Breaches Of Directors Duties And Insolvent Trading

Case study 1: Sinking Ship

1. Claude, Jackie and Allison are directors of Sinking Ship Ltd (“Sinking Ship”). Sinking Ship manufactures high end yachts and is listed on the ASX. Sinking Ship’s bank is Bad Bank Ltd (“Bad Bank”).  Sinking Ship has borrowed $10,000,000 from Bad Bank on an unsecured basis which it is required to pay back in full on July 1, 2016.

After the loss of the large contract, Bad Bank told Sinking Ship that it would no longer extend credit to the company. Likewise, many of Sinking Ship’s suppliers became nervous and placed the company on a strict COD basis.   The directors started to get numerous calls from creditors wanting to know when the company would be paying them back. The directors started to pay the more aggressive creditors while putting off others.  Soon cheques started to bounce.

The stock market became very wary of Sinking Ship’s financial status and the share price dropped precipitously.  In order to arrest the drop in the share price, on May 1, 2016, the directors decided to pay a dividend to shareholders. The dividend was actually paid on May 4, 2016.  After paying the dividend, it became apparent the company had very little cash left to continue paying creditors.

Knowing that the company was doomed, on May 10, 2016, Claude transferred the last $50,000 in the company’s bank account to Bad Bank because he felt sorry for Bad Bank and thought it deserved something back.  He also transferred a Mercedes motor vehicle which was owned by Sinking Ship into his name on the basis that he thought the company owed him something for all his hard work in running the company.

On August 20, 2016, the directors had no alternative but to place Sinking Ship into voluntary administration and it was subsequently placed into liquidation. The liquidator now desires to commence an action against the directors for breaches of section 588G.  Further, she desires to recover the Mercedes motor vehicle and the $50,000 under Part 5.7B Div 2 of the Corporations Act. She is also curious as to whether the directors had the right to pay the dividend. 

2. Queensland Rail Constructions Ltd “RCL” purchases $2 million worth of wood for the Brisbane-Sydney rail line project from Queensland Timber Ltd (“QTL”).  After installing tracks between Brisbane and Robina, RCL is unhappy to observe that the wood components have warped dramatically, such that RCL will have to re-lay the entire length of track.  As a result, RCL refuses to pay QTL for the wood.  In due course, QTL sends RCL a letter stating that RCL owes it “$2 million, plus compound interest at 8% per year”.  (The letter was addressed to “Rail Contracting Pty Ltd”.)  RCL is of the view that the entire lot of wood is defective, and if anything, QTL should have to pay RCL for the massive expense that RCL is going to incur (way more than $2 million) in re-laying the damaged track.  Advise RCL in relation the demand it has received and the alleged quality of the wood they it may relate to subsequent winding up proceedings

3. Regal (Burleigh) Ltd (“Regal) owned and operated a cinema in Burleigh Heads on the Gold Coast. Gulliver, Fred and Barney were the only directors of Regal.  Gulliver was appointed the managing director due to his extensive knowledge of operating cinemas. Both Fred and Barney are nonexecutive directors. Regal has a number of unrelated shareholders.

Over the last few years, Regal’s financial position has steadily deteriorated. While Gulliver was aware of this, he did not pass any financial information onto the other directors.  Indeed, he repeatedly told them that the company was performing wonderfully. While Fred and Barney were given the company’s financial reports, they never looked at them closely as they assumed that the auditors or Gulliver would alert them to any problems.

By January 2017, things had started to get dire for Regal as attendance at its cinema dropped precipitously due to a competitor opening a new cinema nearby. Regal’s cash reserves were running low and Gulliver was post-dating cheques in order to avoid running out of money. In a few instances, cheques were presented when Regal had insufficient funds and they bounced.  On January 20, 2017, the manager of Regal’s bank – Bad Bank Ltd - called Gulliver and said that he would be forced to suspend the company’s overdraft facilities unless the company improved its financial position.

At a board meeting on February 1, 2017, Gulliver informed the board that he had a revolutionary idea for Regal. He proposed that Regal enter into leases for two more cinemas that were located in Burleigh Heads. He suggested that by undertaking this transaction, revenue would increase and it would even make the company a potential takeover target.  Fred and Barney were intrigued and told Gulliver to do whatever he had to do to get the transaction done.

Case study 2: Regal Cinema

After the meeting, Gulliver approached a commercial leasing agent who informed Gulliver he had two cinemas available for lease. The agent said the cinemas were in wonderful condition and would be just what Regal needed. Gulliver inspected the cinemas with his friend George who is an accredited residential building inspector. Gulliver thought the cinemas were acceptable and George said he couldn’t see any structural problems with the cinemas.

On March 1, 2017, the board had a further meeting and Gulliver updated the board regarding the leases.  Gulliver told the board that Regal needed $2 million to place signage on the new cinemas.  Gulliver said he had reached an agreement with Bad Bank whereby it would loan the company $1 million and suggested Fred and Barney each contribute $500,000 in return for shares in Regal.  Fred and Barney agreed.

On March 5, 2017, the leases were signed, Fred and Barney transferred $1 million to the company and a credit agreement was entered into with Bad Bank for $1 million.  The new signage was completed on March 10, 201X and Gulliver arranged a grand opening scheduled for March 15, 2017.

On March 13, 2017, Gulliver received a letter from the Gold Coast City Council saying that Regal was not permitted to open the two new cinemas as they did not have adequate fire exits and the fire sprinkler system needed to be replaced. After some preliminary investigations, Gulliver discovered that it would cost over $5 million to install additional fire exits and upgrade the sprinkler system.

Knowing that the company was doomed, Gulliver transferred its last $50,000 in the company’s bank account to Bad Bank because he felt sorry for Bad Bank and thought it deserved something back.  He also transferred a Mercedes motor vehicle which was owned by Regal into his name on the basis that he thought the company owed him something for all his hard work in connection with leasing the two new cinemas.

On April 20, 2017, the directors had no alternative but to place Regal into voluntary administration and it was subsequently placed into liquidation. The liquidator now desires to commence an action against the directors (1) alleging the directors breached their duty of care, skill and diligence; and (2) for insolvent trading.  Further, she desires to recover the Mercedes motor vehicle and the $50,000 under Part 5.7B Div 2 of the Corporations Act.

1. Explain what is meant by ‘auditor independence’, why this is an important concept and how legislation attempts to achieve auditor independence.

2. Discuss auditor liability with reference to conduct that could lead to liability; potential defences against liability; as well as the parties that could hold company auditors liable.

3. Shazaam Pty Ltd is a business which hires out entertainers and party equipment for parties and events. Although the business started modestly, Shazaam’s business has grown significantly over the last year or so, to the extent that the company now employs 62 employees.  The value of Shazaam’s assets also increased significantly over this period, due to a rapid rise in property value in the areas in which Shazaam has bought property to use as party venues. Shazaam’s assets are now worth at least $14million dollars. 

Shazaam’s two directors, Jack and Jill, are very pleased with how the business has grown.  Jack also acts as a part-time accountant for Shazaam. In spite of the rapid growth of their business over the last three years, Jack, although not having any formal training in accounting, is confident that he has picked-up enough bookkeeping skills over the years to be able to cope. He doesn’t have much faith in computerised accounting software, preferring to do all the accounting calculations and book entries by hand using an abacus. Jack prefers to keep his working papers and documents, needed to explain his methods by which the company’s financial statements are made up, in a convenient short-hand that he invented himself. Jack keeps Shazaam’s invoices, receipts and working papers locked in the rear trunk of his car.

Case study 3: Shazaam

Shazaam also imports party aids and novelty goods from overseas, for sale in Australia. Jack and Jill, both feeling more confident about their own ability as entertainers rather than importers, do not fully understand import regulations, or the currency conversions involved in these transactions. They rely heavily on Mona, a recent International Studies graduate who claims to be an expert in this area, to take care of this side of the business. In reality, Mona knows nothing about importing goods from other countries, or currency conversion. Due to her ineptitude, she causes big financial losses for Shazaam. Given Jack’s unique accounting approach, the losses caused by Mona aren’t immediately apparent. Neither Jack, nor Jill directly supervises Mona.

