Bills Digest No. 79 2002-03
Corporations Amendment (Repayment of Director's Bonuses)
This Digest was prepared for debate. It reflects the legislation as
introduced and does not canvass subsequent amendments. This Digest
does not have any official legal status. Other sources should be
consulted to determine the subsequent official status of the
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Corporations Amendment (Repayment of
Director's Bonuses) Bill 2002
16 October 2002
House: House of Representatives
To amend the Corporations Act 2001 to
permit liquidators to reclaim unreasonable payments made to the
directors of insolvent companies and their close
For some years there has been considerable
public concern about the remuneration levels of company directors
and senior executives. Criticism has focused on a number of aspects
namely the quantum of remuneration, the level of disclosure to
shareholders and the market generally and in some cases, the
apparent lack of a relationship between reward and performance.
This Bill is intended to address the latter aspect of the
The origin of this Bill lies in the collapse of
telecommunications carrier One.Tel in May 2001. Shortly after
One.Tel went into administration it was revealed that the company s
co-managing directors Mr Keeling and Mr Rich had each received $7.5
million in bonuses in a year where the company had lost $291
million.(1) The bonuses were paid on the basis of market
capitalisation which in November 1999 reached over $5 billion at
the height of the telecommunications boom.
In response to the public outcry, the Prime
Minister announced on 4 June 2001 that:
The Commonwealth intends to amend the law so
that in future, where bonuses are paid in the circumstances where
those bonuses were paid to the bosses of One.Tel, that money will
be refundable and can be used to meet the lawful and legitimate
entitlements of workers and also the other creditors of the
Following the Prime Minister s announcement it
was reported that Mr Rich and Mr Keeling agreed to repay the
Bonuses have come to represent an increasing
proportion of total amounts paid to company directors and senior
executives. A 2002 survey of 183 listed companies published by the
Australian Financial Review stated that average pay of
Chief Executive Officers (CEOs)(4) was $1.68 million and
that 56 per cent of that amount was comprised of bonuses and other
performance based incentives.(5) Defenders of
remuneration levels argue that boards obtain independent advice on
the market value of executives and that Australian CEOs receive
modest compensation by international standards.(6)
Others have stated however that Australian CEOs are the third
highest paid in the world behind the US and
Data from Mercer s Top Management
Remuneration Review Survey covers a wider range of entities
including private companies and state owned enterprises and senior
executives as well as directors. The survey indicates that
incentive or bonus payments become an increasing important part of
remuneration as the value of the total employment package
Employment Cost (EC)
2002 Average Incentive
As a % of EC
Source: Mercer Human Resource Consulting.
In September 2001, the Opposition supported a
Democrat amendment to the Corporations Act that was moved
during debate on the Bankruptcy Legislation Amendment Bill 2001.
The amendment inserted a definition of performance-related bonus
and added a new subsection to the list of voidable transactions
contained in section 588FE of the Corporations Act 2001.
While the amendment passed the Senate, it was not considered by the
House of Representatives prior to the General Election.
If the amendment had been enacted, a company s
liquidator would have been able to apply to the Court under section
588FF for an order that a director or executive
officer(8) repay to the company the amount of any
performance-related bonus received in the 12 months before the
winding up of the company began. The money would then have been
available for distribution to the company s employees, creditors
and shareholders if there were sufficient funds. Under the proposed
provisions, the payment would only have been voidable if the amount
of the bonus exceeded $40 000 and the remuneration paid to the
director or executive officer exceeded $100 000 excluding bonuses.
The Senate amendments were expressed to have a retrospective effect
applying from the date of the Prime Minister s announcement of
policy intention on 4 June 2001.
Section 588FE of the Corporations Act
lists a number of transactions that are voidable. These include
insolvent transactions, uncommercial transactions and unfair loans
to the company.(9) If a transaction is voidable a
company s liquidator may apply to the court under section 588FF for
an order that the financial benefit be returned the company so that
it can be distributed to all creditors.
The Bill adds the category unreasonable
director-related transactions to the list of voidable transactions
in section 588FE (items 4 and
This new category is defined by proposed
section 588FDA as a transaction where the company:
- makes a payment or
- a conveyance, transfer or other disposition of property or
- issues securities or
- incurs an obligation to make a payment, disposition or
to a director of the company; or a close
associate; or to someone else on their behalf or for their benefit
in circumstances where a reasonable person would not have entered
into the transaction having regard to the benefit and detriment
accruing to the company of entering into the transaction, the
benefit accruing to other parties and other relevant matters.
