‘The articles
and the memorandum form a contract between the company and its members’.
Discuss in detail taking into account the role of how articles of association
are important. What is the role of the Ultra Vires doctrine in modern day
company law?
Introduction
Articles of Association
and Memorandum of Association are two important documents of the company which are
considered as the constitutional documents of the company which define the
division of powers, rights, and responsibilities between the members of the
company and the board of directors or the company. AOA and MOA constitute the
contract between the company and the members, between member and all other members
as well as between the company and each representative.
Discussion
Articles
of association bound the company to
its shareholders and acts
as a contract between the company and the members; most importantly, it is
considered as a kind of a statutory contract. Courts regard this document as
one of the important documents which can be considered while passing a judgment,
however the contractual capacity provided to the articles is limited to
relationship of members and their capacity as members. These documents bound
the company bound to the members, members to the company articles act as a
contract between members and members as it secures the rights and duties of one
to another.
We said that AOA forms the contract between
members and members; this kind of contracy is also legally enforceable. In Rayfield v Hands [1960] it was
held that one member can sue another member on a contract created in articles.
Company is bound to its members by whatever is
contained in its articles and memorandum, as company is bound to provide individual
rights to the members. Based on those documents, the members usually hold the
company from expenditures on the ultra vires transactions; and thus have a
right seek a ruling to restrict the company from the action on article that is
conflicting with the articles. Following is the case in that regard:
Wood v. Odessa Waterworks Co [1889]
Facts:
Odessa Waterworks Co. applied the profits to the construction by paying
dividend to the share holders. In order to avoid the problem, directors passed
a resolution to grant interest bearing debenture bonds to the shareholders; but
articles provided the dividends.
Held:
Court found that this resolution was not in accordance with the articles,
consequently directors were restricted from acting on this resolution.
As we know
that the company is bound by the articles of association. Breach of the articles
may give rise to a situation where share holders can bring an action for the
breach of personal rights. Every breach of action may not result in the
shareholder bring the personal action. Under the constitutional acts, the
members are allowed to bring the personal action if the company acts beyond the
contractual capacity, however it must be determined that either the action is
going to be derivative or personal.
Under
companies act, at the formation of the company, a binding relation is formed
between the internal members and the company. In Pender v Lushington [1877], the vote of the
share holders was not recorded and the claimant was permitted to carry legal
proceedings as he had a right as internal member.
Additionally,
under the same act the outsider’s rights cannot be enforced by the members; consequently
we can say that the third parties cannot enforce the breach of articles. Following
is the discussion on such cases:
Eley vs Positive Government securities Assurance [1876]
Facts: Company’s
articles of association had provision saying that claimant will be appointed as
the director of the company, in actual he was not appointed for this position.
Held: Courts held that legal
action cannot be taken in the favor of claimant as the appointment as a
director is a right and articles didn’t create the agreement between the
company and Eley.
Hickman v Kent or Romney [1915]
The decision in Hickman’s case demonstrates the
principle that constitutional contract only confers rights on the members in their
capacity referred as “insider rights” but not in any “outsider” capacity such
as some one’s position as a director of company.
The courts
consider some of the irregularities as mere internal irregularities which
cannot be resolved using the personal actions; consequently those kinds of
irregularities can be solved by the majority members by calling suitable
actions. In situations where the breach may give rise to unfair prejudice, the
shareholders may give rise to preemptive actions in the name of the company in
order to restrain the breach of constitutions of the company before the actual
breach has happened.
Memorandum of Association plays an important
role; which administrate the relation among company itself and the outside entities,
while AOA correspond to the set of laws and policies related to the rights and
duties of entities and administrate the internal administration. Moreover, MOA
of any company contains seven important clauses including: name clause,
situation clause, object clause, area of operation clause, liability clause,
capital clause and the association clause. The most important clause is the
object clause which determines the purposes and the objects of the company. Any
kind of act if performed beyond the scope of objects of the company may result
in ultra vires which are considered as zero effect. According to the S 31 (1),
if the objects are not mentioned then the objects are considered to be
unrestricted, but in situations where the objects are specifically mentioned
then those objects need to be complied. Otherwise, the breach of object clause may
give rise to an Ultra Vires action as mentioned in the following case:
Ashbury Railway. Carriage &
Iron Co. v. Richie [1875]
Facts: Company was formed
on the basis of the objective of manufacturing railway wagons; but the company
was bought the right to run a railway in Belgium.
Held: Court
declared that the action to purchase this right was not valid, as it was not
included in the object clause of the Memorandum of Association.
Companies should adopt the object clause in
order to limit the capacity of the company. In some cases, it becomes essential
to have an object clause, especially in those where the directors are more
likely to act beyond their powers. It is essential to make directors to work
under their contractual capacity and only to act intra viries.
Ultra
vires action may also affect the third parties as company is not bound towards
third parties. In cases where it is proved that third party had known that
those dealings don’t fall within the objects of the company; as witness in the
following scenario:
Re
Introductions Ltd. [1970]
Facts: When the
board went to borrow money for the purpose of pigs breeding, the bank had the
copy of Memorandum of Association which limited the companies object to
tourism. When the company was declared insolvent, the bank tried to enforce it
as intra vires by saying that object clause empowered the company to borrow
money and claimed that it was intra vires.
Held: Court
declared the borrowing as power and separated it from object from power by
stating that it’s not an object. If the borrowing was made for the intra vires
purpose then it could have been the case if borrowed amount was used for the
intra vires purpose. In this case as the power was used for ultra vires purpose
therefore the bank failed to enforce this claim.
ü
Companies act through directors which are the
agents of the shareholders. It is unusual for the outsider or third party to
know whether the directors/ representatives are authorized or not. In such
conditions the principal is bound to the agreement made by agent/
representative having apparent and actual authority. According to law of agency
principle, in agreement of actual authority only the actual two parties are the
parties to the contract, whereas apparent authority is the authority of others,
therefore it has to be visible to others. Agent’s actual authority is always lesser
than usual. The company is unlikely to be bound where third party recognized
the fact that the agent/ representative exceeded or lacked the authority.
Similar results were witnessed in the following case:
Rolled
Steel Products (Holdings) Ltd v British Steel Corporation
Held: Court held that when a person knows that the representative
had no legitimate authority to commit that particular action enters into the
transaction; has no right to enforce such transaction against the company.
ü
Law specifies that the third party can have
actual notice of the agent exceeding his authority. For instance, third party can
read the company’s constitution to know the limitations of the actual authority
of the agents.
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