Richard Brady Franks Ltd v Price [1937] HCA 42; (1937) 58 CLR 112 (17 August 1937)

Richard Brady Franks Limited Plaintiff, Appellant; and Price and Others Defendants, Respondents.

Teece K.C. (with him Seaton) for the respondents Herbert Price, Rose Eaton Thwaites and Annie Adeline Price.

Shortland, for the respondents Otto Christian Dorhauer, and Alfred Joseph Morgan and Otto Christian Dorhauer (as executors of the will of Frederick William Dorhauer, deceased).

This is an appeal from a judgment of Long Innes C.J. in Eq, dismissing a suit to set aside certain debentures issued by the plaintiff company in favour of a number of directors and other persons who were relatives or friends of such directors. The company, which was incorporated in 1926, carried on the business of manufacturing and selling steel and metal doors and sashes. From 1929 the company was in difficulties and discussions took place from time to time among the directors as to providing the necessary finance to enable the company to carry on. Two of the directors, Herbert Price and F. W. Dorhauer, guaranteed the liability of the company on its bank overdraft up to £5,000. Other directors or their friends made advances to the company and W. S. Baker, who was also a director, lent the company £250 for a temporary purpose. In October 1931 the position was that directors and other persons had advanced about £5,000 to the company, that Price and Dorhauer were liable under their guarantee up to an amount of £5,000 for the bank overdraft, the overdraft at that time standing at about £4,000. The company also owed trade debts of about £5,000, but it had moneys owing to it which enabled it to meet its trade debts as required from time to time.

In October, however, Baker required payment of his money. The other directors who had made advances took the view that if Baker was paid they and their friends ought also to be paid. It would not have been possible to pay them without running a real risk of putting the company into liquidation, and the evidence of the directors was that they desired to avoid this being done. Richard Brady & Sons Ltd. was a trade creditor of the company for about £395. John Brady was a director of that company and also of the plaintiff company. An arrangement was made at a meeting on 30th October 1931 that the debt of Richard Brady & Sons Ltd. should be paid and that Richard Brady & Sons Ltd. should then pay £400 to the company to be regarded as a loan "on short call," that is, on the same terms as advances made by other directors. On 3rd November another meeting of the board was held, and it was decided that the company should issue forthwith a series of debentures in order to give security for moneys owing to three of the directors, H. Price, F. W. Dorhauer and H. R. Holt, and to Richard Brady & Sons Ltd., and also to give security to Messrs. Price and F. W. Dorhauer as guarantors to the bank. The directors who were recorded as being present on that occasion were Messrs. Price, F. W. Dorhauer, Baker, Holt and Joseph Brady representing John Brady. Messrs. Price, Dorhauer, Holt and Brady were all interested in the issue of the debentures. Baker was the only person recorded as present who was not so interested. The articles of association provided that two directors should form a quorum and also provided that no director should be disqualified by his office from contracting with the company but that no director who was interested in any contract or arrangement with the company "shall vote in respect of any such contract or arrangement."

It is settled that, under such articles, in order to entitle a board of directors to act on behalf of a company, there must be present a quorum of directors who are competent to vote in relation to the business which they purport to transact (In re Greymouth Point Elizabeth Railway and Coal Co. Ltd.; Yuill v. Greymouth Point Elizabeth Railway and Coal Co. Ltd.[1]; A. M. Spicer & Son Pty. Ltd. v. Spicer[2]). There were not two persons present at the meeting on 3rd November who were not interested in the issue of the debentures and therefore the resolution passed cannot be relied upon for the purpose of establishing the validity of the debentures.

On 17th November a further meeting of the board of directors was held and the minutes contained the following record of business done: "Letter from the company's solicitor dated 16th inst. re issue of debentures was read. Moved by Mr. Holt seconded by Mr. Alldritt that the series of debentures totalling £10,151 prepared in pursuance of resolution of 3rd November 1931 be sealed and issued to the respective persons named therein. Carried unanimously." The letter from the company's solicitor set out the full names of the proposed debenture holders and the amounts to be allotted to each of them, and advised the directors as to the precise form of the resolution to be adopted.

