NEW REVISED KASNEB SYLLABUS

COMPANY LAW STUDY

NOTES
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2023

MASOMO MSINGI PUBLISHERS

 COMPANY LAW STUDY NOTES

CPA
CS

INTERMEDIATE LEVEL

COMPANY LAW
NOTES

Revised: January 2023

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 COMPANY LAW STUDY NOTES

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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
1. 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.

2. 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

3. Membership of a company
 Acquisition of membership
 Register of members
 Rights and liabilities of members

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 Cessation of membership
 Register of a company’s beneficial owners
 Derivative actions.

4. 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

5. 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

6. 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

7. 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

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 Protection of minority shareholders

8. 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

9. The Company Secretary

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

10. Auditors
 Qualification, appointment and removal
 Remuneration of auditors
 Powers and duties
 Rights and liabilities

11. Company accounts

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

12. Audit of Company Accounts

 Auditor’s report
 Annual returns

13. Company Investigation

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

14. 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

15. 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

16. 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

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CONTENT PAGE NUMBER

Topic 1: Nature and classification of companies………………………….………..….....9

Topic 2: Formation of companies…………………………………………….…..…..…23
Topic 3: Membership of a company………………………………………….…..…..…56
Topic 4: Shares……………………………………………………….…………..…..….76
Topic 5: Share capital………………………………………………………….…...…..103
Topic 6: Debt capital…………………………………………………………….…..…131
Topic 7: Company meetings…………………………………………………….….….152
Topic 8: Company Directors……………………………………………………….......174
Topic 9: The company secretary…………………………………………………….…194
Topic 10: Auditors………………………………………………………….……….…202
Topic 11: Company accounts………………………..………………………................215
Topic 12: Audit of Company accounts………………………..……………………….223
Topic 13: Company Investigation……………………………………………………...226
Topic 14: Corporate restructuring………………………………………………...……234
Topic 15: Receivership, Administration, Liquidation and Dissolution of companies…251
Topic 16: Foreign Companies………………………….………………….……….…..270

TOPIC 1
NATURE AND CLASSIFICATION OF COMPANIES
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Introduction
A company can be defined as an association of people who contribute resources
into a business and in return acquire shares or ownership of the business and
they share out the profit that is generated by the business.
A company is considered to be a legal person and therefore the persons who
have created it are always considered to be separate from that company.
In Kenya majority of companies are registered governed by the Companies Act 2015.

CHARACTERISTICS OF A COMPANY
1. Legal personality: A registered company is considered to be a legal
person that is separate from the person who formed it. The concept of
legal personality was explained in the case of reference salomon vs
salomon co lts 1897.
In this case salomon had converted his sole trade business into a
company where he was a majority shareholder together with his family
members. He had also given the company a loan that was not secured by
the company’s assets making him a secured creditor. When the company
went into liquidation the other creditors argued that Salomon should not
be paid as a secured creditor before them because according to them he
and the company were the same. The court held that Salomon and the
company were separate and according to the court once a company is
registered it becomes a separate legal person different from its owners.
2. Limited liability: The liability of members of the 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.
3. 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 1925. In this case Macaura had converted his timber business into a
company. He took an insurance cover to protect the timber against fire. However
the policy was registered in his own name. When the timber was destroyed by fire
Macaura made claim for compensation but the insurance company refused arguing
that Macaura had no insurable interest on the timber .When he sued the company
the court held that Macaura could not be compensated because the property he
insured belonged to the company. The court explained that companies properties
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do not belong to the members

4. Capacity to Contract: A registered company can enter into legally binding
contracts with other parties in order to pursue its objectives.
5. 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.
6. Perpetual succession: The Company’s life is not affected by the death of its
members .if a member dies the company continues to exist.
7. Common Seal: A registered company can acquire a common seal that can be
used as an official signature of the company.
8. Borrowing Power: A registered company can borrow finances from lenders to
finance its operations.
9. Management: Registered companies are usually managed by trained personnel
that are able to provide professional services to the company.
10. Transfer of Shares: Shares of a registered company can be transferred from one
member to another.

Disadvantages of a company

1. It’s expensive: Registration of a company involves costs, including legal fees.

2. Complicated procedures: A lot of procedures are involved in formation and
running the company.
3. Publicity/lack of confidentiality: A company is subject to undue publicity i.e.
such documents must be delivered to the registrar and are open to public scrutiny.
4. High taxation: companies pay corporation tax at 30% for local companies and
37.5% for foreign companies which is relatively high compared to an income tax
paid by individual partners.
5. Participation in the management: shareholders other than those who are
directors are not involved in the day to day management of the company
6. Doctrine of ultra vires: Any act done beyond articles of association is null and
void i.e. beyond powers.

TYPES OF COMPANIES

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holding &
chartered statutory registered foreign
subsidiary
corporations cororpartions companies companies
companies

public private
companies companies

unlimited limited unlimited limited

compnies companies companies companies

limited by limited by
shares guarantee

1. Chartered corporations
- These are corporations created by a charter that is granted by the president.
- Only private universities are created through charter in Kenya.
- Under university’s act, the president is empowered to grant a charter to any private
university intending to be set up to benefit the country.
- The charter must set out the name, membership and also the powers and functions
of the universities e.g. mount Kenya University.

2. Statutory corporations
- They are created by an Act of parliament or an order of the president in
accordance with the state corporations Act.
- These are government corporations especially parastatals.
- The Act creating the corporation gives it a name, management structure and also
prescribes the objects i.e. Kenya pipeline, Kasneb, NSSF, NHIF, Central Bank etc.

3. Registered corporations
- Are created in accordance with the provisions of companies Act.
- Certain documents must be delivered to the registrar of companies for registration
i.e. MOA and AOA. Examples include public and private companies.

Public company
This is a company with the following features:

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1. Must have a minimum of 7 members and no. maximum.

2. Must have at least 2 directors.
3. Its shares must be freely transferable.
4. It must have a statutory meeting i.e. first AGM within 3 months of formation for
companies that were created before 2015.
5. Must publish annual accounts.
6. After acquiring certificate of incorporation, it must go ahead and acquire
certificate of trading to commence business.
7. It must have a company secretary.

N/B: A public company is required to include at the end of its name the words-public
limited company (PLC) e.g. Safaricom PLC

Private company
A private company is a company with the following features.
1. Members are a minimum of 1 and max of 50 persons excluding employees.
2. It requires at least 1 director.
3. Restricts the right to transfer its shares.
4. It prohibits any invitation to the public to subscribe for its shares i.e. doesn’t issue
a prospectus.
5. Not mandatory to publish its accounts.
6. Required to have a Company secretary if it has a share capital of 5million.
N/B: A private company must include the word limited or Ltd at the end of its name.

A public and private company may be classified under;

a) Companies Limited by shares

It refers to a company which the liability of members is limited to the amount unpaid on
the shares held by them.

b) Companies Ltd by guarantee

A company Limited by Guarantee if:
1. it does not have a share capital;
2. The liability of its members is limited by the company’s articles to the amount that
the members undertake, by those articles, to contribute to the assets of the
company in the event of its liquidation; and
3. Its certificate of incorporation states that it is a company limited by guarantee.

Companies Limited by Guarantee in Kenya are mainly registered for the purpose of
operating non-profit organizations that require a legal personality.

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c) Unlimited companies
These are companies where member’s liability is unlimited.
Such members may lose their private assets, in case the company is declared insolvent.

DISTINCTION BETWEEN COMPANIES AND OTHER FORMS OF BUSINESS

ASSOCIATIONS SOLE PROPRIETORSHIPS, PARTNERSHIPS AND
COOPERATIVE SOCIETIES

Difference between Public Company and private company

Public company Private company

Membership Minimum of 7 and no Minimum of 1 and
maximum maximum of 50
Prospectus Can issue a prospectus Cannot issue a prospectus
Director At least 2 directors At least 1 director
Transfer of shares Shares are freely Restricts transfer of shares
transferable to members only
Commencement of Can only commence Can commence business
business business after certificate after certificate of
of trading is issued Incorporation is issued
Publication of accounts Must publish its account No requirement to
publish accounts

Difference between Registered Company and statutory company

Registered company Statutory company

Incorporated under the provisions of the Created by an Act of parliament
Company Act
Governed by directors Owned by the government

Can only engage in transactions stipulated in Can only engage in transactions set by
memorandum and articles of association the statute.

Difference between Companies and private Partnership

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COMPANIES PARTNERSHIP
LEGAL Is a legal person distinct from Is not a legal person in eyes of
PERSONALITY its members law
MEMBERSHIP 1-50 members for private Requires a min of 2-20 persons.
companies and minimum of
7 and no maximum for public
companies.
REGISTRATION Registered under Companies Registered under partnership Act
Act
CAPACITY TO Has capacity to own property Property is jointly owned by
OWN PROPERTY under its own name. partners
MANAGEMENT Managed by directors. Managed by partners
MEETINGS A legal requirement to hold It is not a legal requirement.
AGM.
PERPETUAL Has perpetual succession. Death, bankruptcy or insanity can
SUCCESSION lead to dissolution of partnership
DOCTRINES OF Ultra vires means beyond Not bound by doctrine of ultra
ULTRA VIRES power. A company is bound vires
by this doctrine since any act
beyond AOA is beyond
power.
Must appoint auditors to Is not a legal requirement.
AUDITORS audit books of accounts.
LIABILITY Limited by shares or Members liability is unlimited i.e.
guarantee partners may lose personal assets
in case of insolvency.

There are two types of corporations mainly:

i) Corporation sole
ii) Corporation aggregate

1. Corporation sole
This is a legally established office distinct from the owner and can only be occupied
by one person after which he is succeeded by another e.g. the president’s office, chief
justice office etc.
It has the following features
1. It is a legal person with limited liability.
2. It can own property.

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3. It can enter into a contract.

4. It has perpetual succession.
5. It can sue or be sued.

2. Corporation aggregate
- This is a legal entity formed by two or more persons for a lawful purpose.

It has the following features:

1. It has independent legal existence with limited liability.
2. It has perpetual succession.
3. Capacity to contract.
4. It can own property.
5. It can sue or be sued.

Examples of corporation aggregate

1. Chartered corporations.
2. Statutory corporations.
3. Registered corporations or companies.

OTHER TYPES OF COMPANIES

1. Holding and subsidiary company

Holding is a company which controls the management of another company known as the
subsidiary.
Subsidiary is a company controlled in terms of management by another company known
as parent company.
 A company is deemed to be a holding company of a subsidiary company if:
i) The holding company controls the majority of the BOD i.e. controls the
management of another company.
ii) If the holding company owns more than half in nominal value of equity share
capital of subsidiary i.e. controls more than 50% of share capital of subsidiary
company.
iii) If a subsidiary of another company which is that other company’s subsidiary.

2. Foreign company
This is a company incorporated outside Kenya but having a place of business in Kenya.

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Ordinarily these companies are known as multi-nationals because they operate in many
countries outside their country of origin.

Unincorporated association
This is a group of people who have come together to promote/pursue a common purpose
but without going through the various legal procedures of registering a company. These
associations are not body corporate.

They include:
1. Trade union
2. Societies
3. Partnerships
4. Staff union

1. Trade unions
Are organisations whose primary objective is to regulate the relationship between
employer and employees e.g. COTU, KNUT etc. A registered trade union has special
privileges
i) It may sue/be sued under its registered name.
ii) Its offices are immune from civil prosecutions for acts committed in furtherance of
a trade dispute.
iii) All properties of trade unions are vested on trustees for benefits of its members.

2. Co-op societies
It is basically an independent organisation of people who have come together voluntarily
to meet a common economic, social or cultural needs.

Cooperative principles
1. Voluntary and open membership
2. Democratic membership control i.e. one man one vote
3. Economic participation by members.
4. Autonomy and independence
5. Education, trading and information.
6. Cooperation among cooperatives.
7. Concern for the community in general.

Advantages of co-operatives

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1. Mobilization of savings
2. Marketing of agricultural produce
3. Provision of credit to members.
4. Creating employment both directly and indirectly
5. Training, education and information to members. E.g. technology
6. Collection, transportation and process of agricultural produce

Types of cooperative societies

1. Primary Cooperatives: This is one whose membership is restricted to individual
members.
2. Co-operative union: This is a co-op society whose membership is restricted to
primary societies i.e. KUSCO
3. Apex: it is a co-op society whose membership is restricted to co-op unions.

Difference between a cooperative society and a company

Co-op society Company

Created and regulated by societies act. Created under companies act.
Formed by at least 10 members. At least 1 member for private companies 7 for
public companies
It is not a legal person. It is a legal person
Main purpose is to serve its members. Main work is to serve the public
Managed by management committee. Managed by board of directors.
Registered by commissioner of co- Registered by the registrar of the company.
operative development.
It is democratic as members have equal Members voting is based on number of shares
voting powers. held
8. Members have unlimited liability. Members have limited liability either by shares
or guarantee.

PRINCIPLE OF LEGAL PERSONALITY/VEIL OF INCORPORATION

Veil of incorporation refers to the situation where the real identity of the owners of the
company is hidden by the concept of legal personality
As a result the company is able to deal with parties in its own identity hiding the real
identity of the shareholders or people behind that company.

Exceptions to Concept of the Legal Personality

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A company is a legal person and it is separate from its members. This principle is
regarded as a curtain/veil/shield between the company and its members.

There are some exceptional instances where a company and members may be treated as
one and the same thing.

These instances are known as lifting the veil of incorporation or exceptions to the case
of Salomon vs. Salommon

However there are certain circumstances when the veil of incorporation can be lifted or
The concept of legal personality is disregarded in order to know the real identity of the
persons behind that company. This circumstances can be classified into two categories as
follows
i) Lifting the veil by the statute/Act of parliament.
ii) Lifting the veil by court.

Lifting the Veil by Act of Parliament/Legislation/ Company Act

These are circumstances when provisions of Company Act are not adhered to. They
include:
1. Reduction in number of members has fallen below statutory minimum
- Where the membership of a company falls below the statutory requirement and
members do business for more than 6 months
2. Non-publication/mis-description of companies name
- Every company is required by the Company Act to publish its name in legible
roman letters on all official publications e.g. cheques, invoices, bills exchange.
Failure to comply with those provision may lead to lifting of the corporate veil.
3. Group accounts
- The holding company is obligated to incorporate into its balance sheet the assets
and liabilities of the subsidiary as it was as their own asset and liabilities.
- This is also regarded as lifting the veil of incorporation.
4. Investigation of the companies affair by an inspector appointed by court
- Company Act requires an inspector appointed by the court to investigate
company’s affairs. This investigation may go beyond and investigate the
company’s members.
5. Investigation of companies membership by inspector appointed by registrar
of company
- The law empowers the registrar to appoint an inspector to investigate the
membership of any company for the purpose of determining the true person who
are financially interested in the success of the company.

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6. Take-over bid
- A scheme of take-over bid requires that 90% of the shareholders of the transferor
to approve.
- The dissenting and minority shareholders may apply to the court within one month
to restrain compulsory acquisition of their shares.
- The court may be in appropriate situation lift the veil of incorporation and
investigate members in protecting interest of minority.
7. Fraudulent trading
- The law requires that if it appears that any business of the company has been
carried on with the intention to defraud creditors during winding up, the court may
lift the veil of incorporation and hold those involved personally liable.

Lifting the veil By Court

1. Determination of character
- This is in order to determine whether a company is an enemy in times of war i.e. a
company whose members behind it are foreigners who come from a country which
at war with Kenya is also declared an enemy to Kenya.
2. The company is a sham
- This is where the company is used to carry out illegal or improper activities or to
perpetuate fraud, corruption, crime, sexual immorality etc.
3. Where the company is acting as the agent of the shareholder
- The company is not in law an agent of the subscribers. If the court holds that a
company acted in as particular instance as an agent of its shareholders, the veil of
incorporation would be lifted.
4. Protection of revenue
- The court would disregard the corporate entity where its used for tax evasion or to
circumvent tax obligation
5. Prevent deliberate evasion of contractual obligation
The veil is lifted where members are using the company to evade contractual
obligation.

PARTNERSHIP

It is a relationship which exists between persons carrying out a business with a view of
making profit.

