[1992] FCA 133; (1992) 107 ALR 398

[1992] FCA 133; (1992) 34 FCR 418

Corporations Law - Reduction of capital - meaning of "reduction" - whether reduction permissible if achieved by offering shares in parent company where no cross shareholding - sufficient consideration for reduction - meaning of "agrees to become a member" within meaning of s.184 Corporations Law.

Securities Commission: Miss R. McColl and Mr T. Castle

Solicitors for Australian Commission: Australian Securities Commission

2. The applicant pay the costs of the Australian Securities Commission.

Note: Settlement and entry of orders is dealt with in Order 36 of the Federal Court Rules.

Hunter Resources Limited ("the company") applied to the Court for an order confirming a reduction of its share capital pursuant to s. 195 of the Corporations Law. The Australian Securities Commission ("the Commission") intervened in the proceeding pursuant to s. 1330(1) of the Corporations Law and opposed the application of the company.

2. On Monday, 23 March 1992, I dismissed the company's application and ordered it to pay the costs of the Commission. I said that I would give my reasons later. These are the reasons.

3. The company was incorporated in Queensland on 24 June 1981 as a public limited liability company. The name of the company on incorporation was Wansford Investments Limited, but it changed its name to Hunter Resources Limited on 4 August 1983.

4. The nominal capital of the company is $50,000,000 divided into 200,000,000 ordinary shares of $0.25 each. The issued share capital of the company is $33,095,323 consisting of 132,381,293 ordinary shares of $0.25 each, which are fully paid.

5. The issued share capital of the company is held as follows:

(a) Technomin International Limited ("Technomin International"), holds

85,785,851 ordinary shares, which are fully paid and represent

approximately 64.8% of the issued capital of the company;

(b) Restech International Limited ("Restech International") holds

2,164,623 ordinary shares which are fully paid and represent

approximately 1.64% of the issued capital of the company;

(c) 2,131 independent corporate and individual shareholders hold the

remainder of the company's issued shares.

6. Technomin International is a wholly owned subsidiary of Oriana Gold N.L. ("Oriana Gold"), which is a wholly owned subsidiary of Technomin Australia N.L. ("Technomin Australia"); 82.77% of the issued shares in Technomin Australia are held by Restech Australia Pty Limited ("Restech Australia") which is a wholly owned subsidiary of Restech International.

7. Restech International is a company incorporated in New Zealand and is the ultimate holding company of the company. The corporate structure appears below.

8. On 23 December 1991 Restech International caused Technomin Australia to formally requisition the directors of the company, in accordance with s. 246 of the Corporations Law, to convene a meeting of shareholders of the company to consider a proposal for a selective reduction of capital of the company by cancelling all of the issued share capital of the company not held by Restech International. The proposed reduction of capital is called a selective reduction of capital because it treats different shareholders of the same class in a different or selective way, in this case by cancelling all the issued ordinary shares in the capital of the company except those held by Restech International. If the reduction is confirmed, the company will become a wholly owned subsidiary of Restech International.

9. An extraordinary general meeting of the shareholders of the company was held on 17 February 1992 where a special resolution was passed by the requisite statutory majority of members present personally or by proxy, though not unanimously. Three shareholders dissented and some shareholders abstained from voting.

10. The special resolution for reduction of capital of the company as passed at the extraordinary general meeting of the shareholders of the company is in the following terms:

"That subject to:

1. the shareholders of Technomin Australia N.L., which

are entitled to 64.8% of the issued capital of the

Company, passing a resolution approving the disposal

of that interest in the Company pursuant to the

selective reduction of capital set out below; and

2. confirmation by the Court:

(a) the capital of the Company be reduced from $33,095,232

(together with any additional amount of paid up

capital arising from the issue of any additional

shares by the Company prior to the confirmation by the

Court) being 132,381,293 (or such other number of

shares arising from the issue of any additional shares

by the Company prior to the confirmation by the Court)

ordinary fully paid shares with a par value of $0.25

each to $541,156 being 2,164,623 ordinary fully paid

shares with a par value of $0.25 each;

(b) the reduction be effected by cancelling all ordinary

fully paid shares of $0.25 in the Company other than

ordinary fully paid shares held at the date of the

meeting by Restech International Limited, the

consideration for cancellation being set out in

paragraph (c) below;

(c) the consideration payable in respect of the ordinary

fully paid shares cancelled shall be seven (7) Restech

Shares for every twelve (12) ordinary fully paid

shares in the Company cancelled, with any fractional

entitlement to Restech Shares being rounded up to the

nearest whole number of Restech Shares PROVIDED THAT:

(i) Technomin International Limited shall, in lieu

of the consideration referred to in paragraph

(c) above, receive one (1) Restech Convertible

Note for each ordinary fully paid share held in

the Company cancelled; and

(ii) special arrangements apply to shareholders in

the Company with addresses in Canada or the

United States of America as described in the

material accompanying the Notice of Meeting."

