3.

3 Directors – powers and authority to act for the company

Question 3

Leslie Chow and his brother, Nicholas Chow, are two of the five directors of a
company, ABC Ltd. Kieran Foo is the managing director. Kieran and the other
directors are unrelated to the Chows.

For a number of years, ABC Ltd had obtained loan finance from a moneylending
company (“the lender”). On each of the occasions when loans were provided by the
lender, Kieran had obtained the loans on behalf of ABC Ltd.

On 1 June 2009, Leslie approached the lender to apply for an urgent personal loan
of $50 million. When the lender asked more specifically what the loan was for,
Leslie said that the funds would be used by ABC Ltd for the acquisition of certain
major assets. The lender then suggested that the loan be provided to ABC Ltd
instead.

On 3 June, Leslie produced to the lender a copy of minutes of a board meeting of

ABC Ltd held on 2 June approving of the loan transaction and authorising Leslie to
execute the loan documents on behalf of ABC Ltd. The minutes indicated that only
Leslie and Nicholas had attended the board meeting.

The lender relied on the minutes in assuming that the board meeting was duly held
and that Leslie properly obtained authority from the board to obtain the loan on
behalf of ABC Ltd. On that basis, the lender provided the loan. Leslie used the
funds from the loan for his own purposes.

In fact, the other three directors of ABC Ltd were not given notice of the board
meeting and had not given any approval for the loan.

ABC Ltd is now in liquidation, and the liquidator denies that ABC Ltd is liable to the
lender to repay the loan.

Table A applies to ABC Ltd.

Required:

Advise the lender whether ABC Ltd is bound to the loan contract.

(Adapted from PC-Law Exam, Dec 2009, Q4)

Teaching Notes:
 (Any unusual facts so the lender should have asked more questions?)
 No notice of the meeting was given --> board resolution would be invalid
 Indoor (internal) management rule (Turquand’s case) may help
 But, any actual or constructive notice of irregularity by the bank?
 Arguably, the bank might have constructive notice (Bank know sth may be
wrong but didn’t ask further, shd have investigate more, like ask for notice of
the meeting and check why only Leslie and Nicholas had attended)

Topic 3 Questions Page 3

Question 4

Harriet is a director of a company (Luxury Properties Ltd) which operates an estate

agency business. Harriet does not actively participate in the day-to-day
management or running of the business.

On one particular occasion when Harriet attended the office of the company, she
ordered a box of premium champagne from Wine Co for the staff of Luxury
Properties Ltd. When the champagne was delivered, Donnie, the managing director
of the company, refused to accept the goods.

Required:

Advise Wine Co whether Luxury Properties Ltd is liable under the contract for the
purchase of the champagne. Explain your answer.

(Adapted from PC-Law Exam, Dec 2012, Q8)

Teaching Notes:
 Luxury Properties Ltd (“LPL”) would be liable if Harriet had express actual,
implied actual, or apparent authority
 Express actual authority --> no indication that Harriet had it
 Implied actual authority
 An individual director does not have it
 Executive directors (ED) may have it, but Harriet is not an ED
 Any apparent authority (that is, any representation from the company that
Harriet has authority to contract)?
 If yes, then LPL would be liable
 If no, then LPL would not be liable (Most likely no in this case as the company
did not do anything -> no representation)

Topic 3 Questions Page 4

 Question 5

Fong is the company secretary of XYZ Ltd, which is involved in the manufacture of
electronics products. Lam is one of the directors of the company, and was
appointed by the board with responsibility as the company’s “sales director”.

In February 2009, Fong’s brother came to Hong Kong for a holiday. Fong hired a
rental car for his brother on 1 February for a month under the name of XYZ Ltd.

On 2 February 2009, Lam negotiated with a third party for the purchase of
manufacturing equipment from the third party. Lam advised the third party that Fong
would continue negotiations on behalf of XYZ Ltd and would have authority to enter
into the contract with the third party on behalf of XYZ Ltd. On 4 February, Fong
signed a written contract for XYZ Ltd to purchase the equipment from the third party.

On 6 February 2009, Chris, the managing director of XYZ Ltd, found out about the
above transactions for the first time.

Chris now comes to you for advice. He does not want XYZ Ltd to be laible on the
contract with the car rental firm. He also does not want XYZ Ltd to be liable for the
purchase of the equipment as he wishes the company to acquire similar equipment
from another seller at a lower price.

Table A applies to the company.

Required:

Advise Chris whether XYZ Ltd is bound by the two contracts.

