Federal Court finds Centro directors guilty of breaches of the Corporations Act
In brief – Breach of financial reporting obligations and duties of care and diligence
The Federal Court has found that eight directors of Centro Properties Group and Centro Retail Group breached their financial reporting obligations and their duties of care and diligence under the Corporations Act 2001 in approving incorrect financial reports during 2007.
ASIC legal action against Centro directors
In October 2009, the Australian Securities and Investment Commission (ASIC) commenced proceedings against eight directors, two executive and six non-executive, of Centro Properties Group and Centro Retail Group.
ASIC sought declarations of contravention against each director in relation to compliance with financial reporting obligations under section 344(1) and statutory imposed duties of care and diligence under sections 180(1) and 601FD(3) of the Corporations Act 2001.
The allegations concerned the 2007 approval of Centro’s annual financial reports, in which some US$2 billion worth of liabilities were incorrectly categorised as being non-current and some US$1.75 billion worth of short-term liability guarantees were left undisclosed.
For more information about the commencement of ASIC’s proceedings against the Centro directors, please see our earlier article Directors in the hot seat.
Federal Court decision in Centro case
On Monday 27 June 2011, Justice Middleton of the Federal Court of Australia handed down his judgement. It was found that each defendant director had breached the statutory imposed duties of care and diligence and had failed to take reasonable steps to ensure compliance with financial reporting obligations under the Act.
The defendant directors have 21 days from the date of judgement to appeal the decision.
Financial statements must accurately reflect the company’s position
The central question before the court was whether directors of substantial publicly listed entities are required to apply their own minds to, and carry out a careful review of, the proposed financial statements, to determine that the information they contain is consistent with the director’s knowledge of the company’s affairs, and that they do not omit material matters known to them or material matters that should be known to them.
Justice Middleton held that:
“Directors are entitled to delegate to others the preparation of books and accounts and the carrying on of the day-to-day affairs of the company. What each director is expected to do is to take a diligent and intelligent interest in the information available to him or her, to understand that information, and apply an enquiring mind to the responsibilities placed upon him or her. Such a responsibility arises in this proceeding in adopting and approving the financial statements. Because of their nature and importance, the directors must understand and focus upon the content of financial statements, and if necessary, make further enquiries if matters revealed in these financial statements call for such enquiries.”
Summing up, Justice Middleton stated:
“I do consider that all that was required of the directors in this proceeding was the financial literacy to understand basic accounting conventions and proper diligence in reading the financial statements. The directors had the required accumulated knowledge of the affairs of Centro, based upon the documents placed before them and discussion at board meetings. Each director then needed to formulate his own opinion, and apply that opinion to the task of approving the financial statements.”
Directors need to be financially literate
The judgment has a clear message for corporate Australia. Directors should have the capacity to scrutinise the content of their company’s accounts to ensure accuracy.
It is essential for directors to be able to read, interpret and understand the content of financial statements. It is no excuse for a director to say that he or she relied solely on the skill of the accountant or auditor and made the assumption that a financial statement was correct before signing off on it.
This means that financial literacy is a crucial prerequisite for any person to be appointed to the board of a substantial publicly listed company. Without this skill, a director will not be able to judge whether there is a need to make further enquiries about the content and effect of financial statements prior to approving them.
Next stage of the Centro case
The question of relief from liability and penalty will be determined by Federal Court hearing on 1 August 2011.
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