ANALYSIS OF DOCTRINE OF ULTRA-VIRES UNDER COMPANY LAW
MEANING AND CONCEPT OF DOCTRINE OF ULTRA VIRES
It is a Latin term made up of two words “ultra “ which means beyond and “ virus “ meaning power or authority. It is used to describe acts that require a legal authority to perform but are done without such authority. (footnote) That means anything which is beyond the authority or power of a corporation to perform is called ultravirus. Ultravirus acts fall outside the powers that are specifically listed in a corporate charter or law or any action that is specifically prohibited by the corporate charter. The doctrine of ultra virus is a fundamental law of the Indian companies act. It lays down that if any act of the company or any contract entered into by the directors, on the behalf of the company, is beyond the power vested in directors and company by the object clause of the MOA, it is considered null and void.
For instance, ALL Ltd. Is a company engaged in the business of providing automobile and health insurance . It enters into a contract with Mr Y to provide him Life insurance and takes a sum of money in advance. Later if a company refuses to perform a contract since providing life insurance is beyond the power of the company. This is known as ultra virus.
Since the Doctrine of ultravirus limits the corporate to the object laid out in the memorandum, the corporate will be ;
• restrained from the exploitation of its funds for functions aside from those laid out in the memorandum.
• Restrained from carrying on trade totally different from one licensed.
SCOPE OF DOCTRINE OF ULTRA VIRES
The doctrine of “ Ultra vires’’ is applicable to all kinds of companies that have been registered and have a separate existence in the eyes of the law. Those companies that have not been registered, such as sole proprietorships and partnerships will not come under the scope of Doctrine of Ultra virus. The Doctrine of Ultra Vires has to be applied reasonably and only after due consideration to the interests of the company[1]. In the case of Lee Behrens & Co. ltd.[2], Eve J. laid down the three fundamental tests to be followed by a company to avoid the application of the doctrine of ultra vires. These are:If the answer to these questions is in affirmative, the court shall hold the transaction intra vires. This test was found to be ambiguous and subjective as it raised several questions such as whether the transaction has to be outside the capacity of the company or merely an abuse of authorised power will amount to an ultra vires act. Therefore, to fill the lacuna in the law existing at the time of Lee’s case, a new four-point rule was established by the court in Rolled Steel Products Ltd. v. British Steel Corp.[3]
The rules as laid down by Wilkinson J. are[4]:
- To be ultra vires, a transaction has to be outside the capacity of the company and not merely in excess or abuse of the powers of the company.
- The capacity of the company is determined by its objects. There can be provisions in the objects clause that provide only power to the company but do not lay down any object. Thus, to determine the capacity, those objects must be considered which can exist independently irrespective of other objects.
- If a company enters into a transaction which is intra vires but in excess or abuse of its powers, such transaction is voidable at the option of the shareholders.
- A third party, who has the notice of any activity performed by the company in excess of its powers, cannot enforce such transaction against the company and shall be held accountable for any money received by the company from the third party.
- These rules form the basis for application of the doctrine in the present company law jurisprudence. Besides the above rules, if the company engages into any activity contrary to the law but enabled by its MoA, such activity shall also be ultra vires and void.
Besides the above rules, if the company engages into any activity contrary to the law but enabled by its MoA, such activity shall also be ultra vires and void.
EVOLUTION OF THE CONCEPT OF DOCTRINE OF ULTRA VIRES AND CURRENT SCENARIO IN ENGLAND AND INDIA
The existence of the concept of ultra vires can be traced back to the United Kingdom wherein the doctrine was considered to be a regulatory device that sought to curb a company from entering into transactions that exceeded its contractual capacity. Until the introduction of the Joint Stock Companies Act 1856, the ultra vires rule had no application to a joint-stock company. [5]
In England, the Doctrine was used for the first time in joint-stock companies in 1860 in the case of Simpson V. West Minister Palace Hotel[6]. Essentially, the company’s memorandum stated that they purchased land and construct a hotel on those lands. They would be responsible for the upkeep and maintenance of the hotel. The land would not be used for any other purpose apart from that of a hotel. The company would also have the authority to use the land in a manner that would help in the upkeep of the hotel and would further the cause of maintaining a hotel e.g. – constructing a swimming pool would be a legitimate use of the land because it furthers the cause of maintaining and running a hotel[7]
The first authoritative pronouncement on the rule was made by the House of Lords in the above-mentioned case of Ashbury Railway Carriage and Iron Company v. Riche.[8]
In this case, the company’s objects, as stated in the memorandum of association, were[9]:
(a) To make and sell, and lend or hire railway carriages and wagons, and all kinds of railway plants, fittings, machinery and rolling stock;
(b) To carry on the business of mechanical engineering and general contractors;
(c) To purchase, lease, work and sell mines, minerals, land and buildings, and
(d) To purchase and sell as merchants, timber, coal, metals, or other materials and to buy and sell any such materials on commission or as agents.