Meanwhile, Peter, Shazaam’s auditor, has become curious about the state of Shazaam’s financial affairs. Peter is a junior partner in the auditing firm, Smith & Jones, which provides high fee-generating taxation and consulting services, as well as audit services to Shazaam. After a meeting with Jack, where Jack refuses to provide the books of the company as requested by Peter, Peter recommends to Smith & Jones that things are looking a bit ‘funny’ at Shazaam and that they should consider what the most appropriate approach would be under the circumstances. Senior partners at Smith & Jones (one of whom is married to Jack’s sister) warn Peter not to be ‘fussy’ with the audit so as not to upset their client. Peter, careful to avoid any conflict with the senior partners, decides not do to anything further about Shazaam

A couple of months later, Jack realises that Mona’s incompetence has cost them millions of dollars. Jack cannot explain how the loss occurred, as his car and its contents, including all Shazaam’s papers locked in the rear trunk, were stolen and burnt beyond recognition. Jack and Jill blame the loss on the company’s auditors.

1. Have Jack and Jill breached any of their account-keeping duties?
2. Are Jack and Jill liable for losses caused by Mona?
3. What responsibility do Peter and Smith & Jones have as Shazaam’s auditor?

1. Distinguish between equity and debt in corporate finance.

2. What is a company share?

3. Who determines whether new shares are to be issued by a company? What needs to be considered?

4. What is a debenture?

5. Summarise the default priority rules for security interests under the Personal Property Securities Act 2009 (Cth).

6. Explain the distinction between a circulating and non-circulating security interest.

7. Give six examples of categories of information which are generally found in a company prospectus prepared in accordance with Ch 6D of the Corporations Act 2001 (Cth).

1. Alex and Paco recently purchased a block of land in Surfers Paradise for $1 million. They want to develop the land by building an apartment block and selling the apartments at a profit.  Unfortunately, Alex and Paco don’t have the money to proceed with the development.

Alex and Paco come up with a plan to develop the land whereby they will register a company called Bug Ltd.  Alex, Paco and their friend Goofy will be the directors of Bug Ltd.  They plan to get investors to buy shares in Bug Ltd for $2.0 million.  

With the proceeds of the share issuance, they will have Bug Ltd buy the land from them for $1.5 million. With the remaining $500,000, they plan to build the apartment building.  

If Alex and Paco proceed with their plan and register Bug Ltd, would they be required to comply with the disclosure requirements in Ch 6D of the Corporations Act (Cth) 2001 in connection with the fundraising they propose?

2. Larry started a clothing business several years ago called Larry’s Leisure Suits.  The business is owned by a company called LLS Ltd. The business is successful and Larry wants to expand.  As he needs additional capital, he wants to raise $5 million by issuing shares. One option being considered by Larry is to offer the shares to a number of institutional investors. An alternative is to float the business, that is, offer the shares to the public and apply for listing on the ASX. Larry approaches you for advice on the following matters:

• What are the implications under Ch6D of the Corporations Act of the two fundraising options being considered?

• If a decision is made to carry out a float, what type of disclosure document will be required and what type of information must it contain?

• Can Larry advertise the fact he is raising funds?

1. Richie, Fonzie and Ralph form a company called Big Als Pty Ltd to own and operate a fast food franchise business. Each of the founders own 10 shares.  The directors of Big Als Pty Ltd are Richie, Joanie and Chachi.

Analyse the following:

• Richie has used money from the company’s bank account to purchase a new car for himself. Joanie has just discovered this and wants to bring an action under section 232.  Can she?
• Assume Joanie and Chachi are the nominee directors of Fonzie and Ralph, respectively. Richie has a fight with Fonzie and Ralph.  At a shareholders meeting they pass a resolution voting him off the board.  Can Richie assert a cause of action under section 232?  What remedy would he be seeking?
• Ralph has learned that the directors negotiated for the purchase of some land for a new restaurant.  Apparently the price negotiated was so good, that the directors formed a new company and purchased the land themselves.  Ralph has complained, but the directors just ignore him.  He wants the company to sue the directors to get land and/or profit they made on the transaction. Advise Ralph on whether he could peruse a derivative claim against the directors.
• Fonzie is concerned that the directors are overstating the profits in the company’s financial accounts in order to meet their full bonus criteria.  Fonzie wants a forensic accountant to review the company’s books and records.  How should Fonzie proceed?
• Fonzie has also discovered that the directors want to enter into a transaction to purchase a number of service stations from a company owned by Joanie at above market prices.  Fonzie wants to stop this transaction from proceeding.  What should he do?

2. Kestrel Pty Ltd (Kestrel) is a small family company which operates a business breeding kestrels, eagles, falcons and other large birds of prey. Kim, Kourtney and Khloe are all siblings and the only directors of Kestrel and each owns 25 ordinary shares. When the siblings first started the company, they thought it would be wonderful for them all to be involved in an enterprise where they worked together and had control over their destiny.

Clause 15 of the constitution of Kestrel provides that Kim, Kourtney and Khloe shall be a director of Kestrel at all times. Late last year Kim had a massive fight with the rest of the family and now Kourtney and Khloe won’t speak to her and don’t want her to have anything to do with the company.

At a recent board meeting, Kourtney and Khloe passed the following resolution (Kim voted against the resolution):

Kestrel Pty Ltd (ACN 123 456 789)

Written resolution

Share Issue

Resolved that:

As Kestrel Pty Ltd requires additional capital to purchase more inventory, Kestrel Pty Ltd shall issue 25 ordinary shares to Kourtney and 25 ordinary shares to Khloe in consideration of $5,000.00 for each share.

Signed: Kourtney (Chairperson)

JANUARY 1, 2016

An extraordinary general meeting was held in February where a special resolution was passed removing Clause 15 of the constitution.  Thereafter, a second resolution was passed at the meeting removing Kim as a director.  

After removing Kim from the board, Kourtney and Khloe attended a board meeting suspending dividends indefinitely and increasing their directors’ salary. After the February meeting, Kourtney and Khloe realized that they could sell bird droppings to farmers to use as fertilizer and make a lot of money. Kourtney and Khloe registered a new company called BirdFert Pty Ltd (“BirdFert”) in which they are the only shareholders and directors.  BirdFert collects the droppings from Kestrel at no price (utilizing Kestrel’s employees) and sells the droppings to famers at a massive profit.  

Kim wants to know if (i) it was legitimate for Kourtney and Khloe to award the new shares to themselves; (ii) she can commence a cause of action in Kestrel’s name against Kourtney and Khloe to recover the profit they made from selling the bird droppings; (iii) she has any claims she can commence in HER name for the actions that Kourtney and Khloe have undertaken, and the remedies to which she might be entitled.

1. Stationary Pty Ltd is a company that sells high end stationary products.  Unfortunately, sales have dropped recently.  The company hires Rick Pen, a New York-based consultant, to advise it on how to increase sales.  Stationary Pty Ltd also names Rick to its board as a non-executive director. Rick does not make it to Australia very often and although the company arranges a dial-in number so that Rick can participate by teleconference, Rick forgets to call in to most of the company’s board meetings, which take place in the middle of the night, New York time.

Rick is not that concerned, though as he says, “I’m only a marketing person.  I don’t know how to run companies.  Anyway, the other directors and outside advisers will tell me whatever I need to know.”

In the meantime, Stationary Pty Ltd issues its year-end financial statements.  Neither Robert, a non-executive director who is an accountant by trade, nor the outside accountants or auditors realize that the financial statements neglected to disclose that Stationary Pty Ltd had just borrowed $50 million from Bad Bank.  The error made Stationary Pty Ltd’s financial situation look significantly healthier than it in fact was.  

Discuss the potential liability of Stationary Pty Ltd’s directors under section 180 of the Corporations Act, including any defences they may have.

2. Webster is a director of Papadapolis Ltd. Papadapolis Ltd sells toy dolls called “Cute Kids”.   The dolls are not selling well and the company is running low on working capital. To remedy the situation, Webster obtains an unsecured loan in the amount of $1 million.   Webster thinks that the company will be able to pay the loan back because it is nearing the end of the year and his projections suggest he will sell lots of dolls around Christmas.

