursuant to Companies Code s 5
when examining liability for insolvent trading pursuant to Companies Code s 566.
7 [1994] 2 BCLC 180 at 182. It must be noted that the Insolvency Act 1986 (UK) which
encompasses liability for wrongful trading expressly includes a definition of “shadow
director”.
8 (1988) 4 BCR 415 at 421-2.
 The Law of Shadow Directorships 325

(probably offshore) who simply carry out his instructions. In each case, the shadow
director is consciously the controlling mind of the company. The appointed directors
do as they are told, not because they choose to, but because that is their function. The
relationship is that of a puppet-master and his puppets.9

However, less obvious and possibly more contentious are parties who may
never have considered themselves to be a director, but nevertheless, through
their association with a company may be caught by the definition. Parties who
may be at risk include financial institutions with insolvent corporate clients,
company doctors and holding companies with insolvent subsidiaries (or
controlled entities). Pursuing these possible shadow directors may therefore
be an attractive alternative to liquidators, and highlights the far reaching
ramifications this area of the law may have for parties who are at risk of falling
within the definition of shadow director pursuant to s 60(1)(b).

Definition
The term “director” is given an extended definition pursuant to s 60. Strictly
speaking, the term director is not defined in the Corporations Law but instead
s 60 provides that certain persons are to be included as a director. The s 60
definition is therefore inclusive and not exhaustive. Section 60(1) provides as
follows:
60(1) [“director”] Subject to subsection (2), a reference to a director, in relation to
a body, includes a reference to:
(a) a person occupying or acting in the position of director of the body, by
whatever name called and whether or not validly appointed to occupy, or
duly authorised to act in, the position;
(b) a person in accordance with whose directions or instructions the directors of
the body are accustomed to act;
(c) in the case of a body incorporated or formed outside Australia:
(i) a member of the body’s board;
(ii) a person occupying or acting in the position of member of the body’s
board, by whatever name called and whether or not validly appointed
to occupy, or duly authorised to act in, the position; and
(iii) a person in accordance with whose direction or instructions the
members of the body’s board are accustomed to act.
Pursuant to s 60(1)(a) a person occupying or acting in the position of
director, by whatever name called and whether or not validly appointed to
occupy or duly authorised to act in the position includes a “de facto
director”.10 Pursuant to s 60(1)(b) a person in accordance with whose
directions or instructions the directors of the body are accustomed to act
includes a “shadow director”.11

9 J Millett, “Shadow Directorship, a Real or Imagined Threat to Banks” (1991,

Winter-January) Insolvency Practitioner 14 at 15.
10 Note the differences to the definition of director pursuant to Companies Act 1985 (UK)
s 741(1) which provides: “In this Act, ’director’ includes any person occupying the position
of director, by whatever name called.”
11 In contrast to the Corporations Law, the Companies Act 1985 (UK) specifically refers to the
344 (1996) 6 Australian Journal of Corporate Law

affairs held that NZDB was not a shadow director as DCL’s directors “did not
as a matter of fact receive directions or instructions from the parent
company”96 in their capacity as DCL directors. His Honour stated:
As its employees, NZDB delegated the responsibility of running the company in its
interest to them. But it did not give them identifiable directions or instructions as
such.97
The Dairy Containers Ltd case finding may therefore encourage fewer
directions or instructions by nominators to their nominee directors. In
comparison, the nominee directors in the Standard Chartered Bank case
similarly stated that they received “no instructions from Pioneer as to how
they should act”98 in their capacity as nominee directors. Nevertheless,
Hodgson J emphasised that although the three nominee directors gave careful
consideration to important strategic matters concerning Giant, they did so in
their capacity as Pioneer directors. His Honour was not of the view that “they
gave any separate considerations to them in their capacity as directors of
Giant. In my view, the directors of Giant . . . simply accepted the decisions
which had effectively been made by Pioneer”.99 It may be argued that the facts
of the Dairy Containers Ltd case could give rise to a similar assertion.
It is not uncommon that directors or senior executives of a holding company
are appointed the holding company’s nominees on the boards of its
subsidiaries (or controlled entities). As such, if it is accepted that the
underlying policy behind the principle of shadow directorships is to impose
certain duties and responsibilities upon parties who are effectively running a
company’s affairs although not formally appointed as directors, then the Dairy
Containers Ltd case may highlight potential problems with the wording of the
statutory definition of shadow directorship.
Secondly, although not made clear by Thomas J, if NZDB did no more than
control everyday operational decisions of its wholly owned subsidiary then it
may be argued that NZDB was not controlling the functions carried out by the
board of DCL. As Sangster J in Harris v S stated:
. . . in my opinion . . . to control the acts of a managing director, not in relation to
his functions as a member of the board of directors but only in relation to his
functions as a working executive (and I regard the phrase ’managing director’ as
importing a dual function of ’director’ and ’principal executive’) is of no moment in
an enquiry whether he controls the acts of ’the directors’.100
However, the facts tend to support that the control NZDB exerted over DCL
encompassed important strategic decisions such as:
DCL was not permitted to make a profit. The objective prescribed for the company
was to make low cost cans for NZDB. The profit would accrue to the parent
company when the product was eventually sold. Tax considerations no doubt played
some part in this decision as DCL was taxed whereas, at least for a time, NZDB was

