LAW2106: Law of Business Organisations-University of Southern Queensland

Question 1

David had a great idea for a new app, called Bookface, which allowed book enthusiasts to discuss their favourite novels.David incorporated a new company, Start Up Pty Ltd to market the app.

David was the sole director of Start Up Pty Ltd but the company had three shareholders, David and his brother and sister John and Jane. Each held one share each. John and Jane were not involved inthe company other than to the extent that they contributed start-up capital and were in turn provide with shares.Start Up Pty Ltd entered a contract with a web developer, Susan, to develop the app and paid a small deposit out of the monies contributed to Start Up Pty Ltd by John and Jane.Susan worked day and night on the Bookface project for one month but just before completing her work saw a news story featuring David, who had sold his Bookface idea to Big Blue Co Ltd for a largeundisclosed sum.

Susan tried to contact Start Up Pty Ltd but their office had been shut down. A search of the company confirms that it has no assets and Susan is unable to obtain payment for the work she hasperformed.

Advise Susan if she has any recourse against David? John and Jane have also been left empty handed as David’s contract with Big Blue Co Ltd was in his own name, making no reference to Start Up Pty Ltd. Do John and Jane have any recourse against David?

Question 2

Steven, Grace and Amanda are siblings. Their father operated a very successful pub and upon passing away, left the pub to them in equal shares.

Steven, Grace and Amanda seek your advices as to how they should operate the pub. They all wish to be involved as they have all had successful careers and now would like a new challenge. None ofthe children have had any experience in operating a pub as they were raised by their mother who

had separated from their father while they were still very young and therefore, have not spent much time in or around pubs. They have each accumulated significant wealth during their previous careersin medicine and law and wish to protect this from any risk associated with operating the pub. Thepub has operated very successfully in recent years, with a profit in excess of $5,000,000.00 per year.

Steven Grace and Amanda have requested that you provide them with two alternative business structures to choose from.

Advise Steven, Grace and Amanda, by reference to the information provided, of two businessstructures and the pros and cons of each. The business structures you may suggest should be selected from the following list:-

1. Partnership;
2. Fixed/Unit Trust;
3. Discretionary Trust;
4. Proprietary Limited Company.

Answer 1

Issue

1. Whether Susan has any recourse against David?
2. Whether John and Jane have any recourse against David as the contract with Big Blue Co Ltd was entered in the name of David alone.

Law

A company is a form of business which is established upon incorporation. In Australia, the commonwealth Act 2001 lays down provisions for the registration of a company. Upon registration a company acquires a status of Separate Legal entity and is analysed in Salomon v Salomon & Co Ltd.

Separate legal entity implies that a company is distinct from its members. That is, the act of the company cannot be associated with the acts of the members an officers and whatever action that are undertaken on behalf of an officer will be in the name of the company and will make the company liable for the same and is held in MacLaine Watson & Co Ltd v Department of Trade and Industrybut it should be kept in kind the actions that are undertaken by the officers must be carried out in utmost good faith and due diligence.

Normally, the officer who is held to be responsible for the working of a company are called Directors and are empowered to carry out all important and day to day activities of the company. The power derived by the directors is established from section 198A of the Corporation Act 2001. A director is under the obligation to carry out the tasks in an effective manner and the obligation of the director does not ceases even of the company cease to perform its functions. Thus, the role of the director is eternal.

Thus, there are duties which must be catered by the director of the company the avoidance of which will make him personally liable to make good the loss that is suffered to the shareholders, employees, clients because of such actions. The duties are numerous both captured by the statutory and common law.

Foremost every Director of the company must act in the manner which is in good faith and not for his own benefit. In section 181 of the Act the director is imposed with such obligation the violation will make him liable personally and is held in Brunninghausen v Glavanics . Also, the actions must be supported by due care and diligence. No action must be undertaken which is not for proper purpose and if the same is violated then the directors is said to have violated section 180 of the Act and is held in Westpac Banking Corporation v The Bell Group Ltd (In Liq) .

The director must always supersede the interest of the company. If situations arises that the interest of the director conflicts with the interest of the company then it is his paramount duty that he must avoid such conflicts as per section 191-195. But if the conflicts still persist then the interest o f the company must prevail in each and every situation. In Walker v Wimbome it was held that of the director of the company avoids his duty then he is personally liable to make good the loss that is suffered by the person because of such violation.

Further, many a times the director of the company receives several confidential and important information because of his directorial position. In such scenarios it is the duty of the director that in no manner he must mis-utilised the position and information of the company for his benefit and if he does then the same is in violation of section 182 and section 183 of the Act.

The director must not in any manner mis-utilised the funds of the company for his own benefit which he has received because of his directorial position. If any funds are mis-utilised than he must compensate back the losses that are suffered. Also, if any contract is violated by the director because of his action then the director is held personally liable for such actions.

Thus, these are some of the duties that can be imposed on the shoulders of the directors and if the director dose not fulfils the above duties then there are various penalties that can be imposed upon him. Such as :

1. Civil penalty upto $ 200,000;
2. Personally liabel to the losses suffered by the company and other personnel’s because of him;
3. Can be disqualified;
4. May imposed with criminal penalty of imprisonment of 5 years and penalty up to $ 200,000

Thus, these are the obligations that are imposed on the directors of the company. After analysing the law, it is important to apply the law on the raised issues.