11. The expression "Restech Shares" means shares in the capital of Restech International.

12. If the reduction of capital is confirmed, the result will be that the company will become a wholly owned subsidiary of Restech International, and the shareholders of the company, except Restech International and Technomin International (i.e. the 2131 independent corporate and individual shareholders), will become shareholders in Restech International. Technomin International (which holds approximately 64.8% of the shares in the company) will receive convertible notes in Restech International.

13. A deed poll was made on 31 December 1991 by Restech International in which it covenanted (clause 3) that:

"It shall use its best endeavours to promptly

cause the occurrence of Technomin Shareholders'

Ratification, Restech Par Value Reduction,

Listing Approval and Restech Shareholders'

approval to the proposed reduction."

14. The authority of the company to reduce its capital stems from article 8.3 of its articles of association which provides:

"Subject to the Code the Company may be special

resolution reduce its share capital, any capital

redemption reserve fund or any share premium

account."

15. The Commission opposed the proposed reduction, principally on the ground that it would oblige shareholders of the company (except Restech International) to accept shares in another company (Restech International) and that a reduction of capital cannot be used as a vehicle to compel a shareholder to become a shareholder in a third party because, so it was submitted, this would be contrary to the provisions of s. 184 of the Corporations Law which provides:

"A person who agrees to become a member of a

company and whose name is entered in the

company's register of members becomes a member

of the company."

It was argued that the effect of the proposed reduction would be that shareholders of the company would become shareholders of Restech International, not by agreement, but by compulsion, so that the consensual element required by the section would be absent. It was submitted on behalf of the Commission that what the company was really trying to do, under the guise of a reduction of capital, was to avoid complying with specific provisions of the Act that related to schemes of arrangement (Ch 5 Part 5.1) or takeover schemes under Chapter 6.

16. Counsel for the company argued that what the company was seeking to do was in truth to achieve a reduction of its capital by cancelling the shares of all the shareholders except one; and that the method whereby it was to be done (that is by shares being allotted in another company to the shareholders whose shares were being cancelled) did not detract from the essence of the proposal as being a reduction of capital because the shareholders of the company were not obliged to take up shares in the capital of Restech International; if they wished to do so, they could.

17. A company may reduce its share capital in many different ways. A perusal of Stiebel's Company Law and Precedents, 2nd ed., (1920) at 737 to 747 and 782 to 796; and Palmers Company Precedents, 17th ed., (1956) at 993 at 1063; also 16th ed., at 981-3 confirms this. Leaving aside listing rules of stock exchanges, a company can reduce its capital by cancelling only some of the shares in a class: In Re Nixon's Navigation Co (1897) 1 Ch 872; In Re Thomas De La Rue and Co Limited and Reduced (1911) 2 Ch 361; and Re Elders IXL Limited (1984) 9 ACLR 280. Nixon and Thomas establish that, in a scheme for the reduction of share capital, a company may differentiate between the holders of the same class of shares at least to the extent of paying off some and not paying off others, and that it is open to a company desiring to reduce its share capital to borrow sufficient moneys to pay off the capital represented by the shares by which the capital is to be reduced even if the advance to the company of the moneys to be used in redemption of the share capital is made by the very persons whose shares are to be redeemed (see Thomas at 365). A selective cancellation of shares of this kind will, however, be closely examined by the Court, which will take particular care to ensure that it is not unfair to shareholders in the class who do not consent to the reduction.

18. In Re Robert Stephen Holdings Limited (1968) 1 WLR 522 Plowman J. accepted that it was permissible for a reduction to take place by cancelling part of a class of preference shares because the maximum entitlement of shareholders would as a rule be known. His Lordship said (at 524-525) that, where the cancellation is of some only of the ordinary shares and not all shareholders consent, the interests of minority shareholders would be better protected if the cancellation were carried out under a scheme of arrangement rather than as a reduction of capital.

19. It is well established that under the provisions of the law relating to schemes of arrangement, members with different interests and members whose shares are not to be cancelled may be required to meet separately from each other.

20. However, the question in the present case is whether the particular reduction of capital proposed by the company is permissible at all.

