Com 7012 : Business And Assessment Answers

Part A
You have the task of advising clients as an accountant. John Smith has come to your office and has told you that he is considering the establishment of a small business in the fashion industry, particularly in men's clothing. He seeks you advice in relation to the formation of the most appropriate business structure to operate his new venture.
Draft a short letter to John advising him of the key issues that you consider important. Your answer should be set out in the form of a letter. You should try and present you letter in the most informative manner .-,+ is suitable for a client.

Part B

Outline the various directors' duties that exist and discuss their importance in relation to the governance of companies.

Answer:

Part A 

Sam White

28, Xyz Street

Sydney, Australia

John Smith

12-A, George Street

Sydney, Australia

27 May 2018

Dear John,

Before establishing your business in the fashion industry, it is important that you learn about different business structures which are available in Australia. You can choose between these structures to select the most appropriate structure for your business. In this letter, different features of each structure are given in order to assist you in differentiating between each structure. For small businesses, one of the most common business structures is a sole trader. In this structure, the entire business is owned and operated by a single person. The owner itself takes the decision regarding the business and its operations and he/she can seek expert advice (ATO, 2018). The owner can also hire employees, however, the decision making power remains in his/her hands. The main advantage of this structure is lack of legal formalities than compared to other structures. There are substantially less legal requirements which you need to comply with a sole trading structure. Additionally, the setup of this structure is relatively simple as well. However, the main disadvantage of this structure is lack of separate personality of the business. The owner of a sole trading business is fully responsible for its operations and a suit for repayment of the debts can be filed against him by the creditors in case the business become insolvent (Legal123, 2016).

The partnership is another form of business structure which is relatively popular in Australia. In this structure, two or more parties join together for operating a business in common and their objective is to generate profits. The provisions regarding this structure are given under the Partnership Act 1891 (SA), and its definition is given under section 1. Its definition provides four key elements which are necessary to form a partnership. The first element is a relationship between the partners. In the case of Tiffin v Lester Aldridge LLP [2012] EWCA Civ 35, it was held by the court that a partner receiving a share in profits and a salary has a relationship with other partners (Berry, 2017). Secondly, the partners must enter into a relationship in order to carry out or operate a business. In the case of Khan v Miah [2000] 1 WLR 2123, the court provided that an agreement which is constructed between parties for carrying out a business in the future is not a valid agreement of partnership (Cheung, Chang & Kajewski, 2012).

Another element is that the partners must run the business “in common”. The importance of this element was given in George Hall & Son v Platt [1954] TR 331 case in which the court held that a contract for growing and selling of carrots between a farmer and an agriculture merchant is considered as a partnership because the divided its risks and profits equally (Roach, 2014). Furthermore, the objective of the partnership is to generate profit for the parties. In the case of Cox v Hickman [1860] 11 ER 431, the court provided that although the partners must have an objective to generate a profit however only a right in the profits of a business is not enough to construct a partnership (Henning, 2017). A partnership is divided into two types which include a limited and unlimited partnership. Generally, the liability of partners is unlimited, and the debts of the business bind them, however, in limited liability, the partners’ liability is limited based on the amount of capital provided by them (section 48).

Another popular business structure is Australia is a company. The Corporations Act 2001 (Cth) provides provisions regarding incorporation of a company and its rights. A corporation has the ability to issue shares and raise capital and the people holding the shares of a company are called shareholders. Although shareholders are considered as owners of a company, however, they cannot be held liable for its debts. The company has a separate legal personality from its owners based on which it has right to enter into a contract with third parties, purchase or sell properties, and sue or get sued. In Salomon v A Salomon & Co Ltd [1897] AC 22 case these principles are established. In the judgement of this case, the House of Lords provided that a shareholder cannot be held liable to repay the debts of a company and the shareholder is only liable to pay the unpaid amount on its shares (Kershaw, 2012). A similar judgement was given in Macaura v Northern Assurance Co Ltd [1925] AC 619 case, in which the court held that a shareholder cannot insurance the company’s property under its name (Zuryati, Yusoff & Azrae, 2009). The income of a company is taxed separately from its shareholders and they receive return for their investment in the form of a dividend. There are two types of corporations in Australia which include a public and proprietary company (section 112).

The main difference between the two is that a public company can issue its shares to the public whereas a proprietary company cannot do that and its shares are issues to close friends and family. There is a maximum limit of fifty members in a proprietary company (section 113), whereas, minimum one member is enough to incorporate a company (section 114). Section 117 provides the procedure for applying of registration after which a corporation receives its rights (Jade, 2018). The legal structure of a company is far more complex than other structures because it has to comply with different legal requirements. Another advantage of a corporation is perpetual succession. It means that even after the death of all of its members, a corporation did not cease to exist. Trust is another business structure in Australia. In this structure, a trustee holds property for the interest of a beneficiary. There are a number of legal formalities which are required to be fulfilled by parties in order to form trust. It is necessary that a trust deed is signed between the parties which include terms of their agreement (Legal123, 2016). While holding a property under trust, a trustee can be held liable for the debts of the property. These are the common business structure which operates in Australia.

Mr Smith, you can choose between these business structures in order to start your business in the fashion industry. A proprietary company is the most suitable business structure for you to establish your business. Although the process of incorporating a company is relatively more complex than compared to other structures, however, it advantages overcome disadvantages. Firstly, you will be able to issue the share to close family and friends to raise capital for your business which will assist in its expansion. You will also be able to fully control the operations your business and register it under a separate name. You will not be held liable for its debts, and you can issue dividends as a return for your investments. As discussed above, one person is minimum to operate a company based on which you will have full control over the operations of the company. Furthermore, it is easier to expand your business in a proprietary company structure than compared to other due to its advantages. I would be easier for you to raise capital for its operations which would assist in its expansion. Although, there are more legal requirements which you have to comply with, however, they are relatively less than compared to a public company. It would be easier for you to grant an application for a loan under the name of the company and joint with others to expand its operations. Therefore, it is the most appropriate structure for your business.