Unfortunately, things don’t go as expected and Webster doesn’t sell as many dolls as anticipated.  It is now January – a slow period for selling dolls.  Webster is aware of section 588G of the Corporations Act and doesn’t want to violate it. Accordingly, he hires Shoddy & Dodgy accountants too prepare a solvency report. The report shows that Papadapolis Ltd has net assets and, based on projections, can pay its debts when the fall due. Based on the report, Webster has the company enter into a contract to purchase $10 million of material for the manufacture of the dolls:

• It transpires that Shoddy & Dodgy’s report was incorrect and Papadapolis Ltd is placed into liquidation. Does Webster have any liability under s 588G?
• What about if Webster was ill when the contract was entered into and it was his fellow directors that decided to move forward with the contract?
• What about if Webster didn’t get the Shoddy & Dodgy report but thought that the company was performing well?
• Would it make any difference if Webster’s fellow directors were eager to enter into the contract but Webster was against it?  How would have you advised Webster?

3. Regal (Burleigh) Ltd (“Regal) owned and operated a cinema in Burleigh Heads on the Gold Coast. Gulliver, Fred and Barney were the only directors of Regal.  Gulliver was appointed the managing director due to his extensive knowledge of operating cinemas. Both Fred and Barney are non-executive directors. Regal has a number of unrelated shareholders.

Over the last few years, Regal’s financial position has steadily deteriorated. While Gulliver was aware of this, he did not pass any financial information onto the other directors.  Indeed, he repeatedly told them that the company was performing wonderfully. While Fred and Barney were given the company’s financial reports, they never looked at them closely as they assumed that the auditors or Gulliver would alert them to any problems.

By January 2014, things had started to get dire for Regal as attendance at its cinema dropped precipitously due to a competitor opening a new cinema nearby. Regal’s cash reserves were running low and Gulliver was post-dating cheques in order to avoid running out of money. In a few instances, cheques were presented when Regal had insufficient funds and they bounced.  On January 20, 2014, the manager of Regal’s bank – Bad Bank Ltd - called Gulliver and said that he would be forced to suspend the company’s overdraft facilities unless the company improved its financial position.

At a board meeting on February 1, 2014, Gulliver informed the board that he had a revolutionary idea for Regal. He proposed that Regal enter into leases for two more cinemas that were located in Burleigh Heads. He suggested that by undertaking this transaction, revenue would increase and it would even make the company a potential takeover target.  Fred and Barney were intrigued and told Gulliver to do whatever he had to do to get the transaction done.

After the meeting, Gulliver approached a commercial leasing agent who informed Gulliver he had two cinemas available for lease. The agent said the cinemas were in wonderful condition and would be just what Regal needed. Gulliver inspected the cinemas with his friend George who is an accredited residential building inspector. Gulliver thought the cinemas were acceptable and George said he couldn’t see any structural problems with the cinemas.

On March 1, 2014, the board had a further meeting and Gulliver updated the board regarding the leases.  Gulliver told the board that Regal needed $2 million to place signage on the new cinemas.  Gulliver said he had reached an agreement with Bad Bank whereby it would loan the company $1 million and suggested Fred and Barney each contribute $500,000 in return for shares in Regal.  Fred and Barney agreed.

On March 5, 2014, the leases were signed, Fred and Barney transferred $1 million to the company and a credit agreement was entered into with Bad Bank for $1 million.  The new signage was completed on March 10, 2014 and Gulliver arranged a grand opening scheduled for March 15, 2014.

On March 13, 2014, Gulliver received a letter from the Gold Coast City Council saying that Regal was not permitted to open the two new cinemas as they did not have adequate fire exits and the fire sprinkler system needed to be replaced. After some preliminary investigations, Gulliver discovered that it would cost over $5 million to install additional fire exits and upgrade the sprinkler system.

On April 20, 2014, the directors had no alternative but to place Regal into voluntary administration and it was subsequently placed into liquidation. The liquidator now desires to commence an action against the directors (1) alleging the directors breached their duty of care, skill and diligence; and (2) for insolvent trading. Advise. 

1. Wayne, Erin, Alan and Kirk are all ex-police officers and have decided to start a private security business.  Due to tax and ownership issues and the obvious benefits associated with having limited liability, their lawyer recommends that they should register a company for the business.  They agree and instruct their lawyer to register a company to be called WEAK Security Pty Ltd. It is agreed that Wayne, Erin, Alan and Kirk will each be allotted 100 ordinary shares in WEAK Security Pty Ltd.

After the company is registered, they decide to employ Rodger as a receptionist in the office. Rodger is given strict instructions that he is not to enter into contracts on behalf of the company.

Walter is a used car salesman and a good friend of Rodger.  Rodger tells Walter about his new position at WEAK Security Pty Ltd and mentions that he has been instructed not to enter into any contracts on the company’s behalf. Walter tells Rodger that he has been trying to sell a truck and it would be perfect for the security business.  Walter shows Rodger the truck and lets him drive it.  Rodger agrees that the truck would be a great addition to the security business and thinks the price Walter is offering is very reasonable.  Rodger agrees to buy the truck on behalf of WEAK Security Pty Ltd.

Can Walter rely on any of the assumptions in section 129 in order to enforce the contract against WEAK Security Pty Ltd?

2. Volcano Pty Ltd (Volcano) operates three surfing stores in Queensland.  On 8 August 2008, Joel was appointed to the position of managing director of Volcano for a period of two years.  A return was lodged with ASIC indicating his appointment as a director on that date.   Joel was not formally reappointed after 8 August 2010, but he has continued to act as managing director.  The terms of Joel’s appointment, which were set out in a contract between him and Volcano and were also in Volcano’s constitution, included a restriction to the effect that he was not to commit the company to borrowing transactions in excess of $20,000.  Any such transaction was to remain subject to the approval of the Board of Directors.

On 20 March 2009 Joel, purportedly acting on behalf of Volcano, signed a loan contract with Fanning Bank, pursuant to which the Bank agreed to lend the company $30,000 in order to establish a website for motorbike enthusiasts. The transaction was not referred to the Board.

The Bank was not aware of either:

• the contents of Joel's contract, or
• the company’s constitution.

The Board has since discovered the loan contract and has stopped all repayments on the loan.  The Bank has called in the loan and is suing Volcano for the principal together with all outstanding interest.

What do you think the outcome of this case will be?

Would the outcome of this case be different if:

• the loan was for the refurbishment of two of Volcano’s surfing stores,
• the Bank had a copy of the company’s constitution, or
• the bank was aware the board had not passed a resolution approving the transaction.

3. Assume a section in a piece of OH&S legislation provides:

“A person shall not knowingly leave exposed live electrical wire on any construction site. Any person breaching this provision will incur a penalty of $1000.”

The legislation defines the term “Person” to include a company.

Duke Ltd is a multinational construction company and is in the process of building a new building on the Burliegh University campus. Daisy is an apprentice electrician employed by Duke Ltd. On a Friday afternoon she was wiring some power points on the building site when her friend, Bo, called her and asked her to meet him at the pub for a beer.  Daisy really wanted to go, so she dropped her tools and went to the pub.  She knew she had some live wires hanging out of the wall, but she thought no one else was on the construction site and she would go back first thing the next morning and complete the job.

Has Duke Ltd breached the legislation? In real life, how do you think the legislation would be drafted differently?

What if someone was injured as a result of the wires?  Would Duke Ltd be liable?

1. Darcy, Jack and Angie decide to form a company called Cute Farms Pty Ltd (“Cute Farms”).  They intend for Cute Farms to own a small farm with cows, horses and other animals.  Cute Farms will charge children to enter the farm where they will be able to pat and play with the animals, have horseback rides, milk the cows etc.

Prior to registering the company, Angie is having lunch with her friend Alex who mentions she owns a horse called Bingo that she wants to sell. Angie tells Alex all about Cute Farms and offers to purchase the horse on behalf of Cute Farms for $1000. Alex agrees to the price and a contract is formed between Alex and “Cute Farms Pty Ltd”.

Angie subsequently registers Cute Farms Pty Ltd with ASIC.  The directors of Cute Farms are Darcy, Jack and Angie. Angie holds 80% of the shares issued by Cute Farms.

When Alex delivers Bingo to Cute Farms, Darcy and Jack say they will not accept delivery because they don’t want any horses on the farm because they will scare the other animals. Alex is furious and says that they have to take Bingo and pay her because she has a contract of sale with the company. Is Alex correct? If not, does Alex have any recourse?  

