Australia: Across the board: Non-executive directors - Part 1

Last Updated: 27 June 2019
Article by Hugh Griffin, James Fisher and Caleb Au

While the Corporations Act 2001 (Cth) draws no distinction between executive and non-executive directors, commercial practice clearly delineates these roles by referring to executives as management and non-executives as non-employee directors, often with industry expertise or absolute independence. Nevertheless, the same legislative duties apply to all directors regardless of whether they are executive or non-executive.

Introduction

In the final report of the Banking and Financial Services Royal Commission, Commissioner Hayne noted three chief benefits of including non-executive directors on ASIC's board, being:

  1. enhancing the internal oversight function of the board of directors;
  2. broadening the skills and experience of the board; and
  3. reinforcing ASIC's independence from the government and those it seeks to regulate.

Commissioner Hayne further stated that these benefits were directly comparable to the benefits yielded from the presence of non-executive directors on the board of profit-making corporations.1

In this series, we will delve into the concept of non-executive directors. In this first article, we will examine the differences between non-executives and executive directors under the Corporations Act 2001 (Cth) (the Act) and in commercial practice. In the second article, we will assess whether those differences have any impact on directors' duties. In the third article, we will use Commissioner Hayne's comments as a guide to determine how a private company can get the most value out of the non-executive director role.

What is a non-executive director?

The term non-executive director is commonly used in the Australian corporate world, but it is important to note that the Act draws no legal distinction between executive and non-executive – it refers only to "directors", and the phrase "non-executive director" does not appear in the Act at all. The distinction is one which is drawn entirely from commercial practice: executive directors are employed by the company- usually in very senior roles, where non-executives are characterised by their relative separation from the company – they are not employed directly by the company and are not involved in day-to-day decision making.

Executive directors are conventionally considered to be the directors who 'run' a company. They are generally full-time employees and senior executives of the company, usually being "C-Suite" individuals with roles both as board member and employees of the company involved in day-to-day decision making and strategic management.

By contrast, non-executive directors are generally someone 'outside' the company and someone who is not involved in the day-to-day operations of a company, but may bring a particular industry or functional expertise to the role of director. As such non-executives are often very experienced and specialised subject matter experts.

Further, non-executive directors are typically tasked with providing oversight by monitoring executive directors and senior management. In listed companies, non-executive directors are also called to 'challenge management and hold them to account...represent the best interests of the listed entity and its security holders as a whole'.2 The motivations for this oversight role may depend on the company's shareholding structure: where a non-executive is appointed by a major shareholder (e.g. pursuant to a shareholders' agreement), their role will be clearly defined as representing the best interests of that shareholder on the board.

Non-executive directors can also play the role of independent directors, a specific sub-group of non-executive directors characterised by their absolute independence from the company, which is intended to ensure that the individual director brings impartiality and a degree of professional scepticism to their role on the board. Independence depends on factors such as whether they are employed or have been employed in an executive capacity by the company, any previous provision of professional services to the company and their business relationships among other things.3 The objectivity that comes with independence should, in theory, ensure that independent directors are capable of bringing the strongest level of oversight to the boardroom.

Directors' duties

Despite the broad variation in commercial roles, the same set of legislative duties will apply to both executive and non-executive directors. Directors' duties under Australian law include the duties of care, skill and diligence, good faith, not to improperly use position, not to improperly use information, the duty to prevent insolvent trading and continuous disclosure.4 A breach of these duties may give rise to civil and criminal penalties.5

It is vital for non-executive directors to understand that, as a starting point, they are not exempted from the full suite of directors' duties simply by virtue of their non-executive status, and will be expected to apply their full experience and expertise to the role in order to discharge their duties under the law.

In the next article in this series we will explore directors' duties further, considering in particular whether the nature of a non-executive's skill, experience and expertise may create a different standard of duty for non-executives.

Footnotes

1 Banking Royal Commission, Final Report vol. 1, 466.

2 ASX Corporate Governance Council, Corporate Governance Principles and Recommendations, Principle 2 (4th ed., February 2019).

3 ASIC Corporate Governance Council, Corporate Governance Principles and Recommendations (4th ed, February 2019)

4 For example, Corporations Act 2001 (Cth) s 180.

5 For example, Corporations Act 2001 (Cth) s 184.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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