After reading the article Opes client loses court Bid, by Chris Zappone in the SMH and the Age, I had a desire to not only consider a career in popular legal journalism but to write a blog about the ANZ Bank, Beconwood Securities and the rest of the companies and individuals that have been affected by collapse of the stockbroker Opes Prime.

Specifically, I will outline why the article above is void of legal comprehension of the decision of Justice Finkelstein in Beconwood Securities Pty Ltd v Australia and New Zealand Banking Group Limited. I will do this by responding to quotations of what was written in the article with my own and Justice Finkelstein’s thoughts as a result of decision.

Luckily for those who are interested in actually knowing what is going on, I have been staying well up to speed with the collapse of Opes Prime. From the controversial sale of millions of shares of Australian public companies by the ANZ to the underworld revenge paths of Mick Gatto, I have been glued to my various news feeds. Throw in lawyer Chris Murphy, many people who have lost millions of dollars (including a good percentage of 7 million dollars of Beconwood’s ‘securites’) and a collapse that is tougher than usual for the average reader to understand and you arrive at what most would consider a media frenzy.

To say that the media err on the side of caution when reporting legal decisions and reasoning to the public would probably not be in line with the approach taken in the above article. Minutes after the “26-page ruling” (direct quote from Chris) was handed down, apparently a sound analysis of the ruling had been made and an article was quickly packaged for the hungry RSS readers such as myself and sent to the front [on]lines.

Other than being aware that the ruling was 26 pages pages long and that Justice Finkelstein answered ‘no’ to a question that I’m not certain the author understood, the article illustrates a shocking understanding of what was actually decided in the case. Further to this, despite the fact that the result is clearly not ideal for those affected by the collapse of Opes Prime which the article outlines, it blatantly mistakes the legal position of the clients of Opes Prime in its first sentence:

Clients of collapsed stockbroker Opes Prime do not have a legal claim allowing them to recover their shares, according to a Federal Court ruling this morning.

It goes on to discuss an agreement at issue that Beconwood didn’t even enter into (Beconwood entered into a varied Securities Lending Agreement (SLA), not the standard AMSLA) and proclaims the validity of this agreement when the construction of the agreement, not its validity, was what was being considered.

“Justice Finkelstein has upheld the legal status of the Australian Master Securities Lending Agreement used by Opes Prime,” the bank said. “That agreement does what it says. Full ownership of the shares is transferred…In a 26-page ruling released in the Federal Court in Melbourne, Justice Finkelstein found that the agreement signed by Beconwood Securities was valid and the plaintiff didn’t have “equity of redemption or other equitable estate or equitable interest” once the shares were lent to the stockbroker.

To outline the significant error in these statements, an introduction to the case is required but put simply, Opes clients still have several causes of action if their alleged misrepresentation did in fact occur. For those of you who are unfamiliar with this whole matter, this introduction will hopefully make it clearer.

The ‘Opes Prime Primer’

Beconwood Securities is one of the many angry clients of collapsed stock broker Opes Prime who is trying to recover the securities (approximately $7 million worth) that were transferred through a securities lending and borrowing agreement (SLA) to Opes Prime in exchange for about 1.1 million dollars of cash that was used to invest in the stock market. As a result of Opes Prime not actually having the money, they had a separate agreement with the ANZ to receive the money in exchange for transferring ownership of the shares transferred by Beconwood to ANZ.

Note here that Opes Prime is effectively acting as a middle man that charges a fee for broking services and advice whilst the ANZ is ultimately the company funding the investments of Opes Prime clients in return for the security offered by each client which in this case were shares in Destra and a few other Australian companies.

As a result of the decline in the stock market in recent times and stockbroking advice you can only assume that you wouldn’t want to pay a fee for, a number of margin calls came in requiring more security from Opes’ clients and ultimately Opes Prime’s liquidity dropped below acceptable levels as a result of a number of factors I will not go into here.

Shortly after, Opes prime was put into administration. Like many other Opes clients, Beconwood had transferred significantly more securities (value-wise) than the amount of cash that they had received and are making any attempts possible to legally compel the return of their shares (they will receive a certain amount as a result of the liquidation but this is not at issue). Separately, I will discuss the reports of certain high profile Opes clients having received significantly more cash than the security they had transferred but suffice it to say that there may be some very interesting outcomes if this is properly looked into.

