Alteration of a Company’s Articles of Association

 

Introduction

The articles of association are a prerequisite for companies founded in the United Kingdom (UK) under the Companies Act 2006 as well as the preceding Companies Acts. The articles of association provide the powers and responsibilities of the directors of a company and the manner in which the members exercise control over the Board of Directors (BOD). The other elements contained in the articles of association include liability of members, appointment as well as the removal of directors’ means of communication, attendance of annual meetings and decision making by members, directors’ meetings, conflicts of interest, and voting rights, and share issuing and transfers. Thus, the articles of association set out the manner in which a company is owned, run, and governed. It puts restrictions on the powers of a company, which is advantageous to the shareholders because it prevents the directors from pursuing particular courses of action, without the approval of the shareholders.[1] By default, nevertheless, the Companies Act 2006 provides a company with unlimited powers. The purpose of this paper is to discuss whether the law relating to the alteration of a company's articles of association adequately balances the requirement for flexibility with the need to protect investors.

Alteration of Articles:

Companies have varied powers with regard to the alteration of their articles of association. Any restriction made on the articles that have an effect on exercising their powers is considered invalid. The Articles are usually altered by companies by passing a distinctive resolution. Consequently, the altered articles provide a binding clause to the members in similar as the original articles.  This is in accordance to Section 31(2) which stipulates that “any alteration so made shall be as valid as if originally contained in the articles and subject in like manner to alteration by special resolution.”[2] The section further stipulates that a special resolution is required for Articles of Association alteration.

For a special resolution to be valid there must be at least 75 percent of members of the company with voting powers for it to pass. This restriction is important as it makes sure that a considerable majority of the shareholders agree to changes proposed and avoids unnecessary amendments.[3] In order to make alterations to the Articles of Association, a notice of intention sent to all company’s members. In addition, a filling of copy of the resolution must be made with the Registrar. After the amendments have been passed, then a copy of new Articles is signed and filed within 15 days. When a copy is not sent within the provided timeframe, the company commits an offence.

Alteration of Articles and Investors’ protection

Investors are also referred to members of a company or as the shareholders. They have voting rights, provide equity capital, and are eligible to dividends. Protection of investors entails the safeguarding and enforcement of claims and rights of the persons in their roles as investors. The section 168 of the Companies Act 2006 ensures that the interests of shareholders are protected by the directors.[4] Thus, directors have fiduciary and contractual duties for protecting shareholders. The Alteration of a Company’s Articles of Association adequately balances the requirement for flexibility with the need to protect investors. For instance, according to s283 of the Companies Act 2006 offers “a special resolution of the members (or of a class of members) of a company means a resolution passed by a majority of not less than 75%."[5] Thus, before an alteration is made, a special resolution is conducted via voting whereby majority shareholders (three quarters) must be present to support the articles provisions under amendments. During alteration process, the members with voting rights (shareholders) propose the amendments and support, thus ensuring that the interests of the shareholders/investors are protected. After the 75% have voted to alter the company’s articles of association, the inclusion of a acts which would allow 10% shareholder to veto the changes would be illegal because such an action fetters the statutory rights of a company.[6] 

The alteration of articles of association creates an essential facet of the way any company functions. Based on s2 (2) of the Act, it is stipulated that the articles of association can be altered occasionally in pursuance of the present of previous Act.[7] Alteration thus is a necessary element for the manner in which a company functions because within the environments in which it operates, changes are bound to take place within a course of time. For instance, the shareholders may find that the objects for which the company was established are limiting and the need for alteration. In addition, in order to ensure that the internal distribution of powers as well as the functions between the directors and shareholders may not be appropriate and under such circumstances, alteration of articles of association may be recommendable. In other cases it is desirable for the investors to extend the object of the company in order to as to increase or reduce the powers of the directors, create varied classes of shares, or to alter the voting rights.[8] It is in such circumstances that a company may find it absolutely necessary to alter the elements of its articles of association to enable its progress and success.

