COMMERCIAL TRANSACTIONS – VERSION 2 (By Mr. Chrispine) – PART 1

OUTLINE 

BUSINESS ORGANIZATIONS (1st sem)

–        Company law

–        Partnership

–        Law of Agency

 

TRADE/ COMMERCE (2nd sem)

–        Sale of Goods

–        Hire Purchase

–        Negotiable instruments

 

DEBTS/ SECURITY/ INSOLVENCY (3rd sem)

–        Law on movable securities (inc. Chattels transfer)

–        Insolvencies documentation

 

COMMERCIAL AGREEMENTS

–        Commercial agreements

–        Construction of specialised contracts

 

Presumptions:

–        Contract law, Company law has been done

–        Basics of SOGA and HP known (what is the distinction?)

–        Analytical and discursive abilities

 

3 QUESTIONS PER WEEK

 

 

Tools:

–        Statutes:

Companies Act 2015Company Rules 2015 (amended 2016)Partnership ActLimited Liability Partnership Act (2012)Law of Contract Act Sale of Goods Act Hire Purchase ActMovable Property Securities Act (2017)Chattels Transfers Act Cap 28 (repealed)Insolvency Act (2015)Insolvency Rules Bills of Exchange ActCheques ActNational Payment Systems Act (2011)

 

Books

Key landmark cases

Precedents- agreements, correspondence, memoranda, briefs (to know flow of documents)

Custom and trade usage (get a list of such)

 

Applying principles to legal problemsCross- cutting questions across all topics  Take into account technological advancement e.g. ecitizen used to file returns instead of going to Registrar (but do not write ecitizen in the exam)

 

Sole proprietorship:

–        Simplicity

–        Flexibility

 

Partnership:

Jointly undertaking in a commercial activity with a view to profit.

Where two or more persons are engaged in a profession e.g. lawyers, accountants etc. If there is a requirement for people to pool resources together including expertise and services as well as capital.

 

Statutory corporations:

–        Bodies corporate that have been established by statute (Act of Parliament, Legal Notice/ Gazette or a Regulation) e.g. Kenya Ports Authority, Kenya Maritime Authority, Kenya Pipeline, IEBC

–        Public function could be regulatory, for service

 

Cooperatives:

Established under the Cooperatives Act

–        There should be commonality of interest

–        Registered under the SACCO Act; registration formalities of a SACCO are tedious and complex (application to CEO of SASRA, get a by law, etc.)

 

Trusts:

–        Registered under the Trustee (Perpetual Succession Act)

–        Legal entity under which one party, the trustee, holds assets/ property as a fiduciary to another party known as the beneficiary

 

Why a trust?

–        To secure future interest of a minor

–        Efficiently manage an estate in probate

–        To manage taxes

–        For charitable reason

–        To exercise the rights of large groups of people e.g. Employee Share Ownership Schemes, Real Estate Investment Trusts, Group ranches (community rights), syndicated financing etc. 

*** What are the requirements of registering a trust and what is the process; trust deed, make application etc.

Key provisions of a trust deed:

– Declaration of trust- amount of capital

– Objects clause- purpose of trust

– Trustees clause- initial trustees, term, how to remove and add trustees

– Governance and maintenance of trust- meetings, called by who etc.

– Financial records and accounts

– Dispute resolution clause

COMPANY LAW

–        What makes companies an attractive business form

–        Types of companies and their requirements

–        Why people form partnerships?

–        Technological advancements and how they have impacted commercial transactions (how technology interacts with the law)

 

Corporate Personality of Companies

Rationale of LLC- separate distinct legal person from its members; Salomon v Salomon

* The members of the company are not liable for the company’s debts. The only liability is to the extent of unpaid share capital that has been allotted to them.

No member can bind the company other than in the proper procedure.

 

Governance Mechanisms of a company:

– Director’s meetings

– Shareholder meetings

 

* A company can own property. The assets of the company don’t belong to individual members. Property can only be distributed upon transfer or dissolution of the company.

* A company can sue and be sued in its own name. No member of the company can sue on behalf of the company. Any suit/ defense by the company must be duly authorized in accordance with the company constitution.

Exception- derivative actions

* Every third party dealing with the Company in good faith is allowed to presume that the company is duly authorized by its constitution to enter to enter into the transaction.

Third parties not required to go beyond the veil of incorporation (inquiring into internal operations of the company- presumption is rebuttable)

 

Section 32/33

 

Section 34- a Company is allowed to enter into contracts through authorized persons including;

* Directors (presumption they all have authority to commit the Co.)

* Authorized persons- have been duly authorized by Company constitution and the authorization must be current and valid

* Any other person as constitution may provide

 

Company Constitution

– Recognized by the Act as valid if done according to the Act; formerly referred to as the articles of association

The 2015 Act states that it is:

– A document or bundle of documents passed by the Company providing for its internal governance

– It is not mandatory

– Can be a resolution passed by members

– Can be contained in the minutes of meetings of members

– Can be contained in a shareholders’ agreement

 

Draft all the above documents, i.e. Constitution, resolution, shareholders agreement etc.

 

The provisions of the Company constitution are binding.

 

Importance of shareholder’s agreement:

·       States the number of shareholder

·       Provides for the appointment/ removal of shareholders

·       States the roles reserved for Directors and those for Shareholders

·       Points out threshold of decision making in the Company e.g. a Co can decide that the threshold for special resolution is 90%

·       Reserved matters e.g. appointment of key people, alteration of share capital, makes provisions for mutual parting of ways including;

–        The right of first request

–        Call and put options- members can buy shares from other members at its first price/ pre- agreed price (gives notice to directors tendering your shares if you want to leave the Co)

* Know how to draw call and put options

–        Tag along and drag along rights providing for how to amicably and mutually separate:

* Tag along- rights of minorities

* Drag along- rights of majority shareholders to force minority to sell their shares in an exit (important in private equity transactions)

·       Dispute resolution- default is usually negotiation followed by arbitration

·       Range of businesses to participate in; the more you expand, the more liabilities/ expenses increase

·       Financial records and reports- regular updates on company performance is important; this requirement is included in the Co constitution e.g. who will prepare them; how will they be circulated; to whom etc.

·       Modification of obligations of Company can be done in the Co constitution

Section 34-38– identifies how contracts will be executed by authorized persons; e.g. if seal is required, at least 1 director must witness  (only directors)

·       Document required to be signed and witnessed

·       Signature of authorized person must be witnessed

·       Most documents don’t require seal except e.g. employment contracts among others

·       Not mandatory for the Co to have a seal e.g. if Co deals in activities not requiring seal

 

                                                            

 

 

 

 

 

 

 

5 types of companies

Private limited liability companies- s9

–        It can have a minimum of one person

–        Can have one director

–        Doesn’t have to have a company secretary

–        Must have share capital

–        Must in all stationery/correspondence the words ltd.

Core rationale- to maintain control of shareholding and active decision-making

BUT a private limited liability company has a limitation of attracting capital from a wide source of ranges

 

Public limited liability companies- s10

–        Must have a company secretary

–        Must have at least two members

–        Must have at least two directors

–        Must have share capital

–        In all its stationery/correspondence must have the word plc.

Can float shares to public thus being able to raise more capital. The shares are easily transferable and has less restrictions

A public company has enhanced compliance and supervisory regime- must make financial returns and reports public, must have CS

Public company has a market for its shares whereas private co does not.

BUTit is expensive and complex to run; decision making is curbed and is costly, time consuming and complex (must send notices 21 days before making decisions)

You can’t restrict who comes in thus leading to less control. This can be mitigated by limiting the number of shares that can be transferred.

If, for whatever reason, you need to keep company affairs confidential, a public company is a problem because of the requirement of disclosure (filing of public reports available to the public).

 

 

Unlimited companies – s8

–        No limit on the liability of its members (Liability of members not restricted to share capital)

–        Must have at least two members (otherwise, there is no distinction from sole proprietorship)

–        Once registered the company must have ‘unlimited’ in all its communications

Unlimited company is began when there is no start-up capital and there is need to assure the investors

A wholly owned subsidiary of a strong subsidiary can afford not to have share capital because if liability arises, there is guarantee from the holding company that they will assume liability

BUTit’s not a common form of company therefore not easy to attract funding for unlimited companies

Erodes the core benefit of companies as entities which is to restrict the liability of the members from that of the company

 

Limited liabilities companies by guarantee- s7

–        No share capital but provides the guaranteed amount

–        Members limited to the amount they guaranteed

–        Must have at least two directors

–        Must say in its communication that it is limited by guarantee

–        Must have two or more members

Formed for a particular public purpose which is normally a charitable/ altruistic purpose. Find people who can guarantee certain amounts (money must not be given initially; only the guarantee is necessary)

Initial cost of establishing a trust is way higher and formality is longer (can take up to two years) as opposed to company

Decision making of trust is limited by objects but in a company limited by guarantee, you have much more leeway

 

Registered foreign companies

–        Companies legally and validly registered in countries other than Kenya but meet requirements of registration in Kenya (e.g. having address of company, having nominated rep authorised to receive communication in Kenya, having a current and valid registration from country of origin, being established for objectives not contrary to public policy or interest of republic of Kenya). Only companies that want to conduct business in Kenya.

Why not a registered subsidiary in Kenya?

 

Know all processes of starting the companies

1.     Log onto eCitizen account and do a name search; if name is approved you can start registration process

2.     Fill company registration form CR1.

3.     Fill details of directors and shareholders and upload scanned copies of I.D. card/passport, KRA PIN certificate and recent coloured passport photograph. Directors/shareholders have to be registered on the iTax platform.

4.     Fill shareholding details.

5.     Fill a notification of directors’ residential address – Form CR8.

6.     Fill the statement of nominal capital.

7.     Pay requisite prescribed fee

8.     Submit to Registrar for approval

 

Assisting client to start a business;

First question- what business do you want to do? In order to determine the most appropriate business method

Names- certain names can’t be used, have three or four options (part V)

What is the nominal capital and how will it be paid out?