21. Of the various ways in which a company may reduce its capital it is useful to mention some. The capital of a company may be reduced by cancelling shares and effecting the reduction by the company issuing shares of a different class to the shareholders whose shares are to be cancelled (preference shares are not uncommon examples) or by issuing debentures to shareholders whose shares are to be cancelled.

22. Some of the forms of reduction of capital referred to in Stiebel and Palmer are of interest for present purposes, one of which I shall mention. In a reduction of capital before Buckley J. on 28 April 1902 (see Palmer's Company Precedents 16th ed. at 981-2), his Lordship approved a reduction of capital of Kodak Limited which involved reducing the capital of the company to 250,000 divided into 250,000 ordinary shares of 1 each, such reduction to be effected by distributing in redemption of capital among the holders of shares in the company (other than 250,000 ordinary shares owned by the Eastman Kodak Co of New Jersey) 30,555 fully paid 6% cumulative preference shares and 90,938 fully paid up common shares in the Eastman Kodak Co. receivable under a particular agreement, in the following manner:-

1. by distributing among the holders of the preference shares in the

company the 30,555 preference shares in the Eastman Kodak Co. of

New Jersey rateably in proportion to the preference shares in

Kodak Limited and by distributing among the holders of the

ordinary shares in Kodak Limited (other than the 250,000 ordinary

shares hold by Eastman Kodak Co) the 90,938 common shares in the

Eastman Kodak Co.; and

2. by cancelling the whole of the shares in Kodak Limited's capital

other than the said 250,000 ordinary shares.

23. My attention was drawn by counsel for the company to two orders made recently in reductions of capital. First, there was a reduction of the capital of Hunter Douglas Holdings Limited which involved cancelling all the ordinary shares in the capital of the company other than ordinary shares held by a company, Hunter Douglas N.V., the consideration for the cancellation of each ordinary share being $1.60 paid by Hunter Douglas N.V.. The order was made by the Supreme Court of New South Wales in its Equity Division on 26 August 1991. It is not clear from the form of order, a copy of which was given to me whether the money paid by Hunter Douglas N.V. was paid directly to the ordinary shareholders of Hunter Douglas Holdings Limited or paid to that company for distribution by it to its shareholders whose shares were to be cancelled.

24. The other form of order made available to me was in respect of the reduction of capital of Macquarie Resources Limited, approved by the Supreme Court of Victoria on 19 November 1991, involving the cancellation of all the ordinary shares of $0.25 each in the capital of the company other than the ordinary shares held by three companies (two of which were Restech Australia and the company whose capital is sought to be reduced in the present case). The consideration for each ordinary fully paid up share being cancelled was $0.45 paid by one of the three companies; and, in the case of each partly paid share cancelled, the consideration was the release by the company of the liability of the shareholder to pay the balance of the uncalled amount of $0.54.

25. It was not furnished by counsel with any reasons for judgment to support those two orders, if any were given. If the money provided to the shareholders of the companies the capital of which was being reduced was paid to the company themselves (or otherwise treated by the company as advances to them) and then paid to the shareholders, this would be consistent with principle and authority (see Stiebel and Palmer).

26. There is however a marked difference between reductions of capital involving shareholders, whose shares are to be cancelled, accepting as consideration for the cancellation of their shares money provided by another company and the present case where the "consideration" for the cancellation of the ordinary shares in the company's capital (except the ordinary shares held by Restech International) is the allotment to the ordinary shareholders of shares in another company, in this case Restech International.

27. A company need not necessarily return cash to its shareholders, it may return capital in specie. A shareholder is entitled to have the share capital of the company applied in pursuance of the memorandum and articles of association and to have his paid up capital returned, provided the method of returning it is decided upon pursuant to the company's articles. As was observed in Archibald Howie Pty Limited v Commissioner of Stamp Duties [1948] HCA 28; (1948) 77 CLR 143 per Dixon J. at 152-3:

"these rights all arise out of the contract

inter socios ... the reduction involving the

payment off of part of the paid up share capital

must therefore be considered an effectuation of

a provision of the contract of membership. The

allotment of the share and the payment up of the

liability thereon conferred upon the holder for

the time being of the share the right to have

the assets of the company used and applied in

the various ways in which the articles expressly

or impliedly require or authorize and this is

one of them. It is an effectuation or

realization of the rights obtained by the

acquisition of the shares in the same way as is

the distribution of a dividend. The

consideration given is the payment up of the

share capital in satisfaction of the liability

for the amount of the share incurred on

allotment. ... From the standpoint of company

law a division of the capital of a company into

shares and the payment up of shares issued are

regarded as respectively significant and real.

