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RMIT University Company Law LAW2450

CASE STUDY FACTS SEMESTER 2 2016

The Cast You: Graduate accountant Sarah: Partner in the accounting practice to whom you report Laurence Douglas: The owner of a car parts business Betty Tan: Wife of Laurence Douglas Matthew: Son of Laurence and Betty Racing Parts: The business name of Laurence’s current business Mark: Laurence’s father, a retired accountant Andy: Warehouse manager Tom: Office manager Michelle: Part-time receptionist in the business Jonathan: Bank manager Sam: Voluntary Administrator and Liquidator (fellow partner in the firm with Sarah)

Authorship: Alex Wong (edited by Aaron Lane July 2016) Notes: The following case study is to be read in conjunction with the Tutorial Program. Note that the case study is fictional and does not depict any actual person, company or event. Copies of copyright material in this compilation have been made in accordance with the provisions of section VB of the Copyright Act for the teaching purposes of the University.

LAW2450 Company Law

RMIT University

2

TOPIC 1: INCORPORATION OF A COMPANY Congratulations you have secured a position as a graduate accountant in your co-op year/ after graduation with an accounting practice. Sarah the partner in the accounting practice asks you to attend the 6 am meeting on Monday 20 January 2016 with herself and Laurence Douglas a long standing client of the firm. You are required to take notes and prepare answers for Laurence to his queries. Laurence Douglas is aged 49 and married to Betty Tan and they have one child Matthew who is aged 17. Laurence is very entrepreneurial and has been running a car parts business in Dandenong Victoria by himself as a SOLE TRADER for the last 5 years under the business name of Racing Parts (Racing). Turnover was $659,000 per annum in the first year and has now grown to over $3m per annum. A lot of his customers are local and overseas businesses. There are 8 staff in the office/warehouse. The business operates from rented premises and Laurence would like to buy a building. Laurence feels that the business will expand further and has growth plans for the business as well as other activities he is interested in. He also wants to expand into running a café/restaurant later on. He has been told by his father Mark (a retired accountant) that he should now run his business as a company. He is unsure about this and makes an appointment to see Sarah his accountant. Prior to the meeting, you review his file and note that he and Betty have the following assets: A family Home in Hawthorn with a market value of $1.55m. There is a mortgage on the property of $561,000. The house is owned by Betty. The house was previously owned by Laurence and Betty but when he started up his business it was decided to transfer the house solely to Betty for asset protection reasons. They also own jointly 1,000 Telstra shares which cost $3.30 each in the initial float and 500 CBA shares bought in 1990 which cost them $10.90 each. The current value is $5.61 for the Telstra shares and $88 for the CBA shares. These were bought for Matthew and are intended to be given to him when he turns 21. They also jointly own a portfolio of blue chip Australian shares currently valued at $254,637. ($127,318 each) There are two motor vehicles, a BMW series 7 worth $135,000 which is owned by Betty and a VW Transporter Van used for the business owned by Laurence worth $18,000. Laurence also over the year bought computers, desks, office furniture, shelving for the business which cost him approximately $23,000. The current value in the financial accounts is $8,650. Laurence has $190,568 in superannuation and Betty has $136,000 in superannuation.

LAW2450 Company Law

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Betty works as a sales and marketing manager in the city for a financial services company. She is on a total salary package of $155,000. At the meeting Laurence hands over the business results to date (June2015) and his draft budget of sales and expenses for the 2016 financial year, for review. The 2016 budget shows expected sales of $4,764,000 and a net profit of $637,979. During the meeting he had the following questions: –

Should I stay as a sole trader?

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What other options are there besides a company?

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Is my father correct in setting up a company to run the business?

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What are the benefits and disadvantages of each structure?

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How is a company different from me as I still WANT TO BE IN CONTROL and run the business?

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What sort of company should I form?

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How and who forms the company? •

What is the cost?

•

What information do you need from me if I decide to form a company?

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Can I call the company Racing Parts Pty Ltd?

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How long does it take to set up?

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Do I have to set up separate bank accounts and financial records for the company or can I use the existing Racing Parts bank accounts?

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Should I transfer the VW van and other assets to the company?

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Can the company pay for the running expenses of the BMW?

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Can I have more than one company when I start up my other activities in the future?

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If I buy the building to run the business from should I, Betty or the company or something else own it?

–

How does the company operate?

–

Who runs the company and who owns the company? •

What are my responsibilities

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•

What are my liabilities

•

What are my benefits?

•

What are the liabilities of the company?

•

What happens to the staff, and the current lease etc?

–

How do I control the company?

–

When should the company commence business now or at the start of the new financial year or some other time?

