Take caution when removing a director from a company

This is a short case study about some pitfalls when removing a director of a company. The operation of a registered company is often governed by the replaceable rules contained Corporations Act 2001 (Cth) or the company’s constitution and shareholder agreements. These documents will usually set out the grounds and procedure for removing a director.

A shareholders agreement creates a private contract between the company’s shareholders and sets out their respective rights and responsibilities.  It is critical for the documents that govern the operation of a company to be consistent.

In the matter of Allied Resource Partners Pty Ltd v Allied Resource Partners Pty Ltd [2017] FCA 1451 (Allied Partners), the Federal Court considered the issues arising from conflicting governing documents and the unfamiliarity in the processes required to appoint and remove company directors.

Background facts in Allied Partners

Mr Shearwood and Mr Peters were co-directors of Allied Resource Partners Pty Ltd (Allied). Allied was governed by the Allied Constitution and a Shareholders Agreement (Agreement).

Mr Peters served a default notice under the terms of the Agreement on Mr Shearwood on the belief that Mr Shearwood had breached certain provisions of the Agreement.

The default notice required Mr Sherwood to remedy the alleged breaches within ten days. Mr Sherwood failed to respond to the default notice, and Mr Peters removed him as director and appointed a new director.

Mr Shearwood challenged his removal and the appointment of the alternate director in the Federal Court.

The Federal Court’s decision

In considering Mr Shearwood’s challenge to his removal as a director, the Federal Court considered how Mr Shearwood was appointed as a director.

During the court proceedings, it became apparent that neither party had considered the method by which Mr Shearwood had initially been appointed director.

The Federal Court upheld the challenge and determined that Mr Peters’ actions were ‘beyond power, invalid and ineffectual’.

The Federal Court held that Mr Shearwood was, at all times, and remains a director since his initial appointment and ordered that Allied take the necessary steps to re-record him as director and remove the purported appointment of the alternate director.

The Court’s reasoning

During submissions, it became apparent that neither party had considered the method by which Mr Shearwood had initially been appointed director. This was relevant in that it would assist in determining how Mr Shearwood should, or could, be removed.

Mr Shearwood had not been appointed by a shareholder as provided in the Agreement. Instead, he had been appointed upon registration of the company pursuant to s 120(1) of the Corporations Act, which provides:

‘A person becomes a member, director or company secretary of a company on registration if the person is specified in the application with their consent as a proposed member, director or company secretary of the company’.

Consequently, the removal of Mr Shearwood as a director could not be achieved under the terms of the Agreement alone. The Allied Constitution required 70% shareholder approval for the removal of a defaulting director.

Conclusion

The process for appointing and removing a director is usually governed by the company’s constitution, shareholders agreement, and any other legal documents affecting the company’s operations. The requirements of the Corporations Act must also be considered so there is consistency and clarity concerning the necessary processes when conducting the company’s affairs.

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