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Duties of partners
1. Contribute capital.
2. To be accountable and not make secret profit.
3. To be honest and have full disclosure.
4. Not to compete with the firm.
5. Duty to share loss.

 Rights of a partner
1. To participate in decision making of the firm.
2. To participate in sharing profit.
3. To be informed in case of admission of a new partner.
4. To inspect or access partnership records.

 Dissolution of partnership
- It may be dissolved under the grounds:
i) By court order
ii) Without court order

1. By court order
- A partner in a partnership may apply to the court for the dissolution of partnership
under the following grounds.
i) Insanity
ii) Permanent incapacity
iii) Pre-judicial conduct/unfairness.
iv) Persistent breach of partnership agreement.
v) Continuous carrying of business at a loss
vi) Just and equitable grounds i.e. continuous disagreement.

2. Without court order

i) Lapse of time.
ii) Performance i.e. Completion of the objectives intended.
iii) By notice of the partners.
iv) Through bankruptcy of a partner.
v) Death of a partner.
vi) Insanity.
REVISION QUESTIONS

QUESTION 1
Distinguish between a company limited by shares and a company limited guarantee.
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QUESTION 2
a) Outline the circumstances under which a company is deemed to be a subsidiary of
another company.
b) Upendo Company was registered five years ago as an unlimited company. Its main
object was to offer humanitarian services to the less privileged members of the
society. The company has since grown into a large undertaking. The members wish to
convert the company into a limited company and seek your legal advice

Advice the members on the following;

i. The procedure to be followed in converting the company from an unlimited
company to a limited company.
ii. The legal effect of such a conversion on the right and liabilities of the members.

QUESTION 3
Kimoli and Anjere wish to venture into business. However, they are not sure of whether
to trade as a partnership or a private Limited company and seek your advice.

Advise them on the disadvantages of trading as a private limited company.

QUESTION 4
Distinguish between a company and a co-operative society.

QUESTION 5
a) Distinguish between a corporation sole and a corporation aggregate
b) Tim and Tom wish to establish a business jointly. However, they are not sure
whether to establish a limited liability company or an unlimited liability company; as
they know little about these types of companies.
i) Explain to them the differences between a limited company and an unlimited
company.
ii) State the provisions of the Companies Act regarding the re-registration of
unlimited company as limited.
c) Outline the documents that are normally kept at the registered office of a company

QUESTION 6
Akinyi Mburu and Mrs. Jerotich Sirniyu intend to start a business in the tourism industry.
Mrs. Mburu considers a partnership to be the best form of business while Mrs. Jerotich
prefers a private company.
Advice Mrs. Mburu and Mrs.Sirniyu on the following;

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a) The advantages of a registered company over a partnership.

b) The advantages of a partnership.

QUESTION 7
a) Explain the advantages of private companies over public companies
b) Outline the formalities and requirements that a private company is allowed to
dispense with through an elective resolution.

QUESTION 8
(a) Compare and contrast a corporation created under the Companies Act and a
corporation created under an Act of Parliament.
(b) Mr. and Mrs.Matanguta intend to form a limited company known as M and M
Hardware Limited. They approach you and seek you advice.

Advise them on the following issues:

(i) What is the meaning of a private limited company according to the Companies
Act?
(ii) What are the advantages of forming a private company as opposed to a public
company?
(iii) Assuming Mr. and Mrs.Matanguta wish to convert the private company into a
public company, what would they be required to do?

TOPIC 2
FORMATION OF COMPANIES

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PROMOTERS AND PRE-INCORPORATION CONTRACTS AND DEEDS

A PROMOTER

This is a person who undertakes to form a company with reference on certain project and
who takes the necessary steps to accomplish that purpose.

A person who plan for business nature and who takes the necessary steps for the
formation of the company.

LEGAL POSITION OF A PROMOTER

Since the company is yet to be registered there exist no contractual relationship between
the company and the promoter. Legal relations such as agency and trusteeship only exists
between legal entities. i.e. Persons capable of establishing a contractual relationship
amongst themselves. Promoters are therefore neither a trustee ,an agent nor an
employee of the company and the activities he carries out do not bind the company.
However, over the years the court have explained that there exist a fiduciary relationship
between the promoter and the company .A fiduciary relationship exist where a person
puts all his confidence and trust on another person in relation to given issues or matters

DUTIES OF PROMOTER

They are classified into two categories

1. Fiduciary duties- duty to act in utmost good faith
2. General duties

1. Fiduciary Duties

1. To act bonafide (in utmost good faith)

Promoters are allowed to act in good faith for the benefit of the company under
formation.
2. Proper accounting

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Promoters are required to explain the application of money or assets they apply
during formation of the company.
3. Disclosure
They should disclose any personal interest they may have on the contracts entered
by the company.
4. They should not make secret profits.
5. They should exercise care and skill when carrying out their duties.
6. They must not act fraudulently or negligently in their performance of duties.
7. They should ensure the prospectus is not misleading.

2. Common Law Duties/ General duties

1. Duty to determine and settle the company’s name.
2. Duty to prepare the constitutive and other documents necessary for
incorporation.
3. Duty to register the company.
4. Duty to secure the services of the directors.
5. Duty to meet the preliminary expenses.
6. Duty to ensure that the company under formation has an independent body.
7. Duty to prepare a prospectus.
8. Duty to acquire assets for use by the company.
9. Duty to enter into business transactions or contracts on behalf of the company.

Remuneration of promoter

Payments in form of salaries are known as remuneration.

The general rule is that promoters are not entitled to any remuneration from the company.
This is because:
1. At the time they rendered their services, the company is not a legal entity and
therefore does not have the capacity to contract.
2. The company did not ask them to promote it.
3. The company doesn’t have the capacity to contract.

Note: Notwithstanding the above legal position, a company may remunerate promoters in
appreciation for their efforts/services under the following ways:

Quiz: Ways in which promoters are remunerated

1. They can be given founders shares/management shares/deferred shares.

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2. They may be paid a lump sum amount upon retirement.

3. They may be afforded the option to earn a commission when they facilitate
transactions between the company and 3rd parties upon disclosure.
4. They may be appointed as first directors of the company.
5. By giving them an option to purchase a number of shares below market price.
6. By allowing them to sell their personal properties at a profit provided they disclose
such profits.
7. Upon disclosure, promoters may be allowed to sell their personal properties to the
company in return for fully paid shares.
8. They can take fully or partly paid up shares or debentures at a lower price as
member or as creditor to be.

Quiz: Can the promoter make profit in the process of promotion? YES
 A promoter is not prohibited by law to make profits in the course of promotion
provided he makes a full disclosure of such profits to an independent
body/board through the prospectus.
 A promoter may also sell their own property to the company at a profit,
provided they disclose.
 Disclosure is necessary because such secret profits is one way of remunerating
them.

Liabilities of a promoter

In case promoters make secret profits and they fail to disclose to the company, the
company has the following legal remedies:
1. Can be sued for damages for breach of fiduciary duty either the company or 3rd
party.
2. They can be sued for damages for the fort of deceit if they acted in a fraudulent
manner.
3. They can be made criminally liable for including misleading statements in the
prospectus.
4. The company may rescind contract entered into by the promoter.
5. Accounting back the secret profit.

PAST PAPER QUESTION:

November 2019 Question Two A

With reference to formation of companies:
(i) Explain the meaning of the term "promoter".

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(ii) Highlight three fiduciary duties of a promoter of a company.

(iii) Outline two remedies to the company for breach of fiduciary duty by promoters.

December 2011 Question Five B:

Describe the duties of a promoter
May 2016 Question 3B
Describe four legal rights of an incorporated company against promoters, who sold their
property to the company at a profit while it was in the process of formation.

September 2015 Question one

(i) Explain the meaning of the term "promoter” in the context of company law.
(ii) Discuss three duties of a promoter of a company.

PRE-INCORPORATION CONTRACTS

Pre-Incorporation Contracts refers to a contract that is entered into on behalf of the

company before it is registered usually by the promoters.

These are contracts entered into by the promoters with 3rd parties on behalf of the
company which is to be registered.

The general rule is that such a contract cannot be enforced against the company

The courts have also laid down a number of rules in relation to such contracts which are
commonly called the rules of pre-incorporation contracts.

Rules of pre-incorporation contracts

The rules include

1. Before a company is incorporated it has no legal existence and therefore cannot
contract or have agents this was explained in the case of kelner vs Baxter (1866.)
in this case the promoters of a company (a hotel)entered into a contract for hotel to
be supplied with goods before it was registered .upon its registration the company
rectified the contract and goods were supplied and used by the hotel. However
before the money was paid the company went into liquidation .the promoters were
sued by the suppliers on the contract but they argued that the responsibilities had
been transferred to the company due to rectifications of the contract. The court

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held that the promoters were liable since at the time of making the contract the
company did not exist legally and could not contact
2. At common law a person who purports to contract as an agent but the principal
does not exist at the time will be held personally liable for the contract. This is
direct from law of Agency
3. At common law a person who purports to contract with a non-existence person
such a contract is void
4. At common law a company cannot after incorporation ratify a pre-incorporation
contract
5. At common law mere adoption or confirmation of pre-incorporation contract by
the directors does not create contractual relationship between the company and the
other party
6. Promoters are held personally liable for any pre-incorporation contract that they
enter into
7. At common law a pre-incorporation contract can be enforced against the company
if the company once it is registered enters into a new similar contract

General effect of pre- incorporation contracts

Past paper question: (November 2016 Question Two A: December 2010 Question One B)

Explain the general effect of pre- incorporation contracts.

1. A company cannot ratify a pre-incorporation contract since the company was not
in existence at the time the contract was being made. It cannot approve such a
contract or ratify such contract. (Ref Kelner vs Baxter).
2. The company cannot sue 3rd parties in pre-incorporation contract. Under the
doctrine of privity of contract, no person can sue or be sued unless he/she is a
party to a contract.
Pre-incorporation contracts are made at a time when companies are not in
existence and the company cannot be a party to such contracts.
Ref case Newbone vs Sensolid (Britain 1953).
3. Third parties cannot sue the company on pre-incorporation contracts, even if the
company had taken the benefits of the contract. Ref case, English and colonial
produce co. ltd
4. The company may after incorporation enter into a new contract to carry on the pre-
incorporation contract. This principle is known as Novation.( Entry into the
contract afresh)

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5. Company has a right to retain any benefits acquired through a pre-incorporation

contract i.e. property acquired. (Ref case 11 and 12)
6. Promoters are personally liable on all pre-incorporation contracts. They are held
liable since they are the ones who entered into the contract.

Ways in which a promoter can escape liability on Pre-incorporation

Quiz: how can a promoter escape liability of pre-incorporation

Check: November 2016 Question Two B – Discuss how a promoter might
overcome the liability of pre- incorporation of contracts.

a) By preparing the contract to remain in draft form only to be executed by the

company after incorporation.
b) By preparing the contract and including the clause stating that the promoter shall
be bound only by the contracts up to the date of incorporation of the company,
thereafter the company shall assume liability.
c) By ensuring that the company enters into contracts under novation soon after
incorporation.
d) By preparing the contract containing repudiation clause stating that if the
contract is not adopted by the company after incorporation. It shall stand
repudiated (avoided).
e) By preparing a contract in such a manner, that if the party is in breach of a
contract, promoters are discharged from the contract.

Provisional contracts (for public companies)

These are contracts entered into after incorporation before the trading certificate is issued
for a public company.
These contracts are not void, they are merely provisional but do not bind the company
until after the certificate is issued.
If the directors fail to get the trading certificate within 21days of being called upon to do
so by 3rd parties, the company becomes jointly liable to indemnify the 3rd party, when loss
resulting due to failure to perform the contract.
CONSTITUTIVE DOCUMENTS (COMPANY’S CONSTITUTION)

The constitution of a registered company consists of:

1. Memorandum of association
2. Articles of association
3. Shareholders agreement

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The company secretary must ensure that the constitutive documents are in order.

Process and drafting documents required to form a company

1. Reservation of companies name
2. Assembly of resources
3. Preparation of constitutive document-Memorandum and articles of association
4. Presentation of constitutive document
5. Payment of stamp duty
6. Registration and issuance of certificate of incorporation.

One or more person who wishes to form a company may:

i) Subscribe their names to the memorandum of associations.

ii) Comply with the requirements of the company’s act with respect to
registration.

A company formed for unlawful purposes may not be registered.

 The following is the process of registering a company

 Check: November 2016 QN Six B Requirement that an application must meet
before the registrar can approve it.

1. Reservation of company’s name

The promoter after identifying name of the proposed company must search at the
company’s registry to check if the name is desirable for registration. The company’s act
states, ”No name shall be reserved and no name shall be registered if its considered
undesirable in the opinion of the registrar.”

Quiz: What is a desirable name in the opinion of a registrar?

The following names are considered undesirable in the opinion of the registrar
a) Names similar with names of existing companies or other legal entities.
b) Names which are misleading as to the nature of the company area of business or
geographical area of operation.
c) Names that connote immoral activities.
d) Names associated with the head of state or royal family
e) Names similar to government department or county government.
f) Names associated with our independence i.e. Madaraka day
g) Names similar to international organisation to which Kenya is a member i.e. UN

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h) Names similar to churches or a holy place of worship i.e. All Saints Cathedral
i) Names of individual who are not directors to the company e.g. Kamau Ltd yet
Kamau is not a director of the company.
j) Names promoting violence
k) Initials are not accepted unless their full meaning are written out e.g. NBK Ltd
National Bank of Kenya

2. Assembly of resources

The promoters have a duty to assemble various resources which may include capital,
human resources, to enable the company to be operational after registration.

3. Preparation of constitutive documents

These documents include:

i) Memorandum of Association
ii) Articles of Association
iii) Statement of capital and initial shareholding for companies with share capital
iv) Statement of the company’s proposed officers for companies limited by
guarantee.
v) Written undertaking of the directors of the company including the consent in
writing.

4. Presentation of the above documents to registrar for verification.

5. Payment of stamp duty
6. Registration and issuance of company’s certificate of incorporation and
allocation of a unique identifying number.

MEMORANDUM AND ARTICLES OF ASSOCIATION

MEMORANDUM OF ASSOCIATION (MOA)

 MOA was judiciary defined in the case Ashbury Railway carriage company limited
vs Richie as the companies charter.
 It defines the limitation of the powers of a company to be established under the act.
 It is the company’s external constitution.
 It enables the members of the company, its creditors and public to know the powers
of the company.
 It regulates relationships between the company and its outsiders.
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Statutory Format of Memorandum of Association (MOA)

1. It must be in the English language.
2. It must be printed.
3. Must be divided into paragraphs, number consecutively.
4. Must be dated.
5. Must be signed to the subscribers to memorandum in the presence of at least one
witness.

Purpose of MOA
1. It informs the investors about the various activities their money shall be involved in
2. It defines the boundary with the creditors.
3. It is the foundation upon which the structure of the company exists.
4. The provisions of the company’s existing memorandum shall become a part of its
articles of association under company’s act 2015.

Contents of MOA
1. Name clause
2. Registered office
3. Limitation of liability clause
4. Capital clause.
5. Association clause
A. The name clause

Once the companies name is approved by the registrar, it will be reserved for 30days, this
period may be extended for a further 30days.
Thus maximum of 60days.

Public Limited companies

They is required to include the words public ltd co. (PLC) at the end of its name.

Private Limited companies

They must include the word limited at the end of its name. Private company may apply to
private cabinet secretary to obtain a license to dispense with the word ltd under the
following ways/circumstances.

How to dispense with the word ltd

1. If the company is formed for promoting commerce of science, religion, charity

or any other useful object i.e. NGOs

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2. Its intended that its profits if any or other income would be used in promoting
its objects i.e. profits are ploughed back
3. Payment of any dividend to the association members is prohibited.

N/B: Any existing company may apply to obtain a license in order to omit the word ltd if
it’s a private company and it meets the above conditions.
 Check: May 2014 QN B

PUBLICATION OF COMPANIES NAME

1. Every company is required to paint or affix its name in a conspicuous position on

the outside of every office or place it carries its business.
2. To mention its name on all letters, notices, cheques, invoices, bills of exchange
and all other official publications.
3. Should engrave its name on its companies seal.

