Debentures and Business Law - Essay Example

Title: I-Sparts Ltd Name: College: Introduction There are various ways through which organizations obtain capital, these ranges from, shareholding to credit facilities. As a source of getting capital, debentures have been very key elements in the business set-up. It goes without saying that debentures have played a significant role and therefore they have been instrumental, in the acquisition of funds for the daily operations of a business. It is rather important to first begin by looking at what a debenture is and then form a basis of the discussion with regards to the case of I-Sparts Limited. Topham (p.142) defines a debenture as a document issued by a firm or organization to act as its evidence for a charge created by the same company in return for a loan. There are other various meanings that have emanated from the use of this term. However it does not matter how one puts it, the most important thing that one needs to know here is that this term simply means a “security” for the funds given out by one entity (Loaner) to another (Loanee). Debentures can be said to exist in two forms for instance, there are debentures which are payable to a registered holder and secondly there are debentures which are payable to a bearer. Another common distinction is that debentures can be secured as well as unsecured. By this I mean to say that in secured debentures, the assets of an organization cannot be sold to recover the funds in case of liquidation, on the other hand, a secured debenture allows for an organization’s assets to be sold enabling the recovery of the funds. Looking at the debentures issued by I-Sparts Ltd one can clearly see that these are a good example of secured debentures. These debentures are issued in exchange of floating charges as part of the securities by the borrower. There is however a difference between floating charges and fixed charges on assets (Marsh, Souls, p.128). Floating charges are given second priority to fixed charges as well as other creditors. This is to say therefore that in the event of I-Sparts Company winding up, preference will be given to creditors with fixed charges on assets. Therefore Fishtight will receive second priority. This paper seeks to analyse the case of I-Sparts limited with regards to the liquidation process that is underway. The Company is said to have issued out debentures to the prospectors to a sum of $ 4million. This amount was covered by a floating charge of stock as part of its security. These debentures were held by a trustee in the name of Trustme Ltd. Flashlight Company moved in to purchase $500,000 in form of debentures. This is after they had gone through the books of account that had even been audited by RS Kerr-Downs Ltd. All was well according to what we are told until after liquidators were sent in to try and secure creditors funds. It is alleged that I-Sparts Ltd had not registered its floating charge and this information was not even availed to Trustme Ltd. These activities will be the main focus of my discussion as I would try to evaluate how these different claimants would benefit from the liquidated assets. The case laws as well as the corporations Act will come in handy, in my discussion. I will also apply classroom knowledge as well as other secondary sources in the discussion, in order to give a thorough oversight of the topic. The fact that the liquidator had come in, and taken custody of the spare parts on behalf of the creditors leaves the other parties with very little choice. This is because, according to the corporations Act 2001 a debenture holder can move in and take custody of the assets secured by the floating charge issued by the defaulting company. In this case therefore, liquidators were operating in accordance to the law when they sought to liquefy I-Sparts Ltd. Trustme being the trustee of I-Spat Ltd are mandated to maintain diligence in their operations by ensuring that the ASIC has been furnished with the relevant information regarding the debenture holder. This is according to the Corporations Act. For instance the trustee is required to ensure that the Debenture holder has complied with the requirements of the ASIC. However, Trustme Ltd can be faulted for not ensuring that the floating charges issued against the debenture were registered. The fact that they forgot to check whether the registration had been done or not, shows that they had failed in one of their duties. In the competing rights for the stock between the Trustee (Trustme) and the Liquidator, it is very evident from the Corporations Act 2001 that; the trustee has exemptions from the liability of the debenture holder for breaching section 283DA by failing to show the required diligence and care. In this case therefore, Trustme is exempted from being liable to the liquidation of I-Sparts Ltd, for failing to ensure that the floating charges had been registered. Secondly it is the duty of the borrower to give the trustee the information of a charge that has been created before the end of 21 days. In this case it was the duty of I-Sparts to ensure that Trustme Ltd was furnished with this information before the required time Under the corporations Act Division 2 part 5.7B it is provided that the various priorities should be given to Trustees over beneficiaries. It is very clear that the Assets which were held on trust by Trustme Ltd should be spared from insolvency. The Act also stipulates that creditors of a trustee have no right to assets held on trust. This is the reason as to why trust creditors have priority over mere beneficiaries. This is a similar scenario to Blackshaw and Shadforth’s case (1997). This is to say therefore that Trustme is indemnified under the Corporations Act by virtue of the fact that it is operating in the capacity of a trustee and is therefore not liable for the acts of the borrower (Mack and Emmanuel, No 14). On the other hand, the liquidators have a right to the stocks because of the fact that they are acting on behalf of the creditors. Liquidators act in good faith in order to enable all creditors to benefit from the liquidated company. The liquidator has all the right to take control of the assets of I-Sparts Ltd. This is because the liquidator has been appointed to do so by the court. In their quest to win the rights to the stock, it is likely that the battle will be a close call given the fact that all the two parties have a basis for their argument. The trustee in this case Trustme Ltd is protected by the corporations Act which requires that a trustee be indemnified from the liabilities of the borrower. On the other hand, the liquidator is appointed to act on behalf of the creditors in order to enable each creditor receive part of the organizations assets. The fact that the trustee was not furnished with the information about the availability of the floating charge puts Trustme Ltd in an awkward position with regards to this case. This is because the fact that the floating charge had not been registered on time means that no preference treatment will be given to creditors who own the charge as their security. It therefore means that Trustme Ltd is bound to lose the battle for the stocks although it was not part of his duty to obtain information about the floating charges. As time goes by various considerations have been made with regards to liquidators’ position. For instance it has been considered that