While the title of the Bill refers to directors
bonuses in fact the scope of section 588FDA is much broader and
would capture other transactions such as base salary payments and
The term close associate of a director is
defined to mean a director s relatives or spouse or relatives of
the director s spouse or de facto (item 1).
Subsection 588FDA(2) requires that the
reasonableness of the transaction should be assessed at the time
the transaction is entered into rather than when the obligation
accrued. In other words, the reasonableness of a payment is to be
assessed at the time it was made rather than when the company
agreed to make the payment as a matter of contract.
Unreasonable directed-related transactions will
only be voidable if:
- they were entered into on or after this Bill receives Royal
- they were entered into, or an act was done to give effect to
the transaction, within 4 years of the company beginning to be
wound up (proposed subsections 588FE(1),
Thus payments can only be challenged under this
section if a company goes into liquidation within 4 years of the
transaction. Large payments to directors of companies that are
poorly performing but solvent are not voidable under the provisions
proposed by this Bill.
If the court finds a transaction to be voidable
solely on the ground that it is an unreasonable director-related
transaction, it may only make an order for the recovery of the
difference between the value of the benefits and the amount that
would have been paid by a reasonable person in the company s
circumstances (proposed subsection 588FF(4)).
Consequently, the court will not be able to order the
repayment of an entire bonus unless a reasonable person in the
company s circumstances would not have made any bonus payment.
This provision also has implications for the
treatment of options granted to directors. Under the Bill, a
director could be forced to repay the value of options that were
granted in unreasonable circumstances however any profits that may
have been made on the trading of those options would seem to be
beyond the scope of a court order under section 588FF. In some
cases, the initial value of the option granted by the company may
be a small fraction of the profits made on sale.(11)
Section 588FG provides defences against claims
that a transaction is voidable. Under subsection 588FG(2) a court
must not make an order under section 588FF (unless the transaction
is an unfair loan) prejudicing the interests of a person who:
- became a party to the transaction in good faith
- had no reasonable basis for suspecting that the company was
- had provided valuable consideration or changed their position
in reliance on the transaction.
Item 7 amends the subsection to
ensure that the defence is not available in the case of
unreasonable director-related transactions. As the Explanatory
Memorandum notes the insolvency of the company at the time of an
unreasonable director-related transaction is not a relevant
consideration under the proposed amendments. (12)
The Bill does not define in detail the
circumstances in which a director-related transaction would be
unreasonable . Rather, it requires a case by case analysis of the
benefit and detriment accruing to various parties to the
While there are other provisions of the
Corporations Act which require the Court to examine
whether remuneration is reasonable(13) there is little
useful case law on how this matter is to be assessed. To comply
with the requirements of the law it is common practice for
directors to establish compensation committees and employ external
pay consultants to advise on the appropriate level of remuneration.
Of course, the use of consultants of itself is not a guarantee that
remuneration will be reasonable. Highlighting concerns about the
independence of consultants, one US academic has stated that:
it is a very dim compensation consultant who
does not recognise that he has actually been hired by the corporate
CEO and that his role is to find a way to justify a sizeable
increase in compensation for the CEO (14)
Academics have suggested that Australian courts
may draw some guidance from the US courts in assessing whether a
payment is reasonable.(15) As far back as 1933 the
United States Supreme Court held that bonus payments to directors
must bear some relation to the value of services that they have
given to the company.(16) Many cases in the US have
arisen due to tax law requirements that a company can only claim a
deduction for salaries of personal services rendered when the
amount is reasonable .(17) Some factors identified by US
Courts as relevant in adjudicating on these tax cases include:
- compensation for executives in like positions
- the executive s skills and qualifications and experience
- the nature, extent and scope of the executive s work
- comparison of salaries with distributions to shareholders
- prevailing general economic conditions, and
- a comparison of salaries paid with the gross income and net
income of the company.
In the context of the current Bill, if the
Parliament is concerned that the test of unreasonableness is too
uncertain it may wish to give the courts some guidance on what it
considers to be relevant factors in making this assessment.
A more radical approach would be to specify a
dollar amount(18) or multiple of salary as the reference
point for determining whether a payment is reasonable. This
approach could have unintended effects. For example, if a specified
amount is given legislative recognition as being unreasonable, the
effect may be to bring all bonus payments up to just under that
amount regardless of whether the payment bears any relation to
services rendered. It may be worth noting however that some in the
business community have expressed support for pay caps in some
circumstances. Prominent investment banker Bill Beerworth has
argued that retirement payments to executives should be limited to
3 times base pay.(19)
As mentioned above, in September 2001 the Senate
passed amendments moved by the Australian Democrats (the Senate
Amendments) which sought to enable the liquidator to claw back
performance related bonuses. There are a number of points of
difference between the approach taken by the Senate amendments and
that contained in this Bill.
