CONTRACTUAL EFFECT OF ARTICLES OF ASSOCIATION OF A COMPANY – EFFECTS THEREOF

BY: PATRICK MGBEOMA, ESQ.

INTRODUCTION

It is trite that once a company is formed, the company begets its own legal personality which is different from its members or shareholders. This position was elucidated in the well-celebrated case of Salomon v. Salomon & Co (1897) AC 22. In Nigeria, the body that is responsible for the formation and registration of a company is the Corporate Affairs Commission {CAC} and upon successful completion of company registration, a certificate of incorporation is issued by the commission.

The company so formed can acquire land and own properties, have perpetual succession, borrow money, enter into binding contracts and repudiate same. However, there are two basic documents among others, which are pre-requisites upon which the registration of a company is premised. They contain the biological details of the company and its operations. These documents are known as the Articles and Memorandum of Association and this article is aimed at examining the contractual effect of one of these documents which are the Articles of Association and its attendant advantage to the members of the company and the relationship between them and the company.

 

CONTRACT AND CONTRACTUAL OBLIGATIONS IN AN ARTICLE OF ASSOCIATION

A contract is a legally binding document that recognizes and governs the rights and duties of the parties to the said agreement. A contract can be legally enforceable where it meets the requirements of the law as it relates to contract. A contract typically involves the exchange of goods, service, money, or promise. Under the common law practice, the formation of a contract generally requires inter alia offer, acceptance, consideration and intention to create legal relations. Each contracting party must be persons who have the legal capacity to be bound by a contract

It is established under our corporate law practice, that the Articles of Association constitutes a contract between the company and its members, based on the rights and obligation on the members and the company as well. Whether the article constitutes a contract between the members inter se is uncertain and same will be clarified in this article

RELATIONSHIP BETWEEN ARTICLES AND MEMORANDUM OF ASSOCIATION OF A COMPANY

The Memorandum and Article of Association are two vital incorporation documents that are often used interchangeably and there is need to clearly state the relationship between the two documents. The Article of Association of a company is always subordinate to the provisions of the Memorandum of Association

The Memorandum of Association of a company is a document that regulates a company’s external activities. It is viewed as the company’s charter, and together with the company’s articles of association, it forms the company’s constitution. While the Memorandum of Association defines the scope of the company’s activities and the powers of the company, the Article of Association of the company lays down the internal rules and regulation to manage the affairs of the company.

Memorandum contains the powers and objects i.e. the scope of operation of the company, beyond which the company cannot go and with that, the company may make such regulations for the internal working as they think fit. The Article of Association, on the other hand, can be used to explain the powers and objects of the company in the clause as laid down by the Memorandum, but never to extend them. The Article of Association provides the means to attain the object of the company and as such cannot modify the provisions of the Memorandum of Association.

It is worthy of note, that a Memorandum of Association cannot be altered at the whims of the members of the company as Section 44 of the Companies and Allied Matters Act, 2004{CAMA} provides restriction on the alteration of the Memorandum which can only be done pursuant to the provisions of CAMA as stated in section 45-47. However, the Articles of Association can merely be altered by special resolutions of the company- See Section 48 of CAMA.      

The Memorandum of Association also contains the company’s name, names of its members or shareholders, number of shares held by them, and location of its registered office. It also states the company’s object clause, the amount of authorized share capital; also whether the liability of its members is limited by shares or by guarantee.  

CONTENTS OF THE ARTICLES OF ASSOCIATION

It has been reiterated earlier, that the Article of Association is the rules and regulations or bye-laws of the company duly incorporated. The contents of same should include matters related to the internal working and management of the company.

The Contents of an Article of Association is inexhaustive as long as it does not contradict the provisions of CAMA and the Memorandum of Association of the company. If the Article contains anything contrary to CAMA or the Memorandum of Association, it will be inoperative.

However, companies that are limited by shares, those limited by guarantee and unlimited companies can adopt the form prescribed in Parts I, II, III and IV in Table A in the first schedule of the Act as may be applicable to the kind of company so incorporated- Section 34(1) CAMA, 2004

 

 

However, Articles of Association generally deal with but is not limited to the following;

1. Classes of shares, their values and the rights attached to each of them.
2. Calls on shares, transfer of shares, forfeiture, conversion of shares and alteration of Authorized share capital.
3. Directors, their appointment, powers, duties and removal and other related matters.
4. Meetings and minutes, notices of meeting and other related matters.
5. Accounts and Audit
6. Appointment of and remuneration to Auditors.
7. Voting process and Proxy.
8. Dividends and Reserves where applicable
9. Conditions and Procedure for winding up.
10. Borrowing powers of the Board of Directors and Managers of the company.
11. Rules regarding use and custody of the common seal of the company.
12. Lien on company shares.