(Adapted from PC-Law Exam, May 2009, Q7)

Teaching Notes:
 First contract (hiring the rental car)
o Fong --> company secretary (Like a chief administrator) --> has implied
actual or usual authority of a company secretary to enter into contracts
about day-to-day running of the company’s business of an
administrative nature
o Hiring a rental car would be within the usual authority of a company
secretary; therefore, Fong has apparent authority and XYZ Ltd is liable
 Second contract (purchasing the manufacturing equipment)
o If Lam has actual authority to purchase the equipment, then he can
delegate that authority to Fong (then Fong would also have actual
authority) or represent to the third party that Fong has authority (then
Fong would have apparent authority)
o Lam has no express actual authority from BOD
o Lam is a director --> a director acting individually does not have implied
actual authority to contract for the company
o Lam is a sales director --> has implied actual authority to contract for
the company within the scope of that positi on
o Here, purchasing manufacturing equipment is outside that scope

Topic 3 Questions Page 5

3.4 Directors – duties
Question 6

The directors of a company passed a board resolution for the allotment of shares to
a number of specified investors pursuant to various placement agreements.

The allotment had been authorised in a general meeting as required by s.141.

The company was in a group of companies, and indirectly held beneficial interests in
its own shares via other companies in the group. The allotments pursuant to the
above placement agreements effectively diluted the indirect holdings of the company
in itself.

A minority shareholder who voted against the resolution authorising the allotments
now seeks your advice as to whether there are grounds to invalidate the allotments.

Required:

Advise the minority shareholder whether the allotments can be invalidated on the
grounds of the directors’ breach of duties (if any). Explain your answer.

(Adapted from PC-Law Exam, Dec 2012, Q6)

Teaching Notes:

 (Duty #1) Directors must act in good faith for the benefit of the company (Re
Smith & Fawcett Ltd) --> subjective test --> need to consider relevant factors
and exclude from consideration from irrelevant factors (Passport Special
Opportunities v eSun) --> did the directors consider the impact of the
allotment on the financial position of the company?
o If yes, no breach of duty (If they considered impact)
o If no, breach of duty (At last, facts are not clear)
 (Duty #2) Directors must exercise their powers for proper purposes (Howard
Smith v Ampol) --> objective test --> this duty can be breached even if the
directors subjectively acted honestly --> why did the company issue shares?
o No information given in the question (We don’t know!!)
o If the purpose is to dilute existing shareholders --> breach of duty
o If the purpose is to raise finance --> no breach of duty
 (Duty #4) Directors must exercise their powers with due care, skill and
diligence (s.465) --> objective test with subjective elements
o Can argue breach of this duty because the company has incurred
losses as a result of the dilution of the company’s indirect interests in
itself  the key is whether a reasonable director would do this under
similar circumstances (Similar director should NOT do this!!)

*Key Point: Duties can CO-EXIST!!!

Topic 3 Questions Page 6

Question 7

Fan invited two business acquaintances, Pak and Lam, to invest in a restaurant
business which he wished to establish in Hong Kong. Pak and Lam agreed. A
company, Vision Developments Ltd, was incorporated in 2009 with share capital of
$20 million for that purpose. The parties also established a wholly-owned subsidiary
of Vision Developments Ltd to run a chain of bars in Kowloon.

Fan was issued with 60% of the shares in Vision Developments Ltd, while Pak and
Lam were each issued with 35% and 5% of the shares respectively for their capital
contributions. Fan and Pak were appointed as directors of both Vision
Developments Ltd and its subsidiary. Fan was also appointed as managing director
of both companies. Pak was appointed to the boards of both companies in the
capacity of a non-executive director.

In the months after the two companies were incorporated, some progress made on
the establishment of the businesses. The progress was slow. Fan asked on a
number of occasions for Pak and Lam to contribute sizable loans to the two
companies. Pak and Lam initially provided the loans, but they later became
suspicious when they saw little progress being made in the setting up of the
proposed restaurants and bars.

Pak and Lam sought meetings with Fan. They requested Fan to provide receipts
and records of the outgoings of both companies. Fan failed to provide satisfactory
documentation.

Subsequently, there was a burglary at Pak’s personal offices, and she found that the
items stolen included the receipts evidencing her payment of her capital
contributions to Vision Developments Ltd.

Pak and Lam reported to the police their suspicions of fraud and theft by Fan. The
police raided the offices of Fan and discovered documents confirming those
suspicions. There was evidence that significant funds of both Vision Developments
Ltd and its subsidiary were transferred to entities controlled by Fan for no benefit to
the two companies.

Required:

Has Fan breached any of the duties of a director? Explain your answer.

