上海交通大学：《外国法专题（比较公司法）》课程教学资源（Course Materials）Company Law I_Company Law I Lecture 5：Promoters and Pre-incorporation contracts

5/11/2011 Company Law I Lecture 5:Promoters and Pre- incorporation contracts Promoters:scenario A rogue is thinking of some way to make some money. He decides to buy some land and sell it to a company that he will form. He buys a piece of land for $5,000,000. He then creates a new company and appoints himself and a friend as directors. He invites investors to subscribe to the company. He then sells the land to the company for $8,000,000.As director, he uses the money paid by subscribers to pay for the land. So he pockets the $3,000,000 profit,and soon after he winds up the company. Will the law permit this??

5/11/2011 1 1 Company Law I Lecture 5: Promoters and Pre￾incorporation contracts 2 Promoters: scenario • A rogue is thinking of some way to make some money. • He decides to buy some land and sell it to a company that he will form. • He buys a piece of land for $5,000,000. • He then creates a new company and appoints himself and a friend as directors. • He invites investors to subscribe to the company. • He then sells the land to the company for $8,000,000. As director, he uses the money paid by subscribers to pay for the land. • So he pockets the $3,000,000 profit, and soon after he winds up the company. • Will the law permit this??

5/11/2011 Promoters ·Who is a promoter? Twycross v Grant(1877)2 CPD 469 at 541 Cockburn CJ:one who"undertakes to form a company with reference to a given project and to set it going,and undertakes the necessary steps to accomplish that purpose." Tracy v Mandalay Pty Ltd(1953)88 CLR 215 .Not [for]the hope of profit from the operation after its setting up...but the very profit from its establishment... Promoters Emma Silver Mining Co Ltd v Lewis and Son (1879)2CPD396 Lindley J:"the term 'promoter'involves the idea of exertion for the purpose of getting up and starting a company." Implication:coverage of the term "promoter" 2

5/11/2011 2 3 Promoters • Who is a promoter? • Twycross v Grant (1877) 2 CPD 469 at 541  Cockburn CJ: one who “undertakes to form a company with reference to a given project and to set it going, and undertakes the necessary steps to accomplish that purpose.” • Tracy v Mandalay Pty Ltd (1953) 88 CLR 215  Not [for] the hope of profit from the operation after its setting up … but the very profit from its establishment … 4 Promoters • Emma Silver Mining Co Ltd v Lewis and Son (1879) 2 CPD 396  Lindley J: “the term ‘promoter’ involves the idea of exertion for the purpose of getting up and starting a company.”  Implication: coverage of the term “promoter

5/11/2011 Examples of promoters To arrange for someone to be a director To arrange to place shares To negotiate preliminary agreements To arrange for existing company to raise new capital from the public(but with exceptions) Examples of promoters To prepare prospectus(s 40(5)) Liable for untrue statements in the prospectus to the subscribers for shares or debentures Exceptions to this liability rule No joint liability between promoters 3

5/11/2011 3 5 Examples of promoters • To arrange for someone to be a director • To arrange to place shares • To negotiate preliminary agreements • To arrange for existing company to raise new capital from the public (but with exceptions) 6 Examples of promoters • To prepare prospectus (s 40(5))  Liable for untrue statements in the prospectus to the subscribers for shares or debentures  Exceptions to this liability rule  No joint liability between promoters

5/11/2011 How to Promote? Most common way:buy and sell Promoters and fiduciary duties Fiduciary duties imposed on promoters Erlanger v New Sombrero Phosphate Co(1878)3 App Cas 1218 (House of Lords) Lord Cairns:"..in a fiduciary position.They have in their hands the creation and moulding of the company;they have the power of defining how,and when,and in what shape,and under what supervision,it shall start into existence and begin to act as a trading corporation." The promoter...provide it with a board of directors,"who shall both be aware that the property which they are asked to buy is the property of the promoters,and who shall be competent and impartial judges as to whether the purchase ought or ought not be made." 8 ?

