Introduction to Company Law Note 4 of 7 Notes

Shares

Universiti Kebangsaan Malaysia Faculty of Law PHD Program in Law

Musbri Mohamed DIL; ADIL ( ITM ) MBL ( UKM ) 1

Shares
A share gains its value from the rights that are attached to it. These rights are largely contractual and are to be found in the companys constitution , usually in the articles. These contractual rights are alterable by one of the parties, the company , either by special resolution or by the informal acquiescence of all the members as in the case of Cane v Jones [1980] 1WLR 1451 ; subject to the restriction that any alteration must be made bona fide for the benefit of the company as a whole as enunciated in the case of Allen v Gold Reefs of West Africa Ltd [1900] 1 Ch 656.

In Borland s Trustee v Steel Bros & Co Ltd (1901) 1 Ch 279, Farwell J defined a share as an interest of a shareholder in the company measured by a sum of money for the purpose of liability in the first place and of interest in the second, but also consisting of mutual covenants entered into by all the shareholders.

Shares can either be available to the general public or the private owners.

If the shares are available to the public it is called a "public" company.

If the shares are available to private owners it is called a private (proprietary) company.

What are cumulative preference shares? Section 4 of the Malaysian Companies Act 1965 defines a preference share as a share by whatever name called which does not entitle the holder thereof to the right to vote at a general meeting or to any right to participate beyond a specified amount in any distribution whether by way of dividend or on redemption in a winding up or otherwise. Preference share may be cumulative or non-cumulative.

Cumulative Preference Share

The holder of a cumulative preference share carries forward their entitlement to a distribution from one year to the next if no dividend is declared in a particular year. For example , if a person holds a cumulative preference share offering a dividend of 8 cents and no dividend is declared in Year 1, that person will be entitled to receive a dividend of 16 cents in Year 2 before any dividend is paid to ordinary shareholders.

Under Section 66(1) a company which issues preference shares or converts already issued shares into preference shares must set out in the memorandum or articles of association the rights attaching to such shares with respect to repayment of capital, participation in surplus assets, cumulative or noncumulative dividends, voting and priority of payments of capital and dividend in relation to other shares or other classes of preference shares.

Preference shares typically have these rights :The right to receive a fixed dividend , provided there are profits available for distribution and a dividend is declared by the company; the preference dividend may be cumulative or non-cumulative ; The right to be repaid the principal on a winding up in priority to ordinary shareholders; No voting rights unless dividends are in arrears, except on resolutions to reduce the companys capital or to wind up the company, or at class meetings on matters affecting their class rights, Sec 148(2) ; and No right to share in surplus assets on a wind up. It is possible to confer this right to a preference shareholder.

The rights usually given to preference shareholders are exhaustive as shown in the case of Re Hume Industries (FE) Ltd [1974] 1 MLJ 167. This means that, apart from payment of fixed preference dividends in priority to ordinary shareholders and the right to be repaid capital upon winding up , in priority to ordinary shareholders, other rights must be expressly stated before the law recognizes them.

The principle of the supremacy of majority rule is a cornerstone of company law. A member has to submit to the will of the majority if such will is expressed in accordance with the law and articles of association n1 and the court will not interfere with the internal management of companies acting within their powers, and in fact has no jurisdiction to do so. The justification for this principle is the need to preserve the right of the majority to decide how the company's affairs should be conducted. Such powers of the majority if untrammelled can be abused to the detriment of the minority. The common law and certain statutory provisions have intervened to prevent the tyranny of the minority by the majority.

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The rule in Foss v Harbottle The principle of the supremacy of majority rule and the principle that in order to redress a wrong done to a company or to recover moneys or damages alleged to be due to the company, the action should prima facie be brought by the company itself are the twin principles enshrined in what is known as the rule in Foss v Harbottle (1843) 2 Hare 461 . Essentially, the rule means that if a wrong is done to a company, it is the company alone which can decide to sue and that decision shall be made by the majority.

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The courts have traditionally steered clear of interfering in the internal management of companies as exemplified by Foss v Harbottle. The harshness of this judicial attitude was subsequently diluted by exceptions made to the rule in Foss v Harbottle. Statutory intervention through ss 181 and 218(1)(i) of the Act has further provided recourse to the courts and a cocktail of remedies are available to the aggrieved minority. This is more so when concepts like 'fairness' and 'just and equitable' are used in applying these provisions. It appears that our courts are moving towards a more liberal interpretation of the statutory provisions in favour of minority members to do justice to them as portended by Abdul Rahim bin Aki [1995] 3 MLJ 417 at p 432.

