The Articles of Association

The Articles of Association can be seen as a rule book within a company. This is in a document form and is a part of the company’s constitution alongside the memorandum. This document contains internal detailed governing aspects of the company’s organisation. These include shares, (issue and rights attached to them) the conduct of the company meetings and the role and powers of the directors. The Articles detail rules which govern the conduct of directors, the rights of the shareholders and the relationship between the two.

Evans Ltd was formed in 1980 producing mobile phones. The Articles of Association of Evans Ltd provided that Souness is to be managing director for life and that any dispute between members must be referred to arbitration. In January 2007 the directors of Evans Ltd decided that changes were needed in the company and put forth the following proposal to the general meeting.

The members of the Board have discovered that Souness is acting as a consultant to competitors of Evans Ltd. The Board proposes alter the articles and remove Souness as managing director.

The Articles of Evans Ltd control the relationship between the shareholders and the company and bestow enforceable rights on its members. This is a contractual term with the act treating the Articles as the terms of a contract between the company and its members.

However, by Souness acting as a consultant to competitors, the contractual terms poised on him had been broken. The Companies Act 2006 (CA) S 33 (1) [1] states ‘the provisions of a company’s constitution bind the company and its members to the same extent as if they were covenants on the part of the company and of each member to observe those provisions.’ A case concerning the articles as a contract can be illustrated in Hickman v Kent &Romney Harsh Sheep breeders Association. [2] This contract basically states as a member you have entered into a contract to the terms of which are contained in the articles and memorandum.

As the Managing Director Souness did not complete the duties expected within his role. The CA 2006 states that duties consist of skill/care under the common law, equitable fiduciary duty and statutory duties. It is however, the Director’s duty to promote the success of the company in doing so the directors must have regard in other matters like the consequences of matters of decisions in the long term, interests of company employees, improving company relationships with clients and customers, impact of operations in the community, maintaining the company’s reputation and to treat members of that company fairly. A Director is also a fiduciary, meaning someone who is trusted on behalf of the company in a relationship of trust and confidence. Therefore the director is expected to exercise their powers in good faith or a bona fide way for the best interests of the company. Illustrated in Re W and Roith Ltd [3]

In Percival v Wright; [4] the view was that directors owe a duty to the company and not the individual shareholders. Although S172 of CA 2006 is quick to rectify this it states a director of a company must act in a way he considers, in good faith, would be most likely to promote the success of the company for the benefit of its members as a whole. Although the company is preferred this section helps brings the member and the company together.

S174 requires directors to exercise reasonable care and skill and diligence in the performance of their skill and duties. Here the principles can be seen under S174 ca 2006 rather than the subjective standard used in Re City Equitable Fire Insurance [5] . S174 states – (a) the general knowledge skill and experience that may reasonably be expected of a person carrying out the functions carried out by a director in relation to the company. Furthermore (b) the general knowledge, skill and experience the director has. This section was later raised by a statement made by Parker J in Re Barings plc [6] “Directors have, both collectively and individually, a continuing duty to acquire and maintain a sufficient knowledge and understanding of the company’s business to enable them properly to discharge their duties as directors” Parker J continued on the principle of reasonable delegation to duties . “Whilst directors are entitled to delegate particular functions to those below them in the management chain, and to trust their competence and integrity to a reasonable extent, the exercise of the power of delegation does not absolve a director from the duty to supervise the discharge of the delegated functions”.

S175 of CA 2006 details the Duty to Avoid conflict of Interest. A director of a company must avoid a situation where a direct or indirect interest may conflict with the company e.g. property, information etc. This section basically states as fiduciaries directors must not place themselves in such a position where conflicts and duties may conflict. Illustrated in Aberdeen Railway Co v Blaikie Bros [7] This area has now been governed by section s177 of the CA 2006 the director must declare any interest in a future transaction. If there is any interest this must be declared in notice or meeting with the other directors. Directors must not profit from using any information opportunities or use the company assets. Illustrated in Guinness plc v Saunders [8] Section 239 of the act discusses ratification of acts and of directors. This section applies to the ratification by a company of conduct by a director amounting to negligence, default, breach of duty or breach of trust in relation to the company. The decision of the company to ratify such conduct must be made by resolution of the members of the company.

Souness can be removed as managing director for life by special resolution. (As discussed) This can only be done by a majority of votes minimum requirement is of 75% further more discussed under S21 (1) CA 2006. The change in the articles must be done in good faith (bona fide) for the benefit of the company as a whole. Illustrated in Allen v Gold Reefs of West Africa [9]

Q B) Ranjit, The finance director, should be made to buy more shares in the company to bring her into line with the other directors.