While flexibility and ease of alteration is important, excess powers on the directors could have different consequences. For instance, having the powers to amend the articles without adequately safeguarding the welfare of the investors could likely to affect the interests of different stakeholders, including the shareholders. The power to alter the articles of association is essential powers and it ensures efficient and smooth operation of a company.[9] The articles of association do not have the final word on the manner in which the duties and rights of the members of the company are allocated. In case the company is part of an agreement because it was the wish of the shareholders to add security of enforcing it against the organization, the agreement only becomes enforceable if there is no conflict with the Companies Act 2006 provisions. In Punt v Symons[10] the shareholders agreed to prevent the organization from having the powers to alter the articles of association, but the judge regarded such an act as null and void. Thus, in case a shareholder agreement has a provision which prevents the alteration of articles of association, then it is unenforceable.

The alteration of a company’s articles is basically safeguarded by the checks and balances that must be followed based on Companies Act procedure in case of articles altering. For example, a special resolution is needed and for any alterations made to the articles of association must be carried out in good faith to ensure that the company and different stakeholders benefit from the amendments.[11]. In Wood v Odessa[12] it was ruled by the court that “The articles of association constitute a contract not merely between the shareholders and the company, but between each individual shareholder and every other”.[13] It is for the shareholders to make sure that the alterations made are to the best interests of the company, and to ensure that majority shareholders do not abuse minority shareholders. An alteration of the Articles of Association is regarded as significant and representing the interests of the company when the most of the shareholders vote in support of the proposed amendment. In Allen v Gold Reefs[14] the articles of association had a provision that imposed a lien on shares paid partly. In the case, the articles of associations were altered to enforce a lien on paid shares partly. The court ruled that given that one of the shareholders was indebted at the time of the alteration was made; it was in the interests of the organization. Thus, when alteration is made, it is in the interests of the shareholders.

The alteration of articles of association are safeguarded and protected by judicial restrictions. The alternation made on the articles must be in good faith and beneficial to the company, which makes it flexible in protecting the benefits of the investors. Any alteration made by shareholders for fraudulent or aggressive majority is deemed not valid.[15]  This has been illustrated in the Brown vs. British Abrasive Wheel Co[16] case which in concerned with the validity of altering constitution affecting the interests of shareholders. In the case, 98% of the shares were possessed by few shareholders, and “the company passed a special resolution that a shareholder, at the request of the holders of the 90 per cent issued shares, shall be bound to sell and transfer his shares to the nominee of such holders”.[17] The ruling made was that the alteration did not benefit the company, but majority of the shareholders. Subsequently, an injunction was granted by the court restraining the organization from undertaking the resolution. However, in case the alteration was made in good faith and it benefited the company then it could have been valid, even if the interests of some members were affected. In contrast in Side Bottom vs. Kershaw Leese and Co.,[18] the court upheld the alteration because the alteration benefited the company as well as individual shareholders. This is because the changes to the articles of association allowed compulsory purchase of shares belonging to ant shareholders who competed with the company.

The judicial restrictions ensure that there is a balance between the vested interests of shareholders and other stakeholders. Any alterations of the articles of Association by majority on the minority that are perceived as fraud are not valid. Ashok Sharma pointed out that “if an alteration in the articles is made by a majority of shareholders to curb or defraud the minority shareholders, and the latter are deprived some advantage, it shall be unoperative and liable to be impeached.”[19] Thus, this principle protects the interests of minority investors to ensure that they are not defrauded in an event alterations are made by majority shareholders. The principle can be illustrated based on the Menier vs. Hooper’s Telegraph Works[20] whereby a resolution was made by majority shareholders, but the court ruled in the favor of the minority shareholders to ensure that the interests were protected.  Thus, the Companies Act 2006 has restrictions which ensure proper balance between the rights of the minority and majority shareholders. Thus, in case of mismanagement of their powers, alteration could be made to ensure that minority shareholders are no abused. Alteration of the Articles of Association can ensure that the majority of shareholders do not misuse their powers to oppress or fraud minority shareholders.