N/B: Penalty: - Failure to publish the companies name or any mis-descriptions the
companies name shall render the company liable and every other officer of the company
in a default fine, of sh. 500,000 or conviction of 3 years.
Change of name

 Past paper Question: June 2012 QN Five B

A company may change its name voluntarily or compulsorily.
Explain the circumstances under which a company could change its name:
(i) Voluntarily.
(ii) Compulsorily

- A company can change its name either voluntarily or compulsory.

Voluntary change of name

A company may change its name in the following circumstances:

i) Special resolution
A company may pass a special resolution to change its name and must obtain a
written approval from the registrar.

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In such cases i.e. registrar is notified within 14 days

A special resolution requires 75% membership support

ii) Too similar/alike

In case a company was by mistake registered by a name which in the opinion of

the registrar is too alike to an existing company the registrar may order the
company to change its name.

iii) License
A private company can obtain a license from cabinet secretary to dispense with the use of
the word ltd. In such a case it must pass an ordinary resolution supported by single
majority (50 + 1 person)

Compulsory change

A company may be compelled to change its name by the registrar of companies or by

court of law.
a) Registrar of company may order the company to change its name:
- If its registered by mistake
- In opinion of registrar, it is too alike to an existing name
- The registrar may within 6 month of registration direct the company to change its
name, failure to which every officer of the company is liable to a default fine.

b) Court of law may compel the company to change name on the following grounds:
1. When confirming the reduction of capital by a company. It may order it to add
the word-and reduced-to its name.
2. When the court issues a liquidation/ receivership order to the company, it
compels it to add to its name- under receivership-to its name.

N/B: After the company changes its name, it shall give to the registrar a notice within
14days. Upon receipt of the notice, the registrar shall:

 Enter the new name on the register in place of the former name.
 Issue to the company a certificate of change of name
 Publish the change of name in the Kenya gazette.

Effects of change of name of a company: December 2010 Q4

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1. It has no effect on the rights and liabilities of the company.

2. It does not render defective any legal proceeding by or against the company.
3. Any legal proceeding that might have commenced against the company under the
old name may be continued under the new name.
4. Have no effect in the rights and duties of a member.

B. Registered office clause

Company Act states that the registered office of the company to be situated in
Kenya.

Company is required to give notice to the registrar of its registered office within
14days from the date of its incorporation.

Purpose/function of the registered office

1. Nationality – helps determine the company’s nationality.
2. Domicile of the company for tax purpose.
3. It is at this office where important documents of the company are kept i.e. MOA &
AOA
4. It is the official correspondence or communication centre of the company where it
can be served with notice.

Important documents kept on the company registered office

1. Register of directors and secretaries.

2. Register of members
3. Register of charges if the company is a limited company.
4. Register of director’s interest in shares/debentures of the company or associated
companies.
5. Minutes books of general meeting.
6. A copy of any instrument creating any charge requiring registration.
7. Register of debenture holders.

Rights of inspection

The above documents are subject to the following rights of inspection.

i) The company’s members are entitled to inspect them free of charge during business
hours, at least 2hrs each day.

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ii) Debenture holders of the company are entitled free of charge during the period
beginning 14day before the companies AGM and ending 5 days after the date of
conclusion.
iii) Any member of public is entitled to inspect the register of directors and secretaries
and the register of debenture holders upon payment of prescribed fee.

C. Limited liability clause

The clause states whether the company is unlimited or limited and if limited,
whether limited by shares or guarantee.

D. Capital clause
- The act provides that in case of a company having a share capital, the MOA shall
also (unless the company is unlimited) state the amount of share capital with
which the company proposes to be registered and a division there off.
- Reason to stating share capital – it acts as a security to creditors for any money
they lend to the company.

E. Association clause
Deals with relations of the promoters and the company.

F. Object clause
The memo must state the main objects, incidental and ancillary to the main object.

Categories of object
i) Main object
ii) Subordinate objects
iii) Incidental objects/implied objects

Main object
This is the 1st business mentioned in the object clause. It is assumed that from the
company point of view, it is the most important of all and that is why it is mentioned. (It
is the substratum of the company)

Subordinate object
Any other business mentioned in the memorandum after the main object shall be
subordinate object of the company. (They are important in attaining the main object)
Incidental object/implied objects

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The incidental objects are not written anywhere in the memorandum. They are implied
from the nature of the business. Courts have implied powers to companies on the
following:
1. To acquire similar business.
2. To sell the company assets but not the entire undertaking.
3. To issue bills of exchange and cheques.
4. To engage and dismiss employees.
5. To sell the undertaking of the company for shares in another company or for other
consideration.
6. To pay gratitude and pension to officers and employees of the company and their
dependant.
7. To institute and defend legal proceedings.

The doctrine of ultra vires

- The term ultra means ‘beyond’.
- The term vires means ‘powers’ hence ultra vires means beyond powers.
- A company is not expected to engage in any activity which is beyond its powers as
authorised in AOA. (Case Ashbury Railway company ltd vs Ritchie 1875)
- The defendant company was incorporated to manufacture and sell railway carriage
and accessories. It was awarded a contract to construct railway line in Belgium.
The issue before court for determination was whether or not construction of the
railway line in Belgium was within the scope of the companies object. The court
ruled that the contract was ultra-vires.

Effects of ultra vires act Check:

November 2015 QN Four C (Discuss three effects of the ultra vires doctrine)
1. Null and void.
2. Totally unenforceable against the company or even third parties.
3. Not capable of ratification by the shareholders in a company meeting.

Exception of the ultra vires/ when can Act that are ultra- vires be ratified
1. If an act is ultra vires in regard to the directors only e.g. Their borrowing powers,
the shareholder can ratify it in the AGM making it intra vires.
2. If an act is ultra vires in regard to the articles, the company can alter its articles in
the proper way by passing a special resolution.
3. Where a company obtains property from a 3rd party under ultra vires contract, the
3rd party has no claim against the company on the basis of the transaction but has a
right to follow his property if it exists in original form.
4. Where the company has power to borrow money, a lender is not bound to inquire
into the purpose for which the loan is to be used.

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5. An act which is intra vires to the company but irregularly done may be ratified by
the consent of the shareholder.
6. Certain acts are deemed implied within company authority and are not deemed
ultra vires.

Remedies for ultra vires transaction

i) Injunction – This is a court order restraining the company parting with the
possession of the property.
ii) Tracing and identification – since the company does not acquire any title on
a property from ultra vires, the property remains the property of the owner and
if he can take it and identify he has a right to take it back.
iii) Subrogation- The party whose rights are taken away, takes over the right
iv) Personal suit against directors
v) Quantum meruit- This is part payment. If the party has completed part of the
work of the contract, he is entitled to payment in relation to the part of work
completed.

Alteration of the MOA/procedure of altering MOA

1. A board meeting to pass a resolution to convene a general meeting.

2. Convening of the general meeting to pass a special resolution to permit the
alteration of the MOA.
3. Holders of 15% of the issued share capital have 30days to apply to the court to
challenge the alteration.
4. The altered MOA must be filed with the registrar within 14days

Articles of Association

Past Paper Questions: May 2015 QN Two A,

Sidebottom Ltd is a private limited company that intends alters its article of association.
Explain to the directors of the company, five conditions which the company must comply
with when exercising its powers to alter the articles of association.

December 2010 Q Two

It is the primary constitutive document. AOA sets out the internal regulations for
management of a company.
It regulates the relations between companies and its members under the company act
2015.
Company is able to carry out any activity so long as it is not restricted by its articles.

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DOCTRINE OF CONSTRUCTIVE NOTICE

This is a company law rule to the effect that any person who is transacting with the
company is taken to be aware of the contents of the company’s public documents and
therefore even the transaction turns out to be ultra vires then the person cannot blame
anybody
Public documents in this context refers to all those documents that the company is
required to file with the registrar which is a public office .such documents can be
accessed by anybody and therefore they are open.
These documents are:
 MOA
 Articles of association
 Shareholders agreement
 Special resolution
 Annual returns
These documents are available for public inspection in the registrar of companies office
upon repayment of prescribed fees.

Doctrine of indoor management/rule of Turquand case

It is an exception to the rule of constructive notice.
It states that an outsider dealing with a company is entitled to assume that everything has
regularly been done so far as its internal procedures are concerned.

The rule in turquand provides that once a third party has actual or constructive notice
about the contracts and the meaning of the memorandum, articles and special resolutions
of the company he is entitled to assume that the contract is regular and he is entitled to
proceed with the contract, if it is ultra vires and if there is no fact that puts him on enquiry
(raises doubt)

The 3rd party is not entitled to look behind the management doors (the boardroom) hence
it is presumed that he does not have any knowledge of any irregularities behind mgt
doors. Accordingly the contract will bind the party with or without any irregularities.

The facts of the case of Turquand are as follows

The articles empowered the company to borrow. They provided that a resolution should
be passed in case of any excessive borrowing. A director borrowed excessively and court
said that the company was bound to repay the amount because the contract to borrow was
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intra vives and there was no possibility of 3rd party being aware of any irregularities in
procedures behind the management doors.
The rule in Turquand as such derives from the case of Royal British Bank ltd Vs
turquand.

Exception to rule of Turquand case

1. Knowledge of the irregularity: A person dealing with a company and is aware of
its internal procedures and happens to note an irregularity cannot plead the rule of
Turquand.
2. If the person is an insider i.e. a director
3. Negligence: a person cannot benefit from the rule of Turqoand in circumstances
under which he would have discovered an irregularity and he made proper
enquiries.
4. The company’s articles prescribes a special resolution in approving a certain
transaction but the resolution had not been passed.
5. The transaction relates to an issue of a forged document i.e. forged share
certificate
Exceptions to the Rules in turquand
The exceptions refer to circumstances where the rule in tarquand will not be applicable
i.e. the contract will not bind the parties and cannot be enforced by the parties in a court
of law e.g.

1. Knowledge of irregularity
If the 3rd party is aware of any irregularity behind the management doors the rule in
turquand shall not be applied i.e. he cannot rely on the rule to bind the company e.g. in
the case of Howard Vs Patent ivory company .The articles empowered company to
borrow £1000 and that a special resolution should be in case of any excessive borrowing
.a director borrowed an amount in excess of £1000 without a special resolution being
passed. Court said that the company was only entitled to repay the £1000 and not the
excessive amount since the director had knowledge that in the special resolution had not
been passed and since the 3rd party was presumed to know the irregularities since no
special resolution had been registered with the registrar.
Sec 143 requires every special resolution passed by the company to be filed with the
registrar for registration therefore the excessive borrowing without the sanctions of
special resolution clearly manifested an irregularity in the contract and the 3rd party was
presumed to have actual or constructive notice (knowledge)of the irregularity.

2. Negligence of the 3rd party

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A person is negligent if he does not act us prudently as a reasonable person ought to (i.e.
if he acts below the standard of care expected of a reasonable person) The rule in
Turquand does not protect negligent person hence they cannot rely on it to bind the
company. e.g. in the case of Underwood Vs Bank of Liverpool a director deposited a
cheque drawn in favour of the company into his own personal account. Court said that the
receiving bank had acted negligently i.e. below the standard of care expected of a
reasonable banker that it had failed to enquire whether the director had express authority
to deposit company cheques into his own personal account given that according to
Salomon case the company and the natural members are separate and distinct legal
persons capable of entering into contracts and owning property in their own name among
other rights.
3. Doubt
In the case of Turquand court said that the rule in Turquand will apply if there is no fact
that raises no doubt or does not put the 3rd party on enquiry. Accordingly if there is any
matter which raises the eyebrows of the 3rd party he ought to act prudently to clarify the
matter failing which he cannot rely on the protection given b rule in Turquand i.e. the
contract will not bind the parties.

4. Special resolution
Sec 143 requires every special resolution to be filed with the registrar hence a 3rd party
dealing with a company is presumed to have constructive notice of its contents. In the
case of Turquand the articles required a resolution to be passed, it did not specify that a
special resolution ought to be passed, court therefore said that it was not possible for the
3rd party to confirm if an ordinary resolution had been passed. Court observed that if the
articles had required a special resolution to be passes it would have been easy for the 3rd
party to know about it. Accordingly the contract would not have bound the parties if a
special resolution had not been passed, In total disregard of the articles.

5. Illegality /forgery
The rule in Turquand applies where the transaction is genuine except that it has some
procedural irregularities. The rule does not apply where the transaction is unlawful e.g in
case of forgery thus in the case of Ruben Vs Great fingall company. A company secretary
forged the signature of 2 directors and the company seal to transfer their shares. Court
said that the forged transfer was not effective because the rule in Turquand was never
created to promote forgery that if only applies to genuine transaction which might
otherwise have procedural irregularities.

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6. Estoppel
In the case of freeman and lockyer court said that the presumption is that the 3rd party
relied on the memorandum and articles to enter into an intra vires contract and having
done so he is prevented from claiming that the same contract is ultra vires contract and
having done so he is presented from claiming that the same contract is ultra vires.
Similary if the 3rd party did not rely on the memorandum and the articles he is stopped
prevented from claiming that he relied on them and as such he cannot rely on the rule in
Turquand to bind the company.

7. Ultra vires
The rule in Turquand applies where the transaction is intra vires. Accordingly the rule
with not be applied if the transaction is ultravires. The 3rd party is presumed to know that
the company is bound only to enter into the transaction set out in the object clause. He
cannot vest the company with powers it is not capable of exercising .In case of an ultra
vires transaction
(Refer to Ashbury’s case and the doctrine of ultra vires)

8. Breach of warranty of authority

If the 3rd party knows that a director does not have authority to enter into a transaction as
the agent of a company he cannot rely on the rule in Turquand to bind the company as
principal thus in week Vs property court said that the director may be completed to make
good any loss suffered and the company will not be liable.

CERTIFICATE OF INCORPORATION

This is a document issued by the registrar on registration of a company .it is the birth
certificate or right of the company.

Contents of a certificate of incorporation include:

a) The name of the company and its unique identifying number.

b) The date of the company incorporation.
c) Whether the company has limited or unlimited liability i.e. by shares or guarantee
d) Whether the company is a private or a public company.
e) Signature and seal of the registrar

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N/B: The certificate is a conclusive evidence that the requirement of a company’s act
relating to the registration have been complied with.

Circumstances when certificate of incorporation can be withdrawn

a) Where the company to which the certificate has been issued turns out to be an
enemy of the state.
b) In cases where it’s discovered later that the objectives of the company are immoral
the certificate can be withdrawn.
c) Where the entity that was registered as a company is not a company in nature. e.g
used to evade taxes

Certificate of trading
- A private company is entitled to commence business at any time after
incorporation i.e. after issuance of certificate of incorporation
- Public company requires certificate of trading to commence business’
- A certificate of trading issued by the registrar is a conclusive evidence that the
public company is duly authorised to commence business and exercise
borrowing powers.

N/B: Any contract entered to by a company before it is entitled to commence business

are provisional
 It is a criminal offence for a company to commence business before it is
entitled to do so.
 Every person in default is liable to a default fine.
 A company is liable to the court if it fails to commence business within a year
of incorporation.
EFFECTS OF INCORPORATION/ADVANTAGES OF A COMPANY

1. Separate legal existence

- Upon incorporation a company becomes a separate legal entity separate and
distinct from its members. Ref. Salomon vs Salomon and co. ltd.

2. Capacity to own property

- Upon incorporation of a company, it acquires the capacity to own property e.g.
land. The property is acquired in the company’s name.

3. Contractual capacity
- Company contracts on its own name through its agents known as directors. Such
contracts are binding on company itself and not the directors. Ref. Lee vs Lee Air
Farming co. Ltd
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4. Capacity to sue and be sued

A company can sue and be sued in its own name as a plaintiff or defendant
defendant. Ref. Foss vs Harbottle

5. Perpetual succession
- Once a company is formed, it continues to operate indefinitely until corporate
insolvency. Death of members does not affect continuity of a company.

6. Common seal
- After formation, it acquires a common seal similar to company’s hand for signing
important documents.

7. Limited liability
- Members liability to company’s debt is limited to shares held by them i.e. personal
assets cannot be lost in case the company is declared insolvent.

