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Published: Fri, 02 Feb 2018
To act on company’s behalf entering contract
Corporations Act s 124 states that once a company is registered, it is granted the legal capacity and powers of an individual, which includes, quite naturally, the ability to enter into contracts in its own name. (Harris, Hargovan and Adams, 2009, p.234) The company may contract directly with third parties by executing a contract in which situation s 127(1) requires two directors or one director and the company secretary to sign as if they were the company. (Harris, Hargovan and Adams, 2009, p234) Then the question relating to contractual liability is whether the person has the authority to act on the company’s behalf to enter into the contract. There are two types of authorities relevant to this case; the actual authority and apparent authority.
Actual authority is authority that can be express or implied. (Harris, Hargovan and Adams, 2009, p.235)
While to establish an apparent authority, it must show (Harris, Hargovan and Adams, 2009, p.236):
that a representation that the agent had authority to enter on behalf of the company into a contract of a kind sought to be enforced was made;
that such representation was made by a person or persons who had ‘actual’ authority to manage the business of the company either generally or in respect of those matters to which the contract relates;
that the contractor was induced by such representation to enter into the contract, that is, he or she in fact relied on it.
With respect to this case, Wendy retired as the managing director (agent) and was again authorized by the company (principal) to enter into contracts with third parties provided that the worth of contract amounts up to $20,000 provided that she informs one of the directors in advance. However, she did not inform the directors in advance when making any of the two contracts. Hence, she did not have actual authority of entering these two contracts on the company’s behalf. But apparent authority could be established because the three criterions are satisfied, that is, there was a representation (both oral and conduct that she showed her old business card)by the Wendy that she had the authority to enter into contract on behalf of the company, which led Fred to enter into the contract. Once the authority is found, the agent’s (Wendy) acts are deemed to be the company as an individual entity’s act and the contract is therefore binding.
The Zooming Co may argue that the contracts signed by Wendy were not binding because it delegated its authority only to the extent that the worth of contract amounts up to $20,000 provided that she informs one of the directors in advance. However, in neither contract had Wendy informed any of the directors and moreover the second $25,000 contract was greater than $20,000. To respond this argument, the indoor management rule (Royal British Bank v Turquand (1856) 119 ER 886) applies which states that parties dealing with companies have the legal right to presume that the internal processes of the company have been properly carried out unless the exceptions to this rule are found, that is, the outsider knows of internal irregularities within the company or is put on inquiry from surrounding circumstances. (Harris, Hargovan and Adams, 2009, p.239) In this case, there is no sufficient evidence showing that Mr Fred knows of the internal irregularities of Zooming Co or is put on inquiry from surrounding circumstances. Therefore, the indoor management rule applies and the contract is binding on Zooming Co Pty Ltd.
Usually, individual directors do not have authority to act on the company’s behalf unless expressly authorized where the apparent authority is found whereas a secretary has implied authority to manage the administrative affairs of the company under principals of modern company law. (Harris, Hargovan and Adams, 2009, p.236) In this case, Macey as an individual director of Zooming Co was personally interested in purchasing a sea plane and purchased it on behalf of the company and forged Lucy’s (the secretary) signature on the contract with Oasis Pty Ltd. Macey does not have usual authority to act on the company’s behalf as she is only an individual director but is found to have the apparent authority. Therefore, the contract is binding.
Zooming Co may argue that Macey forged the secretary’s signature, which was a fraudulent conduct of her; therefore, the contract was not binding to the company. At common law, where a forgery arose, it was stated that the company should not be liable, however, the special rule known as indoor management rule of company law applies because of outsiders’ difficulties in proving that a company authorized the transaction. (Harris, Hargovan and Adams, 2009, p.237)
However, Zooming Co may argue that in the light of Northeside’s case (Northeside Developments v Registrar General (1990) 170 CLR 146), the contract is not binding because the exception rule to the indoor management rule can be applied, that is, the sea plane Macey purchased on behalf of Zooming Co was not in the ordinary course of Zooming Co’s business—manufacturing speeding boats. With knowledge, Oasis should have been suspicious about the validity of this transaction and made an enquiry before the contract was signed. Therefore the surrounding circumstances have put Oasis on inquiry and it is following that Zooming Co may be found not to be bound to the contract.