The Bill allows transactions to be voided only
if they involve payments to a director or their close associate eg
relative, de facto, spouse. The Senate amendments did not apply to
payments made to close associates of directors as defined in the
Bill. However they were broader in that they permitted a liquidator
to attempt to claw back bonuses paid to executive officers of the
company as well as directors. Section 9 of the Corporations Act
defines an executive officer as a person who is concerned in, or
takes part in, the management of the body (regardless of the person
s designation and whether or not the person is a director of the
In several recent collapses it has been revealed
that senior executives have been the beneficiaries of large
bonuses. In 2000-01 HIH paid executive bonuses of $4.6 million, and
Ansett Airlines paid $3.3 million in bonuses to various employees
shortly before the airline collapsed in September
Under the Bill unreasonable director-related
transactions are not defined in any degree of detail, the issue is
left for the courts to determine. The Senate amendments were more
proscriptive and may be seen as proposing an implied definition of
reasonable performance related bonus for directors and executives.
The amendments stated that the payment would only have been
voidable if the amount of the bonus exceeded $40 000 and the
remuneration paid to the director or executive officer exceeded
$100 000 excluding bonuses. As discussed earlier, setting such
thresholds could result in the perverse outcome of encouraging the
payment of bonuses up to $40 000 in belief that they will not come
The Bill allows a company s liquidator to apply
to the court to recover unreasonable director-related transactions
that were made up to 4 years before the company became insolvent.
The Senate amendments provided that performance related bonuses
could only be clawed back by the liquidator if they were made
within 12 months of the commencement of a wind up.
The Senate amendments were to apply
retrospectively to performance related bonuses paid after 4 June
2001. In contrast, the Bill will only apply to unreasonable
director-related transactions that take place after Royal
As noted above, the new powers given to
liquidators by this Bill will only apply to transactions entered
into after the legislation receives Royal Assent. The Government
has stated that it has concerns about whether retrospective
provisions would be constitutionally valid.(21) It has
not elaborated in detail about the nature of those concerns.
Generally speaking, while there is undoubtedly
great potential for retrospective laws to operate unfairly, High
Court authority indicates that there is nothing in the Australian
Constitution which specifically prevents the Parliament from
enacting retrospective laws.(22) Indeed it is not
uncommon for the Parliament to pass Laws which contain provisions
which operate retrospectively.(23) A recent example in
the current Parliament is the Criminal Code Amendment (Anti-hoax
and Other Measures) Act 2002. The commencement of the offence
created by that Act was backdated to 2pm on 16 October 2001 the
date on which the Prime Minister announced the Government s
intention to legislate on the matter. On that occasion the
Government defended the retrospective provision on the basis that
the impugned behaviour could never be regarded as a legitimate
right or entitlement.(24)
One possible ground of challenge may be an
argument that a law enabling the liquidator to claw back payments
that were not voidable at the time they were made is a law with
respect to acquisition of property for the purposes of section
51(xxxi) of the Constitution.(25) If this were
established then the law would be invalid, as it does not provide
for just terms . The success of this claim would probably turn on
whether the High Court considered that the legislation was properly
characterised as one with respect to the acquisition of property .
The High Court has stated that section 51(xxxi) does not apply in
cases where providing just terms would be irrelevant or incongruous
(26) such as where a law provides for the forfeiture of
prohibited imports(27), the compulsory payment of
provisional tax(28) or sequestering the property of a
bankrupt.(29) It is open to doubt whether this
legislation would be characterised in that context, the
interpretation of section 51(xxxi) remains subject to considerable
It may be argued that payments of the kind
targeted by the new provisions will often be uncommercial
transactions thus already voidable under existing
law.(31) Section 588FB defines an uncommercial
transaction as one where a reasonable person in the company's
circumstances would not have entered into the transaction, having
- the benefits (if any) to the company of entering into the
- the detriment to the company of entering into the
- the respective benefits to other parties to the transaction of
entering into it, and
- any other relevant matter.
While these criteria are echoed in the proposed
section 588FDA, uncommercial transactions are only voidable if they
are also an insolvent transaction entered into within 2 years
before the commencement of a wind up. In contrast, unreasonable
director-related transactions are much broader. It is not necessary
to prove that the company was insolvent when the transaction was
made and the transaction may occur up to 4 years before an
application is made to wind up the company.