liquidators have a right to make recovery of the costs they have incurred from their execution of the liquidity process. This is to say that the liquidator has all the right to ensure that all the costs are recovered from the assets and liquidity. ASCI should not have allowed the registration of the floating charge as of September 1st. This is because the corporations Act demands that the borrower avails information about the charge to the trustee before the end of 21 days. Since this time had already elapsed and the debenture had already been issued, it would be unethical for the ASCI to award registration to Trustme Ltd. However if the debenture is registered after this period has elapsed then it will not be given priority ahead of the initial floating charges. Liquidators are most likely to succeed in the case because of the fact that they are indeed acting in the interest of all creditors. It is also a matter of principle that liquidators are brought into the firm in the event that the court has ordered such an action. This can also be as a result of the directors’ agreement. In this case therefore the strength lies in numbers and so the liquidator boats of support from various quarters. This numbers are bound to improve their chances of winning the case. In light of this case, the fact that liquidators have been called in to come and liquidate the I-Sparts, it is very evident that the different firms will benefit differently. It is important to note that each of these parties has certain rights over others. The Paripasu Principle stipulates that creditors should be treated equally especially when the company falls into liquidity. This is however not the case because there are some preferred creditors to others. This is the reason why I will analyses the various rights of different parties to this case. Fishtight Financial Ltd has rights over I-Sparts in a several ways. The company owes the latter a sum of $ 500 thousands and is therefore bound to receive this amount of money in dues cause. However the fact that the latter is to be liquidated, Fishtight Financial Ltd will only receive up to a certain percentage of the liquidated amount depending on the financial position of the firm at that period of time. This is because the debenture holder is secured by a floating charge. This type of charge according to Mead, L& Sagar, D, (p.124) is not given the first priority. In fact it is the fixed charge on assets that is given priority. If for example a floating charged was issued after a floating charge had already been issued, in the event of liquidation, the fixed charges are given priority. Secondly if the assets over which the floating charges are secured are sold. Preference will still be given to other creditors. In this case therefore Fishtight Financial Ltd will only receive compensation once other creditors have been settled. This therefore means that by the time Fishtight is paid little would have been left. The companies Act also gives a provision for creditors with floating charges to sue for damages in case of liquidation to the maximum amount of assets over which the security issued covers. This provides a very proper ground for Fishtight Company Limited to make there arguments in order to receive compensation to the maximum amount of the funds and assets which the floating charge was meant to cover (Topham, p. 265). It is worth noting the fact that RS Kerr-Downs Ltd had gone against the accounting standards which require that at all times the accounting and financial information about a business be representative of the organizations true state of things. It has emerged that the financial information that was provided and audited by Downs Company was false. It was not a true representation of the state of things. This is the reason why Fishtight Financial Ltd will have a walkover against this company in a court of law. If ethics is anything to go by then it goes without saying that indeed Downs Company had breached its ethical principals. It had also violated the accounting principles and standards so to speak. Trustme Ltd was acting as a trustee and nothing else. In this case therefore Fishtight has an edge over it because of the fact that the borrower has a valid reason to claim for the liabilities in the liquidation process. The Corporation Act section 262 article 11 provides that a charge cannot be invalid because of failure of one party to comply with the ASCI requirements. In this case, failure of the borrower to register the charge with ASCI does not guarantee that the charge is inexistent. In this case therefore, Fishtight has a basis on which to stand on bearing in mind that it is among one of the creditors who deserve to be given priority in the event of liquidation. Conclusion The current trends in the business world have shown tremendous growth in many aspects. For instance the introduction of new technological advancements provides a basis through which most companies can market their goods and services even to clients overseas. As companies seek to obtain capital to fulfil these demands, the issuance of debentures comes in to rescues the situation. Debentures have been on the verge of improving most companies’ financial position. This is because debentures offer firms an opportunity to acquire capital which enables to propel growth. This is indeed the reason why most firms stick to this aspect of business capital. However caution has to betaken when acquiring such credit facilities. This is because the debt to equity ratio has to be maintained at a substantial position to reduce the chances of companies winding up as in the case of I-Sparts (Mead, Larry& Sagar, 2005, P.367) This paper sought to unearth the miseries that befell I-Sparts Company Limited, and how such occurrences can be applied in the case laws. I first began by looking at the various definitions of the term debentures. At this point I was able to extract a general meaning of debentures as simply being the act of receiving money from another entity by issuing out a document which has charges that act as securities. From my discussion it came out clearly that the Trustme Company Ltd made a blunder in forgetting to ask if I-Sparts had registered the charges with the ASCI. This was bound to create problems at the end, because it provided for the liquidators to give less priority to their arguments since such charges had not been registered in time. Also from the discussion I was able to analyse the fact that the liquidators were bound to succeed in the case against the trustees (Trustme Ltd). This is because of the fact that they had been appointed by the court of law and were therefore acting on behalf of all creditors. I was also able to depict clearly how Fishtight was in a better position to win the case against I-Sparts, Trustme and Dawns auditors. I as informed by the Corporations Act 2001 of the various rights of the debenture holders and therefore made use of them appropriately thus the position of my standpoint. Reference Fiona M. Tolmie. Corporate and personal insolvency law. Newport: Cavendish. 2003. Print Hicks, Andrew and Goo, S. H. Cases and materials on company law. NY: Oxford. 2008. Print Marsh, S. B. Souls, J. Business Law. Cheltenham: Nelson Thornes. 2009. Print Mead, Larry& Sagar, David Business Law Paper C5. MA: Elsevier. 2005. Print Topham, T. Alfred. Principles of Company Law. NY:BiblioBazaar, LLC.2009. Print Read More