Legal Provisions of Issuing of Shares
- The issue is to find out the legality of the issue of class B shares by the directors of Rosta Vicky and James under the rules of the Corporations Act 2001 (Cth)
- Another issue is to find out whether Kevin can do anything under the legislation to prevent the issue of class B shares
The directors are provided with the power to issue shares for a company limited by shares under the Act. However there are some specific situations in which the issue of shares can be considered as a variation of class rights. Although the issue of shares is allowed, variation of class rights cannot always be done under the Act. The variation of class rights is only possible where the proposal complies with the obligations and procedures set out by the Act.
Variation of class right takes place when a company issues a new class of shares as stated through the provisions of section 246(c) of the Act. This is a process where as a new class right has been introduced it impacts a change upon the rights of an existing class of shareholders. Thus, situations which involve the passing of new share class having different rights as compared to the existing class of shares would result in the variation of class rights. In case a company has a constitution, the variations of rights have to be carried out through in compliance of the constitution.
The directors are allowed to vary the class rights where the company does not have any constitution. This can be done only if the company has approved such variation through passing a special resolution by 75% of the shareholders of the affected class. These provisions have been stated through section 246B (2) of the Act. The variation of rights would come to the context in case no member is able to prevent the variation in one month as per section 246D (3) (a).
The variation or cancellation of class rights can be set aside by a member of the affected class as stated under rules of section 246D of the Act. Variation and cancellation of class rights can only be done by a shareholder(s) who has a minimum of 10% shareholding in the company. The applicant can make a claim before the court under this section. The court, if it deems that the variation of class rights would unfairly prejudice the interest of the shareholder, it may pass an order to set aside the class rights. The legislation also provides other options to such members in form of s246B and 1324. Under these sections the member can claim a statutory injunction to prevent the variation. In case a company has a constitution the shareholder can also make a claim for violation of contractual rights.
Variation of Class Rights
Through the facts provided in the case study, James and Vicky are the directors of Rosta and each of them have 450 shares each of belonging to Class A. They have made a proposal of providing class B shares to the employees as a substitute of low salary. The facts of the case study also provide that the right of class B shares is not as same as the existing Class A shares. Class B shareholders would be provided with right to priority in dividends. As the rights in both the share classes are different it can be stated through the application of section 246C (5) that, the issue is a variation of class rights. Rosta does not have any constitution and thus via 246B (2), the variation of class rights can be done by passing a special resolution by those whose share class is affected. Special resolution can only be passed by 75% of the voting rights. Kevin has converted his interest in the company to a 10% shareholding. The total shares of the company have now become 1000 (450+450+1000). Thus the vote of 750 shares (1000/100*75) would be adequate to pass the resolution to vary the class right. As Vicky and James total have 900 shares they have the right to pass the special resolution and give effect to the variation of class rights.
Kevin is 10% shareholder of the company as he has 100 shares. Thus in the given situation he has the right to make a claim under section 246D before the court for setting aside the issue of shares (variation of class rights). The court, if it deems that the variation of class rights would unfairly prejudice the interest of Kevin, it may pass an order to set aside the class rights. In addition he can also under s246B and 1324 claim a statutory injunction to prevent the variation. However if the court is not satisfied then the issue will come to effect in one month via section 246D (3) (a).
Conclusion
- The issue of class B shares by the directors of Rosta Vicky and James is valid under the rules of the Corporations Act 2001 section 246B(2)
- Kevin can make a claim under section 246D before the court for setting aside the issue of shares to prevent the issue of class B shares.
- The legality of the lease entered upon by James to purchase furniture has to be considered in the first issue
- The legality of the sale of company assets by Vicky to PPW has to be considered in the second issue
- The remedies which Rosta or the ASIC may seek against Directors of Rosto and PPW under the Act is to be considered as the third issue
The simplest way in which a company can execute a document is under the provisions of section 127(1) and 127(2) of the Act. Under subsection 1 a document may be executed by a company without the use of common seal in case the document has been signed by two directors or a director and a secretary. As most Australian organization does not use the common seal they utilize the provisions under section 127(1). In the case of Knight Frank Australia Pty Ltd v Paley Properties Pty Ltd the court had clarified that the counter party would be not be allowed to rely on assumptions under section 129 if the document has not been signed according to the section. Under the rule provided in the Royal British Bank v Turquand case, a counterparty has the right to assume that the other part have complied with all internal rules of the organization if they had diligently verified the information.
Actions that can be taken by Shareholders
However the ways in which a company can execute a document is not limited through the application of section 127. Section 126 of the Act provides that a person having express or implied authority may execute a document on behalf of the organization. Under 126 of the Act if a document is executed it would be legal. However, the counterparty would not be able to rely on assumptions under section 129. The counter party also has to undertake due diligence for the purpose of satisfying itself that proper execution of the document has been done. The difference between execution under section 127 and 126 has been illustrated in the Knight case. It had been stated by the court that where the second signature is not present the contract has not been executed by the organization under section 127 of the Act. The court also found that the director was not allowed to execute the document under section 126 as the constitution did not allow him to do so.
