Successfully defending a weak D&O prosecution

07 April 2017

The judgement arising from ASIC’s recent prosecution against Peter Drake and two other directors of LM Investment Management Ltd (LMIM), in the Federal Court decision of Australian Securities and Investment Commission (ASIC) v Drake (No. 2) [2016] FCA1552 (ASIC v Drake) offers a useful guide to insurers when defending claims against directors and officers as to how to identify potential weaknesses in a claimant’s case.


LMIM was the trustee and/or the responsible entity of a series of investment funds in which investors had invested millions of dollars. Those funds included LM Managed Performance Fund (MPF).

At the end of January 2013, MPF had almost $400 million dollars under management comprising 95.88% commercial loans, 3.32% cash reserves, and 0.80% direct property holdings.

In March 2013, LMIM was placed into liquidation. Receivers and managers were appointed to MPF. It quickly became apparent the investors might have lost the whole of their $400 million investment.

ASIC’s case

ASIC’s case concerned an investment made by LMIM, as the trustee of MPF to a related company called Madison Estate Pty Ltd (Madison Estate). The loan was overwhelmingly MPF’s largest asset.

The claim was originally against five directors and concerned a series of loans made from MPF to ME in the period of 2007 to 2012. However, when the evidence at trial did not present favourably, ASIC was forced to drop its claim pertaining to all loans other than one made in 2012 for about $100 million. That loan only related to three directors.

ASIC’s allegations against the three remaining directors concerned breaches of directors’ duties under section 180 (1) of the Corporations Act 2001 (Cth) (Corporations Act). ASIC alleged the directors breached their duties by causing or permitting LMIM to approve the 2012 loan. ASIC claimed the approval caused LMIM to act imprudently and exposed it to a foreseeable risk, namely, a claim by the unit holders.

The court’s decision 

Three key issues are apparent from the judgment.

First, Justice Edelman, considered the evidence of ASIC’s expert, Mr Woolley, a fund’s manager with over 31 years, relevant financial services experience, to be woeful and, ‘in the literal sense, incredible‘ to the extent His Honour refused to accept any of it. In particular, Justice Edelman stated:

‘[Mr Woolley] paid scant attention to key documents. And when confronted by matters inconsistent with ASIC’s case, many of [Mr Woolley’s] answers were preposterous. [Mr Woolley] displayed the worst characteristics of partisanship and could not, in any respect, be described as an independent expert…

…The extent of my concerns about [Mr Woolley’s] credibility and about his reliability combine to give effect that none of his evidence is capable of acceptance’

Even ASIC’s counsel accepted the Court should not accept Mr Woolley’s evidence except where it was unchallenged and placed limited reliance on Mr Woolley’s evidence in submissions.

The effective loss of its expert evidence left gaping holes in ASIC’s case.

Secondly, Justice Edelman found that ASIC did not explain what a prudent trustee in LMIM’s position should have done instead of approving the 2012 loan. In that regard Justice Edelman found there were three alternatives open to the trustee:

  • To defer the decision regarding the loan;
  • To have refused the loan; and
  • To have approved the loan.

Justice Edelman determined that when considering all the circumstances and the above alternatives, a prudent trustee would have approved the loan.

Thirdly, Justice Edelman found a significant legal obstacle for ASIC, namely, that the trust instrument had excluded the duty to act prudently. Justice Edelman did not accept ASIC’s submission that such a duty could not be excluded in Queensland, even though in other States with similar legislation, it could.

Incidentally, Justice Edelman also found that ASIC failed to prove any loss was caused by any alleged imprudence, on the basis that the trust instrument also contained an exclusion of liability clause.

Practical implications

The take home messages from ASIC v Drake for insurers defending claims against directors and officers, are:

  • An expert can make or break your case, therefore, ensuring the right one is selected and properly prepared, is important;
  • Addressing the right test in a duty case is critical; and
  • Taking the time to properly analyse what might normally be routine documents remains an exceedingly integral part of adversarial trials.

This article was written by Andrew Cheetham, Partner, Craig McIver, Special Counsel and Zoe Cunich. 

1Sarah Danckert, Sydney Morning Herald, ‘ASIC loses case against LM Investment founder Peter Drake’ 23 December 2016: 

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