Corporations Law Notes Contents Introduction to the company/regulatory scheme... 5 Companies...5 Unincorporated Entities...5! Partnerships: [look to Partnership Act 1958 provisions]...5 Unlisted closely-held company...6 Unincorporated joint venture...6 Unincorporated NFPs...6 The Role of Companies... 7 Managerialist approach...7 Nexus of contracts approach...7 Management of the business of companies...7 Hansmann and Kraakman...8 Development of Corporations Law in Australia... 10 The Corporations Act...10 Incorporation... 12! Process for incorporation...12 Consequences of Incorporation...15 Attributes at common law...15 Separate Entity Doctrine...15! Benefit to shareholders of limited liability (Easterbrook & Fischel)...15! Other features stemming from single-entity principle...16! Illustration of the principle...16 Departure under general law from the separate entity doctrine...17! Attacking the above presumptions:...17! Holding companies incurring debts when insolvent (588V)...18! Insolvent trading (588G)...19! Corporate Shareholders:...20! Control:...21 Types of Company... 22 Public v Private...22 1
Small Proprietary Companies, CA: s45a...23 Large Proprietary Companies, CA: s45a...23 Laws of meetings... 24 Internal Governance Rules...24! Statutory Contract (140)...25! Replacable Rules (141)...25! Decision-making organs of the company...27 Introduction to Corporate Governance... 30! Insider Model of Company...30! Outsider Model of Company (strong managers, weak owners)...31! When will the company sue? (Foss v Harbottle)...31 Origins of directors duties in Common Law/Equity...31 Enforcing Directors Duties... 34 Remedies & Sanctions...37 Causes of Action...37! Avenues for Companies...37! Avenues for Shareholders...38! Avenues for ASIC...39 Sanctions...40! Declaration of contravention of civil penalty provision/pecuniary penalty orders:1317 E + G 40! Criminal Penalties:...40! Disqualification (206A)...40! Compensation (1317H)...41! Court s power to grant relief to a director from liability...41 Duty to Act in Good Faith and With Proper Purpose... 42 Statutory Scheme...42 Good Faith...43! NARROW VIEW (Maxwell):...43! BROAD VIEW (encompassing negligence) (Adler):...44! Resolve...45! In The Best Interests of the Corporation...46! Defences available to a breach of good faith...48 Proper Purpose...48 2
Duty of Care... 50 Business Judgement Rule...52! Making a business judgement...53! GF and PP...53! No Material Personal Interest...53! Informing oneself about the subject matter...53! Rational Belief...54 Duty of Loyalty... 56 Duties...56! No Conflict...56! No Profit...58! No Misappropriation...60 How can I cure it so that I can retain the property/info?...60 Financial Benefits to Related Parties of Public Companies - Ch 2E...61! Giving Financial Benefit...61! Related Parties...61! Exceptions:...63 Exam guidance...64 ROADMAP FOR TOPICS IV VI... 67 Majority Shareholders... 71 Amending the constitution...71 Shareholder Actions... 74 Complaint to ASIC...74 Personal Action...74 Statutory Derivative Action...74! Justification of the proper plaintiff rule: (Foss)...75! Structure of Section...75 Statutory Injunction - s1324...76 Application to wind up the company...77! Where winding up is just and equitable...78 Oppression...79! Standing:...79! Companies Covered...79! Applicants (s734)...80 3
! Affairs of the Company...80! Oppressive, unfairly prejudicial or unfairly discriminatory... contrary to the interests of the members as a whole...80! Statutory construct and link to GF...80 Summary and Application...82 Corporate Liability... 83 Capacity and Powers of the Company...83 Corporate Authority...83 Actual Authority...85! Express Actual Authority...85! Implied Actual Authority...85 Apparent Authority 129(3)...86 Proof of Authority: Indoor Management Rule (common law, look to 128, 129 now)...86 Proof of Authority: ss128 & 129 CA...87 Proof of Authority: Seal...87! 127 test...87 Corporate Liability...88! Liability of a Company: Civil...88! Liability of a Company: Criminal...89 Share Capital... 90 How do we restrict a company releasing money?...90 Minimum rights of shareholders exist under the statutory contract:...90 When shares are issued...90 Legislative structure...90 Procedure required for public companies...91 Nature of Shares...92 Minimum Protections provided by the CA to creditors... 94! Complaint to ASIC compensation under 1317H swell the assets of the company...94! 588V - Piercing corporate veil for unsecured creditors [lack security s12 PPSA] to reach directors/major shareholders very difficult...94! 588G unsecured creditors can recover losses from directors what is owed under 588M civil/criminal liability for director...94! Capital maintenance provisions liquidation protection: dividends, reductions of capital, buybacks, financial assistance...95! Good faith directors must take into account the interests of creditors in liquidations...97 4