A minority shareholder has the right to petition the Court under the Companies Act 2006 to make a report related to unfair conducts on affairs of the organization by the majority shareholders. For instance, when there are breaches of shareholders’ agreement, breach of fiduciary duty, or the company’s articles of association, the minority shareholders can approach the court and ensure that alterations are made to protect the interests of the company and those of minority shareholders.[21] Alternatively, the articles of association may have weighted voting rights to ensure that the shareholders could have adequate number of votes needed to defeat the set resolution to alter the articles of associations. Moreover, given that alterations are supported by 75% of the shareholders, then more than 25% of the minority shareholders with voting rights have the capability to block special resolutions.

The power of alteration is provided under the Companies Act, but is regulated by certain statutory limitations. For instance, the altered articles of association have to bind the members of the company in similar manner as the original articles. Therefore, the alterations cannot be in contravention with the provisions found in the Company’s Act.[22]  For example, the alteration must not be an attempt make amendments forbidden under the Act. In addition, the alteration must not contravene the provisions related to statutes in operation. For example, if the alterations made are to benefit some shareholders through purchase of shareholders, then the amendment is void. Moreover, the Companies Act protects the investors from being affected by the alterations on the Articles of Associations.

Conclusion

The articles of association provide the powers and responsibilities of the directors, powers, shareholders, and the way to exercise the powers of members exercise control over the BOD. The alterations of Articles of Association are covered under the Companies Act. The Articles are usually altered by companies by passing a distinctive resolution. From the critical analysis, law relating to the alteration of a company's articles of association adequately balances the requirement for flexibility with the need to protect investors. For instance, an alteration is supported by at least 75% majority shareholders, which ensures that the interests of investors are protected. The articles of association are an essential document and any form of alteration needs an intricate and complicated procedure. For instance, for an alteration to be conducted, a balance between majority and minority shareholders is promoted to ensure proper functioning of the company. The alteration of articles of association are safeguarded and protected by judicial restrictions. In addition, the welfare of the investors is safeguarded under the judicial restrictions provided under the Companies Act. Flexibility and ease of alteration is important because it ensures that excess powers on the directors are prevented. The alteration of a company’s articles is protected by the checks and balances which have to be followed in accordance to Companies Act procedure. For instance, alternation made on the articles of association have to be in good faith and beneficial to the company, hence protecting the benefits of the investors.

 

 

 

 

Bibliography

Articles

Ryan, Chris (2008) “The statutory contract under s 33 of the Companies Act 2006: the legal consequences for banks Pt II" 7 JIBFL 360

Williams, Richard “Bona fide in the interest of certainty" Case Comment Cambridge Law Journal 2007

Books

Davies, Paul. Gower and Davies: Principles of Modern Company Law, 7th edn (Sweet & Maxwell: London, 2016)

Dignam, Alan and Lowry John, Company Law (OUP Fifth Edition, 2009)

Griffiths, Andrew. Contracting with Companies. (Hart Publishing: London, 2016)

Hicks, Andrew and S. H. Goo. Cases and Materials on Company Law. (Oxford: Oxford University Press, 2008)

Sharma, Ashok. Company Law. (VK, India, 2011).

Cases

Allen v Gold Reefs of West Africa Ltd [1900] 1 Ch CH 656

Brown v British Abrasive Wheel Co. Brown v British Abrasive Wheel Co [1919] 1 Ch 290.

Companies Act 2006

Menier v. Hooper's Telegraph Works (1874) L. R. 9 Ch. App. 350.

Punt v Symons & Co Ltd (1903) 2 Ch 506

Sidebottom v Kershaw, Leese & Co Ltd [1920] 1 Ch 154

Wood v Odessa Waterworks Co (1889) 42 Ch D 636