The Victorian Court of Appeal in 360 Capital Re Limited v Watts & Ors [2012] VSCA 234 dismissed an appeal from a decision in Watts & Watts & Ors v 360 Capital Re Limited & Anor [2012] VSC 320 which held modifications to the 360 Capital Fund’s constitution were invalid for want to compliance with section 601GC(1)(b) of the Corporations Act 2001 (the “Act”).

FACTS

The 360 Capital Industrial Fund (“360 Capital”) is a managed investment scheme under Chapter 5C of the Act. There are 180.63 million units in the Fund. The Constitution of the Fund relevantly provides, at [4] :

1) Clause 5.1(a): The Trustee could only issue units in accordance with clause 5 and subject to the Constitution.

2) Clause 5.2(a): The Trustee could not grant Options unless the Trust were Listed.

3) Clause 5.4: New Units were required to be issued at a price determined in accordance with clause 5.4.

4) Clause 13.5(a): An Option did not confer on the Optionholder any interest in the Fund.

On 31 May 2012 the directors of 360 Capital executed a Supplemental Deed Poll which purported to amend the Constitution to provide for the issue of 360 Notes. On 6 June 360 Capital entered into a contract to purchase properties for $87.4 million [8] which would be funded by bank debt and the proceeds of placement of 360 Notes [9].  The Respondent sought a copy of the register of members to convene a meeting [11]. In response 360 Capital executed a further Supplemental Deed Poll whose effect was to place restrictions on the convening and conducting meetings of the Fund [12] – [13].  The Board then called a meeting for 8 August 2012 to consider the amendments [15].  As a consequence the Respondent’s commenced proceedings seeking declaratory relief.

The trial judge found that members rights under s 601GC(1)(b) required that New Units could only be issued in accordance with clause 5 of the Constitution and that clause determined how the price would be determined as well as the issuance of options [18]. His Honour also held that the minutes of the Director’s meeting did not show that they undertook the kind of reasonable consideration of the effect of the amendments on members rights as required by section 601GC(1)(b), [19], and that the notice of meeting to consider the amendments was inadequate, [20].

DECISION

Members rights for the purposes of section 601GC(1)(b)

Section 601GC(1)(b) relevantly provides:

(1)  The constitution of a registered scheme may be modified, or repealed and replaced with a new constitution:

……………

 (b)  by the responsible entity if the responsible entity reasonably considers the change will not adversely affect members‘ rights.

The Court considered two divergent and inconsistent lines of authority as to what constitutes ‘members rights’ in section 601GC(1)(b); that of Gordon J in Premium Income Fund Action Group Inc v Wellington Capital Ltd (followed by the trial judge), where members’ rights to have a managed fund managed and administered in accordance with the constitution of the fund are ‘members’ rights’ and Barret J in Re Centro Retail Ltd took the opposite approach [26].   The Court firmly and unequivocally preferred the ratio in Premium ([25] – [30]) .  The Court went further and analysed, and disagreed with, the reasoning underpinning Re Centro (see [31] – [44]).

 The salient points arising out of this detailed analysis are:

1. the incident or character of a legal right is to be distinguished from the value of that right in any monetary sense [29].
2. “the right of a member to have a managed investment scheme administered according to the constitution of the scheme is fundamentally the most important right of membership… Consequently, according to the natural and ordinary use of language, the expression ‘members’ rights’ in s 601GC(1)(b) is ..calculated to embrace a members’ right to have a managed investment scheme managed in accordance with its terms” [40].
3. it does not follow from recognition that members’ rights include the rights of members to have a managed investment scheme administered according to the constitution.  Any change to the constitution will be adverse to members’ rights [41].
4. a member has a right to have the scheme conducted according to the scheme’s constitution. A change changes the nature and quality of that right as opposed to the value and enjoyment of the right. If, without altering the constitution, something is done in accordance with the constitution which affects the value and enjoyment of the right, as opposed to the nature and quality of the right the doing of that thing does not affect the nature and quality of the right[45].

As the trial judge held that the purported changes removed, curtailed or impaired the existing rights of members and as such were unfavourable and disadvantagious the directors failure to consider the adverse effects of the purported changes were sufficient to deny the responsible entity the modification power [46].

Boards failure to reasonably consider

The appellants submitted that the power to amend afforded by section 601 QC (one) (B) does not depend upon whether the board was correct in its view that the proposed change does not adversely affect members rights. The court disagreed, stating, at [50]:

Other things being equal, it is reasonable for a board to act on the basis of legal advice on questions of law and, in this case, it may be accepted that it was not unreasonable for the board to conclude, as they were advised, that the proposed changes would not affect members’ rights. It does not follow from that, however, that the board ought be taken to have considered that the proposed changes did not adversely affect members’ rights. As the judge in effect held, no more follows from it than that, because the board were incorrectly advised that the proposed changes would not affect members’ rights, they did not turn their consideration to the question of whether the effect of the proposed changes would be adverse to members’ rights.

The Court found that a board’s determination is liable to review if, at [51]:

1. it doesn’t address itself to the questions which 601 GC (1) (b) formulates;
2. its conclusion was affected by mistake of law;
3. it took some extraneous reason into consideration; or
4. excluded from consideration a factor which should have the affect its deterrmination.

The Court made clear it had a broad discretion in the exercise of its jurisdiction to grant declaratory relief, stating, at [52]:

But the court has jurisdiction to grant declaratory relief in relation to both the statutory and contractual rights of members, and equitable jurisdiction to grant injunction in aid of legal rights if not also under s 1324 of the Corporations Act. If the board commits an error of law in making a determination under s 601GC(1)(b), it is open to an aggrieved party to seek declaratory and injunctive relief against the consequences of the error.

ISSUE

This is an influential decision. The court has resolved conflicting authority on the operation of section 601GC(1)(b), preferring the ratio of Gordon J in Premium. It is also likely to be influential because the Court undertook a very detailed analysis of what constitutes members rights and what is encompassed by the failure to “reasonably consider” for the purpose of this section.  Amendment to a company’s constitution is a regular occurrence  and is also a regular source of controversy between members and boards. That is particularly so in corporations which are  investments vehicles or joint ventures. Section 601GC(1)(b) gives members a useful means of seeking declaratory relief, particularly given the broader interpretation of members rights adopted by the Court of Appeal.