Conflict with a company’s Constitution
Setting up a new company is on a superficial level, quick and easy. However, there are intricacies to the incorporation process of which to be aware.
When setting up a company many people simply tick the yes box when asked “do you need a Constitution”. However after the company is incorporated, many directors and shareholders then pay little attention to the technicalities in that Constitution. The Supreme Court of New South Wales has recently issued a judgement that should set off alarm bells to all company directors and shareholders about the need to keep their Company’s Constitution up to date and consistent with their Shareholders Agreement.
In the matter of Lesso Building Material Trading (Sydney) Pty Ltd (Administrators Appointed) (2018), the NSW Supreme Court considered the conflicting core provisions in the Company’s Constitution and its Shareholders Agreement:
- The Shareholders Agreement required two directors to be present, but required that at least one needed to be a representative of the majority shareholder and at least one needed to be a representative of the minority shareholder.
- The Constitution required that a board meeting could proceed as long as any two directors attended.
The Shareholders Agreement contained the usual clause that required the shareholders to take any necessary steps to ensure consistency between the Company’s Constitution (which was a standard Constitution used at the time that the company was set up) and the subsequently prepared and signed Shareholders Agreement. The Shareholders Agreement indicated that in the event of any inconsistency, the Shareholders Agreement would prevail.
Directors of the majority shareholder called a board meeting. This meeting was held by the only two directors attending, which were both appointees of the majority shareholder. At that meeting the two directors resolved to appoint a voluntary administrator. The director appointed by the minority shareholder was not present at that board meeting. Shortly thereafter the minority shareholder commenced proceedings in the Supreme Court arguing that the meeting was invalid because its nominee director was not in attendance at the board meeting. The Supreme Court ruled against the minority shareholder and found that the appointment of the administrator was valid because the requirements of the Constitution had been satisfied by the two directors at the board meeting. The Supreme Court held that the provisions of Section 136 of the Corporations Act 2001 had not been followed to amend the Constitution of the company as required. Where the Shareholders Agreement was inconsistent with the Constitution, the Constitution prevailed because it had not been specifically amended in accordance with Section 136 of the Act.
When preparing a Shareholders Agreement after a company is incorporated with a Constitution, it is vital to attend to a review of the Constitution to clarify any inconsistencies. If there are inconsistencies between the Constitution and the Shareholders Agreement, then the directors need to specifically resolve to amend the Constitution in accordance with Section 136 of the Corporations Act. On the facts of the Lesso Building Material case, if the minority shareholder had kept the Company’s Constitution and Shareholders Agreement consistent, then that expensive litigation could have been avoided.
The experienced corporate lawyers at Cornwalls can provide you with detailed legal and practical advice when setting up a company with a Constitution and then subsequently preparing the Shareholders Agreement, to ensure there is consistency and to try to avoid disputes.
This article is general commentary on a topical issue and does not constitute legal advice. If you are concerned about any topics covered in this article, we recommend that you seek legal advice.