On this occasion the directors recorded as being present included Baker and one Alldritt. Neither of these directors was interested in the issue of the debentures, and accordingly, if they were both present, there was a competent quorum. Admittedly Alldritt was present, but it was contended for the plaintiff that Baker was not present at either meeting (3rd or 17th November) though he was recorded in the minutes as being present and taking an active part. The learned trial judge heard a great deal of evidence upon this question and he came to the conclusion that Baker (despite his denial on oath) was present on both occasions.

In my opinion this court should not upset this finding of the learned judge who saw and heard the witnesses. If Baker were not present at the meetings, then certainly the chairman of the directors and the secretary, and probably other directors, must have been engaged in a conspiracy to concoct minutes with the object of showing with verisimilitude that he was present, and this must have been done for the purpose of supporting the validity of the debentures. Whether such a conspiracy was likely was essentially a matter for the learned judge to determine. A conclusion upon such a matter would be influenced very largely by the opinion formed of both the character and the capacity of the persons concerned In my opinion, the finding that Baker was present on 17th November, which is the crucial matter, should not be disturbed.

The next question which arises is whether the resolution of 17th November was effective for the purpose of authorizing the issue of the debentures. The point which is taken is that the resolution in terms refers to a "series of debentures totalling £10,150 prepared in pursuance of resolution of 3rd November 1931." The resolution of 3rd November 1931 was passed at a meeting at which a competent quorum was not present and was therefore in itself ineffective to authorize the issue of debentures on behalf of the company. It is urged that the terms of the resolution of 17th November show that the directors present were merely purporting to act in pursuance of the earlier resolution and that they did not deliberately and independently determine on that day that the debentures should be issued. Reference is made to Cox v. Dublin City Distillery [No. 2][3]. In that case the resolution which authorized the making of the contracts contained in a series of debentures was passed at a meeting at which a competent quorum was not present. The facts are different in the present case.

In my opinion the resolution of 17th November does not in any way depend upon the resolution of 3rd November. The earlier resolution was not effective to authorize the issue of any debentures because the conditions of the debentures had not then been determined. The later resolution refers to the earlier resolution only for the purpose of describing the debentures as being "debentures prepared in pursuance" of the earlier resolution. The later resolution, which was passed by a competent meeting, contains clear authority for the issue of each of the debentures which were in fact issued. In my opinion, therefore, this objection fails.

The next objection to the judgment under appeal is that the learned judge ought to have found that the directors did not act bona fide for the benefit of the company when they decided to issue the debentures and that the debentures are accordingly invalid, at least in the case of debentures issued to directors who were fully acquainted with all the facts, whatever may be the position with respect to some debenture holders who were not themselves directors. The powers of directors must be exercised not only in the manner required by law but also bona fide for the benefit of the company as a whole (Allen v. Gold Reefs of West Africa Ltd.[4]). A court, however, does not presume impropriety. In this case there is no doubt that the issue of the debentures was within the powers of the directors. The onus is on the plaintiff who challenges the action of the directors to establish that they did not act bona fide for the benefit of the company. In a case where this question arose (Shuttleworth v. Cox Brothers & Co. (Maidenhead) Ltd.[5] Bankes L.J., after referring to Allen v. Gold Reefs of West Africa Ltd.[6], said: "In the present case it seems to me impossible to say that the action of these defendants was either incapable of being for the benefit of the company or such that no reasonable men could consider it for the benefit of the company"[7]. The learned judge in the case under appeal has found that it is affirmatively proved that the directors intended to exercise their powers for the benefit of the company. There was clearly evidence which, if believed, justified this finding. The company was in a difficult position. It was necessary to take some action to prevent creditors descending upon it with the not improbable result that the company would have been forced into liquidation. It is not for a court to determine whether or not the action of the directors was wise. The question is whether it is shown that they did not honestly act for what they regarded as the benefit of the company. In my opinion the finding of the learned judge upon this question is supported by evidence and should be upheld. Thus I am of opinion that the appeal should be dismissed.