Bargained for Protections: the PPSA...98! Key provisions in the PPSA...98 Case Review... 103 High Level Concept Chart... 112 INTRODUCTION TO THE COMPANY/REGULATORY SCHEME COMPANIES NB: Trade Unions cannot be registered (s116) Corporation: Aggregation of individuals coming together for a common purpose (generally to derive a profit from business activities) Corporations/Companies: legal entities under the Corporations Act (eg: building societies cf: NFPs) The motivation behind setting up a company includes: Limited liability for directors Allows the contribution to an accumulation of capital Nominee companies can be set up to hold assets on trust for persons entitled to beneficial ownership o Obviates inconvenience of replacing trustees when deceased o Limited liability Owner corporation for co-enjoyment of property Incorporated Entity: corporation has the status of a separate legal person. Two distinctions that arise are: 1) agency of directors, and 2) claims of creditors. A cardinal principle of the common law is shareholder primacy (ie: directors duties) Disadvantages: subjection to regulations under the Corporations Act regarding structure, decision-making, financing etc; reporting obligations to ASIC; fees payable to ASIC; must consider creditor interests from time-to-time. UNINCORPORATED ENTITIES (NB, a trust is an unincorporated entity)! Partnerships: [look to Partnership Act 1958 provisions] aggregation of legal persons with a common enterprise to generate profit (can only be used for commercial purposes). Continued existence of the partnership is based upon the continued existence of the partners. Liability/ownership jointly and severally o Partners act as agents for each other o Partners cannot contract with the partnership 5
Partners are effectively guarantors of liabilities under the partnership (eg: Old Lloyds Insurance Syndicates partnerships syndicated to provide wealth to business to provide insurance). Monitoring/Vetting: partnership duties (loyalty) extends to companies resembling partnerships. Other characteristics: not a separate legal person (pass through entities utilised in certain investment structures: infrastructure, private equity, venture capital) o partners own property of partnership o strict exit and entry requirements (transferability by vote and contractual requirements for exit) o high risk tolerance of partners allow more risky ventures to be undertaken cf. Companies have ease of transferability in shareholdings and thus pricing of shares/company valuation is volatile. Thus, partnerships provide stable ownership through controls on exit. Variations on the partnership structure liability: o passive partnership Limited Liability Company, o Limited Liability Partnership, o Limited Partnership: general partners (unlimited liability) who manage the business and limited partners (limited liability) who take no part CA s115 Restrictions on size of partnerships and associations (1) A person must not participate in the formation of a partnership or association that: (a) has as an object gain for itself or for any of its members; and (b) has more than 20 members; unless the partnership or association is incorporated or formed under an Australian law. Note: For the effect of a contravention of this section, see section 103. Unlisted closely-held company in substance a partnership where shareholders are small and have knowledge of eachother (eg: family business) Unincorporated joint venture: liable as a partnership working on a project Unincorporated NFPs: members cannot make contracts; the association is not subject to criminal offences; unable to be named as a party to a legal proceeding; property cannot be held in the association s name. 6
THE ROLE OF COMPANIES Each theory endeavours to formulate ways to ensure that directors and managers act in the interests of shareholders MANAGERIALIST APPROACH Emphasis on importance of corporate management and power that it wields. Strong managers and weak owners creating an agency problem (limited liability/supervision of directors) -> legal intervention is needed to protect the interests of shareholders. NEXUS OF CONTRACTS APPROACH The market for executors will self-regulate to ensure that managers are sufficiently incentivised to keep contracts. Additionally, there is a market for corporate control the shareholders monitor/supervise/reprimand when price dips company becomes a takeover target and management is replaced. Mandatory legal rules imposed by governments will rarely be preferable to individual contracting. The role of govt is limited; to put in place rules to deter one-off instances of self-dealing, to impose standard form contracts which reduce transaction