Sample Problem Questions
Question 1
Armtill CCFoods Ltd (Armtill) is a successful soft drink and snack foods
manufacturer. Armtill has an issued share capital of 4 million $1.20 shares. It
decides to sell its snack foods business for $1M and concentrate on its core
beverage/soft drink business. Armtill has sufficient capital reserves to meet
any further acquisitions or expansion plans for its business. As it has no
present use of the proceeds of the snack food business the directors decide
to return funds to its shareholders. This in part will make up for low dividend
payments to shareholders in the last three years.
Armtill seeks your advice as to how it can reduce its share capital and return
these funds to shareholders under the Corporations Law. Explain the methods
available under the Corporations Law for Armtill to undertake this transaction.
12 Marks
An answer to question 1 would consider the following:
A general discussion on the principles of maintenance of share capital.
How and why companies may wish to reduce their share capital. This case is
similar to Re:Fowlers Vacola. Give a summary of the decision and reasoning
in this case.
Discussion of the process under section 256A-256D. Students should set out
and discuss the requirements of the section.
Question 2
Star.Com Ltd is a successful Internet company. Star.Com Ltd needs to raise
capital to expand its software research business. The Board is considering
two possible ways of raising the capital. Firstly, the possible public issue of
redeemable preference shares; and the second option is to borrow money
from the Finance Group Ltd.
a) Advise the Star.Com Ltd of the advantages and disadvantages of both
methods of capital raising.
After much consideration the Board of Star.Com Ltd resolves to go with the
second option and borrow the money from the Finance Group Ltd. The
Finance Group Ltd has indicated that they want security for the loan.
Star.Com Ltd owns some buildings including two floors of a building in the
City. Its biggest asset is, however, its intellectual property in software.
b) Advise Finance Group Ltd what asset they should seek security over
and advise whether they should seek security by way of a fixed or
floating charge.
Finance Group Ltd advance the funds under the security of a floating charge.
Advise Finance Group Ltd of the requirements and the procedure for
registering the charge. What would be the consequences for Finance Group
Ltd if they failed to register the charge?
Finance Group Ltd advance the loan to Star.Com but due to the financial
crash in the technology market sector Star.Com defaults under the loan.
c) The Finance Group Ltd wants to know their rights to appoint a receiver
and what rights the receiver has to exercise a power of sale over the
charged assets. Advise Finance Group Ltd of the receiver’s ability to
exercise a power of sale.
Students should answer all three parts of this question.
An answer to question 2 would consider the following:
Part a) would include:
a general discussion of share and loan capital.
discussion of difference between redeemable preference shares – section
254A(3) and s254J; and
a discussion of loan capital, debentures and charges – section 283BH
Part b) would include:
a discussion of the difference between fixed and floating charges.
a discussion of the consequences of crystillization (consider possible cases)
a discussion of registration of a charge under s262 and s263 and
consequences for failing to register ie. loss of priority as a secured creditor.
Part c) would include:
a discussion of the two ways to appoint a receiver, that is, by order of the
court or by private appointment and the differences between the methods.
a discussion of the powers of the receiver under s420 and the rights to
exercise power of sale under s420A-s420C.
Question 3
Victoria Universal Limited (VUL) is a successful Melbourne based
company running a number of different successful businesses. During its
twelve years of operation it has generated significant profits and each year
it has reinvested these profits back into the business.
(i)
Francis is a shareholder who complains that while the directors had
decided to pay a dividend in late 2003, they have now reversed
their decision. Francis seeks your advice in regard to his rights to
recover the dividend from VUL.
(ii)
VUL sells one of its less profitable businesses and is seeking to
focus on its core merchandising business. VUL has more share
capital than it requires and Vincent and Ula, the directors of VUL,
seek your advice as to the requirements that need to be satisfied in
order to reduce the share capital by 15% and return this to all
shareholders.
(iii)
Would it make a difference if the Board of VUL decided to engage
in a share buy back of all “A Class shares in VUL and is reluctant to
sell his share in a company he helped found.
Students are to advise the parties in each fact situation,
(4 + 7 + 7 = 18 marks)
An answer to question 3 would consider the following:
i) a discussion of s254V & W. Also discuss when the court may intervene for
non-payment of dividend, s254U (Burland v Earle; Sandford v Sandford
Courier Service).
ii) a discussion of the process under s256A-256D. Students should set out
and discuss the requirements of the section.
iii) a discussion of the process under s257A-257J. Students should set out
and discuss the requirements of the section.
Question 4
Andrew, Brian, Colin, Diana and Elizabeth were the directors of Gemsales Pty
Ltd, a company engaged in the business of importing and supplying jewellery
as wholesalers to the local market.
