Under the old common law it had never been competent for a company even by unanimous consent to ratify a contract that was ultra vires its objects; see Ashbury. However, now by virtue of new s35(3) Companies Act 1989 a company may now ratify any ultra vires act by special resolution. By virtue of the same subsection it is also possible to relieve a director from liability for the same. However such relief must be given by the passing of a separate special resolution.
Section 35 of the Companies Act 1985 provided that a company was bound by the decisions and acts of its directors even in connection with matters outside the objects of the company, unless the third party had notice of want of authority on the part of directors. The section also provided that the third party was presumed to have acted in good faith unless the contrary was proved. Moreover, the powers of the directors to bind the company were deemed to be free of any limitations in the articles or memorandum, and the third party was relieved from any obligation to enquire into the capacity of the company.
The Prentice report had recommended that companies should be allowed to dispense with objects clauses, however, the Companies Act 1989 did not abolish the need for an objects clause, but by virtue of s110 of the Companies Act 1989 it is now possible for an objects clause to state that the company is to carry on business as a 'general commercial company' which is defined in the Act to mean that the object of the company is to carry on any trade or business whatsoever; and that the company has the power to undertake such activities as are incidental or conducive to the carrying on of any trade or business by it. The broad effect, therefore, is to establish the board as an indisputable source of power to bind the company. However a third party would not be protected if aware that the directors were acting in breach of their fiduciary duty to the company as well as beyond their powers, or if he dealt with a recipient of delegated power and insofar as he knew the recipient was exceeding the bounds of the delegation.
Where a company acts outside the scope of the objects clause the new s35 provides 'The validity of an act done by a company shall not be called into question on the ground of lack of capacity by reason of anything in the company's memorandum.'
The new provisions now make it possible for a company to enforce a contract which but for the validating provisions would be ultra vires. The new section applies to 'acts' rather than transactions and will therefore extend to powers, for example it will apply to gifts to charity. Additionally there is no requirement that the 'act' is 'decided on by the directors' as was in old s35.
A member of a company has always had a right to sue for an injunction to restrain the company or its directors from doing an ultra vires act. This right is now preserved by new s35(2) of the Companies Act 1989 which provides that any member, regardless of the size of his holding, may 'bring proceedings to restrain the doing of an act' which but for the new s35 would be beyond the company's capacity. Once a transaction has been concluded and imposes a legal obligation on the company then the rights of the shareholder to object to the performance of the act or transaction no longer exist.
The distinction between acts which are beyond the scope of the company's objects clause, and acts which are within the company's powers but beyond the control of the directors is still important. Section 35A of the Companies Act 1989 provides protection to outsiders where the lack of authority on the part of the directors is due to lack of capacity of the company.
The new provisions remove any constitutional limitations on the board's authority to delegate its powers, and any limitations imposed on the directors through provisions in the company's memorandum and articles, or any limitations imposed by the passing of board resolutions are made ineffective. The third party is therefore not required to examine the memorandum or articles of association.
The new provisions require a third party who enters into a contract with the company to have acted in 'good faith.' Section 35A(2)(c) places the onus on the company to establish bad faith. Since there is no longer the requirement on the third party to check that the directors are acting within the scope of their mandate, a failure to confirm their authority or the scope of that authority will not amount to bad faith. The question which remains is whether the third party will be entitled to enforce the contract if he has actual notice of a limitation on the directors authority. The section enacts that a third party with actual knowledge of want of authority should not be prevented from enforcing such a contract if he acts in good faith. It will be for the courts to decide whether bad faith is established by the surrounding circumstances. Thus any knowledge of limitations on the directors powers can never be relied on against a third party who enters onto a contract with the company.
The section also provides that there are no limitations on the 'power of the board of the directors to bind the company, or authority to do so...' Lord Wedderburn took the view that that would establish the board of directors as an organ of the company but since the company rarely acts through a board then any acts of an individual director or other officer would also have to bind the company.
The element of authority which will be deemed to be conferred on an agent will have to be examined by the courts. It would obviously cover any authority that has been delegated by the board of directors i.e. actual authority. The degree of presumed authority will be governed by the requirement that the agent must act in the usual course of business. It would also appear to cover ostensible authority. The elements of ostensible authority were established in Freeman & Locker (5) although Lord Wedderburn argues that the second requirement of ostensible authority - that the representation was made by someone having actual authority to hold out the agent- has been removed by s35A.
Section 142 of the 1989 Act introduces a new s711A(1) and provides that 'A person shall not be taken to have notice of any matter merely because of its being disclosed in any document kept by the registrar of companies. This abolishes the rule introduced in Ernst v Nicolls (6). Consequently, a person may not be treated as being aware of the contents of certain documents filed in respect of the company he deals with. However, it has been said that the obligation to make enquiries arises only in respect of unusual circumstances known to a third party so that further enquiry becomes reasonable, as in Underwood A.L. Ltd. v Bank of Liverpool & Martins. (7)
Section 109 of the Companies Act 1989, introduces a new section 322A to the 1985 Act, and is intended to prevent the new sections 35 and 35A from being used by directors and their associates as a means of validating acts and transactions with the company to which they are a party. The section applies where the parties to a transaction or act include a director or a person who is connected with the company and the board of directors in approving the transaction or act has exceeded any limitations on its constitution. Such a transaction or act is voidable so long as third party rights do not become involved, and restitution has not become impossible and the company has not been indemnified against loss resulting from the act or transaction. Also, any director who authorised the act or transaction or act is liable to account to the company and indemnify it for loss of profits or damage.
The Companies Act 1989 abolishes the ultra vires rule in favour of third parties dealing with the company. Nevertheless, that does not mean that the ultra vires rule is abolished in its entirety, a few ghostly relics do still haunt us. Ultra Vires is abolished in its external operation, but the internal functions for the protection of the members are restrained. Members may obtain an injunction to prevent the company from entering into transactions which would otherwise be ultra vires. The Act also preserves the personal liability of the directors of a company of a company for loss caused to the company for ultra vires acts. Overall, the 1989 Act is not the great panacea that some people believe it is.
Footnotes
1. (1919) AC 514
2. (1880) 5 App Cas 473
3. (1918) AC 514
4. (1982) 3 All ER 1057
5. [1964] 2 QB 505
6. (1857) 6 HL Cas 410
7. [1924] 1 KB 775
Bibliography
Books
1. Charlesworth & Morse, Company Law, 14th edition, 1991.
2. Rajak, A Sourcebook of Company Law, 1989.
3. Sealy, Cases and Materials in Company Law, 1989.
4. Gower, Principles of Modern Company Law, 5th edition.
Articles
1. Brenda M Hannigan, The Reform of the Ultra Vires Rule, 1987, JBL 173.
2. Wedderburn, Death of Ultra Vires, 1966, 29 MLR 673.
3. Dr Frank Wooldridge, Abolishing the ultra vires rule, 1989, 133 SJ 713
4. I S Stephenson, Ultra Vires and agency under the new law, 1990, 134 SJ 304.
5. Paul L Davies, Companies (In General), 1991, JBL 582.