 

PROCESSES****

Conversion of private to public and vice versa

 

Part VI- ALTERATION OF STATUS OF COMPANIES

 

1)     Conversion of private company into public company- Division 2

It has to:

* Pass special resolution

* Company must have share capital

* Company must have not previously been converted into unlimited company

* Co has made changes to its name and articles as required of public companies

* Apply for registration of conversion if the nominal value of company’s allotted share capital not less than authorized minimum

* If previously unlimited, change its articles in order for it to become company limited by shares

 

 

2)     Conversion of public company into private company- Division 3

Application for registration must contain

– Statement of company’s new name on conversion

– Copy of resolution converting company to private limited company

– Copy of company’s articles as proposed to be amended

– Notice of cancellation of shares

– Statement of reconstituted shares

Then on registration of conversion, Registrar will issue certificate of incorporation

 

 

3)     Conversion of private limited company into unlimited company- Division 4

– All members of the company must assent to its conversion

– The company shouldn’t have been previously registered as an unlimited company; If there is a bankrupt member, trustee can assent on behalf and if a member is deceased, the executor or administrator can assent

– Company to make changes to names and articles ensuring that it’s in line with unlimited company requirements and if it is to have share capital, as required of an unlimited company having shares

– An application is lodged with the Registrar containing an authenticated prescribed form of assent and copy of amended articles of the company

On registration of conversion, Registrar to issue certificate of incorporation and thus the company becomes unlimited and the changes in the company’s name and articles take effect

 

4)     Conversion of unlimited company into private limited company- Division 5

– A special resolution to convert is passed (must state if it is to be limited by shares or guarantee)

– Company must not have been previously registered as private limited company

– Company makes necessary changes to its name and articles, whether co is limited by shares or by guarantee

– Application for registration lodged with Registrar containing statement of company’s new name on conversion, copy of resolution, copy of amended articles and a statement of guarantee (by all members) where necessary

Registrar will issue certificate of incorporation on registration of the conversion, which will be conclusive evidence, that the requirements under the Act have been complied with

– If company has allotted share capital, within 14 days of registration, a statement of capital is required to be lodged by Registrar (including total number of shares, aggregate nominal value of the shares, particulars and number of shares in a class, amount paid up or unpaid on the shares)

Failure to lodge this statement of capital, the company commits an offence

 

 

5)     Conversion of public company into unlimited private company with share capital- Division 6

– All members must assent to conversion

– Company mustn’t have been previously registered as a limited or unlimited company

– Company must make changes to its name, articles as necessary

– Application lodged with Registrar containing statement of company’s new name, authenticated assent of members, copy of proposed amended articles

Registrar will issue certificate of incorporation on registration of conversion

 

COMPANY CONSTITUTION

Company constitution- any legally binding document that has been adopted, agreed to or passed by members of the Co to govern the internal relations of the Co.

Requirements:

– It must be a written document

– Must have been made and passed by the members

– Governs internal relations (indoor rule)

– Must be filed with the Co Registrar

According to the Act, any document that is the Company constitution is only binding if it is filed with the Registrar within 14 days of its passing. It is the responsibility of the CS to file and it is a crime if they don’t.

An innocent member can seek to enforce this Co constitution if they can show that the lack of filing was not due to their own omission or lack of diligence but it was due to another individual’s omission.

 

SHAREHOLDERS:

Part VII, VIII and XIII Companies Act (Company Members; Exercise of Rights of Members; Resolutions and Meetings)

A company has members who have met the following requirements; Section 92

– Subscribers of the memorandum of the company become members when the Co is registered/ incorporated

– Any person whose name and address is entered into the register of members

Technically, under the 2015 Companies Act, there is no requirement to be a ‘shareholder’ to become a member of a company. Every single company must have registered members, whether private or public, limited or unlimited. It is an offence of the Company and its directors, if there is failure to keep a register.

 

Particulars of what is included in a register is prescribed by the Act; Section 93

In a private company;

– The full names of shareholders

– The date when they became members

– Address

– Number of shares that they hold and the amount paid or agreed to be paid on the shares

In a private limited liability co, the register is kept at the registered address of company or such other address as stated by the company’s constitution and lodged with the Registrar; Section 94

 It is available for inspection by notice, only by members.

 

How to get a name into a register?

Application to the Registrar or Court to enable a person who has reasonable belief that they ought to be in the Register to allow them to inspect the register and to be included in the register through rectification (made as an application to directors who must be the keepers of the register)

 

 

In a public company, the requirements are: Section 95

– There are many members (more than fifty) so the requirement is to have a register of index of the members (made of initials and number of shares)- needs to be physical

– The index must be supported by a full register that contains all the details- can be in soft form

– The share register of a public company is available for inspection by members at no cost; Section 96(1)

– The share register of a public company is also available to public for inspection at reasonable cost; Section 96(2)

– Failure to make available the register is an offence (Section 98) but it may apply to the Court for an order (Section 97)

Any person whose name has been omitted or wrongly entered can apply to directors to amend register and if director refuses, to the Registrar and ultimately to the court

 

Any dispute as to the membership of a company, may only be heard by the court and can be proven by showing the register; Section 103

No trust, constructive or actual, shall be entered into the register; Section 104

The name of the actual owner of the shares must be entered, including a minor’s name.

Any agreement for an entity/ individual [IA1] to hold shares for another is void.

 

Transitional provisions- what about entities which were holding shares for others?

The Companies Act will be fully implemented by the 9th year i.e. 2024.

 

What determines what authority or powers members have over a company?

Rights and duties of members provided under:

i) Company’s constitution

ii) Companies Act: Section 114

* To receive notices convening general meetings of members that the company sends out

* To receive any proposed written resolution that has been circulated by company for adoption by members

* If co has different classes of members (e.g. A members without shares, B members with share etc.), every member has to receive any communication circulated to members of class one belongs to and if to the whole company, every member has the right

* Rights to receive copies of annual financial statements

* Right to require that directors convene a general meeting

* Right to be sent a proposed written resolution in order to prepare support or opposition of the same

* Right to require circulation of a statement in support or opposition of the same; if directors refuse, a member can at their own expense circulate the statement but can take an action in court against the directors and if found to have unlawfully refused, will be required to reimburse the member from their own pockets

Refusal can be justified if statement is illegal, obscene, scandalous statements etc.

* Right to propose and require circulation of a resolution

* Right to attend all general meetings of company or if meetings of class are called, members of that class have the right to attend that meeting

* Right to appoint a proxy to act at a meeting (who attends + exercises rights of members on their behalf); Section 298

* Information rights e.g. right to receive all communications, right to receive annual financial statements and to receive hard copies of all documents circulated through other softcopy forms; Section 115 (if a person is nominated to receive information)

 

 

 

How do members exercise these rights? Part XIII (Resolutions & Meetings)

The powers and rights of members exercised through; Section 255;

A) General meeting- duly convened and a resolution passed at that meeting

B) Passing a written resolution circulated among members and passed

 

Types of resolutions (in both ways):

– Ordinary- passed by simple majority (50%+1 vote); Section 256

– Special resolution- passed by a special majority (not less than 75% of the votes); must’ve been proposed as a special resolution to be passed as such; Section 257

 

Division 3:

General meeting– is only a valid meeting if certain formal requirements have been met e.g.

– Notice period prescribed by Co constitution must be adhered to (minimum of 21 days under Co Act but Co can extend the notice period to more days); Section 281, 278

– Notice must be circulated to all members regardless of voting rights, shares held etc. and director; Section 284

– Notice must specify time and date of meeting, place of meeting and general nature of business to be dealt with at the meeting; Section 285

– Notice can be circulated to the members by; Section 282

* The address provided by members (can be PO Box, physical, email etc.) Every notice sent through electronic mail must be followed by PO box or physical delivery

* Publication in widely circulating newspapers (provided Co constitution allows it)

* Being posted in the company’s website (provided Co constitution allows it)

 

If directors are required to convene meeting under Section 277 and fail to do as required by Section 278. Members who requested the meting or any of them representing more than one half of total voting rights may convene a general meeting- Section 279

Section 280– power of Court to order GM to be convened on its own initiative, application of director of company or of member of the company who would be entitled to vote at the meeting

 

Who is entitled to attend GM?

– All members of a company

– All directors

– All the inter holders*** (venture?)

– Auditors of CO in AGM

– Registrar or representatives

– Any proxy holder who meets conditions of being a valid proxy e.g.; S298, 299

*  Must have been appointed within the prescribed time

* Due notice of appointment given to directors before meeting- Section 301

* Must be appointed in writing (obligation of proxy must be made clear i.e. can be generally to attend or for only acting in specific matters)

* Appointment must be in the prescribed form

 

Joint owners of shares- one or more proxies? The person whose name appears first alphabetically votes/ senior holder; Section 260

 

Procedure at company GM– Subdivision 2

Quorum for GM is one person if one person company or two qualifying persons in case of any other company but subject to articles of the CO; Section 292

Members present may elect through ordinary resolution, one member to preside at GM; Section 293

 

Additional requirements for GM in public companies– Division 5

Every public company to hold AGM within 6 months from the day following its accounting reference date in each year, failure of which it’s an offence- Section 310

Notice required in S298 can be shorter if members entitled to attend and vote agree to the shorter notice; Section 311

Members (representing 5% of voting rights/ at least 100 members who have voting rights)  may require company to circulate resolutions to be proposed at AGM, unless it is illegal/unconstitutional, defames a person or is frivolous and vexatious; Section 312, 313

 

 

 

How do members vote?

– At an AGM, unless otherwise specified in Co constitution, it is the principle of one share, one vote in a company that has share capital and one vote each if company has no share capital; Section 258

The Co constitution may say certain classes of shares are heavier e.g. one share, twenty votes

– Where a poll (counting of people) is taken after a meeting, the voting will be on the basis of voting rights (one share, one vote); decision will be taken on majority of voting rights

– At GM, decision making can be by show of hands on the basis of the present persons, not on number of shares

 

Unless specified otherwise, members whose names appear in register have voting rights.

Any person whose name appears on the register has right to vote unless Co constitution specified otherwise (e.g. not including people who are members but have no shares)

No company is allowed to take a decision by acclamation.

 

Company constitution can provide that certain decisions can only be taken by certain class of people e.g. if a family co you can provide only members of the blood family have class A shares and only they can vote on appointment of MD

 

Written resolutions: Division 2

– Directors or members of a company may propose written resolutions; Section 262

– Must be circulated within the prescribed time

– Some decisions can’t be taken through written resolutions e.g. removal or appointment of auditors (S739) or removal of directors before their time has ended (S139)

– Company constitution may specify other circumstances where written resolutions cannot be used

– A resolution must be circulated in the agreed format and to agreed addresses of all the members- Section 266, 267

– Resolution must be open for adoption or rejection at least within 28 days; Section 271. However, a written resolution is deemed to have passed when it has met the required number/ majority

– Every resolution when circulated must clearly state action required of members and how to signify their approval

– Before it is passed, every member has right to ask for clarification before window for clarification is out

– A public company cannot circulate written resolutions

– Written resolution can’t be moved if it is inconsistent with a written law or company’s constitution, it defames a person, is frivolous or vexatious- Section 266

 

 

 

PROTECTION OF MINORITY RIGHTS

 

Minority– anybody with voting rights less than the required minimum majority.

