KNOW YOUR LAW #7 - STEPPING BEYOND THE YARDSTICK – DOCTRINE OF ULTRA VIRES

PROVISION COVERED	Section 4
CONCEPT COVERED	Can a Company exceed its legal power bestowed by the MOA

KNOW YOUR MEANING:

The Latin phrase Ultra vires connotes certain act(s) undertaken exceeding the legal power bestowed under a statute because of which such acts are recognised as unauthorised. Merriam Webster’s dictionary defines Ultra Vires as “beyond the scope or in excess of legal power or authority”. The Supreme Court of India in “State of U.P. & Ors. v. Hindustan Aluminium Corpn. Ltd. (1979)” expounded that “That no doubt is another aspect of the doctrine of ultra vires, for an offending Act can be condemned simply for the reason that it is unauthorised.”

THE DOCTRINE:

Every company domiciled in India derive their power to operate from the Companies Act, 2013 read with rules made thereunder along with other legislations. The law does not constrict the companies on the nature of business activities that they carry out. That however does not imply that a company can do every kind of activity. That is the prime purpose of memorandum of association (“MOA”). The MOA is the identity of a company or in other words the index of a company which postulate in affirmative sense as to what a company can do to generate revenue. The MOA through its object clause which is amendable from time to time outline the very purpose of existence of a company. Had it been the fact that a company could do anything or everything, then there would be no sanctity in the purpose of existence of the law itself! MOA is the yardstick or the clearly recognised boundaries within which a company can operate on and any conduct which exceeds the stipulated boundaries mandated under the MOA requires legal authority to do so, in the absence of which such act or conduct is termed as Ultra Vires to the MOA or in other words exceeding the power bestowed by the MOA. Such conduct(s) ultra vires the MOA is void and cannot be ratified by the shareholders subsequently on a case to case basis.

THE CHARACTER OF MOA – WHY CONSIDERED ESSENTIAL:

To understand the rationale of the doctrine and the purpose of its existence, it would foremost be pertinent to appreciate the character of MOA. The MOA tenders for the company to clearly contemplate through its independent objects as to where their raised investments would be channelised. Secondly the MOA also facilitates the stakeholders to company to know their avenue of investment whether monetary or otherwise and stimulates appropriate decision making. The Andhra High Court in the case of “Nagavarapu Krishna Prasad v. Andhra Bank Ltd. (1982)” stated that “The purpose (of the memorandum of association) is two-fold. The first is that the intending corporator who undestands the investment of his capital shall know within what field it is to be put at risk. The second is that anyone who shall deal with the company shall know without reasonable doubt whether the contractual relation into which he contemplates entering with the company is one relating to a matter within its corporate objects."

SATYA RAJAN DAS'S 'LAW OF ULTRA VIRES IN BRITISH INDIA’, TAGORE LAW LECTURES – 1903:

To place emphasis on the essence and ideal behind doctrine of ultra vires, below reproduced is an extract from Shri S.R Das’s lecture on Law of Ultra Vires in 1903:

"In speaking of an ordinary citizen, we do not speak of any action being ultra vires to an ordinary citizen, whatever is not expressly forbidden by the law is permitted by the law. It is only when the law has called into existence a person for a particular purpose or has recognised its existence such as the holder of an office, a body corporate etc. that the power is limited to the authority delegated expressly or by implication and to the object for which it was created. In the case of such a creation, the ordinary law applicable to an individual is somewhat reversed. Whatever is not permitted, expressly or by implication, by the constating instrument, is prohibited, not by any express prohibition of the Legislature but by the doctrine of ultra vires. "

RATIONALE:

The objects of company mentioned in the MOA are one of the responsible factors that tend investors to invest in a corporate. The law does not place a check and balance mechanism for scrutinising whether the company is actually carrying on the business objects stipulated in the MOA but rather expects the companies to abide by the spirit of law to do so. This absence of mechanism is always considered as window of opportunity to raise funds in the name of an object mentioned in the MOA and channelising the funds into other avenues that are not mentioned in the MOA and not visible to the eyes of the investors thus resulting in siphoning of the money of genuine investors. This defies the very preamble of good corporate governance and the essence of existence of company law. This is the rationale of doctrine of ultra vires that is to make those acts ineffective that are not empowered or barred by the MOA or the Company law. The Calcutta High Court in “Om Prakash Mohta v. Steel Equipment and Construction (1966)” contemplated that “At one time, at the earlier stages of development of joint stock companies when there was a marked trend to divert capital for extraneous objects, the court leaned towards ultra vires, which doctrine had by that time been well established in case of companies formed under Charter or special Acts.”

INTENTION OF LAWMAKER:

Every stakeholder whose interest is vested in a company whether monetary or otherwise is protected by the clothing of doctrine of ultra vires so as to distort the investment of stakeholders into unauthorised avenues. It would be imperative to appreciate the fact that the legislator did not intend to bestow the character to the MOA which would give omnibus autonomy to the company to do anything and everything. The Madras High Court in “V. Ramiah v. The State Bank of India (1966)” while interpreting the nature of MOA and doctrine of ultra vires categorically opined that “Parliament did not and could not have intended to confer power that could be exercised in such a manner as to flout natural justice.

ULTRA VIRES – ILLEGAL OR PERMISSABLE:

It is a well settled intention of law that a corporate ought to be governed by the instrument creating such corporate. It indeed is a fact that acts ultra vires the MOA are bad in the spirit of law but whether such acts are illegal is under question from time to time. The House of Lords through Lord Cairns in the landmark dictum of “Ashbury Rly Carriage and Iron Co Ltd v Riche (1875)” held that “If a contract is void at its beginning, then it was void ever cause the company could not make the contract in the absence of a legal autonomy. If every shareholder had been in the room, and if every shareholder has said, that this is a contract which we authorise the directors to make in absence of express power under MOA, it would be void. The shareholders would thereby by unanimous consent have been attempting to do the very thing which by the Act of Parliament they were prohibited from doing.”

It is pertinent to understand that acts ultra vires the MOA places emphasis only on the capacity of a person to do an act in the absence of an express power to authorise such conduct. On the other hand, an illegal act is essentially barred by law from the beginning that would not even stimulate a person to do such acts which is against the interest of public. Such acts ultra vires may not be illegal if done in bonafide best interest of the stakeholders. Diverging from the view laid down by Lord Carins in Ashbury Rly Carriage, the Allahabad High Court in the case of “Anand Prakash and Anr. v. Assistant Registrar (1966)” postulated that “It is not necessary that an act to be ultra vires must also be illegal. It may be but it may as well, not be. An act may be illegal because it is prohibited by law or for reasons like fraud, undue influence or because it may be opposed to public policy. These reasons are not occasioned by the absence of any power in the person to do the act. The essence of the doctrine of ultra vires is that the act is done in excess of the powers possessed by the person in law. This doctrine proceeds on the basis that the person has limited powers.”

APPLICABILITY:

The application of doctrine of ultra vires is not limited to the MOA but rather is applicable to the other provisions of company law, rules made thereunder and other laws promulgated to govern companies. The Apex Court in “Vidya Dhar Pande v. Vidyut Grih Siksha Samiti & Ors. (1988)” held that “The doctrine of ultra vires as applied to statutes, rules and orders should equally apply to the sub provisions, regulations and any other subordinate legislation enacted by competent legislature.”

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