Conflicted directors in Schemes of Arrangement: Re DWS Limited [2020] FCA 1590

Re DWS Limited [2020] FCA 1590 is a recent case which considers the issue of whether directors are precluded from making a recommendation to members about voting on a members’ scheme of arrangement by reason of collateral benefits accruing to them under or in relation to the scheme.

The applicant (DWS), a company listed on the ASX, was the target under a friendly merger scheme. An Indian company (HCL) was the bidder. The scheme consideration was cash. The application to convene a meeting of DWS’s members to consider the scheme was heard in the Federal Court by Beach J. In making orders convening the meeting, his Honour considered and was satisfied as to the issues that are common in the context of a merger scheme (e.g. performance risk, shareholder warranties, reasonableness of the break fee and exclusivity provisions). However, his Honour gave particular attention to another issue – namely, the accrual of collateral benefits to directors as part of the proposed scheme.

Director Interests

None of DWS’s directors held securities in HCL or the Australian subsidiary it registered to acquire the shares in DWS. However, DWS’s managing director (Mr Wallis) and a company he owned were parties to a consultancy agreement with DWS under which they agreed that Mr Wallis’s company would provide consulting services to DWS subject to and from implementation of the scheme for six months. The consultancy agreement also entitled Mr Wallis to consultancy fees of $30,000 per month plus GST.[1] Although the consultancy agreement was disclosed in the scheme booklet,[2] its existence raised the prospect of a collateral benefit accruing to Mr Wallis upon successful completion of the scheme and raised two consequent issues for the Court’s consideration.

The first issue was whether the consultancy agreement was class-creating; that is, did it rise to a separate class of shareholders whose interests were sufficiently dissimilar from other shareholders as to require a separate scheme meeting?[3] Applying his earlier observations in Re Healthscope[4] about class identification, Beach J considered that the agreement was not ‘class creating’.[5] The rights created by the consultancy agreement did not make it impossible for Mr Wallis and other DWS shareholders to consult together with a view to their common interest.[6]

The second issue was whether the benefits conferred under the consultancy agreement were of such a nature as to preclude Mr Wallis from making a voting recommendation about the scheme.[7] This required Beach J to consider the ongoing controversy about whether a director who is to receive an additional financial benefit from a scheme is disqualified from making a recommendation to members about how they should vote.

Courts have been divided between the approach articulated in cases such as Re Gazal,[8] where Farrell J indicated that, as a general rule, a director receiving a benefit should decline to make a recommendation;[9] and the alternative approach adopted in cases such as Re SMS Management[10] and Re Kidman Resources,[11] which permit a director to make such a recommendation while emphasising the need for the benefit to be fully and prominently disclosed as a matter for shareholders to take into account when considering the recommendation.[12] Justice Beach referred[13] to the observations of Black J in Re Villa World[14] who had adopted the view taken in Re SMS Managements[15] as well as the subsequent criticism of that approach made by O’Bryan J in Re Wellcome Group Limited.[16] JusticeBeach expressed his preference for the approach adopted by Black J, observing that O’Bryan J’s criticism paid “insufficient regard to the commercial context”. Justice Beach further considered that the arrangements were adequately disclosed; ASIC had not raised any concern; and that “Transparency has been properly served. Preclusion from making a recommendation is unnecessary.”[17]

In view of these matters, his Honour was satisfied that, if the scheme achieved the requisite statutory majorities, he would be likely to approve it. Consequently, his Honour granted orders for the scheme meeting to be held electronically (as permitted by the amendments introduced by Part 2 of the Corporations (Coronavirus Economic Response) Determination (No. 3) 2020 (Cth)).

His Honour subsequently made orders on 23 December 2020 approving the scheme. His reasons for judgment have yet to be published.

[1] Re DWS Ltd [2020] FCA 1590, [34].

[2] Re DWS Ltd [2020] FCA 1590, [34].

[3] See Sovereign Life Assurance Co v Dodd [1892] 2 QB 573; First Pacific Advisors LLC v Boart Longyear Ltd (2017) 320 FLR 78; Re Healthscope (2019) 139 ACSR 608.

[4] Re Healthscope (2019) 139 ACSR 608, [105]-[120].

[5] Re DWS Ltd [2020] FCA 1590, [37].

[6] Re DWS Ltd [2020] FCA 1590, [40].

[7] Re DWS Ltd [2020] FCA 1590, [49].

[8] Re Gazal Corporation Limited [2019] FCA 710.

[9] Re Navitas Ltd (No 2) [2019] WASC 218; Re Spicers Ltd (No 2) [2019] FCA; Re Mod Resources Ltd [2019] WASC 326; Re Wellcom Group Ltd [2019] FCA 1655; Re Konekt Ltd [2019] FCA 1811; Re Dreamscape Networks Ltd [2019] WASC 412; Re Pacific Energy Ltd[2019] WASC 143; Re Zenith Energy Ltd [2020] 266; Re Exore Resources Ltd [2020] WASC 285.

[10] Re SMS Management and Technology Ltd [2017] VSC 257.

[11] Re Kidman Resources Ltd [2019] FCA 1226.

[12] See also Re Villa World Ltd (2019) 139 ACSR 550; Re GBST Holdings Ltd [2019] NSWSC 1280; Re Aveo Group Ltd [2019] NSWSC 1348; Re ERM Power Ltd [2019] NSWSC 1502; Re QMS Media Ltd [2019] FCA 2172; Re Webster Ltd [2019] NSWSC 1907; Re Windlab Limited [2020] NSWSC 571.

[13] Re DWS Ltd [2020] FCA 1590, [42].

[14] Re Villa World Ltd (2019) 139 ACSR 550 at [38]-[40].

[15] Re SMS Management and Technology Ltd [2017] VSC 257.

[16] Re Wellcome Group Ltd [2019] FCA 1655 at [60].

[17] Re DWS Ltd [2020] FCA 1590, [49].

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