 

Unfair prejudice principle:

Must be both unfair and prejudicial to the minority.

– Minorities don’t have to be protected from decisions they don’t ‘like.’ They are only protected from decisions which unfairly prejudice them.

Provided the majority is acting legitimately, they should always have their way.

– You must be a true minority:

* Being in a position where, alone or in concert with others, you don’t have a majority control or rights to influence decisions of the company.

* In group companies and affiliates- a subsidiary of a group company cannot claim being a minority if the members of the rest of the company have joint control over the company.

* The threshold must be based on what the constitution of the company provides.

 

Decisions which can be unfairly prejudicial to minorities:

– When the company is being managed/run in a manner that is oppressive to a section of its members e.g. certain members are being excluded from decision making (right to receive notice, documentation etc.)

– When majority have exercised their rights to appoint directors who are unqualified/unfit/unsuitable to run the company

– When majority uses their power to vote to confer an exclusionary benefit that only accrues to the majority

– If decisions of majority are illegal or in violation of company’s articles

 

Impeachable decisions; how does the law protect the minority:

– Derivative actions- where any member of company, minority or not, can take out an action for harm suffered against the company, seeking relief on behalf of the company and where the directors have failed to act, either due to act or omission involving negligence, default, breach of duty or breach of trust by a director of the company (Part XI; Section 238)

A derivative claim can be brought under the Act or in accordance with an order of the Court in proceedings for protection of members against unfair prejudice.

– The law provides for codified shareholder rights which should accrue to all the members. A member can take action on them without having to seek out a resolution to enforce those rights.

– The law provides actionable duties of directors and every member or the company itself has a right to take an action where a director has breached his duties

– A derivative claim may be brought against the director or another person, or both

– The law recognizes that members can enforce company constitutions

– Act provides for higher threshold for certain important decisions i.e. special majority of 75% and above e.g. any deduction/change in share capital structure of company, any decision to merger or to do a takeover

(((list of decisions requiring simple majority vis a vis those requiring special majority)))[IA2] 

– Certain rights are automatic to minoritiesduring takeovers or mergers e.g.

* Tagalong rights- ability to require that in case of a takeover or merger, one’s shares must be acquired at the price that is being offered to the majority;

* Dilution rights- there must be full transparency in any process whose effect is to change the share capital structure therefore diluting the shares of the company e.g. through restructuring, amalgamation etc.; must publish an information memorandum on the whole process

 

* Consent by Registrar- e.g. alteration of company status, restructuring, etc.

 

Question- Are these protections effective for minority protection?

Look at international standards and compare to the Kenyan standards

(Kenyans doing business report by World Bank 2018)

* Ability to exit business is important

Are our minority exit provisions effective or are minorities involuntarily stuck in the companies while not being in control of decisions taken by the company?

 

The Majority Rule

The will of the majority prevails.

Foss v Harbottle laid down the majority rule:

Principles

–          the company is the prima facie proper plaintiff

–          the law assumes everything is right with the company

–          an irregularity that can’t be corrected internally has to be shown- McDoughall v Gardienes

Justification:

–          Enhances democracy in internal management of a company’s affairs

–          Prevents futile,  petty, frivolous and vexatious actions on matters that can be regularized internally

–          Prevents multiplicity of actions filed on behalf of company by other persons

–          Upholds the rule in Salomon’s case that company is a legal person that can sue and remedy any wrong within the internal affairs

 

Exceptions to Foss v Harbottle

The requirements that have to be met for derivative rights to kick in;

– Fraud- on the minority e.g. expropriation of corporate assets- Cook v Deeks; unfair use of majority voting power- Menier v Hooper Telegraph Wires Ltd

– Wrongdoers must be in control of the company; ability to influence voting patterns- Prudential Assurance v Newman Industries Ltd.

– The action must be representative in nature- one is not suing individually but on behalf of the company

– The company must be named the nominal defendant so as to benefit from any court orders

– The derivative action suit will be entertained only as a matter of grace; not as a matter of right

– dominus litis principle- the company still remains the dominant litigant although the action is representative; thus the company is free to withdraw it or settle it out of Court

 

 

Other instances to institute derivative action:

– Ultra vires or Illegal act- if a company is acting or threatening to act illegally, majority rule is inapplicable and representative action may be filed to restrain company

– Special majority- if decision requires special majority but is disregarded by company in coming to a decision, a representative action is available to compel company to act correctly- Edwards v Haliwell

– Infringement on individual rights- member may sue in representative capacity (on behalf of all members) whose rights have been violated- Pender v Lushington- plaintiff’s right to vote was violated

– Fraud on minority present- majority rule has no application in this scenario

– Oppression of minority- any member may file a representative action and discharge proof for remedy by a court order

 

 

Procedure of bringing a derivative claim

Section 239– member has to apply to court for permission to continue a derivative action. If not satisfied the Court will dismiss the application. If the application is not dismissed, the Court may give directions as to evidence provided by the company and may adjourn to enable evidence to be obtained.

On hearing the application, the Court may give permission to continue the claim or refuse and dismiss or adjourn proceedings and give orders as it considers appropriate.

Section 240– if a company brought the claim and the cause of action is based on the claim which can be derivative, a member of the company may apply to court for permission to continue the claim as a derivative claim.

This is on the grounds that the manner in which the company commenced or continued the claim amounts to an abuse of process of the Court, the company has failed to prosecute the claim diligently and it is appropriate for the member to continue it as a derivative claim.

If not satisfied the Court will dismiss the application. If the application is not dismissed, the Court may give directions as to evidence provided by the company and may adjourn to enable evidence to be obtained.

On hearing the application, the Court may give permission to continue the claim or refuse and dismiss or adjourn proceedings and give orders as it considers appropriate.

 

 

DIRECTORS

Foundational Rules:

– Every company must have a director

– Private company- 1 minimum; Public company- 2 minimum

– At least one of the directors has to be a natural person

 

Who is the superior decision making organ between directors and members?

* Directors execute decisions of members

* Directors are appointed by members

* Directors agents of shareholders?

 

Because a company is a legal separate entity, the members cannot make themselves the highest decision making organ.

– Co Act 2015- decision making organs are separate and none are superior to the other; each have unique and certain responsibilities; different decisions are made by different organs

– Companies are allowed to modify the exercise of decision making powers in their constitutions e.g. sale of assets above a certain amount will need consent of shareholders

Decisions that can only be taken by members and decisions that can only be taken by directors

Members:

i) Authorizing shares for allotment

Directors:

i) Execution of employment contracts

ii) Allotting or transferring shares

Transactions with directors that require approval of members- Section 155

– credit transactions e.g. supplying goods under hire purchase agreement, a conditional sale agreement; leasing or hiring goods for periodical payment; selling land; leasing land etc.

– director’s long term service contracts (more than 2 years)

– loans to directors to be approved by members

* Directors are special agents of the company;

i) Statutory obligations- Co Act sets out duties;

– To act within their duties under Co Act + Co Constitution- Section 142

– To promote the success of the company; Section 143

* Act in best interest of co

* Practice fairness

* Must protect interests of stakeholders- environment, public, govt., suppliers, partners etc.

* Be good corporate citizen; reputation

* Long-term sustainability of company

– To act legally

– Duty to exercise independent judgment- Section 144; director must make decisions; must not be under undue influence of another party; where a director is not qualified/ knowledgeable in an area, director entitled to seek individual independent qualified advice at the expense of the company to make a decision; not influenced by extraneous factors e.g. race, sex etc.

– Duty of reasonable care, skill and diligence- Section 145;

 

Two tests of skill:

*Objective test- what would an ordinary director in that position do?

*Subjective test- what would be expected of someone of your expertise, standing and skill?

 

Requirements of diligence:

* Director should devote enough time to the company

* Director must make contributions

* Director should not outsource decisions to consultants

– Duty to avoid conflict of interest- Section 146

* There must be an interest that is against that of the company

* Person with interest should not partake in making a decision

* Include entities/ individuals who the director has control over/ can act in concert with in making decisions

* A director shouldn’t be receiving gifts from the business partners so as not to be conflicted- this duty is absolute except in the manner provided for in the company’s constitution

– Duty not to accept benefits from third parties that will be in conflict with interests of the company- Section 147

 

If obligations breached:

– All remedies available under common law are available for this duty- specific performance, injunctions, rescission, restitution, and damages

– Disqualification of a director- if convicted, lasts between 2 years and 15 years from ever acting as director in another company

– Loss of office- resolution to remove director from office without compensation where it is proved that there was a breach

 

 

ii) Fiduciary obligations

They have been codified.

 

 

 

 

Director’s liabilities- Division 9

Provisions in company constitution, any contract or scheme of arrangement, should not purport to exempt a director of a company from liability that would otherwise attach to the director; such exemption would be void; or where a company provides indemnity for a director against liability attaching to that director is not permitted

 

Resolutions to remove directors from office

Section 139- a company may remove a director before the end of the director;s period of office through an ordinary resolution at a meeting

– A special notice (14 days, or 7 days at the very least*) is required for a resolution to remove a director or to appoint a person to replace the director

A person who ceases to be director continues to be subject to duty to avoid conflict of interest and not to accept benefits from third parties

– The person removed as a director can still claim for damages

 

Director’s right to protest against removal

Section 141- on receipt of notice of a motion fro a resolution to remove a director, the company shall send a copy of the notice to the director concerned; the director may be heard on the discussion of the motion at the meeting

– within 21 after notice is given the director may make a representation in writing to the company and request the members to be notified

– on receipt of the request, unless sent too late, will send a copy of the representation to the members who were sent the notice of the meeting; if not sent, the representation may be read orally at the meeting; unless it contains defamatory matter which will be decided by the court which can dismiss the application or uphold it

 

Disqualification of directors (process)– Part X

Court makes a disqualification order; can be on grounds such as criminal convictions, or where director is found guilty of fraud in the company, breach of duty as a director

– the maximum period that can be imposed in a disqualification order is 15 years

 

 

SHARE CAPITAL

The sum of the total number of authorized shares times the value of those shares

Share capital;

– Determines ownership rights in a company i.e. the stake that a member has in a company is the amount he has contributed.