Sincerely,

Sam White

Part-B

Directors’ Duties

Directors are at an apex position in a company, and they develop strategies for the future of the company. In order to form such strategies, directors required many powers which assist them in developing future plans of a company. However, along with these powers, there are a number of responsibilities which are necessary to be fulfilled by directors. It is easier for directors to avoid these responsibilities due to which the Corporations Act 2001 (Cth) imposes a number of duties which ensure that directors comply with their responsibilities (Jade, 2018). Following are different duties which are mandatory to comply by directors for ensuring that they take business decisions for the interest of the company and its stakeholders.

Section 180

Firstly, directors have a number of powers which they require while taking business decisions. While using these powers or performing their duties, the directors have to ensure that they maintain a level of care and diligence as per this section. A degree of care and diligence means what any reasonable person would do in a similar situation. They have to ensure that they comply with these duties in order to avoid legal consequences. Furthermore, subsection (2) provides provision regarding duties of directors while making a business judgment. It provides that they should make their in good faith of the company and they should not take decisions which involve a material interest (Jade, 2018). They should also inform themselves regarding any subject matter which is important for them to understand in order to discharge their duties effectively. They should also rationally believe in the judgement that they took to be in the best interest of the corporation. In ASIC v Sino Australia Oil and Gas Limited (prov liq apptd) [2016] FCA 42 case, the director was held liable by the court because while taking a business judgment, he did not inform himself about the subject matter due to which the company made a false announcement on the stock exchange. The court held the director liable for breaching section 180 based on which appropriate penalty was imposed, and the director was disqualified from acting as a director in any other company for a period of ten years (Hibberd & Kingston, 2017).

Section 181

The section provides a duty of a director to act in good faith of the company while discharging duties or exercising powers. While developing future business strategies or taking daily business actions, the director should ensure that such decisions are in the best interest of the company and the powers are used for the proper purpose for which they are given to the director. It is a duty of the director to act honestly while taking the business interest to ensure that the decisions taken by him are in the genuine interest of the enterprise. Furthermore, powers should be used by the directors for the purpose for which they were given. Misuse of the powers is considered as a breach of this section. In the case of Kokotovich Constructions Pty Ltd & Ors v Wallington [1995] 13 ACLC 1113, the court held that the director had breached section 181 because he had taken a business decision without acting in good faith of the company (Bose, 2016). Furthermore, the director misused his power to issue shares for gaining personal benefits rather than focusing on the interest of the company.

Section 182

This section provides that the directors are at an apex position in the company and they should not misuse their position for personal gain. While performing their duties, the directors should ensure that they did not misuse their position for personal gain or the gain of others. They should not misuse their position in a way that could cause potential harm to the company or its stakeholders. In the case of R v Byrnes [1995] 130 ALR 529, the court held that it does not matter whether the actions of the directors actually cause harm to the company or provide them personal gain; irrespective of this fact they can be held liable for breaching this section (Mayanja, 2014).

Section 183

While acting at the top level position in the company, directors have many powers to discharge their duties. This section provides that they should not misuse such power for personal gain or the gain of others. They should not exercise their powers in such a way that could cause potential harm to the organisation (Jade, 2018). They should use their powers for taking corrective actions for the interest of the public, and they should focus on the interest of the corporation and its stakeholders rather than fulfilling their personal interest. They could be held liable for breaching this section irrespective of the fact what the gain or harm has actually occurred or not.

Section 184

This section imposes criminal liability on directors based on which the court can impose criminal penalties on directors for following reasons:

• They did not act in good faith of the company and take a business decision which could cause potential harm the company or its stakeholders.
• Misuse of the position by the directors in order for personal or others gain or to cause any sort of potential harm to the company.
• Misuse of the position of the directors in order for personal or others gain or causing harm to the company (Jade, 2018).

Section 191-195

While making decisions regarding business transactions, directors should disclose a material personal interest in order to avoid conflict of interest, and they should maintain an “arm length” distance from such transactions (Jade, 2018).

Section 208-210

Directors should take approval from shareholders by disclosing proper information about related party transactions after which they can retain any profit.

Section 285-318

Directors should be honest while issuing directors reports and other related information and they should maintain a level of care and diligence while issuing these reports.

Section 558G

Directors should avoid incurring debts in a company which could result in making the company insolvent. They should also avoid incurring debts while the company is insolvent or likely to be. In the case of Woodgate v Davis [2002] 55 NSWLR 22, the court held that criminal penalties could be imposed on directors who failed to incur debt in the company which are dishonest (Wolff, 2009).

Importance of Directors’ Duties

Effective compliance with duties ensures that directors are correcting using their powers and position while making business decisions. They are responsible for governing the company based on which they have substantial powers to take decisions in the company. However, these decisions should be focused on the interest of the rather than the personal interest of directors. Effective compliance with these duties ensures that the actions of the directors are focused towards achieving common organisational objectives. Directors can be held liable under the Act for noncompliance with these policies. As discussed above, the court can impose both civil and criminal obligations on them in case they breach their duties. Therefore, duties assist directors in effectively governing the company while fulfilling the interest of the company and its stakeholders.

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