Validity of Pre-Registration Contracts and Director's Duties in Chip-Eze Pty Ltd

This article discusses the legal principles that guide pre-registration contracts and their enforceability under the Corporation Act 2001. It also analyzes the duties of directors towards the company and shareholders using the case of Chip-Eze Pty Ltd. The article covers topics such as the duty of good faith, common law duty of good faith, and the business judgment rule. The article also discusses the validity of pre-registration contracts and the powers of the minority to deal with modifications.

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Contents
QUESTION 1..............................................................................................................................................2
QUESTION 2..............................................................................................................................................4
Reference List.............................................................................................................................................8

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QUESTION 1
The given case scenario is an analysis on the validity of the pre registration contracts,
modification in the constitution and the powers of the minority to deal with the modifications.
The facts simply submitted that Kody and Ryder are friends and wish to start their own business.
They want to name their business as Incredible Gifts Pty Ltd. they wish that the area of the work
of their business is related to crafts and gifts which are to be sold online. On 2nd May 2018 they
visited the office to register their intending name for the company, but, the name was already
found registered. So, they register their company in the name of Astounding Gifts Pty Ltd
wherein they both were shareholders of 45% each.
Now, on 26th April 2018, Ryder on behalf of Incredible Gifts Pty Ltd made a contractual
relationship with Melanie for 12 months wherein Melanie will prepare unique gifts which will be
sold by Incredible Gifts Pty Ltd exclusively @ $5,000. But, a meeting by Kody and Ryder was
conducted on 12th May 2018 (being the majority shareholders of Astounding Gifts Pty Ltd) and
they decided that they no longer wish to continue with the contract with Melaine and refuses to
rectify the contract.
Now, the major concern that is raised here is can Melaine has the power to sue Astounding Gifts
Pty Ltd for the contract that was made by Ryder for Incredible Gifts Pty Ltd when Astounding
Gifts Pty Ltd refused the payment of contract.
At this stage it is important to understand the legal principles that guide pre registration contracts
and their enforceability under the Corporation Act 2001.
In Salomon v A Salomon and Co Ltd (1897) a company is considered as an entity of such a
nature which has the powers of an individual and has the capacity to carry all acts and omission
which is normally carried by a human being. Since a company is artificial in nature thus it
requires directors and officers for its working. (Gillies 2004)
But, before the company registration, the promoters are the persons who carry out all the
necessary acts that are needed for the incorporation of a company and such acts at times require
making contractual relationship with the parties and such contracts are called pre
incorporation/registration contracts. In common law, in Kelner v Baxter (1866) such contracts
have no validity and are considered as not enforceable in law. (Latimer 2012)

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But, section 131 of the 2001 Act has given recognition to such contract but on the condition that
when the contracts are made before the registration of the company, then, such contracts must be
rectified after the incorporation of the company and is held in Aztech Science Pty Ltd v Atlanta
Aerospace (Woy Woy) Pty Limited (2004). When the contract is given approval then such
contract is made with the incorporated company and creates binding relationship with the third
party. If the company does not perform the contract, then, the same is regarded as breach and the
third party can sue the company. However, the formation of the contract with the company
should have taken place before the company’s registration. The contracts which are made after
its registration are not covered by section 131 of the Act Commonwealth Bank of Australia vs.
Australian Solar Information Pty Ltd (1987).
.
Now, the legal principle is applied to the given facts,
It is submitted that Ryder on behalf of Incredible Gifts Pty Ltd has made a contract with Melaine
on 26 April 2018. So, Ryder acting as the promoter of Incredible Gifts Pty Ltd has made a
contract with Melaine and as per Kener v Baxter (1866) the contract is invalid.
But, as per section 131 of the 2001 Act and Commonwealth Bank of Australia vs. Australian
Solar Information Pty Ltd (1987), if Incredible Gifts Pty Ltd give recognition to the contract after
its incorporation, then, the contract can be held to be enforceable with Melaine.
The company was registered on 2n May but in the name of Astounding Gifts Pty Ltd. this new
company has given recognition to the contract with Melaine. It is submitted that the recognition
and approval by Astounding Gifts Pty Ltd is valid as the company was same but was registered
with different name. The directors of Incredible Gifts Pty Ltd were same as that of Astounding
Gifts Pty Ltd. thus, an approval by Astounding Gifts Pty Ltd is nothing but an approval to a pre
registration contract and is valid.
SO, Melaine has every right to sue Astounding Gifts Pty Ltd if the contract is not honored by the
company,
It is also found that Salman was holding 10% shares in Astounding Gifts Pty Ltd and is also the
accountant in the company. But, Ryder and Kody pass a resolution and buy back the
shareholdings of all the shareholders with less the 125 shares.

