A/asian Oil Exploration Ltd v Lachberg

It is apparent from this very general reference to the character of the relief sought by the respondents that M.K.I. had a direct interest in maintaining the validity of the agreement in question and it will further appear that this company and individual shareholders of A.O.E. had a like interest in resisting any injunction restraining A.O.E. from registering transfers of its shares pursuant to arrangements whereby many of the latter had undertaken to take up shares in M.K.I. either for a cash consideration or in exchange for their holdings in A.O.E. That being so it is beyond question that the relief claimed should not have been granted in the suit as at present constituted. But no objection was raised by the defendant either by its statement of defence or at the hearing though we were told that when the parties spoke in the Supreme Court to the minutes of the order the defendant objected to any order being made in a form which would purport to bind any person or company who was not a party. The absence of proper parties has been a source of considerable embarrassment to us on this appeal and, indeed, has caused us to doubt whether we should attempt, at this stage, to deal with the various substantive questions involved. But if we were simply to discharge the order of the Supreme Court on this ground after the full argument before us of the substance of the matter, without any indication of the views we have formed, we would cause widespread misunderstanding and embarrassment. Further, so far as the question of the validity of the agreement is concerned, there are strong grounds for regarding the question of parties as more formal than real in its significance. In the first place, M.K.I. was formed for the express purpose of acquiring A.O.E.'s holding in M.K.U. In the next place, three of the directors of A.O.E. were also directors of M.K.I. at the relevant time. Then it is certainly true that the two companies bore otherwise the closest association one to another. One may be sure that the failure to join M.K.I. was due to an assumption that it was not an independent party which ought to be there so that it might present a case of its own. In all the circumstances we have thought it proper, having given full consideration to the agreement of 17th February 1958, not to withhold an expression of our views upon the question of its validity.

Coming now to the substance of the matter, it is convenient to make some reference to the circumstances in which the agreement was made before reciting its material provisions. A.O.E. was incorporated in 1954 as a limited liability company with an authorised capital of £5,000,000 divided into 20,000,000 shares of five shillings each. Its main purpose was to survey, search for, explore, prospect, inspect and examine and develop any land in any part of the world containing or supposed to contain any oil petroleum natural gas pitchblende shale metals uranium minerals mineral oil and other specified substances. When the agreement was made its issued capital was 11,051,150 shares of five shillings each and these were fully paid up with the exception of a comparatively insubstantial sum representing calls in arrears. In all its paid-up capital amounted to £2,782,348. But according to the balance sheet published on 30th April 1957 it had sustained a loss of its share capital amounting to £1,716,513 leaving the total shareholders' funds at £1,065,835. The loss of paid-up capital had mainly occurred in administrative and exploratory and developmental costs incurred in connexion with its undertakings. Its assets included the 994,900 shares in M.K.U. already referred to and these appeared in the balance sheet at cost, £248,725. The other assets of the company consisted of fixed assets such as land buildings plant and equipment, and "Oil Permits", "Uranium Leases" and leases of mineral sands and other items representing pre-paid expenses loans sundry debtors and stores on hand. It would seem that the values shown in the balance sheet for the assets other than the M.K.U. shares were extremely high whilst, on the other hand, it is reasonable to suppose from the evidence in the case that the values of the shares in M.K.U. were greatly in excess of the stated figure. To what extent the value of these shares exceeded the balance sheet figure is a matter of some importance and further reference will be made to the evidence on this point at a later stage. The published figures, however, suggest that the company had lost a considerable amount of its paid-up capital but whether this was or was not a true reflection of the company's capital position depends to a great extent upon the value to be attributed to the M.K.U. shares.

It is apparent from the evidence that for some time prior to the end of A.O.E.'s financial year which ended on 30th April 1957 it was in serious financial difficulties. It was unable to pay its wages bill and it owed approximately £332,000 to its bankers and other creditors. Its bankers had a lien over the M.K.U. shares, a mortgage over its rutile plant and a general lien over the whole of the company's assets. At some stage its bankers had threatened to appoint a receiver but they agreed to stay their hand until 31st March 1958 in order to afford to the company an opportunity of extricating itself from its financial troubles. Thereafter a number of plans were successively proposed and investigated by A.O.E.'s directors with a view to raising sufficient money to enable the company to discharge its indebtedness to its creditors whilst at the same time preserving, in the interest of its shareholders, its shareholding in M.K.U. It is unnecessary to refer to the details of these various proposals for ultimately the plan that was decided upon was embodied in the agreement of 17th February 1958 and it is that agreement with which we have to deal. Nevertheless it is of some importance to mention that A.O.E.'s holding in M.K.U. represented thirty-five per cent of that company's issued share capital and so long as it held thirty-one per cent or more it was entitled to appoint two of the six directors of M.K.U. The appointment of three of the remaining directors was in the hands of Rio Tinto, which held over fifty per cent of the share capital, and the remaining director was appointed by a third interest which held the remaining shares. Some point was made of A.O.E.'s right to appoint two directors and it was stressed that this circumstance rendered its shareholding of greater value in its hands than it would have been in the hands of any other company or person or body of persons.

