Study unit 7: Capacity and Representation of a Company

1. What is meant by the capacity of a company?

A company’s capacity is determined by the sphere of actions that it may legally
perform.
In terms of our common law, a contract is ultra vires the company when the
conclusion of the transaction is beyond its legal capacity. In other words, if a
company’s principal business is, for instance, catering, it would be outside the
company’s capacity to buy an expensive yacht on behalf of the company. The ultra
vires doctrine is based on the understanding that a company exists in law only for
the purpose for which it was incorporated. According to the ultra vires doctrine, when
an act on behalf of the company falls outside its main and ancillary objects, the
company does not exist in law and, consequently, such an act is not binding on the
company. Such an act is described as an ultra vires act. In the catering example
mentioned above, it would be within the scope of the principal business (intra vires)
for the company to purchase a refrigerator that it needs for catering.
BUT…

Section 19(1)(b) of the Companies Act provides that a company has all the legal
capacity and the powers of a natural person, except to the extent that a juristic
person is incapable of exercising any such power, or the company’s Memorandum of
Incorporation provides otherwise. Therefore, the capacity of a company is no longer
limited by its main or ancillary objects or business, and these objects need not even
be stated in the Memorandum of Incorporation.

2. What is the ultra vires doctrine?

In terms of our common law, a contract is ultra vires the company when the
conclusion of the transaction is beyond its legal capacity. In other words, if a
company’s principal business is, for instance, catering, it would be outside the
company’s capacity to buy an expensive yacht on behalf of the company. The ultra
vires doctrine is based on the understanding that a company exists in law only for
the purpose for which it was incorporated. According to the ultra vires doctrine, when
an act on behalf of the company falls outside its main and ancillary objects, the
company does not exist in law and, consequently, such an act is not binding on the
company.
3. Under which circumstances does a person have the authority to represent a
company and bind it to an agreement?
Representation relates to a person acting under the company’s authority.
Authority can be given expressly (in writing or orally) or by implication. Whether
authority has been conferred is a question of fact.

If a company gives an agent authority to act on its behalf, the agent possesses
actual authority and will bind the company in acts which fall within the scope of the
mandate given to him or her. A company may also be bound by a contract on the
basis of estoppel where the person purporting to conclude the contract on its behalf
lacked actual authority, express or implied, but the other party to the contract had
been misled by the company into believing that he or she did have authority. This is
referred to as ostensible or apparent authority.

1
In other words, a company may be liable to a bona fide third party if it is represented
by someone who does not have actual authority, and where the company allows
such a person to represent the company as if that person did have authority.
4. What is the purpose of the Turquand rule and how does it operate under the
Companies Act?
The Turquand rule was formulated to keep an outsider’s duty to inquire into the
affairs of the company within reasonable bounds. The Turquand rule was derived
from Royal British Bank v Turquand. According to the common law Turquand rule, if
the person acting on behalf of the company has the authority to do so, but this is
subject to an internal formality, such as approval by the board, an outsider
contracting with the company in good faith is entitled to assume that this internal
requirement has been complied with. The company will be bound by the contract
even if the internal formality has not been complied with. The exceptions are: if the
outsider was aware of the fact that the internal formality had not been complied with;
or if the circumstances in which the contract was concluded were suspicious.
Section 20(7) of the Companies Act now contains a provision that in some respects
resembles the Turquand rule by providing that a person dealing with a company in
good faith is entitled to presume that the company, in making any decision in the
exercise of its powers, has complied with all the formal and procedural
requirements in terms of the Act, the company’s Memorandum of Incorporation and
any rules of the company, unless the person knew, or reasonably ought to have
known, of any failure by the company to comply with any such requirement.

However, this provision does not replace the Turquand rule, because section 20(8)
provides that subsection (7) must be interpreted concurrently with, and not in
substitution for, any relevant common law principle relating to the presumed validity
of the actions of a company.

The exceptions to the application of the statutory rule are not expressed in exactly
the same way as the common law exceptions: section 20(7) determines that the rule
will not apply if the third party knew or reasonably ought to have known that the
internal requirement had not been complied with.
?Activity 1
The Memorandum of Incorporation of ToyZ Ltd states that the company only has the
power to sell toys. The board of directors of ToyZ Ltd decides to buy a luxury yacht
on behalf of the company.
(a) Will the contract of purchase and sale be valid?
Yes. Section 19(1)(b) of the Companies Act provides that a company has all the
legal capacity and the powers of a natural person, except to the extent that a juristic
person is incapable of exercising any such power, or the company’s Memorandum of
Incorporation provides otherwise. Therefore, the capacity of a company is no longer
limited by its main or ancillary objects or business, and these objects need not even
be stated in the Memorandum of Incorporation.