In the proceedings before Long Innes C.J. in Eq., the defendants were not all represented by the same solicitors and counsel and only one set of costs was allowed between them. It is contended by the appellant that in this court only one set of costs should be allowed as between the respondents, although two of the respondents were represented separately from such other respondents as have appeared and taken part in the proceedings. I am of opinion that there was no need for separate representation of any of the respondents. The fact that one of the respondents who is separately represented was not a director does not distinguish his case from that of the other debenture holders. The company had enough assets to pay all its creditors, including the debenture holders. I am unable to see that there was any actual or possible conflict of interest between the respondents, and I am therefore of opinion that the appeal should be dismissed with costs, but that only one set of costs should be allowed to the respondents. In my opinion, to avoid difficulties in taxation, two-thirds of such costs should be paid to the solicitors for Herbert Price, Rose Eaton Thwaites and Annie Adeline Price, and one-third of such costs should be paid to the solicitors for Otto Christian Dorhauer, and Alfred Joseph Morgan and Otto Christian Dorhauer (as executors of the will of Frederick William Dorhauer, deceased).

In this appeal three questions were argued with regard to the issue of the debentures the subject of this suit. The first question was whether there was a disinterested quorum of directors at either of the meetings of 3rd and 17th November. Art. 119 provides that two shall form a quorum at meetings of the board of directors and art. 112 in effect says that no director shall vote upon any matter in which he shall be interested. Its object was to ensure to the company that its directors should not be placed in a position in which their personal interests might be in conflict with the duty they owed to the company, and that in all transactions entered into by them on behalf of the company, the company should be able to rely upon their unbiassed and independent judgment (Victors Ltd. v. Lingard[8]). A disinterested quorum was not present at the meeting of 3rd November. But at the meeting of 17th November the minutes recorded that the quorum included Baker and Alldritt, both of whom had no personal interest in the issue of the debentures. Baker denied that he had been present but a mass of evidence was presented to the learned judge who found on this issue that Baker was present. "Upon questions of fact an appeal court will not interfere with the decision of the judge who has seen the witnesses and has been able, with the impression thus formed fresh in his mind, to decide between their contending evidence, unless there is some good and special reason to throw doubt upon the soundness of his conclusions" (Ruddy v. Toronto Eastern Railway Co.[9], and other cases cited in Federal Commissioner of Taxation v. Clarke[10]). After a careful consideration of the relevant evidence I have not found reasons adverse to the conclusion come to by the learned judge who has seen and heard the witnesses and determined the case upon comparison of their evidence. It was next contended on behalf of the appellant that no effective resolution had been passed to authorize the issue of the debentures, firstly, because no competent quorum was present at the meeting of 3rd November, and secondly, because the resolution passed at the meeting of 17th November was merely ancillary and incidental to that of the previous meeting. The first resolution can only be considered for the purpose of interpreting the second resolution. The second resolution so construed represents that the series of debentures has been prepared and is in order awaiting authority to issue the series and then proceeds to determine upon and authorize its issue. The last objection to the judgment under appeal was that the power had not been exercised by the directors "bona fide for the benefit of the company as a whole." At the hearing before the learned judge the plaintiff accepted the onus of proving this proposition. The phrase "bona fide for the benefit of the company as a whole" no doubt tends to become a cant expression in these matters but is not yet a shibboleth. Many of the cases which illustrate this "phrase" relate to the alteration of articles of association by shareholders in general meeting. No court "should consider itself fettered by the form of words, as if it were a phrase in an Act of Parliament which must be accepted and construed as it stands" (Shuttleworth v. Cox Brothers & Co. (Maidenhead)[11]). But the learned judge found that "the evidence as a whole preponderates in favour of the view that in regard to the issue of debentures the directors acted in the interests of the company and of the general body of shareholders and not in the interests of the proposed debenture holders" and found this issue of fact against the plaintiff. In order to succeed in a case like the present the plaintiff must prove the equivalent of fraud or bad faith. In Hirsche v. Sims[12] the Earl of Selborne formulated a test which seems applicable to the present case as follows: "If the true effect of the whole evidence is, that the defendants truly and reasonably believed at the time that what they did was for the interest of the company, they are not chargeable with dolus malus or breach of trust merely because in promoting the interest of the company they were also promoting their own." Upon such a question an opportunity of seeing the parties concerned is a matter of special importance in arriving at a conclusion. In the present case it is enough to say that the evidence does not establish any reason for disturbing the finding of the learned judge to which I have referred.