2. Marcia and Greg decide to form a company call Brady Ltd for the purpose of undertaking a business selling used Rolex watches. Marcia and Greg arrange for a number of their friends to invest in the company.  In addition, Marcia and Greg agree that they will each sell their personal Rolex watch collection to the company for $100,000 and $250,000, respectively. They had previously purchased the watches for $15,000 and 200,000, respectively.

Prior to forming the company, Marcia meets her friend Cindy who says that she needs money and wants to pawn her diamond Rolex watch. Marcia said that she would be happy to buy the watch in the name of the company.  They agree to a contract whereby the yet-to-be-formed Brady Ltd will purchase the watch for $1,000,000.00.

Shortly after her discussion with Cindy, the company is formed.  The directors of the company are Marcia, Greg and their friends Peter, Mike and Carol. At the first board meeting, Marcia and Greg recuse themselves and Peter, Mike and Carol agree that the company should purchase both Marcia’s and Greg’s collection of Rolex watches for $100,000 and $250,000, respectively.  

• If Brady Ltd proceeds to purchase the watches from Marcia and Greg, would they bear any liability as promoters?  
• Can Brady Ltd enforce the contract with Cindy for the purchase of her diamond Rolex watch?

3. Jack and Jill jointly recently purchased a block of land in Surfers Paradise for $2 million.  They want to build a high-rise on the land but don’t have any money.  They decide to form a company called Hill Pty Ltd. They seek out several people who invest in Hill Pty Ltd.  Jack and Jill then form Hill Pty Ltd, the investors transfer $20,000,000 to Hill Pty Ltd, Hill Pty Ltd purchases the real property for $4,800,000 (the price agreed by Jack and Jill) and construction commences.

The building is completed and all the units are sold at a massive profit. At that point, one of the investors discovers, for the first time, that the real property was purchased from Jack and Jill.  He doesn’t think it was fair that Jack and Jill made money selling the real property to the company.  Can anyone recover the profit from Jack and Jill?

4. Edmund and Baldrick are in the business of selling antiques. They operate as a partnership.  Edmund and Baldrick decide to form a company called Blackadder Antiques Pty Ltd and once formed will transfer the business from the partnership to the new company.

Edmund contacts his solicitor, Melchett, and instructs him to register the new company. Melchett says “it will be done this afternoon.” Immediately after the call, Melchett feels dizzy.  He consults a doctor who says he has a rare medical condition and cannot work for the next two weeks. Melchett goes home to bed and fails to register the company.

The next day, Edmund enters into a contract on behalf of Blackadder Antiques Pty Ltd with Percy for the purchase of some very expensive antiques. The purchase price had to be paid by October 30.

Melchett returns to work on October 20 and immediately registers the company but mistakenly calls it Whiteadder Antiques Pty Ltd.

• What steps must Edmund and Baldrick do to ensure the contract is binding on and enforceable by Whiteadder Antiques Pty Ltd?
• Assume the company is never registered. What remedies does Percy have and against whom?
• Assume Whiteadder Antiques Pty Ltd is registered. The company’s constitution provides that both directors have to consent to ratifying a pre-incorporation contract.  Baldrick fails to agree to ratify the contract.  What are Percy and Edmund’s rights?

1. What is (a) a memorandum of association; and (b) articles of association? Why are they still relevant?

2. What are replaceable rules? When is it appropriate for a company to use the replaceable rules?

3. What is a constitution? Why would a company use a constitution instead of the replaceable rules?

4. Who is bound by the replaceable rules and constitution?

5. How does a company change its rules?

1. Nightclub Pty Ltd is a company which owns a number of night clubs on the Gold Coast. It has a constitution which provides, inter alia:

“No person shall be excluded from attending events at venues owned by Nightclub Pty Ltd unless the directors pass a resolution excluding any such person.”

Jack was drunk and causing mischief at one of Nightclub Pty Ltd’s venues when a manager (who was not a director) said to Jack that he was excluded from the venue and could not return.  Can Jack enforce the constitution and argue that the exclusion is not enforceable as it was not supported by a directors’ resolution.

2. Kelly and Jordy are directors of ASP Pty Ltd and jointly own 70% of the shares. Taj holds the remaining 30% of the shares. The constitution provides that Taj will hold the position of the company’s “Senior Product Tester” for the period 1 January 2015 to 1 January 2020.  There is no separate written employment agreement. Kelly and Jordy want to remove Taj from the position of “Senior Product Tester”.  Advise Kelly and Jordy.

3. The shareholders of Croc Pty Ltd (‘”Croc”) are Dundee (10 shares), Mick (10 shares), Gus (10 shares) and Sue (10 shares).  The directors are Dundee and Mick.  Upon registration, Croc adopted a constitution that replaces all the replaceable rules.

Clause 10 of the constitution provides:

10. The maximum number of directors shall be three (3).

Clause 11 of the constitution provides:

11. Directors can remove other directors from office by majority vote except Mick can only be removed by members’ resolution approved by 95% of the members voting.

Part A: Sue is dissatisfied with the way Dundee and Mick are running the company.  She wants to alter clause 11 of the constitution to say that there can be four directors. Can she do this? If so, how?

Part B: Can she amend the constitution to remove clause 11?  If this occurred, could Dundee enforce clause 11 pursuant to section 140 of the Corporations Act?

Part C: Dundee and Mick are annoyed about Sue’s plans regarding the constitution and want to remove her as a shareholder.  Could they potentially alter the constitution so as to allow the company to compulsory acquire her shares at a stated price?

Part D: Gus is concerned that Sue might sell her shares to a competitor. If the competitor owned the shares, Gus is concerned this may adversely impact Croc’s business.  Gus proposes altering the constitution to provide that shareholders cannot sell their shares to anyone in competition with the company.  Would such an alteration be enforceable?

4. Kitty, Butch, Leroy and Kenny each on one share in K9 Grooming Pty Ltd. As the name suggests, the company owns a dog grooming business. Kenny is an accountant and is the company’s CFO. Indeed, the company’s constitution provides that Kenny will be paid $50,000 per annum and cannot be removed from the position as CFO until 2030. The constitution also has an objects clause that says the company’s “sole object is the business of grooming dogs.”

How can Kitty, Butch and Leroy remove Kenny from the position of CFO? Can the company engage in a business other than dog grooming?

5. How can a company adopt a constitution?

6. For the past several years, Bobby Byron has been working on a new design for the manufacture of surfboards. While Bobby believes that the sale of his inventive surfboard will make a lot of money, considerable additional research and development is needed to perfect the design. Indeed, the first few prototype surfboards that were manufactured snapped and one had fins that were too sharp and injured the person using it. Bobby believes that if the design is successful, many thousands of people will want to invest in his company. Advise Bobby about the most suitable type of company for his surfboard design project.

7. What type of company would be best suited for the following organisations:  

1. A charity raising funds for cancer research.
2. A major domestic soccer federation.
3. Three friends who wish to start a fashion business.
4. A group of 75 people who have agreed to pool money and invest in the stock market. 
5. A mining company that wants to invest in a speculative gold mining venture with its own funds and funds raised from the public.
6. A start-up telecommunications company that needs $1billion for its infrastructure and intends to raise the funds from the public.

8. Blondie Pty Ltd was registered with Matt and Aaron as its directors. Blondie Pty Ltd has issued 5 shares with the following persons owing one each: Matt, Aaron, Jason (Matt’s son), Janice (Aaron’s daughter) and Marilyn (Aaron’s friend).  Blondie Pty Ltd operated a business which manufactured and sold widgets.

After the company was formed, the following happened.  

Would the shareholders and/or directors be personally liable to the landlord, NAB Bank, Janice, or Acme Computers Pty Ltd?  Explain.

1. Blondie Pty Ltd entered into a lease for new premises where the business was to be headquartered.
2. Blondie Pty Ltd borrowed $100,000 from NAB Bank on an unsecured basis. Matt personally guaranteed the repayment of the loan.
3. Blondie Pty Ltd purchased a block of land from Janice for $500,000 to build a new warehouse.  Blondie Pty Ltd gave Janice a mortgage over the land equal to the $500,000 purchase price.
4. Blondie Pty Ltd purchased several computers from Acme Computers Pty Ltd. One third of the purchase price was paid on delivery and the balance payable in equal monthly instalments.

