CORPORATE LAW PILOT PAPER SUGGESTED ANSWERS

Transcription

1 SUBJECT NO 12J CORPORATE LAW PILOT PAPER SUGGESTED ANSWERS To get good marks in the corporate law examination the candidates must throughout:- Provide authority, wherever possible, either by means of a reported case or cases (although full citations are not required the names of the litigants will suffice), reference to statute (ideally with the correct section number as well) or reference to other authority such as a DTI or Law Commission report or a Code (such as the Combined Code); absence of authority will significantly reduce a candidate s marks; Read carefully and answer all parts of the question exactly (for example in Section A 1. (f) below the candidate must give the advantages to both investors and companies) a common failing in weak candidates is to overlook the later parts of a question; Be alert to the commercial or policy implications of the law at all times; Show evidence of awareness of current legal debate in important areas of company law; Be able, where the question requires it, not only to be able to explain the law lucidly but also to be able to comment intelligently upon it. Some questions will be explain questions: these will tend to be found more in Section A and may be varied in terms of content (for example, 1.(b) on the function of the Registrar of Companies is a factual question but 1.(g) requires the candidate to be aware of some policy issues). Section B will contain explain questions too, generally of greater difficulty than in Section A and requiring more comment and explanation than would be necessary in Section A. In Section B questions the candidate has the opportunity to display his or her knowledge of the topics asked about and the wider issues touched on by those questions. In Section B there will also be problem questions (such as 2. below), and although there is none in this pilot paper, occasionally there may be more discursive questions such as To what extent does the current law on administration satisfy all creditors of an insolvent company?, a question which allows the candidate to look at the question from a number of different viewpoints before coming to a conclusion. The examiner, when marking, will be using the following as one of his criterion: does this candidate meet the high professional standards expected of a member of the Institute of Chartered Secretaries and Administrators? As candidates write their answers, they should thoroughly check their work and consider whether their answers will indeed meet those standards.

2 SECTION A 1. (a) The authorised share capital of a company states the number and denomination of the shares that the directors have been authorised by the members (or subscribers) to issue. It is normally to be found at the end of the Memorandum of Association. A common example would be: The authorised share capital of the company is 100 consisting of 100 shares each of 1.00 nominal value. The directors may not issue shares in excess of the authorised share capital, though it is possible to increase the authorised share capital by means of an ordinary resolution under the Companies Act 1985 ( CA 1985 ) s.121. The issued share capital is the capital sum representing the actual number of shares, multiplied by the nominal value of each share, that have been issued by the directors. The issued share capital may be lower than or at the same level as the authorised share capital, but may never be more than the authorised share capital. The issued share capital is a liability of the company s, being a debt owed by the company to the shareholders. (b) (c) (d) The function of the Registrar of Companies is to register all newly and properly formed registered companies and to register a large number of documents relating to individual companies, all of which documentation may be accessed by members of the public; to provide statistical records on various matters relating to companies for the benefit of the Government; to ensure that companies, directors, promoters of companies and others comply with the relevant requirements of the Companies Acts and any other legislation relevant to the registration requirements of companies; and to provide limited advice and support for those wishing to set up companies or to find out about companies. There are two main restrictions applicable to the choice of a company s name: the statutory restrictions, to be found in CA 1985 ss and the Business Names Act 1985, and which on the whole are policed by the Registrar of Companies and the DTI; and the restrictions arising out of the common law relating to passing off as in Ewing v Buttercup Margarine Co. Ltd. As far as the statutory restrictions are concerned, no company may have a name that is too like another company s name, nor a name forbidden by the Business Names Act (except with approval), nor a name that is criminal or offensive. There are also restrictions on the improper use of or absence of the words limited and public limited company. The function of a liquidator is to gather in the assets of a company which has been wound up by one of the permitted methods of winding up a company as specified in the Insolvency Act If the realised value of the company s assets are sufficient to pay the unsecured creditors in full, the liquidator will do so, and any surplus remaining after payment of the creditors is divided up amongst the members by the liquidator in accordance with the terms of the articles of association of the company. If there are insufficient assets to repay all unsecured creditors in full, and assuming secured creditors and the preferential creditors have already satisfied themselves in full out of the company s assets, the liquidator, in consultation with the unsecured creditors, will normally pay a proportion of each unsecured creditor s claim (say, 20p in