On 17th November 1931 instruments were executed on behalf of the plaintiff company purporting to secure by way of floating charge sums amounting to £10,150. Of these sums, £5,150 consisted of money deposited with the company at call and £5,000 formed a contingent liability of the company, a liability to the guarantors of its overdraft. The security or debenture thus covering the guarantors was issued upon terms which empowered them to subdivide the amount and sell parts of the security as separate debentures, subject, however, to the condition that the proceeds should be paid into the bank in reduction of the overdraft. The power was exercised and, on 13th May 1932, a debenture of £150, parcel of the amount of £5,000 specified in the guarantors' debenture, was issued to a transferee from the guarantors.

On 24th June 1932, the holder of the new debenture appointed receivers and managers who took possession of the company's undertaking and carried it on under the provisions of the debentures.

On 21st November 1933, the shareholders resolved that the company should be voluntarily wound up.

On 1st September 1935, the liquidator, in the name of the company, filed a statement of claim instituting the suit out of which this appeal arises. The prayer sought a declaration that the debentures were inoperative and void, and an inquiry as to the dealings with the debentures and an account of all moneys in connection therewith.

Long Innes, C.J. in Eq., decided that the debentures were valid and dismissed the suit.

Under the company's articles of association, at meetings of the board of directors two formed a quorum and the powers of the directors remained exercisable so long as a sufficient number to form a quorum was present. The usual provision was made that no director should be disqualified by his office from contracting with the company and no contract should be avoided by reason of a director's interest therein. But a proviso forbade every director to vote upon any matter in which he had an interest. Articles of such a kind are interpreted to mean that there must be present at the meeting a quorum consisting of directors none of whom is disqualified from voting upon the business transacted (See A. M. Spicer & Son Pty. Ltd. v. Spicer[13], where the authorities are cited).

The first ground on which the validity of the debentures is impeached is that no competent quorum existed at the meeting of 17th November 1931 when the resolution was passed authorizing the issue of the debentures. The minutes of the meeting in question show that two directors were present who admittedly had no interest in the issue of the debentures. The accuracy of the minute as to the presence of one of them is attacked, but the weight of evidence supports its correctness and Long Innes C.J. in Eq. found that the director in question was in fact present. In my opinion the attack on that finding is hopeless.

The second ground of attack is that in assenting to the resolution upon which reliance is placed the two directors forming the competent quorum did not give or purport to give their approval to the transaction or to authorize it. In terms the resolution adopted at the meeting of directors held on 17th November 1931 did authorize the actual issue of the debentures. But it had been preceded by two important meetings of the board. At the first of these, held on 30th October 1931, the directors considered a demand made on behalf of a member of the board for repayment to him of a sum of £250 which he had lent to the company. This formed part of the money deposited at call which was owing to members of the board or their relatives. As the company was in financial difficulties, the other directors not unnaturally were unwilling to make an immediate payment in cash to one such creditor and not to others. But it happened that a member of the board was in a position to convert a trade debt for £400 owing by the company into a deposit like that called up, and this he agreed to do. In adopting that course he was regarded by his fellow directors as affording a means of allowing the payment of the £250 demanded. It is not altogether easy to see the reason of this, but apparently a deposit at call was treated as in effect a fixed deposit, because it was understood that the course taken by the director seeking immediate payment of his £250 would not be imitated. Thus the director who converted the trade debt into a deposit, in effect, recouped the fund depleted by the withdrawal of the £250. Acting upon the same view, the board at the next meeting, which was held on 3rd November 1931, considered the question of issuing in respect of the deposits debentures with a currency of twelve months certain. Two of the directors had guaranteed the company's overdraft up to £5,000, and the board dealt also with securing the company's contingent liability to them by means of a debenture or debentures. At this meeting there was only one director present who had no interest in the transactions. There was, therefore, no competent quorum. But, nevertheless, a resolution was in fact passed that the company should issue forthwith a series of debentures to secure repayment of moneys owing to depositors and to secure the guarantors of the overdraft. The resolution provided that the debentures should be redeemable in twelve months from the date of issue, subject to such conditions as the debenture holders might approve.