96 (1995) 7 NZ CLC 96-669 at 268,811. Compare this with Finn J in ASC v A S Nominees Ltd
(1995) 13 ACLC 1,822 at 1,838.
97 ibid.
98 (1995) 13 ACLC 1,381 at 1,439.
99 ibid.
100 (1975-1976) CLC 40-263 at 28,629.
 The Law of Shadow Directorships 345

not. Consequently, any profits were rebated back to the Dairy Board. This situation
was readily accepted by the directors of DCL.101
Similarly NZDB directed DCL to hold tinplate stock “significantly in excess
of what would have been commercially prudent for an independent company
to hold”.102
Thirdly, it must be acknowledged that there was some evidence that NZDB
did not have total control over DCL’s affairs. For example, “NZDB resolved
to instruct DCL to remit its surplus funds to it for investment”.103 DCL “did
not wish that resolution to be enforced”104 and successfully frustrated it.
Fourthly, his Honour’s comment that even when NZDB made a firm
instruction it was directed at the company and not the directors, it is submitted,
may infer that to satisfy the extended definition of shadow directorship the
directions or instructions must be made to the directors. As stated, there is no
express requirement in the statutory provision as such, although it may be
impliedly inferred that this is the case. Nevertheless, where a holding
company in exercising substantial control gives instructions directed to its
subsidiary company and not to the directors of the subsidiary, and the
subsidiary acts upon these instructions with the knowledge and acquiescence
of the subsidiary’s board, then it is submitted this lends support to an arguable
case that holding company is a shadow director. It was clear from the facts that
DCL’s directors had knowledge and acquiesced to the control exercised by
NZDB over DCL’s affairs. As stated, in what was an extreme case of control
by a parent company over its subsidiary, the strict approach to the
requirements of shadow directorships undertaken by Thomas J may highlight
a potential problem with the wording of the statutory definition.
Some further interesting aspects concerning shadow directorships and
holding companies arose in the recent English High Court decision of Re
Hydrodam (Corby ) Ltd.105 The facts were as follows. Eagle Trust plc had a
wholly owned subsidiary Midland City Partnership (MCP) Ltd which in turn
had a wholly owned subsidiary Landsaver MCP Ltd which in turn had a
wholly owned subsidiary Hydrodam (Corby) Ltd. Hydrodam which had two
Channel Island companies as corporate directors went into liquidation. The
liquidator commenced wrongful trading proceedings (the equivalent to
Australia’s insolvent trading provisions) pursuant to Insolvency Act 1986
(UK) s 214 against 14 defendants including Eagle Trust, one of its subsidiaries
and all of Eagle Trust’s directors. The case before Millett J concerned two of
the Eagle Trust directors who were appealing against the dismissal of their
application to have the liquidator’s wrongful trading claim struck out. Millett J
allowed their appeals. Counsel for the liquidator argued that “sufficient facts
are pleaded to justify the inference that Eagle Trust and possibly MCP as well,
acted as a shadow director”106 of Hydrodam. His Honour not having to decide
on this issue “assumed that this is so” in light of the fact that the only directors
of Eagle Trust were two Channel Island companies and as such “[t]hat fact

101 (1995) 7 NZCLC 96-669 at 260,805.

102 ibid.
103 ibid at 260,809.
104 ibid.
105 [1994] 2 BCLC 180.
106 ibid at 183.
346 (1996) 6 Australian Journal of Corporate Law

