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PAPER NO. 7 COMPANY LAW

UNIT DESCRIPTION

This paper is intended to equip the candidate with knowledge, skills and attitudes that will enable him/her to apply and comply with the provisions of Company Law in relevant circumstances and environments and further to demonstrate knowledge of the law and regulations governing corporate entities and ensure compliance in practice.

LEARNING OUTCOMES

A candidate who passes this paper should be able to:

Apply legal principles relating to formation of companies
Evaluate the rights and obligations of members and shareholders
Comply with the legal principles governing liquidation of corporates
Comply with the legal principles governing restructuring of companies
Comply with the legal principles relating to companies incorporated outside the country
Comply with the legal requirements relating to the financing of companies.

CONTENT

Nature and classification of companies

Nature and characteristics of a company
Types of companies
Principle of legal personality and veil of incorporation
Distinction between companies and other forms of business associations sole proprietorships, partnerships and cooperative societies.

Formation of companies

Promoters and pre-incorporation contracts and deeds.
Process and drafting documents required to form a company.
Rules relating to company names
Memorandum and articles of association
Certificate of incorporation
Effects of incorporation
Execution of a company’s documents
Alteration of status of companies

Membership of a company

Acquisition of membership
Register of members
Rights and liabilities of members
Cessation of membership
Register of a company’s beneficial owners
Derivative actions.

Shares

Classes of shares
Variation of class rights
Share certificates
Issue and allotment
Transfer and transmission
Transfer of shares under central depository system
Mortgaging and charging of shares

Share capital

Meaning and types of share capital
Raising of share capital
Prospectus/information memorandum
Maintenance of capital
Alteration and Consolidation of share capital
Dividends

Debt capital

Borrowing powers of a company
Company assets that can secure a company’s borrowings
Company debentures
Company charges
Meetings and resolutions in respect of debt capital
Registration of charges
Remedies for debenture holders

Company meetings

Nature and classification of company meetings
Types of company meetings held to execute various functions of company meetings
Methods of holding company meetings
Essentials of a valid physical, virtual and hybrid meeting Voting
Resolutions
Drafting resolutions
Protection of minority shareholders

Company Directors

Qualifications, appointment and disqualification
Powers and duties of directors
Removal and vacation of office
Register of directors
Remuneration of directors
Loans to directors
Compensation for loss of office
Disclosure of director’s interest in contracts
The rule in Turquand’s case/Indoor Management rule
Insider dealing

The Company Secretary

Qualification, appointment and removal
Powers and duties of the Company Secretary
Liability of the Company Secretary
Register of Secretaries

Auditors

Qualification, appointment and removal
Remuneration of auditors
Powers and duties
Rights and liabilities

Company accounts

Books of accounts
Form and content of accounts
Group accounts
Director’s report

Audit of Company Accounts

Auditor’s report
Annual returns

Company Investigation

Investigation of company affairs
Appointment and powers of inspectors
Inspector’s report

Corporate restructuring

Need for restructuring
Mergers
Post – merger reorganisation of a company’s share capital
Takeovers and acquisitions
Mergers and divisions of public companies
Compromises, arrangements, reconstructions and amalgamations

Receivership, Administration, Liquidation and Dissolution of companies

Meaning of receivership, administration and dissolution
Appointment and vacation of office by the Official Receiver
Powers and duties of a receiver
Termination of receivership
Appointment of an administrator
Functions and powers of an administrator
Process of administration
Termination of appointment and replacement of administrators
Company voluntary arrangements
Meaning of liquidation
Types of liquidation
Appointment, powers and duties of liquidators
Discharge of liquidators
Distribution of assets and dissolution of companies

Foreign Companies

Process of registering a company
Certificate of registration
Power to hold land
Registration of charges
Accounts of foreign companies
Service of process and notices on foreign companies
Returns
Penalties
Cessation of business

TOPIC 1

NATURE AND CLASSIFICATION OF COMPANIES

QUESTION 1

December 2023 Question Five C

Examine THREE legal consequences that may befall a foreign company operating in your country, if it fails to comply with the legal requirements as provided for in the Companies Act. (6 marks)

ANSWER

Legal consequences that a foreign company operating in Kenya may face if it fails to comply with the legal requirements as provided for in the Companies Act No. 17 of 2015:

Fines and Penalties: The most common consequence is financial penalties imposed by the Registrar of Companies. These can be significant and can have a serious financial impact on the company. The Act specifies various fines for different offenses, such as:

Failing to register a branch office.
Not filing annual returns on time.
Not appointing a local representative.
Operating without a valid lease agreement for land (if applicable).

