THE HONG KONG INSTITUTE OF CHARTERED SECRETARIES
THE INSTITUTE OF CHARTERED SECRETARIES AND
ADMINISTRATORS
International Qualifying Scheme Examination
HONG KONG CORPORATE LAW
JUNE 2011
Suggested Answers
The suggested answers are published for the purpose of assisting students in their
understanding of the possible principles, analysis or arguments that may be identified
in each question
1
Case list for candidates’ reference
1. Aktieselskabet Dansk Skibsfinansiering (body corporate) v Brothers [2000] 1 HKLRD
568
2. 2. A. L. Underwood Ltd. v Bank of Liverpool & Martins [1924] 1 KB 775
3. Charterbridge Corporation Ltd v Lloyds Bank Ltd [1970] Ch 62
4.
5.
6.
7.
Re Elgindata Ltd [1991] BCLC 959
Re Five Lakes Investment Co. Ltd [1985] HKLR 273
Gluckstein v Barnes [1900] AC 240
Hickman v Kent or Romney Marsh Sheepbreeders’ Association [1915] 1 Ch 881
8.
9.
10.
11.
Kelner v Baxter (1866) LR 2 CP 174
Kinsela v Russell Kinsela Pty Ltd (In Liq) [1986] 4 NSWLR 722
Re Macro (Ipswich) Ltd [1994] 2 BCLC 354
Newborne v Sensolid (Great Britain) Ltd. [1954] 1 QB 45
12. Phonogram v Lane Ltd. [1982] QB 938
13. Royal British Bank v Turquand (1856) 6 E & B 327
14. Securities and Futures Commission v Stock Exchange of Hong Kong Ltd [1992] 1 HKLR
135
15. Simon Fireman v Golden Rice Bowl Ltd [1987] HKLR 981
16. Southern Foundries (1926) Ltd v Shirlaw [1940] AC 701
17. Re Taiwa Land Investment Ltd [1981] HKLR 197
18. Tett Phoenix Property and Investment Company [1986] BCLC 149
19. Tradepower (Holdings) Ltd (in liquidation) v Tradepower (Hong Kong) Ltd [2010] 1
HKLRD 674
20. Twycross v Grant (1877) 2 CPD 469
2
SECTION A
Q1.
ABC Ltd is a Hong Kong private company incorporated by Tim’s mother, who
transferred a 70% shareholding to Tim and made him the only director before
she was forced to retire in 2010 due to health reasons. However, Tim was
neither a smart nor industrious person, and he did not have the necessary
competence to understand the company’s business. He effectively entrusted
the company’s business and affairs to Helen, who had been the general
manager of the company since its incorporation.
In one board meeting, Tim was asked to approve the transfer of Karl’s shares to
his son. (Karl held 10% shares in ABC Ltd.) Since Tim and Karl’s son had never
been on friendly terms, Tim worried that Karl’s son would give him and the
company trouble should the transfer go through, so he did not approve the
transfer. He also instructed Helen not to give reasons to Karl despite his asking
for the reasons for the refusal. When Helen proposed opening a flagship store
in
Central, Tim simply approved the idea without considering its details, as he
would do whenever Helen submitted business ideas to him.
The flagship store turned out to be a disaster. As a result, ABC Ltd had lost half
of its value in the subsequent year. Karl was so furious that he formally
submitted a request to Tim that he wanted to add an item to the next annual
general meeting to appoint a new director nominated by him to the board.
Thinking that Karl was intending to introduce his man to “spy” on him, Tim
ignored Karl’s written request. In extreme disappointment, Karl sold all his
shares to Tim and left the company. Soon after all other shareholders followed
suit by selling their shares to Tim. Tim saw the departure of Karl and other
shareholders as a victory for him. He also thought that he no longer needed to
convene an annual general meeting (AGM) because that would be a “meeting
with him and him only”. For the subsequent two years, ABC Ltd had done
nothing in relation to general meetings, though annual audit had been carried
out as before.
