Doctrine of Ultra Vires

Objects clause is contained in the memorandum of association and sets out the powers of the directors in running the company. Traditionally, each power of the company had to be enumerated, which resulted in detailed statements as to the powers of the company. Companies are now able to use the phrase ‘to carry on the business of a general commercial company’ rather than use exhaustive lists of enumerated powers.

The Introduction to Doctrine of Ultra Vires

The object clause of the memorandum of the company contains the object for which the company is formed. An act of the company must not be beyond the object clause otherwise it will be ultra vires and therefore, void and cannot be ratified even if all the members wish to ratify. This is called the doctrine of ultra vires. The expression “ultra vires” consists of two words: ‘ultra’ and ‘vires’. ‘Ultra’ means beyond and ‘Vires’ means powers. Thus, the expression ultra vires means an act beyond the powers. Here the expression ultra vires is used to indicate an act of the company, which is beyond the powers conferred on the company by the objects clause of its memorandum. An ultra vires act is void and cannot be ratified even if all the directors wish to ratify it. Sometimes the expression ultra vires is used to describe the situation when the directors of a company have exceeded the powers delegated to them. Where a company exceeds its power as conferred on it by the objects clause of its memorandum, it’s not bound by it because it lacks legal capacity to incur responsibility for the action, but when the directors of a company have exceeded the powers delegated to them. This use must be avoided for it is apt to cause confusion between two entirely distinct legal principles. Consequently, here we are restricting the meaning of ultra vires to the objects clause of the company’s memorandum.

Protection Of Creditors And Investors

Doctrine of ultra vires has been developed to protect the investors and creditors of the company. This doctrine prevents a company to employ the money of the investors for a purpose other than those stated in the objects clause of its memorandum. Thus, the investors and the company may be assured by this rule that their investment will not be employed for the objects or activities which they did not have in contemplation at the time of investing their money in the company. It enables the investors to know the objects in which their money is to be employed. This doctrine protects the creditors of the company by ensuring them that the funds of the company to which they must look for payment are not dissipated in unauthorized activities. The wrongful application of the company’s assets may result in the insolvency of the company, a situation when the creditors of the company cannot be paid. This doctrine prevents the wrongful application of the company’s assets likely to result in the insolvency of the company and thereby protects creditors. Besides the doctrine of ultra vires prevents directors from departing the object for which the company has been formed and, thus, puts a check over the activities of the directions. It enables the directors to know within what lines of business they are authorized to act .

Is It Ultra Vires Or Illegal?

The ultra vires act or transaction is different from an illegal act or transaction, although both are voide. An act of a company, which is beyond its objects clause, is ultra vires and, therefore, void, even if it is illegal. Similarly, an illegal act will be void even if it falls within the objects clause. Unfortunately, the doctrine of ultra vires has often been used in connection with illegal and forbidden act. This use should also be prevented.

The Doctrine of Ultra Vires

The action/transaction may be reviewed in two: the position under common law and under the companies Act 1965. According to Company Law:

Business/Company that Ultra Vires acts are invalid

In Ashbury Railway Carriage and Iron Company Ltd v. Riche, (1875) L.R. 7 H.L. 653., In this case, the objects of the company as stated in the objects clause of its memorandum, were ‘to make and sell, or lend on hire railway carriages and wagons, and all kinds of railway plaint, fittings, machinery and rolling stock to carry on the business of mechanical engineers and general contractors to purchase and sell as merchants timber, coal, metal or other materials; and to buy and sell any materials on commissions or as agents.’ The directors of the company entered into a contract with Riches for financing a construction of a railway line in Belgium. All the members of the company ratified the contract, but later on the company repudiated it. Riche sued the company for breach of contract.

Issue:

Whether the contract was valid and if not, whether it could be ratified by the members of the company?

The House of Lords held unanimously that:

The contract was beyond the objects as defined in the objects clause of its memorandum and therefore it was void.

The company had no capacity to ratify the contract.

Decision:

The House of Lords has held that an ultra vires act or contract is void in it inception and it is void because the company had not the capacity to make it and since the company lacks the capacity to make such contract, how it can have capacity to ratify it. If the shareholders are permitted to ratify an ultra vires act or contract, it will be nothing but permitting them to do the very thing which, by the Act of Parliament, they are prohibited from doing.

The House of Lords has expressed the view that a company incorporated under the Companies Act has power to do only those things, which are authorized by its objects clause of its memorandum, and anything not so authorized is ultra vires the company and cannot be ratified or made effective even by the unanimous agreement of the members.