(b) Do the shareholders have any remedies against the board of directors?
Even though an ultra vires transaction will be binding on the company, the
shareholders are provided with recourse to claim back their losses from the person
who acted beyond the scope of the company’s capacity. Section 20(6) of the

2
Companies Act provides that each shareholder has a claim for damages against
any person who fraudulently, or due to gross negligence, causes the company to do
anything inconsistent with the Companies Act or a limitation, restriction or
qualification on the powers of the company as stated in its Memorandum of
Incorporation, unless ratified by special resolution in terms of section 20(2). This is in
addition to the remedy provided in section 165.
If the company or directors have not as yet performed the planned action (e.g.
concluded the contract) that is inconsistent with a limitation or qualification of the
company’s powers contained in the Memorandum of Incorporation, one or more
shareholders may obtain a court order restraining (i.e. preventing) the company or
directors from doing so. (section 20(4)).
?Activity 2
Steelbelts Railway Carriages (Pty) Ltd’s Memorandum of Incorporation provides that
only the board of directors, or any person authorised by the board, has the power to
conclude contracts on behalf of the company. In addition, any transaction that
exceeds R100 000 must first be authorised by the company in general meeting by
way of ordinary resolution.
Mr Buckley, one of the directors, is authorised by the board of directors to act on
behalf of the company. Mr Buckley concludes a contact with Mr Matthews for the
purchase of equipment that will be used in the process of manufacturing railway
carriages to the value of R150 000 without the authorisation of the company in
general meeting. Mr Matthews knows about this provision because he has dealt with
the company before.
He however assumes that the approval of the general meeting has been obtained
since it had always been obtained for previous transactions. Is the company bound
by the contract concluded by Mr Buckley?

The company is bound by the contract concluded because of the operation of

section 20(7) of the Companies Act. It provides that a person dealing with a
company in good faith is entitled to assume that the company has complied with all
of the formal and procedural requirements in terms of the Companies Act and the
company’s Memorandum of Incorporation and rules unless the person knew or
reasonably ought to have known of any failure by the company to comply with its
formal and procedural requirements. There is no indication from the facts that Mr
Matthews knew or reasonably ought to have known that Mr Buckley failed to comply
with the procedural requirement in terms of the Memorandum of Incorporation. There
is also no indication that Mr Matthews was aware of the fact that Mr Buckley did not
comply with procedural requirement and had acted in bad faith. Based on these
facts, the company is bound by the contract.
The contract will also be binding because of the common-law Turquand rule since Mr
Buckley is authorised to act on behalf of the company but this is subject to an
internal formality. Although Mr Mathews knew about the internal formality, he was
entitled to presume that it had been complied with and there is no evidence that he
knew it had not been complied with or that there was anything to raise his suspicion.
In some instances both the Turquand rule and section 20(7) of the Companies Act
will apply, as in this case. This is however not always the case. PLEASE READ
QUESTIONS CAREFULLY IN THE EXAM AS WE MAY RESTRICT THE SCOPE

3
OF THE CORRECT ANSWER BY INDICATING EITHER IN TERMS OF THE
COMPANIES ACT OR IN TERMS OF THE COMMON LAW

?Activity 3
The Memorandum of Incorporation of Concord Ceramics (Pty) Ltd (RF) provides that
the board of directors have authority to contract on behalf of the company subject to
the condition that if the value of a contract exceeds R1 million the approval of
shareholders by special resolution is required. The Memorandum of Incorporation
further provides that this last-mentioned provision may only be amended by
unanimous approval of all the shareholders.
(a) Are third parties deemed to be aware that the consent of the general meeting
is required for transactions in excess of R1 million?
Yes, as this is a RF-company. Section 19(5) of the Companies Act determines that
a person is deemed to have knowledge of any provision of a company’s
Memorandum of Incorporation in terms of section 15(2)(b) (relating to special
conditions applicable to the company and additional requirements regarding their
amendment). This is subject to the condition that the name of the company includes
the ending “RF” and that the company’s Notice of Incorporation contains a prominent
statement drawing attention to such a provision as required by section 13(3).
(b) To what extent is the doctrine of constructive notice still applicable to this
company?
Section 15(2)(b) of the Companies Act determines that a company may include
restrictions and conditions in its Memorandum of Incorporation pertaining to the
company’s capacity. Before a third party dealing with the company would be
required to acquaint themselves with these restrictions and conditions, certain
requirements must be met in terms of the Companies Act:
- There must be a restriction or conditions in the Memorandum of Incorporation of
the particular company.
- A prohibition against amendment of the restriction or condition must be included
in the Memorandum of Incorporation.
- The company’s name must be followed by “RF” to warn the third party of the
special restrictions or conditions.
- The Notice of Incorporation that is lodged together with the Memorandum of
Incorporation must include a provision that draws attention to the fact that special
restrictions or conditions apply to the company.
(c) Suppose that Mike, a site manager on one of the company’s plants, regularly
contracts on behalf of the company without having a mandate to do so. The
board of directors takes note of this behaviour, but never takes any steps to
caution Mike against contracting on behalf of the company. Mike enters into a
contract with Timothy for the purchase of raw materials. The company now
argues that Mike did not have authority to enter into the contract and that it is
not bound to the contract. Advise Timothy on whether the company can be
held bound to the contract.
Estoppel applies only when the agent did not have actual authority to bind the
company. Take particular note of the fact that the misrepresentation (i.e. that the
agent had the necessary authority when, in fact, he or she did not) must have been
made by the company as principal. In Freeman and Lockyer v Buckhurst Part
Properties (Mangal) Ltd, the court decided that estoppel could not only arise from the

