Directors and financial literacy

The issue of the extent to which directors need to be financially literate first discussed in the Centro civil penalty case in 2011 was revisited in the recent decision in ASIC v Godfrey, summarised in ASIC's media release.

Godfrey was the managing director of Banksia Securities, a mortgage lender based in rural Victoria, which failed in 2012.  As the director responsible for recommending the appropriate impairment provision for bad and doubtful debts to the Board, the court found that he did not have a sufficient understanding of the requirements of the relevant accounting standard, AASB 139 Financial Instruments: Recognition and Measurement (AASB 139) as it applied to the the recognition and assessment of the impairment of mortgage investments made by Banksia.

Banksia's financial reports for the financial years ending 30 June 2011 and 30 June 2012, and its half-year financial report for the half year ending 31 December 2011 did not give a true and fair view because they did not comply with the relevant accounting standards, in that the provision was inadequate.  Godfrey, as director responsible for making recommendations to the Board in respect of the impairment of loans and as a signatory to the accounts in 2012, had failed to take all reasonable steps to secure compliance by Banksia with AASB 139.

The court accepted that there was no dishonesty on his part, but the breach came about because he did not realise that Banksia's provisioning policy was inadequate and did not comply with AASB 139.  Because of his role in ensuring that the company complied with the financial reporting provisions of Part 2M of the Corporations Act, especially in respect of the assessment of impaired loans, he needed to have a greater understanding of AASB 139 in order to discharge his duty as a director.  The message seems to be that directors must take responsibility for the duties they have assumed and cannot necessarily rely on others such as management or the external auditors in discharging those responsibilities.

The full text of the judgement can be found here.