MODULE HANDOUT FOR STUDENTS (PRINCIPLES OF COMPANY LAW (LW2060)) University of Wolverhampton School of Law, Social Sciences and Communications MODULE LEADER : Professor Stephen Griffin

Room: MC 2020 Ex- 2086 S.Griffin@wlv.ac.uk

Module Code: LW2060 Module Title: Principles of Company Law 2009/10

Indicative Schedule – Weekly Programme

Date Lecture Topic Seminar

Week 1

w/c 21-09-09

General introduction to

company law/ corporate

veil

-

Week 2

w/c 28-09-09

Types of business

structure

Week 3

w/c 05-10-09

Company

formation/constitution

The corporate entity

Week 4

w/c 12-10-09

Company directors

Week 5

w/c 19-10-09

Personal liability of

directors(insolvency)

Formation

Week 6 w/c 26-

10-09

Shareholders

Week 7

w/c 02-11-09

Shares Directors

Week 8

w/c 09-11-09

Maintenance of capital Shareholders

Week 9

w/c 16-11-09

Loan capital

Week 10 Share Capital Loan capital

w/c 23-11-09

seminar

Week 11

w/c 30-11-09

READING WEEK

SELF STUDY

Week 12

w/c 07-12-09

CLASS REVISION

Weekly Programme

TOPIC Lecture Topic Seminar

1 General introduction to company law/ corporate veil

2 Types of business structure

3 Company formation/constitution

The corporate entity

4 Company directors

5 Personal liability of directors(insolvency)

Formation/constitution

6 Shareholders

7 Shares and the maintenance of capital

Directors

8 Share Capital contd Shareholders

9 Loan Capital

10 Loan Capital Share Capital/Loan Capital

11 Revision session Revision session

12

1.1 Indicative Reading Recommended text SEALY & WORTHINGTON : Cases & Materials in Company Law 8

th Ed Published by Oxford Univ Press

Other Reading BOURNE on Company Law 4

th Ed Routledge- Cavendish

GRIFFIN -- COMPANY LAW- FUNDAMENTAL PRINCIPLES LONGMAN 4th Ed (does not cover the 2006

Act but still deals with current principles of law) Any up-to-date textbooks and case books on Business Law and Company Law in the Learning Resources Centres are also a useful source of reference. See especially: (1) Boyle & Birds - Company Law, (2) Gower/ Davies – Principles of Company Law & (3) French,Mayson & Ryan (4) Hicks & Goo – Cases and Materials (2) Also attempt to read cases in the law reports and academic articles: for journal articles, see references in text books). Introduction

THE COMPANIES ACT 2006 AVAILABLE AT : http://www.parliament.uk/ (at site press Bills and Legislation – go to

Acts of Parliament – press and then find Companies Act 2006: Note, the explanatory notes are useful).

In November 2006, the Companies Act 2006 (‘CA 2006’) was passed. Majority of the provisions are already in force

and the remainder will come into force by Oct 2009. The Companies Act 2006 consolidates a majority part of the

companies legislation.Other Acts of Parliament which specifically regulate the registered company include the

Insolvency Act 1986, the Enterprise Act 2002 and the Companies (Audit, Investigations and Community Enterprise

Act 2004. In the case of the said Acts a limited number of provisions have also been amended by or repealed by the

Companies Act 2006. For the repeals, see Schedule 16 CA 2006.

(Topic 1) The Limited Liability Company : Limited by Share Capital

A company, when registered in accordance with CA 2006 is, as from the date of its incorporation, deemed to be a body

corporate (s.16 CA 2006). The immediate result of a company's incorporation is the creation of two independent

bodies, ie the company and its membership. A company's legal existence is not dependent upon the survival of

individual shareholders. Accordingly, a company is said to have perpetual succession.

A member of a company incorporated with limited liability status by shares, will only be liable to contribute to the debts

of the company to the extent that his shares are not fully paid. Once the shares held by that member are fully paid, the

member ceases to be liable to contribute towards the company’s debts. A shareholder has no right of ownership in

respect of the company's property or assets. see for example, Macaura v Northern Assurance Co [1925] AC 619, Re

Lewis Wills Trust [1985] 1 WLR 102.) Although one person may in effect control and execute the affairs of a company

such a person is not to be regarded as the company, the company is a separate legal entity, see eg Lee v Lee's Air

Farming [1961] AC 12. The principal advantage of incorporating a business is undoubtedly the limited liability of a

company's membership. The principal disadvantage of incorporation is a loss of the business' privacy. Unlike

partnerships registered companies are subject to many disclosure requirements.

THE CORPORATE VEIL

The case heralded as the one to finally establish the registered company as an acceptable and valid form of business

medium for small businesses was Salomon v A Salomon Ltd [1897] AC 22. Once incorporated, a company cannot be

considered as anything other than an independent entity, totally separate and distinct from its founder.

DISLODGING THE CORPORATE VEIL

A company’s separate legal existence represents a fundamental and essential characteristic of company law; it is rarely

impugned. However, in exceptional circumstances, the corporate veil may be dislodged to impose some degree of

liability against the human constituents of the company. Nevertheless, in the majority of situations the veil will merely be

pierced and not completely removed to the extent that the company’s legal status will still be recognised. The

corporate veil may be displaced at common law and by statute. In respect of the latter, the majority of statutory

provisions that have a capacity to displace the corporate veil seek to penalise the irresponsible conduct of company

directors involved in the management of insolvent companies (see topic 5)

(a) In Times Of National Emergency

When the nation is at war or finds itself in some other serious form of political or economical conflict, it may be

expedient for the court to dislodge the corporate veil to prevent, for example, the payment of monies from companies

registered in the UK to the "enemy" state or citizens of that state, see Daimler v Continental Tyre & Rubber Co [1916] 2

AC 307.

(b) Fraud or Façade/Sham Cases

The ability to disturb the corporate veil may be justified where the formation and subsequent existence of a company

can properly be regarded as fraud or façade, see eg Gilford Motor Co v Horne [1933] Ch 935, Jones v Lipman [1962]

1WLR 832, Coles v Samuel Smith Old Brewery [2007] EWCA Civ 1461;Note Trustor AB v Smallbone No3 [2001] 1

W.L.R. 1177.

(c) Economic Entity

Where it is established that a group of companies, each of which have, prima facie,

separate legal identities, are operating together under the control of a dominant company (the holding company), the

corporate veils of the subsidiary companies may be lifted with the result that the group of companies becomes one

economic entity. In order to establish that a group of companies is in reality one economic entity, it must be shown that

(a) the holding company exerts a substantial and almost absolute degree of control over the subsidiary company;

control must in this instance certainly extend beyond a majority voting in the shares of the subsidiary or (b) that the

setting up of the subsidiary constituted a fraud/facade (see above). See eg Holdsworth & Co v Caddies [1955] 1 WLR

352 , Scottish Co-op Wholesale Society v Meyer [1959] AC 324, Nicholas v Soundcraft Electronics Ltd [1993] BCLC

360, DHN Food Distributors Ltd v Tower Hamlets L.B.C. [1976] 1 WLR. Yet, a company's or individual's ability to

control the overall policy structure of another company may not always be sufficient to justify the lifting of the corporate

veil, see eg Bank of Tokyo Ltd v Karoon [1987] AC 45., Woolfson v Strathclyde Regional Council (1978) SLT 159. In

the leading case of Adams v Cape Industries [1990] Ch 433, the Court of Appeal concluded that a holding company's

apparent control over its subsidiary company's corporate policy would not in itself justify the court in finding the

existence of a single economic entity. In terms of employment law/corporate veil see, Millam v The Print Factory

(London) 1991 Ltd. [2008] B.C.C. 169 where it was held that the holding company controlled the activities of its

subsidiary to the extent that the activities of the subsidiary were those of the holding company. H made key decisions in

relation to S’s workload, it attempted to bring about contractual changes and it ultimately made the decision to put S

into Administration. However note the “radical” case of Beckett Investment Management group Ltd v Hall (Times 11

July 2007) Here, (B) appealed against a decision that its former employee (H) had not been in breach of contract in his

involvement with a competitor business on leaving B's employment. B, the holding company of a group of companies

had no dealings with clients and provided no direct financial advice although its subsidiaries did so. H was a registered

independent financial adviser and had been employed within the group for some years before entering into a contract

with B to become B's sales director and also a director of two subsidiaries, one of which provided advice and services

to clients and another which provided investment advice and management services. H's contract with B contained a

clause covering restrictions after termination of employment. H left B's employment to join a competitor company. B

brought proceedings against H claiming, amongst other things, breach of contract. Reversing judgment at first instance,

CA held that although none of the clients who had transferred to H's company had ever been advised by B (because it

had only ever acted as a holding company): the individual personality of a limited company could be disregarded if the

company in question was a member of a group of companies. The only sensible construction of the clause was a wider

one which enabled it to apply to advice of the kind provided by one of the subsidiary companies. H had been employed

in the group of companies of which B was the holding company, for some time, was familiar with the structure of the

group and well aware of the respective roles of B and the subsidiary companies.