As already mentioned the agreement of 17th February 1958 evidenced the sale by A.O.E. to M.K.I. of the whole of the former's shareholding in M.K.U. By cl. 2 of the agreement the purchase price was fixed at £346,720 and it was agreed that this sum should be paid within ninety days from the date of the agreement. Further it was provided that A.O.E. should deliver to M.K.I. upon the execution of the agreement a document of transfer in registerable form signed in blank by A.O.E. as transferor and, also, an irrevocable authority to obtain delivery of the relevant share certificates from A.O.E.'s bankers on payment of the purchase money. Thereafter, by cl. 4 of the agreement, it was provided that after the completion of the agreement, and so long as A.O.E. should remain the registered holder of the shares, that company should be and remain a trustee thereof for M.K.I. and that A.O.E. should forthwith upon receipt of all or any notices, dividends, rights or other benefits in respect thereof notify M.K.I. and transmit or transfer the same to M.K.I. and should exercise its right of appointment of directors to the board of M.K.U. from time to time in such manner as might be requested by M.K.I. Doubtless, since registration would have destroyed the right of A.O.E. to nominate two directors of M.K.U., it was not intended that this transfer should be registered. Finally by cl. 7, M.K.I. declared that it would, at the cost charge and expense in all things of A.O.E., as soon as convenient but not later than sixty days from the date thereof, make the following offers to the shareholders of A.O.E.: (a) an offer of fifteen shares in the capital of M.K.I. for every hundred shares held in the issued capital of A.O.E. subject to the payment in full of five shillings per share on application, and (b) an offer to exchange ten fully paid shares in the capital of M.K.I. for every hundred shares of the issued capital of A.O.E. These offers were to be made to such shareholders of A.O.E. as should appear on the register as at 25th February 1958 "or such extended time as the vendor may require".

M.K.I. was incorporated as a public company under the laws of the State of New South Wales on 14th January 1958 and it was incorporated for the express purpose of acquiring the beneficial, legal and/or other interests of A.O.E. in the 994,900 shares held by it in M.K.U. either for cash, exchange of its shares or shares in other companies or in conjunction with shares in other companies. Subsequently to its incorporation and the making of the agreement of 17th February 1958, M.K.I. issued a prospectus by which it made offers to the shareholders of A.O.E. in accordance with cl. 7 of the agreement and, at the time of the hearing of suit, the shareholders of some 8,780,890 shares in A.O.E. had accepted the offer to exchange their A.O.E. shares for M.K.I. shares. Additionally a great many applications to take up shares for a cash consideration were received. The prospectus however was primarily concerned with an issue at par of 1,669,672 ordinary shares of five shillings each that being the number of shares necessary to be issued to fulfil M.K.I.'s obligation under cl. 7 (a) of the agreement.

The result of these dealings, if fully accepted by the A.O.E. shareholders and carried into effect, would have been as follows: - (1) M.K.I. would have become the beneficial owners of the 994,900 shares in M.K.U. and this holding would have constituted its only asset; (2) A.O.E. shareholders would have become the holders of the shares in M.K.I. other than 3,507 shares reserved to enable the first directors to acquire their qualifying holdings and 82,792 shares which, apparently, were then subject to an existing option. In all, the A.O.E. shareholders would have become entitled to take up for cash or by way of exchange, 2,782,789 shares upon payment - at the rate of five shillings per share - of £417,418 for 1,669,672 of these shares; (3) M.K.I. would have used £346,720 of the last-mentioned sum to discharge its obligations under cl. 2 of the agreement of 17th February 1958; (4) M.K.I. would have become the sole shareholder in A.O.E.; and (5) the liabilities of A.O.E. would have been discharged out of the sum of £346,720 paid to its bankers by M.K.I.

From this brief statement of the arrangement it is clear that any holder of shares in A.O.E. who was not prepared either to exchange his shares for shares in M.K.I., or take up shares for cash in that company, would have been left with shares in a company, A.O.E., which had been denuded of an asset which, as will appear, must be taken to have been its principal asset.

