Analysis and Consideration of the Court Case Against the Director of the Company - Essay Example

?Re: HEALTHRECRUIT SERVICES LIMITED OPINION I am instructed on behalf of Health recruit Services Limited the company to advise on the merits of the claim put forward in correspondence by Mr Tyler (member and former director of the company), and to advise on further steps that need to be taken in the winding up proceedings initiated by Headline Newspapers (West Midlands) Limited. 2. The Company was established to carry on business as a recruitment agency. It has three shareholders (Mrs. Wright, Mr Henderson and Mr Tyler). Its current directors are Mr Henderson and Mrs Wright. Mr. Tyler was also a director until last year. There is a dispute between the members as to whether the removal of Mr. Tyler from the directorship of the company was valid or otherwise. 3. Winding up proceedings, based on a statutory demand in proper form, have been commenced against the company. The petition has already been advertised and the company’s bank accounts have been frozen. The company wrote to the creditor, when underlying debt was first demanded, stating that the agreement was that the creditor’s invoices were payable after 60 days. I have been informed that the petition was given to a junior employee, who did not understand what it was, and it was not until very recently that Mr Henderson heard of it and immediately contacted the instructing solicitors. They also contend that since the bank accounts are frozen, it is not possible for them to pay off the petitioning creditor. Summary of Advice 4. As a director, Mr. Tyler owed a duty to take reasonable care and caution when dealing with the company’s assets. By misusing the credit cards of the company, he had breached his duty. The removal of Mr. Tyler can be justified on the basis of his mismanagement of the company’s funds and his general conduct during the period of his directorship. The only problem in this regard is Article 11 of the Articles of Association of the company, where it requires the passing of a special resolution for the removal or appointment of a director. Under CA 2006, a director can be removed by simple majority but with special notice. The brief is silent about the special notice. Thus, a special notice and a chance of hearing to defend against the removal is mandatory before taking the decision of removal Mr. Tyler. Thus, his removal without these prerequisites can be invalidated. In my opinion, although the current directors have a prospect of getting a court decision in their favour, if a claim is brought under unfair prejudice Mr. Tyler can stake a personal claim or derivative claim or a claim for the just and equitable winding up of the company. In my opinion, the best option available to the company and its directors is to offer to buy Mr. Tyler’s shares at a fair rate. 5. With respect to the winding-up petition, Mr Henderson would like to dispute the petition on the basis of his letter to the creditor, when they first demanded the payment explaining that under the company’s standard terms and conditions it has 60 days time lag after receipt of invoices. The petition can be disputed, as the company has a policy to pay its debts within 60 days of receiving the invoice, which can be discerned from the company’s previous transactions. The company can apply for an injunction or an application for the rejection of the insolvency proceedings, but there are chances that the court may issue an order against the company, which will result in additional costs being incurred by them. In my opinion, the best option available to the company is to make an application to the court for the assurance of a validation order so that the company can pay its outstanding debts. As the company’s accounts are held at one branch and the bank has frozen the bank account, the company can ask for a validation order to allow it to use its accounts to pay off the debts. Removal of Mr Tyler from the Directorship 6. Mr. Tyler was removed from his capacity as a director of the company during the last year, when the other directors decided that Mr. Tyler could no longer be trusted with use of the company’s credit cards, because he had been using them for extravagant personal use. The cards were accordingly cancelled. There was a fracas between Mr. Tyler and Mr Henderson in September 2010, and, following the incident, Mr. Tyler was removed from his position as a director at a shareholders’ meeting on 9th November, 2010. 7. With reference to the letter dated 22nd March 2011, to the directors of Healthrecruit Services Limited by Messrs O’Reilly & Mackman Solicitors, wherein, stating that Mr. Tyler was removed from the board of directors of the company by a resolution for his removal, passed by a simple majority, without suffice notice being given to Mr Tyler. His removal is therefore, unlawful. 8. According to s 168 of the Companies Act: (1) A company may by ordinary resolution remove a director before the expiration of his period of office, notwithstanding anything in its Articles of Association or in any agreement between it and him. (2) Special notice is required of a resolution to remove a director under this section or to appoint somebody instead of a director so removed at the meeting at which he is removed… 9. It is evident from the brief provided, especially, attendance note dated 5th April 2011, that the company was formed by 3 founders in 1979 and it was agreed that the three founders (Mr Henderson, Mrs Wright and Mr Tyler) would each have an equal shareholding of 25 out 75 shares issued. 