(d) Agency

(see eg, Smithstone Knight Ltd v Birmingham Corp [1939] 4 All ER 116, Gramaphone & Typewriter Ltd v Stanley [1908]

2 KB 89, Re F.G (Films) Ltd [1953] 1 All ER 615, Kodak v Clarke [1902] 2 KB 450, also see, IRC v Sanson [1921] 2 KB

492.

Lifting The Corporate Veil For Justice's Sake ?

The ability of a court to lift the corporate veil is often considered in the light of accepted headings. However, these

headings may be seen as masking the fundamental justification for denying the preservation of the corporate veil,

namely to prevent injustice, a perversion of the corporate form, see eg, Littlewoods Mail Order Stores Ltd v IRC [1969]

1 WLR 1241 and Wallensteiner v Moir [1974] 1 WLR 991.

However, in Adams v Cape Industries, the Court of Appeal forcefully denied that the corporate veil could be disturbed

by considering issues relevant to the justice of a case. However note Creasey v Beachwood Motors Ltd (1992) BCC

639. However, subsequent cases, have denied the validity of the Creasy case, see Ord v Belhaven Pubs Ltd [1998]

BCC 607.

TOPIC 2 TYPES OF BUSINESS STRUCTURE

Registered companies

A company registered in accordance with the provisions of the Companies Acts will take one of the following forms: a

public company limited by shares; a private company limited by shares; a private company limited by guarantee; or a

private company that is unlimited.

Limited by shares

Following the implementation of the CA 2006, a public company may now be registered with one shareholder (s.123

CA 2006) but must have two directors (s.154 CA 2006). A private company may be registered with just one

shareholder and one director. In relation to both private and public companies, at least one of the registered directors

of the company must be a natural person (s.155 CA 2006). Unlike a private company, a public company must also be

registered with a company secretary (s.271 CA 2006). Before a public company can trade it must be registered with a

minimum share capital, currently £50 000 (s.761 CA 2006). A public company must be identified (at the end of its

name) as a public limited company, although the abbreviation “plc” will suffice (s.58 CA 2006). In accordance with s.

4 CA 2006, any company which is not registered as a public company is construed to be a private company. Unlike a

private company, a public company may offer its securities to the general public (s.755 CA 2006). While a public

company is entitled to offer its securities to the general public, it is not bound to do so, but where its shares are so

offered, it has the option of applying to have them listed for dealing on the stock exchange.

Limited by guarantee

While the vast majority of private limited companies are limited by shares, a private company may be limited by

guarantee (s.3 CA 2006). Following the passing of the CA 2006, a guarantee contribution must be contained in a

statement of guarantee which is required to be delivered to the registrar as part of the procedure for the company's

registration (see s. 11 CA 2006). A member’s fixed sum liability cannot be altered and continues during the term of

the membership of the company or, where the company’s liquidation occurs, within a year of the member having left

the company (see s.74(2) of the IA 1986).

The most appropriate type of company to be registered as a private company limited by guarantee is one with a

charitable or non-profit seeking objective, such as a local club or association. As the company will not have

shareholders, any profits made by the company will not be distributed as dividend payments. The members’ capital

(amount of guarantee) will be kept in reserve and may be called upon in the case of the company’s liquidation.

Unlimited Company

The unlimited company is a separate legal entity; formed as a private company and possessing the characteristics of

a corporate entity but absent of the advantage of a limited liability status. Unlimited companies must, as with limited

companies, prepare accounts for the benefit of their members, however an unlimited company is not required to file

accounts at Companies House, save in a situation where the company is a subsidiary of a limited liability company

(s.448 CA 2006). Further, because the members of an unlimited company are, following the winding up of the

company, ultimately responsible for the company's debts, an unlimited company is not subject to the rules and

disclosure requirements in respect of the maintenance of share capital. An unlimited company is similar to a

business partnership concern. However, unlike a partnership, the creditors of an unlimited company will not be able

to sue the company’s individual members for the repayment of business debts (save for where the debts have been

personally guaranteed) unless the creditors seek an order for the company to be wound up.

The Community Interest Company

Created by Part II of the Companies (Audit, Investigations and Community Enterprise) Act 2004. Intention in

introducing the CIC is to increase (although not necessarily replace) the existing forms of social enterprises such as

charitable companies and Industrial and Provident Societies, with an ultimate objective of expanding and improving

the transparency of the social enterprise sector.

Other Business forms

The limited liability partnership

(LLP), regulated by the Limited Liability Partnership Act 2000- Applicable to a business which wishes to retain the

benefits of trading as a partnership but at the same time wishes to take advantage of a limited liability status. The LLP

is a distinct legal entity, a body corporate (s.1 (2) LLP Act 2000). Accordingly, its members have no personal liability

for the acts or obligations of the LLP except as provided by statute or under the general law.

Business Partnerships

A business partnership is a relationship between persons carrying on a business in common with a view to profit (s 1,

Partnership Act 1890). With a partnership business, the property of the business belongs to its members and not the

actual partnership business. A partnership, unlike a registered company, is not a separate legal entity, although it

may sue or be sued using the partnership name.

TOPIC 3 THE PROMOTION FORMATION AND CONSTITUTION OF A COMPANY

For a business concern to obtain the benefits of limited liability, it must comply with the registration provisions contained

in the Companies Act 2006. Prior to obtaining a certificate of registration the preparations involved in forming a limited

company must be undertaken, ie the company's promotion.

PROMOTION OF A COMPANY

The promoter is essential to the creation of a new corporate entity. To establish that a person acted as a promoter of a

company the case law is indicative of the necessity to show that the person concerned contributed some essential

element towards the incorporation of the company. The level of contribution may be substantial, for example, the

negotiation of the purchase of business premises, or, on the otherhand, may be less extensive, for example, a person

may be deemed a promoter by organising the appointment of a company director, see definition of promoter in Whaley

Bridge Calico Printing Co v Green (1879) 5 QBD 109..

Duties - A promoter cannot be considered to be an agent or trustee of the company which he undertakes to promote,

in the sense that prior to incorporation the company has no legal existence. Nevertheless, a promoter occupies a

position which the courts have recognised as one which is liable to abuse and one which should therefore be subject to

fiduciary duties and also subject to the common law duty to exercise reasonable care and skill, see Gluckstein v

Barnes [1900] AC 200.

Disclosure of a promoter's personal interest in the promotion of a company must be made to the company see eg

Langunas Nitrate Co v Langunas Syndicate [1899] 2 Ch 392.Where a promoter fails to disclose any benefit obtained as

a result of entering into a contract which is connected to a company's promotion, the contract whilst not void will be

voidable. The company, may if possible rescind the contract.

PRE - INCORPORATION CONTRACTS

Until a company is incorporated it will not exist as a separate legal entity and therefore cannot be bound by contracts

made in its name or on its behalf, see eg Natal Land & Colonisation Co v Pauline Colliery Syndicate [1904] AC 120. A

company, even after its incorporation cannot expressly, or by conduct, retrospectively ratify or adopt a contract made

in its name or on its behalf, see eg Re Northumberland Avenue Hotel Co (1886) 33 Ch D 16. Neither may a company

claim to have adopted a pre-incorporation contract by including the terms of the contract within its articles, see eg

Browne v La Trinidad (1887) 37 Ch D 1. The only manner in which a company may take the benefit of a pre-

incorporation contract is by entering into a new contract with the party with whom the promoter dealt, ie a novation, see

eg Howard Patent Ivory Manufacturing Co (1888) 38 Ch D 156. The company, nor the party with whom the promoter

originally contracted, are obliged to enter into a new contract following the company's incorporation. However, it should

be noted following the Court of Appeal's decision in Rover International Ltd v Cannon Film Sales Ltd [1988] BCLC 710,

that where a contract is entered into for the benefit of a company which is not incorporated as of the date of the

contract, then monies mistakenly paid by the company to athird party or vice versa may be recovered.

The liability of a promoter

Previous common law rules contrast Kelner v Baxter (1866) LR 2 CP 174 with . Newborne v Sensolid (Great Britain)

Ltd [1954] 1 QB 45..

Statute: Section 51 CA 2006. : ‘A contract which purports to be made by or on behalf of a company at a time

when the company has not been formed has effect, subject to any agreement to the contrary, as one made

with the person purporting to act for the company or as agent for it, and he is personally liable on the

contract accordingly.’

The effect of s.51 is to render a promoter personally liable on a pre-incorporation contract irrespective of whether the

promoter signed the contract in the company's name or on behalf of the company, see Phonogram v Lane [1982] QB

938, Braymist Ltd v Wise Finance Co Ltd [2002] BCC 514.