3 the ) so that each creditor receives some return. In such an event there will be nothing left over for the members. If there are no secured creditors, a liquidator will arrange to pay the preferential creditors (see IA 1986 Sch.6) out of the company s assets before paying the unsecured creditors in full or in part as the case may be. The liquidator is given extensive powers under Schedule 4 of the IA 1986 to carry out his role and to manage what is left of the company in such a manner as to maximise the returns to the unsecured creditors, and the directors cease to have any management role in the company with effect from his appointment. In the case of an insolvent company, the liquidator is allowed to apply to court to set aside certain transactions (such as transactions at an undervalue (IA 1986 s.238), preferences (IA 1986 s.239) and improperly granted floating charges (IA 1986 s.245)) in the period leading up to the insolvency of the company and to take steps to make directors reimburse the company for any loss the company may have suffered as a result of the directors actions (IA 1986 ss ). He may also apply to the court to have unfit directors banned from being directors under the Company Directors Disqualification Act (e) (f) A scheme of arrangement is a method of restructuring the debts of and shareholdings in a company (CA 1985 ss a). It is held at the behest of the company, its creditors and/or its members and needs the consent of three quarters in value of the creditors and three quarters in value of members or of each class of members, and requires an application to court to have the arrangement approved. It is effectively a court-sanctioned compromise between all these groups, the role of the court being to ensure that any minority interests and creditors interests are properly taken care of. Schemes of arrangements are sometimes used in large mergers, such as the merger between Bank of Scotland and the Halifax, and in demergers. They are relatively expensive to operate, but they have the virtue of finality once the court has approved the Scheme, so that minority shareholders and others cannot subsequently claim they were treated badly since they had had their opportunity to protest at an earlier stage. Redeemable shares are shares that are issued in the knowledge that they will be bought back by the company that issued them. The terms of the repurchase will normally be specified in the terms relating to the issue of shares and will normally be found in the company s articles. Such shares are advantageous to investors because the investors are reassured that there is a future purchaser (the company) for their shares, particularly useful in small companies where there may be no market in the shares. The terms of issue of the shares will normally provide for a fund to be built up out of profits to pay for the redemption of the shares. Redeemable shares are useful for the company too because the members of the company will be reassured that an outsider shareholder who has been issued with redeemable shares will not necessarily stay with them for ever, thus allowing the original members to regain their former control of the company. The directors also can budget ahead for the repayment of the shares.

4 (g) (h) (i) (j) Financial assistance is not banned in all jurisdictions (for example certain states in the United States) but it is generally forbidden for public limited companies in the European Union. This is because it is considered an improper use of the company s assets to help certain potential members have the benefit of the company s money to acquire shares in the company. The company s assets should be used to satisfy creditors claims rather than benefit certain favoured members. Another reason for the prohibition on financial assistance is that it might be possible for a shareholder to borrow a large amount of money which he would use to buy a majority shareholding. The loan would be secured on the company s assets. The assets would then be sold to repay the shareholder s loan, thus overriding the interests of minority shareholders and misusing the company s assets to benefit one shareholder at the expense of the company as a whole. Notwithstanding these arguments, it is permissible to provide financial assistance in private companies and to provide financial assistance in very limited circumstances in public companies. There is currently much debate as to the effectiveness and value of the rules on the prohibition of financial assistance (see the Company Law Review Steering Group s various reports in Modern Company Law). A promoter of companies must declare all benefits that he receives from his position as a promoter of the company. This stems from the case of Erlanger v New Sombrero Phosphate Co. where the fiduciary duty of a promoter was set out. Provided, however, that he has disclosed all benefits he may keep them. Nowadays, with the decline in public offers of shares except through licensed practitioners, disclosure normally takes place in listing particulars or a prospectus. If the promoter fails to disclose his benefits the company may require him to account to the company for any profits he has made or to indemnify the company for any loss it has suffered. Pre-incorporation contracts are governed by CA 1985 s.36c. Where someone purports to act as a director of an as yet unformed company, he becomes personally liable for any transactions involving the unformed company, unless the other party to the contract is willing to release the would-be director from his liabilities. Although it is possible to go through the procedure of having a temporary contract which is novated by the company, a better course of action is for the would-be director to incorporate the company swiftly and then make the company enter the contract. See also Phonogram Ltd v Lane. The right of pre-emption allows existing members the right to acquire further shares, whenever they are issued, in proportion to their existing shareholdings, before any other potential shareholders acquire any shares in the new issue. This allows members the opportunity to maintain their voting power and prevents their shareholdings being watered down. The pre-emption right may be found at CA 1985 s.89 though members may choose to waive that right. The right of pre-emption is normally exercisable at a price below the existing market price of the shares to take account of the fact that after the issue of further shares the value of the former shares may decrease and so the new shares have to be priced competitively.