The company’s business performance grew even worse but Tim was so
optimistic about the recovery of the local and global economy that he believed
that the business would soon come good. Unfortunately, this has not happened
and Tim started to believe that he did need some external counsel. He
3
instructed a business consultant, to scrutinise the company’s records and see
whether he or the company had done anything in breach of company law. From
the board minutes the consultant found that Tim had not actually considered the
merits of the flagship proposal. Tim replied that the proposal was so well drafted
that any reasonable director would have approved it, and therefore he would
have approved it anyway. Further, the consultant put it to him that the flagship
store business should have ceased at an earlier time to avoid prejudice to the
company’s creditors. Tim frankly admitted that with hindsight he should have
made that decision.
REQUIRED:
Having considered the facts and Tim’s explanations, advise him in relation to
the following matters, including remedial actions that should be taken:
Q1
(a) His decisions regarding the proposed transfer of shares from Karl to
his son.
Ans (a) The director’s powers are fiduciary in nature, implying that a director must
consider in good faith whether the exercise of any of his powers is in the
interests of the company as a whole.
Regarding a request to approve the transfer of shares and make
corresponding changes to the shareholders’ request, the same principles
apply. Tim must actually consider the pros and cons of approving or
rejecting Karl’s request of transfer. The common law position is that a
director need not give reasons to shareholders in relation to any exercise
of his powers. The articles of association a private company may empower
the directors to refuse to register any transfer of shares in their absolute
discretion without the duty to give reasons (Art 3, Part II, Table A). If the
board of directors refuses to register a transfer of shares the company
must send to the transferor and the transferee a notice of refusal within
two months after the instrument of transfers was lodged (section 69(1)).
Any rejected transferee can apply to the court to have the shares
registered, and the court may make such an order if it is satisfied that the
application is well founded (section 69(1B)). But the court is, as a general
rule, reluctant to interfere with commercial decisions made by directors if
the articles give directors an absolute discretion as the court is not entitled
to interfere with a decision with which “it merely disagrees” (Simon
4
Fireman v Golden Rice Bowl Ltd [1987] HKLR 981). In considering
whether the directors have acted bona fide in refusing a transfer of shares,
the court normally presumes that the directors have been acting bona fide
and the onus of proving the contrary rests on the transferee. The court in
Tett Phoenix Property and Investment Company [1986] BCLC 149
explained: “It is trite law that the court will not interfere with the exercise by
directors of a discretion to register a transfer if their decision was one
which a reasonable board of directors could bona fide believe to be in the
interests of the company. If the discretion is an unfettered one and is not
limited to specific grounds of refusal the court will not compel the directors
to give their reasons for their refusal… If their decision was one which a
reasonable board of directors could consider to be in the interests of the
company then the court presumes that they acted bona fide and had good
grounds for their decision. However, if the directors once give their
reasons the court can consider how far those reasons did justify their
decision.”
Q1
(b) His approval of the flagship-store proposal without proper
consideration, assuming that the proposal was reasonable in its
content.
Ans (b) As mentioned above, the most fundamental fiduciary duty of a director is to
exercise his powers for the benefit of the company (Kinsela v Russell
Kinsela Pty Ltd (In Liq) [1986] 4 NSWLR 722). Where a case of breach of
fiduciary duties of a director is raised upon the ground that he has acted
otherwise than for the benefit of the company it will be necessary for the
court to determine as a factual issue whether the director in question did
exercise his powers for the benefit of the company (Charterbridge
Corporation Ltd v Lloyds Bank Ltd [1970] Ch 62). The Charterbridge case
lends support to an argument that in the context of corporate group, the
proper test of liability is “in the absence of actual separate consideration,
must be whether an intelligent and honest man in the position of a director
of the company concerned, could, in the whole of the existing
circumstances [ie, the group situation], have reasonably believed that the
transactions were for the benefit of the company.” However, Tim may not
be able to rely on this test as ABC is not a company in any corporate
group. Although the proposal may be one that an intelligent director might
have approved if he had considered it, the fact that Tim had not actually
5
considered it shows that he had exercised his director’s powers without
considering the company’s interest. Therefore the advice is that Tim might
have breached his duty to consider the company’s interests in good faith.
Q1
(c) The company, being a one-member company, had not convened an
AGM for two consecutive years.
