Eiffel Towers Ltd, a listed company, was a builder and property developer specialising in projects in Brisbane’s central business district. It has five directors. Giscard is the managing director and Henri is the chief financial officer. They are the only

Reading

Text, Chapter 11, Chapter 12 pp376-387

Objectives

On successful completion of this module, you should be able to:

· understand how and when shares are transferred, and when they are unable to be transferred

· understand the rights that attach to shares and recognise and deal with an attempt to vary any of those rights

· recognise a share capital transaction, and provide advice on the legal requirements for it, and recognise where any of those obligations have been breached in a given factual scenario

· understand the role of company membership, how it originates and ends, and who can be a member

· understand the role of the company register of members and share certificates, and when the register may be corrected

7.1Introduction

For a company to operate, there must be members. Because fundamental rights and duties arise on becoming a member of the company by virtue of the Corporations Act or by virtue of the company’s constitution, it is essential to determine whether a person has become a member. This module examines the membership of companies by reviewing the law with respect to becoming a member. It also covers the topics of nature of shares and share capital transaction.

7.2 Share capital

7.2.1 Definition & Nature of Shares

Investing in shares is one of the most common methods of investing in a company. Shares are thus a very important method for a company to obtain money for the company to operate. Money received from the company’s issue of shares is called ‘share capital’. Sometimes it is also called ‘equity capital’ to distinguish it from money loaned to the company (known as

‘debt capital’ or ‘loan capital’, covered in Module 11).

You will not be surprised to learn that a share in a company is property which can be owned and transferred. This is confirmed by section 1070A(1). Technically a share is a collection (or ‘bundle’) of rights and obligations defined by the Corporations Act, the common law and the company constitution. Shares are legally classified as intangible personal property known as ‘choses in action’, which means a ‘thing in action’ and refers to a right enforceable by leal action rather than physical possession: Colonial Bank v Whinney (1886) 11 App Cas 426.

7.2.2 Classes of shares

A class of shares is a group of shares sharing the same rights: Crumpton v Morrine Hall Pty Ltd [1965] NSWR 240. If two shares have the same rights, they are in the same class. (It does not matter whether the constitution names the shares as being in two different classes: Crumpton v Morrine Hall Pty Ltd. It is possible to have a class of shares which is held by a single owner: Buckland v Johnstone (1991) 9 ACLC 1193). In contrast, if the rights attaching to two different shares are different, then those shares are in different classes. This occurs only where a company issues shares with different rights attached to them, or when the company changes the rights of some shares after they have been issued.

Different classes of shares have different rights which are located normally in the company’s constitution, but may also be specified in the ‘terms of issue’ which is a document (similar to a contract) which is agreed upon by the company and the future shareholder before the issue, or in the company resolution issuing the shares. The most common classes of shares are ordinary and preference shares. Read your text book to find out their features.

Reading activity 7.1

1. Why would different classes of shares be issued?

2. What different rights can different classes carry?

3. What consequences flow if a constitution does not specify the required information in relation to rights of preference shareholders?

4. What are participating preference shares? Cumulative preference shares?

5. Deferred shares? Redeemable preference shares?

7.2.3 Variation of class rights

A variation of the rights attaching to a class of shares occurs if the company changes any rights that that class of shareholders have that other shareholders do not have.

The company’s constitution can stipulate the procedure for varying the rights of a class of shares and, if it does so, this procedure must be complied with for the variation to be effective: s 246B(1). If the company’s constitution does not specify any procedure dealing with a variation of class rights, then the legislation sets out default procedures in s 246B(2). Section 246B(2) specifies that the rights attaching to the shares can only be cancelled or varied if the company as a whole passes a special resolution, plus a separate special

resolution of the class of investors affected by the change. This second resolution needs to be at a separate meeting of that class of shareholders (often held immediately before or after the company’s general meeting) and would require at least 75% of the votes of the members of the class whose rights are varied or cancelled to be in favour of the resolution.