There is not the slightest doubt that the scheme, which was one of many successively proposed, was decided upon because of the financial situation in which A.O.E. found itself. In the circular to its shareholders which, three days later, announced the sale to M.K.I., it was stated that "The plan needed to be carried out quickly, because the company had only limited finance" and that "Current funds to carry on are almost exhausted". Further it was said that "Your directors are not prepared to see this company forced into liquidation (which will certainly happen with further delays) without putting up a fight to protect your assets". Finally, there appeared the statement that "The price of £346,720 is the original price fixed in the plan which the shareholders approved in Perth last December". The notice which convened the meeting of 23rd December 1957 to consider one of the earlier proposals stated that "Without the results of this plan, and with the continuance of A.O.E. Ltd. as at present with accruing liabilities and no profits coming in, it would have been possible that the assets, including the Mary Kathleen shares, might be jeopardised" and it was stressed that the company, though possessed of great assets was "short of liquid funds". Indeed there can be no dispute on this point for the agreement of 17th February 1958 itself recites that "the financial position of the vendor requires the obtaining of certain immediate moneys and the vendor deems it desirable to realise the investment represented by the said shares on terms of sale which will provide the needed finance and at the same time be most likely to prove beneficial to its shareholders".

This circumstance is, however, not of great importance and if the case were merely one in which it appeared that a company had sold an asset in order to enable it to discharge its liabilities there would be no more to be said. Nor, indeed, would the respondents, as shareholders, be entitled to relief merely on the ground that the sale had been made at an undervalue. Nevertheless it is of importance in the case to consider the nature and character of the transaction which, though it may have involved a sale, in form, of the M.K.U. shares to M.K.I., did not stop merely at that point and, then, to consider, with respect to the obligations undertaken by M.K.I., what relationship, if any, the so-called price bore to the value of the shares sold.

In their statement of claim the respondents alleged that the M.K.U. shares were worth at least £2,000,000 and they pointed to the statement made, under the hand of the chairman of directors of A.O.E. (Mr. Tilley), in the circular of 5th December 1957 which convened the December meeting of the A.O.E. shareholders to consider one of the earlier proposals. In this circular there appeared the unequivocal statement that "The 994,900 shares in Mary Kathleen Uranium Limited, conservatively reckoned on present estimates at a value of not less than £2,000,000 and the rutile plant and leases, standing in moderately at £500,000 are only portion of the company's assets". In his evidence Mr. Tilley endeavoured to persuade the court that he had the former figure in mind only as the amount of profit which A.O.E. would receive from its shareholding in M.K.U. during the succeeding eight years, that is to say, during the currency of the contract which M.K.U. had made with the United Kingdom Atomic Energy Authority for the sale of its products during this period. But when it is seen that the price agreed upon for the sale of uranium ore to the authority made provision for rising costs and contained a component calculated to enable M.K.U. to write off the capital cost of establishing its undertaking - some £13,000,000 - during the same period and that, Mr. Tilley, as a director of M.K.U. had, at the end of 1957, been party to an annual report of that company which contained "the statement that the tonnage of oxide in the ore-body is greater than was originally estimated and will be in excess of that required to complete the initial contract with the Authority", his explanation is, to say the least, unsatisfactory. He was a director not only of A.O.E. but of M.K.U., and, it should be added, of M.K.I., and he must be taken to have been acquainted with the material facts upon which his unequivocal statement in the circular of 5th December 1957 was based. Moreover in a letter to the Secretary of the Perth Stock Exchange, dated 19th December 1957, A.O.E. pointed out that the price of eight shillings per share, which had been proposed as the basis of an earlier plan to relieve the company's financial straits, was "only a fraction of their real value". There is a great deal in the evidence to indicate that the value of the M.K.U. shares was greatly in excess of the amount of the purchase price specified in the agreement of 17th February 1958 but it is unnecessary to dwell upon it for there are other considerations which, in our view, make this conclusion inevitable. In the first place there is not the slightest evidence to show that the sum of £346,720 was in any real sense a "price" for the shares; that "price" appears to have been fixed solely by reference to the amount of A.O.E.'s indebtedness and entirely without reference to the value of the shares themselves. Secondly, unless the value of the shares was considerably in excess of £346,720 there was not the slightest reason for seeking to impose upon M.K.I. an obligation to issue its shares, in the manner specified in the agreement of 17th February 1958, to A.O.E. shareholders. Indeed, it may be said, unless the shares were worth more than this sum there would have been no sense or purpose in the arrangement.

