Let's say you have your eye on a prospective employee at a competitor. You talk, you like the look of them, and you offer them a job. Before they join you, they give you some useful information to divert business from their soon-to-be-former employer. Is this a problem for you?
It is, if you think handing over all the profit you've made as a result of the employee's conduct is a problem. That was the scenario in the recent High Court decision in Ancient Order of Foresters in Victoria Friendly Society Limited v Lifeplan Australia Friendly Society Limited [2018] HCA 43, which illustrates the severe consequences that may arise for a business that knowingly participates in a person’s dishonest and fraudulent breach of their fiduciary duties, and how a court will calculate the cost of that breach.
Fiduciary duties and knowingly participating in their breach
Fiduciary duties and knowing participation in their breach are complex areas of law. Before delving into Ancient Order of Foresters, it’s necessary to briefly note a few points about these areas in an employment context. This is certainly not a detailed account of these areas of law.
An employee may owe a fiduciary duty to their employer, which is one of “absolute and disinterested loyalty”.[1] A person who is under a fiduciary duty “must account to the person to whom the obligation is owed for any benefit or gain (i) which has been obtained or received in circumstances where a conflict or significant possibility of conflict existed between [their] fiduciary duty and [their] personal interest in the pursuit or possible receipt of such a benefit or gain or (ii) which was obtained or received by use or by reason of [their] fiduciary position or of opportunity or knowledge resulting from it”.[2]
A third party who does not owe any fiduciary duty may be required to account for profits which they obtained as a result of knowingly participating in a “dishonest and fraudulent” breach of fiduciary duty by the fiduciary. The fiduciary’s breach will be “dishonest and fraudulent” if it “transgresses ordinary standards of honest behaviour”. A third party will have participated in the fiduciary’s breach if they assist the breach and will have sufficient knowledge of the fiduciary’s “dishonest and fraudulent” conduct if they know of circumstances which would indicate dishonesty to an honest and reasonable person.
Funeral planning in Victoria: a deadly serious business
Lifeplan Australia Friendly Society Ltd's (Lifeplan) customers paid money to it. Lifeplan then managed that money in a fund and paid it to a funeral director upon the customer’s death to meet the costs of the customer’s funeral.
Lifeplan was not the only provider of these services; one of its competitors was Ancient Order of Foresters in Victoria Friendly Society Ltd (Foresters). It, however, was far less successful: in 2010, around $68 million was paid into Lifeplan’s fund, while only approximately $1.6 million was paid into its fund, and it was not profitable.
Mr Woff and Mr Corby were two senior employees of Lifeplan. In mid-2010, while still employed by Lifeplan, they secretly presented to Foresters a five-year plan that “would capture for Foresters much if not all of the existing business” of Lifeplan. The five-year plan was described by the Full Federal Court as “a comprehensive plan presented by employees of Lifeplan to Lifeplan's actual and prospective competitor, prepared utilising valuable confidential information of their employer … that set out a detailed strategy to attack the commercial base of that employer in order to win as many clients as possible from the employer after they left it, and so to take as quickly as possible the business presently enjoyed by Lifeplan and replicate its success for the benefit of the new prospective employer… wholesale plundering of the confidential information and business records of Lifeplan".
Mr Corby, Mr Woff and Foresters began implementing the five-year plan while Mr Corby and Mr Woff were still employees of Lifeplan. Mr Woff and Mr Corby left Lifeplan and joined Foresters in December 2010. The five-year plan proved successful for Foresters. By 2012, Foresters’ inflow of funds had grown from $1.6 million to $24 million, while Lifeplan’s had fallen to $45 million. The upward trajectory in Foresters’ business could only be explained by the downward trajectory of Lifeplan’s.
Lifeplan commenced proceedings against Mr Woff, Mr Corby and Foresters in the Federal Court. The trial judge found (among other things):
- Mr Woff and Mr Corby had fraudulently and dishonestly breached fiduciary obligations which they owed to Lifeplan, among other obligations; and
- Foresters had knowingly participated in some but not all of these breaches.