There is additional protection for a situation where, say, the majority of investors holding preference shares are also ordinary shareholders and vote in that capacity believing the alteration to be favourable to their prospects as ordinary shareholders.

Section 246D enables the holders of 10% of the votes attaching to the shares whose rights have been varied in accordance with the above procedures, to apply to the court to have the alteration overturned within one month of the change. Section 246F(3) requires a copy of the resolution to be lodged with ASIC.

Reading activity 7.2

1. In what circumstances are the rights of a class of share varied, either at common law or under statute? (In this regard, make sure you read and understand section 246C, which is summarised in Table 8.2 of the textbook).

2. When does a variation of class rights take effect?

3. What are the requirements for a valid variation of class rights?

4. What remedies does a minority shareholder have, if the shareholder did not agree with the variation of class rights?

7.2.4 Share Capital Transactions

As mentioned above, the money (or other assets) that the company has received from shareholders in the company in consideration for issuing those shares, is known as ‘share capital’. Special rules apply to this money and these assets (and to any assets which this money or these assets may have been converted), in order to protect creditors and shareholders of the company.

A very old and respected legal principle is that the share capital of a company should be maintained within the company so that it can meet the company’s debts and ultimately be repaid to the shareholders who invested in the company. This principle is known as ‘the principle of share capital maintenance’ or ‘the rule in Trevor v Whitworth’. The rule has been relaxed and incorporated into the Corporations Act Section 259A after the 1998 reform.

Section 259A allows the following exceptions, permitting the acquisition if it is:

· due to a buy back of shares under section 257A; or

· an acquisition of an equitable interest in fully paid shares in the company if no consideration is given for the acquisition by the company or an entity it controls; or

· occurring under a court order; or

· occurring in circumstances covered by section 259B(2) (employee share scheme) or section 259B(3) (security taken in the ordinary course of business of financial institution).

The types of share capital transactions covered by this module include:

· Reduction of capital: s256

· Share buy-backs: s257

· Financial assistance for the acquisition of shares: s260A

Reading activity 7.3

1. What is the purpose of the restrictions on share capital reductions and buy backs?

2. Exactly what conduct does section 259A and B prohibit? Are there any exceptions?

3. What consequences flow from a breach of section 259A and B?

4. What is a share capital reduction? Give as many examples as you can.

5. What share capital reductions are authorised by sections 258A-258E?

6. Considering sections 256B and 256D, what requirements apply to share capital reductions that are not otherwise authorised?

7. What factors would make a reduction fair and reasonable?

8. What different types of reductions are there, and what procedures apply?

7.3 Membership

7.3.1 Becoming a member

A company can have a minimum of one member (s 114); that a proprietary company can have a maximum of 50 non-employee shareholders (s 113) and that there is no limit on the number of members in a public company. A company can be a member of another company, but not of itself or its holding company. A person under 18 can be a member of a company, but cannot be made liable for calls made on shares in a company. The minor will not, however, be able to return the shares and recover the (already paid) subscription price unless no shares are issued to the minor: Steinberg v Scala (Leeds) Ltd [1923] 2 Ch 452. It is important to know who is a member, because only members enjoy certain rights, e.g. right to vote.

There are various means to become a member of a company. Read your text book and s231 to find out.

Reading activity 7.4

1. Who can inspect the members’ register? Can the company charge a fee for this?

2. What is the significance of the members’ register?

3. Refer to the discussion of the case of Maddocks v DJE Constructions Pty Ltd (1982) 148 CLR 104. Can the failure to maintain a members’ register result in the non-acquisition of membership?

4. Refer to the discussion of the case of Sung Li Holdings v Medicom Finance Pty Ltd (1995) 13 ACLC 952. Can the members’ register be corrected if a transfer is registered in the members’ register in breach of the company constitution?

5. What section regulates corrections of the members’ register? When may he register be corrected? Give examples from three different cases.

