RIGHTS, DUTIES AND THE VALIDATION OF IRREGULARITIES

• Published date: 01 December 2011
• Date: 01 December 2011
• Author: Alexander F H LOKE LLB (National University of Singapore), LLM, JSD (Columbia); Advocate and Solicitor (Singapore); Associate Professor, Faculty of Law, National University of Singapore.

The substance-procedure divide determines the presumptive validity of corporate acts when there is defective compliance with the prescribed steps for doing those acts. This article examines the current approaches to discerning the difference and argues that a deeper inquiry into legislative intent and the parties' intentions is necessary to more meaningfully negotiate the substance-procedure divide. Apart from providing a better explanation for why an irregularity is a matter of substance (or procedure), the suggested inquiry illuminates when it is correct to apply the judicial power to validate irregularities.

I. Irregularities and the validity of corporate action

1 Where a corporate act is predicated on certain prescribed steps being taken but there is non-compliance with those prescribed steps, is the act a valid or invalid one? Under the company laws of Australia and Singapore, the matter is partially addressed through an inquiry into whether the irregularity is a procedural one. If the matter is a procedural irregularity, the action is presumptively valid under s 392(2) of the Companies Act1 (“CA”). The presumptive validity is displaced only if the irregularity causes substantial injustice which cannot be remedied by an order of court. Where the irregularity is a non-procedural one, there is no presumptive validity; however, the court is, under s 392(4)(a), conferred the power to validate the act infected by such an irregularity.

2 On its express terms, CA s 392 does not address the validity or invalidity of non-procedural irregularities. In the case of an irregularity which arises from non-compliance with statutorily prescribed conditions, this article argues that the question is largely one of statutory interpretation. Does the statute predicate invalidity of the act

should there be a failure to comply with the conditions set out for carrying out the act in question? If it does, the ancillary question arises – does the statutory provision preclude the application of s 392(4)(a)?

3 Where the irregularity involves non-compliance with conditions found in the articles or memorandum of association, CA s 392 would not, at first sight, appear to address the validity of non-procedural irregularities. The matter, it would appear, is one to be addressed at common law. With s 392, however, the common law is trivial for two distinct and alternative reasons. The first pertains to practical insignificance. The validation power under s 392(4)(a) allows the court to side-step the thorny issue of whether the action is valid by proceeding directly to whether it would exercise its power of validation. The second is that of conceptual insignificance. This article argues that s 392 creates a procedure-substance dichotomy which implicitly posits the invalidity of substantive irregularity, a premise which undergirds the Singapore Court of Appeal decision in Thio Keng Poon v Thio Syn Pyn2 (“Thio”). This underscores the importance of formulating the correct principle by which to discern which side of the procedure-substance line an irregularity falls.

4 The procedure versus substance dichotomy is, as we shall see, a nuanced one. This article examines the more nuanced approaches propounded more recently in Australia and Singapore, and argues why these are legal developments in the right direction. It builds on these approaches to suggest a deeper inquiry that goes into the essential substance and validity linkage.

II. The structure of s 392 and why the substantive irregularity versus procedural irregularity distinction matters

5 Under CA s 392(2), an action affected by a procedural irregularity is presumptively valid unless it can be shown that the irregularity has occasioned substantial injustice that cannot be addressed by an order of court. In contrast, a matter sought to be validated under s 392(4)(a) has to satisfy a number of conditions found in s 392(6):

(6) The Court shall not make an order under [s 392] unless it is satisfied –

(a) in the case of an order referred to in subsection (4)(a) –

(i) that the act, matter or thing, or the proceeding, referred to in that paragraph is essentially of a procedural nature;

(ii) that the person or persons concerned in or party to the contravention or failure acted honestly; or

(iii) that it is in the public interest that the order be made;

… and

(c) in every case, that no substantial injustice has been or is likely to be caused to any person.