costs (eg: aspects of director duties) NB: presumptive of listed status MANAGEMENT OF THE BUSINESS OF COMPANIES The modern company is registered under the Companies Act and is only subject to fees no significant regulations (opportunity for fraud). Joint stock companies (now trusts) partnership where the partners have contracted for the free transferability of their partnership interests cf, partnership, there is more flexibility afforded through contractual provisions for transferability of interests (Eg: South Sea Company) Bubble Act 1720, put the State at the centre of joint stock companies the only companies other than the South Sea Company will be Chartered Corporations. Creation of the modern trust instead of partnership, avoids the Bubble Act restrictions with transferability Chartered companies are rare and require the permission of the State to be incorporated (eg: Bank of England, East India Company) 7
Hansmann and Kraakman Identified 5 attributes of a company: 1. Separate legal personality (cf a partnership/trust) a. Perpetual succession/separate existence no limitation on the demise of shareholders i. Entity shielding essential to effect contracts and ensure security to creditors Creditors of the owner are not creditors of the company in which the owner has an interest shareholders are shielded from fellow shareholders creditors. This also applies to partnerships. ii. Liquidation protection Statutory restrictions on shareholders ability to withdraw capital once contributed. Personal creditors of an individual cannot foreclose against company s assets. iii. Authority who can enter contracts? Individuals that have authority to trade assets in the firm are bonded by those assets iv. Procedures There are set procedures by which a firm can bring lawsuits 2. Limited liability no operative provision in the Corps Act (s9 mentions it, Insolvency provisions spirit affirms it) (cf a partnership/trust) a. Protects the assets of the firm s owners from claims of the firm s creditors b. Partitioning reduces creditors exposure and overall cost of capital c. Corporation can be used to share risks of transactions with firm s creditors d. Greater flexibility in the allocation of risk/return between equity/debt-holders -> tradability of shares, insolvency regimes... e. Creditors are in a better position to perform monitoring functions of managerial decisions 3. Transferability of interests (also in trusts but cf a partnership) a. Uninterrupted management by owner changes b. Liquidity for shareholders 4. Delegated management owners and managers are separated - shareholders contribute capital to the company and in exchange gain certain rights, not to intervene in the day to day running, but in certain decisions. The day to day management is vested in the senior officers (also in a trust [trustee/delegate of the trustee separate from the beneficiary] but cf a partnership). Governance structure characterised by: a. Board is separate from the operational managers of the corporation b. Board is elected by shareholders c. Board is distinct from shareholders, allowing minority protection and major shareholders to be consulted on big decisions d. Board has multiple members 8
DEVELOPMENT OF CORPORATIONS LAW IN AUSTRALIA In 1987, the stockmarket crashed and up until 1991, the Aus company law was similar to the US (State-based creation, management and dissolution). State regulators to act uniformly In the later 80s an explosion in corporate wealth meant an opportunity in the form of corporate changes. The States diverge in regulation. Smaller States attracted companies with more pro-business regulation. All State laws were replaced by new laws following ACT Corporations Law. A federal regulator evolved and State-based corps law prevailed but mirrored ACT Corps Law. Bond challenged the enforcement of a federal regulator of State laws. Doubts arose to do with company ownership and limited liability, encouraging the development of the Corps Act 2001 which established ASIC (through a referral of power). States carved out IR (employment activities of companies are within the realm of Statepower) and also limited the period of the referral (5yrs). Hold-outs mean significant pressure by States on federal decisionmaking. Pre-1991: duties are affirmed but enforcement is uncertain (shareholders hold sole power to affect change) and reliant on fiduciary obligations caselaw on point is thus misleading Post-1991: ASIC the enforcer and duties restated in Statute (established in common law), ss1317e and G, ASIC has incentive to punish behaviour under separate heads separate penalties and in addition, extra liability for breaches in relation to other companies similarly directed by the accused. THE CORPORATIONS ACT Chapter 1 definitions: ss9, 46, 47, 50AA Chapter 2: 