School of Business Law and Taxation LEGT 2741 BUSINESS ENTITIES

SESSION 2 2007

FINAL EXAMINATION
Time Allowed: 3 hours Total Number of Questions: 4 Answer all FOUR QUESTIONS Each question is worth 15 marks

Each question must be answered in a separate book

Answers must be written in ink Candidates may retain a copy of this paper This is a closed book exam

QUESTION 1

(15 Marks)

Mandatory disclosure of financial and other information, reflecting the philosophy that sunlight is the best disinfectant, is an essential component of the system of corporate governance. [Austin & Ramsay Fords Principles of Corporations Law, 13th Ed, 2007, LexisNexis]

Do you agree that mandatory rather and voluntary disclosure rules are essential to proper corporate governance? Discuss with reference to the types of corporate governance mechanisms which currently exist for Australian companies whose shares are listed on the Australian Stock Exchange.

QUESTION 2

(15 Marks)

ANSWER ANY 3 PARTS OF THIS QUESTION (3 X 5 MARKS) (a) The distinction between the company and its controllers have consistently been recognised and upheld by the courts. However, the courts have also recognised that in certain circumstances the separate legal entity principle is not sacrosanct and have been prepared to ignore the corporate veil. Lord Denning recognised in Littlewoods Mail Order Stores Ltd v McGregor (1969) 3 All ER 855 at 860 that incorporation does not fully cast a veil over the personality of a limited company through which the courts cannot see. In what circumstances will the courts lift the corporate veil? Refer to relevant court decisions in your answer. (b) The maintenance of share capital rule is of limited relevance today. Discuss the relevance of this rule under modern company law with reference to the Corporations Act. (c) Several law review committees recommended the introduction of a statutory procedure to enable individual shareholders to commence proceedings on behalf of a company where the company is unwilling or unable to litigate itself. The proposals were enacted as Pt 2F.1A of the Corporations Act in 2000. Describe the key ways in which the statutory derivative action under the Corporations Act benefits shareholders as opposed to the old common law rule in Foss v Harbottle (1843) 67 ER 189. (d) Describe how a trust can be established to limit liability to creditors. In what circumstances can creditors seek recovery of their debts beyond the assets of the trust ?

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QUESTION 3

(15 Marks)

In early 2004 Ned Sampson, a retired politician, agreed to become the Chairman of Hard Rock NL (Hard Rock), a speculative gold mining company which held some mining leases in Western Australia. Just prior to Ned joining the board, Hard Rock had raised $2 million to continue its gold exploration activities. The board of Hard Rock now comprised of three directors. The other directors of Hard Rock were Phillip Underwood, who was also a non-executive director, and Darcy Digger who was the chief executive officer. Darcy was employed by Hard Rock through his private company, Dignot Pty Limited. This fact was disclosed in every Hard Rock annual report from 2004 to 2006. Small Pebble Limited (Small Pebble) is a geological consulting firm. The 2004 annual report of Small Pebble listed, among its top ten shareholders, Phillip Underwood and Dignot Pty Limited. In the same annual report, the auditors of Small Pebble state that the continued financial viability of Small Pebble depended upon it obtaining significant new consulting contracts. In May 2004 it was reported in the Australian Financial Review that Small Pebble had lost its largest account with one of Australias largest mining companies due to gross incompetence on the part of its chief geologist. This person is still employed by Small Pebble. At a board meeting of Hard Rock in late 2004, Darcy Digger proposed that Hard Rock engage Small Pebble, for a fee of $1,000,000, to undertake geological work for Hard Rock over the next two years. All of the board members voted in favour of the resolution. Ned Sampson was provided with a copy of the annual report of Small Pebble one day before this board meeting but did not read it. He does not regularly read the financial press. By the end of 2005 Hard Rock, having found no significant mineral deposits on its mining leases, gave up these leases. In 2006 another company took up the same leases and, in March 2006, made a significant and valuable discovery of gold. At the August 2006 annual general meeting of shareholders of Hard Rock, the three directors were removed and replaced with a new board. The new board has since discovered that Small Pebble was grossly negligent in its work for Hard Rock and did almost no exploration work for its $1,000,000 fee. Advise the following directors of their potential liability for breaches of directors duties under the Corporations Act and the common law with reference to relevance precedents.

1. Ned Sampson (5 Marks); 2. Darcy Digger (5 Marks); and 3. Phillip Underwood; (5 Marks)

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QUESTION 4

(15 Marks)

Purple Petroleum Limited (Purple) is a distributor of petrol and automotive products to about 200 independent service stations throughout NSW. It supplies its products on terms that the service station has to pay invoices to Purple within 20 days of goods supplied. Purples main supplier is Big Oil Limited (Big Oil), who supplies petrol to Purple on the first day of each month on terms that the petrol has to be paid by the final day of the following month. As security for Purples indebtedness, Big Oil has a registered fixed charge over Purples main asset being its fleet of petrol tankers. This fleet is valued at about $300,000. Big Oil is currently owed approximately $500,000 by Purple. Purple also has several unsecured creditors who supply it with automotive products. Purple currently owes these creditors, collectively, approximately $50,000. Because of competition from the large service station chains such as Shell and Caltex, the independent service stations are experiencing financial difficulties and are failing to pay their accounts to Purple within 20 days. This has resulted in Purple having difficulty paying Big Oil and its other creditors on time. One of the unsecured creditors of Purple, Better Batteries Pty Limited, has just served a statutory demand (under s.459E of the Corporations Act ) on Purple seeking repayment of its debt. The directors of Purple are concerned about the risk of trading whilst insolvent but believe that the company can trade out of its difficulties and wish to avoid having a liquidator appointed to Purple.

1.

Other than the appointment of a liquidator, advise the directors of Purple as to the most appropriate form of external administration available. With reference to the Corporations Act, set out in your advice how the procedure would operate and the effect of the procedure on the company and the directors. (10 Marks); and Advise Big Oil of the effect of the procedure you recommended, in question 1 above, on its ability to enforce the fixed charge and thereby recover the debt it is owed by Purple. (5 Marks)

2.

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