8. Independent management
- Shareholders are not involved in management of a company. Management lies
with the directors, not shareholders.

EXECUTION OF COMPANY’S DOCUMENTS

Formalities for execution of company documents and contracts as a deed are introduced
so that a single director can execute a document as a deed on behalf of the company by a
simple signature in the presence of a witness. A document will be deemed to be validly
executed as a deed if the document is duly executed by the company and delivered as a
deed. It is not mandatory for a company to have a common seal.
The modes of execution of documents needs to be followed as required under other
statutory requirements such as the Law of Contract Act and the Land Act.
ALTERATION OF THE STATUS OF COMPANIES
Part VI of the Companies Act deals with the alteration of the status of companies.
Section 69 provides that a company can convert itself as follows:
1. From being a private company into being a public company;
2. From being a public company into being a private company;
3. From being a private limited company into being an unlimited company;
4. From being an unlimited private company to a limited company; or

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5. From being a public company into being an unlimited private company.

Conversion of Private Company into Public Company

According to sections 70-74 a private company can convert itself into a public company
if the following conditions are met:
1. It passes a special resolution
2. It has a share capital
3. If the following requirements concerning the share capital are complied with:
 The nominal value of the company's allotted share capital is not less than the
authorized minimum;
 Each of the company's allotted shares is be paid up at least as to 25%
 If any shares have been paid up by an undertaking given by a person that the
person or another person should do work or perform services, the undertaking
has been performed
4. Requirement as to net assets:
 A balance sheet prepared as at a date not more than seven months before the
date on which the application is lodged with the Registrar;
 An unqualified report by the company's auditor on that balance sheet; and
 A written statement by the company's auditor that in the auditor's opinion, the
amount of the company's net assets was not less than the aggregate of its
called-up share capital and undistributable reserves.
5. An application for registration has to be prepared
6. The company has not previously been converted into an unlimited company;
7. The company has made such changes to its name and to its articles as are
necessary in order for it to become a public company; and
8. If the company is unlimited, that it has also made such changes to its articles as are
necessary in order for it to become a company limited by shares.
An application for the registration of the conversion of the company into a public
company complies with the Act if it:
a) Contains:
 a statement of the company's new name after conversion; and
 If the company does not have a secretary, a statement of the company's
proposed secretary; and

b) Is accompanied by:
 A copy of the special resolution converting the company into a public
company, unless a copy has already been lodged with the Registrar;
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 A copy of the company’s Articles as proposed to be amended;

 A copy of the balance sheet and related documents; and
 A copy of the valuation report (if any).
Section 76 provides that the registrar will issue a new certificate of
incorporation after conversion.
Conversion of a Public Company into a Private Company
Section 77 provides that a public company can convert itself into a private company if the
following conditions are met:
a) A special resolution to that effect is passed;
b) The company has made such changes to its name and to its articles as are
necessary in order for it to convert itself into a private company limited by shares
or by guarantee
c) An application for registration of the conversion is lodged with the Registrar.
Section 81 provides that if all the requirements are complied with the Registrar shall issue
a Certificate of Incorporation stating the company's unique identifying number and that
the company is registered as a private limited company.
Section 78 provides if a special resolution has been passed by a public company to
convert it to a private company an application can be made to the court to cancel the
resolution. The application can only be made by:
a) The holders of not less than 5% of the company’s issued shares
b) Not less than 5% of its members; or
c) By not less than 50 of the company's members,
The applicants must not have consented to or voted in favour of the resolution
The application must be made within 28 days.

Conversion of Private Limited Company into Unlimited Company

Section 82 provides that private limited company may convert itself into an unlimited
company if:
a) All the members of the company have assented to its conversion;
b) The company has not previously been registered as an unlimited company; and
c) An application for registration of the conversion is lodged with the Registrar.
The company shall make such changes in its name and its Articles:
a) As are necessary in connection with its becoming an unlimited company; and

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b) If it is to have a share capital, as are necessary in connection with its becoming an

unlimited company having a share capital.
Section 83 provides that the Registrar may not register the conversion of a company as an
unlimited company unless the application for registration:
a) Contains a statement of the company's new name on conversion; and
b) Is accompanied by:
 The prescribed form of assent to the company's being registered as an
unlimited company, authenticated by or on behalf of all the members of the
company; and
 A copy of the company’s Articles as proposed to be amended.
Section 84 provides for the issue of a new certificate of incorporation if the
company complies with all the requirements.

Conversion of Unlimited Company into Private Limited Company

Section 85 provides that an unlimited company can convert itself into a private limited
company if:
a) A special resolution has been passed stating whether the company will be limited
by shares or by guarantee.
b) The company has not previously been registered as a private limited company
c) An application for registration has been lodged with the registrar
d) The company has made such changes to its name and to its articles as are
necessary in connection with its becoming a private company limited by shares or
a private company limited by guarantee.
Section 86 provides that the Registrar may not register the conversion unless the
application:
a) Contains a statement of the company's new name on registration of the conversion;
and
b) is accompanied by:
• A copy of the special resolution
• A copy of the statement of guarantee
• A copy of the amended Articles
Section 87 provides that if a company complies with all the requirements the Registrar
will issue a new Certificate of Registration.
Section 88 provides that if the company has already allotted share capital, it shall within
14 days after the registration; lodge with the Registrar a Statement of Capital. The
statement should contain:

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a) The total number of shares of the company;

b) The aggregate nominal value of those shares;
c) For each class of shares:
 The prescribed particulars (if any) of the rights attached to the shares;
 The total number of shares of that class; and
 The aggregate nominal value of shares of that class; and
d) The amount paid up and the amount (if any) unpaid on each share

Conversion of Public Company into Unlimited Private Company with Share Capital
Section 89 provides that a public company limited by shares may convert itself into an
unlimited private company with a share capital if:
e) All the members of the company have assented to its being so converted;
f) The company has not previously been registered as a limited company or as an
unlimited company.
g) An application for registration of the conversion is lodged with the Registrar
The company shall make such changes in its name; and in its articles, as are necessary in
connection with its becoming an unlimited private company.
Section 90 provides that the Registrar may not register the conversion of a private limited
company into an unlimited company unless the application for registration:
a) Contains a statement of the company's new name on conversion; and
b) Is accompanied by:
 The assent to the company's conversion, authenticated by the members of the
company; and
 A copy of the company's articles as proposed to be amended.
Section 91 provides that if the company complies with all the requirements the registrar
shall issue a new Certificate of Registration.

REVISION EXERCISE

QUESTION 1
(a) (i) Explain the meaning' of the term “promoter” in the context of company law.
(ii) Discuss three duties of a promoter of a company.
(b) Explain the restrictions imposed on promoters of a company in relating to choice of
name.

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QUESTION 2
(a) Discuss five ways in which the veil of incorporation might be lifted under statutory
provisions.
(b) Tom and Harry were in the process of incorporating a company called Foot Shoes ltd.
The objects of the company were to make and sell shoes. Before the process of
incorporation were complete, Tom entered into a contract with clean Leather Ltd
under which Clean Leather Ltd agreed to supply Foot Shoes Ltd with leather worth
one million shillings.

The price was to be paid in four instalments of two hundred and fifty thousand
shillings cash, over a period of one year.
Tom signed the contract as follows: “Signed by Tom, on behalf of Foot Shoes Ltd”.
By the time the leather was delivered, Foot shoes Ltd had been incorporated.

However, after the second instalment had paid, Foot Shoes Ltd was unable to pay the
balance.

Advise Clean Leather Ltd on how to recover the outstanding amount of five ,,
hundred thousand shillings.

QUESTION 3
List five registers that must be maintained by a company

QUESTION 4
Sidebottom Ltd is a private limited company that intends alters its article of association.

Explain to the directors of the company, five conditions which the company must comply
with when exercising its powers to alter the articles of association.

QUESTION 5
Jeremy Kilamat bought shares from Kikwao Company Ltd on, he discovered that his
name was missing in the registrar of members of the company. The company has
neglected, delayed and refused to rectify the omission.

Jeremy Kilamat is aggrieved and seeks your advice.

(i) Persons who can sue for rectification of the register of members.
(ii) The orders that the court might issue with respect to an application for rectification of
the register of members.

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QUESTION 6
Distinguish between “a public company” and “a private company”.

QUESTION 7
Describe six circumstances when the rule in Royal British Bank v Turquan (1856) might
not offer protection to the creditors of a company.

QUESTION 8
Discuss five differences between the memorandum of association and articles of
association

QUESTION 9
Summarize the four statutory forms of memorandum, and articles of association.

QUESTION 10
Ann Abwapi is the managing director of Potelea Mbali Company Ltd. She borrowed Sh.
100 million from Bahati Njema bank on behalf of the company. The bank granted the
loan to the company to be used for the expansion of the Company's operations into the
textile business.

Unknown to the bank, the textile business was not within the company's objects in the
memorandum of association.

The company has failed to repay the loan.

a) Advise Bahati Njema Bank on the action it could take to recover the money
borrowed by Potelea Mbali Company Ltd.
b) Discuss the legal effects of the articles of association of a company.

QUESTION 11
Describe five ways through which a promoter might receive his remuneration.

QUESTION 12
"The chorus of the advantages of incorporation of a company should not make us
unaware of the disadvantages of this device".

With reference to the above statement, discuss the disadvantages of incorporation of a

company.

QUESTION 13

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The principle of legal personality was first formulated by the House of Lords in its
famous decision in Salomon v. Salomon (1897) where Lord MacNaghten was emphatic
that the company is at law a different person all together from the subscribers to the
memorandum.

However, in exceptional circumstances, the law ignores the separate legal personality of
the company in favour of the realities behind the legal facade.
Discuss ten exceptional circumstances when the law could ignore the principle of, legal
personality.
QUESTION 14
(a) A promoter is not entitled to remuneration for incorporating a company. This is
because there is no contractual relationship between him and the company. However,
promoters may be rewarded in other ways.
Describe the ways in which promoters might be rewarded.

(b) A company may change its name voluntarily or compulsorily.

Explain the circumstances under which a company could change its name:
(i) Voluntarily.
(ii) Compulsorily

QUESTION 15
In Brady V. Brady, Nourse L. J observes that: "Unanimous of all shareholders authorizing
a company however solvent to perform an ultra vires act can no more withstand the
liquidator's trumpet than could the walls of Jericho. No matter how unworthy his conduct
may be or discreditable his motives, a shareholder who afterwards regrets his votes may
shout as loudly as the creditors".

Required:
(i) Interpret the above ruling.
(ii)Argue the case against the position taken by Nourse L. J.

QUESTION 16
Highlight the statutory registers and records that must be kept at a company's registered
office.

QUESTION 17
Describe the duties of a promoter

QUESTION 18

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If one finds that a body not incorporated can discharge all its duties and exercise all its
rights without it as an incorporated body, one has no right to treat it as incorporated.
In high of the above statement, discuss the characteristics of;
i) Incorporated bodies
ii) Unincorporated bodies.

QUESTION 19
a) Explain the meaning of the term ‘articles of association’ as used in a company law.
b) Once signed and registered, the articles of association of a company have effects on
both the shareholders and the company itself.
Describe these effects as provided in the Companies Act.
c) Outline the provisions of the Companies Act which govern the alteration of the
articles of association of a company.
d) Highlight five advantages of a private company over a public company.

QUESTION 20
a) A company is regarded as a legal person distinct from its members. The fact that a
person holds on substantially all of the shares in a company does not make the
company’s business that person's business in the eyes of the law. Discuss the above
statement.
b) Explain the legal provisions governing pre-incorporation contracts.

QUESTION 21
Highlight the legal consequences of incorporation of a company.

QUESTION 22
Citing relevant decided cases, explain the circumstances under which a court would lift
the veil of incorporation.

QUESTION 23
Explain the restriction imposed on the choice of name of a company

QUESTION 24
a) Whether person is or not a promoter is a matter of fact than law.
Explain the ways in which a promoter may escape personal liability on pre-
incorporation contracts. '
b) Clause 8 in the articles of association of Alpha Company Limited provides that;
'Every shareholder who intends to transfer shares shall inform the directors of the
company and offer the shares to the directors or the other shareholders and those
directors and shareholders may purchase the shares.' One Of the shareholders of the

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company, Mr. Suleiman Matata has informed the directors of his intention to sell
some of his shares. However, none of the director’s shareholders is willing to
purchase the shares.
Discuss the legal implications of Clause 8 of the articles of association of Alpha
Company Limited with reference to section 22 of the Companies Act and advice Mr.
Suleimani Matata.

QUESTION 25
a) Mr. Ananeas Kipkemboi and Mr. Josiah.Tum have for several years been trading in a
partnership in the logging business in the Rift Valley Province. The partnership has
continued to prosper and the two partners have decided to convert the partnership into
a registered private company.
Advised Mr. Kipkemboi and Mr. Turn on the legal effect of registration of a company.

b) The partnership referred to in [a] above has been registered as a private company by
the name of Timberland Company Limited with Mr. Kipkemboi and Mr. Turn as
directors. The two directors wish to take advantage of a government offer for financial
assistance to farmers willing to invest in agricultural products.

Advice the directors of Timberland Company Limited on;

i) The meaning and implication of the doctrine of ultra vires.
ii) The procedure to follow in order to take advantage of the offer by the government.

QUESTION 26
You were appointed the Company Secretary of Alpha Company limited two months ago,
During the AGM, the shareholders appointed new directors. The new directors have
informed you that they do not wish the company transacting business with Omega
Company Limited.

They instruct you to:

- Institute commencement of recovery of a loan granted to Omega Company
Limited
- Stop any further payment for services rendered by Omega Company Limited
- Cease rendering any services to Omega Company Limited
In the course of executing your duties, you have pursued the memorandum and articles of
association of the two companies and found out that:
- Both Alpha Company Limited and Omega Company Limited have objects that
permit them to lend or borrow up to specified amounts of money. However, the
register of charges of each company discloses that in each case, the borrowing
limit has already been exceeded.

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- Omega Company Limited used part of the loan from Alpha Company Limited to
pay off ordinary trade creditors and the remaining amount to buy shares in a
company controlled by the directors of Omega Company Limited. The
memorandum, of association of Omega Company Limited permits the company to
invest in shares of another company.
- Alpha Company limited rendered services to Omega Company Limited. The
services are ultra vires.
- Omega Company Limited has carried out work for Alpha Company Limited
which is ultra vires
With reference to the objects clause and the doctrine of ultra vires, advice the directors of
Alpha Company limited on the action they intend to take.

QUESTION 27
With reference to company law explain:
a) The meaning and consequences of the doctrine of separate legal personality
b) The situations where the doctrine is likely to be ignored by the courts.

QUESTION 28
a) Explain the preliminaries incidental to promotion of a company.
b) Explain the ways in which promoters can be remunerated.

QUESTION 29
Abel and Boaz have been carrying out business as a partnership. They have both been
employed on full time basis in the business and have shared profits and losses equally.
Abel wished to bring his son David into the business and Boaz accepts the proposal.

They wish to convert the partnership into a private limited company, ABD Company
Ltd., in which Abel and Boaz will each hold 40 per cent of the shares and David will hold
20 per cent. All the three shareholders will be directors of the new private company.

Advise the three shareholders of ABD Company Ltd. on the documents which they are
required to submit to the registrar of companies for approval in connection with the
formation of the private company.

QUESTION 30
(a) Define the term “promoter.”
(b) Mr and Mrs Karanja, who intended to form a limited liability company known as
Central Construction Company Ltd, approached Jijenge Bank for a loan to purchase
office furniture and stationery. A loan of Sh.l million was given by the bank.
Subsequently, the company was incorporated. However, the business did not flourish

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and the company was unable to pay the loan as and when the instalments fell due.
When the bank sent a demand notice to the company, Matata, a shareholder who
opposed the demand notice, said that he company was not liable to repay the loan. Mr
and Mrs Karanja, now want to alter the objects clause in the memorandum of
association to include a clause authorizing the company to effect the payment but
Matata is still opposed to the proposal.
Discuss the legal position of the bank and the validity of the proposed alteration.

QUESTION 31
With reference to company law, discuss the proposition that a company has Separate
legal personality from its members and the exceptions thereof.