The directors entered into a contract with the defendant, Riche for financing the construction of a railway line in a foreign country and the company subsequently purported to ratify the act of the directors by passing a special resolution at a general meeting.
The company, however, repudiated the contract.
Riche thereupon sued the company for breach of contract.
The court held that the object clause of the memorandum is essential, the purpose of the company. The contract being of the nature not included in the company’s object was void as being ultra vires not only of the directors but of the whole company and could not be made valid by ratification. Lord cairns further came to the conclusion that “ the articles play a part subsidiary to the memorandum of association. They accept the memorandum as the charter of incorporation of the company, and so accepting it, the articles proceed to define the duties, rights and power of the governing body.
Thus after going through the evidence and contentions of both the parties the court finally Gave the decision in the favour of the plaintiff and turned down the argument of the defendant, Riche.
Overtime , the importance and scope of the doctrine of ultra vires has reduced dramatically in England the reason of which was the straight-jacketed approach utilized by courts previously. The house of lord observed that their ruling in the Asbury’s case have been draconian and the doctrine of ultravirus has become more of a hindrance than protection to shareholders and creditors. the house of lords held that a company cannot be expressly authorized and empowered with the implied capacity and power to carry on the transactions that are necessary for the functioning of the company. these transactions need to be fulfilled whether they are provided in the memorandum of the company or not. the house of lords held that the act is not ultra-vires. in this case, the concept of ultra vires became wider as talks about those acts which are not specially mentioned but consequentially dependent on those provisions ought not to be considered as ultra vires, unless expressly prohibited by the company.
In 1880, in the case, Attorney General V. Great Eastern Railway Co.[10] Although the main objective of the company was to develop housing estates, the object clause also empowered the company to carry on any other trade or business in connection with the main object of the company if the board of directors think it was advantageous to the growth of the company. The company thereafter entered into a mortgage brokerage agreement with the defendant. However, the defendant refused to pay the amount charged and contended that the contract was beyond the power of the company. The court declined this contention and held that the clause was valid as it sought to empower the company to carry on a business that would be advantageous.
In 1966, in the case Bell House Ltd. V City Wall Properties Ltd[11]The court held that merely because directors of the plaintiff were performing improper acts in the name of the company for purposes other than those set out in the memorandum, it cannot be said that the acts were ultra vires the company itself.
ENGLAND- CURRENT SCENARIO OF THE APPLICABILITY OF THE DOCTRINE OF ULTRA VIRES
The court in the case of Attorney General vs Great Eastern Railway Co. Have lessened the rigidity of the Doctrine of Ultra views by making it flexible and introducing the principle of reasonable construction. The principle of reasonable construction is an exception to the doctrine of ultra vires. Nonetheless, the doctrine is still relevant to companies. Even if companies use the principle of Reasonable construction, it cannot make an ultra vires act to intra vires as that will amount to ratifying an invalid act. The straight jacketed strategy of following the object clause of the memorandum has, to a very large extent, been done away with. S. 110 of the Companies Act, 1989 [12] and restated the significance of having a comprehensive object clause and judging each action on its merit whether it is boosting the business or not.
Even S. 31 [13]and S.39[14] of the Companies Act, 2006 has greatly decreased the importance of the doctrine of ultra vires in the country. S. 31 clearly stated that any objective that is not explicitly excluded from the object clause of the memorandum will not be deemed ultra vires.
This was a crucial shift from the viewpoint taken by the Court in the Ashbury case, where
the Court had asserted that no such amendment made to the object clause of the memorandum will hold true despite shareholder consensus.
It can safely be said that even though this doctrine has not been eradicated from England Completely but its applicability has been curbed.