The judicial interpretation of section 51 (previously36 C(1) CA 1985). Does it extend beyond the standard type of

mischief against which the section was aimed, ie a promoter's ability to escape personal liability in respect of pre-

incorporation contracts? Cases suggest not, see: Oshkosh B'Gosh Inc v Dan Marbel Inc Ltd [1989] BCLC

507. , Badgerhill Properties Ltd v Cottrell [1991] BCLC 805,

Cotronic (UK) Ltd v Dezonie [1991] BCLC 721.

THE REGISTRATION PROCEDURE

The incorporation of a company must be conducted in accordance with the registration provisions contained in the

Companies Act 2006. The registration of a company involves the delivery of certain documents (together with a

registration fee) to the Registrar of Companies:

Relevant documents: The registration procedure is dealt with by ss. 9-16 CA 2006. The following documents must

now be delivered to the registrar to complete the registration procedure:

The memorandum of association. (2)An application for registration. (3) A statement of compliance

The effect of the 2006 Act is to weaken greatly the significance of the memorandum, which is no longer of any legal

relevance to the constitutional structure of a company. For Companies incorporated in accordance with the 2006 Act,

a company's constitutional framework will now be determined by the company's articles of association. However,

specific obligatory information relevant to a company's registration which, by the terms of CA 1985, has been an

obligatory requirement of the memorandum, is now, following the CA 2006, deemed to be an obligatory requirement

of the “application for registration." (see s.9 CA 2006).

The refusal to register a company

Prior to the issue of a registration certificate the Registrar of Companies must be satisfied that the requirements within

the statutory registration procedure have been complied with . For example, the Registrar may refuse to register a

company where its proposed objects (contained in the memorandum) are illegal or contrary to public policy. R v

Registrar of Companies (ex- parte More) [1931] 2 KB 197. The decision of the Registrar to refuse to register a company

is, however, subject to judicial review and the Registrar's decision may be reversed, see eg R v Registrar of

Companies(ex-parte Bowen) [1914] 3 KB 1161.

The refusal to register a company

A company's name must be stated in its "application for registration" (see s.9 CA 2006). The name with which the

company is registered must not be one which is already included in the index of registered company names. Within

twelve months of a company's registration the Secretary of State is permitted to direct a company to change its name

in circumstances where the choice of name was the same as or too similar to the name of a company already listed

on the register. Where the Secretary of State refuses to implement these powers, a company which is already in

existence may nevertheless challenge the adoption of a name by a newly incorporated company by the means of a

passing off action, see eg Ewing v Buttercup Margarine Co Ltd [1917] 2 Ch 1

THE CERTIFICATE OF INCORPORATION

A company is legally incorporated upon the issue of a certificate of incorporation. (s.15 CA 2006). The certificate is

also conclusive of the status of the company registered. A company, having obtained a certificate of incorporation, is

permitted as from thedate of the certificate, to enter into business activities as a registered company, see eg, Jubilee

Cotton Mills Ltd v Lewis [1924] AC 958. Except in a case where the Crown challenges the legality of the company , see

eg, R v Registrar of Companies (ex parte Attorney General) [1991] BCLC 476.

COMMENCEMENT OF BUSINESS

A private company may commence business from the date of its incorporation, whereas a public limited company must,

prior to the commencement of its business, wait until it has received a trading certificate (s.761 CA 2006).

A COMPANY'S CONSTITUTIONAL STRUCTURE

The constitutional structure of a company is governed by its articles of association.

THE ARTICLES OF ASSOCIATION

If a company does not register its own individual form of articles, the contents of the company's articles will be

determined by reference to the model form of articles found in Table A of the Companies (Tables A to F) Regulations

(Table A articles).

THE CONTRACTUAL NATURE OF THE ARTICLES

Under s.33 CA 2006 the provisions of a company’s constitution, when registered, bind the company and its members to

the same extent as if they were covenants on the part of the company and of each member to observe those

provisions. Money payable by a member to the company under its constitution is a debt due from him/her to the

company. In England and Wales and Northern Ireland it is of the nature of an ordinary contract debt and as such is

subject to a limitation period of six years.

Section 33 CA 2006 alters the contractual effect of a company’s constitution, as previously determined by s.14 CA

1985. Contrast s.33 with the previous CA1985, s.14.

Section 14 of the Companies Act 1985 made no mention of the fact that the company as a separate legal entity was

bound as if it had signed and sealed the articles and memorandum. What is clear from judicial pronouncements on s.14

CA is that the section could not be interpreted as conferring rights and obligations, which one would normally expect to

flow from the law of contract.

Obligations enforceable by the company under section 14

Obligations contained within a company's articles, which seek to regulate the relationship between the company, and

its membership, are enforceable by the company, see Hickman v Kent and Romney Sheepbreeders Association [1915]

1 Ch 881.

Although the obligations created by s.14 CA 1985 may be seen as creating a quasi-contractual relationship between a

company and its membership, s.14 fails to indicate whether obligations are directly enforceable by one member as

against another member of the company, see eg McDougal v Gardener (1875) 1 ChD 13. See Welton v Safferey

[1897] AC 299. The more acceptable view would appear to be that members may directly enforce obligations against

fellow members without the need to pursue the action through the company, see eg Rayfield v Hands [1960] Ch 1.

Obligations enforceable by the membership of a company

Most of the controversy associated with the interpretation of s.14 CA 1985 concerns the extent by which obligations

within a company's articles may be enforced by members of the company against the company. Examples of

enforceable(insider) rights include: Wood v Odessa Waterworks Co (1889) 42 Ch D 639; Burdett v Standard

Exploration (1899) 16 TLR 112;Griffith v Paget (1877) 6 Ch D 511, Re British Sugar Refining Co (1857) 3 K & J 408. A

commonly perceived example of an insider right is the entitlement of a member, holding voting shares in a company, to

exercise his vote at company meetings , Pender v Lushington (1870) 6 Ch D 70. However, note Mc Dougal v Gardiner

(1875) 1 Ch D 1 & Standard Chartered Bank v Walker [1992] BCLC 603

Unenforceable rights

Although obligations classed as "insider rights" are enforceable by the membership of a company, other obligations

contained within the company's constitutional documents, which may be termed “outsider rights”, are generally

regarded as unenforceable, see, Hickman v Kent and Romney Sheepbreeders Association Ltd [1915] 1 Ch 881,

Beattie v E & F Beattie Ltd [1938] Ch 708, at p.714.) Eley v Positive Government Security Life Insurance (1876) 1 Ex D

88 and Browne v La Trinidad (1877) 37 Ch D 1.

The indirect enforcement of "outsider rights"

Where the "outsider right" is held by a member of the company, the right, whilst unenforceable in respect of the

generally accepted judicial interpretation of the s.14 contract (see above), may, in certain circumstances be held to be

indirectly enforceable, see eg Quinn & Axten v Salmon [1909] AC 442, Pulbrook v Richmond Mining Co (1878) 9 Ch D

610 and Imperial Hydropathic Co v Hampson (1882) 23 Ch D 1. A more modern example of the apparent enforcement

of an "outside right" is found in Rayfield v Hands [1960] Ch 1.

COMPANY DRECTORS TOPIC 4

The management of a company’s affairs will ordinarily reside in persons specifically appointed to hold office as

company directors (de jure directors). Collectively, persons appointed to act as company directors will be members of

the company’s board of directors. In addition to a formally appointed director, the law may also class a person as a

director of a company in circumstances where the degree of his/her responsibility and authority in the management of

a company’s affairs equates to the position of either a de facto or shadow director. The board of directors, together

with persons expressly or impliedly authorised to act on the board’s behalf, represent the brain: the nerve centre of

the corporate body. Against this backcloth of corporate power, fiduciary, common law and statutory duties have

evolved in an attempt to eradicate abuses of power.

FIDUCIARY DUTIES

The codified duties are as follows:

The duty to act for a proper purpose (s.171 CA 2006)

A director of a company must act in accordance with (a) the company’s constitution (b) only exercise powers for the

purposes for which they were conferred.

Although a director may honestly believe that in entering into a transaction he/she is acting in the best interests of the

company as a whole, he/she will nevertheless be held to be in breach of a fiduciary duty if, objectively, the director's

conduct amounts to conduct outside or in abuse of the director’s allocated powers (see e.g. Hogg v Cramphorn

[1967] Ch 254).The duty amounts to one whereby a director must act for a proper purpose in the exercise of his/her

powers. (see e.g. the Privy Council’s decision in Howard Smith Ltd v Ampol Petroleum Ltd [1974] AC 821). The court

must therefore seek out the dominant purpose in relation to the use of a power to determine whether the proper

purpose duty has been infringed (also see, Lee Panavision Ltd v Lee Lighting Ltd [1992] BCLC 22) (Note: Cayne v

Global Natural Resources plc [1984] 1 All ER 225).