Beconwood’s ‘legal claims’

After actually reading the 26 page ruling by Justice Finkelstein, I am able to summarise and reference Beconwood’s actual legal claims. I will say at this point that i know that popular news is not required to get the majority of what it got wrong in this case correct but that perhaps articles like this will make it slightly more likely.

I only do this so that we may have some idea about what was decided and what other legal avenues remain open to Beconwood rather than assuming judges make popular-culture-friendly decisions with unjustified sweeping claims void of reasoning. I might also add at this point that the judgment was very funny in places and well worth a read:

Beconwood proposed to the court that it had a security interest in the shares held by ANZ on a number of bases, of which only two were considered. Thus, Beconwood and the other Opes Prime clients may still have a legal claim as outlined by Justice Finkelstein below:

I emphasise that for present purposes it is neither necessary nor proper to consider (and I expressly have not considered) precisely what representations were or were not made in the meetings and correspondence between Beconwood and OPS, or what Beconwood may or may not have understood regarding the meaning of the terms of the proposed securities facility. At present, it necessary only to note that Beconwood entered into the SLA, the construction of whose written terms is now at issue. It must be remembered, however, that Beconwood contends that if it has not made out its case on the SLA alone, it will still be able to do so when account is taken of representations allegedly made by OPS and which form part of the arrangement, or inform that arrangement.

Justice Finkelstein outlines the two claims considered as follows:

First, Beconwood says that, on its true construction, the legal effect of the SLA is to create a mortgage of its shares in favour of Opes Prime with the consequence that the shares can be redeemed on repayment of the money received from Opes Prime…Beconwood believed that the true character of the SLA is that of a mortgage pursuant to which it borrowed money from OPS and put up its shares by way of security. It follows, so the argument goes, that Beconwood has an equity of redemption in respect of those shares.

The second basis is that Beconwood has an equitable charge over the shares [as a result of the nature of the agreement]…[Therefore], by reason of the SLA Beconwood has a charge over the shares which is enforceable in equity.

The corollary of each argument is that under the arrangement Opes Prime did not become the absolute owner of the shares.

If successfull on either of these claims, Beconwood would have an interest as either a mortgagor or chargee respectively over the securities that are now the legal property of ANZ (this would lead to an equitable interest and an ‘equity of redemption’ respectively). For those who have not studied equity, this would lead to Beconwood being more likely to have its shares returned.

An Finkelstein outlines, it would then separately have to prove that either of these equitable interests have priority over ANZ’s current and very real legal interest (another question not considered in the judgment).

Opes Prime clients and steps forward from here

Another of Zappone’s comments leads well into the result of the case and likely steps forward from here:

Beconwood Managing Director Paul Choiselat said he was disappointed and was yet to decide whether to appeal.

When deciding whether to appeal the decision, Mr Choiselat will likely consider the clarity of Justice Finkelstein’s reasoning in denying the two claims. He does have an appeal channel open but he is more likely to await thefull decision that will be completed by Justice Finkelystein on the other points of law raised in his claims.

If he were to appeal, he would have to appeal the construction of the agreement made by Justice Finkelstein. Without intending to turn this piece into a discussion of equity and property assignment, the ratio for the decisions appears very sound to me and provides little hope for success on these two claims. I will post a separate blog with a summary of the reasoning behind the decision if people are interested but for those who are keen read from paragraph 35 in the judgment.

Thus, if Beconwood Securities is to have a chance at getting its shares returned, it would in my opinion be much better off waiting for the final decision which may be considering claims such as innocent or fraudulent misrepresentation (assuming their claims are true) than appealing the two claims put forward in this case. However, even in this case, as it is an institutional investor, it would be quite difficult to prove that the actual agreement was anything other than that which is clearly stated in the agreement as outlined below:

Clause 3.1 provides: “The Parties must execute and deliver all necessary documents and give all necessary instructions to procure that all right, title and interest in [any Securities, Equivalent Securities, Collateral or Equivalent Collateral] will pass absolutely from one Party to the other, free from all liens, charges, equities and encumbrances, on delivery or redelivery of the same in accordance with this Agreement.”

I personallly wish Beconwood the best of luck in their hopes of recovering the money in the event that there was misleading conduct and hope that any suspicious behaviour allowing this to happen is properly investigated (including any Opes client accounts that were significantly undersecured and Australia’s severe incongruence with the more secure American SEC regulations in this area).