5 SECTION B 2. This question concerns the fiduciary, statutory and other duties of directors. On the assumption that Plimsoul Ltd has Table A as its articles, Arthur is receiving a benefit which strictly speaking he should declare to the directors (CA1985 s.317) and have approved by them in advance. If he really wishes to cover himself he should either declare the benefit to the members in advance of the hospitality or have it ratified at a later date. If he does not do so, there will be the suspicion that he granted the engineering firm the business for an improper reason that was not bona fide in the best interests of the company as a whole. Without prior or subsequent approval he would then be required to account to the company for the benefit he received (Ansell v Boston Deep Sea Fishing Co Ltd, Regal (Hastings) Ltd v Gulliver). If Bill is an incompetent accountant, the standard that is now expected of him is that of a person in his particular position, thereby taking account of the fact that he is a qualified accountant and can reasonably be expected to display suitable professional standards (Dorchester Finance Co Ltd v Stebbing). He would be required to indemnify the company for any loss occasioned by his negligence unless he can avail himself of the benefit of CA 1985 s.727 which on the facts is unlikely. If Charles wishes to sell his patent to the company, and assuming the patent is substantial in terms of CA 1985 s.320, although this is not stated in the question, he would be required to have the benefit of an ordinary resolution permitting him to sell the asset to the company. He may himself vote in favour of the resolution if he is a shareholder. Failure to obtain the relevant approval renders the transaction voidable at the instance of the company (Re Duckwari plc (no.2)). The extent of his gain should be made clearly evident from the accounts to the shareholders so that they know what they are voting upon. In all these instances it is open to the members to ratify the directors actions and thus absolve them from liability, 3. Just and equitable winding up occurs when (usually) the members, or the Secretary of State for Trade and Industry, apply to the court to have the company wound up in terms of IA 1986 s.122 (1)(g) and s.124a respectively. It is open to creditors and the directors to apply to the court, but in practice it tends to be the members who do so. The Secretary of State will do so in the public interest, usually following a DTI investigation or criminal proceedings. It is not open to contributories to have the court wound up if in the opinion of the court it is unreasonable to have the company wound up instead of some other remedy (IA 1986 s.125). This generally means that there is no merit for a contributory in petitioning for the winding up of the company if it is insolvent, since the petitioner would not regain his capital. Common instances where winding up has taken place include break-down in mutual trust (re Yenidje Tobacco Co. Ltd); failure to provide information about the company (Loch v John Blackwood Ltd); mistreatment of shareholders in a quasi-partnership company ( Ebrahimi v Westbourne Galleries Ltd); breach of the objects clause (re German Date Coffee Co. Ltd) though this is unlikely to arise nowadays in view of the recent developments in the law relating to the ultra vires rule in CA 1985 s.35-35b; or fraud (Re Thomas Edward Brinsmead and Sons Ltd).

6 In each of these cases it is significant that the courts exercised their discretion as to whether it would be just and equitable to wind the company: in other words they looked at the issue of fairness to all concerned. Note: in the past candidates have often shown themselves unable to distinguish between a company being wound up on the grounds of its inability to pay its debts and a company being wound up on just and equitable grounds two very separate matters. If a candidate were asked, as in this question, about just and equitable grounds and chose to include, just to be on the safe side, in his answer information about winding up on the grounds of insolvency, it would suggest that the candidate was unaware of the crucial difference between these two sets of grounds. This would lose the candidate marks. 4. In general a creditor has no personal right against a director (irrespective of the extent of his deliberate or negligent behaviour) when a company is solvent, as in the Multinational Gas and Petrochemical Co. Ltd case, but a creditor does have the right to have the directors consider his interests if the company is heading towards insolvency (West Mercia Safetywear Ltd v Dodd). This can have harsh effects (Richardson v Pitt-Stanley) especially where the company is insolvent. If there is to be any hope of holding a director personally liable for actions, the creditor needs to prove that there was a special personal relationship between the creditor and the director such that the director was acting in a personal capacity rather than through his company (Williams v Natural Life Health Foods Ltd). If the director has committed a tort against the creditor, the director may be liable if the creditor can prove that the director committed the tort himself, if he assumed personal liability for the tort, or if he procured or induced the company to commit the tort (Standard Chartered Bank v Pakistan National Shipping). Alternatively, if the creditor can prove that the company is a sham or a façade concealing the true facts in terms of Adams v Cape Industries plc, there is a some chance of persuading the courts that the director should be held liable. In general, as Yukong Lines of Korea v Rendsburg Corporation of Liberia shows, it is generally difficult for a creditor to obtain recompense from a director. It is of course open to a creditor to petition the courts for the winding up of the company and for the liquidator to pursue the director if there have been antecedent transactions involving the directors, or transactions defrauding creditors in terms of IA 1986 s.423, or actions taken by the liquidator against the director in terms of IA 1986 ss By these means some funds may be obtained by the liquidator with the possibility that there might ultimately be a dividend payable to the creditor. Realistically this is not always feasible or cost-effective. 5. Auditors are normally appointed annually at the AGM, though this is purely by convention and it is not actually necessary to appoint them at an AGM. However, unless the company is private and dispensed by elective resolution with the requirement to lay the accounts at general meeting and appoint its auditors annually, the auditors will be appointed at a general meeting where the accounts are laid (CA 1985 s.385). The Secretary of State may appoint auditors if necessary (CA 1985 s.387). The directors may appoint a director to fill a casual vacancy but there will need to be special notice required for a resolution at the next general meeting to appoint auditors to fill a casual vacancy or re-appoint auditors appointed by the directors to fill the casual vacancy. Retiring auditors may make representations in writing to the