The company decided that as the market was becoming more competitive it
needed to expand its business as it felt with increased volumes of sales it
would be able to lower its prices and be more competitive. In order to do so it
obtained a $4 million dollar loan from the Friendly Bank Ltd. $3 million was
used to buy more stock and $1 million was used to buy a large new
warehouse and showrooms from Traders Pty Ltd.
Colin was not at the meeting that had made these decisions as he was in
hospital recovering from a serious accident. Elizabeth, as was her usual
custom, had not attended the meeting but signed the requisite documentation
agreeing to the expansion of the business and the getting of the loan. Diana
who attended, said she did not know if she agreed and abstained from voting.
Andrew and Brian both voted to go ahead with the expansion and the getting
of the loan.
At about this time Brian has established contact with Victor, who was setting
up a new business as a retailer of jewellery. Victor was looking for reliable
suppliers, but said he would not deal with Gemsales Pty Ltd as he did not like
Andrew, the Managing Director. Not wishing to miss out on such a lucrative
business opportunity, Brian arranged to set up his own business as a
jewellery wholesaler and a contract was entered into between Victor and
Brian for the supply of jewellery.
Six months later, Brian resigned as a director. At the same time it was clear
the company had over-extended itself and was insolvent and could not pay
the interest on its loans.
It also became clear that Brian was a major shareholder in Traders Pty Ltd
and the other directors were unaware of this at the time of the purchase of the
warehouse and showrooms. Furthermore, Brian had been approaching other
established customers of Gemsales Pty Ltd and had secured orders for his
own business.
Advise as to the liability of the parties both under common law and the
Corporations Law.
(15 marks)
Sample Answer to Question 4
The first issue to deal with is the liability of Directors for payment of the
interest on the loans to Friendly Bank Ltd.
The courts will first decide whether or not the directors of the company have
engaged in insolvent trading and breached s588G. There should be a
discussion of s588G (1)(2)(3); whether a debt was incurred; suspicion of
insolvency; what company insolvency means: s95 A (1) defines solvency as
being able to pay debts as and when they fall due. S95 A (2) defines
insolvency as not being solvent. In this situation it is highly likely that the
company will be declared insolvent.
When a company is declared insolvent the courts are prepared to lift the
corporate veil and go behind the company to attach liability to the directors
under s588G where the directors had a duty to prevent insolvent trading – an
exception to the Separate Legal Entity Doctrine was established in Solomon v
Solomon & Co Ltd.
Once you can establish a prima facie case of insolvent trading by the directors
you need to consider the defences under s588H
Defences available to the directors are as follows:-
1) Colin would use the defence under S588H (4) which allows a director relief
if he was ill at the time when the debt is incurred. Although not relevant here
there are cases used for a defence under this section:
Metropolitan Fire Systems v Miller [1997] 23 ACSR 699
Powell & Duncan v Fryer [2000] 18 ACLC 480
Tourprint International Pty Ltd v Bott [1999] 17 ACLC 1543
ASIC v Plymin, Elliot & Harrison [2003] VSC 123 (Water Wheel case)
Southern Cross Interiors P/L v D Com Tax [2001] NSWSC 621
Also see appeal decision in DC of T v Clarke [2003] NSWSC 91
2. Given that Dina had abstained from voting, she may be able to use the
defence under S588H (5) where a director may not be liable if they took
reasonable steps to prevent the debt being incurred. If Diana had tried to talk
the other directors out of proceeding with the loan and had voiced her
concerns and had backed them up with positive action such as resigning her
position as director then she may escape liability. However, simply abstaining
from voting would not be enough to prevent liability (** But see s588H6)
3. If directors had reasonable grounds to expect solvency S588H (2) they may
also be able to use this as a defence. Elizabeth could not use this defence as
she had not attended any meetings and seemed to make no attempt to
acquaint herself with the affairs of the company
(CBA of Aust v Friedrich, Tourprint International Pty Ltd v Bott [1999] 17
ACLC 1543, ASIC v Plymin, Elliot & Harrison [2003] VSC 123 (Water Wheel
case), Southern Cross Interiors P/L v D Com Tax [2001] NSWSC 621;
also see appeal decision in DC of T v Clarke [2003] NSWSC 91).
4. Brian could not use the defence that he was no longer a director of the
company as he was involved at the time the debt was incurred (S588G
5. Andrew appears not to fit into any categories outlined above and therefore
would probably also be held liable under S588G to Friendly Bank Ltd
6. Also consider consequences where director is liable for insolvent trading
and some of the orders that can be made under Sections 588J-588Q and
s1317E.