Ans (c)
A company is under a duty to convene an annual general meeting (AGM)
every calendar year (section 111). The provision which provides that the
quorum shall be one if the number of shareholders falls to one implies that
even a one-member company has to convene an AGM each year.
Although Tim is ABC’s only shareholder after the departure of Karl and all
other shareholders, an AGM had to be convened as before. But the fact
that ABC has not called any AGM is not conclusive enough in finding the
company and Tim guilty of ignoring their legal obligations as there is an
exception to that obligation. It is stated under section 111(6) that the board
of directors may choose not to convene an AGM if all the necessary
resolutions (in particular those related to the ordinary business) can be
secured under the written resolution procedure under section 116B and
that the relevant directors’ report and auditors’ report are distributed to
shareholders. Tim must be asked whether his appointment as a director
should have been renewed in the AGMs (e.g., under the rotation system)
which had not been convened and whether the company had paid out any
dividends to him. Even if there was no need to pass such resolutions ABC
Ltd should appoint or reappoint auditors at each AGM. Since the company
has conducted annual audits, perhaps Tim has signed a written resolution
regarding auditors’ appointment at the company secretary’s request. If the
truth is the unlikely case that the auditors have worked for ABC Ltd without
a relevant resolution, then the company must apply to the court for a
permission to reconvene the missing AGMs. In this case, Tim and the
company will be liable to a fine.
Q1
(d) The possible legal implications in relation to the fact Tim did not
close down the loss-making flagship-store business “early enough”,
assuming that ABC Ltd will subsequently be liquidated on the ground
of serious insolvency.
Ans (d) Tim could be made personally liable for ABC Ltd’s debts and subjected to
6
a disqualification order if he is found by the court to have knowingly
allowed the company to trade when it was seriously insolvent. Fraudulent
trading under section 275(1) is committed if the directors allow the
company to continue its business if they know that there was no
reasonable prospect of the company being able to repay the debts
incurred in the business (Aktieselskabet Dansk Skibsfinansiering (body
corporate) v Brothers [2000] 1 HKLRD 568). The court may make the
directors personally liable for the company debts incurred as a result of the
fraudulent trading. Further, the court is obligated to grant a disqualification
order against the directors responsible for fraudulent trading for a period
up to 15 years (section 168G(1)). The key legal issue under the fraudulent
trading provisions is whether a person should be found to be trading
fraudulently if he continues to carry on business and incur new liabilities,
while genuinely believing that things will improve and that he will be able to
repay his creditors even though, viewed objectively, his belief is wholly
unrealistic and unreasonable. As a general rule, the court “will naturally be
slow to impose personal liability on directors who understandably consider
themselves within the protection of the limited liability afforded to the
company through which they are trading and will do so only if personal
dishonesty on their part can be established” (Tradepower (Holdings) Ltd (in
liquidation) v Tradepower (Hong Kong) Ltd [2010] 1 HKLRD 674). The
court will ask when the directors’ decision to go on with business “ceases
to involve merely misguided optimism and becomes cheating one’s
creditors.” The common law position is that subjective dishonesty is the
basis of testing the directors’ intention, and the court has stressed that the
showing of objective unreasonableness in continuing with a doomed
business is insufficient to lead to an inference of fraudulent intent
(Tradepower (Holdings) Ltd (in liquidation) v Tradepower (Hong Kong) Ltd
[2010] 1 HKLRD 674). Therefore Tim’s business incompetence may not be
against him when facing a charge of fraudulent trading. But, depending on
the totality of evidence, the court may draw an inference that Tim actually
knew that ABC Ltd could not avoid liquidation when he allowed the
company to continue its business.
Q1
(e) Tim having turned down Karl’s request to add an item to the AGM
agenda.
Ans (e) Any number of shareholders holding 2.5% of the issued shares can, at
7
their expense, request the inclusion of resolutions for consideration by
members at general meeting, or ask the company to circulate a statement
of not more than 1,000 words with respect to the resolution proposed this
section or the business to be dealt with at that meeting (section 115A(1)(a)
and (2)). The failure to cause the company to discharge its duty to circulate
such resolution and/or statement can make the officers of the company
liable to a fine. Generally a resolution of a nature suggested by Karl must
be deposited with the registered office not less than six weeks before the
meeting but, if the meeting is an AGM, the resolution could be lodged
within six weeks of the meeting because it would be treated as an ordinary
business (section 115A(6)). If Karl did not or had not deposited a sum of
money sufficient to meet the expenses of the company to circulate the
resolution, the company is not to discharge this duty.
