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Shareholders’ Remedies Notes

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Class 17

Shareholders' remedies

Review (ie read again) Duties of Directors at General Law - Background and Basic Concepts and excerpts on general law and statutory directors from Austin, Ford and Ramsay, Company Directors: Principles of Law and Corporate Governance (Butterworths, 2005) Reading Materials pp 18:1-31. Redmond [8.05]-[8.15]; [8.45]; [8.55]-[8.135]. The protection of minority shareholders

* Minority shareholders in private companies have no market exit option and are often susceptible to exploitation through a number of techniques directed to diminish the value of their investment.

* Minority Shareholders can be protected in two ways: o Courts protecting minority shareholders by applying equitable constraint due to the majority using powers for an improper purpose, even if it is legal. o Shareholder litigation - protecting minority shareholders by granting them legal standing to litigate in respect of wrongs done to them personally and for certain wrongs to the company itself.

* For wrongs done to the company - general law permits shareholders to litigate where the wrongdoers effectively controlled the company's decision not to bring the suit. Note a statutory derivative procedure has now been introduced to replace the general law here - it requires the court's approval prior to commencement of legal action.
[i] Courts' Protection of Minority Shareholders - equitable limitation

* Question is, should the minority shareholder be afforded legal protection?

* Two opposing principles contend this area: o Identifying the corporate will with the majority. The decision of the majority binds the minority. Minority interests aren't protected. o Placing equitable constraints on the majority. Prevents the majority in a GM from acting oppressively towards minorities or using powers for an improper purpose, even though the majority is acting within the scope of their powers.

* In general, the corporate will is identified with the decision of a majority of members, by value of shareholding.

* However, a court may interfere with the majority's decision, if it can be shown that the majority voted for a purpose outside an implied range of purposes for which the power to vote was conferred.

* Lindley MR in Allen v Gold Reefs of West Africa Ltd stated that "[The power of a three fourths majority to alter company articles must] be exercised subject to those general principles of law and equity which are applicable to all powers conferred on majorities and enabling them to bind minorities. T must be exercised, not only in the manner required by law, but also bona fide for the benefit of the company as a whole and it must not be exceeded.

* However this test was rejected by the HC in Gambotto v WCP and adopted the language of oppression and improper purpose to define the vitiating overreach by majorities.

* Alteration of Company's Constitution that Prejudice Shareholder Rights

* A company's constitution may be altered by special resolution; the alteration power is however subject to compliance with any further requirements contained in the company's constitution.
[8.55] Greenhalgh v Arderne Cinemas Ltd [1965] Ch 286

* Court of Appeal Facts

* Company's constitution contained a provision prohibiting the sale of shares to non members if there is any member willing to purchase them at a fair price. Mallard held controlling interest and changed this provision through a special resolution so that he could transfer shares to non members. Minority shareholders challenged saying there was fraud upon the minority. Held


The special resolution would be valid if those who passed it did so in good faith and for the benefit of the company as a whole.

* "Company as a whole" refers to the corporators as a general body, not as a commercial entity distinct from its corporators.

* The special resolution would be liable to be impeached if the effect of it were to discriminate between the majority and minority shareholders. Present case:

* Found that the alteration did not discriminate between types of shareholders as the price sold for was fair. Anyone who wanted to get out at that price could get out, and any who preferred to stay in could stay in.
[8.60] Australian Fixed Trusts Pty Ltd v Clyde Industries Ltd (1959) 59 SR (NSW) 33

* Supreme Court of NSW Facts

* Director of defendant company gave notice of an extraordinary general meeting to consider a proposal to alter the company's constitution by disallowing any member who held shares as a trustee under a public held unit trust. Also, such a member might not vote until it had received the direction of a majority of unit holders as to the manner in which the shares were to be voted. Plaintiffs sued to restrain this. Held:

* The right of a shareholder trustee to vote has been greatly reduced in effectiveness as the right to vote of the other shareholders has been rendered more effective and valuable.

* There was no reasonable connection between for a company purpose and the restriction placed on some shareholders.

* No reasonable man can conclude that the terms in the article to disallow certain members were for the benefit of the company as a whole.