Any person can create a company in Australia unless they have been prohibited by law. Once a company is formed it becomes a separate legal entity. There is a corporate veil present between the members of a company and the identity of the company which prevents the member from being liable personally. The court can lift this corporate veil going against the principles provided in the Soloman v Soloman case. This may happen in some specific situations. In Creasey v Breachwood Motors Ltd the court discussed the issue of lifting the corporate veil. The court in this case found that the company had been formed so that its owners can avoid a legal obligation imposed on them. The owner of the defendant company in order to avoid a debt had transferred assets of the company to a new company. In this situation the newly formed company was treated to be a sham or hoax and thus the court lifted the corporate veil of the company. The court stated in this situation that no it has the right to look beyond the corporate veil to find out the real culprits. The court also lifted the corporate veil in Gilford Motor Co Ltd v Horne case as it found that the intention of setting up the company was fraudulent.
The directors of an organization can also be liable personally through the provisions of section 588G where they have been found to intentionally indulge in insolvent trading. Insolvent trading takes place when the director has knowledge that a company will become insolvent or is already insolvent when they indulge into a transaction. They may also be liable to the shareholders personally under section 1317S and be asked to compensate them for their losses.
Validity of Sale/Lease Agreements
James had decided to lease office equipment for the company. LT has the knowledge that James is the Co-founder and Chief Financial officer of Rosta. The document for the exaction of the lease has only been signed by James alone. Thus the execution is not valid under section 127(1) as under the section a document may be executed by a company without the use of common seal in case the document has been signed by two directors or a director and a secretary. However the contract for the lease is valid. This is because section 126 of the Act provides that a person having express or implied authority may execute a document on behalf of the organization. Under 126 of the Act if a document is executed it would be legal. Here James was the agent of the company within the knowledge of LT. Thus the lease is valid under section 126.
Vicky has decided to sell the assets of the company to PPW. James had not agreed to the proposal. This means that here also the sale contract has not been signed by two directors as required by section 127. However as per section 126 a person having express or implied authority may execute a document on behalf of the organization. Under 126 of the Act if a document is executed it would be legal. Thus the lease signed by Vicky is also legal in the absence of any constitution for the company.
The primary purpose for which PPW has been formed is to ensure that the creditors of Rosta cannot attach its property. The directors of PPW also have no knowledge about the purpose of the company. As discussed above the court can lift this corporate veil going against the principles provided in the Soloman v Soloman case. This may happen in some specific situations. In Creasey v Breachwood Motors Ltd the court found that the company had been formed so that its owners can avoid a legal obligation imposed on them. The owner of the defendant company in order to avoid a debt had transferred assets of the company to a new company. In this situation the newly formed company was treated to be a sham or hoax and thus the court lifted the corporate veil of the company. The court stated in this situation that no it has the right to look beyond the corporate veil to find out the real culprits. The facts of the case are similar to the present situation. Thus here also the court will lift the veil and make Vicky and James liable for losses to Rosta’s creditors. They may also be liable for insolvent trading under section 588G because when the sale was made the company was insolvent.
Conclusion
- Both the lease and the contract for sale are valid under section 126
- The ASIC and the liquidator of Rosta can make a claim to lift the corporate veil of PPW and make James and Vicky liable
In the given situation, the issue is to recognize the steps that Kevin could have taken to avoid PPW’s registration and transfer of assets to PPW from Rosta.
It has been provided via the rules of section 232 of the Act that a member of the company can make a claim before the court to seek remedies under section 233 of the affairs of the company is carried out in a way which may be unfairly prejudicial or discriminatory to the member. The affairs of a company include any proposal or resolution which the directors of the company plan to implement or have implemented. An individual will only be considered as the company’s member if the shares are transferred to him by the operation of law.
The court is given the right under the section 233 of the Corporation Act, to make orders that it finds suitable. The orders include the modification of the constitution or the repeal of the constitution, preventing an individual to involve in a conduct or requiring an individual to act, the orders to wind up the organization.
According to the above-mentioned laws, it can be mentioned that a claim of derivate action can be filed by Kevin against the act of Vicky and James as Kevin is the company’s minority shareholder because under the operation of law, 10% of the shares has been given to him. Furthermore, a claim could have been made by Kevin in front of the court that the system in which Rosta’s affairs are managed regarding the assets sale in the PPW Company because Rosta became bankrupt and it is unfairly prejudicial or discriminatory to for Kevin. In the present situation, the interest of the Kevin is being affected.
Kevin could have got an order from court in which the court might have restrained Vicky and James from getting involve in the conduct to sell the assets in the company PPW under section 233.
Conclusion
Under the section 232, a claim of derivate action can be filed by Kevin
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