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Now, the major concern is that Salman is not aware whether the constitution can be altered by
such resolution and whether he has any right to prevent the company from buying back his
shares.
A company has an option to run through the provisions of its constitution. If any time the
commonly is of the belief that it needs to bring changes, modification or alteration to its
constitution, then, the same can be done under section 136 (2) of the 2001 Act. The alteration can
be bought by calling a shareholders’ meeting and passing the resolution by 75 % votes. The
resolution is binding on all the shareholders. (Legal Vision 2018)
Now, on 10th July 2018, Kody and Ruder called the meeting and passed a special resolution
alteration the constitution and seeking power of buy back shares of shareholders holding less
than 12% shares is permitted as the resolution is passed by 90% of the votes (45% + 45%). Thus,
the resolution is binding.
Thus, this the process that Salman must consider which requires alteration of the constitution.
Now, as per section 246B of the Act this exploration of shares are considered to be valid when
the shareholders are of the view that the minority shareholder is acting against the interest of the
company or the minority is hampering the company or it is just an equitable to carry out the
exploration of the shares and is held in Gambotto v WCP Ltd (1995) and Bundaberg Sugar Ltd v
Isis Central Sugar Mill Co Ltd [2006]. (Cassidy 2006)
It is submitted that Salman has take the position of an accountant in competitor Incredible Gifts
Pty Ltd, which is the rival company of Astounding Gifts Pty Ltd. Thus, the acts of Salman, being
the minority shareholders, are such that it will hamper Astounding Gifts Pty Ltd. also, Salman is
continuously encoring Melaine that she should sell the gift to the rival company. Thus, the acts
of Salam are totally unjust and not in the good will of the company. The presence of Salman is
totally not in the best interest of Astounding Gifts Pty Ltd and thus it is just that exploration of
the shares is valid and the alteration of the shares by Ryder and Kody is valid.
QUESTION 2
The given case scenario is an analysis on the duties that a director must cater towards the
company and the shareholders of the company.

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As per the facts of the case, Chip-Eze Pty Ltd is a potato manufacturing company and dealing in
the two businesses, that is, ‘potato crisp’ and ‘frozen potato chips’. The directors are Michaela,
Jordon and Marianne holding 25% each and Ayub, Saeed, Donte, Neeve and Faizah are other
shareholders together holding 25%.
Now, a company directors are the working officers of the company as authorized under section
of 2001 Act. The directors are given responsibly to act for the company and to take decisions for
the company as the company does not have a mind of its own. This power is enshrined on the
directors under section 198A of the Act and is held in Deputy Commissioner of Taxation v Austin
(1998). (Latimer 2012)
Now, there are various responsibilities that must be catered by the company director as they are
the officers and agents of the company who take decisions on behalf of the company. some of the
responsibilities that must be carried on by the directors includes:
i. Section 181 of the 2001 Act – The duty of good faith is enshrined under section 181
of the 2001 Act. an duty is casted on the every officer and director of the company
and it was held that all the acts of the directors which are carried out in the name of
the company should be such which is in the good faith of the company considering
the interest of the company and the acts are carried out for proper purpose and is
analyzed in Re Smith & Fawcett Ltd [1942]. The acts that are carried out by the
directors is cortically evaluated as per the understanding of the court and thus
objectively and is held in The Bell Group Ltd v Westpac Banking Corporation (no 9)
[2008].
ii. Section 191- 15 of 2001 Act – When the directors are acting for the company then it
is the supreme responsibly of the directors that all their acts are in the company
interest and if there are chances that there is conflict in the interest of the director with
that of the company then it is the interest of the company that must be kept on priority
and is held in ASIC v Adler [2002]
iii. Common law duty of good faith – The directors are holding a fiduciary duty not
towards the company but to every company officer. This fiduciary duty is equivalent
to section 181 of the Act and must be cater in the most appropriate manner.