* The majority were given an advantage of which the minority had been deprived.
[8.65] Gambotto v WCP Ltd (1995) 182 CLR 432

* High Court of Australia Facts:

* Wholly owned subsidiaries of IEL held 99.7% of the share capital of WCP. Their shareholding in WCP was such that IEL and its associates could not have acquired the minority shares under the Law. WCP's articles were altered by inserting art 20A which permitted the majority shareholders to acquire within a specified period any shares to which they were not entitled to by law, at a price of $1.80 per share. The appellants were minority shareholders and didn't attend the meeting or vote upon the resolution. A report accompanying the notice of meeting valued the shares at $1.365. The appellants conceded that the valuation was fair and independent but did not take into account income tax benefits of $4M which would accrue to WCP after eliminating minority shareholdings.

* The appellants held 0.01% of the shares which they wished to retain. Mason CJ, Brennan, Deane and Dawson JJ:

* Rejected the test of "bona fide for the benefit of the company as a whole" in determining whether the alteration of a constitution is valid.

* The power to amend the company's constitution by altering the articles so as to confer upon the majority power to expropriate the shares of a minority can only be taken if: o it is exercisable for a proper purpose and o its exercise will not operate oppressively in relation to minority shareholders - and If it appears that the substantial purpose of the alteration is to secure the company from significant detriment or harm, the alteration will be valid.

* The majority cannot expropriate the minority merely in order to secure for themselves the benefit of a corporate structure that can derive some new commercial advantage by virtue of the expropriation.




It is not a sufficient justification of an expropriation that the expropriation, being fair, will advance the interests of the company as a legal and commercial entity or those of the majority of corporators. It would need exceptional circumstances to justify an amendment to the articles authorising the compulsory expropriation by the majority of the minority's interests in the company. Proper purpose is not enough to justify an alteration - it must also be fair in the circumstances. It must be both: o Procedurally fair:?


Process used to expropriate must be fair. Majority SHs must disclose all relevant information leading up to the alteration and have the shares valued by an independent expert. Substantively fair?

The terms of the expropriation must be fair The price of the shares must be fair. This will depend on a variety of factors - assets, market value, dividends and the nature of the corporation and its likely future.



The onus is on those supporting expropriation to show that the power is validly exercised ? i.e. they must show it is for a proper purpose and is validly exercised. Present case

* The validity of art 20A depends on whether it was not made for a proper purpose (plaintiffs have not contended that it was not fair)

* All that is suggested is that taxation advantages and administrative benefits would flow to WCP if minority shareholdings were expropriated.

* This cannot by itself constitute a proper purpose.

* Therefore art 20A is invalid and ineffective. (Reading Materials pp 18:1-31) Sons of Gwalia Ltd v Margaretic (2007) 231 CLR 160 Facts


In August 2004, Mr Margaretic purchased shares to the value of $20,000 in Sons of Gwalia Ltd on the ASX. The Company went into voluntary administration 11 days later.


Mr Margaretic submitted that at the time he purchased his shares, the Company was in breach of s674 of the Corporations Act by failing to disclose information to the market which is not generally available and is information that a reasonable person would expect to have a material effect on the share price. Mr Margaretic further submitted that the Company had engaged in misleading and deceptive conduct, breaching s52 of the Trade Practices Act, s12DA of the Australian Securities and Investment Commission Act, and s1041H of the Corporations Act. Mr Margaretic sought damages for losses incurred from the Company's conduct.


Mr Margaretic claimed that he was entitled to be treated as a 'creditor' under the Corporations Act, as opposed to a 'member', and that he could therefore submit his claim for proof in the deed of company arrangement.


ING Investment Management LLC, a creditor of SOG, was named as second respondent in the action


He bought shares and then the sharemarket closed. The next morning they were not allowed to trade and he has been tricked by misleading conduct. He was a shareholder and a creditor under the statutory misleading deceptive conduct under s12DA ASICA or s1041H CA. Company argued he was a shareholder and not a creditor. Company argued he used s1041H action was not allowed. HC said he could prove as a creditor and many thought that this would open up the priorities of shareholders and creditors and would break up limited liability. This case has now

been completely reversed. It is not really a case about a fundamental change in the shareholder creditor priority. The Earlier Decisions

* At first instance, Mr Margaretic was successful. Emmet J held that he was a creditor of SOG within the meaning of Part 5.3A of the Corporations Act for such amount as the Administrators admit to proof, or are ordered to admit to proof, and that he is entitled to all the rights of a creditor under that part. Emmet J also declared that the claim is not postponed until debts to ordinary creditors are satisfied.