8
SECTION B
(Answer THREE questions from this section)
Q2.
Darren, Edith, Felix and Gill were equal shareholders of H Ltd. Darren was the
sole director of the company. The articles of association, which are not based
on Table A, provide that the board of directors may purchase equipment for the
purposes of the company up to a maximum value of $5 million and that any
purchase over this amount must first be sanctioned by ordinary resolution of the
company (the First Clause). Darren placed an order with M Ltd for $9 million.
Due to the regular business relationship with H Ltd, the directors of M Ltd were
aware of the existence of the First Clause but they did not ask Darren about the
necessary approval. The equipment was delivered to H Ltd but Edith, the
general manager, returned the equipment to M Ltd, with a note stating that H
Ltd had never approved of this transaction.
REQUIRED:
Q2
(a)
Ans (a)
Explain whether the transaction is binding on H Ltd.
On behalf of H Ltd, Darren made a contract with M Ltd. The value of the
subject matter of the contract is more than what Darren, as the sole
director of the company, could authorise. He would have the power to
make that contract if H Ltd had passed an ordinary resolution to authorise
him to do so. The directors of M Ltd did not ask Darren whether there was
such an approval even though its directors knew that the making of that
contract was restricted by the articles of association of H Ltd. Whether the
contract is binding H Ltd will depend on whether the indoor management
rule should apply to the facts.
The indoor management rule, which had its origin in Royal British Bank v
Turquand (1856) 6 E & B 327, states that an outsider who deals with a
company in good faith may assume that acts which appears to be
consistent with the company’s articles have been properly done by the
company. The court in Turquand said: “It is a rule designed for the
protection of those who are entitled to assume, just because they cannot
know, that the person with whom they deal has the authority which he
claims. This is clearly shown by the fact that the rule cannot be invoked if
the condition is no longer satisfied, that is, if he who would invoke it is put
9
upon his inquiry. He cannot presume in his own favour that things are
rightly done if inquiry that he ought to make would tell him that they were
wrongly done."
Therefore a party without knowledge of the irregularities in the company’s
internal procedures is not bound to inquire whether those internal
procedures have been duly complied with. The good faith of directors is
irrelevant to the application of the rule. The rule does not apply if the
circumstances put the outsider to inquiry (A. L. Underwood Ltd. v Bank of
Liverpool & Martins [1924] 1 KB 775) or if the doctrine of constructive
notice applies (Irvine v Union Bank of Australia (1877) 2 App. Cas. 366). In
this case, it can be argued that nothing had put M Ltd to enquiry because
the purchase of the equipment was in the course of the company’s
ordinary business. In addition, H Ltd and M Ltd have maintained a regular
business relationship. More importantly, there is no way for M Ltd to check
if H Ltd has passed a resolution to authorise the contract. Under the
Companies Ordinance, only a special resolution has to be filed at the
Companies Registry (section 116). Therefore, the contract is binding on H
Ltd.
Q2
(b)
Edith, Felix and Gill are fed up with Darren’s erratic behaviour and decide
not to reappoint him as a director at the next annual general meeting
(AGM). However, they know that there is a clause in the articles stating
that all of them may serve as executive directors for the first 15 years from
the incorporation of H Ltd and they can share equally half of the
company’s annual profit as remuneration (the Second Clause). Darren has
an employment contract with the company which incorporated the terms of
the Second Clause. Edith, Felix and Gill plan to pass a resolution at the
next AGM to amend the articles by removing the Second Clause. They
hope that the removal of that clause could cause Darren’s employment
contract to become void as a result.
Explain whether H Ltd has to compensate Darren for breach of
contract if he is removed from the position of executive director after
the proposed amendment is made to the articles of association.
Ans (b)
The other directors of the company believe that the removal of the Second
Clause, which seems to give all four shareholders a right to serve as
10
executive directors and take part of the company’s profit as remuneration,
can cause Darren’s employment to become void because of the loss of
the raison d'être.