2 out of the 3 directors voted in favour of the removal of Mr. Tyler as a director, which constitutes a majority. Article 11 of the Articles of Association of the company provides that a director can only be removed by special majority but S 168 CA 2006 covers Article 11 and validates the removal. 10. Keeping in view the wording of s 168 C A, Mr Tyler’s removal from the directorship is completely lawful, if a special notice is duly served on Mr Tyler under CA S 168 (2). Where notice is given of a proposed resolution for removal under S 168(2), the director must be informed and given an opportunity to protest (CA 2006, s 169). 11. As for appropriate notice to Mr Tyler regarding the meeting for his removal as a director of the company, the brief is silent. I would require further information in this regard before offering a firm opinion. Allotment of additional shares 12. In January of this year, the nominal capital of the company was increased to 5000 and 2450 shares were issued to both Mr Henderson and Mrs Wright at par. This was in recognition of the fact that they were now running the company and investing all their time and energy in making the business a success. It was never suggested or agreed that Mr Tyler would be given any extra shares. 13. According to CA 2006, S 561 subject to certain exceptions, a company shall not allot equity securities, without offering them first to the existing shareholders at the same or more favorable rates. This would mean that when the share capital was increased, the shares should have been offered to all the existing shareholders, including Mr. Tyler. But the exceptions of S 561 provided in CA 2006 S 564 states that S 561 (pre-emption rights of the existing shareholders) does not apply in relation to the allotment of bonus shares. 14. As the additional shares were issued in recognition of the fact that Mr Henderson and Mrs Wright were running the company and investing all their time and energy in making the business a success, these additional shares would be considered bonus shares to be covered under the exception of S 561. Mr. Tyler’s pre-emption rights would not operate under such circumstances. 15. On the other hand, DR Chemicals Ltd (1989) 5 BCC 39 is a company with two shareholders split up, with the majority shareholder continuing to run the business. The majority shareholder subsequently used his position as director to allot himself further shares to the tune of 900 at par without informing the petitioner of the issue. It was found that he did this for the improper purpose of diluting the shareholding of the petitioner. 16. I would require information regarding the price paid for the additional shares, if any. Unfair Prejudice 17. Allegations are raised by Mr Tyler that the affairs of the company are being conducted without proper regard for his interests in the company. 18. Mr. Tyler can apply to the court under s 994(1) CA 2006, which states that a member of a company can apply to the court if he believes that the company’s affairs are being or have been conducted in a manner that is unfairly prejudicial to the interests of members, as alleged by Mr Tyler. 19. It was agreed by the founding members of the company that the 3 of them would work in the best interests of the company and provide their time and skill to its operation. Whereas it is evident that MR Tyler has not been giving any assistance to the company he has been creating problems for the company. The attendance note dated 5th April 2011, shows that the reason for removal of Mr. Tyler was that he had become increasingly irrational and difficult to deal with, after his divorce. He refused to peruse or sign the audited accounts of the company. He refused to accept the decisions of the other directors and would only regard his own decisions as valid. There were occasions when he contacted the company’s clients and given instructions that contradicted to them or revoked orders or agreements. Thus, he had embarrassed the company besides upsetting the people who had been dealing with the company, some of whom had been transacting with them for many years on preferential terms. Moreover, Mr. Tyler could not be trusted with use of the company’s credit cards, because he had been putting them for extravagant personal use. 20. CA 2006, S 994 is equitable in nature. Merely the fact that the petitioner has approached the court is not usually enough for mitigation. The petitioner’s plea of being unfairly prejudicial has resulted from his own wrongdoings and therefore, it is unlikely that the court will allow the petition (Mears v R Mears and Co (Holdings) Ltd [2002] 2 BCLC 1). Petitioners’ conduct has a significant influence on court’s decision to grant remedies on such mitigations. (Re London School of Electronics Ltd [1986] Ch 211). 21. As removal of Mr Tyler was due to the reasons mentioned in Para 18, it is very likely that his petition under s 994 CA 2006 will be dismissed as his removal was not without cause. In Mears v R Mears Co (Holding) Limited [2002] 2 BCLC 1, a director was removed from his post as a result of serious misconduct, and it was held that the removal from the management was not unfair. 