Inability to Enforce Contracts: If a foreign company fails to comply with the Companies Act, it may be unable to enforce contracts entered into in Kenya. This can leave the company vulnerable to financial losses and other legal challenges. Kenyan courts may be reluctant to grant legal recourse to a foreign company that hasn’t followed proper registration and compliance procedures.

Striking Off the Company Register: In serious cases of non-compliance, the Kenyan authorities may strike the foreign company off the company register. This would effectively mean that the company would cease to exist as a legal entity in Kenya and would be unable to operate in the country. This could have significant consequences, such as:
1. Loss of business licenses and permits.
2. Difficulty repatriating profits earned in Kenya.
3. Damage to the company’s reputation.

QUESTION 2

August 2023 Question Six B

Discuss THREE advantages and THREE disadvantages of the principle of legal personality. (12 marks)

ANSWER

The principle of legal personality is a legal concept that gives a company the same legal rights and duties as a human being. This means that a company can own property, enter into contracts, sue and be sued in its own name.

Advantages of the principle of legal personality:

Limited liability: Shareholders are not personally liable for the debts and liabilities of the company. This means that if the company goes bankrupt, the shareholders’ personal assets are protected.
Continuity of existence: A company is a separate legal entity from its owners and managers. This means that the company can continue to exist even if its owners or managers change.
Facilitation of business transactions: The principle of legal personality makes it easier for companies to enter into contracts and other business transactions. This is because companies are treated as separate legal entities, and their contracts and transactions are not binding on their owners or managers.

Disadvantages of the principle of legal personality:

Abuse of corporate form: The principle of legal personality can be abused by companies to commit fraud or other wrongdoing. For example, a company may be used to hide assets from creditors or to avoid paying taxes.
Complexity: The principle of legal personality can create complexity in the legal system. This is because courts must determine whether a company is a separate legal entity in each case.
Cost: The principle of legal personality can be costly for companies to maintain. This is because companies must comply with a number of legal requirements, such as filing annual returns and holding shareholder meetings.

QUESTION 3

April 2023 Question One A (i)

A group of four graduates have decided to form a small business firm to deal in import and export trade. You have been appointed as a member of the technical committee to help in registering the firm as a limited liability company. Explain to the committee the matters below:

(i) The FIVE legal characteristics of the entity that will be registered. (5 marks)

ANSWER

Legal characteristics of the entity that will be registered

Legal personality: As a limited liability company (LLC), the business will be recognized as a separate legal entity distinct from its owners. This means that the company can own assets, enter into contracts, and sue or be sued in its own name. The concept of legal personality was explained in the case of reference salomon vs salomon co lts 1897.
Limited liability: The liability of members of the limited liability company is limited up to the extent of any amount that remains unpaid on the shares that are taken by the members. Therefore where the member has fully paid for his shares he cannot be called upon to contribute to the debts of the company if the company is unable to pay its debts.
Ownership of the property: A registered company can acquire and own property under its registered name .Such property does not belong to the members or shareholders. This was explained in the case of Macaura vs Northern Assurance Co Ltd
Capacity to Contract: A registered company can enter into legally binding contracts with other parties in order to pursue its objectives.
Capacity to sue or be sued: a registered company can sue another party to protect its interest and can also be sued if it fails to fulfill its obligations.

QUESTION 4

April 2023 Question One B and C

b) With respect to the nature and classification of companies, distinguish between a registered company and a:

(i) Statutory corporation. (1 mark)

(ii) Partnership. (4 marks)

c) Outline FIVE instances under common law where the veil of incorporation may be lifted. (5 marks)

ANSWER

b). Distinguish between a registered company and:-

i) Statutory Corporation

A statutory corporation is a type of company that is created by a specific statute or legislation enacted by the government. It is a separate legal entity established for a specific public or governmental purpose. Here are a few distinctions between a registered company and a statutory corporation:

