Ultra Vires In Company Law

The doctrine of ultra vires is a fundamental principle in company law, designed to protect shareholders and creditors from unauthorized actions by a company. Originating from the need to ensure that companies act strictly within the powers and objectives defined in their Memorandum of Association (MOA), this doctrine enforces accountability and prevents mismanagement. By limiting a company's operations to its stated purposes, the doctrine plays a crucial role in corporate governance under the Companies Act, 2013.

In this blog, we delve into the meaning and significance of Ultra Vires in Company Law, exploring its legal provisions, principles, exceptions, implications and Key case laws

What Is The Doctrine Of Ultra Vires In Company Law

The doctrine of ultra vires was created to protect the shareholders and creditors of a company from unauthorized actions of the company. This doctrine prevents a company from acting beyond the power it has due to its MOA.

It is also a guarantee that the company will only do things that are necessary for the fulfillment of its expressed objectives.

Legal Provisions Related To Ultra Vires

In India, the ultra vires doctrine is mostly governed by the Companies Act, 2013. Its scope becomes the role of the company within the MOA.

Memorandum Of Association (MOA)

The MOA makes provision for the purposes for which the company was formed.

The MOA is drafted as per the provisions of Section 4 of the Companies Act, 2013. Activities outside the scope of the MOA are considered ultra vires and are also not legally enforceable.

Articles Of Association (AOA)

This document outlines the internal rules of the company in which it operates; for example meeting procedures and appointment of directors.

The Doctrine Of Ultra-Vires In Companies Act, 2013

The Companies Act, 2013 contains provisions regarding the activities of companies and their operation and functioning within their competent authority.

Section 4(1)(c)

This section implies that in the memorandum of association (MOA), which lists all the objectives for which the company is to be established and other matters necessary to achieve these objectives, the MOA should be clearly established.

Section 245(1)(b)

This section allows the members and depositors to file an application in the tribunal if the company is conducting business in a manner that is causing loss to the company and its members and depositors.

Further, it also enables them to file an order restraining the company from violating the provisions of its MOA or AOA.

Basic Principles Of Doctrine Of Ultra Vires

Here are few basic principles related to doctrine of ultra vires:

Shareholders Cannot Approve Ultra Vires Acts

Even if shareholders agree, they cannot validate a contract or action that is beyond the powers of the company (ultra vires).

Doctrine Of Estoppel and Completed Contracts

However, if one party to a contract has fulfilled his entire obligation under the contract to the detriment of that party, and the other party raises the defense that the contract is ultra vires, the doctrine of estoppel prevents the party from claiming the ultra vires defense from doing so.

The ultra vires doctrine cannot be used to invalidate a contract where both parties have completed the contract.

Moving Towards Ultra Vires Defense

Any party for whom the provisions in the contract are employed can raise the defense that the act or contract is ultra vires.

Performance Of The Contract

If a party performs some part of the contract and the performance is insufficient to invoke estoppel, the person performing the performance can sue for such performance.

Why Is The Doctrine Of Ultra Vires Important?

The doctrine of ultra vires serves several essential purposes:

Protection Of Shareholders

The doctrine protects the shareholders' investment from losses caused by the unauthorized activities of the company.

Protection Of Creditors

The creditors are assured that the company will not misuse their funds or resources for purposes other than its intended purpose.

Ensures Accountability

The doctrine limits discretion and gives companies power only within their corporate powers and prevents the directors of companies from abusing the position by not abusing the authority.

Prevents Mismanagement

It discourages companies from taking the funds to be raised away from the objectives set by them.

Implications of Ultra Vires Acts

Here are few major implications of Ultra Vires act:

Void Agreements

Contracts under ultra vires are void and cannot be enforced in a court of law. Damages cannot be claimed by the company or the other party for breach of such contracts.

Liability of Directors

Directors who commit ultra vires acts can be held personally liable for the resulting damages.