If the company is appropriate Laurence is keen to retain control of the company both from a managerial and ownership basis but recognises that he will need other people such as senior staff and his father to help. His wife Betty at this stage has no interest in the business but is prepared later on to be involved if required. Laurence tells you that last week he bought some additional shelving and other office equipment for the business worth $12,000 plus an iPad and a new Samsung Galaxy phone worth $1,200 with his personal credit card. They were on special and he decided to buy now. However if it is appropriate to have the company run the business he wants these items to be owned by the company and paid for by the company. After the meeting Sarah asks you to prepare a report that answers all of Laurence’s questions, plus answers to questions that he may not have asked. He wants to be the only director and shareholder of the company at this stage. Sarah also asks you to in your report to Laurence to: •

Explain the accounting treatment in the company for the $12,000 of equipment and electronic equipment of $1,200 that he bought.

•

How do you recognise the transfer of ownership of the VW van and existing business equipment to the company?

•

What happens to the staff, the rent of the shop and the relationship with the suppliers and the customers?

•

How will Laurence get paid for it?

•

Explain to him the consequences of being a shareholder and director

•

Make sure Laurence understands the legal implications for himself and the company.

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RMIT University

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•

Laurence is now happy with the need to have a company to run his business. On your advice He agrees that the best choice is a proprietary company. As you complete the application form to incorporate the company, (Form 201) He advises you that although He wishes to have complete control of the company He also wants to have his father (Mark) involved as a fellow director later on. Mark is a retired accountant with over 30 years’ experience and would greatly assist Laurence with the duties as a director and with the financial and administrative aspects of the business. His wife may also own some shares in the company and also his son later on (but no more than 10% in total)

•

He has read in the paper recently that a shop owner in the city was recently fined for having an unsafe shop as a customer slipped and broke his leg on a wet floor another customer suffered burns to his body when a waiter split some hot soup over them.

Laurence wants to know: •

On the drive way to the warehouse trucks park to deliver and pick up. Sometimes trucks drip oil or grease on the drive way. What if a customer or staff member slips on the oil or grease? Am I liable or the company?

•

If Racing Parts Pty Ltd was found guilty of a similar offences what would be the consequences for the company and the directors.

LAW2450 Company Law

RMIT University

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TOPIC 2: RULES OF A COMPANY You advise Laurence that it is normal for the company to have a rule book (see Form 201) which will set out the rules and procedures relating to running the company and set out the rules for members and operators. Laurence has the following questions for you: •

Why does the company need a rule book?

•

What is the purpose of the rule book? •

It’s my company and I can do anything I want.

•

Do I have to state what the company is going to do?

•

Who creates the rule book?

•

Who is bound by the rule book?

•

What if I want to change the rule book?

•

How do I change the rule book?

•

What do I need to consider when I want change the rule book?

You have incorporated for Laurence his new company Racing Parts Pty Ltd ACN 402 351 892. It was incorporated on 25 January 2016. You agree that the best time to start the business of the company is 1 March 2016. (Explain why to Laurence and not now) You have also applied for the ABN and TFN for the company. As Laurence is busy with the management, administration and planning of the company, it is up to certain staff to order goods and supplies and the hiring of staff i.e. to ensure that the business runs smoothly. This happened in the past when he was a sole trader. Tom the office manager looked after the office and Andy looked after the warehouse.

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RMIT University

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TOPIC 3: DEALING WITH THIRD PARTIES Laurence recognises that for the business to grow he cannot do everything himself and therefore he needs to delegate. He asks Andy his warehouse manager and Tom his office manager both of whom have been with him for 5 years to carry out those activities generally involved in running the business. Andy deals with the suppliers and freight companies to ship the goods out. Anything to do with the warehouse is his domain. Tom deals with the logistics staff issues office procedures and administration issues. He also asks his father Mark to keep an eye on the finances of the company. He also asks you to prepare the paperwork to appoint Mark as a director of the company effective from 1 April 2016. Mark notes that the company needs additional funds if it is to grow and achieve Laurence’s goals. He suggests an overdraft facility from the Bank. Laurence asks him to go to the bank on behalf of the company to get additional funding of no more than $90,000. Laurence knows about motor parts but very little about finance. Michelle who is a part time mother helps out in the office. Tom has given her authority to order stationery from Officeworks where the company had a credit account. Mark goes to the Dandenong Branch of the Westpac Bank and sees Jonathan the business banking manager on 31 March 2016. Laurence has banked with Westpac for the last 25 years. Mark tells Jonathan that he has been asked by his son Laurence to organise additional finance for his company. Laurence is the managing director and knows the basics of finance but is too busy to deal with the Bank. He has always regarded Mark as the finance expert even though he has not yet been appointed as a director. Jonathan has dealt with Mark before and assumes he has the authority to negotiate funding for the company especially when Mark says he has been asked by his son to arrange finance. Mark therefore agrees on a term loan of $160,000 and an overdraft of $15,000 up to a maximum of $45,000. The bank requires security for the funds. Mark offers as security the new company plant and equipment valued at $13,200 plus goodwill plus the assets transferred from Laurence to the new company. Mark and Laurence are also required to provide a personal guarantee to the bank for the overdraft before the loan can be approved. The constitution that you drafted for the company states that any loans over $100,000 must be approved by the Board of directors and the shareholders i.e. Laurence at this stage. There has been no formal meeting of the “board of directors” approving the loan Laurence who has been busy marketing the business comes to see you at the quarterly review of the company accounts and asks you the following questions: LAW2450 Company Law