- Neil Chenoweth, Gang of Four paved the way , Australian
Financial Review, 17 October 2002.
- The Hon. John Howard MP, House of Representatives,
Hansard, 4 June 2001, p. 27 127.
- Damon Kitney, Bonus may have breached One.Tel rules
Australian Financial Review, 18 July 2001.
- It is typical for the CEO to also be a director of the company.
- Lachlan Johnston and Damon Kitney, Executive salaries under
pressure Australian Financial Review, 6 November 2002.
- Qantas Chair Margaret Jackson quoted in Lachlan Johnston and
Damon Kitney, Executive salaries under pressure Australian
Financial Review, 6 November 2002.
- Miriam Cosic, CEO Overkill Weekend Australian, 27
- An executive officer is defined in section 9 of the
Corporations Act 2001 as a person who is concerned in, or
takes part in, the management of the body (regardless of the person
s designation and whether or not the person is a director of the
- These concepts are defined in sections 588FB, 588FC and 588FF.
- A note to subsection 588FDA(1) makes clear that this is
intended to cover the granting of options over shares.
- In certain circumstances US law will require trading profits to
be repaid. The recently enacted Sarbanes Oxley Act (section 304)
requires the Chief Executive Officer (CEO) and Chief Financial
Officer (CFO) to repay any bonus they received if they make a
accounting restatement due to a failure to comply with reporting
requirements. The law also requires the CEO and CFO to repay any
profits they have made on the sale of the company s securities
during the 12 month period following the public release of the
financial statement containing the error.
- Explanatory Memorandum p.5.
- See for example the uncommercial transactions provisions in
section 588FB and the related party transaction provisions in Part
2E of the Corporations Act. Part 2E requires that financial
benefits paid to related parties (including directors) should be
disclosed to shareholders and approved at a general meeting before
being paid. Financial benefits which constitute reasonable
remuneration are exempt from these requirements (section 211).
- Yablon, Overcompensating: the Corporate Lawyer and Executive
Pay , 92 Columbia Law Review 1867-1884 at 1878 (1992).
- Andrew Defina, Thomas Harris and Ian Ramsay What is Reasonable
Remuneration for Corporate Officers? An Empirical Investigation
Into the Relationship Between Pay and Performance in the largest
Australian Companies Companies and Securities Law Journal,
Vol 12 1994, p341 356.
- Rogers v Hill
289 US 582 at 591.
- 26 USC 162(a)(1).
- As, for example, set out in the Senate amendments of 2001
- Fiona Buffini, Executive excess bill soft on options, pay ,
Australian Financial Review, 1 November 2002.
- Neil Chenoweth, Gang of Four paved the way , Australian
Financial Review, 17 October 2002.
- The Hon. Peter Costello MP, Second Reading Speech, House of
Representatives, Hansard, 16 October 2002, p. 7625.
- See R v Kidman (1915) 20 CLR 425 and Polyukhovich
v Commonwealth (1991) 101 ALR 545. Nevertheless it is a
principle of statutory interpretation that in the absence of a
clear statement to the contrary an Act will be assumed not to have
In contrast, Article 1 Section 9 of the US
Constitution prohibits the Congress from passing bill of attainder
or ex post facto Law .
- The report of the Senate Scrutiny of Bills Committee 39th
Parliament lists a number of pieces of legislation where
retrospective provisions attracted the committee s concern. The
Committee s report can be found at the following link:
- Explanatory Memorandum, Criminal Code Amendment (Anti-hoax and
Other Measures) Bill 2002, p. 2.
- Section 51(xxxi) states:
The Parliament shall, subject to this Constitution, have power to
make laws for the peace, order and good government of the
Commonwealth with respect to:-
(xxxi) The acquisition of property on just terms from any State or
person for any purpose in respect of which the Parliament has the
power to make laws.
- Mutual Pools & Staff Pty Limited v Commonwealth
(1994) 179 CLR 155 at 221/222.
- Burton v Honan (1952) 86 C.L.R. 169.
- FCT v Clyne (1958) 100 C.L.R. 246.
- Attorney-General (Cth) v Schmidt (1961) 105 C.L.R.
- See Simon Evans, When Is an Acquisition of Property Not an
Acquisition of Property?: The Search for a Principled Approach to
Section 51(xxxi) , Public Law Review, Vol.11(3), September
2000, p. 183 204.
- See subsection 588FE(3).
11 December 2002
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