The directors may be surprised to know that the Second Clause is
unenforceable. This is because section 23 only confers binding rights on a
clause if it affords rights on a member as a member. Since the Second
Clause purports to give them a right to be appointed as directors, this is
regarded as an outsider’s right, which is not enforceable under section 23.
As the court said in Hickman v Kent or Romney Marsh Sheepbreeders’
Association [1915] 1 Ch 881: “An outsider to whom rights purport to be
given by the articles in his capacity as such outsider, whether he is or
subsequently becomes a member, cannot sue on those articles, treating
them as contracts between himself and the company, to enforce those
rights.”
However, the legal position will be different if the director and the company
have entered into a separate contract which has incorporated an article
which purports to give an outsider rights. In this case, Darren can insist on
his rights given to him by the employment contract, not by the articles of
association of H Ltd. “A company cannot be precluded from altering its
articles thereby giving itself power to act upon the provisions of the altered
articles – but so to do may nevertheless be a breach of the contract if it is
contrary to a stipulation in a contract validly made before the alteration”
(Southern Foundries (1926) Ltd v Shirlaw [1940] AC 701). The conclusion
is that Darren must be sufficiently compensated if he is removed from
office, regardless of whether the Second Clause is removed or not.
11
Q3.
Alongside his brothers Benny and Calvin, Aaron has served as a director of P
Ltd since its incorporation until recently. The three brothers and their mother are
equal shareholders of the company. Aaron has fallen out with his brothers and
as a result resigned from the board of directors. Since then Aaron has found
that the company’s business performance has deteriorated sharply due to his
brothers’ incompetence as directors. He is sure that a contract that the
company is going to enter into next month will turn out to be a disaster. Aaron
has convinced his mother to side with him not to re-elect Benny and Calvin
back to the board when they have to step down as required by the articles of
association at the next AGM. His mother also agrees to nominate and elect
Aaron as the sole director of the company. Benny and Calvin are angered by
Aaron’s move and have indicated that they will not vote for Aaron. Therefore, it
is highly likely that the company will have no director after the AGM.
REQUIRED:
Q3
(a)
Advise Aaron whether he can seek a court order under the unfair
prejudice remedy to stop the company from entering into the
contract.
Ans (a)
Under section 168A, any member of a company who complains that the
affairs of the company are being or have been conducted in a manner
unfairly prejudicial to the interests of the members generally or of some
part of the members (including himself) or, in a case falling within section
177(1)(f), may make an winding-up application to the court. If the court is
satisfied that there is a case of unfair prejudice, in order to bring to an end
the matters complained of the court may make an order restraining the
commission of any such act or the continuance of such conduct (section
168A(2)(a)).
As a shareholder, Aaron may want to argue before the court that the
effects of the recent decisions of the board, which are affairs of the
company, were prejudicial to the shareholders’ interests, as evidenced by
the dismal business results. Aaron should be advised that the existence of
corporate affairs causing prejudice to shareholders’ interests, by
themselves, is not sufficient to activate the court’s jurisdiction under
section 168A because such affairs may not be unfair. In other words,
12
prejudicial acts may not necessarily unfair. As the court in Re Taiwa Land
Investment Ltd [1981] HKLR 197 pointed out: “It seems clear that
elements of both unfairness and prejudice must co-exist for the section to
come into play. Conduct which is intrinsically prejudicial to the interests of
a shareholder, without also being unfair, will not be enough; conversely the
section cannot be relied upon if the conduct of which complaint is made is
merely unfair."
In an appropriate case it is open to the court to find that serious
mismanagement of a company's business constitutes conduct that is
unfairly prejudicial to the interests of minority shareholders (Re Macro
(Ipswich) Ltd [1994] 2 BCLC 354). But, as a general rule, the court will
normally be very reluctant to accept that managerial decisions can amount
to prejudicial conduct, for two reasons. First, there will be cases where
there is genuine disagreement between shareholders and directors as to
whether a particular decision is commercially viable or sound. The fact the
parties have taken different views is not of itself a proof of unfairness.