Any person who is actively involved, either playing a minor or central role, in organizing the formation of a company falls within the definition of promoter: Twycross v Grant (1877) 2 CPD 469. (Harris, Hargovan and Adams, 2009, p.250) It includes inactive persons who play a passive role in forming the company if they agree to share in the profits arising from the established company, as found in Tracy v Mandalay Pty Ltd. (Harris, Hargovan and Adams, 2009, p.250)
Michael Amanda and Kate had agreed to incorporate a company, Delicious Dining Pty Ltd. Despite the fact that it was Amanda and Kate who were actually organizing all the formalities for the formation of the company whereas Michael was playing a passive role, Michael was a promoter as he was one of the company’s directors, that is to say, he was sharing profit from the established company.
Once identified as a promoter, such persons automatically owe fiduciary duties to make full and complete disclosure to the board of directors to enable them to make an unbiased decision on the promoter’s conduct; therefore, a partial or incomplete disclosure is inadequate as found in Erlanger v New Sombrero Phosphate Co (1878) 3 App Cas 1218. (Harris, Hargovan and Adams, 2009, p.251) Michael, as a promoter, has a duty to make full disclosure of the discount but he failed to do so. Therefore, he had breached his promoter’s duty.
Where the promoter has a personal interest in a contract with the company and fails to make disclosure, rescission of contract typically arises and has the effect of restoring the parties to their pre-contractual position, as evidenced in Erlanger v New Sombrero Phosphate Co (1878) 3App Cas 1218. (Harris, Hargovan and Adams, 2009, p.255) Therefore, the company is allowed to recover the purchase price and, as a consequence of rescission, for the license to be transferred back to Michael.
Companies have various ways of funding their commercial activities such as debt finance or equity finance. To promote an effective capital market and protect potential investors from being exploited, many provisions in the Corporations Act are made.
Disclosure documents are often required to give potential investors adequate information that they reasonably require in order to make informed investment decision when companies invite them to provide capital in the form of equity or debt. (Harris, Hargovan and Adams, 2009, p.266) Following this concern, the Corporations Act makes four types of disclosure documents: a prospectus, a short form prospectus, an offer information statement and a profile statement.
Section 709(1) states that a prospectus need not be prepared if the capital raising fits within one or more of the exceptions in s 708 or if the amount of money to be raised is $10 million or less: s 709(4). (Harris, Hargovan and Adams, 2009, p.268)
Section 709 allows for an offer information statement to be used, instead of a prospectus, for an offer of securities if the amount to be raised from the issue of securities is $10 million or less: s 709(4). (Harris, Hargovan and Adams, 2009, p.268)
Section 712 permits the use of a short form prospectus. (Harris, Hargovan and Adams, 2009, p.268)
Section 709(2) allows for a brief summary statement, known as a profile statement, to be prepared in addition to a prospectus. (Harris, Hargovan and Adams, 2009, p.269)
With respect to this case, Jaan’s was a small company with two options to fund the company’s commercial aspiration; one was to raise $10m while the other was to raise $20m. If the $10m option is elected, Jaan’s is not required by law to prepare a prospectus and hence saves its costs of preparing the prospectus. However, if the $20m option is selected, Jaan’s is required by law to prepare a prospectus which is relatively expensive.
