Doing Away With \"Objects\" Clause in the Memorandum of Association of the Companies Act, 2013

Introduction

The Companies Act, 2013 is a modern and progressive legislation and has completed a decade of its march. It has done away with various archaic concepts and introduced new path-breaking reforms. The concept of Corporate Social Responsibility (CSR) being incorporated into the law is the first of its kind across the globe. Further, the shift away from liquidating companies due to their inability to pay debts, alongside the focus on insolvency resolution, marks a significant and much-needed reform, aligning with the broader objective of enhancing \'Ease of Doing Business\'. It completely changed the landscape of the company law.

\'Objects\' Clause

Section 4(1)(c) of the Companies Act, 2013 provides that the memorandum of the company shall state the objects for which the company is proposed to be incorporated, while Section 3 states that a company may be formed for any \'lawful\' purpose.

The concept of \'Ultra Vires\'

The expression \'ultra vires\' means an act beyond the powers, indicating an act of the company which is beyond the powers conferred on the company by the Objects clause of its Memorandum. It was for the first time that in the case of Ashbury Railway Carriage and Iron Company v/s Hector Riche (1875) the concept of ultra vires was propounded by the House of Lords. Article 3 of the Memorandum of the Ashbury Railway Carriage and Iron Company stated that its purpose was to carry on business as mechanical engineers and general contractors whereas the directors of the appellant company entered into a contract with the respondent Riche to raise money for the construction of the railway in Belgium. The words \"to carry on business of mechanical engineers and general contractors\" were considered and it was held that the generality of the expression \'general contractors\' was limited to the previous words \'mechanical engineers\' and hence the transaction was ultra vires because it was beyond the scope of its memorandum. Therefore, the contract was held to be void, and not even capable of ratification by the shareholders of the appellant. This was called as \'Doctrine of Ultra Vires\'.

The said doctrine was developed by the courts for the protection of both Shareholders and Creditors. The idea behind the concept was that the Creditors and Shareholders should not find that the company is engaged in a business different from what was expected at the time they had invested their funds.

Therefore, it may be observed that the concept of \'ultra-vires\' was developed by the courts, not by the Act. The Doctrine of Ultra Vires was applied in India too with equal force in various decisions. In the landmark case of Dr. A. Lakshmanaswami Mudaliar v/s Life Insurance Corporation of India, a company by name \'United India Life Assurance Company Ltd.\' was carrying on a business in India with the principal object to carry on life insurance business. The Directors of the Company were authorized to make payments to any charitable objects or for any useful objects. The Directors paid an amount of Rs. 2 lakhs to a trust for the purpose of promoting technical and business knowledge. On 1st July 1956, the Life Insurance Corporation Act, 1956, came into force and all the assets and liabilities of all insurers were transferred and vested in the Life Insurance Corporation of India. Subsequently, the Life Insurance Corporation called upon the erstwhile Directors of the said Company and Trustees of the donee trust, to refund the amount of Rs. 2 lakhs donated by the company. When the appellants denied liability to refund the amount, it was held by the Hon\'ble Supreme Court that the payment was ultra vires to the Company as they could spend for the promotion only on such charitable objects which would be useful for the Company\'s objects.

It was also held in the case of Attorney General & Anor v/s Great Eastern Railway Co. that in case a company is about to undertake an ultra vires act, any member of the company can get an order of injunction from the court to restrain the company from entering into such ultra vires act.

However, it is required to be examined whether to continue to retain the \"objects\" clause in the Companies\' Memorandum of Association.

The promoters of the Companies have been, in view of the said Doctrine, including omnibus objects clauses to cover every possible business either as incidental, ancillary, or otherwise. In the case of Bell Houses Ltd. v/s City Wall Properties Ltd., the court had to hold that the Company had the power to enter into the Contract in view of the sweeping power given to the Company in its objects clause which read as under:

\"To carry on any other trade or business whatsoever which can, in the opinion of the Board of Directors, be advantageously carried on by the Company.\"

The companies in India too tend to incorporate and adopt lengthy and standard object clauses so that any objects that they pursue should be covered and to escape from the \"Ultra Vires\" doctrine. Such sweeping powers under the Objects Clauses of the Memorandum are seen even in almost every company\'s Memorandum of Association in our country. In the case of S. Sivashanmugham and Ors. v/s. Butterfly Marketing Pvt. Ltd., the Petitioner contended that the Arbitration Award granted in favour of the Respondent was liable to be set aside as the Company which entered into partnership had no authority considering the Objects of the Company. However, the Madras High Court found the Object Clause to be very wide which read as under:

\"To form, establish promote, subsidise aid, acquire, organise, or be interested in any other company or companies, syndicate or partnership for the purpose of acquiring all or any of the undertaking, property and liabilities of this company or of any share therein by way of exchange for its shares or otherwise or for any purpose which may seem calculated directly or indirectly to benefit the company.\"

