The Supreme Court of Victoria has found that Trevor Flugge, the former chairman and director of AWB Limited (AWB), breached his duties as a director by failing to make inquiries and prevent conduct by AWB that contravened United Nation’s sanctions. Even though the Court found that Mr Flugge did not participate in, or did not have any direct knowledge about, the contravening conduct, he may be liable for civil penalties.

The Court dismissed similar allegations against Mr Geary, a former senior executive of AWB.

The proceeding is a reminder for all directors and officers, particularly those associated with companies that have foreign operations, to remain watchful for possible misconduct relating to sanctions or anti-corruption laws. Not knowing of the misconduct will not necessarily provide a defence.  When irregularities are, or should be, suspected, directors have a duty to investigate.  A failure to do so in this case was sufficient to result in a breach of the Corporations Act.

For ASIC, it marks the end of a long, costly saga.

ASIC has been criticised in recent years for failing to pursue and prosecute directors of companies accused of bribing overseas officials. ASIC and the Australian Federal Police have consistently stated that it is continuing to investigate allegations of corporate misconduct, including allegations of bribery and corruption of foreign public officials.  While this decision shows the difficulties faced by any regulator in establishing that senior executives knew, or ought to have known, of wrongdoing, it also shows that persistent regulators such as ASIC can get there in the end.  It highlights the importance of directors being proactive in taking meaningful steps to get to the bottom of potential misconduct as soon as it is suspected.

What is the "oil for wheat" scandal?

In the period from 1993 to 2003, AWB had an effective monopoly over the export of Australian grown wheat. One of its largest customers was Iraq. The sale of wheat to Iraq was subject to UN sanctions. The UN established an Oil for Food Program, whereby money from the sale of oil was put into an escrow account. That money, in turn, could be used to buy wheat.

It has been alleged that AWB, at the request of the Iraqi government, inflated the price of wheat, drew additional funds from the UN escrow account and, using those funds, made payments to Iraq. That conduct provided Iraq with foreign currency, in contravention of UN sanctions.

As shown in the timeline below, AWB’s involvement was first uncovered in 2004, when the UN formed an independent committee to investigate misuse of the escrow account. The proceedings against Mr Flugge and Mr Geary were the only ones to proceed to hearing, with ASIC settling the remainder, and the Director of Public Prosecutions declining to bring criminal charges against individuals.

Proceedings against Mr Flugge and Mr Geary

ASIC’s case against Mr Flugge and Mr Geary hinged on three main allegations regarding AWB’s dealings with Iraq.

First, it alleged AWB reached an agreement with Iraq whereby it paid Iraq an ‘inland transportation fee’ (Transport Fee) and compensated itself by inflating the price of wheat and taking additional money (equivalent to the fee) from the UN escrow account. ASIC alleged that conduct was a scam to allow Iraq access to foreign currency.

Secondly, it alleged that AWB agreed to pay Iraq compensation for iron filings found in wheat supplied by AWB, and paid that compensation by inflating the price of wheat, taking additional funds from the escrow account, and paying the compensation to Iraq.

Finally, it alleged that AWB, for a fee, inflated the price of wheat to be purchased by Iraq and used the additional funds it obtained from the escrow account to pay a debt Iraq owed to third party.

ASIC claimed each of these three events contravened UN sanctions.

ASIC alleged Mr Flugge breached his duties as an director of AWB (under sections 180(1) and 181 of the Corporations Act) as he knew about the Transport Fee and failed to stop it from occurring.

ASIC alleged Mr Geary breached his duties as an officer of AWB (under sections 180(1) and 181 of the Corporations Act) as he knew about, or ought to have known about, each of the three events and failed to stop them from occurring. 

Findings of the Victorian Supreme Court

The Court held that Mr Flugge breached his obligations under section 180(1).

The Court considered that Mr Flugge believed the Transport Fee had UN approval. It rejected ASIC’s submission that it was well known within AWB that the Fee was contrary to UN sanctions. However, it held that a reasonable director in Mr Flugge’s position would have made further inquiries.  The Court observed that if facts come to the attention of a director that awake his suspicion something is amiss, or if those facts would have awaken the suspicion of a prudent director  “then the director has a duty to inquire into the matter.  Further, the director is not excused from making his own inquiries by relying on the judgment of others.”

If Mr Flugge had made reasonable inquiries, they would have shown that that the UN had not knowingly approved of the Transport Fee, with all relevant information.  They also would have shown that the AWB was failing to comply with UN resolutions and the exposure of that fact would have severely damaged AWB’s otherwise good reputation.

The Court deferred the question of any penalty to be imposed on Mr Flugge. Indications of the type of penalty he may receive can be drawn from previous penalties imposed on other AWB directors, such as:

• Mr Lindberg (former managing director) - $100,000 fine and disqualification from managing corporations for almost two years (penalty agreed with ASIC); and
• Mr Ingleby (former chief financial officer) - $40,000 fine and disqualification from managing corporations for 15 months (penalty agreed with ASIC).

The Court rejected the allegation the Mr Flugge had breached section 181, as a failure to make inquiries was not the exercise of a duty or a power, and there was no evidence Mr Flugge acted with an improper purpose.

The Court held that Mr Geary had not breached section 180(1) or section 181, as he was not aware of key matters relevant to each event, and ASIC had not established that Mr Geary acted other than reasonable and in accordance with his duties.

Implications for directors and officers

While this decision demonstrates the difficulties faced by regulators and prosecutors in establishing knowledge of directors, it is also a timely reminder that directors and officers are not immune from liability because they did not know misconduct was occurring.

With the regulator’s growing focus on international activities of Australian corporations, directors and officers must be alert to facts that should make them suspect something is amiss. Ignorance is no defence. If directors and officers are on notice something might be happening, they must make inquiries and take steps to prevent the relevant conduct.