The Company cannot be prosecuted based on an Ultra Vires Contract

In Evans v. Brunner Mond & Company, (1921) Ch 359., In this case, a company was incorporated for carrying on business of manufacturing chemicals. The objects clause in the memorandum of the company authorized the company to do “all such business and things as maybe incidental or conductive to the attainment of the above objects or any of them” by a resolution the directors were authorized to distribute £ 100,000 out of surplus reserve account to such universities in U.K. as they might select for the furtherance of scientific research and education.

The resolution was challenged on the ground that it was beyond the objects clause of the memorandum and therefore it was ultra vires the power of the company. The directors proved that the company had great difficulty in finding trained men and the purpose of the resolution was to encourage scientific training of more men to enable the company to recruit staff and continue its progress.

Decision:

The court held that the expenditure authorized by the resolution was necessary for the continued progress of the company as chemical manufacturers and thus the resolution was incidental or conductive to the attainment of the main object of the company and consequently it was not ultra vires. “Acts incidental or ancillary” are those acts, which have a reasonable proximate connection with the objects stated in the objects clause of the memorandum.

Ascertainment of the Ultra Vires

To ascertain whether a particular act is ultra vires or not, the main purpose must first be ascertained, then special powers for effecting that purpose must be looked for, if the act is neither within the main purpose nor the special powers expressly given by the statute, the inquiry should be made whether the act is incidental to or consequential upon. An act is not ultra vires if it is found:

1. Within the main purpose, or
2. Within the special powers expressly given by the statute to effectuate the main purpose, or
3. Neither within the main purpose nor the special powers expressly given by the statute but incidental to or consequential upon the main purpose and a thing reasonably done for Effecting.

In Attorney General v. Mersey Railway Co, (1907) 1 Ch. 81, There was a company and it was incorporated for carrying on a hotel business. It entered into a contract with some third party for purchasing furniture, hiring servants and for maintaining omnibus. The purpose or object of the company was only to carry on a hotel business and it was not expressly mentioned in the objects clause of the memorandum of the company that they can purchase furniture or hire servants. This deal was challenged and was sought from the court that this act of the directors be held as ultra vires.

Issue: Whether the transaction was ultra vires?

Decision: The court held that a company incorporated for carrying on a hotel could purchase furniture, hire servants and maintain omnibus to attend at the railway station to take or receive the intending guests to the hotel because these are reasonably necessary to effectuate the purpose for which the company has been incorporated and consequently these are within the powers of the company, although these are not expressly mentioned in the objects clause of the memorandum of the company, or the statute creating it.

Thus a company which has been authorized to deal with its property has implied power to pledge or Mortgage the property for its debts. It is to be noted that if the act of the company is neither within the objects clause in its memorandum or the statute creating it, nor necessary for or incidental to or consequential upon the attainment of the objects stated in the objects clause of the memorandum.

Ultra Vires Doctrine in the Companies Act 1965

Section associated with the doctrine of ultra vires of the Companies Act is Section 20 (1), 20 (2) (a), (b), (c) and 20 (3). Section 20 (1) provides’ no action prosecuted as an act of…shall be invalid by reason only the fact that the company does not have the ability or authority to act. This means that, if companies do an action outside the company (acting ultra vires), it was valid.. However, Section (2) affect the three situations where the doctrine of ultra vires is still applicable in Malaysia.

Section 20 (2) (a) – a member of the company or in which the company has issued debentures are available with a floating charge, then the debenture / debenture trustee referred to the holders above may be claimed from the company to take any action outside the company. Name that mentioned above maybe request for restrictions or injuksi to stop an ultra vires action. This can be seen in the case of Hawkesbury Development Co Ltd v Landmark Finance Pty Ltd ( 1969 ) 2 NSWR 786. In this case, H holds all of the shares in the LF. LF has issued two debentures of United Dominion Corp. ( UDC ). H requested from the court to declare the both debentures was invalid because it is a Company Object Ultra Vires. H also requested to the court to issues ‘ tegahan’ to UDC by enforcing the debentures. The question is, can H ask the court issued prohibiting to the UDC. The court has decided even thought this action was Ultra Vires. In this case, UDC is the third party while section 20 (2) (a) may only be used to sue company only.

Section 20 (2) (b) provides, “ … any action by company or any action by company members toward the current or the pass company officer “. This means that the company or members of the company can sue any pass or current officer that who have committed Ultra Vires. Ultra Vires action must be completed and realised. This is difference with Section 20 (2) (a).

Section 20 (2) (c) provides that minister may conduct petition to the court to wind up the company that has committed ultra vires action.

Transfer of Company Object

The Companies Act 1965 has been precisely devoted with the provision authority and the rules for amendment:

Clause Name – Section 23 of Companies Act 1965

Capital Clause – Section 62 and Section 64 of Companies Act 1965

Object Clause – Section 28 of Companies Act 1965