The trial judge ordered Mr Woff and Mr Corby to account for profits which they had made from their breaches of fiduciary duty but did not order Foresters to account for any profits that it made through knowingly participating in the breaches of Mr Corby and Mr Woff. His Honour concluded that the breaches, in which Foresters knowingly participated, did not lead to any profits being earned by Foresters.
Lifeplan appealed to the Full Court seeking an account of profits from Foresters. The Full Court ordered Foresters to account to Lifeplan for the net present value of the profits made and projected to be made from contracts entered into by Foresters between February 2011 and June 2015. This was based on the period of the five-year plan with a “modest deduction of six months”. The total profits were approximately $6.6 million.
Foresters appealed to the High Court. Among other things, it argued that the Full Court erred by concluding there was a sufficient causal connection between the $6.6 million of profits and Foresters’ knowing participation in the breaches of fiduciary duty by Mr Woff and Mr Corby. Lifeplan cross-appealed seeking the “entire capital value of Foresters' funeral products business”, which was approximately $14.8 million.
Was Foresters liable only for profits that are a direct result of its knowing assistance?
Was Foresters only required to account for profits that were the "direct result of each of the particular acts by which it … knowingly assisted Woff and Corby in a dishonest and fraudulent design to breach their fiduciary obligations", or did it have to account for other profits which were not necessarily a "direct result" of its knowing assistance?
Foresters argued that it was only required to account for profits that were a "direct result". The High Court rejected this and concluded that Foresters must account for profits that arose "by reason" of the breach of fiduciary duty, even if those profits were not the "direct result" of Foresters' knowing acts of assistance.
Justice Gageler (with whom Chief Justice Kiefel, and Justices Keane and Edelman agreed) concluded that the five-year period of the five-year plan was an inadequate time-frame for an account of profits because none of Mr Woff, Mr Corby or Foresters intended Foresters to cease business at the end of that period. Instead, the five-year plan was “for the establishment and development of a new funeral products business which was to continue indefinitely.” Further, Foresters had shown no reason why it was inequitable for it to account for the full value of the business. For these reasons, Foresters was required to account for the full value of its business - $14.8 million.
In reaching this conclusion, Justice Gageler noted several matters of principle.
- A fiduciary or third party must account for a benefit or profit obtained “by reason of” the breach of fiduciary duty. A benefit or profit is obtained “by reason” of the breach if it would not have been earned “but for” the breach.
- In the case of a third party obtaining a benefit or profit, it is unnecessary to show a causal connection between the conduct which constituted their knowing participation in the breach of fiduciary duty and the profits which they earned, provided the “but for” test is fulfilled.
- If the plaintiff shows the benefit or profit arose “by reason” of the breach of fiduciary duty,the onus shifts to the defendant to show that it is inequitable for them to account for the whole of that benefit or profit.
- Although the purpose of the remedy to account for a benefit or profit is not to punish the defendant, a court may consider the severity of the breach of fiduciary duty and the extent of the third party’s involvement in the breach when determining the remedy.
- Where the benefit which has been obtained by the fiduciary or third party is the establishment of an ongoing business, they may be liable to account for the entire business and its profits.
Foresters also argued that it was not required to account for the present day value of profits which had not yet accrued; instead, it was only required to account for profits which had already accrued. The High Court rejected this argument and ordered that Foresters account for profits that had not yet accrued.
The costs of knowingly assisting a breach of a fiduciary duty
Ancient Order of Foresters is a telling indication of the potentially far-reaching consequences of knowingly participating in a breach of fiduciary duty. A person may be required to account for profits which were not necessarily the direct result of their involvement in a dishonest and fraudulent breach of fiduciary duty, and may also be required to account for future profits or the total value of a business.
A business should bear this in mind when it has notice of any potential breach of fiduciary duty. If however it falls victim to an errant fiduciary, it should consider seeking relief against third parties, particularly if they have deep pockets.
[1] Ancient Order of Foresters at [67]. See also Hospital Products Limited v United States Surgical Corporation and Others [1984] HCA 64; (1984) 156 CLR 41 at 96 per Mason J.Back to article
[2]Chan v Zacharia [1984] HCA 36; (1984) 154 CLR 178 at 199 per Deane J. See also Ancient Order of Foresters at [68]-[69].Back to article
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