1. Jenna, Koda and Lula decide to start a business baking expensive wedding cakes. Jenna and Koda will each invest $10,000 in the business. While they don’t want to participate in the day-to-day running of the business they still want to have an active role in management.   Lula has no money to invest, but she has years of experience baking cakes.

Lula’s son, Asa, also wants to invest $50,000 in the business.  He wants to have a steady income from his investment.  While he does not want to be involved in the management of the company, he still wants to have some ability to direct how his $50,000 investment is spent.

What legal structure would you advise for their project: a partnership, an incorporated association, a company (if a company, provide details on the type of company) or some other structure?  Why would you recommend this structure – provide details?

2. Jacob and Marley are avid tennis players and decided to form a club called the Burleigh Breakers Tennis Club. Jacob becomes the president and Marley the secretary.  Malcolm, Jason and Alex and ten other people join the club as members. Each member pays a membership fee of $100.

The club organizes a tournament and all the members are invited to participate.  At the tournament, the club supplies sports drinks to the players.  Unfortunately the drinks contain a contaminate and many players fall ill. It turns out that in order to save money, the club had purchased the drinks at a discount as they been recalled due to bacteria been found in some bottles.

Can the ill players bring an action in negligence against the club? If not, what remedy do they have?  What would you have recommended Jacob and Marley to do differently when forming the club?

3. John is a foreign exchange trader working for a large bank. John and twenty five of his fellow workmates decide to leave the bank and start their own foreign exchange trading firm.  They decide to operate as a partnership.  Do you think this is a good structure for the business?

4. Darryl and Julia are both passionate chess players. They meet for the first time at a recent chess tournament. After a short discussion about their love of chess, they decide they should open a chess store together selling exotic chess products to other likeminded chess fanatics. Unfortunately, neither Darryl nor Julia has any money.  Julia’s friend, Otis, told Julia he had saved some money and was looking to invest it in a business.  Julia and Darryl approach Otis and pitch their chess store idea.  Otis is completely blown away by the pair's enthusiasm for the idea and agrees to invest $100,000.  The three agree that Otis will not receive any interest on his investment, but will get 50% of the net profits generated by the business.

Darryl is given the responsibility of finding a suitable location for the business.  He finds a store in Burleigh Heads and promptly enters into a lease.  As Julia is out of town on business, Darryl signs the lease in his name.  Darryl engages a firm of architects to prepare designs for the store.

When Julia returns, she is told about the new premises. She takes her good friend Glenda to check out the new premises.  When they enter the store, Glenda trips over a broom that was left lying on the floor and severely injures her leg.

Julia is horrified by the new premises.  She doesn’t like the location, it is too dark and it is too expensive.  She tells Darryl that the whole chess store idea just won’t work and she has no interest in perusing the venture any further.

Who is liable for the lease obligations, the architects’ fees and Glenda’s injuries?

5. Leroy is considering starting a catering business. Leroy has three children (aged 3, 16 and 21) and is married to Melanie. 

The proposed business will cater to high end corporate clients and wealthy individuals. In order to have the ability to cater events for these clients, Leroy needs approximately $4 million of capital.   Leroy intends to invest the $2 million into the enterprise from his own funds and get the balance from third party sources.  

Leroy wants to have his wife and children involved in the business as well. Advise Leroy.

Case study 1: Sinking Ship

1.

The issue in this case is if Claude, Jackie and Allison can pay dividend when the company was nearing insolvency. Similarly, if the liquidator can recover the Mercedes and $50,000 transferred by Claude?

In this regard, the law provides that in case of the insolvency of a company, the director of the company is required to consider the interests of the creditors. For this purpose, the directors should help the administrators of the company in every required way. The decision has to be made by the creditors if they are going to save the company or not. At the same time, section 588G had imposed an obligation on the directors of the company to avoid insolvent trading. For this purpose, the directors of the company should ensure that while dealing with the fears of the company, particularly when the company is facing financial uncertainty, the directors do not allow the Corporation to trade if it is insolvent and prevent it from incurring a debt if it may result in the insolvency of the company (Markovic, 1996). Apart from the general duty to act with care and diligence and in the best interests of the corporation, the directors should not use their position improperly for achieving a personal gain.

In the present case, Claude had made a personal gain by transferring a Mercedes motor vehicle old by the company in her own name. Similarly, the other directors of Sinking Ship Ltd have also failed to fulfill their duties like the duty to act with due care and diligence.

In the present case, the liquidator can recover the motor vehicle and $50,000. Similarly, the directors did not have the right to pay the dividend.

2.

The issue in this question is if Queensland Rail Construction Ltd. (RCL) is bound to pay for the wood to Queensland Timber Ltd. (QTL) when the work components warped dramatically and RCL was required to delay the whole track.

In such a case the law provides that the liquidator has the ability to recover certain payments, for the benefit of all creditors, within six months from the start of liquidation. The recoveries that may be available to a liquidator, for the benefit of unsecured creditors and that may not be available to receive and include the recovery of payments made by the company to individual creditors; the recoveries from setting aside un-commercial transactions that were created by the company; and compensation recovered from the directors for the amount that was lost by the creditors due to the fact that the directors allow the company to trade while it was insolvent or may become so (SSET Construction Pty Ltd (in Liq), 2010).

In the present case, RCL had to suffer the loss as a result of the poor quality of wood. It had to re-lay the entire length of the track as we wood supplied by QTL warped.

Under the circumstances, it can be stated that Queensland Rail Constructions Ltd can recover damages from QTL for the loss it has to suffer as a result of the poor quality of wood supplied by QTL. Under these circumstances, RCL is not bound to pay the amount of $2 million and compound interest at the rate of 8% per year.

Case study 2: Regal Cinema

In the present case, Gulliver is the managing director of Regal, while Fred and Barney were the non-executive directors of the company. The issue in this question is if the liquidator can recover the Mercedes motor vehicle and $50,000.

According to section 588E, Corporations Act, there are certain presumptions of insolvency that can be used in the recovery proceedings being conducted by a liquidator. Under section 588E(4), one such presumption is that the company will be considered to be insolvent for the period for which the financial records of the company have not been maintained. The main reason behind this presumption is to deal with the regrettable, but usual state of affairs where due to lack of books of account, it becomes difficult to reconstruct the financial position of the company at a particular time. For example, in Australian Securities Commission v Forem Freeway Enterprises (1999), adequate accounting records, justified the presumption of insolvency. However it needs to be noted that the presumption of insolvency provided by s588E(4) is not applicable to the recovery of an insolvency transition that is an undue preference, unless it is established that the party receiving the preference or involved in it was the related entity. As a result, any claim made by the liquidator against art related party for unfair preference cannot solely rely on this presumption of insolvency while trying to establish that the company was insolvent at the time of the unfair preference to unrelated party.

In this case, Gulliver had transferred a Mercedes motor vehicle in his own name. Moreover, he transferred the last $50,000 held by the company, to the bank.

Therefore in the present case, while the liquidator can recover the Mercedes motor vehicle, but the law does not allow the liquidator to recover the amount of $50,000 that has been transferred to the bank.

Accounts and Audit

1.

The purpose of audit is to express objective opinion that is impartial in judgment and can be relied upon by the persons who are using the audit opinion for making the decision related investment or for regulatory purposes. Therefore it is necessary that the auditor who had prepared the report should be considered to be free from any undue influence. The meaning of this requirement in financial terms is that the orbiter should not depend on the client in any way, either financial reliance on personal affiliation. Therefore, the auditor who fulfills the above-mentioned criteria is considered to be independent auditor (Walker, 1993). It is clear that the auditor should be independent from the entity audited by it. The requirement of independence, applicable to auditors, is legally enforceable and can be found in the following legal provisions.

• Divisions three, 4 and 5 of Part 2M.4 and section 307C, Corporations Act.
• APES 110, Code of Ethics for Professional Accountants;
• Auditing Standard ASA 220 Quality control for audit of financial report another historic financial information.

There are several aspects of maintaining the independence regarding which the auditors should be thoughtful during the relationship of client- auditor. These include, conflict of interest situations and auditor rotation for listed companies (Redmond, 1992). It is also necessary that the auditors should be diligent in evaluating and identifying the threats to their independence and apply the necessary safeguards. In case the conflict of interest situations exists for more than seven days, the auditors should inform ASIC in writing. 

Case study 3: Shazaam

2.