(s.172 CA 2006)

(1) A director of a company must act in the way he considers, in good faith, would be most likely to promote the

success of the company for the benefit of its

members as a whole, and in doing so have regard (amongst other matters) to—

(a) the likely consequences of any decision in the long term,

(b) the interests of the company’s employees,

(c) the need to foster the company’s business relationships with suppliers,

customers and others,

(d) the impact of the company’s operations on the community and the

environment,

(e) the desirability of the company maintaining a reputation for high

standards of business conduct, and

(f) the need to act fairly as between members of the company.

(2) Where or to the extent that the purposes of the company consist of or include

purposes other than the benefit of its members, subsection (1) has effect as if

the reference to promoting the success of the company for the benefit of its

members were to achieving those purposes.

(3) The duty imposed by this section has effect subject to any enactment or rule of

law requiring directors, in certain circumstances, to consider or act in the

interests of creditors of the company.

(see e.g. Re Smith & Fawcett Ltd [1942] Ch 304, Fusion Interactive Communication Solutions Ltd v Venture

Investment Placement Ltd [2006] BCC 187). In considering whether a director is in breach of this duty the court must

determine whether the director considered that he/she (applying a subjective test) was acting for the benefit of the

company as a whole, (see e.g., Extrasure Travel Insurances Ltd v Scattergood [2003] 1 BCLC 598). In construing the

bona fide duty it must also be observed that even if a director is not in breach of this particular duty, his/her conduct

may still be viewed to be contrary to the proper purpose rule (s.171 CA 2006, see above) (see e.g., Bishopsgate

Investment Management Ltd [1993] BCC 140).

A director owes his/her duties to the company (in the form of the shareholders as a collective body) in which he/she

holds office and does not, for example, owe duties to specific individual shareholders or other third parties (see e.g.

Percival v Wright [1902] 2 Ch 421, Heron International v Lord Grade [1983] BCLC 244, note, Court of Appeal in

Peskin v Anderson [2001] BCC 874. Although a director must seek to promote the success of the company for the

benefit of its members as a whole, s.172(1)(a-f) CA 2006 does provide that in aiming to achieve corporate success,

directors must act fairly between members, take into account the interests of employees, suppliers and customers.

Directors must also take account of the interests of affected communities and the environment. However, here the

intent of the legislation is vague. A creditor’s interest (s.172(3) CA 2006): When a company is close to or actually

enters into a state of insolvency (defined by s.123, IA 1986, as a situation where a company’s liabilities exceed its

assets), it is apparent that the interests of creditors will begin to outweigh those of the general body of shareholders

(see e.g., Mercia Safetywear Ltd v Dodd [1988] BCLC 250 and Whalley (Liquidator of MDA Investment Management

Ltd) v Doney [2004] BPIR 75).

The duty to act with independent judgment (s.173 CA 2006)

Section 173 CA 2006, provides that:

(1) A director of a company must exercise independent judgment.

(2) This duty is not infringed by his acting—

(a) in accordance with an agreement duly entered into by the company

that restricts the future exercise of discretion by its directors, or

(b) in a way authorised by the company’s constitution.

A director of a company must exercise independent judgment and should not be subject to considerations or

influences that would deter him/her from acting otherwise than in the best interests of the company as a whole.

However, this duty will not be infringed where a director acts in accordance with the terms of the company's

constitution or in respect of an agreement duly entered into by the company restricting the future exercise of

discretion by its directors.

Although a director will exercise corporate powers in a fiduciary capacity and as such it may be assumed that he/she

may not, by a contractual agreement or otherwise, fetter the future exercise of such powers, commercial reality

dictates that it may be necessary for a director to bind the company to a specific course of future conduct. The case

of Fulham Football Club Ltd v Cabra Estates plc [1992] BCC 863, validates this point of view.

The Duty of Care (s. 174 CA 2006)

Section 174 CA 2006 states that:

(1) A director of a company must exercise reasonable care, skill and diligence.

(2) This means the care, skill and diligence that would be exercised by a

reasonably diligent person with—

(a) the general knowledge, skill and experience that may reasonably be

expected of a person carrying out the functions carried out by the

director in relation to the company, and

(b) the general knowledge, skill and experience that the director has.

The standard of care required of a director is not measured by a universal professional standard applicable to

directors as a class, but, in part, is dependent upon the abilities and qualifications of the individual director in

question, see (in Re Duomatic [1969] 2 Ch 365 In accordance with cases such as, Lister v Romford Ice & Cold

Storage Ltd [1957] AC 555, Norman v Theodore Goddard [1991] BCLC 1028 and Re D’Jan of London Ltd [1993]

BCC 646, a director need not exhibit in the performance of his duties any greater degree of skill than could be

expected from a reasonable diligent person in circumstances where the diligent person is imputed with the general

knowledge, skill and experience that may reasonably be expected of the holder of the position in question. ( see e.g.,

Dorchester Finance Co Ltd v Stebbing [1989] BCLC 498).

The Conflict of Interest Duty (s.175 CA 2006)

(1) A director of a company must avoid a situation in which he has, or can have, a direct or indirect interest that

conflicts, or possibly may conflict, with the

interests of the company. This duty does not apply to a conflict of interest arising in relation to a transaction or

arrangement with the company. This duty is not infringed—if the matter has been authorised by the directors.

In its simplest form, may be described as a duty of loyalty and fidelity, a duty which prohibits a company director from

exploiting or potentially exploiting a corporate opportunity, corporate property or information (see e.g., Bhullar v

Bhullar [2003] 2 BCLC 241). A director will be in breach of the conflict of interest duty even where the company could

not, of itself, have benefited from the opportunity in question. The conflict of interest duty is strict in the sense that it

fails to distinguish between directors who have purposely set out to exploit a corporate opportunity for their own

benefit and (ii) directors who personally profit from a corporate opportunity where the company was, at the time of the

opportunity, unable or unwilling to act upon the opportunity, see eg, n Regal (Hastings) Ltd v Gulliver [1942] 1 All ER

378, reported at [1967] 2 AC 134. However, a director or ex- director) will not be in breach of the duty where the

company itself successfully exploits a business opportunity and as a result of that exploitation the director obtains an

ancillary benefit, see e.g., Framlington Group plc v Anderson [1995] BCC 611).

Duty not to accept any benefits from a third party (s.176 CA 2006)

Section 176 CA 2006: A director must not accept a benefit from a third party conferred by reason of (a) his

being a director, or(b) his doing (or not doing) anything as director. 176 CA 2006 expands the definition of a

conflict of interest to encompass a situation precluding a director of a company from personally benefiting from the

provision of a service/information to a third party, a benefit conferred on the basis of the director's office.

Disclosure and the waiver of the conflict of interest duty (s.177 CA 2006)

A conflict of interest may be excused where it is disclosed to the directors of the company. The board of directors

(i.e., members of the board who are independent of the conflict) may vote to waive any potential conflict of interest,

other than where the company's constitution prohibits waiver. However, it is to be noted that in the case of a public

company, the company’s constitution must specifically allow for a waiver of the conflict of interest, (in effect, this

duplicates the previous position under the CA 1985, i.e. Table A, Art 85). Further, in respect of both a public and

private company, a transaction giving rise to a conflict of interest may, (if it is not waived by the directors) as with any

breach of duty, be waived by the general meeting (albeit the director with the conflict of interest will not be allowed to

vote on the matter, (i.e. as a member of the company). Following the decision of the Court of Appeal in Lee

Panavision Ltd v Lee Lighting Ltd [1992] BCLC 22, disclosure of an interest may be given informally without any need

for the interest to be declared at a formal board meeting (also see, Runciman v Walter Runciman plc [1992] BCLC

1084). The disclosure must specify the nature and extent of the conflict of interest. However, a sole director of a

company is not subject to the formal disclosure requirement and here the effect of the CA 2006 overturns the

decision of Lighman J in Neptune (Vehicle Washing Equipment) Ltd v Fitzgerald [1995] BCC 474.

THE CONSEQUENCES OF A BREACH OF DUTY/CONFLICT OF INTEREST

Where a director is discovered to be contemplating the pursuit of a transaction, which, if completed, would amount to

a breach of duty or a breach of the conflict of interest rule, the company may apply for an injunction to restrain the

commission of the breach. In circumstances where a breach of duty or a breach of the conflict of interest rule has

actually occurred, the director in breach may be liable to account for any profit made or loss sustained as a result of

his transgression. However, save in a situation where a breach of duty or a breach of the conflict of interest rule

results in a fraud on the minority, the company may legitimately excuse the breach by the passing of an ordinary

resolution.

DIRECTORS PERSONAL LIABILITY Topic 5

A DIRECTOR’S LIABILITY UNDER SPECIFIC PROVISIONS OF THE INSOLVENCY ACT 1986

One of the most serious attempts to safeguard the interests of corporate creditors is provided by the statutory

obligations placed upon directors and officers of a company in respect of their potential personal liability for the debts

and liabilities of the company, following the company’s slide into a state of insolvency. In accordance with the

statutory provisions discussed below, a company may be viewed to be insolvent in a situation where its liabilities

exceed its assets (see s 123(2), IA 1986).