6 The first difference between the two provisions relates to the burden of proof. Under CA s 392(4)(a), the person seeking validation of the action has the burden of proving that “no substantial injustice has been or is likely to be caused to any person”.3 The court:

… may … on application by any interested person, make all or any of the following orders, either unconditionally or subject to such conditions as the Court imposes:

(a) an order declaring that any act, matter or thing purporting to have been done, or any proceeding purporting to have been instituted or taken, under this Act or in relation to a corporation is not invalid by reason of any contravention of, or failure to comply with, a provision of this Act or a provision of any of the constituent documents of a corporation …[4]

7 This is to be contrasted with CA s 392(2) where the burden of proving the “substantial injustice” requirement is on the person seeking the invalidation of the action.

8 Related to the presumption of validity in CA s 392(2) is the causation requirement embedded in s 392(2), ie, the need to show the nexus between the irregularity and the injustice alleged. The proof of the nexus – that the procedural irregularity has caused or may have caused a substantial injustice – requires a consideration of the counterfactual. What if the procedure had been duly followed? Is it likely that there would have been a different result? In the context of a

contested resolution passed at an irregular meeting, this causation inquiry often engages the court in an examination of the nature of the resolution as it considers whether it would have been passed if the procedural provisions had been complied with. In City Pacific Ltd v Bacon (No 2),5 the irregularity consisted of a failure to pass two separate resolutions for the removal and replacement of the responsible entity under s 601M of the Corporations Act 2001 (Cth) (Australia). The plaintiff was the responsible entity for managing the mortgage fund that the irregular resolution sought to remove. Analysing the nature of the resolution and noting the general dissatisfaction with the plaintiff's performance as the responsible entity for managing the mortgage fund, Dowsett J found that the members would not have voted differently.6 Dowsett J applied the test propounded by Hodgson J in Mamouney v Soliman:7“[T]he plaintiff must show that there may have been a different result, if the proper notice had been given.” As due compliance with the prescribed procedure would not have changed the outcome, Dowset J ruled that the plaintiffs had failed to prove injustice for the purpose of s 1322(2),8 the Australian equivalent of CA s 392(2).

9 The proof of the causative link between the irregularity and the injustice alleged by considering the counterfactual similarly stumbled the complainants in Re Pembury.9 Here, the majority faction held 75% of the shares while the other faction (E) held 25% of the shares. The majority purported to convene a members' general meeting, which was irregular due to the short notice for the meeting and the absence of a quorum for the meeting. The resolution resulted in the removal of C, an ally of the minority faction. Additional directors were also appointed at this meeting. Byrne J accepted that the minority faction suffered prejudice. It was in this context that Byrne J said:10

It is, therefore, necessary to decide whether either of the irregularities has caused or may cause ‘substantial injustice’. The burden Creevey and East bear is to show that one or other of the irregularities occasions a ‘substantial injustice’; not that the ‘proceeding’ (the meeting and its resolutions) caused or may yet cause substantial injustice.

10 The irregularity consisted of the short notice calling the meeting. In examining whether the irregularity caused or may have caused a substantial injustice, Bryne J examined whether due notice would have made a difference. The inquiry explored the breakdown in

the relationship between the majority shareholder on the one side and the minority shareholder and his ally C on the other. The mistrust that had developed was such that even if the minority had the chance to present evidence of the debt the company allegedly owed to C, it would not have made a difference to the majority's resolve to remove C. In so far as the minority had argued that the short notice deprived them of the opportunity to put certain information before the meeting, Byrne J held that it would not have made any difference to the outcome. There was thus a failure to demonstrate a nexus between the procedural irregularity and the prejudice the minority suffered.

11 The requirement to prove the nexus between the irregularity and the injustice is thus a material burden for the aggrieved party seeking invalidation of the action. This is to be contrasted with CA s 394(4)(a) where, by reason of s 392(6)(c), the burden of proving the absence of substantial injustice is placed on the person seeking validation of the matter.

12 The second set of differences lies in the nature of the conditions.

13 The wording of the substantial injustice condition in CA s 392(6)(c) is framed differently from that found in s 392(2). Whereas s 392(2) posits that the court should declare invalid a procedural irregularity if it “has caused or may cause substantial injustice that cannot be remedied by any order of the Court”, the court in exercising its validation power under s 392(4)(a) is...