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The categories of companies under the Companies Act of 2008

The Companies Act 2008 creates new terminology for the categories of companies

An issue that has bedevilled company law since its nineteenth century origins is the circumstances (if any) in which an internal irregularity in the company's affairs will render invalid and unenforceable a contract entered into with an outsider.

After all, what could be more destructive of business confidence than a scenario such as the following.

A person enters into a business deal with a company in all good faith, and perhaps pays over money or contributes valuable services to the company, only to find that (because of some internal irregularity in the company's affairs) the deal is invalid in law, and that he has no legal right to compel the company to pay what it had promised or to hand over the property as it had undertaken to do.

There is, of course, a contrary argument from the other side of the fence.

A shareholder in such a company may say - why should my company and I suffer if the directors of the company have entered into a transaction that is flawed by some irregularity in regard to an internal aspect of the company's affairs?

Let the outsider to the transaction bear the loss - after all, he or she should have verified in advance that the company was permitted to enter into the transaction.

Acting beyond the powers of the company as defined in its memorandum

An "internal irregularity" that could arise in this regard is that the company's constitution (termed the memorandum of association under the Companies Act of 1973 and the memorandum of incorporation under the Companies Act of 2008) may have restricted the range of business activities that the company was permitted to engage in - in other words, it could have restricted the "objects" of the company.

Prior to the Companies Act 1973, where a company acted outside the scope of its ìobjectsî, the law regarded the transaction as being ultra vires (beyond its powers) and consequently legally invalid - even if all the shareholders approved of the transaction.

Moreover, the transaction was incapable of being ratified, that is to say, retrospectively approved.

The drafters of the Companies Act of 1973, mindful of the undesirable consequences of this rule, tried to water it down.

But the drafters of the Act could not bring themselves to bite the bullet and simply declare that a company has full power to do anything it wishes.

The result was the inclusion in the Companies Act 1973 of section 36, which was a attempt at a compromise, but was so convoluted that, far from clarifying the law on this point, it made the law more difficult for the business community to understand, and even lawyers argued about the proper interpretation of some aspects of the section.

The drafters of the Close Corporations Act bit the bullet

When the Close Corporations Act was enacted in 1984, the drafters of the Act bit the bullet and opted for the radical but clear rule that a close corporation has all the powers of a natural person, except for such things that a juristic person is incapable of doing, such as entering into a marriage.

Consequently, a close corporation is incapable of acting beyond its powers, that is to say, it cannot act ultra vires.

A transaction entered into by the close corporation may of course turn out to be invalid or not binding on it for other reasons.

The drafters of the Companies Act of 2008 had an opportunity to decide anew whether to opt for the radical but clear position taken by the Close Corporations Act - that is to say, to give a company full and unrestricted powers - or whether to opt again, as in the Companies Act of 1973, for some mid-way position.

The drafters of the Companies Act of 2008 have opted for a compromise, similar to but more clearly expressed than that adopted by the Companies Act of 1973.

In terms of section 19(1)(b) of the Companies Act of 2008, a company has all the legal powers of an individual, except to the extent that the memorandum of incorporation provides otherwise.

Thus, the drafters of the company's memorandum of incorporation may choose to give the company unrestricted powers. It is likely that this will be the most usual position.

On the other hand, the drafters of a particular company's memorandum may insert a restriction on the company's powers. For example, the memorandum of incorporation may say that, "the company shall not have the power to bind itself as surety for any other person”.

What happens if the company then disregards that limitation and binds itself as surety for someone’s debts?

Outsiders can enforce a transaction even if it was outside the company’s powers In terms of the Companies Act 2008, the position, in a nutshell, is that a transaction between the company and an outsider, which is beyond the scope of the company’s powers, as defined in its memorandum of incorporation, is nonetheless valid and enforceable.

Consequently, neither the company nor any outsider is permitted to argue that the flouting of the restriction on the company’s powers renders the transaction invalid.

Hence, in the example, above, the person in whose favour the suretyship was given can enforce the suretyship against the company, despite the fact that the company’s memorandum of incorporation forbade the company to bind itself as surety.

However, the Companies Act of 2008 goes on to provide that internally – that is to say, as between the company, its directors and its shareholders – the fact that the suretyship was given in breach of the company’s memorandum of incorporation can be grounds for the company (and, it seems, its shareholders) to sue the responsible directors for the financial loss the directors’ improper action has caused.

In practical terms, what this means is that, where an outsider enters into a transaction with a company, he or she need not concern him or herself with whether the transaction is permitted under the company’s memorandum of incorporation.

For, whether it is permitted or not, the transaction is valid and enforceable by the outsider.

Directors of a company, of course, need to acquaint themselves with whether their company’s memorandum of incorporation imposes a restriction on the company’s powers, for if they allow the company to act outside its powers, they lay themselves open to an expensive and reputationally damaging lawsuit by the company or its shareholders.

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