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Mercantile Law 471 (Topic 5 - External Relations) Summary
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Neat and comprehensive summary of all the coursework prescribed for the final year module, Mercantile Law 471 (Companies).
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TOPIC 5: EXTERNAL RELATIONS OF A COMPANYThe doctrines of disclosure and constructive knowledge
- Under the old Act, two important principles regulated a company’s external
relations:
1. The doctrine of disclosure
o Under section 200 of the old act, any resolution passed by the company had
to be registered with the commission. This meant that any party could see
the resolutions passed by the company and the amendments thereof.
o Therefore, all public documents of the company were available for outside
parties to view.
2. The doctrine of constructive knowledge
o Due to how easy it was for outside parties to view the public documents of
companies; members of the public were deemed to know the content of
these public documents.
- Effect of these two doctrines on external relations:
o If an MOI of a company placed some form of a prohibition on the type of
external contract that the company can enter into or does not authorise a
specific person to conclude contracts on behalf of the company, members of
the public were deemed to know about these prohibitions.
- Section 19(4) of the new Act, however, abolishes the doctrine of constructive
knowledge and there is also no need to file special resolutions with the commission
anymore (except in special circumstances).
o There is therefore no longer a need for outside parties to read the
documents of companies.
o Two exceptions:
1. Ringfenced companies
§ The doctrine of constructive knowledge only applied to those specific
provisions that the NOI draws your attention to.
2. Liability clause of a personal liability company
§ The doctrine of constructive knowledge solely applies to the fact that
directors in a PLC are jointly and severally liable for debts contracted
during their respective period of office.
The capacity of companies to conclude contracts and the ultra vires doctrine
- Position under the common law and the old act
o A valid company contract needed to comply with two requirements:
a) Contract had to fall within the capacity of the company
§ One of the requirements with respect to a company’s MOI under the
old act was that it had to set out the company’s main object or
business and the company only had the capacity to conclude
contracts that were related to this main object or business.
§ If the contract was not related to this main object or for ancillary
object = void based on the ultra vires doctrine = end of the matter.
, b) If first requirement is met, the person who concluded the contract on
behalf of the company had to have had authority to do so
- Position under the new Act
o Section 19(1)(b) states that a company has all the legal powers and capacity
of an individual.
o As we know, individuals can enter into any contract provided it is lawful
(freedom of contract). Therefore, what this provision does is essentially
abolish the ultra vires doctrine and enables a company to contract freely.
o However, section 19(1)(b)(ii) provides an escape clause by stating “unless the
MOI provides otherwise”. This then essentially revives the ultra vires doctrine
provided that MOI is very specific in this regard – will have to specifically say
that the company can only enter into contract related to its business or main
object AND specifically set out what this business or main object is. If only the
former is done and not the latter, it will be very difficult to argue that the
ultra vires rule is revived.
- What are the benefits of the ultra vires doctrine – i.e., why was ultra vires contract
void under the common law and why would you want to revive it under the new Act
o The benefits are clear if you view this doctrine from the perspective of
shareholders and creditors
§ Shareholders
• Shareholders invest their money in a company because they
trust the company and the minds behind it to properly utilise
their money for the business or main object they set out in
their MOI.
• The ultra vires doctrine therefore serves as a safeguard for the
investments of shareholders to ensure the company only uses
their money for the purpose it was given to them.
§ Creditors
• Before lending money to a company, a bank will have a look at
the company’s MOI to see what their main objects or business
is and then look at the directors to see whether they are
experienced enough to properly utilise the money of the bank
to promote this main object or business.
• Creditors, such as a bank, will therefore be seriously
prejudiced if the company could use their loans for another
purpose without them having been able to ensure that they
have the necessary knowledge or expertise to do so.
- What about the rights of innocent third parties who contract with the company?
o Position under the common law
§ Doctrine of constructive knowledge applied which meant that an ultra
vires contract would in any event have been void because the third
was deemed to have known that it was an ultra vires contract.
Restitution would then have taken place.
§ Therefore, at face value, it does not seem as third parties required
protection.
, o Position under the old act
§ Section 36: “No act of a company shall be void by reason only of the
fact that the company was without the capacity or power so to act or
because the directors had no authority to perform that act on behalf
of the company by reason only of the said fact, except as between the
company and its members or directors, or as between its members
and its directors, neither the company nor any other person may in
any legal proceedings assert or rely upon any such lack of capacity or
power or authority.”
§ Therefore, this section retains the ultra vires doctrine and the
doctrine of constructive knowledge but protect third parties, even
where they had knowledge, when it came to a contract entered into
between such a third party and the company.
o Position under the new Act
§ As we know from section 19(1)(b)(ii), the new Act abolishes the ultra
vires doctrine but nevertheless makes it possible for the company to
revive it by placing a restriction in the MOI.
§ What would the consequences then be of such a restriction?
• In terms of the common law, the contract would have been
void and this was prejudicial to third parties. The old act tried
to mitigate this effect with section 36.
• Section 20(1) and (2) of the new Act arguably attempts to do
the same as section 36
o NB: Section 20(1) only applies when there is a
restriction in the company’s MOI as contemplated in
section 19(1)(b)(ii).
o Thus, if the restriction is as a result of section
19(1)(b)(i), section 20(1) does not apply.
• Section 20(1) provides prima facie protection where delivery
has taken place between the company and a third party.
• Where delivery has NOT yet taken place, the third party will
have to rely on ratification of the ultra vires contract by the
shareholders by special resolution in terms of section 20(2).
o This provision therefore also indirectly protects
directors against breach of fiduciary duties where the
contract is ratified.
o Does this ratification amount to an amendment of the
MOI?
§ Because what purpose would a restrictive
clause in an MOI serve if the shareholders are
just going to continuously ratify contracts that
are in contravention of it?
o What about RF provisions?
§ If the MOI prescribes a 90% majority to amend
a restrictive condition but a shareholder with
75% majority wants to amend it, he can merely
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