QUESTION 32
(a) Outline the distinctions between the memorandum and articles of association.
(b) Explain the statutory provisions under which a company may alter its articles of
association.

QUESTION 33
What are the legal restrictions imposed on the choice of a name of a proposed company?

QUESTION 34
(a) “The rule in the(case of Ashbury Railway Carriage Vs. Riche (1875) stated that if an
act has not been authorized by the objects clause of a company’s Memorandum of
Association is ultra vires to the company and the members cannot ratify it.”

Discuss.
(b) Explain the various ways in which persons intending to form a company may avoid
personal liability on contracts they make on behalf of the proposed company.
(c) It has been held that the memorandum and Articles of Association of a company shall,
when registered, bind the company and the members to the same extent as if the
documents has been signed and sealed by each member and contained covenants and
the part of each member to observe all the provisions of the memorandum and the
articles.

Explain the effect of this provision on the relationship between shareholders and their
company and between shareholders themselves.

QUESTION 35

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(a) The principle of corporate legal personality is an important and fundamental aspect of
company law.
Discuss this statement citing relevant decided cases,

(b) Ropoff Company Ltd., a private limited company, has been under inquiry on alleged
fraudulent financial transactions. The officers of the company under suspicion have
denied any association with the company.
At the inquiry it was suggested that the corporate veil be lifted and the realities of the
company in question be looked into.
Explain the instances when the veil of incorporation may be lifted.
QUESTION 36
Martha is engaged in the promotion of a company. She seeks your advice on several
matters relating to the promotion of a company. You are required to advise her on the
following matters:
a) The restrictions upon the choice of a corporate name with which a promoter must
comply.
b) The legal duties of a promoter with regard to her responsibility where she sells her
own property to the company she is promoting.
c) The promoter’s right to payment for her services by the company after incorporation.

TOPIC 3
MEMBERSHIP OF COMPANY

ACQUISITION OF MEMBERSHIP
A member is any person whose name appears in the register of members.
A shareholder is any person who has or claims some proprietorship or ownership rights in
the company share.
It is therefore possible for a person to be a member without being a shareholder or a
shareholder without being a member.

Membership without shareholding

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Past paper Question: December 2009 Question 3D

Describe the ways in which a person may become a member of a company without being
a shareholder
A person shall be a member yet not a shareholder in the following cases.
i) In case, a company is limited by guarantee or unlimited companies. They
have members and not shareholders because they do not have share capital.
ii) In case of a deceased member
A deceased member whose name is in the register of member continues to be a
member yet he is not a shareholder because death deprives the capacity to own
property.
iii) Bankrupt member
A bankrupt member is a member as long as his name is in the register of
members yet he is not a shareholder.
iv) Transfer of all shares
Remains a member as long as his name is in the register yet he is not a
shareholder, because the shares belong to transferee who is yet to be registered.
v) Subscriber to the MOA
A subscriber to the MOA is a member because the moment the company is
registered his name shall be entered in the register of members.
vi) In case the company goes into liquidation
He shall be a contributing (he will contribute to the debt of the company)
Shareholding without membership
1. A transferee of shares
A person to whom shares are transferred but before his transfer is registered and
his name entered in the register of members is not a member but a shareholder.

2. The bearer of share warrant

A public company limited by shares may if authorized by its AOA issue share
warrants in respect of fully paid shares.

Upon the issue of share warrant, the company removes the name of the member
from the register of members and indicates the fact that the share warrant has been
issued.

The bearer of a share warrant is a shareholder yet not a member.

WAYS OF BECOMING A MEMBER OF A COMPANY

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a) Subscribing to the memorandum

Subscriber to the companies MOA shall be deemed to have agreed to become members
of the company and registration of the MOA shall have their names entered in the register
of members.
Failure to enter the name in the register by mistake does not affect pre-existing
membership.
A subscriber to MOA cannot rescind (withdraw) the contract to take shares on the ground
of misrepresentation made by the promoter because:
i) By his own act, he brought the company into existence.
ii) The company could not appoint an agent before it came into existence and it is
therefore not liable from the promoter’s acts (pre-incorporation contracts).
iii) By signing the MOA, he became bound on registration of the company.
A person whose subscribes to MOA for a certain number of shares is bound to take that
number of shares and pay for them.

b) By agreement and registration

i) Application and allotment

An application for shares is an offer to take shares.
Allotment is acceptance of that offer by the company, which creates binding contracts
between the applicant and its company.
A person who is allotted shares becomes a member.
Membership commences from the moment the name is entered in the register.
ii) Transfer
Transfer is a purchase of shares from company’s shareholder and not from the company
itself.
A transfer of share is effected by lodging with the company an instrument of transfer
signed by both transferor (seller) and transferee (buyer) along with the share certificate.
A transferee agrees to become a member from the moment his name is entered in the
register of members.
iii) Transmission on death of a member
Transmission is a legal process by which ownership of shares in the company
automatically changes on death of a member to his personal representative.

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The personal representative may decide to be registered as a member, thereby agreeing to

become a member.
His name is entered in the register of members.
iv) Transmission on bankruptcy of a member
A bankrupt member shares in a company will be transmitted to his trustee in bankruptcy
.The company articles may give trustee an option of being personally registered as a
member.
v) Estoppel
A person who without having agreed to be a company member is aware that his name is
wrongly entered in the register of member but takes no steps to have the name removed
there or who allows his name to remain in the register of members will be stopped from
denying that he is a member to someone who relied on it and extended credit to the
company.

THE FOLLOWING CATEGORIES OF PERSONS MAY BECOME MEMBERS

OF A COMPANY/CAPACITY TO BECOME A MEMBER
1. A corporation
Check Past paper Question; December 2011 Question 7 C
Describe six ways which a company could acquire company membership
 A corporation can become a member of another company if it is authorised
by articles.
 A company cannot be a member of itself i.e. a company cannot purchase its
own shares because it involves a reduction of capital.
 A subsidiary company cannot hold shares in its holding company except
where the subsidiary is acting as a trustee or personal representative.

2. Personal representative
On death of a member, his personal representative is entitled to be registered as a
member unless the articles provides otherwise.

3. Trustees in bankruptcy
When a person is declared bankrupt, his membership passes to his trustee who
may be registered as a member.

Bankrupt
A bankrupt may become a member either as a subscriber to MOA, alottee or
transferee until his name is removed from the register of members.

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Foreigner
A foreigner friend can be a member of a company, however foreigner enemy of
the state cannot be a member

4. Minor
Is a person who has not attained the age of 18 years
 A minor has common law right to enter into a contract to buy shares in a
company and thereby becoming a member of the company.
 The contract is voidable i.e. it is optional and the minor may avoid the
contract during his infancy or within reasonable time after attaining the age
of 18 years.
 A minor who may repudiate the contract is entitled to get back the money

THE REGISTER OF MEMBERS

Every registered company is required to keep a register of its members at the registered
office of the company
The register should contain the following details:

Contents of the register of members Check Past Paper Question: (June 2011 Q 4b)
Outline the details contained in the register of members of a company
1. Name and address of members.
2. A statement of shares held by each member, distinguished by its numbers if it has
one.
3. The amount paid or agreed to be paid as stated on the shares of each member.
4. The date at which each person was entered in the register as a member.
5. Date of cessation if the member has ceased to be a member.
N/B: Failure to keep a register of members, lenders the company and every officer of the
company who is in default to a default fine of sh50, 000.
If the company has more than 50 members it is required to maintain an index of members
which shall
Index of members Check Past Paper Question: June 2013 QN 3A
Highlight five rules governing the maintenance of an index of the register of members by
a registered company

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 In respect of public company, which have more than 50 members, the company, must
maintain an index of the register of members, which must contain similar details
to those contained in the register of members.
 The index must be altered within 14days if there is any transaction in respect of the
shares.
 It must contain sufficient indication to enable the account of each member to be
easily found.
 The index should be kept where the register is kept.

Location of the register of members

The law requires the register of members to be kept at the registered office of the
company. It may be kept in another place provided:
a) It is made up at another office of the company or at some other office of lawyers.
b) If the company arranges with some other person for making up the register.
c) That other office provided the office is not a place outside Kenya.
d) The registrar must be informed where the register is kept other than the registered
office.
Any other change, the registrar must be informed within 14 days.
Failure to comply with the following provision, the company and every officer of the
company in default is liable to a default fine not exceeding sh500, 000.

Inspection of register

 Company’s register of members and debenture holders are public documents and
open to public inspection
 The law provides that the register and index of members shall during business hours
be open to inspection of any member, without charge any other person on payment
of fees prescribed by a regulation.
 Any person may require a copy of the register or any part thereof on payment of a
prescribed fee.
 In case a member requires a copy, it must be supplied within 14days of receipt of
such demand.
 If a company officer refuses an inspection or fails to provide a copy, the company
and every officer of the company in default shall be liable to a fine not exceeding sh
75,000.

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In such case, the court may:

- Compel an immediate inspection of register and index.
- Direct that the copies required shall be sent to the person requiring them.

Closure of the register of members

The company can close the register during the year end for a period that does not exceed
30 days. The closure is usually done under any of the following circumstances

 When the company is preparing for annual general meeting in order to determine
the members who are entitled to be paid dividend
 Incase the company is engaged in restructuring e.g. mergers ,acquisition ,take
over, receivership etc

Rectification of the register

A company’s register can be rectified either voluntarily or compulsory.
Compulsory rectification of register may happen where a high court issues an order for
any of the following reasons
1. The name of the person has been entered /omitted in the register without a good
reason
2. Where there has been failure or delay to indicate that a person has ceased to be a
member of the company
The application to the court to rectify the register may be made by:
1. The aggrieved person
2. Any member
3. The company

Where the application is made, the court may:

1. Refuse the application
2. Order rectification of the register and payment by the company at any damage
sustained by any aggrieved person.

No notice of trusts on register

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- Section 119 states that no notice of any trust expresses or implied or constructive
shall be entered on the register.
- Thus the company is entitled to treat anyone in the register of members as
beneficial owner of the shares and is not liable for any sale of shares in breach of
contract
Example
X, a shareholder dies appointing K as the executor shares to G a minor ‘K’ will hold the
shares for G until he attains maturity. K is a trustee and G is the beneficiary. K’s name is
entered in the register and the dividend is paid by the company, he votes and attends in
meeting. K is under an obligation to hold the dividend payable to him in trust for G but
the company is not obliged to take notice of the relationship between K and G. K will be
liable for all calls but G the beneficiary will be entitled to indemnify K for any expenses.

The majority rule (Rule of Foss vs Harbottle)

- The rule states that the proper plaintiff is the company itself.
- The principle of the majority rule is the rule of Foss vs Harbottle also known as
majority rule or proper plaintiff principle.
- Companies are democratic organisations whose affairs are managed by the
directors.
- According to the provisions of the company act, the MOA and AOA of the
company grant members voting rights which they exercise in a general meeting.
- The supremacy of the majority is the fundamental principle of the company law.
- The enjoyment of corporate membership rights is covered by the majority rule
under which the will of the majority prevails.
- The rationale of the principle of majority rule is that a company is separate legal
entity from the members who compose it.
- If any right of a company is violated, it is the company which can bring action.

Principles of Foss vs Harbottle

Check; May 2014 QN six, December 2009 QN 2
Explain four categories of membership rights
1. Proper plaintiff principle
- This principle is to the effect that when a wrong is done to a company, the
company is prima facie the proper plaintiff to seek redress
2. Internal management principle

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- Court of law will not generally interfere with the internal management of the
company.
3. Irregularity principle
- A member of company cannot generally sue to rectify an irregularity or
informality, which the company can by its member internally correct.

RIGHTS AND LIABILITIES OF MEMBERS

Check Past paper Question; May 2014 Question 3C
Membership rights may be classified as follows:
1. Corporate membership rights
2. Corporate rights
3. Individual membership right
4. Derivative action
Corporate membership right
These are rights conferred by law on members as a group. If these rights are violated, no
single member has a personal action, however a representative action is available as a
remedy.
These rights are covered by majority rule which is the case in the rule of Foss vs
Harbottle.

These rights include:

1. Right to object to proposed alteration of the companies object.
2. Right to apply to the court for cancelation of a proposed variation of the right
attached to a particular class of shares
3. Right to apply for a court order in case of oppression of the minority.
4. Right to apply to court for winding up of the company.
5. Right to inspect without fee the register of debentures holders of the company.
6. Right to inspect without fee copies of the instrument creating charges and the
company register of charges.
7. Right to require the directors to convene an extra ordinary general meeting of the
company.
8. Right to convene an extra ordinary general meeting if the director fails to do so.

Individual Membership Rights

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These are rights centred on MOA and AOA which are:

1. Right to receive dividend.
2. Right to attend the company meeting and vote.
3. Capital rights – Right to receive a return of capital on winding up of the company.

Corporate rights
Rights centred upon the company by law and exercisable by the company as a legal
person. If violated, the company is prima facie the proper plaintiff for seeking redress i.e.
it is the company to sue and not shareholders.

LIABILITY OF MEMBERS
Check Past Paper Question;
June 2011 Question 5A: Discuss the liability of a member of a company (past and
present) in the event of a company being wound-up
May 2016 QN 4 A: Indicate five liabilities as contributories of present and past
members of a company.

It is defined in articles: for ltd company, liability is either ltd by shares or guarantee.
For unlimited companies their personal properties can be sold to pay for the debts of the
company (similar to partnership)

CESSATION OF MEMBERSHIP
Past Paper Question; September 2015 Question 3A: State five ways in which a person’s
membership in a company might cease
Ways in which a person membership might cease to be a member of a company
A member ceases to be a member of a company if his name is struck off the register of
members for any sufficient reason/cause.
A person whose name is removed without any law justification from the register of
members retains of the rights and liabilities in respect of the shares and remains a
member; such a person may apply to the court for rectification of register through sec 118
of companies act.
A person may cease to be a member of a company by:
- Operation of law

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- An act of the parties

1. Operation of law

a) Death
When a person dies his membership of a company will come to an automatic end
under law of succession. The shares will be transmitted to his personal
representative.

b) Bankruptcy
When a person becomes bankrupt, his membership of a company will end, his
membership will be transmitted to his trustee in bankruptcy.
A bankrupt shareholder will remain a member of the company until the name of
trustee is entered in the register.

c) Liquidation/winding up
A company liquidation or winding up terminates all former members from the
moment it becomes effective.
2. An act of the parties

a) Forfeiture of all shares

Shares are forfeited or cancelled for non-repayment of the calls.
Where the company’s articles authorise directors to forfeit a members shares, and
the shares are cancelled, a member will cease to be a member.
b) Transfer of all shares
The transferor of all shares cease to be a member of the company when the
transferees name is entered in the register of members.
c) Valid surrender of all shares
When shareholder validly surrenders (gives up) his shares to company and its
accepted by BOD. The person cease to be a member.
d) Sale by company in exercise of lien
Lien is a right of a company to retain shares of a member as a security. The
company may sell such shares thereby the member ceases to be a member.

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e) Rescission of a contract
If a shareholder rescinds (withdraws) a contract of purchases, transfer or allotment
of shares because of misrepresentation within reasonable time, the person ceases
to be a member of a company.
f) Redemption of redeemable preference shares
A shareholder whose redeemable shares bought back by a company ceases to be a
member.
g) Repudiation by infant
If an infant avoids the contract of membership during infancy or within reasonable
time after attaining the age of majority, he ceases to be a member of the company.

 Disclaimer by trustee in bankruptcy

- If the trustee in bankruptcy disclaims the shares of a bankrupt shareholder, he
ceases to be a member of the company.

REGISTER OF A COMPANY’S BENEFICIAL OWNERS

Section 93A of the Companies Act of 2015 provides that companies incorporated or
registered in Kenya should keep a register of beneficial owners with the relevant
information relating to such owners.
A beneficial owner is a natural person who directly or indirectly:

 Holds at least ten percent (10%) of the issued shares of the company;
 Exercises at least ten percent (10%) of the voting rights in the company;
 Holds the right to appoint or remove a director of a company; or
 Exercises significant influence or control over a company.
Significant influence or control under the regulations means participation in the finances
or financial policies of the company.
A company is required to enter the following particulars of the beneficial owner in the
register

 The full name

 The birth certificate number
 The national identity number and the passport number
 The nationality
 The date of birth
 The postal address
 The business address
 The residential address
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 Telephone number
 The email address
 The occupation or profession
 The nature of ownership or control
 The date the person became the beneficial owner
 The date the person ceases to be a beneficial owner and any other information that
may be required by the registrar from time to time.