Formation: A registered company is formed by individuals or entities coming together and registering the company under the relevant company laws. On the other hand, a statutory corporation is created through a special law or statute passed by the government, granting it legal existence and specific powers.
Ownership: In a registered company, the ownership typically rests with the shareholders who invest capital in the company and hold shares. In a statutory corporation, ownership is vested in the government or a public authority, and there are usually no shareholders.
Purpose: A registered company can engage in various commercial activities for profit, whereas a statutory corporation is typically established to fulfill specific public functions or provide essential services. For example, a statutory corporation may be responsible for managing public utilities, regulating certain industries, or providing public services like transportation or healthcare.
Governance: A registered company is governed by its own internal rules and regulations, such as articles of association and shareholder agreements. The management structure and decision-making processes are determined by the shareholders and directors. In contrast, a statutory corporation has a governing body appointed or nominated by the government or relevant authority. The governance structure is determined by the legislation that created the corporation.

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ii) Partnership

A partnership is a business relationship between two or more individuals or entities who agree to carry on a business together and share its profits and losses. Here are four distinctions between a registered company and a partnership:

Legal Status: A registered company is a separate legal entity from its owners, while a partnership does not have a separate legal existence. Partnerships are considered an extension of the individuals or entities forming the partnership.
Liability: In a registered company, the liability of the shareholders or members is usually limited to their investment in the company, and their personal assets are protected. In a partnership, the partners have unlimited liability, meaning they are personally liable for the debts and obligations of the partnership. Their personal assets can be used to satisfy partnership liabilities.
Management and Decision-making: In a registered company, the management structure and decision-making processes are determined by the company’s articles of association and governed by directors and shareholders. In a partnership, the partners have equal rights in the management and decision-making of the business unless otherwise agreed. Partners generally have a say in the day-to-day operations and can participate in decision-making.
Transferability of Ownership: In a registered company, ownership is represented by shares, which can be bought, sold, or transferred freely, subject to any restrictions in the company’s articles of association. In a partnership, ownership interests are not represented by shares, and transferring ownership requires the consent of all partners unless otherwise specified in a partnership agreement.

c) Instances under common law where the veil of incorporation may be lifted

Under common law, there are several instances where the “veil of incorporation” may be lifted, which means that the courts disregard the separate legal personality of a company and hold its members or directors personally liable for the company’s actions or debts. Here are five instances where the veil of incorporation may be lifted:

Fraudulent or Improper Conduct: If a company is formed or used for fraudulent or improper purposes, the courts may disregard the separate legal personality and hold the individuals behind the company personally liable. This includes situations where the company is used to commit fraud, conceal illegal activities, or evade legal obligations.
Agency or Trust Relationship: When a company acts as an agent or trustee for its members or directors, and they misuse the company to benefit themselves at the expense of others, the courts may lift the veil of incorporation. This typically occurs when the company is used to defraud creditors or divert assets for personal gain.
Group of Companies: In certain cases involving a group of companies, the courts may lift the corporate veil to determine the true economic reality or to prevent an injustice. If companies within a group are operating as a single economic unit, and one company is being used to avoid legal obligations or unfairly deprive creditors, the courts may disregard the separate legal personality.
Avoidance of Legal Obligations: If a company is set up or structured with the intention of avoiding legal obligations, such as tax obligations or contractual obligations, the courts may lift the veil of incorporation. This occurs when the company is seen as a mere façade or sham created to circumvent the law.
Neglect of Statutory Requirements: If a company fails to comply with certain statutory requirements, such as maintaining proper accounting records, filing required documents, or acting in accordance with its constitutional documents, the courts may lift the corporate veil. This typically occurs when the company’s non-compliance is deemed to be a serious and deliberate disregard of legal obligations.

QUESTION 5

December 2022 Question One

(a) Highlight FIVE rules relating to the naming of companies. (5 marks)

(b) Describe the effect of the principle elucidated by Lord MacNaghten in the case of Salomon-V-Salomon. (7 marks)

(d) Identify FOUR features of an unlimited company. (4 marks)

ANSWER

(a) Rules relating to the naming of companies

The name must not be too similar to that of an existing company.
The name must not in the opinion of the registrar be undesirable.
The name must not mislead the public in any manner.
The name must not suggest any patronage of the government, president, department or ministry.
The name must not support a criminal or immoral intent or purpose.
The name must contain the word Limited or Ltd as the last word thereof.
The name must not contain the term co-operative or its equivalent or any abbreviation thereof.
The name must not generally contain the terms “national” or “international.”
The name must not contain the terms “bank,” “insurance” or “hotel” unless the company proposes to carry on such business.
The name must not contain the surname of a person who is not named or proposed directory of the company.
The name must not contain the registered trademark of any person without his written consent.