4
Articles (note that this would be the Memorandum of Incorporation in terms of the
current Companies Act), but also because the company with full knowledge and
approval allowed an ordinary director to act as the managing director and, in this
manner, culpably represented that he was entitled to act.
Based on such misrepresentation, the company will be prevented (estopped) from
denying liability if the third party can prove that
-the company misrepresented, intentionally or negligently, that the agent concerned
had the necessary authority to represent the company
-the misrepresentation was made by the company
-the third party was induced to deal with the agent because of the misrepresentation

Example of questions from previous exams dealing with this topic:

QUESTION 1:
By means of an example, explain the operation of the provision similar to the
Turquand Rule that has been included in the Companies Act 71 of 2008, (4)

To trigger the protection provided by the Turquand rule, there must have been an
internal requirement present.

• A company’s Memorandum of Incorporation determines who has authority to

act on behalf of the company.
• The Turquand rule applies where the authority is subject to an internal
requirement.

Example: Company A’s Memorandum of Incorporation determines that the board of

directors has authority to conclude all contracts on behalf of the company. If the
amount of the transaction exceeds R50 000, consent must be obtained from the
shareholders at a general meeting.

The underlined part in the block above contains an internal requirement. Even
though the Memorandum of Incorporation is registered and available to the public, a
third party contracting with the company would have to conduct a further
investigation to ascertain whether or not consent was obtained from the
shareholders.

The Turquand rule makes this unnecessary, as, in terms of this rule, third parties
who act in good faith may assume that such internal requirement has been complied
with.

QUESTION 2:
Read the following statement and explain whether or not it is correct:
“In terms of the Companies Act 71 of 2008 companies have all the legal capacity and
powers of a natural person, and such capacity cannot be restricted”.

No, the statement is not completely accurate. Section 19(1)(b) of the

Companies Act provides that a company has all the legal capacity and the powers

5
of a natural person, except to the extent that a juristic person is incapable of
exercising any such power, or the company’s Memorandum of Incorporation
provides otherwise. Although, the capacity of a company is no longer limited by its
main or ancillary objects or business, and these objects need not even be stated in
the Memorandum of Incorporation, it is still possible to restrict the company’s
capacity and companies can still not perform all acts that a natural person can, for
instance getting married.

QUESTION 3:
The main object of ABC (Pty) Ltd is manufacturing furniture. The Memorandum of
Incorporation provides that the board of directors may appoint a managing director
who will be authorised to enter into contracts on behalf of the company. Should the
contract, however, exceed the amount of R150 000, prior consent of the general
meeting is required. Godfried, one of the directors, buys a beach house for R3,5
million from Nomagugu on behalf of ABC (Pty) Ltd.
With reference to the set of facts above, answer the following questions:
(a) Explain whether or not ABC (Pty) Ltd can raise the restrictions to its capacity
as contained in its Memorandum of Incorporation as grounds to avoid being
bound to the contract. (5)

No. Section 19(1)(b) of the Companies Act provides that a company has all the
legal capacity and the powers of a natural person, except to the extent that a juristic
person is incapable of exercising any such power, or the company’s Memorandum of
Incorporation provides otherwise. Therefore, the capacity of a company is no longer
limited by its main or ancillary objects or business, and these objects need not even
be stated in the Memorandum of Incorporation.
(b) Assume that Godfried had contracted on behalf of ABC (Pty) Ltd with
Nomagugu on previous occasions. What would Nomagugu have to prove if
ABC (Pty) Ltd denies being bound to the contract on the basis that Godfried
lacked express authority to conclude the contract? Refer to relevant case law
in your answer. (5)

