CASE ANALYSIS
MEMORANDUM OF ASSOCIATION AND ARTICLES OF ASSOCIATION
The memorandum of association of a company is a fundamental document of the company it contains the fundamental conditions upon which alone the company is allowed to be incorporated it is the charter of the company and defines its raison d’etre (i.e. reason for existence). It also regulates the external affairs of the company in relation to outsiders .its purpose is to enable shareholders and those who deal with the company to know what its permitted range of enterprise is .it not only shows the object of the formation of the company but also the utmost possible scope of it.
Doctrine of ultra vires
The company should devote itself only to the objects set out in the memorandum and to no others. It is the function of the memorandum “to delimit and identify the objects in such plain and unambiguous manner as that the reader can identify the field of industry within which the corporate activities are to be confined” and it is the function of the courts to see that the company does not move in a direction away from that field. That is where the doctrine of ultra vires comes into play in relation to joint stock companies.” ultra” means beyond, “vires” means powers. An action outside the memorandum is ultra vires the company. The House of Lords in the much-celebrated ASHBURY RAILWAY CARRIAGE AND IRON CO LTD V RICHE first demonstrated its application to such companies.
The company entered into a contract with riche, affirm of railway contractors to finance the construction of a railway line in Belgium .The company however repudiated the contract as one ultra vires. And riche brought an action for damages for breach of contract. His contentions were that the contract in question came well within the meaning of the words “general contractors” and was thereof within the powers of the company and secondly that the contract was ratified by a majority of the shareholders.
In the case the directors of the company sought to borrow an amount more than half of the paid up capital which is permissible under an article of the company which states that by a general meeting and a vote enlarge the powers of the directors.
This follows [s.293] which imposes important restrictions on the powers of the board of directors of a public company. The board only with the consent of the company in a general meeting can exercise some powers of which one of them is
Borrowing of money beyond the paid up capital of the company. This however does not include temporary loans obtained from the company’s bankers in the ordinary course of business. Which concerns the case where the company has exceeded its limit o of borrowing.
In case where the borrowing has been effected exceeding an amount more than half of the paid up share capital the lender may not be able to enforce the loan against the company, unless he can prove that he advanced the loan in good faith and without knowledge that the limit had been exceeded. But in the case the bank knows it very well that the company has exceeded it’s limit. How ever the bank can claim that it had assumed that the powers of the director to borrow had been enlarged through a general meeting. For example in joint receivers and managers of Nilton Carson ltd v Hawthorne. The hotel premises of the company were handed over to a director of the company under lease granted by the managing director without the approval of the shareholders. The lessee director had acted with complete honesty and with agreement of practically all the shareholders who desired that she should run the community home independently of the company. The transaction was held to be not voidable without showing that there was no proper consideration.
Doctrine of constructive notice(memorandum and articles)
After a company’s registration the memorandum and articles of association become public documents and they can be inspected by any one on payment of a prescribed fee. As such it is taken for granted that every one who deals with the company has read and understood the contents of these documents. Such a presumption or presumption of notice is called Doctrine of constructive notice of the memorandum and articles
The legal effect of this doctrine is that if a person enters into any transaction with a company which is inconsistent with the provisions contained in the memorandum or the articles of the company (i.e. ultra vires the company, ultra vires the articles, ultra vires the directors) he cannot claim relief later on .He is deemed to have entered into such an act with the company at his own risk, and so he is made to bear the consequences of such an act as in a Madras case Kotla Venkataswamy v. Chinta Ramamurthy AIR 1934 MAD.579 the articles required that all documents be signed by the managing director , Secretary and working director on behalf of the company. A deed of mortgage was executed only by the secretary and the working director only. The court held that no claim would lie under such a deed .the learned judge observed that the mortgagee should have consulted the articles before the deed was executed. Therefore even though the mortgagee may have acted in good faith and the money borrowed applied for the purpose of the company, the mortgage was nevertheless invalid. But in the case the bank was aware of the article, which allowed the company to borrow more than half of the paid up capital.
Thus persons dealing with a body corporate, incorporated company or a society are bound to take notice of disabilities imposed on the body corporate and its officials by the memorandum and articles or other documents of constitution.
Doctrine of indoor management
The role of the doctrine of indoor management is opposed to that of the rule of constructive notice. The latter seeks to protect the company against the outsiders; the former operates to protect the outsiders against the company. The rule of constructive notice is confined to the external position of the company and therefore, it follows that there is no notice as to how the company’s intern machinery is handled by its officers. if the contract is consistent with the public documents, the person contracting will not be prejudiced by irregularities that may beset the indoor working of the company. The rule had its genesis in Royal British bank v Turquand.
The directors of the royal British bank issued bond to Mr. Turquand. The directors of the bank had the power; under the articles of association to issue such a bond provided they are authorized by a proper resolution passed by the shareholders at a general meeting of the company. But no such resolution was passed. In a suit filed in the court of law, it was held by the court of law that turquand. Could sue on the bond, as he was entitled to assume that necessary resolution must have been passed. It was observed that the persons dealing with a company are bound to read the registered documents i.e. the constitution of the company, and to see that the proposed dealing is not inconsistent therewith. But they are not bound to do more than that i.e. they need not enquire into the regulatory of internal proceedings of which they had no justice. The judgment in this case emphasizes the point that an outsider dealing with a company is not compelled; to call for such evidence to see that all internal proceedings have been duly observed. Hence the company in my case can comfortably assume (in accordance to the turquand rule) that the directors of the company called for a general meeting and that the powers of the directors had been extended. Thus the bank is entitled to extend the loan to the company.
Representation through articles:
This exception deals with the most controversial and highly confusing aspect of the “turquand” rule. Articles of association generally contain what is called the power of delegation. LAKSHMI RATTAN LAL COTTON MILLS V J K JUTE MILLS CO
Explains the meaning and effect of a “delegation clause”.
One G was a director of a company the company had managing agency of which also G was director. Articles authorized directors to borrow money and also empowered them to delegate this power to any or more of them .G borrowed a sum of money from the plaintiffs. The company refuses to be bound by the loan on the ground that there was no resolution of the board delegating the power to borrow to G. yet the company was bound by the loan. Even supposing that there was no actual resolution authorizing g to enter into the transaction, the plaintiff could assume that power, which could have been delegated under the articles, must have been actually conferred. The actual delegation being a matter of internal management, the plaintiff was not bound to enter into that”
Hence, even in the case the bank could have assumed that the company through a general meeting had actually extended the directors power to borrow powers.
Conclusion:
The bank in the case has knowledge of the articles of the company under which the director’s power to borrow can be extended. Also according to the doctrine of indoor management and the “turquand rule” the company can take the stand that the bank is entitled to assume that the necessary meeting was held and that the directors powers to borrow had been extended.
Case references:
- ASHBURY RAILWAY CARRIAGE AND IRON CO LTD V RICHE
- NILTON CARSON LTD V HAWTHORNE
- KOTLA VENKATASWAMY V. CHINTA RAMAMURTHY AIR 1934 MAD.579
-
ROYAL BRITISH BANK V TURQUAND. (‘Turquand rule’)
- LAKSHMI RATTAN LAL COTTON MILLS V J K JUTE MILLS CO
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