The auditors in Australia are exposed to unlimited liability. At present, for professional default. The main professional accounting bodies in Australia are CPAA and ICAA. These bodies have confirmed the need for reforms in the field of auditor liability. Traditionally the auditors and other professional groups have dealt with the issue of unlimited liability exposure for professional default by using professional indemnity insurance. It is worth mentioning that an important role is played by insurance in the economy of Australia. Insurance provides the mechanism to transfer and pool the risk of financial loss to entities with the expertise for managing the risks involved.

Several defenses are available to auditors for civil as well as criminal liability. Hence, several ways are available to audit firms to manage their exposure to claims. The most obvious defense available to the auditors is that they were not negligent. For this purpose, the auditors should rigorously apply International Standards on Auditing. The auditors should also apply the Code of Ethics for Professional Accountants. Another defense available to the auditors is by including the disclaimers of liability. 

In this case, it is clear that as the directors of Shazaam Pty Ltd., Jack and Jill breached their duties related with account keeping and maintaining the financial records of the Corporation. In this regard, the law requires that the director should play an active role in the overall management of the affairs of the company; they should obtain advice from accounting and legal professionals; the director should have access to up-to-date data related with the performance of the company. Similarly it is also very important that the directors should ensure that proper financial records of the corporation are maintained. In this context, it needs to be noted that the directors of the company are personally responsible for maintaining the proper books of accounts and financial records of the company. The directors should also ensure that their up-to-date financial records of the company are maintained that provide the details regarding the financial position of the company and its performance. However in the present case, these account keeping duties will breached by the directors of Shazaam, Jack and Jill when these directors failed to a teen professional advice from accountants and despite the lack of any formal training in accounting, Jack continued to maintain the accounts of the company., Moreover, these records were maintained in convenient shorthand, invented by Jack himself. The invoices, receipts and working papers were kept in the trunk of Jack's car. Another breach of duty by Jack and Jill took place when they fail to directly supervise Mona.

Under these circumstances, it can be stated that Jack and Jill were responsible for the breach of their account keeping duties.

2. Are Jack and Jill liable for losses caused by Mona?

In the present case, Jack and Jill had heavily relied on Mona who was a recent international studies rhetoric and claim to be an included in this area. However, the reality was that Mona knows nothing about importing goods or currency conversion. As a result of a lack of knowledge, significant financial losses were caused to Shazaam. Under the circumstances, it is clear that in the present case, neither Jack not Jill had directly supervised Mona. As a result, it can be said that genuinely responsible for the losses caused by Mona. 

3. What responsibility do Peter and Smith & Jones have as Shazaam’s auditor?
   

In this case, Peter was the auditor for Shazaam. He's also a junior partner in the auditing firm, Smith and Jones. When Jack refuses to provide the books of account to Peter, he recommends to Smith and Jones than things are looking a bit funny at Shazaam. However, one of the senior partners of Smith and Jones is married to Jack's sister and warns Peter that he should not be "fussy" with the audit. Therefore in order to avoid any conflict with senior partners, Peter decides that he will not do anything further about it. However, this is a clear breach of the duties of the auditors by Peter and also by Smith and Jones.

Financing a company via equity or debt 

1.  

Generally, equity financing means the issue of additional shares of common stock to an investor. As more shares of common stock are issued and outstanding, the percentage of ownership of the previous shareholders decreases. On the other hand, in case of debt financing, money is borrowed and ownership is not given up. Generally debt financing involves strict conditions or covenants, apart from the need to pay interest and principal at particular dates. There are severe consequences in case of the failure to meet debt requirements. 

2.

The shares of a company represent its ownership. When a person buys shares in a company, it becomes one of the owners of the company. The shareholders selects the persons were going to run the company. The shareholders are involved in making the key decisions related with the company, for example, if the business of the company needs to be sold. In this way, shares can be described as the units of ownership interest present in a company or financial assets that provide for equal distribution of any profits that may be declared by the company in the form of dividends. There are two major types of shares. These are common shares and preferred shares. 

3.

The power to issue new shares by a company is subject to the provisions of the Corporations Act, 2001 as well as the constitution of the company, if there is one. The Act provides that the power to issue shares of the company can be exercised by the directors of the company. In this way, issuing the shares of the company is entirely at the discretion of the board of directors of the company. 

4.

A debenture can be described as a debt instrument which is not secured by physical assets or collateral. In this way, debentures are backed by the reputation or the creditworthiness of the issuer. A debenture is a medium to long term debt format. It is used by large corporations for borrowing money. Therefore debentures are the most common long-term loans that can be obtained by a corporation. Debentures are typically the loans that have to be repaid on a particular date. However, some debentures are irredeemable securities. This means that these debentures do not have a fixed date of expected return. 

5.

The Personal Property Securities Act, 2009 had made widespread changes to priority rules that were applicable under the Corporations Act and general law. The PPSA, 2009 has created two types of priority rules. These are the specific priority rules and default priority rules. The purpose of specific priority rules is to deal with particular situations, where a priority dispute may arise. However these are not restricted to PPSA security interests. Therefore they can be applied to security interests not covered by PPSA, 2009. The default priority rules are applicable as a set of residual rules where a relevant specific priority rules is not present. 

6.

The PPSA, 2009 had made significant changes in the regime for classifying circulating and non-circulating assets. These include the creation of new rules related with the creation of non-circulating security interests over debtors and inventory. Different attempts were made to draft provisions that create non-circulating security interests over inventory and debtors relying on the provisions mentioned in PPSA, 2009. If a non-circulating security interest has been created successfully, then it can meaningfully change the outcome of insolvency scenario for secured creditors.  

7.

The six examples of categories of information that can be generally found in the prospectus of a company that has been prepared according to Ch 6D, Corporations Act, 2001 can be described as follows:-

• Business model: How the company is going to make money and generate income
• Risks: what are the major risks related with the business model, the security and offer
• Financial Information: the key financial information that the investors issued no regarding the financial position, performance and prospects of the company
• Directors and key managers: poor going to control the company and if they have the required expertise
• Interests, benefits and related party transactions: who is going to benefit
• The offer: what will be received by the investors and how much do they pay

1.

In the present case, Alex and Paco want to know the disclosure requirements that have been prescribed by the Corporations Act, 2001.

According to the general rule prescribed by the Corporations Act, it is not possible to raise capital in Australia without issuing a disclosure document. Generally, disclosure takes place through a prospectus, but there are other permitted forms of disclosure documents also. Ch 6D, Corporations Act provides the "fund-raising provisions". These provisions regulate the way in which parties can raise capital in Australia without the issuance of a formal disclosure document. According to s727, it is prohibited to make an offer of securities to investors without disclosure. Similarly, it is provided by section 703 that the parties cannot contract outdoor fundraising provisions. However there are certain exceptions to the requirement of issuing a disclosure document. It is provided by section 706 that an offer of securities for issue needs of disclosure to the investors made under Part 6D unless otherwise provided by section 708 or 708AA.

If it is decided by Alex and Paco to proceed with their plan and a register Bug Ltd.. They will be required to comply with the disclosure requirements that have been prescribed by Ch 6D, Corporations Act regarding the fund-raising proposed by them.

Hence, the disclosure requirements are applicable in this case. 

2.

(a) Regarding the implications of Ch 6D, concerning the two fund-raising options mentioned in this case, it needs to be noted that briefly speaking a disclosure document is not required when: the offer is personal offer and if the offer is being made to less than 20 persons in the last 12 months and the new offer will not result in raising more than $2 million during the last 12 months. This provision has been provided in section 708, Corporations Act 2001. Therefore, if the offer is going to be made to less than 20 investors, the disclosure document is not required. 

(b) In case the decision is made to carry out a float, a prospectus is required to be issued by the company. The Corporations Act provides that all the information should be present in the prospectus that may be reasonably required by the investors and their professional advisors to make informed evaluation of the rights and liabilities related with the securities offered; the assets and liabilities, profits and losses, financial position and performance, and the prospects of the entity issuing the securities. 

(c) Larry can advertise the fact that he is raising funds only if he is not relying on the exception provided by the corporations act from issuing a disclosure document. Therefore, if a disclosure document has not been issued by Mary in accordance with the corporations act, Larry cannot advertise the fact that he is going to raise funds.