STATUS OF ARTICLE OF ASSOCIATION UNDER THE COMMON LAW

All monies payable by any member shall become debt accruing to the company from each shareholder. In the commonwealth, it shall have the nature of a speciality debt based on the fact that there is a statutory contract that brought about the debt which is the Article of Association.

Under the common law, the Articles of Association when duly registered binds the company and the shareholders to the same extent as if each shareholder had subscribed his name and affixed his seal thereto or otherwise executed the same. From the foregoing, it can be gleaned that the Article of Association constitutes a contract between the company and each member. Furthermore, each member in his capacity as such is bound to the company by the provisions in the article.  It, therefore, means that the following rights accrue under the common law upon the execution of the Article of Association;

Firstly, the Article of Association constitutes a contract between the company and its members and the company’s business must be conducted strictly in consonance with the Articles of Association of the company. In Hickman v. Romney Mash Sheep Breeders (1938) CH 708 the articles provided for the reference of disputes between members and the company to arbitration in the first instance. Hickman a member brought an action against the company directly to the Court and the company applied to the court for a stay of proceedings on the ground that Hickman was bound by the agreement contained in the articles. The court ordered a stay of the action on the ground that members are bound to observe the provisions of the articles in their transactions with the company.

 

Secondly, the Article of Association also constitutes a contract between the members themselves. Thus one member can sue another if that other fails to observe a provision in the articles, there is no need to call upon the company to sue on behalf of the aggrieved member of the company. In Rayfield v. Hands (1960) CH 1, the Articles of Association of a private company provided that every member who intends to transfer his shares shall inform the directors who will take the said shares equally between them at a fair value. The plaintiff held 725 shares of $1 each and he asked the defendants who are the three directors of the company to buy them but they refused. He brought this action to sue upon the contract created by the Articles without joining the company. It was held that the directors were bound to take the shares.

 Thirdly, no right given by the Articles to a member in a capacity other than that of member for instance, maybe as a Solicitor can be enforced against the company under the Article of Association. This is because the Articles is seen as a contract not with outsiders but merely with the members in respect of their rights as members. The Article does not per se constitute an enforceable contract between a company and an outsider. An outsider, in this case, means a person who is not a member or a member acting in a capacity other than that of a member.

However, a provision in the Article can become part of a contract between the company and a member or outsider as any right claimed by an outsider, must be conferred by a separate contract which can also be in relation to the Articles of Association – Swabey v Post Darwin Gold Mining Co. (1889) 1 Meg385

THE BINDING NATURE OF THE ARTICLE OF ASSOCIATION UNDER CAMA

Section 41(1) of the Companies and Allied Matters Act Cap C20 LFN 2004 provides as follows;

“Subject to the provisions of this Act, the Article, when registered, shall have the effect of a contract under seal between the company and its members and officers and between the members and officers themselves whereby they agree to observe and perform the provisions of the articles, as altered from time to time in so far as they relate to the company, members, or officers as such.”

 

 

 

The provisions of the aforementioned section provide that there is a binding contract between the members and the company. However, on the contract between members inter se, the provision of the law did not state whether the obligations in the Article are directly enforceable between members inter se, i.e. a member suing another member to enforce an obligation. On the literal interpretation of section 14 of the Companies Act of 1985 of the United Kingdom which is in pari material with section 41 CAMA, it would appear that a member can only enforce obligations that affect his/her rights or liabilities in relationship with each other through the company as seen from the Rule in Foss v Harbottle (1843) 67 ER 189 which established minority shareholders remedy which must be channelled through the company. This is codified in sections 299 & 300 CAMA particularly section 300(c) which gives the company right to sue for the act or omission affecting the applicant’s individual right as a member, which is a departure from the common law principles     

Also, the obiter comments of Lord Herschell in Welton v Safferey (1897) AC 299 his lordship stated thus;

“It is quite true that the articles constitute a contract between each member and the company, and that there is no contract in terms between individual members of the company; but the articles do not any less, in my opinion, regulate their rights inter se. Such rights can only be enforced through the company.”

