A Memorandum of Association of a company is a basic charter of the company. It is a binding document which describes the scope of the company among other things. If a company departs from its MOA such an act is ultra vires. Let us further understand the Doctrine of Ultra Vires.
The Doctrine of Ultra Vires
(Source: Indian Case Laws)
The Doctrine of Ultra Vires is a fundamental rule of Company Law. It states that the objects of a company, as specified in its Memorandum of Association, can be departed from only to the extent permitted by the Act. Hence, if the company does an act, or enters into a contract beyond the powers of the directors and/or the company itself, then the said act/contract is void and not legally binding on the company.
The term Ultra Vires means ‘Beyond Powers’. In legal terms, it is applicable only to the acts performed in excess of the legal powers of the doer. This works on an assumption that the powers are limited in nature. Since the Doctrine of Ultra Vires limits the company to the objects specified in the memorandum, the company can be:
- Restrained from using its funds for purposes other than those specified in the Memorandum
- Restrained from carrying on trade different from the one authorized.
The company cannot sue on an ultra vires transaction. Further, it cannot be sued too. If a company supplies goods or offers service or lends money on an ultra vires contract, then it cannot obtain payment or recover the loan.
However, if a lender loans money to a company which has not been extended yet, then he can stop the company from parting with it via an injunction. The lender has this right because the company does not become the owner of the money as it is ultra vires to the company and the lender remains the owner.
Further, if the company borrows money in an ultra vires transaction to repay a legal loan, then the lender is entitled to recover his loan from the company.
Sometimes an act which is ultra vires can be regularized by the shareholders of the company. For example,
- If an act is ultra vires the power of directors, then the shareholders can ratify it.
- If an act is ultra vires the Articles of the company, then the company can alter the Articles.
Remember, you cannot bind a company through an ultra vires contract. Estoppel, acquiescence, lapse of time, delay, or ratification cannot make it ‘Intravires’.
Summing up the Doctrine of Ultra Vires
- An act, legal in itself, but not authorized by the object clause of the Memorandum of Association of a company or statute, is Ultra Vires the company. Hence, it is null and void.
- An act ultra vires the company cannot be ratified even by the unanimous consent of all shareholders.
- If an act is ultra vires the directors of a company, but intra vires the company itself, then the members of the company can pass a resolution to ratify it.
- If an act is Ultra Vires the Articles of Association of a company, then the same can be ratified by a special resolution at a general meeting.
While the main advantage of the Doctrine of Ultra Vires is the protection of shareholders and creditors, it has disadvantages too. This doctrine prevents the company from changing its activities in a direction agreed by all members. Further, a special resolution can alter the object clause of the Memorandum. This defeats the core purpose of the doctrine.
Solved Example on Doctrine of Ultra Vires
Q1. The Memorandum of Association of ABC Limited specifies the following objects:
- Make, sell or lend on hire, railway carriages, and wagons
- Carry on the business of mechanical engineers and general contractors.
- Purchase, lease, sell and work mines.
- Purchase and sell as merchants or agents, coal, timber, metals etc.
The directors of ABC Limited enter into a contract with another company XYZ Limited for financing the construction of a railway line in Belgium. Further, the company ratifies this act of the directors by passing a special resolution. Subsequently, the company repudiated the contract as being ultra vires. However, XYZ Limited sued ABC Limited for damages for breach of contract since the contract was well within the meaning of the term ‘general contractors’ and the shareholders had ratified it. Is it a valid and legal contract?
Answer: Let’s look at the objects specified in the Memorandum of Association of ABC Limited. The usage of the term ‘general contractors’ is with reference to mechanical engineers. Hence, it needs to be read in connection with the company’s business. If the reference is not made, then the company can make contracts of any kind and description. (Like marine, biotech, etc.) Hence, the contract between ABC Limited and XYX Limited for financing the construction of a railway line in Belgium is null and void.