Members’ Remedies

(a) The remedy provided by section 232 can be used by the members even if the application is related with an act or omission that is against a member in their capacity other than a member. Hence in the present case, Joanie can take action under section 232 against one of the directors of Big Als Pty Ltd., Richie, who had used money from the bank account of the company for purchasing a new car for himself.

(b) In the present case, the remedy against statutory oppression can be sought by Richie from the court against the conduct of the other directors of the company who had passed the resolution, voting him off the board of the company. This remedy is available when a resolution or a proposed resolution of the company is either contrary to the interests of the shareholders of the company as a whole or is oppressive, unfairly discriminating or prejudicial against the shareholder or shareholders weather in that capacity or in some other capacity.  

(c) A derivative action may be required if a loss or damage may be suffered by the company due to the acts off the directors of the officers of the company. Clearly, if the companies controlled by the wrongdoers, they are not going to initiate any action against themselves. However, under section 232, a remedy has been provided for such a situation. This remedy is available in case of a wrong committed by the company itself as against the oppression remedy that is related with the wrong done to an individual shareholder. Therefore, in the present case, Ralph can seek derivative action against the directors of the company who have formed a new company and purchase the land themselves. 

(d) According to the Corporations Act, a shareholder, a director or any other person, who is considered an appropriate by the court, may bring an application to the court to bring a lawsuit under the name of the company. However, it is necessary that the applicant should be serious in making the application. Moreover, the legal proceedings initiated by the individual cannot be settled without the approval of the court. These steps should be undertaken by Fonzie in order to make an application to the court for the review of the financial records of the company by a forensic accountant. 

(e) The law provides that the court has the right to grant relief to the applicants if the court is of the opinion that the conduct of the affairs of the company or any actual or proposed act or omission by the company or a resolution of the shareholders of the company is either against the interests of the shareholders of the company as a whole or it is oppressive unfairly discriminatory or prejudicial to a particular shareholder or shareholders as a whole. Therefore, Fonzie can take action against the company under section 232 of the Act (Gooze v Graphic World Group Holdings Pty Ltd., 2002). 

The issue in this question is if a remedies available to Kim against the oppressive conduct of Kourtney and Khloe.

The court has wide powers to make any order that may be considered appropriate by it in case it can be established by the shareholders that the conduct of the affairs of the companies against the interests of the shareholders as a whole, or if it is oppressive, unfairly discriminatory or prejudicial. In this regard, the affairs of the company include the conduct of the directors of the company or its majority or substantial shareholders and also the conduct of the company itself. The focus of operation remedy is on ensuring fairness to shareholders who have been impacted by the oppressive acts of the company or its directors.

In the present case, the acts of Kourtney and Khloe as the directors of Kestrel Pty Ltd can be described as oppressive and unfairly prejudicial and discriminatory. These acts include amending the constitution of the company and passing a resolution to remove Kim as the director of the company. Similarly, it includes the suspension of dividends, indefinitely and increasing their salary as the directors. Kourtney and Khloe had also incorporated a new company, BirdFert Pty Ltd, which was collecting bird droppings from Kestrel using the employees of Kestrel and selling it at a massive profit.

Under these circumstances, Kim can claim the remedy provided for statutory oppression by the Corporations Act.

Directors’ and Officers’ Duties

The issue in this question is if the Directors' duties have been breached.

Although a duty has also been imposed on the directors by the common law, but section 180, Corporations Act as also impose a duty on the directors. According to this duty, the directors of corporations should exercise the powers and fulfill their duties by using the same care and diligence that would be exercised by any reasonable person in such person was a director of the corporation under similar circumstances and occupied the same office that was held by the director having the same responsibilities.

Therefore in the present case, it can be stated that the directors of Stationary Pty Ltd had breached the duty imposed on them by section 180 of the Act. 

2.

(a) In the present case, Webster can be held liable under section 588G. In the recorded were shown that Papadapolis Ltd can repay its debts, while in reality, the company had become insolvent. Webster allowed the company to enter contract for purchasing materials worth $10 million when reasonable grounds were present to suspect that the company had become insolvent.

(b) However it has been provided by section 588H(4) that a defense is available to the director for the beach of section 588G if it can be established that had the time of incurring the debt, the director had not taken part in the management of the company as a result of illness or due to any other good reason. Therefore, if Webster was seriously ill at the time of incurring the debt, a defense is available to him.

(c) A defense is also available to the director against the allegations of the breach of section 588G, if at the time of incurring the debt, reasonable grounds were present for the director to expect and the director did expect that the company was solvent at the relevant time and would remain solvent even after incurring the debt as provided by section 588H(2).

(d) It is provided by section 588H(5) that if a director had taken all reasonable steps in order to prevent the company from incurring the debt, defenses available to such director. Therefore, if the regulators of Papadapolis Ltd did not listen to Webster, and continued with the contract, a defense is available to Webster. 

3.

The issue in this case is if the directors of Regal Ltd have been involved in insolvent trading and if they have breached their duty of care, skill and diligence.

It is the duty of the directors to remain informed regarding the actual financial affairs of the company including its solvency. This duty is not diminished even if the responsibility has been delegated by the directors. Similarly, the directors cannot hide behind their ignorance regarding the affairs of the company, where the ignorance is their own making. This duty requires that the director should question the information placed before them to make sure that the information truly represents the position of the company.

Similarly, the directors and allow the company to trade if they have reasonable grounds to suspect that the company may not be in a position to repay its debts as and when they fall due.

Therefore the present case reveals that the directors of Regal, Gulliver and also Fred and Barney had breached their duty of care, skill and diligence and at the same time, they can also be held liable for insolvent trading.

Companies, outsiders and corporate liability 

1.

The issue in this question is if Walter can rely on this editor isn't as provided in section 129 enforcing the contract against WEAK Security Pty Ltd.?

In this regard, the law provides that a company can be held to be bound by the contract created by the agent of officer of the company when such agent offices has been authorized to act on behalf of the company or when the agent or the officer of the company is acting within the scope of authority or if they can be considered as the "mind" of the company.

On the other hand, in the present case, strict instructions were given to Roger that should not enter into any contract on behalf of WEAK Security Pty Ltd.

Under these circumstances, it can be concluded that one cannot enforce the contract against the company.

2.

The issue here is if the contract created with the bank is enforceable against Volcano Pty Ltd.

Under section 128, Corporations Act, a person is entitled to make the assumptions mentioned in s129 regarding the dealings with the company. On the other hand, the section provides that these assumptions cannot be made by the third party if such party knew or suspected that the assumptions were not true at the time of the dealing.

Therefore it can be assumed that the Constitution of the company has been complied with, and the person held out by the company as an officer or an agent of the company has been duly appointed and had customary authority of the person in a similar position in a similar company.

Therefore, the Bank can enforce the contract against Volcano Pty Ltd even if Joel was not formally reappointed and there was a restriction in his contract with the company according to which he cannot commit the company to transaction worth more than $20,000.

Therefore in the present case, Volcano Pty Ltd will be bound by the transaction with the bank.

(a) Volcano Pty Ltd would have been bound by the contract even if the loan was for the refurbishment of two surfing stores of the company.

(b) If the bank had a copy of the Constitution of Volcano; or

(c) If the bank was aware of the fact that a resolution has not been passed by the board approving the transaction, such transaction was not enforceable against Volcano Pty Ltd.

3.

In the present case, the legislation has been breached by Duke Ltd. . In this case, Duke can be held vicariously liable for the negligence of its employee, Daisy.

There are two essential characteristics of vicarious liability. First of all, it is the liability for negligence of another person. Secondly, it is the liability. Therefore a person can be held vicariously liable for the negligence of another person even if the first person was careful in all relevant methods like selecting and supervising the other person (A, DC v Prince Alfred College Incorporated, 2015).

Hence in the present case, Duke will be liable for the negligence of Daisy. Even if the legislation did not mention that the term person includes the company, Duke would have still been liable.

In case some person would have received injury as a result of the loose wires, Duke Ltd would have been liable for the injuries suffered by the person. 

Promoters and preregistration contracts

1.

The issue here is if the contract created with Cute farms Pty Ltd before its incorporation can be enforced against the company.

In this regard, section 131 of the Corporations Act provides that the outsiders can enforce the preregistration contract against the company if the company ratifies the contract after its registration. However registration does not take place or if the preregistration contract is not ratified by the company, the person who has entered the contract on behalf of the corporation can be held personally liable to pay damages to the other party. This section is applicable only in case of contracts that have been created before the registration of the company.