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Now, the law is applied to the given situation,
It is submitted that the business dealing in potato crisp chips is running into losses and in order to
avoid any payments to the creditors of the business of crisp chips the Chip-Eze Pty Ltd decided
that they should form a new company in the name of Freeze Me Pty Ltd and that Chip-Eze Pty
Ltd will transfer its profitable business of frozen chips to Freeze Me Pty Ltd. Thus, the only
business that is left with Chip-Eze Pty Ltd which is running in loss and thus they can avoid the
payment to creditors.
In these situations it is submitted that all Michaela, Jordon and Marianne are the majority
directors of the company holding 75% of the shares. It is their duty that the acts that are carried
out by them must be in good faith. It is submitted that all the directors have decided that they will
shift their profitable business to the new company so that they can avoid the payment of due to
the creditors. Thus, the acts are not in good faith and are clear violation of section 181 of the
2001 Act. The acts are not for proper purpose as the purpose for which they new company is
created and the profitable business is transferred is to bring again to themselves and loss to the
creditors. So, there is no honesty on the part of Michaela, Jordon and Marianne.
Also, the directors, Michaela, Jordon and Marianne, are preferring their own interest over the
interest of the creditors. Thus, there is breach of section 191-195 of the 2001 Act.
Apart from the statutory law the com on law duty of fiduciary relationship is also exploited by
Michaela, Jordon and Marianne to bring benefit to them at the cost of the suppliers and the
creditors of the old company.
Now, apart from the stated duties above, there are also various other duties which are needed to
be understand in order to advice Faizah who acted on the advice of Jordon.
Every director of the company is also imposed with the duty that whatever acts that are carried
on by him should be accomplished in all careful and diligent manner to secure the interest of the
company and the purpose for which the same are taken are proper and is held in section 180 of
the Act. The diligence and carefulness is imbibed in every acts of the director. But, this duty is
not analyzed objectively but is held in Statewide Tobacco Services Ltd v Morley (1990) that if
the director can prove that the acts that are carried out by him are to the best of knowledge and

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are taken by seeking exert advice and in good faith, then, he can rely on section 180 (2) of the
Act (business judgment rule) and safe guard himself and is held in Daniels v Anderson (1995).
Also, when a person is appointed at the post of the director then he has several authorities and
powers that are given to him. It is very necessary that he must use the position in the company
interest and for proper purpose and no acts should be carried out that is beneficial to the director
himself and against the company including the shareholders of the company. This duty is casted
under section 182 of the 2001 Act. Likewise, no director is allowed to use the company
information for his own advantage and which is detrimental to the company and its shareholders
and is held under section 183 of the act and is analyzed in R v Byrnes (1995). (Latimer 2012)
Also, if the acts of the director are such that it brings loss to the shareholders of the company and
the acts are carried intentionally then it is a kind of phoenix activity and such activities are not
permitted in law.
Now, it is found that Faizah is the minority shareholder of the company. On 6th August he visited
Jordon and shows his intention to buy 5% shares in Chip-Eze Pty Ltd. now, Jordon being the
majority shareholder is aware that Chip-Eze Pty Ltd is in the process of selling his profitable
business to the new company. This information is received by him because of his position and
information that is received by him. But, he misused this information and without letting
anything know to Faizah, he sold his own shares to him. Thus, there is clear breach of section
182 and section 183 by Jordon.
Also, Jordon has a duty to carry his acts with all care and diligence. But by selling his shares to
Faizah he has acted in the most careless manner which is not in the interest of the shareholders of
Chip-Eze Pty Ltd. Thus, there is clear breach of section 180 by Jordon.
Also, by selling his own shares to Faizah, loss is inflicted by Jordon; so, Jordon is indulged in
phenoic activity which is not permissible.
Thus, Faizah has every right to sue Jordon for the breach of directorial duties as he misused his
position and information and the acts are not carried with care and diligence towards Faizah.

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Reference List
Books/Articles/Journals
Australia, 2011, Australian Corporations & Securities Legislation 2011: Corporations Act 2001,
ASIC Act 2001, related regulations, CCH Australia Limited.
Cassidy, J 2006, Concise Corporations Law, Concise Corporations Law, Federation press.
Gillies, P 2004, Business Law, Federation Press,.
Latimer, P 2012, Australian Business Law 2012, CCH Australia Limited.
Case Laws
Aztech Science Pty Ltd v Atlanta Aerospace (Woy Woy) Pty Limited (2004).
ASIC v Adler [2002] NSWSC 171.
Bundaberg Sugar Ltd v Isis Central Sugar Mill Co Ltd [2006] QSC 358.
Commonwealth Bank of Australia vs. Australian Solar Information Pty Ltd (1987).
Daniels v Anderson (1995).
Deputy Commissioner of Taxation v Austin (1998) 28 ACSR 565.
Gambotto v WCP Ltd (1995) 182 CLR 432;
Kelner v Baxter (1866) LR 2 CP 174
Re Smith & Fawcett Ltd [1942] Ch 304.
R v Byrnes (1995).
Salomon v A Salomon and Co Ltd (1897).
Statewide Tobacco Services Ltd v Morley (1990)
The Bell Group Ltd v Westpac Banking Corporation (no 9) [2008] WASC 239.
Online Material
Legal Vision, 2018, How to amend a constitution <https://legalvision.com.au/how-to-amend-a-
company-constitution/>.