The indoor management rule is that a person dealing with a company in good faith is entitled to assume that the corporate acts provided for in the company’s documents have been properly and duly performed in compliance with its articles and bylaws. The rule is codified under the Ugandan Companies Act 2012 and entitles directors to bind a company without limitation.
It also absolves a party dealing with the company from making any inquiries into whether the transaction is permitted by the company’s memorandum or articles or if there are any limitations on the board of directors’ authority to bind the company.
In CTM Uganda v Allmus Properties, the Supreme Court held that the indoor management rule does not apply to procedures prescribed by law. Where a procedure is prescribed by law, a third party dealing with the company is not entitled to assume that the law has been complied with.
CTM and Italtile Ceramics entered into a joint venture named Allmus Properties Uganda. It was agreed that Italtile Ceramics would advance a loan to CTM against the security of its shares in Allmus, which CTM defaulted on. The defaults led to litigation for recovery of the outstanding loan amounts resulting in a consent judgment. The terms of the consent included a requirement for CTM to change its name and it was signed by CTM’s Managing Director (the “MD”) on behalf of CTM.
The CTM shareholders filed a suit to set aside the consent on grounds that it was illegal since it was not sanctioned by the shareholders and the change of name was not passed by a special resolution of the company. They contended that the MD had fraudulently presented a board resolution instead, knowing that a special resolution was required to change the company name. Subsequently, the board resolution was accepted by the Companies Registry and a certificate of change of name was issued.
The High Court found that the MD had the power to bind the company in entering into the consent judgment. The Italtile companies had acted in good faith and did not have to inquire into the authority of the MD to sign the consent agreement. The Court relied on the indoor management rule to hold that the parties did not have to inquire as to the MD's authority as a director to enter into any agreements.
The Court of Appeal upheld the High Court decision and stated that since the MD was a director of CTM, he had the power and authority to bind the company. The court, while acknowledging that the Companies Act required a special resolution (and not a board resolution) to support a change of name held that the change of name was an indoor management matter which could not be used against outsiders. The change of name was accepted and advertised by the Registrar of Companies and was therefore legal. The court observed that it would make business very difficult if persons dealing with the company in good faith would have to ascertain for themselves that the internal procedures of the company have been complied with before they conclude a transaction.
The Supreme Court departed from the Court of Appeal’s decision and held that a failure to follow provisions of the Companies Act on the name change rendered the entire action invalid. The failure to procure the consent of members via special resolution was an illegality. The procedure for conducting a change of name is not an indoor management rule issue but a statutory issue. A change of a company name which does not follow the procedure provided for in the Companies Act is invalid and illegal. An illegal action is one that violates existing laws or regulations and an invalid action is one done without the legal force of existing law.
The court however concurred with the decisions of the High Court and Court of Appeal that the MD had the power to bind the company in the consent judgement and that the procedure for change of name, though invalid, had no impact on the validity of the consent judgment.
The effect of the indoor management rule is that an outsider whose actions are done in good faith and who has entered into a transaction with a company can have a presumption that there are no irregularities internally and all the procedural requirements have been complied with by the Company. The Supreme Court’s distinction on statutory issues begs the question, should a third party presented with a certificate of change of name be required to determine whether the requisite procedure was complied with? Under the Companies Act, certificates issued by the Companies Registry act as conclusive evidence that the requirements of the Companies Act, incidental to the issuing of those certificates, have been complied with.
While the Act is silent on whether the certificate of change of name is conclusive evidence that the requirements of the Companies Act have been complied with, it follows that as the certificate of change of name replaces the certificate of incorporation (with the new name in place of the former name), this certificate should also be conclusive evidence that the procedure was complied with. Requiring a third party to check whether a board or special resolution was properly passed, would defeat the purpose of the indoor management rule entirely by imposing an onerous obligation on persons dealing with a company to inquire into processes within the regulator’s mandate.
The Supreme Court’s decision brings more uncertainty to an already inconsistent application of the indoor management rule in Uganda.
In Charles Harry Twagira v dfcu Bank, a borrower denied ever giving the bank a resolution to authorise its borrowing despite having signed the facility agreement and having taken the bank’s monies. The High Court held that a representation signed on behalf of a company by a duly authorised officer, acting within the scope of his authority, or an officer or employee of the company acting in the course of his duties in the business of the company, constituted a representation made by the company and signed by it.
However, in the Court of Appeal in Necta v Crane Bank, the bank was required to prove that a resolution relied upon to secure a borrowing had either been signed following a meeting or had been signed by all the directors of the company at the time. The company had passed a special resolution stating that the directors had resolved to offer their property as security for the requested overdraft. The resolution was signed by one director and the company secretary.
Our analysis of these decisions can be found here.
The Supreme Court decision concurred with the decision in Charles Harry Twagira v dfcu Bank, that directors have the power to bind the company and therefore the parties did not have to inquire as to the directors' authority to enter into any agreements even the signing of the Consent Judgment.
However, the CTM decision that the change of name done incorrectly was invalid, and improper and affects the rights of third parties, creating more confusion around how far an outsider should go to determine whether the actions done by the entity were in fact done correctly.
The Supreme Court also highlighted the need for Registrars to carefully execute their duty and in passing, recommended that the names of the members in attendance of a shareholders meeting should be stated on a resolution submitted for registration. The recommendation is impractical for many reasons Stating the names of the members in attendance does not guarantee that they passed the resolution. Would the Companies Registry then require minutes of the meeting, recordings of the online meetings or signatures of each of the members who attended to prove the authenticity of the resolution? For public companies like Umeme, a listed company that currently has over 5,000 shareholders, stating the names of all members in attendance on the resolution would not be practical.
Fortunately, the court’s recommendation is just that and not an order. It therefore need not be complied with. Instead, a careful examination of the resolution presented for registration and a review of the company’s articles of association should suffice to determine whether any company resolution has been duly passed.
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Read the original publication at ENS