2B basic attributes of an Australian company 2D duties (180-183) 2E related party transactions 2F + 2F.1A shareholder remedies 2G how companies make decisions 2H+J Corporate finance (260A) NB: Adler meant both 2D and 2H/J can be breached Chapter 5: Chapter 6: Chapter 9: corporate insolvency (588G, 588V and 461 (windup power)) takeovers and 6D fundraising 9B code of consequences Pre-1991: series of State and Territory statutes still good law. Once incorporated, a company separate legal person per s124(1). Directors are regulated by s198a(2) businesses are to be supervised by directors, power is delegated to managers. At the meeting of shareholders, shareholders can exercise powers. Outside of this, ordinary shareholder remedies available: oppression (rare), derivative action, winding up, personal action (rare). Post 1991 (Corps Act 2001): 1. restatement of duties (180-183); 2. ASIC has standing to enforce the duties [3.390] a. Civil penalty ss1317e + 1317G 10
INCORPORATION Company limited by shares: contribution by shareholders to capital, separate legal person, limited liability, transferable interest, delegated management and shareholder rights are characteristics Unlimited company: separate legal person however NO LIMITED LIABILITY shareholders jointly and severally liable in winding up. There is however transferability of interests, delegated management and inherent shareholder rights. Company must be wound up before going to shareholders pockets. Companies limited by guarantee: does not have the power to issue shares, (look to Constitution) separate legal person, limited liability to the value of the guarantee contributed for that financial year. In a winding up, liable to pay undertaking only (s517). Transfers of interest are restricted to ensure that only the customers are the owners contractual obligations non-transferable only extinguishable. Most insurance companies converted to companies limited by shares because companes limited by guarantee can not be proprietary companies and MUST BE PUBLIC. Weakest ownership rights: voting rights are capped and shares in the company cannot be sold. Credit unions and building societies are modern examples of this. Example: Mutual societies pooling of resources for the purpose of mutual support (eg: small businesses, early insurance companies) customers are the owners of the company company agrees to provide certain services and in return customer receives ownership rights. The growth of insurance companies resulted in regulators wanting to bring these under existing legislation. No Liability Company same as a company limited by shares except that the liability of the shareholder is limited to either: the fully paid amount, or (if partially paid shareholdings) outstanding amount + original shareholding. Can only engage in mining exploration creation for the purpose of securing fundraising. If a shareholder refuses to pay the residual amount owing, the liquidator can treat this as an outstanding debt and pursue the shareholders. The primary remedy is a lien over the shares allowing sale and personal remedies to recover outstanding amount. Uncommon today.! Process for incorporation CA, s114 Minimum of 1 member A company needs to have at least 1 member. CA, s 462 (2A) ASIC may apply for an order to wind up a company under paragraph (2)(f) only if: (a) the company has no members; and (b) ASIC has given the company at least 1 month s written notice of its intention to apply for the order. CA, s201a Minimum number of directors Proprietary companies (1) A proprietary company must have at least 1 director. That director must ordinarily reside in Australia. Public companies (2) A public company must have at least 3 directors (not counting alternate directors). At least 2 12
directors must ordinarily reside in Australia. 113 Proprietary companies (1) A company must have no more than 50 non-employee shareholders if it is to: (a) be registered as a proprietary company; or (b) change to a proprietary company; or (c) remain registered as a proprietary company. 112 Types of companies Types of companies (1) The following types of companies can be registered under this Act: 117 Applying for registration Lodging application (1) To register a company, a person must lodge an application with ASIC. Note: For the types of companies that can be registered, see section 112. Contents of the application 13
1. Duly incorporate a. s114 minimum of 1 shareholder in the company b. s201a minimum of 1 director for pty companies and minimum of 3 directors for public companies 2. Process a. Application lodged by a person who will e a member (corporator) b. May be formed for any lawful purpose NOT A TRADE UNION (s116) c. Lodge application with ASIC (s117) d. Members can be individuals or bodies corporate (private/govt) 14