If you liked or disliked this blog, please comment below and let me know.

Following on from my finance blog on company characteristics, I thought I would write a quick blog on the different types of companies that are common today.

Companies are classified according to liability, size and where they are listed. We will discuss the first two and the resulting 6 common types of companies we arrive at.

Classification according to member liability

1 – Companies limited by shares (known as ‘limited liability’ companies)

Typically, members are usually shareholders and their liability is limited to the nominal (nominal capital is defined as the capital with which the company was incorporated) value of their shares plus any unpaid amount on their shares.

As an example, say you buy BHP shares at $10 for 100 shares, then your liability is limited so that if BHP were to be sued, it is limited to the $10 paid. This is sometimes conducted differently when you don’t fully pay for shares when the company floats. If $5 was paid and $5 was then owed on the shares, then the remaining amount must be contributed should it be called upon.

As we probably know by now, the significance is that shareholders are not liable for the full amount. This is known as the share capital method of corporate finance. Another method is by debt – going to a bank and asking for money to be lent. This is a different contractual agreement.

2 – Companies limited by guarantee (small and charitable organisations)

The difference with these companies is that members can place a guarantee on the company which may only be enforced on the winding up of the company and is not an asset of the company which may be charged during its life. These companies have no share capital unlike companies limited by shares.

Often non-profit companies and charities use this method.

3 – Unlimited liability companies (partnerships)

The unlimited liability company was the original form of registered company under the 1844 UK Act. It is defined in Australia in the corporations act as a company whose members have no limit placed on their individual liability to contribute to the debts of the company.

The Sole advantage is that this company is exempt from the prohibition on reduction of capital (s258A) which means money can be more freely taken out of the company’s capital base. The clear disadvantage is that members might not be aware of their unlimited personal liability when joining.

Today the unlimited liability company is used mainly by professional organisations carried on in a partnership like many Legal and Accounting firms.

4 – No liability companies (Exclusively mining and resource companies)

In Australia, companies may only be registered as no liability where

a) the company has share capital,

b) the company’s constitution states that its sole objects are mining purposes and,

c) the company has no contractual right under its constitution to recover calls made on its shares from a shareholder who fails to pay them s112(2).

s112(2) of Corporations Act says constitution must state that the sole object is mining purposes. Originally because mining is seen as particularly risky business and people were reluctant to invest. Shares are part paid with the option of paying the remainder later.

Classification according to size

The other key way to classify companies is by their size and the corporations act in Australia and its equivalents abroad have provisions relating to a company’s classification via its size.

Corporations Law has been structured for large companies with a division between ownership and control with significant capital from the investing public. While this is the classic model of the corporation, most Australian companies are small, family companies. This model is therefore appropriate for only a tiny proportion of the market companies with the larger number of small private companies out there. Small companies are still covered under the corporations act but typically more regulatory burdens on are placed on larger companies.

Both proprietary and private companies exist:

1 – Proprietary Companies

A proprietary company must:

a) be limited by shares (#1 above) or be an unlimited company (#3 above) with a share capital

b) have no more than 50 non-employee members

c) not do anything that would require the issue of a prospectus (prohibition on seeking investment from the public).

If a company doesn’t qualify as a proprietary company, then it’s a public company and must comply with all the regulatory requirements associated with that. The minimum number of persons is one (shareholder and director).

2 – Public Companies

As above, if a company doesn’t qualify as a proprietary company, then it’s a public company. A public company must have a minimum of 3 directors, 2 of whom must ordinarily reside in Australia.

However, many enterprises structured themselves so that they just met the definition of a proprietary company to avoid regulatory provisions. The Government then redefined the proprietary company definition in s45A(2) of Corporations Act. The act now identifies smaller companies on the basis of value and size of the business.

A proprietary company is small if it satisfies 2 of the following criteria:

a) the consolidated gross operating revenue of the financial year of the company and any entities it controls is less than $10m

b) the value of the consolidated gross assets at the end of the financial year of the company and the entities it controls (if any) is less than $5m

c) the company and any entities it controls have fewer than 50 employees.

6 classifications of companies

After all this, we arrive at the following possible combinations of different companies with the proprietary limited (‘pty ltd’) company being the most prevalent.