The second issue is that of Brian’s breach of directors duties which he owed
to Gemsales P/L. Brian had fiduciary duties at common law as well as duties
under S180-183. Common law duties as a fiduciary to Gemsales P/L include:-
-
duty to act bona fide and in good faith.
-
duty to act with care, skill and diligence.
Statutory duties under S180-183 include:S181 duty to act in good faith
S180 (1) duty of care, skill and diligence.
S182 & 183) duty not to misuse the position or make improper use of
information gained whilst in the position of director.
Breaches of these duties are discussed below:I) Brian has a statutory duty to disclose material interests to the company
(S191.) This includes when he has an interest in a contract being
entered into with the co-Traders P/L contract with Gemsales P/L. As
well as breaching this provision he has breached S181 by failing to act
bona fide (in goods faith) and has also breached his common law
fiduciary duty to avoid conflicts of interest – (Cook and Deeks)
2) Brian has also breached duties by using his position as director for
personal gain to the detriment of the company and misusing information
gained whilst in the position of director of Gemsales. (S182 & 183.) He
has done this by approaching Gemsales’ customers who have then
placed orders with Brian which would have been to the detriment of
Gemsales. This has also breached common law fiduciary duties by
usurping corporate opportunities which would otherwise have been taken
up by Gemsales (Pacific Shipping Co. Case.) This is also a breach of
directors’ requirements to act in goods faith S181 and common law.
3) Brian has also usurped a corporate opportunity by dealing with Victor
to supply him jewellery. Victor stated that he did not like Andrew and
therefore did not want to deal with Gemsales. However, if Brian had
been acting in the best interests of the company he would have
brought the matter to the attention of the other directors who would
have then been in a position to take action to remedy the situation.
Again, Brian failed to act bona fide (in goods faith) and breached S181
(Regal Hastings Ltd v Gulliver).
Remedies available to Gemsales P/L could include:
a.
Brian may have to pay Gemsales profits made from his personal
contracts – (Furs Ltd v Tomkies).
b.
S1317HA(1) also allows for recovery of profits by Gemsales and
compensation for loss or damage caused by Brian’s breaches of his
duties under S180-183
c.
The contract with Traders P/L may be voidable at the will of
Gemsales P/L (Kinsela v Russell Kinsela P/L.)
Question 5
James runs a single director proprietary company called Jamboos Pty Ltd.
(a) Explain the rules that Jamboos must operate under and the powers of
James under the Corporations Act.
(b) James is considering bringing his brother into the company as a
shareholder. Explain what difference that will make to the company.
(c) James wants to raise more capital to increase the size of the company
and expand its business. What options does James have in seeking to
raise more funds?
(d) Assuming James considers some form of capital loan, explain the
types of debentures that can be issued by a company.
(e) Explain the implications of Jamboos becoming a public company.
[4x5=20 marks]
Sample Answer to Question 5
(a) S114 states that a company must have at least one member. James is
a single director of Jamboos Pty Ltd. Being a proprietary company, it
can adopt the replaceable rules. S134; s135 process of adopting rules.
Section 141 sets out a table of replaceable rules. James does not
have to appoint a company secretary. S198E states that the director of
a proprietary company who is its only director and only shareholder
may exercise all the power that this Act or company’s constitution (if
any) requires the company to exercise in general meetings. The
business of the company is to be managed by or under the direction of
the director. For example, the director may issue shares, borrow
money and issue debentures. S198E(2) provides that a director of a
single director proprietary company can sign, draw, endorse or
otherwise execute negotiable instruments. A director of a single
director Pty Co does not have to disclose material personal interest
S191(5). The person who is the only director and shareholder in a Pty
Co. is to be paid any remuneration for being a director that the
company determines by resolution S202C.
Proprietary companies with one director may pass a resolution by
recoding and signing the record S248(G). They may also do the same
with declarations S248B(2).
(b) If James brings his brother in as a shareholder the rules for a single
director proprietary company will change, as there are now two
members. Under S45A(2) Jamboos Pty Ltd would be classified as a
small proprietary company. Under S292(2) a small proprietary
company need only prepare financial statements if directed to do so
under S293 (shareholder direction) or S294 (ASIC Direction). This
question does not sate whether James’ brother will be a director or not.
If he is not a director, then the provisions in a single director proprietary
will still exist, i.e. with regard to resolutions, declarations and negotiable
instruments.
(c) If James wants to raise more capital and increase the size of his
company he can do so by two methods. The first is by share capital.
S113(3) prohibits capital raising from the public. You can, however,
offer shares to individuals. A proprietary company must not have more
than 50 non-employee shareholders S113(1). S113(3) provides that a
proprietary company must not engage in any activity that would require
disclosure, except for an offer of its shares to a) existing shareholders
or employees of the company or of a subsidiary of the company. Also
note the consequences for breaching s113(3) under s165 where ASIC
can order the company to convert to a public company.