On these facts it is said that there was no independent decision of the two directors forming the competent quorum present at the subsequent meeting of 17th November 1931, but only a resolution approving of the means adopted for carrying out a determination already arrived at, by which they conceived the matter to be settled. Reliance was placed on the decision of the Irish Court of Appeal in Cox v. Dublin City Distillery [No. 2][14]. The contention is answered by the terms of the resolution of 17th November and the inchoate nature of the resolution of 3rd November 1931. In Cox v. Dublin City Distillery [No. 2][15], at the earlier of the two meetings, that at which there was no competent quorum, the directors made a contract which, it was held, apart from the defect would have bound the company. At the second of the meetings, that at which there was a competent quorum, no more was done than to record the fact of the sealing and issuing of the instruments fulfilling the supposed contract. This was an insufficient exercise of the authority confided to a competent quorum to contract on the company's behalf with their co-directors or make a contract in which some of the latter were interested.

In the present case the earlier meeting resolved on nothing which would amount to a contract. In the interval the terms of the debentures were arranged, the persons to whom they were to be issued were nominated and the instruments were drawn up by the company's solicitors. By the resolution at the later meeting an express authorization was given to seal and issue the debentures in pursuance of the previous resolution. This was the contractual act and to it the two competent directors gave their assent by voting for the resolution. No contention has been advanced that the presence of the other directors at the meeting and their voting for the resolution, notwithstanding their incompetence to do so, vitiated the resolution. In my opinion the objection fails that the requirements of the articles of association were not observed.

Of the grounds upon which the validity of the debenture was impugned before Long Innes C.J. in Eq., there remains only one more upon which reliance was placed in support of the appeal. That ground is that in issuing the debentures to secure the money deposited at call and the contingent liability of the guarantors to the bank, the directors acted entirely in the interests of the depositors or lenders and of the guarantors and not at all in the interests of the company. Directors are fiduciary agents and their powers must be exercised honestly in furtherance of the purposes for which they are given. Under the general law of agency it is a breach of duty for an agent to exercise his authority for the purpose of conferring a benefit on himself or upon some other person to the detriment of his principal. But, at the same time, if his act is otherwise within the scope of his authority it binds the principal in favour of third parties who deal with him bona fide and without notice of his fraud (Hambro v. Burnand[16]; Lloyds Bank v. Chartered Bank of India, Australia and China[17], per Scrutton L.J.). The rule, no doubt, is the same with respect to the acts of directors. It follows that a transaction carried out by directors for their own or some other persons' benefit and not to further any purpose of the company is voidable but not void.

The object of this proceeding is said to be to obtain a declaration that the debentures under which the receivers took possession of the company's undertaking on 24th June 1933 were invalid and void, so that an action at law may be brought against them for trespass and conversion. It may, therefore, be important to distinguish between invalidity or voidness and voidability. It might not be enough for the plaintiff's purpose to show that the debentures were issued in such circumstances that in equity they would be set aside. It appears that the ordinary creditors and secured creditors will alike be paid in full and, apart from the question whether, under the debentures, a justification exists for the acts of the receivers in assuming control of the undertaking, it is difficult to see that anything now turns upon the validity of the securities. But no doubt if it were established that the debentures were issued in fraud of the company, then, except where it appeared that the debenture holder took bona fide, the debenture would be set aside and accounts and appropriate inquiries would be decreed unless it was affirmatively shown that in the events that had happened no useful result could possibly ensue. Those impeaching the transaction must sustain the burden of proving that the directors acted in their own interests and were not in fact exercising their powers in supposed furtherance of any purpose or advantage of the company. In considering such a question, it is important to ascertain what are the purposes for which powers are given and to remember that the fiduciary duty of the directors is to the company and the shareholders. It is not enough that they preferred their own interests or those of some other persons to the interests of strangers to the company, as, for instance, to those of the creditors of the company.