Estoppel applies only when the agent did not have actual authority to bind the
company. Take particular note of the fact that the misrepresentation (i.e. that the
agent had the necessary authority when, in fact, he or she did not) must have been
made by the company as principal.
In Freeman and Lockyer v Buckhurst Part Properties (Mangal) Ltd, the court decided
that estoppel could not only arise from the Articles (note that this would be the
Memorandum of Incorporation in terms of the current Companies Act), but also
because the company with full knowledge and approval allowed an ordinary director
to act as the managing director and, in this manner, culpably represented that he
was entitled to act.
Based on such misrepresentation, the company will be prevented (estopped) from
denying liability if the third party can prove that
-the company misrepresented, intentionally or negligently, that the agent concerned
had the necessary authority to represent the company
-the misrepresentation was made by the company

6
-the third party was induced to deal with the agent because of the misrepresentation

QUESTION 4:
The Memorandum of Incorporation of ABC Learning (Pty) Ltd states that the main
object of the company is to provide books, learning services and computers to
students. The Memorandum of Incorporation also provides that any contract which is
to be concluded by the managing director on behalf the company which exceeds the
amount of R10 000, must first be authorised by the general meeting by means of an
ordinary resolution. Gideon, the managing director of the company concludes a
contract on behalf of the company with Dewald of Books 4 U (Pty) Ltd without the
authorisation of the general meeting. The contract is for the purchase of textbooks to
the value of R12 000. Discuss whether or not this contract will bind ABC Learning
(Pty) Ltd. (5)

The company is bound by the contract concluded because of the operation of

section 20(7) of the Companies Act. It provides that a person dealing with a
company in good faith is entitled to assume that the company has complied with all
of the formal and procedural requirements in terms of the Companies Act and the
company’s Memorandum of Incorporation and rules unless the person knew or
reasonably ought to have known of any failure by the company to comply with its
formal and procedural requirements. There is no indication from the facts that Mr
Matthews knew or reasonably ought to have known that Dewald was aware of the
fact that Gideon did not comply with procedural requirement and had acted in bad
faith. Based on these facts, the company is bound by the contract.
The contract will also be binding because of the common-law Turquand rule.
PLEASE READ QUESTIONS CAREFULLY IN THE EXAM AS WE MAY RESTRICT
THE SCOPE OF THE CORRECT ANSWER BY INDICATING EITHER IN TERMS
OF THE COMPANIES ACT OR IN TERMS OF THE COMMON LAW

QUESTION 5:
Indicate what a third party would need to prove in order to rely on the doctrine of
estoppel in order to hold a company liable for performance in terms of a contract
concluded on its behalf. Refer to relevant case law in your answer. (5)

Refer to the answer in 3(b) above The third party must prove that
-the company misrepresented, intentionally or negligently, that the agent concerned
had the necessary authority to represent the company
-the misrepresentation was made by the company
-the third party was induced to deal with the agent because of the misrepresentation
Freeman and Lockyer v Buckhurst Part Properties (Mangal) Ltd

7
QUESTION 6:
The Memorandum of Propco (Pty) Ltd states that the company’s principle business
is “the delivery of estate agent services”. One of the directors purchases a racing
horse on behalf of the company at a racing horse auction.
With reference to the set of facts above, answer the following questions:
(a) What would the common-law consequences of concluding a contract such as
the one in the set of facts have been? (2)

In terms of our common law, a contract is ultra vires the company when the
conclusion of the transaction is beyond its legal capacity. In other words, if a
company’s principal business is, for instance, catering, it would be outside the
company’s capacity to buy an expensive yacht on behalf of the company. The ultra
vires doctrine is based on the understanding that a company exists in law only for
the purpose for which it was incorporated. According to the ultra vires doctrine, when
an act on behalf of the company falls outside its main and ancillary objects, the
company does not exist in law and, consequently, such an act is not binding on the
company.

(b) How has the common-law position been changed by the Companies Act 71 of
2008? (5)

Section 19(1)(b) of the Companies Act provides that a company has all the legal
capacity and the powers of a natural person, except to the extent that a juristic
person is incapable of exercising any such power, or the company’s Memorandum of
Incorporation provides otherwise. Therefore, the capacity of a company is no longer
limited by its main or ancillary objects or business, and these objects need not even
be stated in the Memorandum of Incorporation.

---------------------------------------end of unit-----------------------------------------------------------