Ranjit cannot be made to buy more shares Under Section 25 of the CA 2006. No share holder can be bound by an alteration made after he became a member requiring take more shares than he already has. Ranjit may also give a written consent to such an alteration where Ranjit will be bound by it.

Q C) fearing a takeover bid by BJ’s Plc they allot 10,000 unissued shares to a third party to stop the takeover.

Under the Articles of Association Section 171 of the CA 2006, Evans Ltd has a duty to Act within their powers. The Directors of the company must act in accordance to the constitution only exercise powers for the proper purpose intended. Section 171 b continues to elaborate powers given to directors in management must be used for which they have been allotted. Illustrated in Howard Smith Ltd v Ampol Petroleum [10] Lord Wilberforce stated “It must be unconstitutional for directors to use their fiduciary shares in the company purely destroying an existing majority or creating a new majority which probably did not previously exist.” From the above statement and case illustrated the directors had been given powers however chose to use them in the wrong way.

However if a takeover maybe bad for the company like the one in Hogg v Cramphorn [11] Under the articles of Association the company where given the power to allot shares, the directors allotted the shares to a pension fund to stop a takeover that would have been and for the company. Held: by the company casting a vote for using the powers for improper use in the general meeting the allotment was voidable, however this may only be deemed voidable under full disclosure to general meeting to obtain majority approval.

Q D) The company wishes to Diversify and enter the food market. They propose to start dealing in ready meals.

The Old Approach

Objects Clause: The clause within the company’s constitution which states what is to be the purpose of the company. One provision of the old style memorandum is the objects clause. This states the type of business in which the company is meant to be engaged. This sort of clause was highly significant as contracts made by the company for purposes not including this cause could be deemed void under the doctrine of ultra vires meaning beyond the company’s powers.

Thus meaning under the old rule if Evans Ltd wished to diversify, it could not be possible due the name of Evans registered as a company to sell Mobile Phones. If the company went on to diversify it would adopt the doctrine of ultra vires. The CA 2006 provides that unless the articles specifically restrict the objects of the company its objects are unrestricted.

The doctrine of ultra vires is illustrated in Ashbury v Railway v Carriage Co v Richie [12] Held: the financing of a railway was ultra vires the main objects clause and therefore void.

One of the Main purposes of the Ultra vires rule was supposed to protect the shareholders and creditors it was also seen as restrictive to business. In Bell Houses Ltd v City Wall Properties [13] the scope of the companies objects clause when it allowed a clause to be set up in such a way as to allow directors to pursue additional business as long as it was ancillary to or in connection with the main object of the business. This clause in Bell house stated that it had the main objective of building houses and to “carry on any trade or business what so ever in the opinion of the board of directors, can be advantageously carried on by the company in connection with or as ancillary to any of the above businesses or the general business of the company”.

However in 1985 the Ca S35 (1) stated the company can do whatever it wants but needs to be affirmed by special resolution under S35 (3) this second resolution removes any liability of directors. If the party deals in good faith then the directors are deemed to have authority to enter into transaction. Although the effect of this section had greatly emphasized to remove the ultra vires rule the new approach resulted in moving away from it all together.

The New Approach

S39 of CA 2006 focuses on the company’s capacity. The validity of an act done by company shall not be questioned on the lack of capacity by reason of company’s constitution.

Under the new Rule the company of Evans can indeed diversify into a different sector all together however the directors may suffer liability if exceeded their powers on this decision S40 (5) directors can be personally liable on transactions however an act done outside the persons authority can be ratified removing liability by the company via special resolution and in accordance with S239 CA 2006.

The following concern was addressed at the meeting: – Ranjit and Souness have agreed that if one of them leaves the company then the other will purchase their shares Ranjit decides that she will not buy extra shares to keep her in line with other directors and tells Souness she will be leaving the company. He refuses to by her shares.

Both Ranjit and Souness must understand that Under S33 of the CA 2006 they have a contract between the company and each other as well as other members. The Companies Act 2006 (CA) S 33 (1) [14] states ‘the provisions of a company’s constitution bind the company and its members to the same extent as if they were covenants on the part of the company and of each member to observe those provisions.’ Evans Ltd articles of association clearly state that any dispute between the members of the company must be referred to arbitration.