Section 212 of the Insolvency Act 1986 (misfeasance proceedings) .This is a procedural device and provides a

summary remedy whereby persons who were involved in the management of a company (now in liquidation) may be

held accountable for any breach of duty or other act of misfeasance. For example, where a director misappropriated

funds from the company for his own personal use, see Re Gemma Ltd (In Liquidation) [2008] 2 B.C.L.C. 281.

Proceedings under section 212 may only be pursued where, prior to a company’s liquidation, the misconduct that

forms the subject matter of the misfeasance claim, was capable of being made the subject of an action by the

company. Under section 212, misfeasance proceedings may be commenced in circumstances where a director is in

breach of any of his corporate duties, see generally, Re D’Jan of London Ltd [1993] BCC 646., G had given no

substantive explanation for the misappropriation of company funds to pay off the mortgage, and it was clear that they

had been used for his and D's personal benefit, so L were entitled to an order for payment of those sums by G.

Section 213 of the Insolvency Act 1986 (fraudulent trading). Provision purports to impose a civil liability for fraudulent

trading. Appplies If in the course of the winding up of a company it appears that any business of the company has

been carried on with intent to defraud creditors of the company or creditors of any other person, or for any fraudulent

purpose, the following has effect.Fraudulent trading willbe established in a situation where a person allowed the

company’s business to be carried on when he/she was fully aware that the company had no realistic prospect of

being able discharge a debt or debts. Liability will fall on a person who knowingly participated in the carrying on of a

company’s business with an intention to defraud creditors of the company or creditors of any other person, or for any

fraudulent purpose.

Extent of liability : Where a person is found liable for fraudulent trading that person may be compelled to make such

contributions (if any) to the company’s assets, as the court thinks proper. Notwithstanding that the fraudulent trading

activities of a company may have predominantly caused damage to an individual creditor, any contribution which the

court orders to be paid will be allocated to discharge the collective debts of the company’s unsecured creditors.

Section 214 of the Insolvency Act (wrongful trading)

Section 214 only applies where a company is in liquidation. The claims brought by the liquidator under s.214, cannot

be treated as a claims brought by the company. A director of a company may incur a personal responsibility for the

repayment of corporate debts in circumstances where the director allowed the company to continue to trade, at a

date up to the commencement of the company’s winding up, when he knew or ought to have concluded that there

was no reasonable prospect of the company being able to avoid insolvent liquidation. For a court to reach the

conclusion that a director ought to have been aware that there was no reasonable prospect of the company avoiding

liquidation, the liquidator must establish that the director’s expectation of the company’s ability to halt its decline into

liquidation was unreasonable. see Re Sherbourne Associates Ltd [1995] BCC 40 see e.g. Re The Rod Gunner

Organisation Ltd [2004] 2 BCLC 110, Re Produce Marketing Consortium Ltd [1989] 5 BCC 569, Rubin v Gunner &

Anor [2004] B.C.C. 684. Liability under section 214 may be avoided in circumstances where the section 214(3)

defence is satisfied. The defence will be established where the court is convinced that the director, on first becoming

aware that there was no reasonable prospect of the company avoiding liquidation, took every step with a view to

minimising the potential loss to the company’s creditors. Where the court finds that a director was a party to wrongful

trading, the court may order the director to contribute towards the assets of the company (as under s 213). The extent

of a director’s liability under section 214 will be calculated according to the effect that the director’s conduct had on

the company’s losses as from the date that the director should have reasonably concluded that the company had no

reasonable prospect of avoiding an insolvent state, see e.g. Re Purpoint Ltd [1990] BCC 121.

Sections 216 and 217 of the Insolvency Act 1986 (the phoenix syndrome)

These seek to limit the ease in which a person, trading through the medium of a company, may liquidate the

company, form a new company and then carry on trading much as before. The potentially prejudicial effect of a

phoenix company is most apparent where, prior to liquidation, the controllers of the failed company purchase the

company’s assets at a significant undervalue and then employ the assets for the benefit of the phoenix company

or/and where the phoenix company adopts a name which is the same as or closely associated with the name of the

liquidated company, in an attempt to benefit from any goodwill which that company may have built up.

Names: See, Archer Structures Ltd v Griffiths [2004] BCC 156, Ricketts v Ad Valorem Factors Ltd [2004] BCC

.Although section 216 may be viewed as a strict liability offence (see R v Cole, Lees & Birch [1998] BCC 87), it must

be observed that there are important exceptions that preclude the provision’s operation. The said exceptions are

contained in section 216(3). see e.g. Re Bonus Breaks Ltd [1991] BCC 546, Penrose v Official Receiver [1996] 1

BCLC 389 and Re Lightning Electrical Contractors [1996] BCC 950. In accordance with section 217 of the Insolvency

Act 1986, a person who is found guilty of an offence under section 216 is also personally liable for the debts of the

company. Following a contravention of section 216, any creditor of the successor company may seek to recover a

debt or other outstanding liability from any person who, in accordance with section 217, is deemed to be personally

responsible for the relevant debts of the company see, Thorne v Silverleaf [1994] BCC 109.

MINORITY SHAREHOLDERS (Topic 6)

THE RULE IN FOSS V HARBOTTLE (protection of company)Where a wrong is committed against the company, the

company will be the proper plaintiff to instigate proceedings. An action brought in the company’s name without the

support of the general meeting will ordinarily be struck out by the court and will render the applicant and his solicitor

personally liable to pay the costs of the litigation. Accordingly, if an individual shareholder (or a group of shareholders)

wishes to pursue an action on behalf of the company without the support of the general meeting, the action must be in

the derivative form. To so proceed, the shareholder(s) must convince the court that the wrong against which the

complaint is made was a wrong perpetrated by persons in control of the company’s affairs. The wrong must be of a

serious nature: “a fraud on the company.” The protection of minority interests is regulated by the rule taken from the

judgment of Wigram V-C in the case of Foss v Harbottle (1843) 2 Hare 461.

EXCEPTIONS TO THE RULE IN FOSS v HARBOTTLE At Common Law (Now Redundant in the light of s.260 CA

2006, see below)

To protect and correct any abuse of this guardianship, the courts must, in appropriate circumstances, depart from the

concept of majority rule.. A minority shareholder of a company may prima facie pursue a derivative action in

circumstances where the company is the victim of a fraud. see e.g. Cook v Deeks [1916] 1 AC 554, Daniels v Daniels

[1978] Ch 406, Estmanco v Greater London Council [1982] 1 All 204 ER, Prudential Assurance Co Ltd v Newman

Industries (No 2) [1982] Ch. 437.

NEW STATUTORY DERIVATIVE ACTION UNDER THE CA 2006

The creation of the statutory derivative action is an attempt to provide a minority shareholder with a more accessible

method of challenging corporate wrongdoing; the action is regulated by ss. 260 -264 CA 2006. The ability to pursue a

derivative action is particularly crucial in relation to public companies where corporate mal-practice may be hidden

and unwittingly tolerated by a majority of the company’s shareholders. Section 260 (2) CA 2006, permits a derivative

action to be brought in pursuance of an order of the court in proceedings under s.994 CA 2006. However a distinct

procedure for commencing a statutory derivative action is provided by s.260(3) CA 2006, namely, a derivative claim

may be commenced in respect of a cause of action arising from an actual or proposed act or omission involving

negligence, default, breach of duty or breach of trust.

THE UNFAIR PREJUDICE REMEDY (protection of individual shareholder(s))

Previously S.459 CA 1985 (now s.944 CA 2006) - A member of a company may apply to the court by

petition for an order … on the ground that the company’s affairs are being or have been conducted in a

manner which is unfairly prejudicial to the interests of its members generally or some part of its members

(including himself) or that any actual or proposed act or omission on the part of the company (including an

act or omission on its behalf) is or would be prejudicial.’

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Membership Interest

The phrase “membership interests” includes the legal rights of membership, that is rights protected by the companies

legislation and rights attached to the constitution However, the distinction between membership rights and

membership interests is obscure- see Re Carrington Viyella plc [1983] 1 BCC 98, 951, Re a Company (No 008699 of

1985) [1986] BCLC 382,. It is established that a member of a small domestic/quasi partnership private company may

have a legitimate expectation to participate in the management of the company in circumstances where the

membership interest was related to some form of express or implied understanding confirming that member’s

expectation to participate in the management of the company’s affairs, see e.g. R & H Electrical Ltd v Haden Bill

Electrical Ltd [1995] BCC 958, Quinlan v Essex Hinge Co Ltd [1996] 2 BCLC 417 and Re Eurofinance Group Ltd

[2001] BCC 551.