6. What restrictions are there on minors owning shares?

7.3.2 Transfer of share ownership

A person stops being a member if all their shares are acquired by another person – whether by voluntary transfer (whether sale or gift), or by compulsory acquisition, or as a result of forfeiture or surrender of the shares under the internal rules, or as a result of the person’s death. As property, ownership in shares is generally transferable, although there may be legal or constitutional restrictions on who can acquire those shares. Also, under section 1070A, the internal rules may restrict the right to transfer shares (see, for example, the replaceable rules in sections 1072F and 1072G), although such restrictions are not possible in a listed company (where shares must be freely transferable).

If CHESS operating rules apply (relevant to electronic transfer of share ownership, for example as a result of stock exchange transactions), then the company does not need to maintain a system of share certificates as share transactions happen electronically. However, many smaller and less-frequently traded companies maintain the historical system of issuing share certificates. The certificate is prima facie evidence of ‘title’ (that is ownership) of the shares – section 1072C(2).After the buyer and seller agree on the sale of share transaction, the selling shareholder executes and hands over ‘instruments of share transfer’ (see section 1073D) plus the share certificates, both of which are then signed by the buyer and sent to the company for the company to register the transfer in the members’ register. Normally the company must cancel the old share certificate before it can issue a new one in relation to the same shares.

In some companies, the internal rules may give the directors the power to refuse to register the transfer of shares – for example, in a company to which replaceable rules apply, directors may refuse to register shares if they are not fully paid-up, or may temporarily suspend the registration: s 1072F(3). If a company refuses to register a transfer or debentures, it shall within two months after the date on which the transfer was lodged notify the transferee of its refusal: s 1071E. Where a company refuses to register a transfer or transmission of any shares, the transferee or transmittee may apply to the court for an order: s 1071F. If the directors refuse to register a transfer of shares, they must satisfy any pre-requisite to that power that is required by the articles.

Reading activity 7.5

1. What is the purpose of a share certificate? What does it contain?

2. What is the liability of a company for a share certificate that was issued with incorrect information on it? Is the position different if the certificate was forged as a result of fraudulent conduct by one of the company’s employees?

3. What limits are there on a shareholder’s ability to transfer his or her shares?

4. When can directors refuse to register transfers of shares? Are there any restrictions on the directors’ powers in this regard?

5. What is the transmission of shares? When does it occur? Is this the same as a transfer of shares? Which replaceable rules deal with the transmission of shares?

7.3.3 Cessation of membership

There are a number of ways how a person’s membership can be terminated, such as the death or bankrupt of a member, the transfer of share ownership and the deregistration of a company.

Module 7 Tutorial Questions

1. X bought 300 shares from Burnie Mine Ltd. The issue price was $1 for each share. At the time, X paid 50 cents for each of the shares. In December last year, the company’s board of directors made calls on its members to further pay 25 cents a share. X has not paid the call and, in early January this year, sold and transferred his 300 shares to Y.

Advise the company as to its rights against X.

2. This question is taken from Fisher, Wiseman and Anderson, Corporations Law, (Butterworths Tutorial Series, 2nd ed, 2001) 64–65.

Alan Bundy is a wealthy businessman who owns a large portfolio of shares. His son, Christopher, who has a large debt which requires immediate payment, steals from his father the share certificates in Southpark Pty Ltd, a highly successful real estate development company. Christopher forges a transfer document in favour of Springfield Finance Ltd in return for payment. Springfield presents the transfer documents to Southpark and Southpark issues new certificates to Springfield, entering its name on the register.

Springfield subsequently enters into an agreement with SafeT Banking International Ltd for the sale of the Southpark shares. No registration of the transfer to SafeT has been entered on the register. Alan has now discovered the theft of the certificates. Christopher, however, has apparently fled the country.

Advise the relevant party on the following issues:

a. Can Alan have his name restored to the register?

b. Does Springfield have the right to recover any damages from Southpark?

c. Does SafeT have the right to recover any damages from Southpark?