* SOG and ING appealed to the Full Court of the Federal Court. The appeals were unsuccessful, the Full Court affirming the decision of Emmet J.

* Special leave was granted to appeal to the High Court. The High Court's Decision

* Issue: The issues before the High Court were: o Is the claim admissible to proof against the company: s 553 of the Corporations Act?
o If so, is any potential liability owed to Mr Margaretic in his capacity as a member of the company, meaning that payment is postponed until other creditors are satisfied: s 536A of the Corporations Act?
o The High Court held by a 6:1 majority (Callinan J dissenting) in favour of Mr Margaretic, dismissing the appeal and answering the above questions yes and no. Section 553 - Admissibility to proof of claim Section 553 (1) of the Corporations Act is in the following terms: "(1) Subject to this Division, in every winding up, all debts payable by, and all claims against, the company (present or future, certain or contingent, ascertained or sounding only in damages), being debts or claims the circumstances giving rise to which occurred before the relevant date, are admissible to proof against the company."

* Did the circumstances giving rise to Mr Margaretic's claim occur before "the relevant date"? For current purposes, the relevant date was the date on which the directors appointed administrators to the company under Part 5.3A, being the day that the administration began.

* Hayne J observes that when Mr Margaretic purchased his shares he paid the market value for them. After appointment of administrators the shares became worthless but, there was a market for the shares until that point.

* The relevant conduct said to comprise the statutory breaches founding the claims (the non disclosures, misleading and deceptive conduct) occurred before the relevant date, but the loss was not apparent until the appointment of administrators. The "extinction of value" arose because of the administrators' appointment.

* His Honour held that this latter fact did not mean that the circumstances giving rise to the claim did not arise before the relevant date.

* If Mr Margaretic had known the relevant facts before SOG appointed administrators he would have had complete causes of action against SOG for identical relief. His claim would have been for damages representing the difference between the cost of purchase of the shares and the true value of what he bought as determined by a properly informed market (that is to say, he had a cause of action on purchase as he had bought a "lemon").

* Hayne J puts it in the following terms: o "It follows that, although the agreed facts demonstrate that the appointment of administrators reduced the value of Mr Margaretic's shares to zero, his claim is one the circumstances giving rise to which occurred before the administrators' appointment. Had the facts upon which Mr Margaretic now relies been known then, they would have been known to the whole market, not just him, and he would have had the same claim he now makes. His knowledge of the relevant facts bears only upon whether he makes a claim; his knowledge of those facts does not bear upon whether he has a claim. His claim is of a kind that is within s 553 of the 2001 Act."

Section 563A - Is "debt" owed in capacity as member Section 563A is in the following terms: "Payment of a debt owed by a company to a person in the person's capacity as a member of the company, whether by way of dividends, profits or otherwise, is to be postponed until all debts owed to, or claims made by, persons otherwise than as members of the company have been satisfied."

* Whilst any liability would be a debt owed to a member does it follow that it would be owed to Mr Margaretic in his capacity as a member?
o The majority answered this question in the negative. Gleeson CJ summarises the position as follows:
? What determines the present case is that the claim made by the respondent is not founded upon any rights he obtained or any obligations he incurred by virtue of his membership of the first appellant. He does not seek to recover any paid-up capital, or to avoid any liability to make a contribution to the company's capital. His claim would be no different if he had ceased to be a member at the time it was made, or if his name had never been entered on the register of members. The respondent's membership of the company was not definitive of the capacity in which he made his claim. The obligations he sought to enforce arose, by virtue of the first appellant's conduct, under one or more of the statutes mentioned in the earlier description of the respondent's claim. o Hayne J makes the following observations:
? "...absent specific legislation giving subscribing members particular remedies as members, no distinction is to be drawn between shareholders who complain that a company's deceit or misleading or deceptive conduct induced them to acquire shares in the company according to whether that acquisition was by subscription or transfer.
? In the present case, the obligation which Mr Margaretic seeks to enforce is not an obligation which the 2001 Act creates in favour of a company's members. The obligation Mr Margaretic seeks to enforce, in so far as it is based in statutory causes of action, is rooted in the company's contravention of the prohibition against engaging in misleading or deceptive conduct and the company's liability to suffer an order for damages or other relief at the suit of any person who has suffered, or is likely to suffer, loss and damage as a result of the contravention. In so far as the claim is put forward in the tort of deceit, it is a claim that stands altogether apart from any obligation created by the 2001 Act and owed by the company to its members. Those claims are not claims "owed by a company to a person in the person's capacity as a member of the company". Status of Houldsworth and Webb Distributors