22. On the other hand, Mr. Tyler’s exclusion from the management resulted in the loss of control over the capital invested in the company and has affected his position as a shareholder (R and H Electric Ltd v Haden Bill Electrical Ltd [1995] 2 BCLC 280). Although the petitioner’s conduct was criticized, his removal was held to be unfairly prejudicial to his interests as a member. (Gamlestaden Fastingheter AB v Baltic Partners Ltd [2008] 1 BCLC 468. Payment of inadequate dividends and excessive remunerations 23. As evident from the Attendance Note dated 5th April 2011, for tax reasons the company has never declared dividends on its shares. The founders have received regular remuneration from the company over recent years in the form of directors’ fees and bonus payments. Until about 3 years ago, Mr. Tyler and Mr Henderson would have been paid the same amount each year, with smaller sum to Mrs Wright to reflect the fact she had not contributed nearly so much to the activities of the company. Since then until Mr Tyler was removed from his post as a director, Mr. Henderson was paid the largest amount by way of fees and bonuses, followed by Mr Tyler and then Mrs Wright. Currently, only Mr. Henderson and Mrs Wright are being paid director’s fees. 24. From the brief available, I presume that after the removal of Mr Tyler, he has not been paid any compensation. It is common that on removal from the post of director one may allege that the other directors have paid themselves excessive remuneration. The question is whether the level of remuneration can be justified by objective commercial criteria (Re a Company (No 004415 of 1996) [1997] 1 BCLC 479). In Re a Company, ex p Glossop [1988] BCLC 570, Harman J said the directors must remember that the members are the owners of the company, that the profits belong to the members, and that, subject to the proper needs of the company, the trading profits ought to be distributed by way of dividends. See also Re Sam Weller and Sons Ltd [1990] Ch 682. This allegation could amount to unfair prejudice. The rule in Foss v Harbottle 25. The rule of majority prevails in a company. A shareholder with fewer shares has only very marginal scope to act if he feels that he is getting a poor return on his investment or if he thinks that the company is badly managed by the directors. Foss v Horbottle (1943) 2 Hare 461 clearly indicated that if a wrong is done to the company, the company is the proper claimant to remedy the wrong. This shows the reluctance of the court to interfere in the management of the company (Carlen v Drury (1812) 1 Ves and b 154). Personal Claim 26. Mr Tyler can enforce personal rights arising from section 14 of Contract Act or under the general law. He will become the claimant in the same way as any other to enforce a right with the company and the directors as defendants. Derivative Action 27. Mr Tyler may make a derivative claim, a term used for proceedings by a member of a company in respect of a cause of action vested in the company and seeking relief on behalf of the company (CA 2006, S 260(1)). This is an exception to the rule in Foss v Harbottle. 28. The member bringing the claim runs the risk of having to pay both his or her own costs and the other parties’ costs. The court can direct the company to indemnify the claim form (PD 19C, para 2(2). It is likely that the court will only make an order if the claim stands a reasonable chance of success and would be for the benefit of the company. In Smith v Croft [1986] 1 WLR 580, an order was refused where in the claim stood little chance of success and the majority of shareholders were against it. A claimant was able to join a personal claim with a derivative claim with the permission of the court, which was normally given under the old rules (Cook v Cook [1997] 2 BCLC 28). 29. It is very unlikely that a derivative claim by Mr Tyler will succeed in these circumstances as there is no harm being done to the company and Mr Henderson and Mrs Wright are working to the best of their ability, in the better interest of the company. Just and equitable winding up 30. It is one of the eight statutory grounds for the compulsory winding up of a company, if the ‘court is of the opinion that it is just and equitable that the company should be wound up” The pre-requisites are that a shareholder must have held the shares for at least six out of the 18 months before presenting the petition, or must have been the original allottee of the shares. Further, the petitioner must have a financial interest in the winding up of the company. 31. The partnership of the company is a Quasi-partnership (Re Yenidje Tobacco Co Ltd [1916] 2 Ch 426). Directors cannot expect that they will be directors for life. In general, they are subject to removal by the shareholders under CA 2006, S 168, and may be subject to retirement by rotation (Model Articles for Public Companies SI 2008/3229, reg 21 and 1985 Table A, regs 73 and 74). However, there are cases where shareholders will have legitimate expectations that they will be actively involved in managing the company’s affairs (Ebrahimi v Westbourne Galleries Ltd [1973] AC 360) 32. In Ebrahimi v Westbourne Galleries Ltd [1973] AC 360 it was held that “a petitioner who relies on the just and equitable clause must come to court with clean hands and if the breakdown in confidence between him and the other parties to the dispute appears to have