Following the precedent in the case of Bell Houses Ltd., the Madras High Court held that the said clause enabled the company to form a partnership for any purpose which may directly or indirectly benefit the company and held as under:

\"6. These clauses provide ample power to the respondent company to enter into partnership with others for any purpose which may directly or indirectly benefit the company. The company has reserved to itself expressly the power to carry on business of importers or exporters. The submission made for the appellant that these clauses do not enable the company to form a partnership for the purpose of manufacturing garments is without any substance. The company not only may carry on the business of exporters and importers, but it may also enter into partnership with anyone for any purpose so long as that purpose is regarded by the company as being one which would benefit the company. Such benefit need not be direct and it may be indirect also.\"

Therefore, the purpose for which such doctrine was laid had been completely defeated or frustrated by having such long winding objects clauses in the Memorandum of Association.

Doctrine of Constructive Notice

Further, another doctrine, the Doctrine of Constructive Notice evolved which presumes that, the Memorandum and Articles being Public Documents, the third parties who deal with the Company are aware of the capacity of the company to enter into contracts. In the case of Mahony v/s East Holyford Mining Co., the court held as under:

\"On the one hand, it is settled by a series of decisions... that those who deal with Joint Stock Companies are bound to take notice of that which I may call the external position of the Company. Every Joint Stock Company has its memorandum and articles of association... Those articles of association and that partnership deed are open to all who are minded to have any dealings whatsoever with the Company, and those who so deal with them must be affected with notice of all that is contained in those two documents.\"

This has further compounded the problem and the concept of ultra vires got firmly entrenched.

Present position of \'Ultra Vires\' in other jurisdictions

In the 19th Century, the \'ultra vires\' doctrine was applied in various cases not only in our country but across the globe. The said concept had a long shelf life but now the same is not being followed anymore in various jurisdictions across the globe.

The doctrine of \'ultra vires\' has been abolished by statute for corporations incorporated under the business corporation legislations in Canadian jurisdictions in the last century itself as it lost its relevance.

In the case of Communities Economic Development Fund v/s Canadian Pickles Corps, the Supreme Court of Canada had observed as under:

\"In my view, the general abolition of the doctrine of ultra vires is in accordance with sound policy and common sense... Subsequent statutory and case law developments have made the doctrine a protection to no one and a trap for the unwary...\"

However, the Supreme Court of Canada supported the application of the said Doctrine for Corporations created for public purposes.

In the United Kingdom, as far back as the year 1945, Justice Cohen, who was appointed as the Chairman of the committee to suggest reforms in the Companies Act, observed that the doctrine of \'Ultra Vires\' is an illusory protection to the shareholders and yet may be a pitfall for the third parties dealing with the company, serving no positive purpose but acting as a cause for unnecessary prolixity and vexation.

On the basis of the report of the said Committee, Section 35 of the Companies Act, 1985 of the United Kingdom has also done away with the concept of the \'Ultra Vires\' doctrine by way of amendment in the year 1989, establishing company capacity and freedom from memorandum limitations in favour of persons dealing in good faith.

The Companies Act, 2006 of the English Act made a further radical reform and it is no longer required for a company to state its objects in the Memorandum. Section 8(2) of the Act provides for stating a) the Company\'s proposed name, b) the situation of the Registered Office, c) whether the liability of the members is limited by shares or by guarantee, d) whether the company is to be private or public and e) that the subscribers wish to form the company for lawful purpose. Therefore, it can be seen from the above that the objects of the company will be unrestricted and the capacity of the companies to enter into the contracts is unlimited in the English Companies Act.

Sectoral Regulations

It is noteworthy that the Sectoral Regulations regulate the companies and ensure that companies do not follow other objects. For example, Banking Companies are also governed by the Banking Regulation Act, 1949 in addition to the Companies Act, 2013. Section 6(1) of the Act limits and restricts the Banks, which are licensed by the Reserve Bank of India (RBI), to deal in or pursue objects other than Banking. Section 6(2) of the Act clearly provides that no banking company shall engage in any form of business other than those referred to in Section 6(1). Similarly, Companies dealing in the Insurance business are also regulated by the Insurance Act, 1938 and the Insurance Regulatory and Development Authority of India (IRDAI).

Hence, it is worthwhile to free the companies to pursue any lawful business/objects as per the commercial wisdom of the Board of Directors. The investors do not mind the company pursuing other objects than what was expected of them if the same is economical.

Conclusion

The Doctrine of Ultra Vires is, therefore, impractical as the innocent third parties who are not aware of the fact that the company is acting outside its objects cannot have the contract enforced. Further, a contract may be subsequently avoided on the interpretation of the objects clause if the Company chooses to do so as many times the words and expressions used in the Memorandum are ambiguous and can have several meanings.

Hence, Section 4(1)(c) of the Companies Act, 2013 which deals with the objects clause needs to be reviewed which will further help in ease of doing business.