Under s 706, an offer of securities for issue needs disclosure to investors unless ss 708 or 708AA says otherwise. (Harris, Hargovan and Adams, 2009, p.270) And offer in this context is any written or oral invitation designed to induce investors to buy securities. (Harris, Hargovan and Adams, 2009, p.268)
In this case, Jaan’s neither orally nor formally invited those family members, as well as the other directors and a few rich local business people to invest in the company because they became interested in the company after reading a newspaper story about the company. Therefore, no offer was made to them and hence no disclosure document was required to be made. However, if they apply to buy securities of the company, and the company accepted, whether a disclosure document is needed to be prepared depends as follows: 1) family members and other directors of the company are people closely connected to the company or senior managers of the company. The Corporations Act permits offers of securities to be made to people closely connected to the company or its officers without a disclosure document, under s 708(12). (Harris, Hargovan and Adams, 2009, p.273) 2) for local business people, it is not clear whether they are sophisticated investors. If yes, no disclosure is required, under s 708(8) which states that offers are permitted to be made to ‘sophisticated investors’ without a disclosure document. (Harris, Hargovan and Adams, 2009, p.271)
However, the fact that Jaan’s expressly asked those enthusiasts to invest in the company will amount to an offer. If the offer is small, which is, maximum of 20 investors in any 12 month period and with no more than $2 million being raised, no disclosure is required under s 708(1). (Harris, Hargovan and Adams, 2009, p.271) But prohibitions against securities hawking will apply, that is, a person must not offer securities for issue or sale in the course of, or because of, an unsolicited meeting with another person or an unsolicited phone call to another person, unless the offer is exempt, under s 736. (Harris, Hargovan and Adams, 2009, p.290)
The $10m option is recommended because the global financial crisis just passed, investors may not want to invest in snowboard business, and therefore, selecting the $20m option may not only may result in raising insufficient funds but also incur the costs of preparing disclosure documents. So selecting the $10m option is more reasonable, that is, develop the domestic market and raise $10m first before extend its business to a more risky and uncertain international market. But it is worth noting that there is also an alternative approach to fund the $20m as it is possible that the family members and other directors of the company may wish to invest $10m in total and, at the same time, other retail investors may wish to invest another $10m. Therefore, the company can raise $20m in total without the need to prepare a prospectus. This is the best situation.
A key policy objective of the Corporations Act is to bring about an investment environment that enables investors to make informed investment decision. (Harris, Hargovan and Adams, 2009, p.283) A disclosure document would contravene s 728 if there is (Harris, Hargovan and Adams, 2009, p.283):
a misleading or deceptive statement in the disclosure document;
an omission from the disclosure document of material required by the disclosure requirements set out in ss 710-715; or
a new circumstance that has arisen since the disclosure document was lodged and, if it had arisen before the disclosure document was lodged, the circumstance would have been required to have been included in the disclosure document.
In this case, what Jaan’s presented was a prospectus that only included good information which was not balanced. Again, members of the prospectus due diligence committee used inappropriate figures to arrive at profit forecasts to improve the look of the diagram. So there might be no reasonable ground for this company to forecast that its profit would increase as it stated in the prospectus; this could amount to misleading and deceptive documents and breach of s 728. Under s 729, any person who has suffered loss or damage because of defective disclosure can claim a civil remedy if the company breached s 728. (Harris, Hargovan and Adams, 2009, p.286) Therefore, the disgruntled shareholders have the entitlement to recover from the company the loss as a result of the subscription.
Section 719(1A) states that where the person making the offer becomes aware that the disclosure document contains misleading or deceptive statements, has omitted key information, or new circumstances have arisen since lodgment that are materially adverse from the point of view of an investor, they may lodge a supplementary or replacement document with ASIC. (Harris, Hargovan and Adams, 2009, p.285) Therefore, the directors need to lodge a supplementary or replacement disclosure document about the significant change in price and the wrongly used figures in forecasting future profits. This is an opportunity to cure defects. There are some defences for defendants to avoid civil and criminal liability if they can satisfy one of the following defences set out in ss 731-733. (Harris, Hargovan and Adams, 2009, p.288) For example, Jaan’s may argue that it was unaware of the freak weather patterns caused by global warming which leads to a serious loss after shares are issued—s 719 states that a defendant is not liable in a criminal or civil action if they can prove that they were unaware of a new circumstance arising since the disclosure document was lodged. (Harris, Hargovan and Adams, 2009, p.289)
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