Question

Mr Kaur started a software business. He decided to incorporate. He did so, calling his company Kaur and Sons Pty Ltd. Mr Kaur sold the assets and goodwill of his software business to Kaur and Sons Pty Ltd for $30,000. Rather than the company paying him $20,000 in cash, the company issued 20,000 shares worth $1.00 each to Mr Kaur. At the time of the sale, the company still owes $10,000 to Mr Kaur. This debt relates to $10,000 of personal property which becomes the company's property at settlement. A loan or mortgage is put in place. Mr Kaur became a secured party, with a registered Purchase Money Security Interest (PMSI) in his favour. Mr Kaur became the Managing Director at settlement. -- Six months later, Kaur and Sons Pty Ltd borrowed $50,000 to finance its growth. Twelve months later, the company lost its primary contract and was then unable to pay its creditors. The creditors sought to recover from Mr Kaur. --

Use the ILAC approach to answer legal questions.

Consider both the common law and legislation.

Referring to the above Facts, explain particularly the relationship between shareholders, directors, the company and creditors.

Answer 1

ISSUE:

Mr Kaur started a software business and converted to Kaur and Sons Pty Ltd.

At the time of the sale, the company still owes $10,000 to Mr Kaur. This debt relates to $10,000 of personal property which becomes the company's property at settlement. A loan or mortgage is put in place. Mr Kaur became a secured party. Twelve months later, the company lost its primary contract and was then unable to pay its creditors.

Creditor Wants to Recover from Kaur Director.

Law:

Corporate bankruptcy can arise as a result of two broad categories—business failure or financial distress. Business failure stems from flaws in the company's business model that prohibit it from producing the necessary level of profit to justify its capital investment. A company experiencing business failure can stave off bankruptcy as long as it has access to funding. Financial leverage and working capital mismanagement are likely two of the major causes of corporate failure and bankruptcy in the US.

Corporate have a separate Legal Personality.

Liability of Share holders is limited to extend of capital Subscribed.

A secured creditor is a creditor with the benefit of a security interest over some or all of the assets of the debtor.

In the event of the bankruptcy of the debtor, the secured creditor can enforce security against the assets of the debtor and avoid competing for a distribution on liquidation with the unsecured creditors.

An unsecured creditor is a creditor other than a preferential creditor that does not have the benefit of any security interests in the assets of the debtor.^[1]

In the event of the bankruptcy of the debtor, the unsecured creditors usually obtain a pari passu distribution out of the assets of the insolvent company on a liquidation in accordance with the size of their debt after the secured creditors have enforced their security and the preferential creditors have exhausted their claims.

Analysis:

Mr Kaur started a software business and then converted into company Kaur and Sons Pty Ltd. Mr Kaur sold the assets and goodwill to Kaur and Sons Pty Ltd for $30,000. Company paid him by issuing 20,000 shares worth $1.00 each to Mr Kaur. And still the company still owes $10,000 to Mr Kaur. A loan or mortgage is put in place. Mr Kaur became a secured party, and registered in his favour.

Mr Kaur became the Managing Director at settlement.

Six months later, Kaur and Sons Pty Ltd borrowed $50,000 to finance its growth. Twelve months later, the company lost its primary contract and became bankrupt.

The Corporates have separate legal Personality. The Corporate can be sued and can Sue any person on its own name.

the ownership and Management are considered separate in Corporate.              

Companies are liable for acts done by management within its Law of Agency.

If Directors are done acts beyond their capacity company is not liable.

Liability of Shareholders is limited to Share Capital. In case of bankruptcy the share holders are liable to bring amount only upto any unpaid capital.

A secured creditor is a creditor whose Interest is secured over some or all of the assets of the debtor.

In the event of the bankruptcy of the debtor, the secured creditor can enforce security against the assets of the debtor and avoid competing for a distribution on liquidation with the unsecured creditors.

An unsecured creditor is a creditor other than a Secured and preferential creditor that does not have the benefit of any security interests in the assets of the debtor

In the event of the bankruptcy of the debtor, the unsecured creditors usually obtain a pari passu distribution out of the assets of the insolvent company on a liquidation in accordance with the size of their debt after the secured creditors and the preferential creditors have exhausted their claims.

So here Mr.Kaul is a secured creditor and other Creditor for trade liability are unsecured Creditors.

Conclusion:

Since Company has a separate legal Personality, it cannot recover claims from the share holder Mr. Kaul.

Creditors for 50000 can claim only after the recovery of Mr. Kaul since his Debt is secured. They cannot Sue Shareholder Mr.Kaul.