RMIT University

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•

Although I asked my father and senior staff to enter into contracts on behalf of the company, is the company liable to pay for the goods ordered or are the individuals liable?

•

I am not happy with the borrowings of $160,000 but based on Dad’s advice that the company needs it I will go with it.

•

You reminded me that in the constitution any borrowings over $100,000 must be approved by the Board of Directors. This was not done.

•

How can I guarantee the loan if I don’t have security to offer as the house is owned by Betty?

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What if the company does not pay back the loan?

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Am I liable under the personal guarantee or Betty?

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Will we lose our house?

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Explain to me what is a personal guarantee?

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What assets could the company provide as security to the Bank?

•

It is now 31 December 2016. The business is going well and according to Mark the draft financial accounts he has prepared show a profit of $385,000.

•

However Laurence can only see $238,000 in the bank.

•

Sarah asks you to explain to Laurence why there is a difference between cash at bank and profit.

LAW2450 Company Law

RMIT University

9

TOPIC 4: MANAGING THE COMPANY As Laurence has been so busy servicing existing clients and getting new clients he feels the need to sit and talk to all staff about the business. Laurence is a believer that if staff know what is going on they are happier. Sarah asks you to call Laurence and arrange a meeting with him to discuss why he should call a meeting of staff. In the meeting Laurence advises you of the following matters: •

His father is planning to take 6 months off and do a cruise around the world with his wife Bev

•

Tom is a key member of the business and Laurence would like to make him a director as he sees him as someone who can take over the business later on.

•

Andy who runs the warehouse is also a key member and he feels that he should also be a director. However Mark found out that Andy was a director of a company that was insolvent four years ago and he was fined $12,000 for breaching the Corporations Act. Eight years ago he also ran a company which became insolvent and he was declared a bankrupt. He is no longer a bankrupt.

•

Matthew his son is studying accounting and legal studies at school and wants to study business and marketing at university. Laurence thinks it would be a good idea to make him a director

•

Laurence wants to make sure he always has the final say on all management matters.

•

Who would you appoint as a director and how would you ensure that Laurence retains control?

•

At the meeting with Laurence, Mark, Sarah and you it was agreed to appoint Tom as a director on 3 June 2016.

•

Andy won’t be appointed at this stage but he is regarded as a senior person in the company. Andy is not happy about this snub.

•

Matthew on reflection is too young and immature to be a director but Laurence may appoint him as a director later on (possibly after finishing his degree at university)

•

Laurence asks Sarah to consider being a director of the company to replace Mark whilst he is away on holidays.

•

Laurence has heard from his best friend Mary that there is a lot of work and procedures involved in running meetings and looks to you to help his simplify the process but also make sure the company and the directors comply with the law.

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You advise his in the meeting that the following issues need to be addressed: •

Standard of behaviour of directors

•

Who meets and why •

Who are directors

•

The different types of directors

•

What can they decide and what can the members decide •

Separation of powers

•

Who calls the meetings

•

Who controls the meetings •

Laurence wants to keep control

•

The purpose of the meetings

•

What issues are decided •

Management v ownership

•

How are matters decided?

• •

•

Vote by majority

•

What if not happy?

Delegation of powers

How do I appoint directors? •

Andy

•

Tom

•

Matthew

•

What conditions do they have to meet?

•

How do I remove directors? •

Can they object?

LAW2450 Company Law

RMIT University

11

TOPIC 5 & 6: DIRECTORS DUTIES Laurence, Tom and Mark have now all been appointed as directors of the company. Sarah will be appointed as an alternate director to the company to replace Mark whilst he is on his holiday for 6 months. Sarah has a strong background in tax and finance law but knows little about the motor parts industry. At the quarterly meetings with Laurence and Mark to discuss the management accounts, budgets and planning issues for the company (Tom never attends as he is too busy running the office and sorting out issues with customers and suppliers. His knowledge of finance is limited, as he never did finance and left school at 17 and has worked ever since. However he can read a bank statement and knows you should not spend more than you earn.) In your discussions with Laurence you find out the following about the other directors: •

Mark is smart in relation to the financials but knows nothing about motor parts. He is also not up to date with current tax and accounting laws and still uses paper and...