Secondly, it is a fact that the company’s value will depend on the
competence of management. Therefore, “short of a breach by a director of
his duty of skill and care there is prima facie no unfairness to a
shareholder in the quality of the management turning out to be poor” (Re
Elgindata Ltd [1991] BCLC 959). Aaron will find it very difficult to base his
claim only on the bad business result without alleging breach of duty of
care by his brothers. Even if the court is convinced by Aaron, there is
another technical difficulty that may deny him the injunction he wants to
seek. As it is now, it is arguable that section 168A only applies to acts of
the company but not its proposed acts. On this Aaron may want to argue
that the contract is within the company’s ordinary course of business so
that the making of that contract should be seen as part of the existing
corporate affairs.
(b)
Advise Aaron whether he has a case for winding up the company
compulsorily if it really turns out that no director is appointed at the
next AGM.
Ans (b)
The common law position is that the managerial power of the board should
be reverted back to the shareholders should the board not be able to
Q3
perform its functions. However, in this case no camp is able to secure any
13
ordinary resolution as neither have more than half of the issued shares.
There is a clear management deadlock in both the board of directors and
general meeting. Aaron may present a winding up petition under section
177(1)(f) on the grounds that it is just and equitable to wind up the
company. Management deadlock is a good ground for the court to
exercise its jurisdiction. If the company is left with no directors, Aaron may
also make an application to the court for the appointment of a provisional
liquidator to take care of the company before the court grants a winding up
order. It is necessary for Aaron to show first that there is a good prima
facie case for the making of a winding up order at the hearing of the
petition, and secondly that it is appropriate for a provisional liquidator to be
appointed, having regard to the commercial realities, the degree of
urgency and need established by the applicant and the balance of
convenience in all the circumstances of the case (Re Five Lakes
Investment Co. Ltd [1985] HKLR 273). Candidates can reasonably
conclude that the court should agree to appoint a provisional liquidator to a
company without directors to maintain the status quo of the business and
protect its assets before the court can make a decision.
14
Q4.
Avis is the auditor of S Ltd, a locally listed company which was incorporated
under the Companies Ordinance. In the course of her work Avis has found that
S Ltd’s account books are seriously incomplete and that the integrity of some
business documents is in question. As a result, Avis has decided to resign as S
Ltd’s auditor and to disclose the circumstances leading to her resignation to the
shareholders of S Ltd and to the Securities and Futures Commission (SFC).
REQUIRED
Q4
(a)
Ans (a)
What steps should Avis take in order to resign as S Ltd’s auditor?
Under the Companies Ordinance, Avis may resign her office by depositing
a notice in writing to that effect at the registered office of S Ltd; and any
such notice shall operate to bring her term of office to an end on the date
on which the notice is deposited or on such later date as may be specified
in the notice (section 140A(1)). To make her notice of resignation effective,
Avis must sign the notice and include in the notice a statement of any
circumstances connected with her resignation which she considers should
be brought to the attention of the shareholders or creditors or S Ltd, or a
statement that there are no such circumstances (section 140A(2)).
Q4
(b)
How can Avis express her concerns to the shareholders of S Ltd and
to the SFC without breaching her duty of confidentiality to S Ltd?
Ans (b)
Should Avis include a statement of the circumstances leading to her
resignation in the notice, she may call on the directors of S Ltd to convene
an extraordinary general meeting for the purpose of receiving and
considering those circumstances they may wish to place before the
meeting (section 140B(1)). In such a case, the directors must proceed to
convene the meeting within 21 days from the receipt of Avis’s written
request and the meeting must be convened for a day not later than 28
days after giving notice of it (section 140B).
Avis can request that the company circulates a statement of reasonable
length in relation to the circumstances connected with her resignation to its
members, either before the general meeting at which her term of office
would otherwise have expired; or before any general meeting at which it is
15
proposed to appoint a new auditor (section 140B(2)). However, S Ltd or
any person aggrieved by the statement and/or notice may apply to the
court for an order directing that copies of the statement and/or notice need
not be sent out. If the court is satisfied that the auditor is using the
statement and/or notice to secure needless publicity for a defamatory
matter, it may by order direct that copies of the statement and/or notice
need not be sent out; and the court may further order the company's costs
on the application to be paid in whole or in part by the auditor (section
140A(5)).