Hence in the present case, as Cute Farms had not ratified the contract, Angie can be held personally liable to pay compensation to Alex. 

2.

According to section 132(1), Corporations Act, promoters can avoid their liability if they have obtained the consent of the other contracting parties to release the promoters from liability regarding the contract. Under the contract also, a promoter may avoid personal liability if it has agreed with the third party that a new or substitute contract will be formed in place of the preregistration contract, but the company has been registered. Similarly, section 132(2) provides that despite any rule present in law or equity, the promoters does not enjoy any right of indemnity against the company regarding the liability of a person under this part.

(a) Therefore in the present case, Marcia, and Greg may not be held personally liable as promoters in case Brady Ltd proceeds to purchase the watches from them.

(b) Brady Ltd can enforce the contract created with Cindy regarding the purchase offer diamond Rolex watch as the contract has been ratified by the company after its registration. 

3.

In the present case, Jack and Jill are the promoters of Hill Pty Ltd. as per the definition given in law. Therefore they are the party who brings together all the interested parties for the purpose of achieving the registration of the company. As there are several investors who have put their money into the company, Jack and Jill owe certain duties of disclosure towards the investors including the duty to inform the investors or their appropriate representatives regarding the profit that is going to be made personally by Jack and Jill (Gluckstein v Barnes, 1900).

Therefore in the present case, this duty has been breached by Jack and Jill and the profit may be recovered from them.

4.

(a) Edmund and Baldrick should immediately ratify the contract that has been created on behalf of the company with Percy for purchasing some expensive antiques. Moreover, the mistake in the name of the company should also be rectified.

(b) In case the company is not registered, Percy has a remedy to claim damages from Edmund.

(c) If Whiteadder Antiques Pty Ltd has been registered and it is provided that both the directors should consent to rectify a pre-incorporation contract and if Baldrick fails to agreed to ratified the contract, Percy has a right to claim damages from Edmund. On the other hand, Edmund may claim damages from Baldrick. 

Company Constitution

Revision questions

1. The memory of Association is a document that regulates the external activities of the company. It should be drawn up on the formation of a registered company. The Articles of Association is a document that contains the purpose of the company and also the duties and responsibilities of the members of the company. These are important documents that has to be filed with the registrar of companies.
2. A replaceable rule is a provision of this section or subsection of the Corporations Act that can be displaced or modified by the Constitution of the company. The provisions of the Corporations Act applying as replaceable roles had been mentioned in section 141 of the Act.
3. A Company Constitution is a document that generally specifies the rules governing the relationship between and activities of the company, its directors and shareholders. The Constitution may modify the provisions of the corporations act that apply as replaceable rules.
4. The internal management of a company may be governed by the provisions of the corporations act known as replaceable rules, by a Constitution or by a combination of both. A Constitution is a contract created between company and its members, directors and the members themselves.
5. A company can change or repeal its constitution by passing a special resolution. The special resolution needs at least 28 days notice engage the public listed companies and 21 days notice engage off other types of companies.

Problem questions

1.

The Constitution of the company is considered as a contract that has been created between the company and the members of the company. Therefore in the present case, Jack cannot enforce the Constitution of Nightclub Pty Ltd and argued that the exclusion is not enforceable because it is not supported by a resolution passed by the directors.

2.

The Constitution of the company is a contract between the company and its members. However, the contract is created with the members in their capacity as the members of the company and not in any of their capacity (Eley v Positive Government Security Life Assurance Co Ltd., 1876). Therefore in the present case, Taj cannot enforce the class present in the Constitution according to which he will remain the "senior product tester" of the company till January, 2020.

3.

1. A. In the present case, if Sue is dissatisfied with the way Dundee and Mick are managing the affairs of the company, she can bring an ordinary resolution amending the Constitution of the company.

A resolution is a formal way in which the company notes the decisions made at the meeting of the members of the company. In this regard there are two types of resolutions, ordinary and special. A resolution to increase or decrease the number of directors of the company can be passed by an ordinary resolution.

The constitution of a company is given contractual force by s140, Corporations Act. According to this section, the Constitution has the effect of contract included between the company and the members of the company, the company and its directors and secretary and between the members of the company themselves. Therefore, Dundee cannot enforce clause 11 on the basis of section 140.

Yes, in the present case Dundee and Mick can alter the constitution of the company to compulsory acquired the shares of Sue at a stated price. The only requirement is that the action should not be unjust, discriminatory or prejudicial. 

1. The alteration in the Constitution of the company which provides that the shareholders cannot sell their shares to a person who is in combination with the company can be enforced against the shareholders.
   

4. In order to remove Kenny from the position of the CFO of the company, Kitty, Butch and Leroy are required to pass an ordinary resolution in the meeting of the members of the company. On the other hand, if the company wants to engage in a business other than dog grooming, the members of the company are required to pass a special resolution.
5. Section 136(1), Corporations Act outlines the ways in which a constitution can be adopted by a company. A constitution may be adopted by the company on its registration, if each person mentioned in the company has agreed in writing, to the terms of the Constitution or if a company is registered with the Constitution, but it may adopt a constitution by passing a special resolution.
   

Companies and incorporation 

6. There are two major types of companies in Australia. These are private (proprietary) and public companies. The most common type of company formed in Australia is to provide the company. This type of company is signified by 'Pty' at the end of the name of the company. In the present case, Bobby should form a proprietary company.
   

(a) A public company

(b) Public company limited by shares

(c) A proprietary company

(d) A public company limited by shares

(e) No liability company

(f) A public company limited by shares 

(a) The shareholders/directors of Blondie Pty Ltd cannot be held personally liable for the lease for new premises.

(b) In the present case, Matt can be held personally liable for the repayment of the loan because in this case, he had given a personal guarantee.

(c) The shareholders/directors of Blondie are not personally liable for the transaction.

(d) The shareholders and/or the directors of Blondie Pty Ltd cannot be held personally liable to pay the balance amount to Acme Computers Pty Ltd.

Business organizations 

1. The most appropriate business structure in the present case would be the formation of a partnership. The reason is that while Jenna and Koda are investing $10,000 each, Lula did not have any money to invest but she has vast experience in baking cakes. However, her son Asa is willing to invest $50,000, but he does not want to be involved in the management of the company. Therefore the business sector of a partnership will be most suitable for the present case.

2. In the present case, the players can bring a claim in negligence against the Burleigh Breakers Tennis Club. The members were invited to participateand contaminated drinks were served to them. As a result, the club can be held liable in negligence to the players who fell ill after drinking the contaminated drinks.

While forming the club, Jacob and Marley could have formed an incorporated association. The identity of the incorporated association is separate from its members and founders. it continues to exist even after they have left the organisation. Incorporation also provides some protection to the members or the directors of the organisation.  

3. The business structure of a partnership is a good structure to run the business but it does not provide the benefit of limited liability of the owners of the business. Moreover, the law provides that a partnership cannot be formed by more than 20 persons.

4. In the present case, if it is assumed that the company was never formed, the liability for these obligations, the fees of the architects and the injuries suffered by Glenda become the personal obligations of Darryl, Julia and Otis.
5. In the present case, the most appropriate business sector will be the formation of company. In this way, it will be easy for Leroy to raise capital for the business. At the same time the benefit of limited liability will also be available. Similarly, the wife and children of Leroy can also be made shareholders of the company.

References

Markovic M, 1996, ‘Auditors’ Criminal Liability: Another Approach’, 6 Australian Journal of Corporate Law 48

Redmond P, 1992, Companies and Securities Law, (2nd ed), The Law Book Co Ltd, Sydney at 1131.

Walker B, 1993, ‘Putting the Cap On Auditors’ Liabilities’, 5 New Accountant 11

Case Law

A, DC v Prince Alfred College Incorporated [2015] SASC 12

Australian Securities Commission v Forem Freeway Enterprises Pty Ltd (1999) 17 ACLC 511

Eley v Positive Government Security Life Assurance Co Ltd (1876) 1

Gluckstein v Barnes [1900] AC 240

Gooze v Graphic World Group Holdings Pty Ltd (2002) 42 ACSR 534

SSET Construction Pty Ltd (in Liq), Re: Sims v Khattar (2010) NSWSC 102