Terry Carried on a Relatively Successful Business as a Manufacturer

question 32

Essay

Terry carried on a relatively successful business as a manufacturer of a cleaning product. After a few years of slow but steady growth, his accountant suggested that he expand the business by incorporating. This would allow the sale of shares to acquire the capital needed for expansion into a new plant with new equipment. The company was eventually incorporated but instead of selling shares, Terry decided to arrange a $200 000 loan from the bank and therefore, asked his accountant to prepare financial statements for the bank.
During preparation, the accountant failed to notice that the existing land and plant building were not acquired by the corporation, but retained by Terry and leased to the company on an annual basis. The accountant had included the land and building (value: $250 000) as an asset of the corporation on the financial statements without verifying this information with Terry to determine if the property had been transferred. When the error was later discovered during negotiations with the bank, the bank insisted that Terry guarantee the loan as a principal debtor, and use the land/building as additional security for the loan.
A few weeks later, Terry decided that it would be necessary to acquire additional capital to complete the company expansion. He contacted a private investor, Kelly, intending to sell her a block of shares in the corporation. Kelly inquired as to the financial status of the corporation and Terry informed her that the corporation had borrowed $200 000 from the bank for the purpose of expanding the business. He also suggested that Kelly contact either his accountant or the bank for information on the corporation's assets and financial position. Kelly contacted the bank, requesting copies of the financial statements the accountant had prepared. A bank employee, who was unaware that the statements were erroneous, gave them to Kelly without comment.
Based on the strength of the financial statements, Kelly invested $50 000 in shares of the corporation. Some months later, she discovered that the corporation did not own the land or buildings, and that the financial statements were in error.
Advise Kelly of her legal position, and her rights (if any) against Terry, the accountant, and the bank.

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Definitions:

Search Of Title

The process of examining public records to confirm a property's legal ownership and find out what claims or liens are on the property.

Joint Tenant

A form of co-ownership of property where two or more individuals hold equal shares and rights in the property, and upon the death of one owner, their share automatically transfers to the surviving co-owner(s).

Mortgage

A mortgage is a legal agreement by which a bank or creditor lends money at interest in exchange for taking the title of the debtor's property, with the condition that the conveyance of title becomes void upon the payment of the debt.

Possessory Interests

Refers to the legal right to control property, including the right to exclude others from it.