alone may be sufficient to justify an inference that they were accustomed to act
in accordance with the directions of others; in which case there were shadow
directors of the company”.107 As stated, Millett J did not have to decide upon
whether Eagle Trust was a shadow director of its wholly owned indirect
subsidiary. Nevertheless, for the purposes of the matter his Honour assumed
this to be the case. This highlights that no matter how complex the group
structure is with intervening corporate entities, the crucial issue is whether the
directors of the subsidiary (or controlled entity) were accustomed to act in
accordance with the directions or instructions of the ultimate holding
company. Counsel for the liquidator in arguing that this inference may be
drawn between Eagle Trust and Hydrodam proceeded then to argue that the
directors of Eagle Trust were therefore “collectively responsible for Eagle
Trust’s conduct”108 in relation to Hydrodam and as such were also shadow
directors of Hydrodam. His Honour firmly responded “[i]n my judgment that
simply does not follow”.109 In other words, for the directors of Eagle Trust to
be the shadow directors of Hydrodam required the directors of Eagle Trust to
give instructions or directions to the directors of Hydrodam who were
accustomed to act on those instructions or directions. To provide further
guidance on the issue of when is a holding company a shadow director and
when are the directors of the holding company shadow directors his Honour
stated:
It is possible (although it is not so alleged) that the directors of Eagle Trust as a
collective body gave directions to the directors of the company and that the directors
of the company were accustomed to act in accordance with such directions. But if
they did give such directions as directors of Eagle Trust, acting as the board of Eagle
Trust, they did so as agents for Eagle Trust (or more accurately as the appropriate
organ of Eagle Trust) and the result is to constitute Eagle Trust, but not themselves,
shadow directors of the company.
In practice, in a case of the present kind, it is much more likely that it will be
found that the executive directors of the ultimate parent company (or some of them)
have from time to time individually and personally given directions to the directors
of the subsidiary and thereby rendered themselves personally liable as shadow
directors of the subsidiary. But if all they have done is to act in their capacity as
directors of the ultimate holding company, in passing resolutions at board meetings,
then in my judgment the holding company is the shadow director of the subsidiary,
and they are not.110
Note that in the Standard Chartered Bank case the chairman, managing
director and deputy managing director of Pioneer were found liable pursuant

107 ibid.
108 ibid at 183-4.
109 ibid at 184.
110 ibid. Compare this position with S R Brown, Company Directors, Law Book Company Ltd,
1965, 2nd ed, p 8: “Directors of subsidiaries are, generally speaking, required to act in
accordance with the directions or instructions of the holding company. Similarly, if directors
of subsidiaries are required to act in accordance with the directions or instructions of, say,
the managing director of the holding company (as a matter of declared policy) then the
managing director of the holding company would in fact be a director of the subsidiaries.
Consequently, directors of a holding company should not necessarily believe that they are
immune from liability for the defaults of subsidiary companies just because they, the
directors of the holding company do not sit on the subsidiary boards.”
 The Law of Shadow Directorships 347

to the insolvent trading provisions, not in their capacity as directors with

Pioneer but in their capacity as directors, albeit nominees of Pioneer, with
Giant. Furthermore, Wells J in Harris v S acknowledged that a governing
director of a holding company may in certain circumstances become a shadow
director as follows:
Once again, the role and function of a director of a corporation are assumed; the
class of such directors is statutorily enlarged to include persons other than directors,
stricto sensu, whose directions or instructions (in effect) are obeyed by the directors.
In my opinion, the extension has effect only where there are directors who are
fulfilling their role and function as directors, but who carry out that role and function
in accordance with directions or instructions given by someone dehors the
directorate, such as the governing director of a holding company, who directs and
instructs the directors of the subsidiary what to do.111
If the managing director of a holding company is a shadow director of a
subsidiary, does this mean that the holding company is also a shadow director?
Furthermore, if the managing director of the holding company is a shadow
director, is the holding company vicariously liable for the actions of the
managing director.112 If a holding company is held to be a shadow director of
a subsidiary (or controlled entity), then this also raises the issue that the
directors of the subsidiary may be in breach of duty to fetter their discretion
by blindly acting in accordance with the holding company’s instructions.113

Conclusion
This article has provided an examination of the law of shadow directorships.
It has highlighted that s 60(1)(b) potentially may cast a long shadow and have
far reaching ramifications on a number of parties as a result of the insolvent
trading provisions. The article identified the parties who may be at risk of
falling within the statutory provision as including financial institutions with
insolvent corporate clients, company doctors and holding companies with
insolvent subsidiaries (or controlled entities). The article has revealed that
there is uncertainty surrounding the definition of shadow directors pursuant to
s 60(1)(b) as a result of the wording of the provision and the lack of judicial
guidance. The article furthermore raised concerns as to the effectiveness of the
s 60(2) “Professional capacity or business relationship” exemption. Finally the
article has provided a discussion of the controversial decisions by Hodgson J
in the Standard Chartered Bank case and Thomas J in the Dairy Containers
Ltd case highlighting the contrast in approaches undertaken to the issue of
shadow directorships in the corporate group context.

111 (1975-1976) CLC 40-263 at 28,623.

112 See Dairy Containers Ltd NZI Bank Ltd (1995) 7 NZ CLC 96-669 and Kuwait Asia Bank EC
v National Mutual Life Nominees Ltd [1990] 3 All ER 404.
113 See Thorby v Goldberg (1964) 112 CLR 597.