In Re J E Cade & Son Ltd [1991] BCC 360, held that a petitioner’s claim didn’t have to be based upon the strict legal

rights of membership although it could not be subject to expectations founded on a general concept of fairness (i.e.

expectations which were unrelated to the legal rights of membership). Held that the definition of a membership

interest should be strictly confined to legal rights or obligations that were related to strict legal rights, for example,

terms of a company’s constitution, a director’s service contract or an express shareholder agreement, ie

considerations unconnected to the strict legal rights of membership could not, for the purposes of section 459 (and s

122(1)(g), IA 1986), found appropriate grounds upon which relief could be sought. The interpretation of a

“membership interest” so expounded by Warner J in Re J E Cade would now appear to be settled as the acceptable

norm in construing section 459. This view was confirmed in O’Neill v Phillips; the first case under section 459 to be

considered by the House of Lords. The position after O’Neill v Phillips is that a section 459(994) action cannot

ordinarily be sustained where the alleged membership interest is not linked to an enforceable legal right. Where a

legally binding agreement fails to incorporate a member’s expectation, it may be possible to imply the expectation

(term) as under the general law of contract, or subject the legal right to equitable considerations in the case of a

quasi-partnership company. Here the enforceable implied expectation/right must flow from the common expectations

of the membership of the company.

Public Companies

The section 994 provision is generally applicable to the shareholders of private companies and more especially those

of a type often refereed to as quasi partnership/ domestic companies (i.e. companies founded on the principles of

mutual trust and confidence). The practical application of section 994 to shareholders of public companies would

appear doubtful, see Astec (BSR) plc [1999] BCC 59.

The available remedies to an action under section 994

Section 996 CA 1985. The courts have a very wide discretion in determining the nature of the relief under section 996

and in accordance with this section may make “an order as it thinks fit.” A list of some examples of the type of orders

which are available is given in section 996. The most common type of order sought is the purchase of the petitioner’s

shares. In such cases the valuation of shares will be of paramount importance. The underlying theme in determining

the value of shares is that of fairness, see Re London School of Electronics Ltd [1986] Ch 211, Scottish Co-operative

Society v Meyer [1959] AC 324,Re Cumana Ltd [1986] BCLC 430, In most cases involving a share purchase order,

the order will be to the effect that the majority purchase the petitioner’s shares. Nevertheless, it is possible for the

court to decide that the minority shareholder should be permitted to purchase the majority’s holding; see e.g. Re

Brenfield Squash Racquets Club [1996] 2 BCLC 184 and Re Nuneaton Borough AFC Ltd (No 2) [1991] BCC 44

(discussed below).

Section 122(1) (g) Insolvency Act 1986

Winding up on the just and equitable ground. A company may be wound up on the premise that its liquidation would

provide a just and equitable remedy. In all cases, the courts will require the petitioner to establish the following:

Tangible interest : the company is solvent and would be solvent after the payment of its debts (see e.g. Re

Expanded Plugs Ltd [1966] 1 WLR 514). The qua member requirement : A petitioner must petition in his capacity as

a member and the interest that he/she seeks to protect must be a membership interest, see Re J E Cade & Son Ltd

[1991] BCC 360: Just and equitable considerations based upon an interest which is linked to a legal right of

membership.

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THE LEGAL NATURE AND CHARACTERISTICS OF HOLDING SHARES TOPIC 7

TYPES OF SHARES

A company may create different types of shares, ie the legal rights of a particular type of share (class rights) may vary

from those of other types of shares issued by the company. The legal rights attached to shares comprise: rights as to

dividend payments;voting rights; and rights to the return of capital on an authorised reduction of capital or on a winding

up of a company.

Ordinary shares

Ordinary shares generally have no special rights , however an ordinary shareholder is given the right to vote at general

meetings. Dividends payable on ordinary shares are paid after dividends have been paid to preference shareholders.

Preference Shares

A preference share is a share to which certain preferential rights are attached. However, a preference shareholder will

ordinarily have no right to vote at general meetings. Yet where the constitution or specific issue fails to specify the

voting rights preference shareholders will have the same rights as ordinary shareholders - this will be very unlikely.

The most common distinctive attribute attached to a preference share is the preferential payment of dividends in priority

to other types of shares. The terms of the relevant regulations exclusively define the rights attached to a class of

shares, see eg Scottish Insurance Corporation Ltd v Wilsons & Clyde [1949] AC 462, Birch v Cropper (1889) 14 App

Cas 525.

CLASS RIGHTS

Usually, the class rights attached to a particular type of share are determined by examining the contents of a

company’s constitution, the terms of a particular share issue or, the terms of a special resolution related to a

particular class of shares (see e.g., Re Old Silkstone Collieries Ltd [1954] Ch 169). Further, class rights may be

created by the terms of a shareholders’ agreement (see e.g., the decision of the Court of Appeal in Harman v BML

Group Ltd [1994] 2 BCLC 674, where the terms of a shareholder agreement were upheld in respect of affording the

holder of a class of shares an absolute right to be present at all shareholder meetings). In addition, class rights may

also be created where, by the terms of a company’s constitution, rights have been conferred on a particular member

of the company notwithstanding that the rights are not specifically attached to the shares held by the said member

(see e.g., Cumbrian Newspapers Group Ltd v Cumberland & Westmorland Herald Newspaper & Printing Co Ltd

[1987] Ch 1, where as a condition of the acquisition of shares in Cumberland the company's articles were altered to

provide the purchaser with specific rights designed to prevent an outside party from acquiring control of the

company).

The variation of class rights

S.630 (5) CA 2006 provides that an alteration of a provision contained in a company’s articles to vary the rights of a

class of shareholders or the insertion of such a provision into the articles, is to be construed as a variation of class

rights. Further, the abrogation of the class rights of a class of shareholders is deemed to be a variation of those rights

(s.630(6) CA 2006). However the cancellation of an entire class of shares may not always be construed as a variation

of the rights of the shareholders of that class. For example, if a company chooses to reduce its capital it may cancel

all of its preference shares in circumstances where the preference shares were afforded a preferential return of

capital (see e.g., Re Saltdean Estate Co Ltd [1968] 1 WLR 1844). However, in determining whether preference

shareholders have a preferential right to a return of capital in circumstances resulting in a cancellation of the shares,

it is essential to construe the company’s constitution or the terms of the share issue. see e.g., the decision of the

Court of Appeal in Re Northern Engineering Industries plc [1994] 2 BCLC 704). As a general rule, in determining

whether a variation of class rights has taken place the courts draw a distinction between the rights of a class of

shareholder and the enjoyment of those rights see e.g., Greenhalgh v Arderne Cinemas Ltd [1946] 1 All ER 512).

However, it should be noted that in accordance with s.618 CA 2006, that unless a company's articles otherwise

preclude, a company may pass an ordinary resolution to sub-divide its shares, or any of them, into shares of a

smaller nominal amount than its existing shares, or consolidate and divide all or any of its share capital into shares of

a larger nominal amount. If a company decides to vary the rights attached to a particular class of its issued shares it

must follow the procedure contained in s.630 CA 2006. Section 630 simplifies the previous procedure, regulated by

s.125 CA 1985.

Section 630 of the Companies Act 2006

Prior to implementing the variation, the company must comply with any internal constitutional procedures attached to

the variation of the class of share in question. In all cases of a proposed variation and in accordance with s. 630 CA

2006, the procedure for a variation of class rights will be determined by either:

(a) the consent in writing from the holders of at least three quarters in nominal value of the issued

shares of the class or, (b) a special resolution passed at a separate general meeting of the holders of

the class seeking to sanction the variation. (Here, the majority vote requirement may be greater (but

not less) than the seventy five per cent requirement, i.e. if the company’s constitution so provides).

The minority’s right to object to a variation of class rights

Where a decision is taken to sanction a proposed variation of class rights under s. 630 CA 2006 and a minority of the

class object to the terms of the variation, the minority may, if they hold at least 15 per cent of the shares of the class

to be varied and providing they did not consent to or vote in favour of the variation, apply to the court to have the

variation cancelled (s.633 CA 2006).

TYPES OF SHARE ISSUES

Rights issue (pre-emption rights)

S.561 CA 2006 , where a company offers an issue of equity securities (ordinary shares) for cash, it must, in the first

instance, make the offer to its existing ordinary shareholders. A “rights issue” must be made in direct proportion to the

number of shares held by each ordinary shareholder. Pre-emption rights may be excluded by a specific provision

contained in the articles of a private company. The exclusion may be general one in relation to the allotment by the

company of equity securities, or may be in relation to allotments of a particular description. Further an existing

shareholder’s right of pre-emption does not apply in relation to the allotment of bonus shares, shares issued under an

employees shares scheme..

Disapplication of pre-emption rights

A private company with only one class of shares may disapply pre-emption rights in relation to the allotment

of shares or apply pre-emption rights to the allotment with such modifications as the directors may

determine, providing the power to disapply is contained in the company’s articles or the power is authorised

by a special resolution (s.569 CA 2006).