Application

Prior applying the law, it is important to understand brief facts, David established a new company, Start Up Pty Ltd, to market his application ‘Bookface’. The company has one Director ((David) and three equal shareholders (David, John (brother) and Jane (sister)). John and Jane were not involved in the company affairs.

The company entered into a contract with Susan to develop the application and paid a small deposit out of company fund contributed by John and Jane. However, David sold his idea to Big Blue Co Ltd for an undisclosed amount. When contacted, the company office was shut down, had no assets and thus Susan cannot obtain her payment.

Thus, after evaluating the facts, it is submitted that all Susan, John and Jane have recourse against David.

This is because David was the only director of the company and as wholly responsible or the affairs of the company. After the formation of Start Up Pty Ltd, it has a separate legal existence in the eyes of law. Any contract that is established by the director is in the name of Start Up Pty Ltd and will make all the other shareholders liable for the same. Also the money received by the David was the exclusive funds of the company. However, David by avoiding contract with Susan has violated the contract and by using the funds as violates his position as a director.

Thus, David is liable for violation of his duties and must be penalised for the same.

Conclusion

Hence, all Susan, John and Jane has right to sue David. Susan will sue David for breach of contract and Jane and John will sue David for violation of his duties.

Answer 2

Issue

The main issue is to advice Steven, Grace and Amanda on the kind of business they may establish for the running of the Pub.

Law

In Australia, in order to establish business there is no one kind of formation, rather, a person can establish his business in several ways, such as, a Fixed/Unit Trust, Partnership, Proprietary Limited company and Discretionary Trust.

In order to advice the siblings on the kind of business structure they must choose, it is necessary to critically evaluate the same.

The first kind of business establishment is Trust. A trust is something in which a fiduciary relationship is formulated in which a person keeps the property title for the advantage of another. Thus, the trustee (legal controller) keeps the property for the benefit of beneficiary (legal owner). The main reason for trust establishment is to safeguard property. There are several tax advantages that can be availed because of trust formation. Thrust can be of two forms :

1. Fixed Trust – in fixed trust the shares of the beneficiaries in income/assets are already decided and thus there is no variation in the income distribution by the trustee.
2. Discretionary Trust – in this kind of trust a discretion is allowed to decide as who will receive the distributions from the trust.

Apart from trusts, two other kinds of business structures are partnership and Limited Liability Company.

A partnership is an association of more than one person, where such persons undertake to carry on the business on regular basis with the main object to earn profits from such business. Establishing a business results in several advantages, such as, First, forming a partnership is very easy and quick; second, there is no scope of any outside entrant thus results in maintaining confidentiality; Third, there are many tax advantages that can be availed with partnership; fourth, the control is in the hands of partners thus all decisions can be taken by them alone.

However, apart from advantages there are few disadvantages that can also be attributed to a partnership. Such as, first, the liability of the partners is unlimited and thus the financial burden is on the partners; second, as soon as there is variation in partnership, the business ceases to exist. Thus, the dissolution of partnership is very easy and thus not good for thebusiness; third, it is not easy to transfer the interest of partners to some other person.[1] (The Quinn Group, 2015)

Thus, after evaluating the scope of a partnership, it is now important to assess the scope of a limited liability company.

Limited Liability Company is a business formation which requires incorporation. Upon incorporation, when a business is formulated it results in the creation of an artificial legal person in the eyes of law, that is, the company is distinct from its members. Once a company is formed there are any advantages that can be attributed. Such as, First, separate legal entity which submits that the company is distinct from its members and any act that is undertaken is in the name of the company; second, the liability of the member of a company is limited, that is, the members are not liable for the entire debts of the company, rather, they are answerable only to the extent of their shareholdings in the company; third, the tax rates that are applicable to a company are very advantageous; Fourth, experts can be appointed for carrying out task without making them part of the company; Fifth, the shares are very easily transferrable.

Thus, these are some of the advantages of a company. However, there are few disadvantages that can also be attributed to a company. The same are First, the company is very expensive and very time consuming to formulate; second, various ASIC requirements needs to be complied with; Third, it is very costly to wind up a company; Fourth, several penalties are imposed on the officers of the company for not complying with their obligations.

Thus, these are the disadvantages that can be associated with the formulation of a company.

After, evaluating all the business structures, it is now important to evaluate the raise issues.

Application

Prior applying the law, it is important to understand brief facts,

Steven, Grace and Amanda are siblings. They inherited a pub in equal shares. They have no idea as how to operate a pub. They acquired wealth from their careers in law and medicine and thus want to secure the same while operating the pub. The pub was earning profit in excess of $5,000,000.00 per year.

Considering the facts,

It is not advised that the sibling must operate their business by way of trusts. Trust segregates the legal controller from legal owner and since the sibling’s wants to run their own business thus trust is not the rights option.

Further, from company and partnership, it is submitted that all the three siblings, that is, Steven, Grace and Amanda wants to secure their wealth while establishing and carrying out a business. Thus they want to limit their liabilities which are only possible if the business i operated by way of a limited liability company. On incorporation their liability will be limited and thus they can protect their wealth along with earning profits.

If the business is formed by way of partnership then any loss will negatively affect their wealth and thus forming a business by way of partnership is not a better choice.

Conclusion

Thus, it is advised that Steven, Grace and Amanda must operate their pub by way of a limited liability company.