Obligations of the Company In regard to Beneficial Owners

 Duty to Investigate the Beneficial Owner: A company has the authority to notify
any person that it believes to be a beneficial owner and require them to provide the
particulars to be entered in the register. If a recipient fails to respond to a notice
within 21 days and also a warning notice within 14 days, then the company can
restrict the relevant shares, voting rights or right to appoint or remove a board
member.
 Restrictions on disclosure of beneficial ownership details: The general rule is
that beneficial ownership information shall not be made available to the public.
The Regulations only permit disclosure:
- Where it is for communication purposes with the beneficial owner for
compliance with the Regulations;
- In compliance with a court order;
- Upon the request of a competent authority such as the office of the
Attorney General and an investigative agency; or
- With the written consent of the beneficial owner.
The Regulations make it an offence punishable by a fine not exceeding KES
20,000 or imprisonment for a term not exceeding 6 months, for the company to
unreasonably disclose beneficial owners’ information.

 Penalty In Case of Non-Disclosure by the Company: If a company fails to

comply with the requirements to disclose its beneficial owners, the company and
every officer who is in default would each be liable to fines of up to KES500,000
(USD4,500) for a first offence with an additional fine of KES50,000 for each day
of continuing non-compliance.

DOCTRINE OF DERIVATIVE ACTION

Check; September 2015 QN 3 D(i): Define the “derivative action”

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Derivative action refers to action instituted by a shareholder in his name on behalf of a

company to remedy a wrong done to the company. It is available under the exception to
the rule of Foss vs Harbottle.

Characteristics/conditions of derivative action

Check; September 2015 QN 3D(ii): Explain four characteristics of derivative action.
1. Fraud on minority: conduct complained of must be some fraud on minority i.e.
expropriation of corporate asset as was held in cook vs deeks.
2. Control: must be evident that the wrong doer are in legal or factual control of the
company i.e. the majority are in control of the company.
3. Representative: A liable action is representative in character in that the plaintiff
sues on behalf of the company.
4. Nominal dependant: The Company must be named as a nominal dependant in the
case to benefit from a court order.

Exception to the rule of Foss vs Harbottle

Check; Nov 2015
Exceptions to the rule of Foss Vs. Harbottle are the same as reasons for derivative
action.
- These are circumstances in which the majority rule does not apply.
- A person may bring a representative action on behalf of a company.
- These exceptions to the rule of Foss vs Harbottle/reasons for derivative action
are:

1. Ultra vires or illegal acts

Where the company is acting or threatening to work in ultra vires or illegal
manner, the majority rule will not apply for this reason, a member may bring a
representative action on behalf of a company to prevent or restrain the company
from engaging or continuing with the transactions.

2. Special or qualified majorities

Majority rule will not apply where the articles of association require a special
majority to pass a procedure, in case of inadequate majority, passing a decision, a
member may bring a representative action to compel the company to obey its
regulations.

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3. Infringement of violation of membership rights

If a members personal rights are violated, members may sue in a representative
capacity i.e. on behalf of all members whose rights have been violated

4. Fraud or minority
The majority rule will not apply if the conduct complained of amount to fraud or
minority i.e. breach of duty by directors or expropriation of assets

5. Oppression of the minority

Any member of a company who complains that its affairs have been conducted in
a manner oppressive to some parts of the member including himself may petition
the court for winding up.
MINORITY PROTECTION RULE
1. Minority protection at common law/court of law
2. Minority protection by statute/company’s act

1. Minority protection at common law/court of law

Court of law protects minority interest against majority in certain circumstances:
a) Majority decisions made in back faith maybe challenged before a court of law.
b) Majority decision made in contravention of the articles or regulations of the
company may be challenged before a court of law.
c) Although court of law cannot prevent the majority from voting selfishly, they must
always do so in the best interest of the company.

A majority decision may be set aside if its purpose is:

- Facilitate expropriation of corporate asset, as was the case of cook vs deeks.
- To benefit the majority at the expense of minority as was the case of Menier vs
Hooper.

2. Minority protection by the statute

a) Variation of class right
A company whose capital is divided into different classes of shares may vary the
rights attached to any class by a special resolution or written consent of not less
than 75% of the holder of the shares.

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However, variation may be disallowed by court upon application within 30 days of

the consent of the resolution by the holders of not less than 15% of shares who did
not vote in favour.

b) Convention of the AGM in case of default

If a company fails to hold an AGM in accordance with the act, any member of the
company may petition the registrar to convene or direct the convention of an
AGM.
Such an AGM is duly constituted by one member present in person or by proxy.

c) Convention of a general meeting pursuant to a court order

In case of default in holding general meeting in accordance to articles and law,
court may order its convention upon the application by the director or a member
entitled to attend and vote.
One member present in person or proxy duly constitutes such a meeting.

d) Requisitioning of an extra ordinary general meeting

It may be convened at the option of the minority members.

If the director does not convene the meeting within 21 days of requisition, the
requisitionists may convene the meeting.

e) Investigation of the company’s affairs by the inspector

The high court may appoint one or more competent inspector to investigate the
affairs of a company upon application by members.

The application may be made by:

1. Not less than 200 members.
2. Holders not less than 1/10 of issued shares
3. Not less than 1/5 of number of members in the register.

f) Take-over bid

If a scheme involving the transfer of shares in a company is proposed and -within

4 months of the offer, holders of not less than 90% of the share have accepted the

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offer, the offeror is required within two months to notify the dissenting
shareholders of its intention to acquire their shares compulsorily.

However, the dissenting shareholders may petition the court within one month for
cancellation of the offer. The court may appropriately cancel the offer in
protecting the minority.

g) Winding up under just and equitable ground

A company may be wound up by court if it is of the opinion that it is just and

equitable that the company should be wound up.

In such a case, minority may petition the court to wind up the company on the
ground of oppression or in case, they have lost confidence in management.

h) Alternative remedy
- This is the remedy entitled to minority on winding up.
- This remedy is available to minority in case of oppression.
- The alternative remedy may take any of the following:
- A court order to regulate the conduct of the company affairs in the future.
- An order to compel the oppressor to purchase the shares of the oppressed.

REVISION EXERCISE

QUESTION 1
Sometimes a corporate entity works like a boomerang and hits the man who was trying to
use it.
With references to the above statement, describe five exceptional circumstances under
which when a shareholder could institute proceedings as the plaintiff instead of those
proceedings being instituted in the name of the company.

QUESTION 2
Discuss three effects of the ultra vires doctrine

QUESTION 3
State five ways in which a person’s membership in a company might cease

QUESTION 4

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(i) Define the “derivative action”

(ii) Explain four characteristics of derivative action.

QUESTION 5
a) In the event of a company being wound up, every past and present member shall be
liable to the assets of the company to an amount sufficient for payment of its debts
and liabilities.
Discuss the statutory provisions governing the liabilities of the said members.

b) Explain the exceptional cases when a member might be held liable beyond the
limited liability which he undertook when he became a member of a company.

QUESTION 6
(a) In Foss v Harbottle (1843), the anxiety of the law was to strike an optimum balance
between the principle of the majority rule on the one hand and safeguarding minority
shareholders against abuse of power on the other. It can neither give more support to
the majority as the minority will then be prejudiced and nor to the minority who
would then object on every action. With reference to the above statement, discuss the
three principles emanating from the rule

(b) The directors of NovaGift Ltd. had been accused of being negligent in selling a drying
machine of the company at a price which was much lower than its true market value.
A resolution had been passed by the majority of the shareholders to sell the machine
at that price. The directors did not in any way benefit from the transaction.

i) State the two elements that must be present for the minority shareholders to
successfully sue the company.
ii) Advise the minority shareholders who have sued the company on whether they are
likely to succeed in their representative suit.

QUESTION 7
Explain four categories of membership rights.

QUESTION 8
Explain three instances when an individual shareholder could sue in his capacity as a
member instead of the suit being instituted in the name of the company.

QUESTION 9

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Highlight five rules governing the maintenance of an index of the register of members by
a registered company.

QUESTION 10
Describe six ways which a company could acquire company membership.

QUESTION 11
Briefly outline the rights conferred on a shareholder by the companies Act.

QUESTION 12
Discuss the liability of a member of a company (past and present) in the event of a
company being wound-up.

QUESTION 13
Describe the ways in which a person may become a member of a company without being
a shareholder.

QUESTION 14
a) State the rule in Foss V. Harbottle and the exceptions thereof: -
b) The directors of Pengo Limited have resolved to invest the company’s funds in
property development an activity which is not authorized by the company’s object
clause.
In furtherance of this resolution the directors have caused Pengo limited to enter into a
contract with Ziba limited to purchase the latter’s land for purposes of property
development.
A number of shareholders of Pengo limited have Written letters disserting from the
director’s action. She dissenting shareholders control twenty five percent of the share
capital of Pengo Limited. They argue that the director’s actions are ultra-vires the
company’s memorandum of association and have demanded that the directors cancel
the contract with Ziba limited. The directors of Pengo Limited are however adamant
that the contract was in the best interest of the company.
The parties seek your advice

Advise the directors of Pengo Limited on the following;

i) The powers of the disserting shareholders upon the director’s decision.
ii) The position of the contract with Ziba limited.

QUESTION 15

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Miss Tishie Mulu has received a letter from a company in which she is a shareholder
informing her that the company is to make a call in accordance with the provisions of the
articles of association.
Miss Tishie Mulu has approached you for advice on the matter.
Advice Miss Tishie Mulu on the following;
a) The difference between an instalment and a call.
b) The rules relating to making calls on shares.
c) The consequences of payment of a call in advance.

QUESTION 16
Explain the ways in which a person may cease to be a member of a company.

QUESTION 17
(a) Outline the qualified minority rights of a member which can only be enforced by the
joint efforts of a membership group as defined under the Companies Act,
(b) The Articles of X Company Ltd provide that every member is entitled to one vote for
each of the first ten shares and thereafter to one vote for each additional ten shares.
Jane owns one hundred shares. She transfers ten of her shares to her nine nominees to
increase her voting powering general meetings. Joseph, who is the chairman at the
general meeting, refuses to accept the votes of Jane’s nominees.
Advise Jane on the validity of the Chairman’s, action and her right as a member.

QUESTION 18
(a)(i) Citing decided cases state and describe the characteristics of a “derivative action.”
(ii) Explain the disadvantages to a minority shareholder in bringing a derivative
action.

(b)Jane Wangokho is a minority shareholder of Tuzo Company Limited.

John Daudi is the managing director and majority shareholder of Tuzo Company Limited.
Jane Wangokho has discovered that John Daudi has breached his duties as a director by
purchasing goods from the company at a gross undervalue. A general meeting of the
company at which John Daudi attended and voted has ratified the

Advise Jane Wangokho on the courses of action she may take.

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TOPIC 4
SHARES

Introduction
The companies act provides that shares or other interests of any member in a company
shall be a movable property

This provision does not define what a share is. In practice however a share can be
described to be the interest of a shareholder in the company that is measured by a sum of
money for the purpose of liability in the first place and of interest in the second place

From the description the following should be noted about the share
 A share is a yardstick of the shareholder’s liability to the company
 It is a yardstick of the shareholders rights in the company particularly in relation to
dividends, voting rights and return of capital during winding up

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 It is a foundation that creates a relationship between the company and the

members
 It is a form of property which can be transferred, bought, sold or given out as a
security for a loan

Characteristics of Shares

1. A measure of member’s liability in the company.

Member is liable to the company in case of winding up to the amount unpaid on
shares he holds
2. A measure of member’s interest in the company.
Members interest in a company is measured inform of dividend paid by them.
3. Series of covenant
A share consist of a series of covenant between members and the company.
4. Share is a form of personal property transferable.
Can be sold, bought or given as security for a loan.

N.B: Shares grant a member certain primary and secondary rights:

Primary rights:

 Right to dividend
 Right to vote in companies general meetings.
 Right to capital in winding up of the company

Secondary rights:

 Right to receive notices in general meetings of a company

 Right to receive copies of a balance sheet laid before the company in general
meeting and its annexures
 Right to Copies of the memorandum and articles.
 Right to inspect the minute books of general meetings
 Right to inspect copies of charge various registrar maintained by the company.
 Petition for the alternatives remedy in the event of operation of the minority.

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CLASS/ TYPE OF SHARES

Check; June 2011QN 4c: Compare and contrast ordinary shares and preference shares
1. Ordinary shares.
2. Preference shares.
3. Deferred/ founders shares.
4. Employer shares/ corporate shares.
5. Treasury shares.

a) Ordinary shares
Also called equity capital/ common shares. Members holding ordinary shares are said to
be the owners of the company.

Rights attached to ordinary shareholder.

 After providing for any dividend that is payable on preference shares the whole of
the profit can be made available to them.
 Entitled to use of their voting power at the general meeting to control the
company.
 In winding up of the holders of ordinary shares entire residue after payment of the
companies liabilities.

b) Preference shares

As the name suggest they have the following preference:

 Earn dividend first before other classes of shares
 Earn dividend at a fixed rate.
 Event of winding up there is a preferential right to the repayments of the paid up
capital.
 When they are classified as cumulative, the arrears of dividend cannot be lost but
is carried forward to subsequent years.

Classification of preference share:

 Participating and non-participating preference shares.

 Cumulative and non- cumulative preference shares
 Redeemable and irredeemable preference shares.

Cumulative & non- cumulative preference shares

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Cumulative are shares whose arrears of dividend are not lost but carried forward to
subsequent years when dividend will be declared (cumulative) while non-cumulative,
such arrears are not carried forward but are lost.

Participating & non participating preference shares

Check Past Paper; November 2017 QN 4b: Distinguish between “participating'’ and
“non-participating” preference shares

Participating preference shares after earning a dividend at a fixed rate participate in the
balance of profits with ordinary shareholders. They also have a right to share in the
surplus assets of the company in the event of winding up. Non-participating preference
shares after earning a dividend at a fixed rate do not participate in the balance of profits
with ordinary shareholders. They also do not have a right to share in surplus assets of the
company in the event of winding up.

N.B: Dividend paid to preference shareholders is fixed but the below points should be
remembered as regards to priority.

1. Payment of dividend is entirely at the discretions of the directors and if they decide
to transfer the whole of the profit to capital reserves no one can questions the
decisions.
2. If the dividend was not declared and the company goes into liquidations even
preference shareholder will not be paid.
3. Payment of the dividend to preference shareholders only becomes due once the
dividend has been recommended and approved and the date of payment is due.
4. If it was declared before the company went into liquidation and was not paid then the
right will not be lost i.e. they will be paid.

Redeemable & irredeemable preference shares

Irredeemable: They are shares not supposed to be bought back by the company. They
retain their status and can only be redeemed when the company goes into liquidation.

Redeemable shares are shares whose dividend is fixed but are issued for a specific
period. These are shares that the company agrees to buy back at a future date. A limited
company may issue redeemable preference to be redeemed of the option of the company
or the shareholders.

Condition for issuing redeemable preference shares

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Check; December 2013 QN 3b: Explain five legal provisions governing the issuing or
redeemable preference shares

1. The issue must be authorised by the articles.

2. Company must pass an ordinary resolution in general meetings.
3. The company’s capital must be divided into different classes of shares i.e. they should
have other shares not redeemable.
4. The issue of must be disclosed in the company’s prospectus or statement in lieu
(instead) of prospectus.
5. The registrar must be notified to the issue.

Condition for redemption of redeemable preference shares

Check; Dec 2012 QN 4b: Discuss the rules governing redemption of redeemable
preference shares by a company
November 2015QN 4b: Discuss four regulations governing redeemable preference
shares under the Companies Act.
 The redemption must be authorised by the article.
 The shares must be fully paid
 The shares must be redeemed out of profits or proceeds of a special issue for that
purpose
 Any premium payable must be provided out of profits of the company or out of
share premium account.
 If the shares are redeemed otherwise than out of proceeds of a special issue, the
capital redemption reserve fund account (CRRF) must be created.
 The registrar must be notified of the redemption within 30 days thereof.

