Corporate Governance Issues - Case Study Example

Commercial Law Case Study

University

Law

December 9, 2017

Introduction

The case study raises various issues in relation to corporate governance. The directors of the company are bound to adhere strictly to the article of association and applicable laws guiding the operation and management of the company. The breach of these rules entitles the company to institute civil or criminal sanctions against the directors.

This paper has identified three major issues. First, whether the directors exceeded their power when they borrowed 1m? Whether Martin’s action to purchase a fleet of the vehicle was binding to the company? And lastly, whether, the directors acted within their powers in making their contributions and the remedies available to the company.

Did the directors have power to borrow the money where it is expressly provided that they should not exceed a certain amount of money?

The Companies Act 2006, section 40 states that the board of directors has the power to bind the company when they engage with the third parties. The said provision states that there is general presumption that that the directors have complied with the company’s internal constitution, when transacting with the members of public. This provision supports the common law position that the directors are the agents of the company.

Section 41 of the said Act reinforces the common law principle that a 3rd party in this case does not have to know whether all the directors have complied with all the internal rules when transacting with the company. In the present case, the constitutive documents had capped the limit of borrowing by directors to £500,000.and therefore. It is not the duty of the creditors to know that the board had exceeded their authority.

In the case of LNOC limited v Watford Association Football Club Limited [2013) Mr. Bassini, who is the owner of the club and also a director of the club borrowed a substantial amount of money from the plaintiff for the benefit of the club. The company refused to pay stating that the director did not have the power. LNOC instituted civil proceedings against Watford Association Football Club Limited Ltd.

The court in the judgment discussed the concept of actual and apparent authority. It stated that the board of directors has the power to manage the affairs of the company which can be inferred by virtue of their office or it can be expressly provided by the article of association. The court in essence was stating that a director’s duty can be inferred.

Therefore, as per the analysis of the law the Betterbuy Ltd is bound to repay the loan of £1m from Floyd’s Bank plc. The fact that the board acted in contravention of the article of association is immaterial since there is a presumption of law that the directors when taking the loan are allowed by the article of association to borrow.

Are the Board of Directors and the company bound by the actions of Martin to purchase a fleet of vehicles for a sum from Pandragan Ltd for a sum of £600,000?

Under the agency law, a director is regarded as an agent of the company. A company is an artificial person that does not have the body and the mind and therefore it only acts through its appointed officials e.g. directors. The Companies Act, 2006 Section 250 defines a director as ‘any person occupying the position of director, by whatever name called.’ The definition is not conclusive and there are various cases that have given it judicial interpretation. For example, in the case of Imperial Hydropathic Co vs. Hampson, the court stated as follows:

Directors are described sometimes as agents, sometimes as trustees and sometimes as managing directors. But each of these expressions is used as an exhaustive of their powers and responsibilities.

The directors of the company derive their power from the articles of association. Directors should endeavour to discharge their duties in compliance with the rules and regulations of the company.The facts of the case state that Martin is the sales and purchasing director of Betterbuy Ltd and he bought the fleet of vehicles in the sum of £600,000? The question that follows is whether he has the power to borrow.

In the case of Watteau vs. Fenwick (1893) The owners of the hotel employed a manager and completely forbade him from purchasing certain items such as cigars. However, the manager went ahead to buy the cigars. The third party sued the principal for payment. The court held that the buying of cigars was within the usual authority of the manager of such establishment despite the fact that the manager was forbidden to buy.

Another decision is the case of Hely-Hutchinson vs. Brayhead (1968), in this case R was the director of the Bray head Ltd , the articles of association of the said company provided that a managing director should be appointed but the company never appointed a managing director. The board of directors allowed R to act as the managing director though informally. He took a loan on behalf of the company and later issues emerged regarding the loan. The Court Of Appeal stated that the company was liable since R had actual authority implied from the nature of his work. The court stated that such powers can be implied and are incidental to the powers of the managing director.

Analyzing the above authorities Martin had the power to purchase the fleet of vehicle by virtue of his office. The issue is that he had exceeded the amount capped by the articles of association; the company has the right to take necessary action if it is shown that he acted unreasonably or dishonestly.

Did the directors have power to donate to UWL FC Ltd without the members consent in the general meeting?