Avis, having resigned, is entitled to attend the general meeting at which
her term of office would otherwise have expired and the meeting convened
at her request. She is also entitled to receive all notices and other
communications relating to such meetings on any part of the business of
the meeting which concerns her as a former auditor of S Ltd (section
140B(5)).
Avis may report the case of S Ltd to the Securities and Futures
Commission (SFC) under the whistle-blowing protection of section 381 of
the Securities and Futures Ordinance which provides that auditors of a
listed company will not be made liable for any civil liability by reason only
of their communicating in good faith to the SFC any information which
suggests that, among other things, directors have engaged in defalcation,
fraud, misfeasance or other misconduct towards the company or its
members; or that shareholders have not been given all the information
with respect to its affairs that they might reasonably expect.
16
Q5.
A number of shareholders of G Ltd, together holding 10% of the issued shares,
have fallen out with the board of directors over the company’s recent business
performance. They want to call an extraordinary general meeting (EGM) to
discuss the matters and remove the managing director.
REQUIRED:
(a)
Advise the shareholders how the Companies Ordinance can enable
them to make the board of directors convene the proposed EGM.
Ans (a)
The directors of a company, notwithstanding anything in the company’s
Q5
articles must, on the requisition of members of the company holding at the
date of the deposit of the requisition not less than one-twentieth of such of
the paid-up capital of the company as at the date of the deposit carries the
right of voting at general meetings of the company, or, in the case of a
company not having a share capital, members of the company
representing not less than one-twentieth of the total voting rights of all the
members having at the said date a right to vote at general meetings of the
company, forthwith proceed duly to convene an EGM of the company
(section 113(1)). (The requisition must state the objects of the meeting,
and must be signed by the requisitionists.)
If the directors do not within 21 days from the date of the deposit of the
requisition proceed duly to convene a meeting for a day not more than 28
days after the date on which the notice convening the meeting is given,
the requisitionists, or any of them representing more than one-half of the
total voting rights of all of them, may themselves convene a meeting, but
any meeting so convened shall not be held after the expiration of three
months from the said date (section 113(3)).
Reasonable expenses incurred by the requisitionists by reason of the
failure of the directors duly to convene a meeting shall be repaid to the
requisitionists by the company, and any sum so repaid shall be retained by
the company out of any sums due or to become due from the company by
way of fees or other remuneration in respect of their services to such of
the directors as were in default (section 113(5)).
17
Q5
(b)
The board of directors has informed the shareholders that it will not
answer their request to convene what they see as a “meaningless”
general meeting. The board also said that should the shareholders
exercise their statutory right to convene the meeting, the directors would
not provide any assistance and would not show up at the meeting.
Advise the shareholders of the procedures they should follow to
convene the proposed EGM, and the legal requirements regarding
the conduct of the meeting.
Ans (b)
A meeting convened under this section by the requisitionists shall be
convened in the same manner, as nearly as possible, as that in which
meetings are to be convened by directors.
Notice of general meeting must be given to every member of the company
(section 114A(1)). Shareholders’ addresses can be found in the register of
members, which is open to the inspection of any member during business
hours without charge (section 98). Generally, an EGM must be called by at
least 14 days' written notice (section 114(1)(a) and reg.52, Table A). Since
the major purpose of the proposed EGM is to remove the managing
director by the passing of an ordinary resolution (section 157B(1)), the
requisitioning shareholders must note that special notice is required of a
resolution to remove a director (section 157B(1A)). Such a resolution will
not be effective unless notice of the intention to move it has been given to
the company not less than 28 days before the meeting at which it is
moved, and that its members are given notice of any such resolution at the
same time and in the same manner as they are given notice of the
meeting (section 116C).
For the purposes of serving notice of meeting, a day means a clear day.
Therefore, '14 days' means 14 clear days without taking into account the
day of posting the notice, the day of deemed receipt (reg.132, Table A)
and the day of the meeting (Securities and Futures Commission v Stock
Exchange of Hong Kong Ltd [1992] 1 HKLR 135). The notice must specify
the place, day and the hour of the meeting and, in case of special
business (section 114C(7)), and the general nature of that business
(art.52, Table A). There should be an accurate description of the proposed
ordinary resolution on the notice of meeting.