The value of the shares is, however, very much a matter of speculation. But from what has been said it is apparent that it was vastly in excess of the stipulated purchase price and it was primarily for this reason that it was desired to preserve the interests of the A.O.E. shareholders. Indeed if further confirmation were required concerning their value it could be found in the evidence that in February and March 1958 rights to the M.K.I. shares, which were to be issued for a cash consideration of five shillings, were being sold on the Perth Stock Exchange at prices between five shillings and six shillings and seven pence. And these prices were being paid for rights to shares in a company which proposed to issue nearly 3,000,000 shares and whose only asset was the M.K.U. shares. No doubt it is not possible from evidence such as this to place a value upon the M.K.U. shares but it is sufficient to enable it to be said that the purchase price specified in the agreement of 17th February 1958 bore no relationship whatever to their real value.

On the other hand the evidence satisfies us that the value of A.O.E.'s other assets, as specified in the balance sheet, published after 30th April 1957 did not, in the circumstances as they then existed, represent the value of those assets in February 1958. On the contrary their value at that time was very considerably less. This appears to have been the view of the learned trial judge and it is a view with which we entirely agree.

In these circumstances Wolff J. held the agreement of 17th February 1958 to be ultra vires and void. Primarily he appears to have considered that the carrying into effect of the agreement would have brought about an unauthorised reduction of A.O.E.'s capital though he had, and expressed, other objections to it.

Upon the appeal to this Court counsel for A.O.E. contended that it was not possible to regard the disposal of the M.K.U. shares pursuant to the agreement as anything more than a sale of those shares to M.K.I. As such, it was said, it was a transaction within the corporate capacity of A.O.E. and not open to any lawful objection. But to say this is to ignore the circumstance that the agreement imposed upon M.K.I. not only an obligation to pay the stipulated "price" but also, upon application by the shareholders of A.O.E. and upon the specified conditions, to issue its own shares to them proportionately to their holdings in A.O.E. It was urged before us, however, that the language of cl. 7 which "declared" that M.K.I. would issue its shares in the specified manner was not the language of contract and that it did not thereby assume a contractual obligation so to issue its shares. But when the clause is read and the general framework of the agreement is considered it is clear enough that M.K.I. undertook to issue its shares in this manner as a condition of the agreement. Without the inclusion of cl. 7 there would have been no agreement for its paramount purpose was to protect the interests of A.O.E.'s shareholders in the M.K.U. shares and, as far as possible, to secure to them the benefit of their value over and above the stipulated price. Moreover, it will be observed the concluding sentence of the clause provided that the offers to be made under the clause "shall be made to such shareholders of the vendor as are registered in its register of shareholders as at 25th February 1958 or such extended time as the vendor may require". Quite plainly this is the language of contract and equally plainly the clause imposed an obligation upon M.K.I., as a condition of the agreement, to issue its shares in accordance with its terms.

The arrangement therefore evidenced a transaction whereby A.O.E. parted with the beneficial ownership in the M.K.U. shares for a conjoint consideration. That is to say M.K.I. was to pay a stipulated price for the shares and also make an issue of its own shares in accordance with the specified conditions. But the "price" was to be paid to A.O.E. and the shares were to be issued to A.O.E.'s shareholders and on this view of the matter two questions may be said to arise. The first is whether, in the circumstances as they existed, A.O.E. might lawfully have distributed the M.K.U. shares, either conditionally or unconditionally, amongst its own shareholders and the second, whether, if this was not lawfully permissible, it was lawful for A.O.E. to confer upon its shareholders benefits in relation to those shares by the scheme which the agreement of 17th February 1958 was designed to carry out.

Reference has already been made to the capital position of A.O.E. at the relevant time and it is beyond doubt that, upon book values, it had lost a very large part of its paid-up capital. In those circumstances it would not have been lawful for it, without the approval of the court, to have distributed the M.K.U. shares among its shareholders unconditionally. Equally clearly, it could not have distributed the shares among its shareholders upon terms that the shareholders should pay to the company, in the aggregate, a sum equal to the "price" specified in the agreement of 17th February 1958. To have adopted either of these courses would have offended against "the fundamental principle of company law that the whole of the subscribed capital of a company with limited liability, unless diminished by expenditure upon the company's objects (or, of course, by means sanctioned by statute) shall remain available for the discharge of its liabilities" (per Kitto J. in Davis Investments Pty. Ltd. v. Commissioner of Stamp Duties (N.S.W.) [1] ). This principle is beyond question and it is unnecessary to refer to the many authorities which have restated it over many years.