The article of association is important documents that set out the administrative and managerial functions of the company. It also regulates the internal affairs of the company e.g. the functions of the board, the director powers, borrowing, and shareholder meetings. It is a binding contract between the company and the directors.

Other than the board of directors, the general meeting is another important decision- making organ of the company and is regarded as the highest organ in terms of power and management of the company. Consequently, the board of director must act in accordance with the provision of the article of association, where it expressly provides that certain action for instance “contribution” has to be made with the approval of the general meeting then they are bound to follow to do that. It must be noted that during the general meeting matter such as contributions and donation are often discussed there.

Despite the fact that the donation may be have been made in good faith, what happens when such a donation is made to a club where one of the directors has a 75% shareholding? This is clearly a conflict of interest. Conflict of interest is against corporate governance guidelines that prohibit such actions. Section 175(1) of the Companies Act is clear that the directors have the duty to avoid the conflict of interest. The act provides as follows, ‘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.’

The board of directors in the instant matter has failed to adhere to the statutory requirements of the Companies Act, the article of association and other relevant corporate governance guidelines. Therefore the company has the right to take legal action against the said directors.

Advise (i) Betterbuy and the third parties, respectively, as to the validity of the transactions and (ii) whether any liability exists under ss 41 and 171 of the Companies Act 2006.

The director/s on three occasions has/have acted in disregard of the laid down procedure and requirements of the company. First is in relation to the borrowing where they exceeded the capping of £500,000 by borrowing 1m from Floyd’s Bank plc. Secondly, Martin who is the sales and purchasing director, unknown to his fellow directors purchased a fleet of vehicle valued at of £600,000. Thirdly, the contribution by the board of directors to UWL FC Ltd amount £100,000 where Martin and shareholding of 75% raising issues of conflict of interest.

In relation to the first borrowing of 1m from Floyd’s Bank plc. ss 41 of the Companies Act 2006 provides that the third parties do not have to know whether all the internal rules have been complied with hence Betterbuy is liable to pay the Floyd’s Bank for the amount borrowed. The same view was held in the case of LNOC limited v Watford Association Football Club Limited [2013) that was discussed earlier.

As regards the second issue where Martin Borrowed £600,000, the decision of Watteau vs Fenwick (1893) is instructive on the matter. The court of appeal, in this case stated that buying cigars was within the usual authority of the manager. The same position was reiterated in the case of Hely-Hutchinson vs. Brayhead (1968) where the court stated that powers of a director can be inferred from the position. In the instant case, it is within the powers of sales and purchasing director to enter into such transaction, it is immaterial whether he did not inform the other directors or exceeded the limit. The company is bound to pay the said amount.

Thirdly, in relation to the contribution made to UWL FC Ltd. It is clear that there is a conflict of interest since Martin has a shareholding of 75% of the UWL FC Ltd. Boston Deep Sea Fishing Co vs Ansell (1888) in this case the director entered the contract with a third party, a builder of the ship where he would receive a commission which he never disclosed to the company. It was held that the director was liable and he should account for profit.

In the present case, it is not clear whether Martin influenced the board to make a contribution to the club where he has massive interest. The circumstance leading to the whole transaction is suspect since they did not bother to involve the shareholders of the company. The members have the right to interrogate the board of directors and examine the circumstances under which such payment was made. Further, the fact that there was no compliance with internal rules means that the entire process is an illegality.

Does liability arise under section s. 171 of the Companies Act 2006? The Companies Act, section 171 states a follows. “Director has: Duty to act within powers a director of a company must— (a) act in accordance with the company’s constitution, and (b) only exercise powers for the purposes for which they are conferred.’

Basing on the above provision liability does arise in the sense that it is a requirement under the Act that the directors have to act within their powers. In all the three instances, they have acted in blatant disregard of the article of association and laid down procedures. Therefore, there are personally and jointly liable for the wrongs they have committed against the company.

There are various remedies that the company can pursue against the errant directors. First, in relation to the action to contribute money to UWL FC Ltd, Betterbuy Ltd can rescind the decision or seek an injunction to stop the company from paying the money. It can also sue the directors jointly and recover the money from them

Finally, in relation to the first and second transaction where they exceeded their power and did not seek approval of the members they can be sued jointly or personally for any losses that may occur as a result of their “illegal actions.”