– Rights attaching to share capital; dividends payable by the company to shareholders etc.

– How changes in share capital can be made and the effect of such changes

 

Requirements on a company;

i) Where a company has share capital, it must maintain a registerwith serial numbers of the shares

 ii) A company is required to declare its share capital in the prescribed forms to the Registrar

iii) The Companies Act requires that share capital be direct and transparent (should be in the name of actual owner)

 

How share capital is raised?

 

Types of shares:

Every co is at liberty to decide number, types, costs and rights attaching to which classes of shares

 

Traditional classification

* Preference shares- with limited voting rights and a first/prior right to annual dividends of a fixed amount; it is not a right to compel the company to pay the dividend if it declines to do so e.g. if the company decides to transfer profits to reserve or make a provision for a loss or liability instead of paying dividends (Bond v Barrow Haematite Steel Co)

Types– cumulative and non- cumulative (cumulative if you are not paid this year, you’re paid double next year), redeemable and non- redeemable (cant be redeemed after expiry of fixed period), participating and non- participating (not entitled to participate above specified rate) preference shares

* Ordinary/ equity shares- carry one vote per share and are entitled to participate equally in dividends; but there can be ordinary shares of different nominal values; are paid dividends last

* Deferred or management shares- carry extra voting rights to retain control of the company, e.g. to original owners of the company

* Employee shares- allow employees to acquire shares in their company, with some other advantages e.g. tax benefits; an employee share scheme can be a:

– share option scheme- employees have option to buy shares in the future at a price set earlier

– share gifting scheme/ free shares scheme- given free of charge; they are held in trust for a period of time

– or share purchase scheme- an employee can buy shares in company at a discounted rate

 

Classes– Section 392 states that shares are of one class if the rights attached to them are in all respects uniform.

Section 393- rights attached to a class of a company’s shares may be varied only in accordance with the provisions of the company’s articles providing for variation of those rights or

– if there is a written consent of holders of at least ¾ nominal value of issued shares of that class or

– a special resolution passed at a separate general meeting of holders of that class sanctioning the variation

Section 400- if rights attached to shares are varied, the company shall, within fourteen days after the date on which the variation is made, lodge with the Registrar for registration a notice giving particulars of the variation

 

a) Classification by voting rights

– Weight of votes held or non-voting shares held

Where all shares are ordinary/ preference, it is possible to have classes within them who have non-voting shares or shares whose votes carry more weight

 

 

 

 

b) Classification by value of shares

– Nominal/ par value- value on the face of the shares

– Market value of shares- determined through financial calculation; what a willing buyer and willing seller would exchange for the share

– Net present value

– Sale of shares by discount (based on market value/net present value) or premium (higher price) or at market value

– It is illegal to transfer shares at a discount to the nominal/par value- liability is to the extent contributed; will reduce share capital of co without seeking authorization

 

Share premiums

Section 386- Every co is required to establish a share premium account- money available for company to buy back its own shares; savings to restructure its share capital

In addition, a company must transfer the premium from any sale of shares to that account. Having done so, the company may use the account to pay for commissions and expenses or costs of the issue of those shares; and pay up new shares to be allotted to members as bonus shares.

 

The only exception is where there is a reorganisation among group companies – eg if a holding company is giving shares to one subsidiary, the holding company needs not maintain a share premium account.

 

 

c) Where are shares owned

 Share capital- total number of shares * total value of each share

– Authorized share capital- all shares that have been approved for allotment

* Only shareholders can pass resolution to authorize share capital

* The resolution can only be valid for 5 years

* The authorization is given by an ordinary resolution

* Directors must only allot/ transfer shares that have been authorized and that authorization is still valid

Unauthorized share capital= total share capital – authorized share capital

 

– Allotted shares- not all authorized shares have been allotted; shares are deemed allotted if they have been duly allotted under the company’s constitution

* Powers to allot and register transfer of shares are only duties of directors (majority formal decision of directors)

* Directors may only allot authorized shares

* Allotment must only be done in manner and to persons authorized under the company’s constitution e.g. private co allowed to restrict to whom shares can be allotted (if shares allotted to unauthorized, they are invalid and of no consequence)

* When allotment is done, it must be entered into the share register of company. A return must be made within 14 days to Registrar

 

– Paid up share capital- allotted, transferred or otherwise validly acquired by person who has paid full price (par value) for those shares. Owner of shares so company can’t exercise proprietary interest except if there is cancellation or voluntary transfer.

– Unpaid share capital- allotted but person has not fully paid par value to the company. These are subject to call (by notice) by the company (requiring people to pay up within a specified period or forfeit the shares)

 

 

Transferability of shares:

i) Nature of companies

* Shares in a public co are freely transferable- they can be acquired by any member of public provided they are willing to pay the price.

The directors have very limited powers in the transferability of shares

* Shares in a private co will only be transferable in the manner and to the persons agreed by the members or provided for in the co constitution

Every transfer is subject to approval of directors; every transfer of shares must be notified to directors, registered and given effect by the directors

 

Both private and public co are allowed to have in their constitution pre-emption and rights of first refusal:

a)     Preemption rights- where there is a proposed transfer, the person wanting to transfer must first ask the members

 

b)     Right of first refusal- exercised by;

i) Intending transferor must give notice in prescribed form to directors of intention to sell shares

(notice period not less than 28 days within which …)

– Pre- agreed price

– Price based on market value

– Price based on amount agreed with 3rd party

ii) Directors must circulate this to all members

iii) Person selling shares is obligated to accept all offers for shares from any member who matches the price and comes within the requirements

 

Means of raising share capital:

Companies need share capital to raise funds to finance the business activities of the company. The activities are funded by equity (through share capital) and debt.

 

* EQUITY CAPITAL

How to raise equity?

1.     Making offer to public

Legal prerequisites of a public offer:

i) Made to general public; a section of public can be considered general public

An offer must not be public just because it has been publicly made; advertising an offer does not make it public

ii) Public offer can only be made by public company

Publication of any offer/ prospectus asking members of public to subscribe to shares must be approved by the CMA

 

ii) Private offers- offers of shares whether by a public or private company that has been made to a specific group of persons

– Private placement for public company can only be made with approval of Registrar

– Private offer you seek exemption from CMA

Details of offer are found in the prospectus/ information memorandum; must meet certain prescribed requirements under Capital Markets Act and Companies Act

– Private placement must be targeted; must not entice the general public

 

Other methods:

2.     Rights issue

Issue of rights to a company’s existing shareholders that entitles them to buy additional shares directly from the company in proportion to their existing holdings within a fixed period. The subscription price is usually at a discount to the current market price

* Incentive for existing shareholders to provide additional capital

 

3.     Capitalization issues?

To capitalize results- every time a company makes profits which are not distributed as dividends or invested back into business, they go into a capital reserve account; those reserves can be allotted .. a company issues fully paid shares to existing shareholders as a result of a rearrangement of a company’s capital structure*??

 

4.     Initial public offer

Listing of shares in a company in a public exchange for the first time, in order to;

* Have access to wider capital base

* Disclosure requirements for IPO must be met for public confidence

* Companies publicly list for prestige

* Improves their profitability

 

5.     Bonus issues– similar to rights issues but the company issues extra shares to existing shareholders at no cost

The company capitalises its dividends, instead of issuing dividends, you can convert them into shares and issue them to the existing shareholders

 

6.     Listing by introduction– where a company lists its shares in the public but does not offer any extra shares for subscription by members of the public; only existing, allotted and issued shares are listed; for a public member to access, they have to buy from existing shareholders.

-Compared to IPO, it is cheaper, less disclosure rules, less compliance rules etc.

 

 

Private placement by;

– Pure subscription

– Transfers

– Share restructure; e.g. by

+ Split shares

+ Amalgamating shares

 

Issue and allotment

Section 327- directors of a company may exercise powers of allotment of shares

Allotment- person to whom share is allotted acquired unconditional right to be entered into the register of members as holder of that share; the board of directors consider the application and formally resolve to allot the shares

Issue of shares- takes place at a later stage where allottee receives a letter of allotment or share certificate issued by the company

Nicol’s case– allotment is the acceptance by company of the offer to take shares; guided by the following rules of common law;

– company issuing a prospectus is an invitation to treat and applications are offers

– company’s acceptance must be unconditional; otherwise it is a counter offer

– the acceptance must be communicated to the applicant

– the allotment must be made within a reasonable time

 

Statutory restrictions on allotment;

Section 329- directors can only allot with authorization stating maximum number of shares they can allot; this authorization is valid for a period of five years subject to renewal

Section 332- a company shall register an allotment as soon as practicable and within two months of date of allotment

Section 333- within one month after making allotment, a limited company shall lodge with Registrar a return of the allotment (which contains information prescribed by the regulations and accompanied by a statement of capital)

In the statement of capital, as at the date to which the return is made, the following shall be specified:

i) total number of shares of the company

ii) aggregate nominal value of those shares

iii) for each class of shares-

* the particulars prescribed by the regulations

* the total number of shares of that class

* the aggregate nominal value of shares of that class

iv) the amount paid up and the amount (if any) unpaid on each share (whether on account of nominal value of the share or in the form of a premium)

 

Section 354- a public company cannot allot shares offered for public subscription unless the issue is subscribed for in full or the offer is made on terms that the shares subscribed for may be allotted in any event, or if specified conditions are made and those conditions are satisfied

If the shares are prohibited due to lack of full subscription, and 40 days have elapsed since the offer was first made, the company shall, without delay but without interest, repay all money received from applicants for shares

Section 356- a company cannot allot shares at a discount; if in contravention to this, the allottee is liable to pay the company an amount equal to the amount of discount with interest

Section 362- a public company shall not allot a share except as paid up at least as to one quarter of its nominal value and the whole of any premium on it; consideration should be in cash or if otherwise, the undertaking must be performed within 5 years of date of allotment

 

 

* DEBT CAPITAL

 

 

Problems arising out of dealings in shares (rights depending on share ownership)

– Shares can belong to company (unallotted; at disposal of directors to allot/ transfer in accordance to members’ special resolution valid for a period of 5 years subject to renewal)

– Shares belong to individuals (shareholders)- transferred/ allotted to them or as a subscriber to memorandum, shares written in his name

 

·       Allotted shares which are fully paid for

Shareholder no longer has liability to company as he can exercise rights attached to them (right to attend meetings, pledge shares as security, voting, participate in dividends etc.)