The shareholder contributes the amount of the

share to the capital of the company. This

contribution measures his right to any return of

capital which the company may make either as a

going concern or in a winding up. Subject to

any regulation the articles may make as to the

basis upon which assets in excess of share

capital may be distributed, the amount of the

share determines the proportion in which he

shares with other shareholders in a distribution

of excess assets."

28. Thus a company may marshal its assets, whether they consist of cash, shares in other companies or other assets, and return them in specie to the shareholders. That is not what is proposed in the present case.

29. Researches of counsel have not revealed any case raising the same or substantially the same question that arises in this case. The critical feature of the proposed reduction is that the cancellation of all the issued and fully paid up ordinary shares, except the shares held by Restech International, is to be effected by the allotment of one share in Restech International for every eight ordinary fully paid shares in the capital of the company, although the holder of 64.8% of the ordinary shares (Technomin International) is to receive convertible notes in Restech International. This requires the concurrence of Restech International; and it is said by counsel for the company that the concurrence is assured by the deed poll of 31 December 1991, a proposition which counsel for the Commission did not concede. Whether the deed poll does in fact give this assurance is not a matter which I find it necessary to decide.

30. What is clear, however, is that the ordinary shareholders of the company receive nothing from it in consideration for the cancellation of their shares. Yet this is not a reduction on the ground that the share capital of he company is unrepresented by available assets of the company where the shares may be cancelled without any payment being made to the shareholders. The shareholders in this proposed reduction are to receive shares in another company. The allotment of those shares in that other company to the ordinary shareholders of the company has no nexus with the contract of membership between the company and its ordinary shareholders. The company is not paying its shareholders its money or distributing its assets in specie. Nor is it utilizing its resources to raise funds from outside the company to be paid to the company and then applied by it to its shareholders in return for the cancellation of their shares. It is not a realization of the rights obtained by the ordinary shareholders arising from their holding of ordinary shares in the capital of the company. Nothing is being paid or applied by the company to its shareholders that discharges pro tanto the claims of the shareholders upon the assets of the company. It is in essence a reorganization of the share structure of the company that has only superficial resemblance to a reduction of capital by the cancellation of ordinary shares. The special resolution must be read as a whole and the "consideration" payable in respect of the cancellation of shares (paragraph (c) of the special resolution) is not consideration in the relevant sense (that is, between the company and its shareholders) at all. For these reasons the proposed reduction is not authorized by law.

31. There is a second and independent reason for rejecting the proposed reduction. The terms of s. 184 of the Corporations Law were set out earlier. That section requires that for a person to become a member of a company he must agree to do so. A section in similar terms (s. 22(2) of the Companies Act 1985 (UK)) was considered by the Court of Appeal of the United Kingdom in Re Nuneaton Borough Association Football Club Limited (1989) 5 BCC 377. Their Lordships held that the section did not necessarily involve a contract between the member and the company, it did not require any bilateral element. It merely requires the agreement of the person to become a member, and the section used the word "agrees" in the sense of assents. I agree with this reasoning which applies in my view to s. 184 of the Corporations Law.

32. Under the proposed reduction, shareholders in the capital of the company whose shares are to be cancelled may or may not apply for shares in Restech International in accordance with the special resolution. But any such application is in effect forced upon the shareholders, whether they like it or not, assuming the Court approves the reduction. This is not a case where a provision has expressly been made to allow such coercion of shareholders. The only permitted case of such coercion is limited to compulsory acquisition of shares under a takeover scheme or announcement. In such a case stringent requirements must be met.

33. It is unreal to say that shareholders are not obliged to apply for shares in Restech International; obviously they will do so if they wish to receive anything in return for the cancellation of the shares in the company. The application by such shareholders for shares in Restech International would not have its genesis in an agreement, rather in compulsion, at least for all practical purposes. This is not an agreement within the contemplation of s. 184. It follows that for the proposed reduction to take effect it necessarily involves compelling the shareholders of the company to become shareholders in a third party, and that is contrary to s. 184. Section 195 cannot be treated as overriding s. 184; it must be read subject to it. This is a flaw inherent in the proposed reduction. If the company wishes to achieve its objective it should invoke the provisions of the Corporations Law concerning schemes of arrangement or takeover schemes which have special procedures designed for cases such as the present and which protect the interests of minority shareholders.

34. At the request of the parties I decided this question as a preliminary point because the Commission and a company, Kulim Limited (which claims to have an interest in the reduction of capital sufficient to justify its intervention), propose to oppose the reduction on the ground that it is inequitable and unfair which, counsel informed me, would take approximately one day to argue and involve the calling of additional evidence.