INDIA- EVOLUTION OF THE CONCEPT OF DOCTRINE OF ULTRA VIRES
The doctrine of ultra vires was first applied by the Bombay High Court in the judgment of Jahangir R. Modi V Shamji Ladha[15] in 1866. the fact of the given case is as follows: in this case, the plaintiff has purchased 600 shares in a particular company. the directors (defendants)also purchased 1422 shares of the same company through the object clause of the company’s memorandum did not allow for this. the plaintiff filed a suit against the directors for the loss incurred by the company due to such purchase and asked for compensation. the court exercised the doctrine of ultra vires in this case citing that defendant has acted outside the scope of the object of the memorandum. thus the defendant was held guilty as per the doctrine of Ultra vires. the Bombay High court held that ” an investor can Keep an activity against the chiefs to urge them to re-establish to the organisation the assets to it that have been utilized by them in an exchange that they have no power to go into, without making the organisation involved with the suit”.
Another important case that has helped in shaping the doctrine of ultra vires in India is A.Lakshmanaswami Mudaliar V L.I.C.[16]In this case, the memorandum of the company stated that the directors should donate a part of their company’s gain to charitable organizations that help the public .in accordance with this, the director donated Rs. 2 lacs to a charitable organisation. At that point, the LIC took over the company and questioned the charitable donations arguing that it was out of the scope of the object of the company as the object clause did not mean for the company to donate to any charitable organizations. Accordingly, the court deemed the charity as ultra vires act. Donating to research facilities that focus on certain business processes followed by the company or to none profits men and women employable in companies would be considered intra vires and valid.
INDIA- CURRENT SCENARIO OF THE APPLICABILITY OF THE DOCTRINE OF ULTRA VIRES
The rule of ultra-vires continues to play a major role in India to date. the companies act under section 245(1)(a) identifies the doctrine. it allows members or depositors of the company to make an application to the National Company Law Tribunal (NCLT) if they are of the opinion that affairs of the company are being conducted in a manner prejudicial to its member. In a country like ours, where the economy is still growing, new companies need to be formed to increase the GDP of the company. that is why having the doctrine of Ultravires is very important. this Doctrine protects the lenders by giving them a guarantee of money back should the companies act outside the scope of their object clause. thus it is clear that the doctrine of ultra vires will continue to retain its importance in times to come. it is a safeguard for the investors and shareholders. its prominence is going to diminish any time soon.
The doctrine of ultra-vires in Companies Act, 2013
Section 4(1)(c) of the Companies Act, 2013, states that all the objects for which incorporation of the company is proposed any other matter which is considered necessary in its furtherance should be stated in the memorandum of the company.
Whereas Section 245(1)(b) of the Act provides to the members and depositors a right to apply to the tribunal if they have reason to believe that the conduct of the affairs of the company or its members or depositors, restrain the company from committing anything which can be considered as a breach of the provisions of the company’s memorandum or articles.
Basic principles regarding the doctrine
- Shareholders cannot ratify an ultra-vires transaction or act even if they wish to do so.
- Where one party has entirely performed his part of the contract, reliance on the defense of the ultra-vires was usually precluded in the doctrine of estoppel.
- Where both the parties have entirely performed the contract, then it cannot be attacked based on this doctrine.
- Any of the parties can raise the defense of ultra-vires.
- If a contract has been partially performed but the performance was insufficient to bring the doctrine of estoppel into action, a suit can be brought for the recovery of the benefits conferred.
- If an agent of the corporation commits any default or tort within the scope of his employment, the company cannot defend it from its consequences by saying that the act was ultra-vires.
Exceptions to the doctrine
- Any act which is done irregularly, but otherwise it is intra-vires the company, can be validated by the shareholders of the company by giving their consent.
- Any act which is outside the authority of the directors of the company but otherwise is intra-vires the company can be ratified by the shareholder of the company.
- If the company acquires property in a manner that is ultra-vires of the contract, the right of the company over such property will still be secured.
- Any incidental or consequential effect of the ultra-vires act will not be invalid unless the Companies Act expressly prohibits it.
- If any action is deemed to be within the authority of the company by the Company’s Act, then they will not be considered ultra-vires even if they are not expressly stated in the memorandum.
- Articles of association can be altered with retrospective effect to validate an act that is ultra-vires of articles.
CONCLUSION
From the above report, it is clear that the doctrine of ultra vires which may seem insignificant plays an important role in the companies. Almost all the actions and transactions come within the scrutiny of Ultra Vires. The doctrine of ultra vires acts as a safeguard for the creditors and investors of the company as it prevents the company from using the money of the investors for any purpose other than those mentioned under the objects clause. The creditors are also assured of the fact that the funds of the company will not be utilized in any unauthorized trade/business or activity. It also acts as a check on the activities of the directors who must act within the scope of powers given to them by the MOA.