LEGAL EFFECT OF THE ARTICLE OF ASSOCIATION UNDER THE COMPANIES AND ALLIED MATTERS ACT

The wordings of section 41(1) CAMA, 2004, provides for the persons who have rights and liabilities upon the registration of an Article of Association as earlier stated. 

However, section 41 (3) CAMA, 2004 provides that where the Memorandum or Articles of Association provides for the appointment or removal of a director such power shall be enforceable by that person notwithstanding that he is not a member or officer of the company. The rationale for this provision perhaps is to protect persons who set up a company and call upon other persons to manage it for and on behalf of the company.

The mode of removing a director may, however, be spelt but in the Articles of Association of the company. In the absence of such provision in the articles of association, resort may be made to the Act. To further buttress the import of an article of association on a company, the removal of a director of a company not in accordance with the memo and articles of association of a company is illegal.

One of the enviable innovations in section 41 CAMA, 2004 is the fact that “officers” are being bound by the articles of association and section 650 CAMA, 2004 defines officers to include a director, manager or secretary. From this definition it means cases decided on directors earlier at common law would be decided differently today meaning that they do not have to rely on a separate and independent contract of service before they can enforce their rights. They can rely on section 41 of the Companies and Allied Matters Act 2004 since by virtue of the definition of an officer under section 650, directors are included. But any person, who sues in any other capacity other than as an officer of the company recognized in the definition section of the Act, would be regarded as an outsider.

In Yalaju Amaye v. Associated Registered Engineering Company Ltd. (1990) 4 NWLR (Pt. 145) page 422, Mr Yalaju, who is an Engineer by profession, conceived the idea to incorporate the Company and invited the other Respondents. The Articles of Association of the Company named Mr Yalaju as the Managing Director, and the 3rd-5th Respondents as Directors. The provisions of articles 88 and 99, 22-32 Table A of the First Schedule to Companies Act, 1968 were expressly excluded, while the 3rd Respondent was elected Chairman. On 20th August 1979 in a meeting of the Board of the Company, Mr Yalaju was in disagreement with the other Directors and in the ensuing heated argument, the rest of the Directors claimed, but Mr Yalaju denied that he had orally resigned his appointment as Managing Director and Director of the Company and to dispose of his entire interest in the Company. On the 21st August 1979, Mr Yalaju received a letter dated 21st August 1979 informing him that pursuant to an extraordinary general meeting of the Company held on that day, his oral resignation as a director and Managing Director of the Company, and also his decision stated orally to dispose of his entire interest in the Company was accepted. Mr Yalaju protested denying that he ever made the representation as claimed in the letter at the meeting of the Board of Directors on the 20th August 1979. Mr Yalaju claimed that he had since the 21st August 1979 been prevented from participating in the affairs of the company, and had never been invited to any’ meeting of the Company, in his capacity of director, Managing director or shareholder. He also claimed that he had received no remuneration in his office of Managing Director, and had not been paid any dividend in respect of shares held by him. The plaintiff brought an action before the Federal High Court, Benin City, against the Company and the other board members. The Court found for Mr Yalaju in holding that the Memorandum and Articles of the Company bind the Company and the Managing Director as the said documents constitute a contract between them. In the same case, Karibi-Whyte JSC (as he then was) further opined that the power to appoint or remove a Director can only be exercised where there is an enabling provision in the Articles and nothing more.

ALTERATION OF THE ARTICLE OF ASSOCIATION UNDER CAMA

A company may by a special resolution passed by at least three quarter{3/4} of votes cast by members of the company at a general meeting of which twenty-one days’ notice which has been given, alter its Articles of association.

Thus section 48 CAMA, 2004 provides that a company may by special resolution, alter or add to its Articles of Association. It is hereby reproduced as follows;  

• Subject to the provisions of this Act and to the conditions or other provisions contained in its memorandum, a company may by special resolution alter or add to its articles.
• Any alteration or addition so made in the articles shall, subject to the provisions of this Act, be as valid as if originally contained therein and be subject, in like manner, to alteration by special resolution.

The following rules must be considered as regards alteration of articles:

1. The alteration must be subject to the conditions or other provision of the memorandum f association, and memorandum prevails.
2. The alteration must be subject to the Act and the alteration must not violate section 49 of CAMA which provides for member’s liability to contribute to the share capital of the company where a memorandum of association is also altered.

