Part 2
Explain the reason and justification for Section 254M (1).
In explaining the reason and justification for Section 254M (1), one need to understand the justification on requesting the shareholders to pay for their shares. In doing so we will be examining three important theory that governing this justifications which is the fraud theory, trust fund theory and the contract theory. The ‘holding out theory’ which also referred as the fraud theory. The fraud theory was first derived from the case of Hospes V.North-Western Manufacturing and Car, in which it was held that misrepresentation provides the ground upon which the liability of shareholders to pay-up for the allotted shares is based (Mwenda, 1999).
Hanks and Manning observed: "The basic rationale of the Hospes court was that the creditor had somehow received a representation from the corporation to the effect that the shares had been fully paid for; if in fact the shares had not been paid for, and if the company later became insolvent the creditor could claim that he had been misled and could compel shareholders who had not paid in the par value of their shares to do so...” (Hanks and Manning, p.50, 1990). This representation makes a clear message that unless the company become insolvent there is no action against the shareholder by the creditor since there is no damages taken by the creditors.
While the trust fund theory states that the shareholder’s equity which the capital stock is in the nature of a ‘trust fund’ for the creditors hence the shareholders are not allowed to withdraw their asset from the company in order to remain the company to be insolvent as per the landmark opinion of Justice Story in Wood v. Dummer (Hanks and Manning, p.50, 1990). In the event if the shares get transferred the creditor’s remedy should be against the initial share purchaser who has underpaid if at all the creditor