In the present case one of the powers expressly conferred by the articles upon the directors is as follows: "To execute in the name and on behalf of the company in favour of any director or other person who may incur or be about to incur any personal liability whether as principal or surety for the benefit of the company such mortgages of the company's property (present and future) as they may think fit and any such mortgage may contain a power of sale and such other powers covenants and provisions as shall be agreed upon." This power extends to giving security to directors in respect of liabilities already incurred for the benefit of the company and it is evident that the circumstance that such a director is thereby placed in a better position and given priority to other creditors is not in itself necessarily an objection to the exercise of the power. The allegation is that, when the debentures were issued in respect of the deposits at call amounting to £5,150 and the guaranty for £5,000, the purpose of the transaction was nothing but conferring upon lenders and guarantors who themselves were directors, or were represented by directors, all the advantages given by such a security. The company was in difficulties. A liquidation might be found unavoidable and, it is said, they simply wished to secure the debts in question. There are many circumstances supporting this view of the transaction. But, on the other side, there is a body of evidence explaining the issue of the debentures on the ground, stated briefly, that it was part of an arrangement by which none of the depositors or guarantors was to call in his debts or liability for twelve months, in order to give the company an opportunity of improving its position without any one of them following the example of the director who had called in his £250 and so, perhaps, precipitating a collapse. On the whole evidence, Long Innes C.J. in Eq. was not satisfied that the sole purpose of issuing the debentures was to benefit the depositors and guarantors. He said: "I have come to the conclusion that the plaintiff has failed to discharge the onus which rests upon it in regard to this issue of fact; and I think, on the contrary, that the evidence as a whole preponderates in favour of the view that in regard to the issue of debentures the directors acted in the interests of the company and of the general body of shareholders and not in the interests of the proposed debenture holders. I find this issue of fact against the plaintiff."

It is, in my opinion, impossible to reverse this finding. It is founded upon the learned judge's interpretation of oral evidence, much of which consisted of confused explanations, and upon his estimate of the characteristics and honesty of the witnesses who gave the evidence and attempted the explanations. Moreover the question is not whether the operation of the transaction was or might give a preference over ordinary creditors or benefit those receiving debentures at their expense, but whether the object was wholly the advantage of the directors or their associates so that the interests of the company were sacrificed or disregarded. The burden of establishing bad faith in this sense has not been sustained.

Appeal dismissed with costs. One set of costs only to be allowed to respondents, two-thirds of such costs to be paid by the appellant to the solicitors for Herbert Price, Rose Eaton Thwaites and Annie Adeline Price, and one-third of such costs to be paid to the solicitors for Otto Christian Dorhauer, and Alfred Joseph Morgan and Otto Christian Dorhauer (executors of the will of Frederick William Dorhauer, deceased).

Solicitors for the respondents Herbert Price, Rose Eaton Thwaites and Annie Adeline Price, J. J. Jagelman & Son.

Solicitors for the respondents Otto Christian Dorhauer, and Alfred Joseph Morgan, A. J. Morgan & Co.

[1] (1904) 1 Ch. 32.

[2] [1931] HCA 30; (1931) 47 C.L.R. 151.

[3] (1915) 1 I.R. 345.

[4] (1900) 1 Ch. 656, at p. 671.

[5] (1927) 2 K.B. 9.

[6] (1900) 1 Ch., at p. 671.

[7] (1927) 2 K.B., at p. 19.

[8] (1927) 1 Ch. 323, at pp. 329, 330.

[9] (1917) 33 D.L.R. 193.

[10] [1927] HCA 49; (1927) 40 C.L.R. 246, at pp. 263-266, 292, 293.

[11] (1927) 2 K.B., at p. 26.

[12] (1894) A.C. 654, at pp. 660, 661.

[13] (1931) 47 C.L.R., at p. 187.

[14] (1915) 1 I.R. 345.

[15] (1915) 1 I.R. 345.

[16] (1904) 2 K.B. 10.

[17] (1929) 1 K.B., at p. 56.

High Court of Australia

Richard Brady Franks Ltd v Price [1937] HCA 42; (1937) 58 CLR 112 (17 August 1937)

HIGH COURT OF AUSTRALIA