Can transfer those shares…

·       Allotted shares not paid for or partially paid for

How to pay for shares- negotiable instruments e.g. cheques, future promise, surrendering a property or good of equivalent value, undertaking on behalf of company etc.

 

Restriction on such shares:

– Any unpaid for shares can’t be transferred unless there is prior authorization of directors and the transferee undertakes to pay for them

– Cannot be pledged as security for borrowing without prior consent of directors

– May be restrictions on dividends subject to the articles

– May be voting rights subject to articles

– Are encumbered to extent that the company can exercise a call on them; notice to pay up the balance failure of which the company can either cancel the shares or reacquire them

 

·       Shares that will be deemed allotted upon fulfillment of a condition 

E.g. Employee Share Ownership Programs (ESOPs); an employee can be entitled to a certain number/ amount of shares subject to working for company for a certain period of time; usually employees have a cut in their salaries to contribute to this but if one does not fulfill the condition, the employee can claim compensation in lieu of the shares

Can’t exercise any rights until the time the shares have been vested in the individual

* Single directors can’t allot/ transfer; it has to be a board of directors with authorization from a valid, current member’s resolution

 

Transfer and Transmission

Transfer of shares

Section 362- shares of any member in a company shall be movable property  transferable in the manner provided by the articles of the company

 

Transfer procedure

Depends on the provision of the company’s articles which generally consist of;

– the transferor completes the transfer form stating the name of company, number and description of shares to be transferred, transferor’s name and address (unless it is a blank transfer), consideration paid for the shares and the transferee’s name and address

– the transferor signs the transfer form in the presence of a witness

– the transferor gives the form and relevant share certificate to transferee

– transferee signs transfer form in presence of a witness who also signs it

– transferee affixes appropriate stamp duty to the transfer form and lodges it and the share certificate with the company for registration

– the transfer is considered and approved by the board of directors

– the company secretary makes out a new share certificate in the name of the transferee and affixes the company’s seal thereon after it is signed by one of the directors and countersigned by the secretary or another director

– the transferee’s name is entered into the company’s register of members in place of the transferor’s name

– the new certificate is delivered to the transferee

The company must complete the certificate and have it ready for delivery within the prescribed period. If there is default in complying the company and every officer of the company who is in default shall be liable to a default fine.

 

Payment for shares

The 2015 Act permits payment by:

–       Cash

–       Cheque

–       Future promise

–       Undertaking to pay at a future date

–       Release of company from an undertaking

–       Any other payment means giving rise to future entitlement.

 

 

Effect of transfer:

Unless transfer is a gift, a transfer is a contract of sale effected through the agency of a stockbroker who is a member of NSE and will be evidenced by a purchase contract note and a sale contract note issued by stockbroker.

The property in shares is not vested in transferee unless and until his name is entered into the company’s register of members

 

Share Warrants and Certificates

Share Certificates:

Section 495- a certificate under the common seal of the company specifying any shares held by a member is, in the absence of proof to the contrary, evidence of the member’s title to the shares.

Section 496- a company shall within two months after the allotment of any of its shares, debentures or debenture stock, complete and have ready for delivery the certificates of the shares allotted.

 

If the company negligently issues a certificate that is incorrect in some material particulars it may be estopped from denying the correctness of the stated facts if a third party changes his position in reliance on them- Re Bahia & San Francisco Railway Co.  (forged certificate endorsed by the company sold to a third party; held the claim was valid)

 

 

 

SHARE BUY-BACKS

A company can acquire its own shares.

Why?

– The company organization and restructuring (prepare for merger or takeover etc.)

– Change of character

– If company has been undervalued by the market

– In compliance with law, regulation, or administrative requirements

Why are buy backs an option- unlawful reduction in share capital

 

Section 424 – a company can acquire its own shares in two cases, as provided in articles:

–       Capital reduction duly made (above)

–       Forfeiture of shares

–       Accepting surrender of shares by members

This mainly occurs when a public company to a private company. (case study- conversion of Rea Vipingo from public to private)

 

How?

– Authorized by resolution of members (for only a specific amount and there is a reserve price)

– By its articles

– Allowed by Companies Act

– Valuation report by company’s auditors- saying what is the fair value of shares before the resolution can be passed

– Company should not borrow to buy back its shares unless there is a special resolution by members allowing it to do so

– Company directors must prepare a solvency statement certifying that in their reasonable opinion the company can pay its obligations in the upcoming 12 months (if not, directors act illegally and can be punished through imprisonment)

– etc.

 

 

FINANCIAL ASSISTANCE

A company provides financial support for the acquisition of its own shares

Previously it was illegal. But under the new Act, it is allowed on certain grounds

Section 440

 

Why financial assistance?

– Supports leverage buy outs (common tactic in M&A/ private equity whereby a proposed acquirer uses the security of the company they intend to acquire to obtain debt from financial institutions); ability to negotiate good terms and credibility in the market

– Management buy outs- existing senior management of the co may wish to take over ownership of co but depending on the value, they may need to get debt in order to acquire ownership and control of the company; so they need to pledge the shares of the company as security

– Conversion from public to private (delisting from exchange)- in order to acquire its own shares from the market;

Forms of financial assistance:

– Through cash

– Guarantee

– Security

– Pledge

– Waive an obligation

– Swap of shares

 

Financial assistance allowed if:

–

–

– Doesn’t amount to fraudulent preference for some shareholders or directors

– Not to benefit directors personally

– Supported by solvency statement of directors

 

Exceptions- Section 446

* Company which in ordinary course of business lends money

* Employee ownership schemes (giving contribution to employees to buy shares)

 

 

Private equity is:

– Firm

– With restricted ownership or membership structure

– With discretionary pool of funds or investment

– In the manner determined by the constitutive documents of this firm e.g. shareholder agreements, investment policy, or its governing instruments

 

 

 

 

RESTRUCTURING OF SHARE CAPITAL

The company may need to reorganise its share capital for strategic reasons.

A limited company having share capital may alter its share capital only- S404

– by increasing its share capital by allotting new shares or

– reducing its share capital

 

Different types of restructuring and legal requirements for each:

1.     Increasing share capital, mainly by allotment attracts increase in liability e.g. 1% of stamp duty so must …

How to maintain share register- returns to be made in the registry

 

2.     Reducing its capital (reducing value per share, or reducing the absolute number of shares)- approval form

* reorganizing by reducing capital must be authorized by a special resolution

* must lodge and application and be confirmed by the High Court- The court application gives an opportunity to stakeholders such as creditors to file objections for the reduction in capital

* notice must be lodged before to publicise the application for reduction in capital

The company has the option of buying back the balance of the shares following reduction.

 

In a public company, the Directors must give a solvency statement to show the company will operate after the reduction of the capital.

 

3.     Subdivision of shares/ share splits- S405

Subdividing shares to shares of a smaller nominal amount than its existing shares

* By ordinary resolution passed by members

*the company’s articles may exclude or restrict subdivision or consolidation of share capital

 

4.     Consolidation or amalgamation of share capital among shareholders- S405

Consolidating its shares into shares of a large nominal amount than existing shares

*By ordinary resolution

 

Conditions for reorganisation

1.     Reorganisation must be authorized by an ordinary resolution of members- Section 405

2.     Lodging with the Registrar a notice of reorganisation at least one month after, specifying the shares affected and accompanied by a statement of capital containing;

– total number of shares

-aggregate nominal value of the shares

– for each class of shares, the particular rights attached to it, total number of shares in the class and the aggregate nominal value

-the amount paid up and the amount unpaid on each share

 

In the case of public companies, if the net assets of a public company fall to half or less of its called up share capital, the directors are required to, as soon as possible, convene a general meeting of the company to deliberate steps to take in that situation. This ensures the company does not continue operating while its net assets and called up share capital do not add up (suggests insolvency).

 

What motivates companies to restructure:

– Strategic reasons; changing its character or position or business or focus

– Market reasons; to capture markets, go into new markets/ expand, to leave some markets (e.g. Barclays is exiting and will become ABSA), play in certain segments of markets

– Technological changes

– As a response to financial distress

– Changes in socio economic environment

– Response to legal and regulatory changes e.g. CBK increased authorized minimum capital of start up capital for licensed banks to 1B; instigated flurry of restructuring of banks

 

Types of restructuring:

1. MERGER

Why?

– Strategic reasons

– Marketing reasons

 

* Merger by amalgamation- A merges with B to form C; have near equal standing in the market; there is no residual value in the brand of each company that they need to carry over; merging companies (two or more) combine their control and management in a wholly new entity; the previous companies cease to exist or exist as wholly owned subsidiaries

 

* Merger by absorption- one absorbed by the other; the dominant/ acquiring party continues to exist; the question is how you allot shares in the company absorbing the other so as to compensate through;

– Swap of shares

– Allotment

– Increase in number of shares to accommodate the new entries

 

How?

Formal legal requirements for mergers under the Act:

·       Merger must be implemented by a formal merger document- could be draft agreement or memorandum

·       Directors must prepare report giving comments and recommendations on the proposed mergers

·       When terms of merger are agreed upon after negotiation between directors and the other company, notice should be sent to the members notifying them of the agreement reached, the proposed terms of merger and the report of the directors

·       Meetingof members must be convened to approve merger documents/ terms of the merger; at the meeting the proposed merger can only pass if it has achieved special majority of members; members can approve the merger, reject it or approve with amendments; the approval resolution must be filed with registrar within 14 days

 

Vertical mergers– mergers along a product value chain; two companies within the same supply/ value chain of a product but at different levels e.g.

Horizontal– same level

 

Documentation of a merger-share purchase agreement, shareholders agreement, merger proposal, resolution of members, returns and filings, allotment of shares etc.

 

Approval from relevant regulatory authorities e.g. if two banks, you have to get CBK approval

 

Implemented through;

Share subscription

Transfer

Allotment

Share swaps

 

2. SCHEME OF ARRANGEMENT

Restructuring meant to respond to financial distress…

Arrangement is wider in scope and includes a reorganization of the share capital of the company by the consolidation of shares of different classes or by division of shares or by both methods.

