Discuss whether or not the directors of Leaping Lizard Coffee Emporium Pty Ltd are in breach of the company constitution/replaceable rules by issuing shares to Ariffin. Also explain what remedies are available to the shareholders to protect their rights from potentially oppressive changes to the constitution.
Area of law and legal Issues: The Corporation Act, 2001, ‘Doctrine of Indoor Management’ and ‘Constructive notice’ are the laws that deals with the present problem. Further, there are several legal issues that are involved. Such as:
- Whether the contract is binding upon the Company;
- Whether the Managing Director (MD) or any of the Directors has breached their duties;
- Whether the Company can sue Anna and Susanna for the losses that are suffered;
- Whether the outsider is protected.
In order to understand whether the Company has to honor the contract for $25,000 which has not been approved by the MD it is important to understand the relevant provisions that govern the present problem.
The Corporation Act, 2001 is the supreme law that governs the functioning of any Company. There are several officers who work efficiently to run any Company [Dermansky P]. One of the Officers that are considers as the back bone is its Directors. A Director is defined under section 9 of the Act [Commonwealth Consolidated Acts (2011)]. The importance of a Director was held in Howard Smith Ltd v Ampol Petroleum Ltd [Ramsay I (1977)]
As per section 198A of the Act, the business must be managed as per the instructions of the Directors except those powers which must be approved in the general meeting. Further there are several duties which are prescribed under section 181-184, 191, 192.
An MD is an important part of the Company and can be appointed by the board under section 201J of the Act. As per section 198C of the Act, special powers can be allocated upon the MD by the board (Entwells Pty Ltd v National and General Insurance Co Ltd).
Further, several contracts are entered into by a Company while conducting business. A contract can be entered into by those persons who have the power to bind the company by their acts. Such power is called authority. Authority can be of three types – actual, implied and ostensible. Thus, though a Director normally has authority to bind the company but if he does not have authority than no contractual relationship can be established (Hely-Hutchinson v Brayhead Ltd).
However, there are instances wherein a representative of the Company, including a Director, who is deprived of authority, enters into a contract with third party. In such situations there is no binding contract between the third party and the Company since the person does not have any authority. The rule was held in Royal British Bank v Turquand. This rule is termed as the rule of ‘INDOOR MANAGEMENT’. It submits that the person who is conducting business with the company must be aware of its internal requirements.[Alan Krawitz (2002)].
But this rule was considered inappropriate in circumstances wherein the person who is representing the Company is the well-known face of the company, including Directors, and the third party is of the notion that all internal proceedings are met; in such situation the third party faces unnecessary consequences [Woodward et al (2001)].
Thus, to tackle the problem, it was submitted that any third party thinking that all internal proceedings are fulfilled and the representative has the authority enters into a Contract than such contract is legally binding [Hanrahan P et al (2001)]. Further, rule of constructive notice was foregone by the incorporation of Section 128-130 of the Act (Bank of New Zealand v Fiberi Pty Ltd). [Lipton et al (2001)]