been due to his misconduct, he cannot insist on the company being wound up if they wish it to continue” 33. The courts are reluctant to order “just and equitable to wind up the company” if any other form of remedy is available to the petitioner. The only remedy available in this context is winding up of the company, which seems like a drastic remedy, particularly when the company is in a well settled, profitable position. Offer to buy shares of the Petitioner 34. The most effective alternative in this situation would be an offer to buy the petitioner’s shares on reasonable terms, whether it is based on a provision in the Articles of Association or a letter before or after the proceedings are commenced. If a reasonable offer to buy the petitioner’s shares is refused, an application can be made to strike out a just and equitable winding-up petition. STEPS THAT NEED TO BE TAKEN IN WINDING UP PETITION 35. Winding-up proceedings, based on a statutory demand in proper form, have been commenced against the company. The petition has been advertised and the company’s bank has frozen its bank accounts. All the company accounts are held at one branch. The company has written to the creditor when the underlying debt was first demanded, stating that the agreement was that the creditor’s invoices were payable after 60 days. Mr Henderson informs them, instructing that the petition was given to a junior employee who did not understand what it was. With the bank accounts frozen, it is not possible to pay off the petitioning creditor. 36. The grounds on which a company may be compulsorily wound up are set out in IA 1986, S122 (1). 37. The service of the petition would be considered a valid service as it was served at the registered office of the company. 38. Mr Henderson is willing to dispute the claim put forward by the petitioner because as per the rules of the company, the debts were payable after 60 days of receiving of the invoice, which was duly conveyed to the petitioner through the letter dated 20th December, 2010. If the company is willing to dispute the debt, it may: (a) Apply to strike out the petition; or (b) Apply for an injunction to restrain the petition; or (c) File an affidavit or witness statement in opposition no less than seven days before the hearing and argue that a winding-up order should not be made. 39. Winding-up petition is not to be used as machinery for trying a common law action (Re Imperial Guardian Life Assurance Society (1969) LR 9 Eq 44). In Re a company (No 00751 of 1992), ex p Avocet Aviation Ltd [1992] BCLC 869 it was held to be a case where there was a substantial dispute, so the petition was an abuse of process. A further justification for this position is that if the debt is genuinely disputed, the petitioner cannot be described as a creditor and has no locus standi in the Companies Court (Mann v Goldstein [1968] 1 WLR 1091). 40. If the petition is unsuccessful, the petitioner may also find itself in further difficulty. If it is held that there was no rational basis for genuinely believing that there was a proper basis for presenting the petition, the company may bring separate proceedings, claiming damages for the tort of malicious presentation of the petition (Partizan Ltd v O.J. Kilkenny and Co Ltd [1998] 1 BCLC 157). Validation order 41. Either the company or its bank may apply for a validation order before the petition is heard. A standard form of S 127 is used in this process. The company can apply for a validation order to the court to allow the company to pay the debts to the petitioner to avoid any further costs. Additional Information 42. (a) I would like further information, whether Mr Tyler was given a special notice and an opportunity to express his grievance against his removal. (b) Information regarding the price paid for the additional shares, if any. (c) I would like further information regarding company’s dealings with the petitioner if any. (d) Documents relating to the agreement with the petitioner and any other correspondence with the petitioner. (e) Details of dividends paid to the petitioner, if any, after his removal Conclusion: 43. With respect to the claim put forward by Mr Tyler, in my opinion, it would be unlikely for him to succeed with the claim of his illegal removal as it was absolutely legal, subject to issuing a notice of the meeting. As for the issuance of additional shares without offering them to Mr Tyler, it is very unlikely that Mr Tyler would succeed in his claim. There is a fair amount of chance for Mr Tyler to succeed if he brings a claim for unfair prejudice as he has been deprived of any form of interest in the company. In my opinion it would be in the best interest of the company if an offer is made to Mr Tyler to buy his shares. 44. If the Company desires to dispute the claim of the petitioner with respect to the winding-up petition, they may apply to strike out the petition, for an injunction order or file witness statements or affidavits against the petition. If the petition is striked out, costs will be imposed on the petitioner and if the petition is accepted, the company will have to bear the costs. In my opinion, the best option available to the company is to apply to the court for a validation order, so that the court will allow the company to use its bank accounts to pay off its debts with respect to the petitioner. ABC London 26th May 2011 Read More