02 October 2019
The legal, political and societal assessment of parent responsibility for the actions of affiliated organisations is changing in many parts of the world, including Australia.
Liability is no longer restricted to the typical corporate/parent-subsidiary relationship – it can now extend to financial sponsors and the portfolio companies they invest in (and often control). As the landscape continues to shift, financial investors must come to terms with the risks of controlling entity liability.
For many years, Australian courts have steadfastly upheld the sanctity of the Salomon principle, whereby a corporation is considered to have a separate legal personality, rights and obligations to its shareholders.
As a result, ‘piercing the corporate veil’ (or in other words, when a corporation's shareholders are held personally liable for that corporation’s actions or debts) continues to require something akin to a sham group holding structure. There are, however, two ways in which the consequences of the Salomon principle have been altered without piercing the corporate veil – liability in the tort of negligence pursuant to a duty of care owed by a controlling entity to third parties dealing with affiliated entities, and legislative intervention.
Australian courts have previously held that a parent company owes a duty of care to an employee or third party affected by the activities of the parent’s subsidiary (and is liable if that duty is breached). Albeit few in number, these decisions have turned broadly on the questions of whether the parent exerted a sufficient degree of control or influence over its subsidiary and whether the harm to the claimant was reasonably foreseeable.
Interestingly, control was also a key factor in a recent UK Supreme Court case determining the scope of parent company liability. In April 2019, the UK Supreme Court unanimously held in Vedanta that there was an arguable case that a UK-domiciled parent company had a duty of care to third parties harmed by its foreign subsidiary’s activities. A key consideration for the Court was the parent’s adoption and communication of group-wide policies on environmental, social and corporate governance (ESG) – by advocating and promoting adherence to high standards, the parent created a duty of care to those impacted by affiliate operations.
A survey of the relevant case law across a number of Commonwealth jurisdictions also suggests that the category of situations where a controlling entity has a duty of care for affiliate operations is not closed. Driven by a combination of ‘deep pockets’ and the ability to seek legal remedy in the controlling entity’s home jurisdiction, it seems novel situations will continue to be presented to the courts.
As the impact of ESG matters on financial investments continues to grow, it is becoming increasingly necessary for financial investors to re-examine the nature of controlling entity and affiliate liability.
Financial investors should carefully consider the following:
Financial investors must come to terms with the risks of controlling entity liability and grasp the changing landscape – just as holding companies that operate globally in extractive or environmentally sensitive industries (who have been exposed to most litigation to date) have had to.
In the years to come, tick-the-box compliance for portfolio companies will no longer be enough to provide an appropriate level of protection from legal risk.
The content of this publication is for reference purposes only. It is current at the date of publication. This content does not constitute legal advice and should not be relied upon as such. Legal advice about your specific circumstances should always be obtained before taking any action based on this publication.