Convertible & non-convertible preference shares

Convertible preference shares are issued on a condition that on a future date they shall be
converted into ordinary shares or other securities.

Non-convertible shares maintain their identity and are not liable for conversion by a
company into other different classes of shares

c) Deferred /Founders/ Management shares

- These are shares reserved to founders of a company i.e. promoters.

- It is one way of remunerating promoters by giving them management shares free
of charge.

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- These shares do not carry any voting rights but they are entitled the holders to
some dividend after other classes are paid.
- The particulars of founder’s shares and the interest of the shares in the company
must be stated in the prospectus.

d) Corporate /Employee shares

- Are given to employees as a way of motivating them for their service
- Have no voting rights.
- Are paid dividends after other classes are paid
e) Treasury shares. (sec 526[1])
It applies to a purchase or acquisition of shares by a limited company of its own share in
accordance with the act and,
- The purchase or acquisition is made out of distribution profits
- The shares are qualifying share if: - a) are included in the official list and in
accordance with the provisions capital market b) Share are treated on a required
market (NSE).

VARIATION OF CLASS RIGHTS

Class of shares: - shares are in the class if the rights attached to them are in all respects
uniform.

Procedure of variation of class rights

1. Variation must be in accordance with the provisions of the articles.

2. A special resolution passed at separate general meeting of the holders of that class
sanctioning the variations
3. Holders of not less than an aggregate of 15% of the issued share of the relevant class
may apply to the court to have the variation cancelled.
4. The court may confirm or decline the confirmed variation. It may decline if it is
unfairly prejudicial to the shareholders of that class. The high court decision is final.
5. Within 14 days after making the court order, the company lodges special resolution
and a copy of the court order confirming the registration with the registrar for
registration.

Failure to comply with this attracts a fine not exceeding sh 200000.

Issue of shares for consideration other than cash

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- A company may agree to accept some other form of payment other than cash for
shares issued.
- Such consideration should be legal and mostly consist of consideration inform of
property.
- Private company may issue share for consideration other than cash.
- Public company may not allot shares in return for performance of work or
services, however, it may issue shares in extension for transfer of property
provided there is valuation report regarding the property which must be done
property is valued within 6 months preceding the issue and allotment of such
shares
- The valuation report should be registered with the registrar of companies

SHARE CERTIFICATES

Every person who is entered as a member in the register of members of a company has a
right to receive a share certificate in respect of shares he holds in the company.

A share certificate is a document issued by the company under its own common seal
specifying the number of shares held by the registered holder and the extent to which
they are paid up.

Companies are required to issue a share certificate within 60 days or 2 months of

allotment or transfer of shares.

Failure to comply renders the company and every officer in default liable to a default fine
not exceeding ksh 500,000. If the offence continues, a default fine not exceeding ksh
50,000 per day is imposed.

Contents of share certificate

1. Name and common seal of a company

2. Date of issue
3. Name of the registered holder
4. Number of shares and class of shares
5. Extent to which they are paid up
6. Serial number of shares
7. Serial number certificate
8. Signature of at least two directors
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Legal position of a share certificate

 A share certificate is prima facie the conclusive evidence of ownership or title of

shares.
 The company requires the shareholder to surrender its share certificate for
cancellation when it transfers or any of his shares.
 If the company issues a share certificate that is incorrect, it is estopped (prevented)
from denying that it is correct but only against a person who has relied upon it and
thereby suffered loss
 The issue of share certificate makes a company liable in two ways:
a) EStoppel as to title- It implies the company cannot deny the truth of the
certificate as to the title of the holder as indicated therein. It also means if innocent
person relies on the certificate and suffers loss or suffers damage as a result of his
reliance, he can hold the company liable i.e. the company cannot deny the
genuiness of the title at the time the certificate was issued either for the purpose of
transfer of share.
b) Estoppel as to payment- A company may be estopped from the denying the
amount stated to be paid on the shares e.g. if a share certificate states that the
shares are fully paid, the company may be estopped from denying that the shares
are fully paid.

Condition for estoppel to apply

1. A legal relationship between the parties must exist

2. There must be a promise or a representation by one party intended to affect the
legal relation and to be acted upon by the other
3. There must be a reliance upon the representation
4. There must be a change in the legal position as result of the reliance
5. It will be unfair not to estoppel the plaintiff.

Exceptions of the Doctrine of estopell

1. Does not operate where the third party is aware of the falsity of the representation.
2. The share certificate relied upon is forged and the forgery was discovered before
registration was effected.

SHARE WARRANTS

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A share warrant is a negotiable instrument that can be issued by a company indicating

that the bearer of the warrant is entitled to the shares specified.

The holder can therefore be able to negotiate and transfer the shares without going
through the formal process of share transfers.

However, the name of the bearer of the warrant is removed from the register of members
and therefore they are not considered to be members of the company.

Before a share warrant can be issued, the following conditions must be fulfilled
1. The company must be a public company limited by shares
2. The issue must be authorized by the articles
3. The shares must be fully paid for
4. The company must get permission from the treasury or ministry of finance

Once the company issues a share warrant, then the name of the member will be removed
from the register and instead, the company will indicate that the shares are held under
warrant.
Procedure of issuing share warrant

 An application is made by the member to the company. The application must be

accompanied by share certificate where applicable.
 The application is given to the board of directors for consideration.
 If the board approves, then the company secretary will cancel the share certificate
and remove the name of the member from the register.
 The company secretary will issue a share warrant and have it signed by the chairman
of the board.
 The share warrant is given to the holder, who is no longer a member of the company.

Differences between share certificate and share warrant

Share certificate Share warrant

The bearer is a member of the company Bearer is not a member of company
Share certificate not a negotiable Is a negotiable instrument
certificate
No need for treasury consent to be issued There must be consent from the treasury to be
issued
Issued by private companies only in Kenya Usually issued by public companies

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Holder of the certificate can be Holder of a warrant cannot be appointed as a

appointed as a director of the company director of the company

ISSUE AND ALLOTMENT OF SHARES

When a company wishes to issue shares to the public, there is a procedure and rules that
it must follow. A Public Company issuing its shares privately need not issue a prospectus.
However, it is required to file a “statement in lieu of prospectus” with the register of
companies. The prospectus contains relevant information like names of directors, terms
of issue, etc. It also states the opening date of subscription list, amount payable on
application, on allotment & the earliest closing date of the subscription list.

Procedure of Issue of New Shares

1. Issue of Prospectus

Before the issue of shares, comes the issue of the prospectus. The prospectus is like an
invitation to the public to subscribe to shares of the company. A prospectus contains all
the information of the company, its financial structure, previous year balance sheets and
profit and Loss statements etc.

It also states the manner in which the capital collected will be spent. When inviting
deposits from the public at large it is compulsory for a company to issue a prospectus or a
document in lieu of a prospectus.

2. Receiving Applications

When the prospectus is issued, prospective investors can now apply for shares. They
must fill out an application and deposit the requisite application money in the schedule
bank mentioned in the prospectus. The application process can stay open a maximum of
120 days. If in these 120 days minimum subscription has not been reached, then this issue
of shares will be cancelled. The application money must be refunded to the investors
within 130 days since issuing of the prospectus.

3. Allotment of Shares

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Once the minimum subscription has been reached, the shares can be allotted. Generally,
there is always oversubscription of shares, so the allotment is done on pro-rata bases.
Letters of Allotment are sent to those who have been allotted their shares. This results in
a valid contract between the company and the applicant, who will now be a part owner of
the company.

If any applications were rejected, letters of regret are sent to the applicants. After the
allotment, the company can collect the share capital as it wishes, in one go or in
instalments.

Issue of shares at a Discount

According to Section 59 it’s lawful for a company to issue at a discount shares in the
company of a class already issued:
Provided that–
i) the issue of the shares at a discount shall be authorized by resolution passed in
general meeting of the company, and shall be sanctioned by the court; and
ii) the resolution shall specify the maximum rate of discount at which the shares are
to be issued; and
iii) not less than one year shall, at the date of the issue, have elapsed since the date on
which the company was entitled to commence business; and
iv) The shares to be issued at a discount shall be issued within one month after the
date on which the issue is sanctioned by the court or within such extended time as
the court may allow.

Power to issue Redeemable Preference Shares

A company limited by shares may, if so authorized by its articles, issue preference shares
which are, or at the option of the company are to be liable, to be redeemed:
Provided that–
i) no such shares shall be redeemed except out of profits of the company which
would otherwise be available for dividend or out of the proceeds of a fresh issue of
shares made for the purposes of the redemption;
ii) no such shares shall be redeemed unless they are fully paid;
iii) the premium, if any, payable on redemption, must have been provided for out of
the profits of the company or out of the company’s share premium account before
the shares are redeemed;
iv) where any such shares are redeemed otherwise than out of the proceeds of a fresh
issue, there shall out of profits which would otherwise have been available for
dividend be transferred to a reserve fund, to be called the capital redemption
reserve fund, a sum equal to the nominal amount of the shares redeemed. The
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provisions of the Companies Act relating to the reduction of the share capital of a
company shall, apply as if the capital redemption reserve fund were paid-up share
capital of the company.

ALLOTMENT OF SHARES

The allotment of shares is the issuing of new shares to the existing shareholders or to
third parties.
Or
It means an appropriation of a certain number of shares to an applicant in response to his
application for shares. Allotment means distribution of shares among those who have
submitted written application.
Reasons for allotment of shares

 To raise money for the Company

 To introduce new investors such as BES investors
 To allow Enterprise Ireland or Enterprise Board Investors
 To convert loans to share capital
 To introduce a golden share
 To put in place a group structure
 To fund a redemption of shares
 To implement a bonus issue of shares

RULES REGARDING ALLOTMENT OF SHARES:

(a) Application Form:

A prospectus is an invitation to the public to purchase shares. Naturally, the intending
purchaser has to apply in a prescribed form (given in the prospectus) for the purpose
which is known as ‘application form’.
Needless to mention that the prospectus fixes the time when the application will be
opened and the allotment will be made. Letter of allotment should be sent to the applicant
of shares after the allotment is made.
(b) Offer and Acceptance:
We know that membership of a company after purchasing shares is nothing but a
contract. The application form which is given by the members is the ‘offer’ and allotment

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by directors is the ‘acceptance’ of that ‘offer’ and, similarly, the notice of acceptance
which is sent is the ‘acceptance of the offer.’
(c) Conditional offer and Acceptance for ‘Offer’:
Usually, the conditions are printed in the application form, e.g., in case of over-
subscription of shares, shares will be allotted on pro-rata basis etc. Conditions for
acceptance is practically invalid.
(d) Proper Authority:
It should be remembered that allotment of shares should always be made by the proper
authority e.g., by the board of directors, and allotment made without proper authority is
void. Although allotment can be delegated to some persons if the Articles so provide.

(e) Reasonable Time:

After receiving the application form allotment should be made as soon as possible by the
directors i.e., within a reasonable time. Otherwise, applications for ‘offer’ will be revoked
if such reasonable time expires.
(f) Fictitious Name:
Any person who
(i) Makes in a fictitious name for acquiring or subscribing for any share; or,
(ii) induces a company to allot, register any transfer of shares to him or any other person
in a fictitious name shall be punishable by imprisonment.

Restrictions on Allotment of Shares

(a) Minimum Subscription:
States that no allotment can be made by the company until the minimum subscription has
been received.
(b) Application Money:
The amount payable on each share with the application form must not be less than 5% of
the nominal value of the shares.
(c) Money to be Deposited in a Scheduled Bank:
Money received from the applicants must be deposited in a Scheduled Bank until the
certificate to commence business has been obtained or until the entire amount payable on

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applications for shares in respect of the minimum subscription has been received by the
company.
(d) Returns of Money:
States that if the minimum subscription has not been raised or if the allotment could not
be made within 60 days from the date of publication of the prospectus, the directors must
return the money received from the applicants. If the money is refunded within 75 days
no interest is payable, beyond which the directors are liable to pay interest @ 5% p.a.
from the 75th day to the day of repayment.
(e) Statement in lieu of Prospectus:
Public company which has not issued any prospectus must deliver to the Registrar for
registration a statement in lieu of prospectus signed by every director or proposed
director or his agent in the form prescribed in the Act.
(f) Opening of the Subscription List:
No allotment can be made until the beginning of the 5th day after the publication of the
prospectus or such later time as may be prescribed for the purposes in the prospectus.
(g) Revocation of Application:
Application for shares cannot be revoked until after the expiration of the 5th day after the
time of opening of the subscription list except in one case, i.e. if any responsible person
gives public notice of withdrawal of the consent to the issue of the prospectus, any
applicant can revoke his application.

Effects of an Irregular Allotment of Shares

(i) Option:
Allotment becomes voidable at the option of the shareholders. The option to avoid the
contract must be exercised within 1 months of holding the statutory meeting or where no
statutory meeting is held or where the allotment is made after the holding of the statutory
meeting, within 1 month after the date of allotment.
The same can be exercised even if the company is in course of liquidation.
(ii) Compensation:
If any director knowingly or wilfully contravenes the rules or authorizes the
contravention, he is liable to pay compensation to the shareholders concerned for any loss
or damage suffered by him. But the suit for compensation must be filed within 2 years
from the date of allotment.

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(iii) Fine
Validity of an allotment shall not be affected by any contravention of the foregoing
provisions, but, in the event of any such contravention, the company, a fid every officer
of the company who is in default, shall be punishable with fine.
(iv) Void
If any allotment is made in violation It is treated as void.

TRANSFER AND TRANSMISSION OF SHARES

Is a voluntary conveyance (transfer) of title in shares from one person to another

Shares are moveable property transferable in maximum process by the article of the
company
Shares in public and private companies are transferable.

For public
Shares are freely transferable however the directors may declare to register the shares.
(Not being a fully paid shares)
 To a person of whom they shall not approve.
 On when the company has a lien (right to retain share as a security for debt)`

For private
Transfer of shares is restricted by:
 Pre- emption clauses that require directors to offer the shares to existing members
at the first instance.
 Conferring upon directors, total discretion to refuse to transfer a share.

N.B it is important to note that article of a company restrict but not forbid the
transfer of shares since it is a statutory right of member of a company which
cannot be taken away by the articles since the article is subordinate to companies
act.

The rules on the exercise of the discretion to refuse to register transfer of shares by
directors
Check; June 2020 question 2b: Highlight the circumstances under which a company
would decline to register a transfer of the shares

1. To exercise their power, the directors must consider the transfer and take a
decision to refuse to register it.

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2. The directors in reaching their decision must act to borne tide for the best interest
of the company.
3. Where articles specify grounds of refusal
4. The power of refusal must be exercised within a reasonable time from the receipt
of the transfer.
5. Company is required to give a notice of refusal within 60 days.

Shares may be transferred by:-

1. A registered holder
2. A personal representative of a deceased shareholder (administration executor).
3. Trustee in bankruptcy of an undischarged bankrupt
Restriction on transfer of shares

Shares are movable property transferable in manner provided by the article of association
 A transfer of shares to a state corporations (parastatals) without prior written
consent from the treasury is void.
 For a transfer of shares to be effected, a proper instrument of transfer (transfer
form must be presented to the company)

Procedure of transfer of shares

Steps followed when transferring shares

a) Total transfer
- The parties enter into an agreement to sell and buy shares.
- They execute the proper instrument of transfer.
- The executed instrument of transfer must be presented for stamping and
payment of tax.
- The executed instrument of transfer and share certificate are presented to the
company for registration of the transfer
- On registration of the transfer the share certificate is cancelled and another
issued in the name of the transferred (the buyer)

b) Partial transfer
- The parties enter into an agreement to buy and sell shares.
- They execute the proper instrument of transfer (transfer form)

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- The executed instrument of transfer and share certificate are presented to the
company for certificate.
- The share certificate is retained by the company for cancellation.
- The certified instrument of transfer is presented for stamping
- The certified instrument of transfer is presented to the company for
registration.
- On registration, the share certificate is cancelled and two others are issued in
the name of transferred and the transfer for the shares retained and acquired
respectively.