(Adapted from PC-Law Exam, Sept 2010, Q1a)

Topic 3 Questions Page 7

Teaching Notes:
 (Duty #3) Duty to avoid conflict of interest --> apply company property or
assets for Fan’s personal use (use by entities controlled by Fan) -->
misappropriation of companies’ assets --> breach of the no-conflict rule
 (Duty #1) Duty to act in good faith for the benefit of the company -->
subjective test --> no breach of duty if Fan honestly believed what he was
doing was for benefit of Vision Developments and its subsidiary --> but
difficult for Fan to establish (impossible to prove otherwise!! Stealing must be
no benefit for the company!!!!) --> likely breach of this duty
 (Duty #2) Duty to exercise powers for proper purposes --> objective test -->
use companies’ asset for the benefit of other entities with no benefit at all to
Vision Developments and its subsidiary --> likely to amount to exercise
powers for improper purposes (even though he thought what he was doing
was for the benefit of the companies) --> breach of this duty
 (Duty #4) Statutory duty of care --> would a reasonable director do similar
things? --> a reasonable director would not enter into transactions that are
clearly not for the benefit of the companies --> breach of this duty

*Key Point: Duties can CO-EXIST!!!

Topic 3 Questions Page 8

Question 8

The company InvestmentCo Ltd was set up by Chan and Hung to conduct
investment activities in the property and securities markets.

Chan and Hung each holds 50% of the shares in the company. They are also the
only directors of the company. As Hung has its own separate business interests
overseas, he is often out of Hong Kong, and so he has left the day-to-day
management of the company in the hands of Chan.

From time to time between 2008 and 2010, Chan drew on the funds of InvestmentCo
Ltd to purchase various office premises for his own investment purposes. Chan
made sizable profits from those investments.

In that period, Chan also used InvestmentCo Ltd to defraud various banks. The
fraud involved the company obtaining payments under letters of credit by presenting
to the banks false documents in relation to fictitious commodity trading.

Johnson & Co were the auditors of InvestmentCo Ltd during that period. Johnson &
Co did not detect any problems with the financial accounts of InvesmtentCo Ltd,
which did not show the above transactions.

In March 2010, the banks discovered the fraud and commenced legal proceedings
against InvestmentCo Ltd in relation to the fraud. The banks successfully obtained
judgment against InvestmentCo Ltd.

InvestmentCo Ltd is now in insolvent liquidation.

Hung was not aware of the defrauding of the banks until the banks took action
against the company. Hung was also not aware of Chan’s use of the company’s
funds for Chan’s separate investment purposes until the company affairs were
investigated by the liquidator in the winding up.

Required:

Would Hung or Chan (or both) be liable to InvestmentCo Ltd in relation to Chan’s
use of the company’s funds for his own property investments? Explain your answer.

(Adapted from PC-Law Exam, Dec 2011, Q1a)

Topic 3 Questions Page 9

Teaching Notes:

 Chan
o (Duty #3) Duty to avoid conflict of interest
 Use company’s money for own purposes (misappropriation of
company’s property) --> breach of the no-conflict rule
 Divert business opportunities to himself (personally investing in
office premises while InvestmentCo also invests in properties) --
> breach of the no-profit rule
o Can Chan argue that investment opportunities came to him in his
personal capacity? --> Industrial Development Consultants v Cooley --
> if the business opportunity is relevant to the company, then there is a
duty to pass on the info to the company --> breach of duty if no
disclosure
 Hung
o (Duty #4) Statutory of care, skill and diligence (s.465) --> non-executive
directors are subject to same duties as executive directors --> must be
involved in a general monitoring of the company’s affairs such as
regular review of the company’s accounts (Daniel v Anderson)
o Here, did Hung undertake any monitoring role?
 If yes --> no breach of duty of care
 If no --> breach of duty of care

Topic 3 Questions Page 10

Directors – insider dealing
Question 9

Daniel is a director of a listed company and also owns shares in the company. In
2008, the company suffered significant losses as a result of “accumulator” contracts
which the company had entered into. Before information about the company’s
losses was disclosed to the public, Daniel sold all his shares in the company. After
the public disclosure of the company’s losses, the share price of the company fell
drastically.

Required:

Has Daniel committed any criminal offence under the Securities and Futures
Ordinance (Cap 571)? Explain your answer.

(Adapted from PC-Law Exam, Dec 2013, Q5)

Teaching Notes:

 Refer to the suggested answers as study text

Topic 3 Questions Page 11

3.5 Directors – disqualification order
Question 10

Explain the grounds under which a director may be disqualified by the court under
the Companies (Winding Up and Miscellaneous Provisions) Ordinance.

(Adapted from PC-Law Exam, Jun 2015, Q8)

Teaching Notes:

 Refer to the suggested answers as study text

Topic 3 Questions Page 12

3.6 Company Secretary – appointment, role and duties
Question 11

Answer each of the following:

(a) Explain the provisions under the Companies Ordinance in relation to company
secretaries.

(b) What are the functions and powers of a company secretary?

(Adapted from PC-Law Exam, Jun 2012, Q4)

Teaching Notes:

 Refer to the suggested answers as study text

Topic 3 Questions Page 13