A bonus issue

Shares may be issued as bonus shares to the existing ordinary shareholders of a company where a company uses

reserve funds to pay up unissued shares. The articles of a company will usually require an ordinary resolution to be

passed to sanction the bonus issue.

Redeemable shares

A share which is issued under the condition that it may be redeemed by the issuing company at some specified date

in the future (the redemption date) at the option of the company or the shareholder is referred to as a redeemable

share (s.684 CA 2006).

THE CLASSIFICATION AND MAINTENANCE OF SHARE CAPITAL

MAINTENANCE OF SHARE CAPITAL

A company’s share capital represents the shareholders’ investment in the company; it comprises sums received from

the issue of shares, together with any sums held in the company’s share premium account or other statutory capital

reserves such as the capital redemption reserve. In relation to accounting procedures, the company’s share capital

represents a notional liability, namely, in theory, on the winding up of the company it would, following the payment of

creditor debts, be returned to shareholders. However, in practice the capital maintenance rules are designed to

safeguard the interests of creditors, to ensure that capital is maintained as a secure fund, one which cannot (other

than following a winding up) be distributed to shareholders. A company’s net assets must be maintained in

conjunction with the company’s notional liability. A company’s share capital represents a measure by which asset

values should correspond. While a company is a going concern, its capital cannot be returned to shareholders in the

form of dividend payments. A company’s capital assets are used to generate future wealth and profit; such profit may

be distributed to shareholders in the form of dividend payments. A company’s capital assets represent security upon

which loan funds may be raised.

REDUCING SHARE CAPITAL

It may be expedient for a company to reduce its issued share capital (by returning capital to a part of the shareholding

body). For example, following a hefty fall in the value of a company's assets, it may be necessary to reduce the

company’s share capital to retain a capacity to make future dividend payments. However, in so far as a reduction of

share capital may be prejudicial to the interests of a part of the company's shareholders or cause anxiety amongst the

company's creditors, the CA 2006 provides statutory confirmation of a long established principle of company law (see

Trevor v Whitworth (1887) 12 App Cas 409), namely a company may not, as of right, reduce its share capital.

However, a company may reduce its share capital in accordance with the procedures contained in s.641 CA 2006 or

alternatively under the court procedure governed by s.645 CA 2006.

Section 641 procedure (private companies)

Section 641(1) provides that a private company may (notwithstanding that the right to reduce capital is not contained

in its articles) reduce its share capital where:(a) the company passes a special resolution to sanction the reduction

and;(b) the directors of the company, in complying with s.642 CA 2006 issue a solvency statement not more than 15

days before the date on which the special resolution is passed. A copy of the solvency statement together with a

statement of capital must be delivered to the registrar within 15 days of the passing of the resolution (s.643 CA 2006).

The court procedure (public & private co’s)

The alternative procedure is governed by s.645 CA 2006: (a)The company must pass a special resolution to sanction

the reduction in share capital and; (b)The company must obtain the court’s approval for the reduction. In deciding

whether to sanction a company’s reduction of share capital, the court's principal concern will be to consider the effect

of the reduction on the company’s ability to repay its debts (see, Poole v National Bank of China [1907] AC 229).

Creditors right to object see, s. 646 CA 2006,

THE PURCHASE OF A COMPANY'S OWN SHARES

Sections 690 to 691 CA 2006 (previously s. 162 CA 1985) provide that a limited company (with a share capital) may,

subject to any restriction in its constitution, purchase its own shares (providing they are fully paid up), irrespective of

the fact that the shares were not issued as redeemable shares. Where a limited company purchases its own shares,

the shares must be paid for on purchase. A purchase/redemption of shares will not constitute a reduction of capital in

the context of capital maintenance rules providing the capital reserves of the company are maintained at the level

pre- the company's purchase of its shares. However, a limited company may not purchase its own shares if, as a

result of the purchase, there would no longer be any issued shares of the company other than redeemable shares or

shares held as treasury shares. In accordance with a company’s ability to purchase its own shares (see s.692 CA

2006), a private limited company may purchase its own shares out of capital or (as in the case of a public limited

company) out of its profits or from the proceeds of a new issue of shares; the new issue having been specifically

created for the purpose of purchasing the company’s existing shares.

PAYMENT OUT OF CAPITAL (Private Companies only)

A private company may redeem or purchase its own shares out of capital providing it is authorised to do so by its

constitution (s. 709 CA 2006). However, a private company may only expend capital (the permissible capital

payment) to purchase its own shares if, together, any available profits and the proceeds of any new issue of shares

made for the purposes of the redemption or purchase are of an insufficient value to facilitate the redemption or

purchase.

Directors’ statement and auditor’s report

A private company that intends to expend capital for the purpose of purchasing its own shares will, in accordance

with s.714 CA 2006, require a statement from the company’s directors specifying the amount of the permissible

capital payment for the shares in question.

Payment approved by special resolution

A private company that intends to expend capital to purchase its own shares will require the general meeting to

authorise the reduction by means of a special resolution. (s.716 CA 2006).

Objection to a reduction in capital

Any member of the company who did not vote in favour of the resolution, or any creditor of the company, may, within

five weeks from the date of the special resolution sanctioning the reduction in capital, apply to the court for an order

to prohibit the payment (s 721 CA 2006).

LOAN CAPITAL (Topic 8)

The availability of credit facilities is an integral part of the commercial world in which limited companies operate.

Banks and other institutions that operate credit facilities often demand security to counter the potential risk of default;

security normally takes the form of a charge on the assets of the debtor company. THE DEBENTURE

A document, which purports to acknowledge a credit arrangement between a company and a creditor, is commonly

referred to as a debenture. There is no precise legal definition of a debenture, see, for example, the judgment of

Bowen LJ in English & Scottish Mercantile Investment Trust v Brunton [1892] 2 QB 700.

SECURITY INTERESTS

When a company wishes to raise finance, especially long-term finance, it will almost inevitably be obliged to give

security for the amount it wishes to borrow.

The mortgage/legal charge

The essential characteristic of any mortgage, be it of a legal or equitable nature, is that it is a conveyance of an

interest in property with a provision for redemption.

The fixed/specific charge

A fixed charge (alternatively referred to as a specific charge) is generally regarded as a type of mortgage and is

equitable in its character. However, unlike a mortgage, a fixed charge does not involve a conveyance of any interest

in the assets that form the subject matter of the security, but merely gives the chargee certain rights over the charged

property.In order to create a fixed charge over a corporate asset, the asset in question must be identifiable, although

it need not be in existence at the time the charge was created, see e.g. Re Yorkshire Woolcombers Association Ltd

[1903] 2 Ch 284, (i.e. a fixed charge may attach to future property).

The floating charge

The floating charge is a device which can only be given as security for a debt incurred by a limited company. The

origins of the floating charge may be traced back to the Panama case (1870) 5 Ch App 318. The nature of a floating

charge is such that the charge does not attach itself to a specific corporate asset until an event, “crystallisation”

occurs. The floating charge is created over a class of assets which by their very nature are deemed to lack a degree

of permanence, thus preventing them being readily identified (i.e. the assets are of a constantly changing nature).

Property to which a floating charge is likely to be attached will include, stock, plant, tools and other transient assets of

a company. In Illingworth v Houldsworth (Re Yorkshire Woolcombers Association Ltd) [1903] 2 Ch 284, Romer LJ

tentatively identified the floating charge as possessing the following characteristics:a charge on all of a class of

assets of the company present and future; a class of assets which in the ordinary course of a company’s business

would be changing from time to time; a charge which would allow the company to carry on its business in the ordinary

way, (i.e. the company would have the ability to trade in the assets which were subject to the floating charge).

Crystallisation of the floating charge

A company may continue to deal with assets which are the subject of a floating charge up until the time the charge

crystallises, see e.g. Re Borax [1901] Ch 326. A floating charge will crystallise when a creditor takes action to realise

the security following the happening of a specified event, (i.e. the event will be specified within the debenture

document, for example, non payment of interest.)

The advantages and disadvantages of the floating charge

The principal advantage of the floating charge is that it allows a company to offer a secured form of loan without

seriously restricting the company’s ability to carry on its business. Further, the company’s ability to offer this type of

security interest attracts creditors who might otherwise have been reluctant to offer finance. Although a creditor,

having taken a floating charge, will not have his loan secured to the same degree as if secured by a fixed charge or

mortgage, the floating charge security interest is better than none at all and indeed, after the Enterprise Act 2002, the

floating charge security is, in terms of priority interests, far stronger than was previously the case . However, a

theoretical if not practical disadvantage of the floating charge is that the security interest is dependent upon a class of

assets which, in terms of their volume and therefore value, may depreciate, even to a level which falls below the

amount of the loan secured by the charge. Another important advantage of a floating charge, where the charge was

created pre- September 15th

2003, is that the chargeholder will be able to appoint an administrative receiver (defined

by s 29(2) of the Insolvency Act 1986) to realise the security interest. An administrative receiver, although subject to

priority rules, acts as an agent to protect the interests of the chargeholder; the position carries extensive powers (see

Sch 1 of the Insolvency Act 1986). However, with the coming into force of the Enterprise Act 2002, a floating

chargeholder, having taken a floating charge security after 15th

September 2003, will, save in very exceptional and

well defined circumstances, be unable to appoint an administrative receiver but must now appoint an administrator to

realise the security. The said exceptional circumstances relate to larger corporate lending agreements, such as

capital market investments of a minimum of £50 million.