This paper has clearly expressed the concept and evolution of the doctrine of ultra vires in England and India role of companies act, 2013 to elucidate the significance of the doctrine.
[1] M.C. Bhandari, Guide to Company Law Procedure 167 (20th ed. 2017).
[2] Re: Lee Behrens & Co. ltd., (1932) 2 Ch 46
[3] Rolled Steel Products Ltd. v. British Steel Corp., 1984 BCLC 466.
[4] Ibid at 517 – 18.
[5] https://blog.ipleaders.in/ultra-vires-companies-indian-perspective/
[6] The doctrine of Ultra Vires Under the Companies Act, 1956, available on the link http://shodhganga.inflibnet.ac.in:8080/jspui/bitstream/10603/9793/17/17_summary.pdf (Last accessed on
[7] The original object clause in the Memorandum of Associations are as follows: “The objects for which the
company is established are the purchase of the leasehold lands, the erection, furnishing and maintenance of Hotel and carrying on the usual business of Hotel and tavern there-in, and doing of all such things as are incidental or otherwise conducive to the attainment of these objects”. The doctrine of Ultra Vires Under the Companies Act, 1956, available on the link http://shodhganga.inflibnet.ac.in:8080/jspui/bitstream/10603/9793/17/17_summary.pdf (Last accessed on
26/08/2016)
[8] 1875) LR 7 HL 653,
[9] The object clause of Ashbury Railway Carriage & Iron Co. “To make and sell or lend on hire, railway
carriages and wagons, and all kinds of railway plants, fittings, machinery and rolling stock; and to carry on
the business of mechanical engineers and general contractors, to purchase, lease, work and sell mines,
minerals; land and buildings; to purchase and sell as merchants ,timber, coal, metals or other materials and
to buy and sell any such materials on commission or as agents ; to acquire, purchase, hire, construct or
erect works and buildings for the purpose of the company, contingent, incidental or conducive to all or any
of such objects”. The doctrine of Ultra Vires Under the Companies Act, 1956, available on the linkhttp://shodhganga.inflibnet.ac.in:8080/jspui/bitstream/10603/9793/17/17_summary.pdf (Last accessed on
26/08/2016)
[10] (1880) 5 App Cas 473 HL
[11] 1966) 36 Comm Cases, 779, Doctrine of Ultra Vires Under the Companies Act, 1956, available on the linkhttp://shodhganga.inflibnet.ac.in:8080/jspui/bitstream/10603/9793/17/17_summary.pdf (Last accessed on
26/08/2016)
[12] 110 Statement of company’s objects. In Chapter I of Part I of the M1Companies Act 1985 (company
formation), after section 3 (forms of memorandum) insert—
“3A Statement of company’s objects: general commercial company. Where the company’s memorandum
states that the object of the company is to carry on business as a general commercial company—
(a) the object of the company is to carry on any trade or business whatsoever, and
(b) the company has power to do all such things as are incidental or conducive to the carrying on of any trade
or business by it.”.
(2)In the same Chapter, for section 4 (resolution to alter objects) substitute—
“4 Resolution to alter objects.
(1)A company may by special resolution alter its memorandum with respect to the statement of the
company’s objects.
(2)If an application is made under the following section, an alteration does not have effect except in so far as
it is confirmed by the court.”
[13] Statement of company’s objects
(1) Unless a company’s articles specifically restrict the objects of the company, its objects are unrestricted.
(2) Where a company amends its articles so as to add, remove or alter a statement of the company’s
objects— (a) it must give notice to the registrar, (b) on receipt of the notice, the registrar shall register it,
and (c) the amendment is not effective until entry of that notice on the register.
(3) Any such amendment does not affect any rights or obligations of the company or render defective any
legal proceedings by or against it.
(4) In the case of a company that is a charity, the provisions of this section have effect subject to— (a) in
England and Wales, section 64 of the Charities Act 1993 (c. 10); (b) in Northern Ireland, Article 9 of the
Charities (Northern Ireland) Order 1987 (S.I. 1987/2048 (N.I. 19)).
(5) In the case of a company that is entered in the Scottish Charity Register, the provisions of this section
have effect subject to the provisions of the Charities and Trustee Investment (Scotland) Act 2005 (asp 10).
[14] A company’s capacity
(1) 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 constitution.
(2) This section has effect subject to section 42 (companies that are charities)
[15] (1866-1867) 4 Bom. HCR (1855),
[16] AIR (1963) SC 1185
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