But it was not the desire of A.O.E. to distribute the M.K.U. shares amongst its shareholders. To have done this would have been to destroy A.O.E.'s right to nominate directors of M.K.U. and, no doubt, it was felt that this would have resulted in some depreciation of the value of the shares. In order to preserve itself as the registered holder of the shares A.O.E., therefore, finally resolved upon the plan embodied in the agreement in question. This it could carry into effect whilst remaining on the register of M.K.U., and, at the same time, the M.K.U. shares would be segregated from the other assets of A.O.E. and protected from the risks associated with that company's undertaking. In such manner the rights of the A.O.E. shareholders in respect of these shares would thereby be preserved to much the same extent as if they had been distributed amongst them conditionally upon payment of a cash consideration. In the one case, of course, the benefits would be conferred directly upon the shareholders but under the scheme envisaged by the agreement the benefits given to the shareholders would be received, indirectly, through an intermediary.

Under the agreement, as we see it, what A.O.E. did was to undertake to part with its shares for a promise, in return, of cash and shares. But the cash was to be paid to A.O.E. and, in effect by the direction of A.O.E., the shares were to be issued to its shareholders upon the specified conditions. To our minds this was just as much a distribution of part of its subscribed capital among its shareholders as if the shares had been distributed directly amongst them. As such it was a distribution which is not permitted by law and in our opinion Wolff J. was right in holding that the agreement was ultra vires and void. The circumstance that the A.O.E. shareholders were faced with the alternative of subscribing for and exchanging their A.O.E. shares for shares in M.K.I. or abandoning their interests in the M.K.U. shares may, upon the principles discussed in Manners v. St. David's Gold & Copper Mines Ltd. [1] ; Bisgood v. Nile Valley Co. Ltd. [2] and Bisgood v. Henderson's Transvaal Estates Ltd. [3] , furnish another ground of objection to the agreement, but upon the views already expressed it is unnecessary to pursue this aspect of the case further.

1. (1904) 2 Ch. 593. 2. (1906) 1 Ch. 747. 3. (1908) 1 Ch. 743.

It is necessary at this stage to refer briefly to one other argument which was advanced on behalf of A.O.E. This argument asserted that if a company engages in a transaction whereby it disposes, otherwise than in the course of its trading or business activities, of a single capital asset for a price in excess of the value at which that asset stands in its books, it may lawfully distribute the casual profit so made among its shareholders whatever the capital position of the company might otherwise be. This proposition was emphatically rejected by Wolff J. and we agree with him in thinking that this is not the law. It is enough on this point to say that a company has no capital profits available for dividend purposes unless upon a balance of account it appears that there has been an accretion to the paid-up capital (Lubbock v. British Bank of South America [4] ; Verner v. General & Commercial Investment Trust [5] ; Foster v. New Trinidad Lake Asphalt Co. Ltd. [6] and Cross v. Imperial Continental Gas Association [7] .

1. (1892) 2 Ch. 198, at p. 201. 2. (1894) 2 Ch. 239, at pp. 265, 266. 3. (1901) 1 Ch. 208, at pp. 212, 213. 4. (1923) 2 Ch. 553, at p. 565.

In the circumstances, the question now arises concerning the course which we should follow. As already appears the order appealed from declared that the agreement dated 17th February 1958 and entered into between A.O.E. and M.K.I. was ultra vires and invalid and, further, it restrained A.O.E. from registering any transfer of its shares made pursuant to acceptances of the offer made to that company's shareholders by M.K.I. pursuant to cl. 7 (b) of the agreement. But it is beyond doubt that M.K.I. should have been a party to the proceedings before the declaratory order was made and, also, that there was no proper basis upon which the injunction could have been granted. The fact is that offers were made by M.K.I. to the A.O.E. shareholders and they became entitled to take up shares in M.K.I. whether the agreement of 17th February 1958 was valid or not. In the result we think that cl. 2 of the order should be set aside entirely and that an opportunity should now be afforded to M.K.I. of being heard before any final declaratory order is made. In the absence of M.K.I. the declaration of invalidity would not of course be binding upon it. But, since it would be most inconvenient if the declaration should subsist with such a limited effect it is advisable that the order should be set aside in its entirety and the suit remitted to the Supreme Court in order that M.K.I. may be joined as a defendant and further consideration given to the matter after an opportunity has been afforded to that company of taking such steps as it may be advised.