I acknowledge a student’s corporate law notes that I obtained while I was at Sydney University as a source and i welcome any comments from readers.

If you enjoyed this blog, you may also enjoy the related linkes below.

Companies are….

Most people have a decent concept of what a company is. They could tell you that there are lots of them, they make lots of money, most work for one, and typically that they sell a particular thing or provide a range of services. Most people even know that many companies have “pty ltd” next to their name and some of those people realise that it stands for proprietary limited.

If however, you were to ask someone to define what a company is or what “proprietary limited” actually meant, you may find a few more blank faces. Ultimately, it probably doesn’t matter to the majority of the population, but it is quite critical to understand what defines a company and what distinguishes it from other business forms before considering more complex legal and corporate issues.

The central themes that will continue to arise when thinking about companies are liability, ownership, financing, legal obligations and succession especially in the event that the company can no longer pay its debts when they fall due (insolvency).

Liability ?

Liability is the legal obligation imposed on a member of a business to pay the debts of the company and in most cases liability is either limited by the member’s shares or unlimited. If a member or shareholder of a business enjoys limited liability, his debt to the company is limited to the number of shares he has bought in the company. Unlimited liability ….

Alternative business structures

Without going too far into the history of the corporate form and its alternatives, lets firstly examine the alternatives in terms of the liability placed on the members or shareholders:

1. Sole trader – the business is run by one person, all decisions are made by this person but staff can still be hired. Sole traders do not enjoy limited liability and personally liable for all debts of the business.
2. Partnership – the relationship that exists between people carrying on business in common with a view to a profit. Robert Clark (US corporate academic) said the essence of partnership is all for one and one for all. As an examples, law firms are typically partnerships and need to trust partners because they will be personally liable if for the any mistakes of other partners.
   
3. Joint ventures – An entity formed between 2 or more parties where there is no continuing business but there is a specific project in mind. It is an essentially contractual model and joint ventures can be incorporated or unincorporated. A good example of a joint venture is Sony and Ericsson forming Sony Ericsson. Since a joint venture can be entered into by anyone is more a purpose than a business form, liability is varied in joints ventures.

With the alternatives in mind, We’ll now consider what defines the modern corporate form and why it is seen as the most appropriate business structure. To see a comparison of corporations and partnerships click here.


Companies are ‘creatures of law‘

A corporation is a ‘creature of the law’, that is, a corporation exists from the day specified on the certificate of registration. After the steps leading to incorporation have been taken and a certificate issued, a new legal entity is created, separate from its members.

This creature of law was described in Salomon v Salomon and Co [1897] AC 22, an early case concerning the liability of a shareholder to pay his company’s dets upon liquidation

“A company is a distinct legal entity, separate from those who created it and its members. This legal entity is a legal fiction in the sense that it is not organic, it is created by people and it is recognised [as a separate entity] by the law”

The assets of the company are not the assets of its members and the contracts entered into by the company will create rights and liabilities which only vest in the company; not in its members.

It is best to think of a company as a different person to its shareholders and directors. In many cases, directors can be liable for the debts of a company but this will be discussed in a later blog. It is crucial to note that in a limited liability company, shareholders will always only be liable to the value of their shares. This fact is one of the main factors that has driven the popularity of the modern corporate form.

Lets now look at the 5 factors that truly define and distinguish the modern corporate form from its alternatives:

Characteristics of a corporation

1. Limited liability – limit participant’s liability for the obligations of the enterprise by insulating members’ other assets from claims against the company.

2. Perpetual succession – the company is invested with the legal capacity and powers of an individual but unaffected by death or bankruptcy of a member or the transfer of ownership interests (these events would dissolve a partnership).

3. Financing – Unincorporated forms of business organisation don’t have the power to create a floating charge over its assets or to make a public issue of its shares or debt interests.

4. Cost, formality and continuing obligations – Corporations must undergo formal procedures and continuing disclosure of information in many cases. Partnerships are much more flexible (no formality for its creation or dissolution, capital may be freely withdrawn from the firm).

5. Taxation – Originally double taxation consequences existed for companies and their members. This has been largely eliminated these days by anti-double taxation provisions (dividend imputation).

A later blog in this series will examine the different types of companies (public companies and proprietary companies) and their different forms.

If you are interested in another James Cox finance blog on fundraising and investment through ipos and private equity, click here.