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Since all the directors are going to the meeting, therefore no director is
going to chair the general meeting, as is generally required by the articles
of association (reg.57, Table A). The members who attend the meeting
must elect one of them as the chairman of the general meeting (reg.58,
Table A).
The chairman of the general meeting must also make sure the
proceedings of meeting are accurately recorded so that minutes can be
prepared for the record as required by the Companies Ordinance.
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Q6.
In October, Jill and Nora agreed to form a new company which they intended to
call J & N Ltd, to carry out their business plan. Jill was asked to source new
suppliers for their proposed company. Jill decided to award the most valuable
contracts to Peter, her best friend, without telling Nora her close relationship
with Peter. Jill indicated on those contracts that she signed “for and on behalf of
J & N Ltd” despite the fact that the company had not been registered yet. Before
the company’s first board meeting Nora found out that the terms of the
contracts with Peter were more favourable to him than to the company. Nora
was very angry and she wanted to get the company out of those contracts. She
also wondered whether Jill, who was also a director, was liable to the company.
REQUIRED:
Advise Nora.
Ans A promoter is “one who undertakes to form a company with reference to a given
project and to set it going, and who takes the necessary steps to accomplish
that purpose” (Twycross v Grant (1877) 2 CPD 469). In other words, a promoter
is a person who handles the necessary incorporation procedures and related
works before a company comes into its independent existence upon the issue
of the certificate of incorporation. Nora should note that Jill was a promoter of
their company.
The promoter’s activities may involve making contracts with third parties before
the incorporation of the proposed company. It is an interesting question whether
a promoter can enter into contracts as an agent for an ‘unborn’ company. The
common law position is that, as stated in Kelner v Baxter (1866) LR 2 CP 174, a
company cannot ratify pre-incorporation contracts as principal because at the
time of contract the company did not exist. Therefore, the contracts concluded
before incorporation of the company will be regarded as the promoter’s own
contracts. Although common law provides a solution to this problem called
novation, this method is commercially inconvenient especially if the number of
the pre-incorporation contracts is large.
The rule in Kelner is restated in section 32A(1)(a), which provides that a
promoter is personally liable for any pre-incorporation contracts if he signs as
an agent or in those contracts he has purported to act for the proposed
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company in other capacities. Therefore a promoter cannot avoid his personal
liability, for example, by arguing that he simply signed the contract not as an
agent but for the purpose of authenticating the signature of the proposed
company (Newborne v Sensolid (Great Britain) Ltd. [1954] 1 QB 45). The same
provision provides that the promoter can be absolved of liability if there is an
express agreement in the contract that the person signing for the proposed
company is not to be liable (Phonogram v Lane Ltd. [1982] QB 938). It is
important to note that section 32A(1)(b) modifies the rule in Kelner by allowing a
duly incorporated company to ratify pre-incorporation contracts. Since the
company is yet to have its first board meeting, we can reasonably assume that
J & N Ltd has not ratified any pre-incorporation contracts yet. Jill will be
personally liable for the contracts with Peter if the board refuses to render such
ratification.
Jill may argue that, at the material time, she did not owe any fiduciary duties to
J & N Ltd as a director because the company did not exist yet. Although that is a
correct legal position, Jill must also note that a promoter as such owes fiduciary
duties to the proposed company. One consequence of this fiduciary relationship
is that a promoter must not make profit in the course of and out of the
incorporation activities. If a promoter intends to do so, he must seek the
consent of the company just as a director should do if he has made an
unauthorised profit out of his position as a director, putting him into a conflict of
interest with the company. As a general rule, the company’s consent is only
effective if the promoter has first made a full and frank disclosure of all the
relevant information to an independent board of directors or if the board is not
truly independent, to the existing and prospective shareholders of the company,
for example, by making the disclosure in the prospectus. In this case, the
company can sue Jill for her breach of the fiduciary duty to avoid conflicts of
interest with J & N Ltd as a promoter (Gluckstein v Barnes [1900] AC 240).
END
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