 

– It makes a proposal to its creditors

– Get approvals with additional approval from court

Company Act

Insolvency Act

 

Circular to the members- Key features of scheme, why you’re proposing it and what action will shareholders take

 

 

3. SHARE CAPITAL RESTRUCTURING

 

4. COMPROMISE

Co responds to financial distress enters into an agreement to creditors to pay sum less than what is owed

E.g. Uchumi Karen sells to Tuskys; 70% pay debts and 30% goes to other branches

Compromise means settlement of a dispute by mutual concession.  In a compromise, the parties intend to settle a dispute between them by a give and take arrangement.

 

5. TAKEOVERS

The acquisition by one company (bidder) of sufficient shares in the target company to give the bidder control.

Regulated by CMA Act and Companies Act; Previous Companies Act didn’t regulate

There must be a takeover offer; – it is an offer to acquire the whole of the issued share capital of a company or the whole of a class of shares of that company

* Offer

* Offeror- includes the person making the offer for the shares, the persons acting in concert with the offeror, related parties

* Offer document

 

The Companies Act requires;

– Any person who intends to acquire either by himself or in concert with others, more than 30% of the share capital of a company must make a takeover offer of all the shares of the company; similar for class of shares

– Takeover offer must be implemented under a very precise and strict timetable (to ensure minimum interruptions as takeovers destabilize businesses; cause uncertainty; shares cant be taken to the exchange)

 

Process of conducting takeover:

*An approach is made by person intending a takeover to the Directors

*Once approach is made, offeror is under obligation to table a formal takeover offer (in prescribed form) to the Director within 28 days; (to discourage busybodies)

*Once Directors receive offer, they must circulate to all members, and directors make a report on the offer and circulate

*After circulation, alternative take overs offers can come up or offeror may amend or withdraw offer within the grace period

*If offer is withdrawn at that stage, no penalties, but not allowed to circulate another offer within the cooling period (6 months or 1 year)

*When amended offer is given, …

*Directors report given to all members and offerors with recommendations/ comments

*Offeror can circulate counter report or explaining statement

*A notice for meeting is then circulated to members for purpose of considering offer

*At the meeting, the offer is either approved if it obtains a special majority or is rejected only (can’t be approved with amendments)

*A rejected offer can’t be reintroduced before lapse of cooling period (6 months)

*If offer is approved, then the company will be under obligation to implement offer and offeror will acquire shares in the price stated in the offer document

*Once offer is approved, it is binding on all including those who didn’t vote for it; but offer must give equitable treatment to all; offer to buy from a class of shares should be same and different classes should be treated equitably

*Where offeror doesn’t intend to acquire all shares, it can only implement the offer by seeking exemptions from the CMA; “while I need to make offer for all shares, I will only acquire shares to this extent.” This is because the squeeze out and squeeze in regulations apply. 

 

Squeeze out

– Offeror is allowed to make offer to the remaining minority shareholders to buy them out; i.e. if you get another person to sell to within 3 months, I’ll match it or allow you to sell them to the others

 

Squeeze in- Section 611

– Minority shareholders say best price given to majority is what should be offered to them; i.e. if we find no other buyer, we’ll go with this price

 

Squeeze in and out provisions can only be implemented if the companies’ articles provide for them(it is good to include them).

 

– Takeover provisions only apply to public companies; not private companies.

If shareholders refuse to authorize the takeover, it becomes a hostile takeover.

 

Roles of directors during takeover:

During hostile takeovers, they are in conflict.

They have to look out for interests of all members of company;

– Must ensure that they facilitate fair engagement obligations (offerer to make the offer)

– Required to be even handed (must treat offer without prejudice or favour; fair and objective assessment on whether it is advantageous to the company and its members)

– Production of information (give offeror access to financial statements and records of the company)

– Circulate the offer document and notices for the meeting as well as convening the meeting

– Achieve the most advantageous outcome for the members i.e. through sourcing for alternative bids, requesting for amendments to offer from the offerer, keeping members duly informed of the key terms and implication of the offer

– Implement the offer if it is approved

– Ensure compliance with company act, articles of company and any other governing law

 

Responses of directors to legitimately implement in hostile takeovers:

·        

 

Advantages/ Disadvantages

 

 

 

RECONSTRUCTION

– Reduce share capital

– Vary class rights

– Scheme of arrangement

 

ANNUAL FINANCIAL STATEMENTS

 

Companies Act requires that unless a Co is exempted, a co is required to prepare and lay before members in AGM AFS/

 

Differentiates companies as follows:

– Small capitalized companies- a co that has assets of less than 5 M or annual turnover of less than 5M or employees are less than 20; not required to prepare AFS

– Large capitalized Cos

– Listed companies- securities listed in a public exchange; have higher compliance requirements than unlisted companies (AFS must be prepared within 90 days after financial period is over; unabridged version published in newspapers; the notifications given in advance if there is … )

– Unlisted companies

 

AFS consist of:

– Balance sheet-  statement of assets and liabilities of co

– Profit and loss account/ statement of trading activities- must show;

* Total income that co has earned

* Total cost of earning that income (expenses)

* Cash available (banks, m pesa etc.)

* Profit

* Expenses after profit e.g. taxes

 

– Director’s report- give a narrative of performance of business of company; prospect of business in the coming year

– Director’s remuneration report- breakdown of remunerations earned by the directors

– Insolvency statement- directors required to give statement of their opinion on whether the co is able and willing to pay its debts in the coming year i.e. it is a going concern

 

* First two documents prepared by accountants

 

Obligations on Directors in preparing AFS:

– Must be true and accurate (test)

– Must be complete in all material respects

– Must be prepared in accordance with prescribed standards

* For all regulated sector companies, standard is prescribed by the regulations e.g. banks under CBK

– Must be up to date

– All assumptions made regarding the statements but be clearly and explicitly stated

– Must be prepared and be ready within prescribed time- provided in companies Act or other relevant laws; where another law gives a shorter timeline, they must be prepared within that time

– Must be circulated to the members in advance of release as governed by the company’s articles or by the law; notice can be sent to members on where they can get the copies, physical copies can be mailed or can be published on company’s website

 

The Directors can be fined or jailed if these obligations are breached.

 

Importance of financial statements:

– Accountability tool to members

– Engaging stakeholders

– Confidence of stakeholders

– Members have no power to modify annual financial statements; can only give comment on them and can make recommendations to directors (must be implemented unless there is good cause not to)

– Members can use their powers of voting in or voting out the director from the AFS

 

 

AUDITED ACCOUNTS

A qualified person or firm of auditors must independently audit public companies’ financial statements

Private companies don’t legally have to but for purposes of KRA, they need to

 

If member has cause to believe that the AFS audit is incorrect, within 6 months after AGM, an application can be made to Registrar for statement to be independently audited by another auditor and new statements repaired

*

 

Ways of compliance:

i) AFS

ii) Requirement to file returns with the Office of Registrar of Companies

– File within required period

– Must be accurate, true

– Should contain all required particulars

a) Annual returns- number of shareholders names, any changes since last return date, directors, any changes, registered office, any changes etc.

b) Periodical returns- annually or semi annually

c) Ad hoc returns- upon occurrences of certain events, returns must be filed within a certain time e.g. special resolutions must be filed with Registrar within 14 days, any change in BOD (e.g. resignation, appointment etc.), change in registered office of company, special resolution to change share capital of company, change of company name etc.

 

 

 

 

Administrative powers of registrar

– Registrar can order performance of certain actions by company directors

– Can convene general meeting of co at such place and time as directed

– Can preside over a general meeting

– Can cancel the registration of co

– Can place caveat on dealing of the shares of company

– Can order investigation in affairs of company by himself or through agent

– Inspection of records of company

– Can make recommendations for prosecution of directors, members or officers of company

etc.

 

a) On application of member

b) Director

c) Creditor

d) On his own motion

 

Attorney General Office has certain enforcement powers;

– To investigate or order investigation into affairs of company e.g.

* Where co is being used for illegality

* All instances of lifting company veil e.g. fraud etc.

* Being run in a way that can be deemed oppressive to minority

* If there is a deadlock that it is not feasible for company to continue operating

* Identify whether a crime has been committed

 

Consequences of AG report:

– Make a recommendation for prosecution of culpable persons

– Make a recommendation for registration of company

– Such other recommendation as he deems fit in the circumstances

 

 

High Court: Commercial & Admiralty Division

– Any person dissatisfied with any decision of Registrar can appeal to HC

– Can prohibit performance of an action

– Can hear all applications for breach of director obligations

– Can impose sanctions if charge is made out

– Convening of general meeting

– Can impose various fines for offences under the Act

 

Court or Registrar should not micro manage companies until aggrieved members have exhausted all internal remedies

Most important oversight body is the general meeting; members can comment of resolutions circulated etc.

 

LIFTING THE VEIL

BY STATUTE

1.     Number of members fall below prescribed minimum

2.     A public Co which has not obtained trading certificate within 12 months

3.     Group accounts- Companies holding subsidiaries … disclosure

4.     Investigations of Co e.g. under the Co Act- reasonable suspicion of illegality under a written law or there is a violation of Companies Act provision

 

 

BY COURT

The Court can lift the corporate veil in order to determine true character of the Company e.g. legality

 

1.     Agency, Trustee, Nominee relationship- Salomon’s case- ‘ a company is not the agent of the subscribers or trustee for them’; Re F. G Films Co Ltd- in certain circumstances however, a subsidiary company can be a trustee/ nominee agent for the holding company (subscriber)

Smith Stone & Knight v Birmingham Corporation 1939– held that the subsidiary company was an agent

Whether a company is an agent of another company in Smithstone- 6 Step test:

·       Are the profits treated as the profits of the parent company?

·       Are the persons conducting the business appointed by the parent company?

·       Is the parent company the head and brain of the trading venture?

·       Does the parent company govern the venture decide what should be done and what capital should be embarked on the venture?

·       Does the company make the profits by its skills and direction?

·       Is the company in effectual and constant control?

If the answers are yes, then the subsidiary company is an agent of the parent company. If a company acts as an agent for its shareholders, the Court can lift the veil- Continental Tyres case

 

 

 

2.     To prevent fraud or improper conduct- one cannot use a company to avoid existing contractual obligations or to commit fraudulent actions- Re: Bugle Press Ltd; Court can determine company is a shame- Lee Farming Case

3.     A company involved in illegalities

4.     Regulated industries e.g. banks (fit and proper test)- CBK will go behind the veil to see the shareholders of the company e.g. before giving license etc.