 

SOME RIGHTS EXERCISED BY MEMBERS UNDER THE CAMA PURSUANT TO THE ARTICLES OF ASSOCIATION

Membership of a company comes with some inalienable rights as provided in the Companies and Allied Matters Act, 2004 which are often replicated in the Article of Association of the company, so as not to fall short of the requirements of the Memorandum of Association modelled after the Act. The rights accruing to a member of a company are not exhaustive. Some of these rights are indeed statutory and cannot be taken away by the Article but rather incorporated into it. The Article can only further extend and expand the rights accruing to the members of a company.

The following are some rights exercised by members of the company pursuant to the Article of Association;

1. Right to receive notice of meetings – Section 219 CAMA
2. Member’s right to attend, to take part in the discussion and vote at meetings. – Section 81 CAMA
3. Right to transfer shares and liabilities attributed to the shares of the company are left to the discretion of the Articles of Association. – Section 114 CAMA. [The Articles of Association usually makes provision for what is called “pre-emption clause” which offers the right of first refusal on the issue of transfer or transmission of shares in that company to protect the members against involuntary dilution of their shareholdings or stake in the company].
4. Right to receive copies of the Annual Accounts of the company – Section 344 CAMA
5. Right to inspect the documents of the company such as the register of members. – Section 87 CAMA
6. Right to participate in appointments of directors and auditors in the Annual General Meetings – Section 214 CAMA
7. Right to apply to the Court for relief in case of oppression and mismanagement under Section 300 CAMA.

There are other rights given to members of the company by the general laws which in most cases are attributed to the fundamental human rights which are indeed constitutional.

Finally, these rights exercised by members of a company extend to their personal representatives, as Section 650 CAMA also defines member to include “the heir, executor, administrator or other personal representatives, as the case may be of the member”. This suggests that a personal representative, heir or executor can also exercise the rights of a deceased member.

RELATIONSHIP BETWEEN THE ARTICLE OF ASSOCIATION AND THE SHAREHOLDERS AGREEMENT

Usually most companies apart from the Article of Association of the newly incorporated company, they prepare and execute separate contract often referred to as the “shareholders’ agreement” which establish additional obligations between the shareholders themselves, and in turn, supplement the Articles of Association in further organizing the relationship between the shareholders.

The major advantage of this shareholders’ agreement is the fact that it is a private document which means that unlike the Articles and Memorandum of Association, the shareholders’ agreement does not need to be registered with the Corporate Affairs Commission. This is because it is not one of the pre-requisite documents in the incorporation of a company. The shareholders’ agreement is generally signed by all shareholders of the company at the time the agreement is entered into, and it is also entered into for the benefit of the members and not for the company. As a result, these agreements are not regulated by the Companies and Allied Matters Act, 2004 and there is, therefore, no legally prescribed procedure to alter its provisions. The shareholders’ agreement just like every other standard contract will usually make provisions for amendment of the terms of the Agreement.

The following are some of the matters that are usually covered in a shareholders’ agreement:

1. Dividend policy;
2. Decisions by the directors of the company, which require shareholders’ consent;
3. Relevant provisions for protecting the minority shareholders;
4. Restrictive covenants (i.e. what a shareholder is prevented from doing after ceasing to be a shareholder of the company);
5. Matters relating to issuing, rights accruing to the shares of the company and transferring of the company’s shares;
6. Rights and obligations that are specific to certain directors (for example, the personal right to remain appointed as a director).

 

CONCLUSION

 The statutory provision on the effect of the Company’s Article under CAMA cleared up doubts relating to the parties to the contract as contained in the company’s Article. This is now explicit enough as the contract is created between the members inter se, and between the members and the company. The officers of the company are not meant to be constrained or restricted in any manner being that they are meant to enforce any provisions in the Article. Therefore giving the principal officers rights in their capacity as Managers in the same manner as other members could strengthen their position.

The law recognizes the vital role of the principal officers by imposing on them fiduciary duties and demanding of them extra diligence in the discharge of their responsibilities to the company. While not suggesting that there is anything wrong in the law that protects a company’s rights of membership, the exclusion of principal officers from enjoying similar protection in the corporate scheme could be fatal and same has been cured by the provisions of CAMA, 2004 which is a departure from the position under the Common Law.