(b) Effect of the principle elucidated by Lord MacNaghten in the case of Salomon-V-Salomon

The principle elucidated by Lord MacNaghten in the case of Salomon v Salomon is often referred to as the “corporate veil” or the “separate legal personality” of a corporation. This principle holds that a corporation is a separate legal entity from its owners, shareholders, and directors, and that it has the same legal rights and responsibilities as a natural person.

The effect of this principle is that:

Limited Liability: Members liability is limited by shares or guarantee. It means that the liability of a company’s shareholders is generally limited to the amount of capital they have invested in the company. This means that if a company incurs debts or is sued, the shareholders are not personally liable for those debts or claims, unless they have given personal guarantees.
Perpetual Succession: Since a registered company is a legal person not susceptible to natural shocks, it has capacity to exist in perpetuity as its life lies in the intendment of law i.e. Company can continue to exist indefinitely, even if its shareholders change or the company is sold to new owners. This allows companies to be used as a vehicle for long-term business ventures, as the company can outlast the involvement of any individual shareholders.
Owning of property: a registered company has capacity to own property in its own e.g. land. Such property is vested in the company (Macauras case). It has an insurable interest in it.
Sue or be sued: It has capacity to enforce its rights and may be sued on its obligations (Foss v Harbottle). It is Primafacie the proper plaintiff for redress. This allows third parties to have legal recourse against a company if they feel they have been wronged by the company’s actions, without having to pursue individual shareholders or directors.
Capacity to contract: a company has legal ability to enter into contractual relationships

(c) Difference between a “company limited by shares” and a “company limited by guarantee.”

A company limited by shares is a type of company that is owned by shareholders, who are the people who have bought shares in the company. The shareholders are liable for the company’s debts only to the extent of the amount of money they have invested in the company’s shares. This means that if the company becomes insolvent and is unable to pay its debts, the shareholders will not be personally responsible for paying them.

A company limited by guarantee, on the other hand, is a type of company that is owned by its members, who are the people who have agreed to be members of the company. The members of a company limited by guarantee are not required to buy shares in the company. Instead, they are required to provide a “guarantee” in the form of a fixed amount of money that they agree to pay if the company becomes insolvent and is unable to pay its debts. The members of a company limited by guarantee are not personally responsible for the company’s debts beyond the amount of their guarantee.

The main differences between the two limited companies are:

Basis of Distinction	Limited by Guarantee	Limited by Shares
Object	They are formed to provide specific services to the public and are non-profit making business. Therefore, it has specific objects & detailed rules pertaining to which areas they want to work upon.	They are formed for profit-making business and have very general objectives and the clauses which allow them to pursue any legal activity or trade.
Share Capital	May or may not have share capital	Must have share capital
Shareholders	There are no shares – hence there are no shareholders. Instead, the company will have members.	Owners of shares are called shareholders of the company.
Company	Companies limited by guarantee are non-profitable organization. They are specially designed for charitable purposes.	Companies limited by shares are profit making organization

SAMPLE WORK

Complete copy of CPA COMPANY LAW REVISION KIT is available in SOFT copy (Reading using our MASOMO MSINGI PUBLISHER’S APP) and in HARD copy

Phone: 0728 776 317

Email: info@masomomsingi.co.ke

(d) Features of an unlimited company

An unlimited company is a type of business entity that is not required to have a stated capital, and does not have a limit on the liability of its members. Here are four features of an unlimited company:

No stated capital: An unlimited company does not have a stated capital, which means that there is no minimum amount of capital that the company is required to have. This means that the company’s members are not required to contribute a specific amount of money to the company when it is formed.
No limit on liability: The liability of its members is not limited. This means that the members of the company are personally responsible for the company’s debts and obligations.
More flexible: Unlimited companies are generally considered to be more flexible than limited companies, as they do not have the same legal requirements and restrictions. This means that they can be more easily adapted to suit the needs of the business.
Fewer regulatory requirements: Unlimited companies are subject to fewer regulatory requirements than limited companies, as they do not have to meet the same reporting and disclosure requirements. This can make them a more attractive option for businesses that want to avoid the burden of compliance.