The objective of the new administration system is one geared to corporate rescue and in accordance with a new Sch

B1(c) para.3(2) of the Insolvency Act 1986, the administrator must perform his functions for the interests of the

company’s creditors as a whole. While an express objective of the new administration regime is the realisation of

property for the purpose of making a distribution to one or more secured creditors, the administrator’s first duty, if

practicable, is to achieve a rescue of the company and also to achieve an equitable outcome for all of the company’s

creditors.

Distinguishing the floating and fixed charge

The distinguishing factor between a floating and fixed charge is the capacity of the company that created the

charge to dispose or deal with the charged asset. A floating charge will allow the chargor to dispose or deal

with the assets made subject to the charge without any form of substantive restriction, that is, until the

charge crystallises, Accordingly, a fixed charge will exist where the assets over which the charge is taken

cannot readily be disposed of or dealt with by the chargor without the chargee’s permission. In relation to a

floating charge, such a charge may still be construed as floating in character despite the fact that it contains

some form of restriction (albeit that the restriction must be very limited) on the chargor’s ability to freely

dispose of the assets charged in the ordinary course of the company’s business. For example, a floating

charge may well contain a negative pledge clause, the intended effect of which is to restrict the chargor from

creating future charges over the charged assets that would rank ahead of or pari passu with the floating

charge.

A fixed or floating charge? The problem cases – book debts

Judicial Interpretation: see Re Brightlife [1987] Ch 200 , Siebe Gorman & Co Ltd v Barclays Bank, Privy

Council in Agnew v Commissioner of Inland Revenue ( Re Brumark) [2001] 2 A.C.710, House of Lords in

National Westminster v Spectrum Plus Ltd [2005] UKHL 41, Re New Bullas Trading Ltd [1994] 1 BCLC 485.

Note, the validity of the decision of Slade J, in Siebe Gorman, is no more. The decision in Re New Bullas is

now a most dubious, if not extinct authority, As a precedent, Re Brightlife is now in the ascendancy.

Priority Position

1st) Fixed charge holders.

(2nd) Liquidation/Administration expenses

(3rd) Preferential creditors (but NOT Crown debts).

(4th) Floating charge holders (minus the sum representing the prescribed part, i.e. the reserve fund for

unsecured creditors).

(5th) Unsecured creditors (this group will now include preferential creditors, i.e. comprised of Crown

debts)

SEMINAR QUESTIONS :

Q1 "Although the rule in Salomon v A Salomon & Co Ltd [1897] AC 22, is subject to exceptions, these are inadequate

in curbing the potential injustices of this rule."

Q2 (a) What is the significance of a pre-incorporation contract?

(b) To what extent does the constitution contractually bind the company and its membership?

Q.3 To what extent should directors, when attempting to act in accordance with their statutory duties, have regard to

the interests of shareholders, employees, creditors or any other interested parties?

(b) “In the course of insolvency proceedings, where it is established that a director allowed the company to trade in

the knowledge that the company was insolvent, the director will inevitably incur personal liability under provisions of

the Insolvency Act 1986, ".

Discuss.

Q.4 Ted and Norm are directors of Popi Ltd, a small domestic company which produces spinach. Together they hold

80% of the issued share capital, in equal divisions. The remaining shares in the company are held by Tim and

Darren; both hold 10% of the issued share capital. At a recent board meeting, the company's chief gardener Alf,

suggested that the company purchase a new chemical fertiliser which he believed would double the production of the

spinach. Ted was reluctant to participate in this venture, although Norm was keen. After a heated argument, Ted

eventually agreed to give the new product a try. Although the fertiliser produced a much greater yield of spinach, the

quality of the vegetable was such that it could only be used as animal feed. As a result of the venture the company’s

status and worth declined. Ted was furious especially when he discovered that Norm had a collateral interest in the

new fertiliser; in so far as he owned a substantial block of shares in the company that produced it. Norm had never

disclosed this interest. At the company’s next general meeting Ted demanded that Norm be dismissed from his

directorship. However, Norm enlisted the support of Tim and Darren and as such the resolution was lost. Ted

resigned his directorship and now wishes to sell his shares in the company, but unfortunately cannot find a willing

buyer. Norm offered to purchase Ted’s shares but the price offered was only at a third of their true market value.

Advise Ted.

Q.5 (a) Explain the capital maintenance rules

(b) Is the case of Re New Bullas Trading Ltd [1994] 1 BCLC 485 still good law?

LAST YEAR’s EXAM PAPER (Obviously the format of the questions asked for this year’s paper will be

different !!!!!!!!!!!!!!!!!!)

Answer THREE questions only. Time allowed: 2hours and 15 mins.

Q1. “In seeking to protect the interests of minority shareholders, section 994 of the Companies Act 2006

is far more effective than the statutory derivative claim.”

Discuss this statement

Q2 Answer BOTH parts of this question:

(a) “In accordance with section 172 of the Companies Act 2006, a director must only act for the

benefit of the company’s shareholders.” Discuss this statement.

(b) “Section 175 of the Companies Act 2006 may be described as a duty of loyalty.” Discuss this

statement.

.

Q.3 Alan and Brian are the founders, shareholders and directors of AB Ltd, a small company which

manufactures toys. The company, founded in 1997, went into liquidation on May 1st 2008.

Initially the company had been funded by John, Alan's father, who loaned the company a sum of £10,000;

an amount secured by means of a floating charge over the company’s undertaking. This funding had been

supplemented by an overdraft facility of £7,000 from the Mid West Bank. By January 2nd 2006, AB Ltd

had run up an overdraft of £4,500. Mid West bank demanded security for the overdraft facility and a

charge was created in favour of the bank over the company's present and future book debts. The charge

was stated to be a fixed charge and further specified that the proceeds of any book debts should be paid

directly into a bank account to be held at the Mid West Bank. The Mid West bank also took a floating

charge over the company’s undertaking.

Following the company’s liquidation, the company's statement of affairs revealed assets to the value of

£7,000, consisting of office equipment (£3,000) and outstanding book debts to the value of £4,000 (

deposited in an account at the Mid West Bank). The company's total debts comprise; (a) arrears of £

2,500; a sum owed to Customs and Excise for unpaid V.A.T., (b) the sum of £3,000 representing the

balance of the loan entered into with John and, (c) £6,500 which represents an amount owing to the Mid

West Bank.

Advise the liquidator. How should AB Ltd’s assets be distributed?

Q.4) Regent Street Ltd manufactures television sets and hold 80% of the issued share capital in Bow

Street Ltd, a company which manufactures DVD recorders. Bow Street Ltd is a relatively small company

and operates in accordance with Regent Street Ltd's general policy instructions. Bow Street Ltd is

dependent upon Regent Street Ltd's financial support. Gillian is the sole director of Bow Street Ltd and

holds 20% of the company's issued share capital.

In April 2006, following a national decline in the sale of television sets, Regent Street Ltd decided to

withhold financial support from Bow Street Ltd until such a time as the sale of television sets increased.

Despite the lack of financial support, Bow Street Ltd continued to trade, but by April 2008 had run up

massive debts. The debts would not be repaid unless Regent Street Ltd provided financial support.

By June 2008, the national decline in the sale of television sets ended. However, Regent Street plc,

fearing for its own future position, refused Gillian's plea to provide Bow Street Ltd with financial

assistance.

As a consequence of the lack of financial support, Bow Street Ltd was forced to suspend trading and was

subsequently put into liquidation with debts of over £1 million. Gillian is of the opinion that Regent Street

plc should be liable for the debts of Bow Street Ltd but fears that she could be made personally liable for

the debts.

Advise Gillian.

Q.5) “Section 33 of the Companies Act 2006 permits a shareholder to enforce all of the contractual

provisions contained within the Articles of Association."

Discuss this statement

Q.6) The issued share capital of AB Ltd consists of 15,000, £1 preference shares and 100,000, £1 ordinary

shares. XZ Ltd holds 15% of both the preference and ordinary shares in AB Ltd. The rights attached to

the preference shares are specified in the articles of AB Ltd and include the right to a cumulative

preference dividend of 15%. In addition, the preference shares include the right to participate in surplus

profits and the prior repayment of capital in the event of liquidation.

The directors of AB Ltd wish to purchase and cancel the preference shares, the purchase to be financed

out of the company’s capital.

Advise the directors of AB Ltd.