Fiduciary Failures and Financial Fallout

The Federal Court of Australia recently delivered a significant judgment in Special Gold Pty Ltd (in liq) v Dyldam Developments Pty Ltd (No 2) FCA 825, cutting through a complex design of inter-company dealings to hold directors and third parties accountable for asset dissipation. 

• This pivotal decision provides crucial clarification on the director’s dual duty to act “honestly and rationally” in the company’s best interests. The Court closely examined the necessary elements of a director’s fiduciary duty to the company to exercise their powers bona fide in the interests of the company as a whole and their statutory duty to act in good faith in the best interests of the company under the Corporations Act 2001 (Cth) (Corporations Act).
• This decision also reaffirms the enduring nature of prescriptive fiduciary duties and highlights the serious consequences for those who knowingly assist in such breaches. 

This case is a stark reminder that the standards for corporate governance are stringent, and the courts are prepared to unravel even the most intricate schemes to enforce accountability. 

The Facts 

The case involves a dispute over the proceeds from the sale of a property by a company named Special Gold Pty Ltd (Special Gold) - a special purpose vehicle of which members of the Fayad and Khattar families were directors. The Fayad family and the Khattar family also conducted the affairs of Dyldam Developments Pty Limited (Dyldam) a property development and  construction business. 

To address their combined tax liabilities, both companies (alongside members of the Fayad and Khattar families and other entities) entered into a Deed of Agreement, Guarantee and Indemnity with the Commissioner of Taxation (the Deed).  The Deed offered a significant benefit to the parties involved. 

• It provided them with a forbearance period of three months, during which the Commissioner of Taxation agreed not to use enforcement powers to collect the debt. This gave the parties a temporary reprieve to arrange for payment.
• Additionally, by signing the Deed, the parties agreed to be jointly and severally liable for the entire $31 million tax debt. This meant that each company (including Special Gold) became responsible for the entire amount, even though Special Gold’s previous tax debt was $818,020. 

In May 2020, a dispute between these two families resulted in proceedings being brought in the Supreme Court of New South Wales. The proceedings were ultimately resolved through a Deed of Settlement. However, as part of the proceedings, freezing orders were issued for Special Gold’s assets. 

Despite this, Special Gold sold a property for $73.97 million in late 2020 and proceeded to make a number of payments out of the sale proceeds to various entities, including over $27 million to Kingland Holdings Pty Ltd (a company controlled by a member of the Fayad family - Remon Fayad). 

A liquidator was appointed to Special Gold.  Following enquiries into Special Gold’s failure to lodge any income tax returns, the liquidator found that proceeds of the property sale (totalling $10,577,852) had been improperly paid out to other companies and individuals associated with the Fayad family in accordance with the Deed. Most of these transactions had no discernible benefit to Special Gold. 

The liquidator brought the matter to the Federal Court on behalf of Special Gold, alleging that the purpose of the arrangement under the Deed was to:

1. remove the assets of Special Gold for the personal benefit of the Fayad family members and their related entities;
2. conceal the improper uses of Special Gold’s assets from and to the exclusion of the Khattar family;
3. avoid Special Gold paying its statutory liabilities to the ATO;
4. conceal the ultimate beneficiary of the assets of Special Gold, including from any subsequently appointed liquidators; and
5. enable the Fayad family and the entities controlled by its various family members or associates to have the benefit of Special Gold’s assets as well as funds which ought to have been paid to the ATO.

The Decision

Jackman J of the Federal Court affirmed that a director’s fiduciary duty to exercise their powers bona fide in the interests of the company still exists despite other High Court rulings that indicate fiduciary duties are proscriptive. 

Crucially, Jackman J clarified that the statutory duty under section 181(1)(a) of the Corporations Act – to act in good faith and in the company’s best interests – is met if the director “honestly and rationally” believed their actions were in the company’s best interests.  Together these terms mean:

1. Honesty is not enough on its own: A director might honestly believe a decision is a good one, but if that belief is not supported by a rational assessment of the company's situation, it can still be considered a breach of duty.
2. The action must be justifiable: The action must be something a reasonable person, in the same position, would consider a defensible and beneficial course of action for the company.

The Federal Court meticulously examined the director’s duties and found significant breaches of sections 180(1), 181(1) and 182(1) of the Corporations Act. 

Additionally, Remon Fayad (the director of Kingland Holdings but not a director of Dyldam) was found liable for knowingly assisting the directors in breaching their fiduciary and statutory duties to Special Gold. This included his knowledge of payments to Kingland Holdings.

The Court applied the rule from Barnes v Addy (1874) LR 9 Ch App 244, which establishes that a person who is not a director or fiduciary can still be held liable for a breach if they fall into one of the following categories: 

1. knowingly received property as a result of a director’s breach of fiduciary duty, or
2. has knowingly assisted in the director’s breach of fiduciary duty, will be liable as a fiduciary. 

The Court found that a director’s breach of duty can extend to third parties who receive or handle the improperly transferred funds.  That is, by acting as a channel for the money and receiving payments with no legitimate business purpose, Remon became legally responsible for the return of those funds, even though he was not one of the directors who initially authorised the breach. 

The decision illustrates the serious financial consequences that can arise for directors who breach their duties and for entities that knowingly participate in such misconduct. The Court found the directors of Special Gold liable for breaches amounting to over $44 million.

The case serves as a clear reminder that courts will rigorously examine transactions involving complex and interrelated corporate structures, particularly where there is no identifiable benefit to the company. The intricacy of inter-company arrangements will not shield improper conduct from judicial scrutiny.

Key Takeaways

• Honest and rational belief of compliance with directors’ duties: Directors have a fundamental legal and fiduciary duty to act in the best interests of their company. The court affirmed that this standard is not a purely subjective assessment of honesty. Instead, a director must “honestly and rationally” believe that their conduct is in the best interests of the corporation. Any action that benefits a director personally, or a related company, at the expense of the company of which they are a director, is a serious breach of this duty.
• Third-party liability is a real risk: The case demonstrates that liability for a director’s breach of duty can extend to third parties who receive or assist in the misuse of funds. Individuals or companies that act as a “conduit” or receive payments from a business without a legitimate commercial reason can be compelled to return those funds, especially if they had knowledge of the impropriety. This is a reminder to exercise due diligence when handling large sums of money on behalf of others.
• Transparency and proper documentation are essential: The case involved numerous payments that were deemed to have “no discernible benefit” to Special Gold. For commercial businesses, all transactions (especially large payments to related parties) must be properly documented with a clear commercial rationale. Without this, a liquidator or court will likely view the payments with suspicion and treat them as an improper use of company funds.
• Compliance with court orders is not optional: The court took a very serious view of the directors’ breach of freezing orders. Businesses must understand that court orders, such as injunctions or freezing orders, are mandatory and carry severe consequences for non-compliance. Disregarding such an order, as seen in this case, can be a major factor in determining liability.
• Tax obligations cannot be ignored: The failure to lodge tax returns and pay a significant tax liability was a major issue in this case. This underscores that a business’ legal and financial obligations to government bodies like the ATO must be prioritised.