* ING sought to argue that there is a principle of common law emerging from the House of Lords' decision Houldsworth v City of Glasgow Bank1, which precludes a shareholder from proving in a winding up a claim for damages for misrepresentation inducing the acquisition, unless the shareholder has first rescinded the "membership contract". Once a company goes into liquidation or administration, rescission is not possible, and, therefore, a claimant such as Mr Maragaretic is precluded from pursuing his claim.

* The decision in Houldsworth obtains some recognition in the High Court's judgment in Webb Distributors (Aust) Pty Ltd v Victoria2.

* In Webb Distributors the High Court refrained from determining whether Houldsworth was right or wrong but addressed the issue of whether the propositions distilled by the House of Lords from the Companies Act 1862 were incorporated into the Victorian Companies Code, then under consideration.

* The High Court in Webb Distributors regarded Houldsworth as relevant to interpreting s 360(1)(k) of the Victorian Companies Code and held that the

shareholders in that case could not prove in a liquidation as they were precluded from rescinding the contracts under which they acquired their shares.

* Webb Distributors is not expressly over ruled3 but it is distinguished to the point where it has little ongoing influence. The High Court in Webb Distributors was said to be concerned with the construction of s 360 of the Vic Companies Code. Section 563A, the section currently under construction, is in different terms, its genesis being in the new provisions introduced into the Corporations Law in 1992.

* Hayne J states that neither Houldsworth nor Webb Distributors established a common law principle that a shareholder must rescind a contract for purchase of shares in order to bring an action of this type. The current case was also distinguishable on the facts as Mr Margaretic had not contracted with the company in order to acquire the shares. Significantly, however, his Honour went on to say that Mr Margaretic's position would have been no different if he had been a subscriber of shares from the company.

* It is emphasised in a number of the judgments that the case is very much concerned with the proper interpretation of provisions of the Corporations Act 2001. In this context, the terms of that Act and its legislative history, rather than any longstanding common law principles are relevant. Conclusion

* The High Court's decision confirms that shareholders' claims to recover losses due to wrongdoing by a company rank equally with the claims of other unsecured creditors. In this regard, there is to be no distinction between claimants who acquired their shares by subscription or those who acquired them on the open market.

* However, there is nothing in the judgment that can be said to be inconsistent with the policy behind the Corporations Act 2001. This Act, along with beneficial legislation such as the Trade Practices Act and ASIC Act, imposes certain obligations on companies and directors regarding their conduct and provide rights for aggrieved parties to recover losses incurred due to breach of those obligations. Shareholders would argue that there is no proper reason why their claims, legitimately brought, should be subordinated to the claims of others.

* At a practical level, the decision confirms insolvency practitioners will be required to give full consideration to all such claims made against a company in the context of a liquidation or administration, rather than postpone dealing with them. It also means a risk of reduced returns to other unsecured creditors.

* Further, the analysis by Hayne J by which it was determined that the circumstances of the claim arose pre administration, despite the loss crystallising on the appointment of administrators, is likely to be utilised to determine similar issues in this and other legislation. Summary High Court Decision

* A majority of the High Court found that: o a shareholder can be treated as a 'creditor' and is entitled to the rights afforded to creditors under Part 5.3A of the Corporations Act for the purpose of a company administration when the shareholder's claim was not made in their capacity as a 'member'; o Mr Margaretic's claim fell within the definition of a provable debt; and o there is no potential liability owed to Mr Margaretic in his capacity as a member of the company, therefore payment to Mr Margaretic does not need to be postponed until other creditors' claims are satisfied. Implications for Creditors

* The decision means that shareholders' claims to recover losses from an insolvent company can potentially rank equally alongside unsecured creditors when those losses are caused by certain wrongdoings of the company. Consideration of shareholders' claims may expose unsecured creditors to greater risk, delay and dilute the returns to creditors and increase the costs of company administrations Implications for Shareholders

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