5.     Protection of revenue under Tax Procedures Act (KRA can pierce the corporate veil)

6.     Determination of character- Daimler Co Ltd v Continental Tyre and Rubber Co Ltd- there can be no trading with a foreign company that is an enemy of the country one resides in

7.     Group Enterprises

Rule in Salomon’s case- a company and its subsidiaries are one for employment purposes

Holsworth & Co v Caddies– no breach of contract as the company and subsidiaries were in essence, one.

8.     Determination of residence- DeBeers Consolidated Mines Co v Horne 1906- the company’s residence is based on the residence of the owners, controllers and managers.

9.     Ratification of corporate Acts- if the general meeting ratifies an abuse of power by the directors, transactions become a valid act of the company- Bamford v Bamford

 

 

LAW OF PARTNERSHIP:

Who is a partner?

Section 2 of the Partnerships Act, 2012 defines a partnership as “… the relationship which exists between persons who carry on business in common with a view to making profit”

 

Tests- partnership:

They are subjective tests.

* Level of involvement- pure effort in the work; do you show up etc.

* Level of responsibility e.g. do you authorize payments, approval of contracts etc.

* Capital contributed

* Level of risk that you have taken up

* How the individuals present themselves to third parties

* What is their participation in profit and loss of the business- just being given profit doesn’t mean you are a partner in the business; all the factors must be considered together

 

Notwithstanding the lack of incorporation, a partnership can; Section 7(2) Partnership Act

– sue and be sued- Order 30, rule 1 of the Civil Procedure Rules, 2010

– enter into contracts and owning or holding property for the purposes of the business of the partnership

– partnership agreement, provides continuity for the partnership business despite a change in the partners

(3)- each partner shall be the agent of the partnership for the purpose of the business of the partnership

(4)- a change in the nature of the business of the partnership shall require agreement of all the partners

Number of people who may form a partnership is not restricted.

 

GOVERNED BY TWO LAWS:

1. Partnerships Act

2. Limited Liability Partnerships Act

 

Types:

1. General

Created by default

Unlike a corporation, no need to file any documents with the state to make your business a partnership.

Has general partners.

Unless the partners have a partnership agreement stating otherwise, each partner will have:

• the ability to actively manage or control the business.

• equal authority to make decisions about how the business will be run

• equal authority to make legally binding decisions.

Partners have no limit on their responsibility for the debts of the business – the partner could lose more than his investment in the business; if necessary, personal assets will be used to pay business debts.

Each partner in a general partnership “jointly and severally” liable for debts of the business – each partner is equally liable for the debts of the business, but each is also totally liable.

If a creditor fails to get what he is owed by one partner, he can get it from another partner, even if that partner has already paid his share of the debt.

 

 

 

2. Limited Partnership

Requires a partnership agreement.

Some information about the business and the partners must be filed with the Registrar (S68).

Has both limited and general partners.
The tradeoff for limited liability is a lack of management control: A limited partner does not have the authority to run the business. He is like an investor in the business.

A limited partner does not have total responsibility for the debts of the partnership. Liability limited to value of capital invested.

The most a limited partner can lose is his investment in the business.

3. Limited liability

•       Governed by the Limited Liability Partnership Act Chapter 30A, passed on 16 March 2012. 


•       Regulations requisite to facilitate registration of LLPs were published in September 2012 


•       The LLP combines some of the features of a traditional partnership (e.g. flexibility) with the Limited Liability benefits more typically hitherto only associated with Companies. 


•       LLPs introduced to give professional services firms e.g. accountants, lawyers, surveyors etc the opportunity to benefit from limited liability e.g. by protecting their personal assets from any potential business creditors. 


•       Many professional partnerships in Kenya have chosen to convert to LLP 


•       It is not required that an LLP creates a constitution/Memorandum or 
Articles of Association. 


•       But the Partners to an LLP would (under the Act) execute a Limited Liability Partnership Agreement to set out the agreement e.g. on profit sharing, capital contributions, roles/duties, management or other arrangements amongst themselves and change those arrangements as often as they agree. 


 

The first two are governed by the Partnerships Act, the third one by Limited Liability Partnerships Act.

 

Features of general and limited partnerships and LLPs

–        All partnerships must have more than two members

–        Should be governed by partnership deed

–        Drafting of partnership deed is meant to provide rules of governance, management and control of partnership but it is not mandatory that it should be governed by partnership deed; they can governed by first schedule of Partnership Act and LLP Act.

–        General and limited partnerships are registered under Registration of Business Names Act. Limited liability Partnerships are registered under their own Act.

–        In general partnerships, all partners are involved in management and control while in Limited it is delegated to a partner(s) called a general partner(s).

–        Liability for all losses in general partnerships accrues to all partners without limitations but in limited p, liability of certain partners can be limited to capital contributed provided that every limited p. must have a general partner whose liability is unlimited.

 

Rationale for partnerships:

–        Simple and less costly registration and compliance requirements.

–        Pool expertise from different specializations (main reason)

–        Profit taking and distribution of risk

–        Certain trades and professions require partnerships for an organizational form e.g. law firm due to legal and regulatory requirements.

–        Provides a stable source of capital- partners can’t withdraw the money without permission from other partners; they can still sell their share

 

Concerns:

      i.         Identify what the partnership business is

     ii.         Rights, powers and obligations of partners

a) Rights and obligations to each other

b) Rights and obligations to the partnership

   iii.         Partnership property- what amounts to partnership property, what regulates proper use, what happens when partnership comes to an end

    iv.         Decision making in a partnership

     v.         Capital of the partnership

    vi.         Partnership contracts- who signs them, how are they entered to etc.

  vii.         Partnership accounts, records and disclosure requirements

 

Partnerships are registered under Registered Business Names Act

But they are created if;

– Formally registered

– Implied- can be presumed i.e. if you have been jointly carrying on business with a view to profit

– Created by law- how you’ve been carrying out business

 

Parties are at liberty to draft and negotiate a partnership deed to govern the above 7 issues. If there is absence on all those 7 issues, the Partnership Act will apply.

 

Partnership can be formed between individuals, companies etc. but there can be no partnerships only between body corporates.

 

Registration of Partnerships

Registration of the proposed business name must be in accordance with the Registration of Business Names Act, revised 2006. Once formed and registered, a partnership may carry out business under its firm name notwithstanding lack of legal personality.

Name- name or style under which any business is carried on

Firm- an unincorporated body of two or more individuals, or of one or more individuals and one or more corporations, or of two or more corporations, who or which have entered into partnership with one another with a view to carrying on business for profit

 

Section 6(1)- statement of particulars required to be delivered to Registrar:

·       Business name proposed to be registered

·       General nature of proposed business

·       Full address of principal place of business and postal address of firm, individual or corporation

·       Full address of every other place of business

·       In case of a firm, personal details of individuals who are partners and corporate name of every corporation which is a partner

·       Date of commencement of the business

Section 17- prohibited business names; names containing names which mislead the public as to nationality race or religion of owners; words like presidential, government, municipal; co- operative or its equivalent; names identical to existing business or corporation; or which in the opinion of the Registrar are undesirable

 

 

 

 

 

 

Partnership Deed:

The terms on which the firm is established and managed may be formalized into a legally binding partnership agreement contained in a deed or articles of partnership.

– Must be agreed upon by partners; meet requirements of contract

Recital- agreement to be bound

– State business of partnership is for a legitimate purpose and there are no vitiating factors

– Contract must be executed

 – State date of commencing partnership; if time bound, state when it will end

* Proper cover page- identify it as a partnership agreement

* Must have the parties clause- list all partners OR ‘this partnership agreement is made between the parties whose particulars are provided in the first schedule’

 

Clauses:

–        Business of the partnership clause

–        Capital of partnership– total capital and contribution of each individual

–        Management clause

* Meetings of partners- when (how often), how they will be convened, where will they be held, who will preside over the meetings

* How partners will engage in day-to-day business- all or some?

* How partnership will employ people

–        Unless specified otherwise, it is one partner, one vote; or voting rights can be proportional to capital contributed

–        Partnership accounts and records– general rule under the Partnership Act is that all partners are entitled to free, unfettered access to all partnership records

* Provide type of accounts/ financial statements to be prepared- e.g. partnership can cause to be prepared annual financial statements; or quarterly

* Provide for audits of those accounts- auditors

* Provide where records of partnership will be kept

* Access e.g. circulate records to members every financial year

–        Partnership property– under Act and common law, property consists of;

* All property that has been brought into business of partnership for purpose of carrying on partnership business

* Property acquired in the course of the business of partnership

(Rebuttable presumptions at law- can be shown that a property was not acquired in the course of business)

* Property acquired on behalf of partnership

* Any other property that otherwise devolves to the partnership

Vis a vis property of predominantly personal use- e.g. gifts that a partnership give a partner- ‘without prejudice to the foregoing, the following property will not be deemed to be personal property- property partner has bought with own money, etc.’

–        Obligations of partners;

* Partners are fiduciaries to each other

* Partners as agents of one another and the partnership

* Partners as owners and managers of the partnership

 

a.      Duty to act within powers they have

b.     Partners owe each other a fiduciary duty to act in good faith i.e. acting in the best interest

c.      Duty not to cause harm

d.     Duty to promote the partnership business, its image and interest

e.      Duty of disclosure- absolute duty to disclose any matter which is material (have an impact positive or negative) on the partnership, partner or business of the partnership. Requires disclosure to be accurate, complete and within reasonable time

f.      Duty to devote all time and effort to the business but certain partners may be involved to a limited time and effort

 

g.     Duty to avoid conflict of interest

*Don’t engage in similar business

*Not to make secret profits

* Not to make benefits, at an individual level, which are competing or against the best interests of the partnership

–        Partnership contracts– powers that partners have to bind a partnership

Under the Act, the general rule is that all partners have the authority to bind the partnership. Third parties are not required to inquire as to the authority of the partner to bind the partnership.

* Partnership agreement for limited partners will provide that only general partner can execute partnership on behalf of partnership.

* Pecuniary limit for contract to be signed- you can provide different amounts; one partner for 200,000, two or more for 1M and 10M by all partners etc.

* Period of authority

 

If you are aware partner has no authority or ought to be aware that the partner has no authority, contract is unenforceable. The contract is not supported by adequate consideration.