QUESTION 6

August 2022 Question One A

(i) Explain three advantages of a public company over a private company. (6 marks)

(ii) Distinguish between “corporation sole” and “corporation aggregate”. (4 marks)

ANSWER

(i) Advantages of a public company over a private company

Raising capital through public issue of shares: The most obvious advantage of being a public company is the ability to raise share capital, particularly where the company is listed on a recognised exchange. Since it can sell its shares to the public and anyone is able to invest their money, the capital that can be raised is typically much larger than a private company. It’s also possible that having stock listed on an exchange could attract investment from hedge funds, mutual funds and other institutional traders.
Growth and expansion opportunities: The value of being able to raise finance is in how it can be employed to serve the business. By having more finance potentially more readily available and on better terms than a private company, the public limited company can be in an advantaged position to: Pursue new projects, new products or new markets, Make capital expenditure to support and enhance the business, Make acquisitions (whether in cash or by offering shares to the shareholders of the target business) and Pay off existing debt (or replace existing debt with new debt on better terms)
Transferability of shares: The shares of a public limited company are more easily transferable than those in the private equivalent, meaning shareholders benefit from liquidity. If shares are quoted on a stock exchange, shareholders and potential shareholders will generally find it easier to transfer shares in the company – although the market still relies on willing purchasers and sellers being available. The fact the shareholders are less bound to remain with the company can give them comfort – and may help the company by making people more willing to invest. Without restrictions on transferability of shares that often apply in private companies, it’s also easier to deal with situations like a shareholder’s death, allowing shares to be transmitted in line with the terms of any will.
Increased Prestige – Investors, financial institutions, customers, and employees may see the company as a larger player in the industry as a public company as opposed to if it is a small, privately owned business. Increased recognition can also provide free advertising and public relations for a business, providing opportunities for growth as more people learn of the company and their brand.
Tax Concerns – Utilizing business stock for acquisitions lowers the need for cash, instead allowing businesses to complete a transaction without using IPO proceeds for continued growth. Acquisitions made with stocks as consideration may be seen as “tax-free” reorganizing, allowing the business to defer the tax on any gains from the business sale.
Grant of Options – A public company can also use its stocks to compensate existing and future employees and officers via directly issuing stocks or grant options. This allows potential employees and management the opportunity to benefit from a business’s success.
Liquidity – An IPO can provide liquidity to a business’ employees, pre-IPO investors that hold company stock and founders. While pre-IPO investors may not be able to liquidate their stocks immediately, due to underwriters imposed “lockup” requirements and additional rules of the SEC, there is future monetary value to their stock.

(ii) Distinction between a corporation sole and a corporation aggregate

Corporation sole: This is legally constituted office distinct from the holder and can only be held by one person at a time after which he is succeeded by another. The office is a body corporate with perpetual succession^ capacity to contract, sue or be sued and own property e.g. Office of the Permanent Secretary to the Treasury, Office of the Public Trustee.
Corporation aggregate: This is a legal entity formed by two or more persons for a lawful purpose and whose membership consists of at least two persons. It has independent legal existence, capacity to contract, sue orbe sued and perpetual succession e.g. private and public companies.

QUESTION 7

April 2022 Question Six D

Distinguish between a “private” and a “public” company. (4 marks)

ANSWER

Distinctions between “Private Company” and “Public Company” as Per Companies Act, 2015

PRIVATE COMPANY	PUBLIC COMPANY
Any one or more persons may form a private company up to a maximum of 50 members.	Any one or more persons may form a public company
Must have at least one director	Must have at least 2 directors( at least one Director must be a natural person)
No minimum capital requirement.	Authorised minimum capital required
No restrictions on allotment of shares	Cannot allot shares unless at least one-quarter of their nominal value and the whole of any premium has been paid up.
Once the Certificate of Incorporation is issued, the company may commence business.	Trading license must be obtained before conducting business or exercising borrowing powers
The company is restricted in the transfer of its shares and the shares are not freely transferable.	The company may transfer or sell its shares to the members of the public
Required to file financial statements (unless exempted) and director reports.	They are strictly regulated hence the financial accounts and director reports are published and filed with the Registrar
Does not have to appoint a secretary unless with paid up capital of at least Kshs. 5 million and above	Must have a company secretary