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Shareholder primacy is a well established norm within United States corporate law. Put simply, the majority view holds that the principal role of the corporation is to maximize the wealth of its shareholders. Within corporations, the locus of power is the board of directors. Under business judgment rule, shareholders are often left with no legal recourse when their directors fail to maximize shareholder wealth. Shareholders have only two practical options when directors fail to maximize shareholder wealth: sell their shares, or remove the directors. The first option is of little value if shareholders have already lost a substantial amount of their investment. The second option, however, as discussed in this article, is not as realistic as it sounds. But granting shareholders some additional avenues to more actively participate in the selection of directors is the most practical option shareholders have to protect their interests.

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Under the shareholder primacy norm, corporate managers should only make decisions for the benefit of those who own shares of the corporation. Shareholder primacy is reflected in arguments that the sole purpose of the corporation is to maximize profits, or that managements objectives are to maximize shareholder wealth. The foundation of the shareholder primacy norm is found in the directors fiduciary duty to make decisions that are in the best interests of the shareholders. Shareholder primacy may arguably be traced back to the classic case of Dodge v. Ford Motor Company. In Dodge, shareholders sued the Ford Motor Company for using surplus earnings to cut the price of its automobiles rather than pay dividends. Concluding that corporations are organized and carried on primarily for the profit of the stockholders, the Michigan Supreme Court held the powers of the directors are to be employed for that end.

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But recent anecdotal evidence suggests the shareholder primacy norm does not protect society at large, nor shareholders in particular. For example, the examiner appointed by the court for the Lehman Brothers Holdings Inc., bankruptcy reported that in 2006, Lehman made the deliberate decision to embark upon an aggressive growth strategy, to take on significantly greater risk, and to substantially increase leverage on its capital which included substantial investments in sub-prime mortgage-related securities. As the sub-prime mortgage market morphed into a financial crisis in 2007, rather than pare its losses, Lehman consciously chose to double down, hoping to profit from a countercyclical strategy.

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In 2008, it became apparent Lehmans growth strategy was flawed, and the company filed Chapter 11 bankruptcy, the largest bankruptcy ever filed. Citigroup suffered a similar fate, though not as severe as bankruptcy, when its management also chose to invest in sub-prime mortgage-related securities, causing, in part, the corporations stock price to actually drop below its book value in 2008. The sub-prime mortgage crisis, which precipitated a global financial crisis, led to multi-trillion dollar government bailouts and guarantees. In the opinion of one commentator, Theres no other way of saying it: todays doctrines of shareholder primacy and managerial self-interest have brought many companies to the brink of self-destruction. The shareholder primacy norm is also strengthened by the business judgment rule. Regardless of how stupid, egregious or irrational a board decision may be that destroys, rather than maximizes, shareholder wealth, it provides no ground for director liability, so long as the court determines that the process employed was either rational or employed in a good faith effort to advance corporate interests.
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A significant shortcoming of the shareholder primacy norm, as supported by the business judgment rule, is that corporate directors have a plain incentive to maximize short-term profits, possibly at the expense of the overall viability of the firm. Commentators have argued the shareholder primacy norm has distracted corporations from their substantive business models to pursue increasing share prices. For example, in a continual attempt to increase share prices, directors have resorted to share repurchases, restructuring, and reshuffling finances, such as changing inventory valuation methods, accelerating income, deferring expenses and changing pension actuarial assumptions. And when the shareholder primacy norm backfires, the business judgment rule can leave the shareholders with no meaningful avenue of recourse.
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In practice, the power to remove and replace directors has proven quite limited, with most directors facing a very low probability of being oustedlargely neutralizing the shareholders vote as an effective means of ensuring director accountability. As former SEC chairman Arthur Levitt, Jr. stated, A director has a better chance of being struck by lightning than losing an election.There are three primary reasons shareholder voting power has been diminished: (1) existing boards select the slate of director nominees, and often renominate incumbents; (2) director candidates often run opposed; and (3) most directors are elected by a plurality, rather than a majority. The combination of these factors means the outcome of almost all board elections is a foregone conclusionincumbent directors win.

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1.Explain the proper plaintiff rule 2. Who can sue or enforce rights on behalf of the company? 3. What is a derivative action?

4. What would amount to fraud on the minority?

5. Who may commence a personal action?

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6. Why does a company issue shares? 7. Explain the different classes of shares.

8. What is meant when the phrase partly paid up shares is used?

9. Can shares be transferred by the owner to another party. Explain.

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One of the major rationales for providing shareholder proxy access is that it might remedy some of the problems that resulted in the recent financial crisis.
In response, opponents of shareholder proxy access argue the current system is better at maintaining economic stability. Musbri Mohamed October 2011

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