7 company and request the notification of the representations to the members, provided the representations are of reasonable length. If the representations are not sent out or sent out too late the auditor may make the request that the representations be read out at the meeting. Small companies need not appoint auditors if they have passed elective resolutions to that effect; and dormant companies do not need auditors appointed either. Retiring auditors may resign at any time but they are required to furnish the company with a statement. The statement will state either that there are no circumstances connected with his resignation that should be brought to the attention of the members or creditors of the company, or that there are such circumstances (CA 1985 s.394). If there are such circumstances, the company must circulate the members with that statement. Unless the company objects to the statement, by means of an application to the court on the grounds that the auditor is using the statement to secure needless publicity for defamatory matter, the auditor must also send a copy of the statement to the Registrar of Companies. The court however may rule against the auditor, in which case he may not issue the statement further and the company need not send it out. Note: this question only asks about the appointment and retirement of auditors. It does not ask about the duty of care of auditors nor about the methods of removal of auditors. In questions about audit candidates often have a tendency to include everything they know about auditors including duty of care and removal - in the hope that in the deluge of information some points might answer the question. But to do so in this instance would indicate that the candidate had not read the question: this would lose the candidate marks. 6. There are various steps that need to be carried out. First, the authorised share capital of Zim plc needs to be increased to at least 160,000 to allow for the creation of the new shares. That will require an ordinary resolution under CA 1985 s.122, followed by registration of the resolution. Next it will be necessary to check to see if the directors already have authority under CA 1985 s.80 to issue more shares; and if they do not have existing authority under s.80 it must be obtained by an ordinary resolution. The third matter that will require attention is the question or pre-emption rights. The question does not state what the other shareholders views on the proposed new shareholders is, but on the assumption that the new shareholders are welcome and that the existing shareholders do not wish to increase their own shareholdings to maintain their existing voting power, the existing shareholders will need to waive their pre-emption rights to which they are entitled in terms of CA 1985 s.89 (or to pass a special resolution to that effect). It may also be possible to combine the allotment of shares, the directors authority to allot shares and the disapplication of pre-emption rights in one resolution under CA 1985 s.95. Strictly speaking shares attracting a fixed return on capital, such as Mel s preference shares, do not normally require disapplication of pre-emption rights, but this may be overruled by the articles (the details of which are not given in the question). Likewise the grant of shares in exchange for non-cash consideration (such as Phil s computer

8 program licence) also does not attract pre-emption rights. Stan s ordinary shares do attract pre-emption rights. While there is nothing contentious about Stan s shares, Mel s shares attract a premium of 0.25 per share, and the premium must be credited to the share premium account. The value of Phil s computer program will need to be independently checked by the company s auditor (or his representative) in order that the company is not being defrauded by the sale to the company of the licence for the computer program. This is because Zim is a plc. In addition, if Phil is a director (which is not stated) there will need to be a CA 1985 s.320 ordinary resolution to approve the purchase by the company of his licence. Finally, once the money has been paid by Mel and Stan, and Phil s program transferred to the company, the company will issue the new shareholders with their new share certificates and their names and shareholdings will be entered into the register of shareholders (CA 1985 s.22).