The only other way to raise share capital is to float and become a
public company. Then you can offer shares to the public. If this is the
case then you must comply with S706.
Under S708(1) there are offers to certain bodies that do not need
disclosure. The other type of capital raising is by loan from a financial
institution.
(d) If James considers some form of loan capital, then debentures would
not be an option as debentures are for public companies only. There
are two main types of debentures: mortgage debentures S283BH(2)
where no more than 60% of the borrowers’ interest in the land can be
borrowed, and ordinary debentures S283BH(3). This is a change over
personal property. There must be enough tangible property to satisfy
the amount borrowed. There are also convertible debentures. These
debentures are converted at the end of the loan into shares in the
company. If there are debentures then a Trustee for Debenture
holders must be appointment S283AA. There must also be a deed of
trustee S283AB. S283AC provides who can be a trustee. There are
public trustees and state trustees, which includes banks. S283BB
states that the conduct of a borrower must be in a proper and efficient
manner.
(e) If Jamboos became a public company it would have to comply with
financial reporting requirements. S286 & S291 sets out the obligations.
The reporting of a company must be lodged with the ASIC. Any capital
raising or reduction must be approved by resolution of the members.
Disclosure rules in S706 must be complied with. An AGM must be held
within 6 months of the end of the financial year S250N.
Question 6
Joe and Mary are shareholders of the Australian Conscientious Taskforce
Pty Ltd (known as ACT). The company buys shares in Australian
companies in order to pressure the company to act properly according to
community standards. ACT has focused on companies which produce
and market tobacco products, particularly Tobacco Products Ltd. Tobacco
Products Ltd has been accused of marketing its products to underage
smokers, which has resulted in substantial fines for the company. ACT
believes that the directors knew of the illegal activities, or at least should
have known. The company is refusing to take any action against the
directors.
Joe and Mary intend to go to the forthcoming general meeting. They seek
your advice on the following:
1. Can they question the Board on the above matter?
2. Can they put a resolution to the meeting condemning the inaction by
the Board?
3. What other actions might the group be able to undertake in order to
have the company and the directors brought to account?
[15 marks]
Sample Answer to Question 6
An Annual General Meeting of a company can only be attended by
members of the company. If Joe and Mary are representing ACT then
they have a right to be at the meeting.
S250S provides that the chairman of an AGM must allow a reasonable
opportunity for the members as a whole at the meeting to ask questions or
make comments regarding the management of the company. So in
answer to the questions on whether or not they can ask a question to the
board, the answer is that the chairman of the AGM does not have a
specific duty to them as individuals, but they can ask questions, that is if
they are chosen at the AGM.
Under S249N a member has the right to require a company to put
resolutions to be considered at a general meeting. Provided the members
have at least 5% of the votes that may be cast or at least 100 members
entitled to vote, they may give a company notice of a resolution that they
propose to move at an general meeting. If a company has been given
notice of a resolution, the resolution is to be considered at the next general
meeting that occurs more than two months after notice is given S2490(1).
The company must then give all its members notice of the resolution at the
same time, or as soon afterwards as practicable, and in the same way as it
gives notice of a meeting S2490(2). If the group cannot put a resolution to
the AGM, the other avenue they can take is that of breach of directors
fiduciary duties.
There are common law fiduciary duties and statutory law duties. S181
states that a director must act in good faith and in the best interests of the
company and for a proper purpose. If ACT is a minority shareholder they
can bring an action against the directors on behalf of the company based
on grounds they may have as minority shareholder.
At common law they would need to come within one of the 5 exceptions to
the rules in Foss v Harbottle. These days because the right to bring a
derivative action has been limited by s236(3), it probably would be easier
to use s232-235. Under s232 it could be argued that the directors
breached their duty to the detriment of the company by acting oppressively
or in an unfairly prejudicial or unfairly discriminatory matter.
In this case the company is being fined for the illegal activities the director
knew about or should have known about. To have standing to sue under
s232 you need to come under s234. Section 233 sets out the order the
court can make where oppressive conduct can be proved. Section
233(1)(g) states that the court can make an order under this section that it
considers appropriate in relation to the company. If the directors are found
to be in breach of their directors’ duties, they can be disqualified from
managing a company S206C. If the court finds there to have been a
contravention they must declare the contravention S1317E. S1317F
states that a declaration is conclusive evidence of the contravention.
S1317H could apply for the directors to pay compensation, but I think
S1317P criminal proceedings can be commenced after civil proceedings.
But it must be proven that the directors were in breach of their duty as
directors of the company.