5/11/2011 4 7 How to Promote? • Most common way: buy and sell 8 Promoters and fiduciary duties • Fiduciary duties imposed on promoters  Erlanger v New Sombrero Phosphate Co (1878) 3 App Cas 1218 (House of Lords) • Lord Cairns: “… in a fiduciary position. They have in their hands the creation and moulding of the company; they have the power of defining how, and when, and in what shape, and under what supervision, it shall start into existence and begin to act as a trading corporation.” • The promoter … provide it with a board of directors, “who shall both be aware that the property which they are asked to buy is the property of the promoters, and who shall be competent and impartial judges as to whether the purchase ought or ought not be made

5/11/2011 Promoters and fiduciary duties Fiduciary duties imposed on promoters Erlanger v New Sombrero Phosphate Co(1878)3 App Cas 1218 (House of Lords) Lord Cairns:"I do not say that the owner of the property may not promote and form a joint stock company,and then sell his property to it,but I do say that if he does he is bound to take care that he sells it to the company through the medium of a board of directors who can and do exercise an independent and intelligent judgment on the transaction,and who are not left under the belief that the property belongs,not to the promoter,but to some other person..." Lord O'Hagan:"it required,in its exercise,the utmost good faith, the completest truthfulness,and a careful regard to the protection of the future shareholders." Promoters and fiduciary duties Fiduciary duties imposed on promoters Erlanger v New Sombrero Phosphate Co(1878)3 App Cas 1218 (House of Lords) Lord O'Hagan:"In all such cases the directorate nominated by the promoters should stand between them and the public,with such independence and intelligence,that they may be expected to deal fairly,impartially and with adequate knowledge in the affairs submitted to their control." "the promoters in this case failed to remember the exigencies of their fiduciary position,when they appointed directors who were in no way independent of themselves,and who did not sustain the interests of the company with ordinary care and intelligence..." ."such a transaction ought not to be allowed to stand." 10 6

5/11/2011 5 9 Promoters and fiduciary duties • Fiduciary duties imposed on promoters  Erlanger v New Sombrero Phosphate Co (1878) 3 App Cas 1218 (House of Lords) • Lord Cairns: “I do not say that the owner of the property may not promote and form a joint stock company, and then sell his property to it, but I do say that if he does he is bound to take care that he sells it to the company through the medium of a board of directors who can and do exercise an independent and intelligent judgment on the transaction, and who are not left under the belief that the property belongs, not to the promoter, but to some other person…” • Lord O’Hagan: “it required, in its exercise, the utmost good faith, the completest truthfulness, and a careful regard to the protection of the future shareholders.” 10 Promoters and fiduciary duties • Fiduciary duties imposed on promoters  Erlanger v New Sombrero Phosphate Co (1878) 3 App Cas 1218 (House of Lords) • Lord O’Hagan: “In all such cases the directorate nominated by the promoters should stand between them and the public, with such independence and intelligence, that they may be expected to deal fairly, impartially and with adequate knowledge in the affairs submitted to their control.” • “the promoters in this case failed to remember the exigencies of their fiduciary position, when they appointed directors who were in no way independent of themselves, and who did not sustain the interests of the company with ordinary care and intelligence…” • “such a transaction ought not to be allowed to stand

5/11/2011 Promoters and fiduciary duties Duty not to profit from position "Eg:transactions selling assets to company Duty not breached if there is disclosure to (or consent from): independent directors [cf Erlanger v New Sombrero Phosphate Co(1878)3 App Cas 1218 (House of Lords)];or initial shareholders. 11 Promoters and fiduciary duties If funds raised from public investors,then disclosure to potential investors also required The function of disclosure in this context The requirements imposed on the disclosure The disclosure requirement also imposed on directors Duty to the liquidator [i.e.,Re Darby,ex p Brougham [1911]KB 95(King's Bench Division)] 12 6

5/11/2011 6 11 Promoters and fiduciary duties • Duty not to profit from position  Eg: transactions selling assets to company • Duty not breached if there is disclosure to (or consent from):  independent directors [cf Erlanger v New Sombrero Phosphate Co (1878) 3 App Cas 1218 (House of Lords)]; or  initial shareholders. 12 Promoters and fiduciary duties • If funds raised from public investors, then disclosure to potential investors also required • The function of disclosure in this context • The requirements imposed on the disclosure • The disclosure requirement also imposed on directors • Duty to the liquidator [i.e., Re Darby, ex p Brougham *1911+ KB 95 (King’s Bench Division)]

5/11/2011 Gluckstein v Barnes [1900]AC 240 (House of Lords) Syndicate bought an exhibition hall at a discount of 140K. Promote a company:Olympia Ltd.without independent directors Sold land to Olympia at 180K. Disclosed profit of 40K and "interim investments"in the prospectus. Undisclosed profit of 20K made on buying mortgages on the property. Olympia liquidated 4 years later and liquidator claims 6,341, part of 20K received by Gluckstein. Secret profit of 20K payable to Olympia. 13 Gluckstein v Barnes [1900]AC 240 (House of Lords) What were Gluckstein's 4 arguments? ·What's the ruling? Lord Macnaghten:refund the whole of the money penal interest 14