Third-Party Protection

In some cases, when contracts are entered into by the company without knowledge of its limited powers, the law protects third parties who enter into those contracts in good faith.

Borrowing and Investments

In case of a company borrowing money for such ultra vires purposes, creditors cannot trace that amount from the company. But, it can hold the directors liable.

Exceptions To The Doctrine Of Ultra Viers In Company Law

While ultra vires remains a significant concept, there are some exceptions:

Acts Within Vested Powers

An act that is not in the MOA cannot be considered ultra vires, if it is an act that is necessary to further the company's objectives.

Statutory Authority

Statutory provisions that permit activities may not be ultra vires, even if they exceed the company's MOA.

Ratification By Shareholders

However, certain acts are ratified by shareholders as long as they do not violate the law or public policy.

Key Differences: Ultra Vires vs. Illegal Acts

Case Law On Doctrine Of Ultra Vires in Company Law

The doctrine of ultra vires has evolved by interpretation and decisions. Some of the key cases are as follow:

Riche v Ashbury Railway Carriage & Iron Company Ltd. (1875)

This is a landmark case on the establishment of the doctrine of ultra vires.

• Facts: The company outsourced the construction of a railroad under a contract to finance a powerhouse for which no MOA purpose was stated.
• Decision: The contract being ultra vires, was held to be void.
• Significance: Any act beyond the power of attorney of the company, as stated by the court, is a void and unenforceable act.

A.P. Smith Manufacturing Company v Barlow (1953)

• Facts: A donation to a university was said to be outside the purposes of the company.
• Decision: The court upheld the act because it indirectly benefited the company.
• Significance: The exceptions to ultra vires in this case were related to acts that were indirectly beneficial to the purposes of the company.

Conclusion

The doctrine of ultra vires in company law plays a crucial role in maintaining the legal integrity of a company by ensuring that its activities are confined to the scope outlined in its Memorandum of Association (MOA). This doctrine protects shareholders and creditors from unauthorized actions that might endanger the company’s assets or reputation. By defining and restricting the powers of the company, it ensures that business operations are conducted within the legal framework and in accordance with the company's stated objectives. However, it is important to understand the exceptions to this doctrine, such as acts within vested powers, statutory authority, or ratification by shareholders. The development of the doctrine through key court cases has further solidified its importance in corporate law, ensuring accountability, transparency, and responsible corporate governance.

Frequently Asked Questions (FAQs)

Here are some frequently asked questions (FAQs) that provide further clarity on the doctrine of ultra vires and its application in company law.

Q1. What is the meaning of ultra vires in company law?

Ultra vires refers to actions or decisions made by a company that fall outside the scope of powers granted in its Memorandum of Association (MOA). Such actions are considered void and unenforceable.

Q2. How does the doctrine of ultra vires protect shareholders and creditors?

The doctrine ensures that a company can only undertake activities aligned with its MOA, protecting shareholders' investments and creditors' interests by preventing misuse of company resources for unauthorized purposes.

Q3. Can shareholders ratify an ultra vires act?

No, shareholders cannot validate an ultra vires act, as it goes beyond the company’s legal powers defined in the MOA. However, in certain cases, acts can be ratified if they do not violate the law or public policy.

Q4. What are the exceptions to the ultra vires doctrine?

Exceptions include acts that are necessary to further the company’s objectives, statutory authority allowing the activity, and acts that are ratified by shareholders, provided they do not contravene legal or public policy provisions.

Q5. What is the difference between ultra vires and illegal acts?

Ultra vires acts are those beyond the powers of the company, but they are void and not necessarily criminal. Illegal acts, on the other hand, are prohibited by law, and they are void and typically carry legal penalties.

Reference Links:

https://blog.ipleaders.in/borrowing-company-deemed-ultra-vires/

https://www.toppr.com/guides/business-laws/companies-act-2013/doctrine-of-ultra-vires/

https://lawbhoomi.com/doctrine-of-ultra-vires-under-companies-act-meaning-development-and-important-cases/