 

When a bona fide third party enters into a contract with a partnership signed by a partner who has no authority to bind the partnership, the contract is enforceable by the third party. The only recourse available to the partnership is to seek compensation from the partner who acted ultra vires.

 

–        Liability of partners:

·       All partners are liable for all debts of the partnership

·       The liability extends even when one ceases to be partner if;

* The liability of debt was incurred when you were partner

* The liability of debt accrued within 12 months of you ceasing to be partner

* Partner hasn’t given public notice that he has ceased to be partner

* If the partner has not contributed his entire committed capital or if the partnership current account is overdrawn

·       Partnership deed can also provide the extent to which the liability will be accrued by a partner (limitation of liability clause)

 

–        Membership clause– admission or cessation of membership and partnership

·       Provide procedure in which a new partner can be admitted; there should be a vote by existing partners

·       There should be a deed of adherence (new partner has agreed to abide by the partnership deed)

 

Cessation of partnership by:

* Resignation

* Retirement

* Death

* Expulsion

 

·       Give provisions on what happens when a partner ceases to be partner

 

Dissolution of partnership:

Partnerships can end in the following ways;

– A partnership formed for a particular purpose terminates when that purpose has been fulfilled

– When there is a specific time period stipulated for the existence of the partnership

– Upon agreement by all the partners

– If there are only two partners and one partner resigns or dies, the partnership automatically terminates

– By order of the court; e.g.;

* If partnership is registered for illegal or improper purpose

* On application by the Registrar based on reasonable opinion that the partnership is dormant

* Where there is a breach of obligations by partners

– Registrar can on reasonable grounds dissolve a partnership

 

 

Consequences of dissolution

Where a partnership is dissolved as a consequence of winding up i.e. being insolvent, the provisions of the Insolvency Act will determine how the assets will be distributed.

In other cases, where partnership is being dissolved the assets (partnership property) will be broadly distributed as follows;

      i.         Partnership will be required to pay its tax obligations

     ii.         Paying rates and other charges to local authority or national government

   iii.         Employee salaries

    iv.         Partnership creditors

     v.         Residue/surplus will be distributed pro rata based on the capital contributed by individual partners to the partnership

 

Execution:

A partnership deed is only binding when it has been signed by all the partners. They can be witnessed, individually or as a whole.

General rules are applicable to the extent that the parties have not provided otherwise in the partnership deed.

 

LLP 2nd Schedule- Partnership Converting to LLP

– the partners of LLP should comprise all partners in the intial partnership

 

LIMITED LIABILITY PARTNERSHIPS

They are;

·       Bodies Corporate

·       Bodies sui generis (of its own kind)

·       Separate and distinct legal entity from its partners

Is a hybrid between a partnership and a limited liability company.

 

LLPs governed by LLP Act 2012. Must be formally registered under the Act.

 

Rationale for LLPs

Advantages

–        Do not have limitation on number of partners and this increases capital pool of partnership

–        Separates ownership and management and control- e.g. has contributing partners (manage and control the partnership decisions) and investing partners (bring in capital)

–        Decision making in LLPs are expeditious and less complex

–        The way LLPs are structured provides for privacy for investing partners e.g. not required to publish financial reports or to make public disclosures of their affairs

–        LLPs are tax efficient i.e. distribution is made gross of tax, only individual partners required to pay income tax on their distributions; “tax pass through vehicle”

–        Flexible i.e. it combines advantages of a limited liability company (limited liability to extent of capital contributed) while providing advantages of a partnership

–        Liability is limited to the partnership; separate entity

 

Disadvantages:

–        Lack of understanding of how LLPs work; most people are uncomfortable with entrusting their investment solely to a manager who makes the decisions

–        Fear of loss of control

–        They have less compliance requirements but still have requirements to file certain documents with Registrar (above what ordinary partnerships do)- e.g. pay duty on increases in capital

–        Structuring, registering and running an LLP is comparatively expensive to an ordinary partnership

–        Requirement of employing a qualified and competent general partner to manage LLP and ensure returns, is a bit expensive

 

Utility of LLPs:

–        Private equity firms- placed on trust and big money; investors do not necessarily want to be involved in all decision making and day to day running of business; just want profit. They are able to afford structuring registering and other costs

–        Lawyers

–        Architects

–        Engineers

–        Designers

–        Auditors

 

Compliance requirements of LLPs

All the applicable rules to ordinary partnerships apply to LLPs.

 

Additional requirements:

–        File certain returns annually to Registrar of LLPs e.g.

* Copy of financial statements (kept confidential)

* General partner must prepare and sign a certificate of solvency every year stating that, in his opinion, the business of the partnership will be a going concern

* Within 14 days, file any change to material particulars e.g. members of partnership, change in business of partnership, change in registered office, change in capital, any encumbrances or charges issued against property of partnership, change in general partner/ manager of partnership

 

Distinguishing features of LLPs:

–        LLPs can enter into contracts in its own name

–        Powers to hold its property in its own name; as opposed to ordinary partnership whose partners own the property individually

–        Can defend suits in its own name; therefore an LLP can sue its partners

–        No partner has any authority to bind the LLP; only the manager can do so

 

Court’s powers in relation to partnerships:

–        Court can impose a charge of interest on a partner to secure a debt; interest includes both capital account and the current account

–        Court can appoint a receiver over the partner’s share of profits; when a partner becomes bankrupt, the court will appoint a receiver/trustee on his interests

–        Court can give directions for the taking of account and make inquiries

–        Court can order removal of a partner

–        Can order dissolution of a partnership- Section 47 and 50 Partnership Act (circumstances where a court can order dissolution)

–        Can issue interim orders limiting the extent to which a partner can take part in a partnership business

–        Can order dissolution of partnership on application by CS

–        Can appoint a liquidator including a provisional liquidator when the partnership is unable to pay its debts when and if they become due

–        Can order repayment of a joining premium (on top of the capital contribution)

–        Can order accounts to be drawn up so as to know a partner’s entitlement

–        Can make order requiring interim payments to be made to a former partner i.e. when partner’s leave, they are entitled to benefits such as any balance in their current account

–        Can order security to be provided in respect of payment of benefits or similar interest, to a former partner

–        Etc.

 

Joint venture as opposed to partnership:

–        Joint ventures are contractual commercial agreements whereas partnerships are a form of a legal business

–        In joint ventures, parties agree to pursue certain common interest which are not necessarily driven by profit whereas in partnerships there is a view to profit

–        Joint venture can take the form of an unincorporated structure, a company or partnership but a partnership is a form of business regulated by the Partnership Act and  …

 

Relationship between partners and their obligation to each other;

Whenever they are in the business of the partnership, business partners are agents of the partnership as a firm, and to each other.

Partnerships have the power to bind other partners and the partnership; because the rule is prone to abuse, it can lead to a number of difficulties so there are exceptions when they are only binding;

·       In course of partnership business or in activity directly connected to business of partnership

·       The person to whom the partner is contracting must be aware that the partner is in fact a partner in the firm

·       Third party must not be aware the partner has ceased to be partner or no authority to contract

·       If it is ratified even if the partner did not have authority; ratification can be express or by conduct unless;

– Partners informed of the contract but have taken no step to repudiate or disavow their liability to it

 

Powers of partner:

·       Enter into contracts

·       Enter into employment contracts

·       Institute or defend suits on behalf of the partnership

·       Advance a debt

·       Compromise a debt

·       Purchase of any property

·       Offering of any guarantee

 

Some powers are not binding:

·       Partner cannot dissolve the partnership alone or change the business of the partnership

 

What happens if a partner exercises powers wrongly?

The other partner and the firm can exercise all the common law remedies of breach of the partner’s regulations;

·       Damages

·       Restitution

·       Injunction

·       …

 

Capacity to be a partner

At common law, partnership obligations are governed by the common principles of contract i.e. the capacity to enter into a contract.

Minors, mentally unstable and bankrupts can’t enter into partnerships contracts.

Common law recognizes that in certain circumstances minors can have the rights and not obligations of a partnership. E.g. a minor who has inherited a stake in a partnership will for all the purposes be deemed to enjoy all the rights of a partnership but the obligations will not fall upon the minor until the minor reaches the age of majority.

At that point, a minor can:

·       Ratify/accept the obligations of the partnership

·       Disclaim his partnership i.e. the partnership with respect to the minor will be dissolved

·       Ratify the obligations and decisions taken during the time of his minority

 

Acceptance/ ratification is deemed expressly or by implication i.e. if he has not raised an objection two years after majority, at the age of 20, he is deemed to have accepted the obligations.

 

Benefits of different types of partnerships:

LLPs are hybrids between Limited Liability Company and partnership; they provide both advantages.

 

Advantages/ distinctions:

·       Company- liability of members distinct from that of the partnership; registered as a distinct entity under the LLP Act

·       Partnership- flexible and expeditious decision making+ pooling of resources e.g.; joint effort

·       Partners contribute to the capital as the obligation of the majority but they don’t participate in the day to day running of the business (distinction from ordinary partnerships)

·       Management and control of an LLP is done through;

* The Manager who can be a partner, or an independent organization (fund manager) who does the day-to-day running of the company

* General/ Principal partners who take liability of business and have the oversight role

* LLPs can have other organs e.g. management committee, advisory committee or such other committees as may be necessary

·       LLP must be formally registered under a certificate issued under LLP Act (fill prescribed forms, pay fee, cert issued) but ordinary partnerships don’t have to registered (a partnership can be implied or created by law)

·       LLPs don’t have fixed number of partners whereas ordinary and limited partnerships have a maximum

·       The capital of LLP is transferable without dissolving the partnership whereas in ordinary partnerships, every time a partner withdraws, the business is considered dissolved with respect to him (unless the partnership agreement says otherwise; happens because ordinary partnerships trade in the names of all the partners)- this gives LLPs continuity and stability of their business

 

Goodwill in dissolution:

Goodwill– value arising from reputation, custom, patronage and status of a business developed over time.

No partner has a right to transfer goodwill to a third party without acceptance from other partners. Partners aren’t allowed to continue operating in the name of the old partnership or to hold themselves as successors of old partnership without consent of those other partners as it belongs to all of them.

Goodwill can only be transferred for consideration. If a partner wants to maintain it, he must pay on the basis of the value of the amount that could be estimated if the partnership was still in operation.

Law Notes (Knowledge Tree )