5/11/2011 7 13 Gluckstein v Barnes [1900] AC 240 (House of Lords) • Syndicate bought an exhibition hall at a discount of 140K. • Promote a company: Olympia Ltd. without independent directors • Sold land to Olympia at 180K. • Disclosed profit of 40K and “interim investments” in the prospectus. • Undisclosed profit of 20K made on buying mortgages on the property. • Olympia liquidated 4 years later and liquidator claims 6,341, part of 20K received by Gluckstein. • Secret profit of 20K payable to Olympia. 14 Gluckstein v Barnes [1900] AC 240 (House of Lords) • What were Gluckstein’s 4 arguments? • What’s the ruling? • Lord Macnaghten: refund the whole of the money + penal interest

5/11/2011 Remedies A wide choice of remedies available against a promoter acting in breach of his fiduciary obligations: Rescission of contract of sale(at the option of the co) Restitution of a benefit the promoter has received In equity:on the basis of constructive trust At law:claim for money (a party to a secret bargain)can be sued in an action of deceit Account of profits(where promoter acquires property as trustee for company):Whaley Bridge Calico Printing Co v. Green(1879)5 QBD 109 15 Remedies What happens if rescission is no longer possible or if the co elects to affirm the contract?Is there an alternative remedy by way of an account of profits?Re Cape Breton Co (1885)29ChD795,CA Common law damages where there is a misrepresentation/deceit/negligence 16 8

5/11/2011 8 15 Remedies • A wide choice of remedies available against a promoter acting in breach of his fiduciary obligations:  Rescission of contract of sale (at the option of the co)  Restitution of a benefit the promoter has received In equity: on the basis of constructive trust At law: claim for money  (a party to a secret bargain) can be sued in an action of deceit  Account of profits (where promoter acquires property as trustee for company): Whaley Bridge Calico Printing Co v. Green (1879) 5 QBD 109 16 Remedies  What happens if rescission is no longer possible or if the co elects to affirm the contract? Is there an alternative remedy by way of an account of profits? Re Cape Breton Co (1885) 29 Ch D 795, CA  Common law damages where there is a misrepresentation/deceit/negligence

5/11/2011 Remedies Action for damages for breach of common law duty of care Re Leeds Hanley Theatres of Varieties Ltd [1902]2 Ch 809 o Sale of music halls from promoters to company via a trustee which held property for promoters. o No disclosure of promoters'profits. o Trustee represented to be the real vendor(misrepresentation). o Rescission not possible(right to rescind lost). o Damages for fraudulent misrepresentation ordered. unusual to award damages for the breach of a purely equitable obligation:the Leeds decision is "at least questionable."See Meagher,Gummow Lehane's Equity (2002 4th ed.)5-170 17 Payments to Promoters Prior to incorporation,directors have the power to pay expenses for incorporation and promotion The requirements of disclosure Shares in co can be the consideration to promoter for its services 18 9

5/11/2011 9 17 Remedies • Action for damages for breach of common law duty of care  Re Leeds & Hanley Theatres of Varieties Ltd [1902] 2 Ch 809 o Sale of music halls from promoters to company via a trustee which held property for promoters. o No disclosure of promoters’ profits. o Trustee represented to be the real vendor (misrepresentation). o Rescission not possible (right to rescind lost). o Damages for fraudulent misrepresentation ordered.  unusual to award damages for the breach of a purely equitable obligation: the Leeds decision is “at least questionable.” See Meagher, Gummow & Lehane’s Equity (2002 4th ed.) 5-170 18 Payments to Promoters • Prior to incorporation, directors have the power to pay expenses for incorporation and promotion • The requirements of disclosure • Shares in co can be the consideration to promoter for its services

5/11/2011 Termination of duties Do not end upon incorporation ·But ends when: co has acquired property or business for which it was formed raised its initial share capital board of directors has taken over management from promoters. 19 Hypo case:pre-incorporation contracts A company is to be formed to run a hotel business. In preparation for the business,and prior to the company is formed,the promoters purchase some wine to be used at the hotel. Payment is not yet made. After the company is formed,is the company liable to pay? 10

5/11/2011 10 19 Termination of duties • Do not end upon incorporation • But ends when: - co has acquired property or business for which it was formed - raised its initial share capital - board of directors has taken over management from promoters. 20 Hypo case: pre-incorporation contracts • A company is to be formed to run a hotel business. • In preparation for the business, and prior to the company is formed, the promoters purchase some wine to be used at the hotel. • Payment is not yet made. • After the company is formed, is the company liable to pay?