Circumstances under which the company would decline to register a transfer of its
shares
 If the documents were not properly prepared.
 If the transferee has not been approved by the board in accordance with the
articles.
 Where the court has issued an order to prevent the transfer
 If the transfer can change the nature of the board putting to risk the interest of the
company.
 If the transfer is discovered to be a forgery

CERTIFICATE OF TRANSFER

- This is a characteristic of partial transfer if a person is not transferring his entire

shareholding.
- If a person is not transferring his entire holding, it will not be appropriate for him
to hand over to the transferee a share certificate.
- In such a case, the holder sends his signed transfer with his share certificate to the
company for cancellation and the transfer form is returned to the transfer who then
delivers it to the transfer for stamping and representation to the company.
- It is effected by inserting the words “certificate lodged” and the words to the
effects on the instrument of transfer by the daily-authorized officer of the company
who must sign his name.
- A person who suffers loss by relying on a false certification may hold the co
liable.

Circumstances when certification is necessary

1. Where the transferor is transferring only part of his holding

2. Where the transferor is transferring all his shares to two or more transferees
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3. Where the transferor has not yet received a certificate from the company but has
been issued with the document of title to the shares (allotment letter).
4. Where the transferee is not satisfied with the transferor title to the shares.

ELECTRONIC TRANSFERS

With coming in to force the central depositories Act 2001 all tradeable securities or
shares ought to be:
 Immobilised and shareholders who desires to transfer shares are required to open a
securities account with the central depositing and settlement corporation(CDSNC)
 To transfer shares in a members account the shareholder must give written
instructions to the broker or investment bank, which confirms that the shareholder
has shares in his account.
 The stock/broker or the investment bank offers the shares for it at the NSE when
the shares are sold the s/holders account is debited and the proceeds are credited to
the stockbroker or investment bank (client account).

UNREGISTERED TRANSFER

If two or more transferee are beneficiaries, over an unregistered transfer, the equities are
said to be equal and the first in time prevails.

FORGED TRANSFER

An instrument of transfer on which the signature is forged is called a forged instrument

and any transfer effected on such instrument is called a “forged transfer”.
The transfer effected through a forged instrument is a nullity and it confers no right and
imposes no obligations on the parties.

Consequences of a forged transfer

Past paper Nov 2015 QN 3c: Explain six effects of a forged transfer of shares
The transfer is null and void and does not give legal title to the transferee
 If the true owner is removed from the register then he has the right to have his
name restored and continue to be a rightful owner.
 The company will be required to compensate the true owner for any dividends that
were paid when his name was removed from the register.

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 Where shares acquired through forgery are sold to third parties then the third party
has no right to have his name entered in the register as a member.
 Where by reasoning of forged transfer the company issues a new certificate then it
will be held liable for any losses that a person may suffer as a result of relying on
the new certificate.
 If the company has been put at a loss by a reason of forged transfer then it can
claim those losses from the person who procured the forged transfer.

ORAL TRANSFER

This is a word of mouth not withstanding anything in the articles of a company.

It is not lawful for a company to register transfer of shares unless a proper instrument of
transfer has been delivered to the company. It means that an oral transfer is illegal and
void.
Implied terms in the transfer of shares

The law implies the following terms:

 That the transferee will pay the price of the shares.
 That the transferor will hand over the genuine instrument of transfer and the share
certificate.
 That the share certificate carries the rights and interest which it purports to convey.
 That the transferor will do nothing to prevent the transfer from being registered or
delay the process.
 It is the responsibility of a transferee to ensure that it is registered.
 That the transferee will indemnify the transferor with respect of all calls and other
liabilities arising on the shares after the transfer.

Effects of transfer

Property in shares remains with the transferor until the name of the transferee is
entered in the register. The effects include:
1. The transferor continues to be the legal owner of the shares but holds such
shares in trust for the transferee.
2. The transferee cannot exercise the rights of a shareholder.
3. The transferee has an equitable claim on the shares.
4. If calls are made, the transferor must pay for them but they can recover the
amount so paid from the transferee.
5. If dividends are paid, the transferor is entitled to them however, he holds on
trust for the transferee.
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6. The transferor must vote as the transferee directs him since the voting rights
attaching to the shares have passed to the transferee (acts as a proxy).

TRANSMISSION OF SHARES

This is an involuntary conveyance where title changes hand by operation of law.

Transmission takes place in the event of death or bankruptcy of a shareholder.

Transmission by death

Upon death, the shareholder ceases to be a member and his shares passes to the personal
representative who becomes a member when his name is entered in the register of
members.

However, he is free to transfer the shares to a third party before his name is entered in the
register.

Transmission by bankruptcy

When a member is declared bankrupt, his shares passes to the trustee in bankruptcy but
remains a member as long as the name remains in the register.

The trustee in bankruptcy may transfer the shares to a third party before his name is
entered in the register.

NB: if the company refuses to register, transfer or to give the transferee a notice of
refusal, the company and every officer in default is liable to a fine not exceeding ksh
500,000. If the offence continues, the company and every officer in default are liable to a
fine of 50,000 every day.

Differences between transfer and transmission of shares

Transfer Transmission
Voluntary process Involuntary process
Consideration is required during transfer The issue of consideration does not arise
The parties must execute formal transfer Instruments of transfer are not needed
documents

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TRANSFER OF SHARES UNDER CENTRAL DEPOSITORY SYSTEM

In case of a public company where shares are freely transferable the transfer is conducted
through central depository system account.
A central depository system account is a form of online ledger that is used to record
transactions of shares sold or bought by players in the stock market.
The system was created and maintained by the Nairobi Stock Exchange.

Any person therefore who wishes to participate in the stock market must open and
maintain a central depository systems account usually through stock brokers.
The transaction in the central depository system account is then transmitted to the
company to update its records.

Circumstances in which a central depository securities account might be suspended

Check Past Paper: November 2018 1c
 Owner of that account is suspected to be involved in insider trading
 If the central depository system is jointly held and the owners are in dispute
relating to the account
 Where there is a court order to suspend such an account
 If there is a dispute between the owner of the account and the stock broker
 If the account has not been in use for more than six months then it will be
suspended

MORTGAGING AND CHARGING OF SHARES

- As personal property, shares may be used as a security/collateral for a loan.

- Mortgage of shares is payable as transaction whereby shares are used as a
collateral of security for loans.

Types of mortgages of shares

1. Legal mortgage
2. Equitable mortgage

Legal mortgage Check; May 2017 QN 3A

 The borrower transfers shares to the mortgagee (lender) and the lender becomes
the registered holder subject to a separate agreement by which the lender
undertakes to retransfer the shares to mortgagor on repayment of loan. The lender
becomes the temporary owner of the shares.
 The main disadvantage of this is it involves formalities of transfer and retransfer.
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 Equitable mortgage
 There is a deposit of share certificate and a blank instrument of transfer with the
lender (mortgagee).
 The borrower retains title and membership rights. A blank transfer is a transfer
signed by the mortgagor as registered mortgagor but without the name of a
transferee inserted in it.

Difference between legal and equitable mortgage

Legal mortgage Equitable mortgage

Borrower transfers his shares to the lender No absolute transfer of shares to the lender
but only a deposit of a share certificate and a
blank transfer
Lender becomes the owner of shares Shareholder(Borrower) remains the
registered holder of the shares
The lender pays the calls if any but Shareholder pays for the calls
recover the same from the shareholder
Lender receives dividend as registered The shareholder/ borrower receives dividend
shareholder as registered holder
The lender has a right to attend meeting as Shareholder/ borrower attends the meeting
a special proxy (representative)
Upon repayment of the loan, there is a Upon repayment, the lender hand over the
retransfer of shares to the shareholder share certificate to the shareholder
In case of default, the transfer becomes In case of default, the lender may sell the
absolute shares if the A.O.A permits.
No notice of right in lien as required to the A notice of lien must be served to the lender
company
Lender is 100% secured Lender is partially secured.

Stocks
Stock is one unit of a company’s capital comprising several numbers of shares put
together i.e. Consolidated shares put into one mass

Rules of converting shares into a stock

1. The company must be registered as a limited company and having a share capital.
2. Conversion must be authorised by articles.
3. Members must pass an ordinary resolution.
4. Shares to be converted must be fully paid

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5. The company must give a notice of conversion to the registrar within 30 days of
the resolution.
6. Share certificate should be substituted with a stock certificate.

Difference between shares and stock

Shares Stock
A unit of capital several number of shares put together
Shares are issued directly by the company Stocks cannot be issued directly by the
company.
They need not to be fully paid Stocks must be fully paid
Shares may be numbered Stocks are not numbered
Fractional transfer is not permitted Fractional transfer is permitted

N.B: Under companies, Act 2015 conversion of shares into stock by companies is
prohibited.

REVISION EXERCISE
QUESTION 1
a. Describe six matters which might be included in the code of best practices of a
company to ensure equitable treatment of shareholders of the company.
b. Bob Kuto and Ben Zawadi wish to jointly acquire shares in Miereka Company Ltd.
Advise them on the legal status regarding joint ownership of shares.
c. Explain six effects of a forged transfer of shares.

QUESTION 2
State four special rights conferred to holders of preference shares of a company.

QUESTION 3
(a) Discuss five statutory restrictions that allotment of shares and debentures of
companies are subjected to.
(b) Distinguish between “issuing shares at a discount” and “issuing shares at a premium”.

QUESTION 4
Rose Tendo was allotted two hundred shares during the initial public offer in Babolat Co.
Ltd. However, her central depository system account erroneously indicated that she was
allotted two thousand shares.

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Subsequently, Rose Tendo transferred the shares to Jean Bahati who is currently enjoying
dividends.

Analyse the legal principles applicable in the above case and advice on the consequences
or the error in Rose Tendo’s central depository system account.

QUESTION 5
Explain five legal provisions governing the issuing or redeemable preference shares

QUESTION 6
Discuss the rules governing redemption of redeemable preference shares by a company.

QUESTION 7
Arrivals and Departures Ltd. was indebted to its sole director and majority shareholder,
Ken White In the amount of Sh. 150,000,000.

Ken White knew the prospects for the company were bleak but after discussing the matter
with the Manager of Pity Bank, an arrangement was arrived at. The bank agreed to avail
an immediate facility of Sh. 150,000,000to the company in exchange for what was
described as a "first fixed charge" over the company's fixed assets and all books debts
and other receivables as well as a floating charge over the company's entire undertaking.
The floating charge contained a restriction prohibiting the company from creating any
other charges which might rank in priority to or equal with the floating charge. It also
contained a clause to the effect that the floating charge would crystallize automatically by
the initiation of the company to create any prohibited charge. Both the fixed charge and
the floating charge were created in May 2007 and were duly registered.

During the period June to December 2007, the company received Sh.200,000,000 but
instead of holding this for the benefit of the bank, Ken White used it to repay the
company's indebtedness to himself and to engage in further speculative ventures.
During the same period, the company also made use of the overdraft facilities to the
extent of Sh. 100,000,000.

The company has movable assets worth Sh. 10,000,000 and debts owing to it amount to
Sh 40,000,000. The company's debts including those mentioned above are in excess of
Sh.200,000,000.
a) Larry Black, a creditor has presented a petition for the winding up of tire company.
Evaluate the validity of the automatic crystallisation clause.
b) Outline the order of payment in the above case.

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c) Discuss the legal principles applicable with regard to the charges created and the
director's actions.
d) Highlight three examples of actions that constitute misfeasance in company law.

QUESTION 8
MwapaChepeo is a registered shareholder in Mpya Company Limited, a blue chip
company that deals in the importation of securities and allied products. MwapaChepeo
has for some time not been able to trace his share certificate and also recalls that for a
number of years he has not been receiving dividends from the company.
On inquiry from the company, MwapaChepeo was informed that his name was no longer
in the register of members of Mpya Company Limited. Investigations revealed that
indeed his certificate had been stolen and his. signature forged to transfer his shares to
Elijah Roimen.

With reference to the facts given in the above case, explain to Mwapa Chepeo the
consequences of a forged transfer of shares.
QUESTION 9
ABC and Sons limited was incorporated in 2009 with a capital of sh. 3 million divided
into 30,000 shares of shs. 100 each. Its main object was to acquire and carry on the
business of hardware and any other businesses and 'transactions which the company
might consider to be in any way conducive or auxiliary thereto. The company has gone
into liquidation. James Fine, a former shareholder has made a claim against the company
for the balance of the price of shares which he had sold to the company but which had not
been fully paid for.

With reference to the above facts and in light of the ruling in Trevor V. Whitworth
explain
i. The rule in Trevor V. Whitworth
ii. The exceptions to the rule n (c) (i) above

QUESTION 10
Compare and contrast ordinary shares and preference shares.

QUESTION 11
a) Describe the procedure that a person should follow in order to transfer his shares to
another shareholder
b) Sharp Kioko transferred his shares in Mwamba limited to kazuri six months ago. The
shares were partly paid for nine months after the transfer. Mwamba limited went into
liquidation. You have been appointed the liquidator of Mwamba Limited Analyze the
case and advise Sharp Kioko on his liability for the debts of Mwamba Limited

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QUESTION 12
a) Explain the implied terms in a contract of sale of shares between the seller and the
buyer
b) Highlight the circumstances under which a company would decline to register a
transfer of the shares
c) Amos Kwetu bought shares from ABC limited. Upon inspection of the register of
members of the company, Amos Kwetu realized that his.name was missing. The
company has refused to rectify the amomally. Amos Kwetu is aggrieved and seeks
your legal advice.
Advise him on the legal provisions which govern the rectification of the register of
members of a company.

QUESTION 13
“The general rule is that a company should not offer financial assistance to any person for
the purchase of its own shares.”
Explain the exceptions to this rule.

QUESTION 14
a) Describe the contents of a trust deed.
b) Outline the advantages of a trust deed.

QUESTION 15

An allotment is the company's acceptance of an offer by the allot tees to buy shares in the
company.
With reference to the above statement:
a) Explain the common law rules that govern allotment of shares.
b) Briefly explain the statutory provision regarding:
i. Void allotment
ii. Voidable allotment
c) Explain the returns that a limited company must make when allotting its shares as
provided for under section 333 of the companies Act

QUESTION 16
a) Define the term "Floatation" and explain the procedure to be followed by a private
company which intends to float its share to the public.
b) Legally, a company's shares are like "goods". Consequently, the common law of
"caveat Emptor" applies to the sale of share by a company. The company as the

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seller is not obliged to disclose anything to potential buyers which would enable the
buyers to assess the risk involved in the proposed purchase. There are however
regulations which a company is required to comply with in a public issue of shares.
These regulations constitute an attempt to impose on the company a duty to
disclose the relevant facts.
Discuss the regulation to be complied with in a public issue of shares in your country.

QUESTION 17
(a) Enumerate the sequence of events to be followed by a shareholder who intends to
transfer his shares to another person.
(b) Mwinzi, a holder of shares in Hewa Airways Company Limited deposited his share
certificate with a broker, Otieno, Otieno forged Mwinzi’s signature on the share
certificate and transferred the shares to Kuria. When the share certificate and the
transfer document were presented to the company for registration, the secretary wrote
to Mwinzi advising him of the transfer. Mwinzi did not reply to this letter and Kuria
was registered as the new shareholder. Kuria then transferred the shares to Wafula
who was registered as the shareholder and a new certificate was issued.
Explain the effect of the forgery.

QUESTION 18
(a) With regard to investor protection, explain the meaning of inside information.
(b) In relation to allotment of shares in a company, discuss the legal position in each of
the following situations:
(i) Sarah applied for 4,000 shares in a public company known as ABC Ltd. She was
allotted only 2,000 shares. She intends to sue the company.
Advise Sarah.
(ii) Meshack was recently appointed an accountant of Economy Departmental Store, a
public limited company. The company intends to issue shares to the public.
Meshack seeks your advice on whether there are any restrictions imposed by the
Companies Act upon allotment of such shares.
Advise Meshack.

QUESTION 19
Shadrack Ruto owns 500 shares of Sh. 20 each in Alpha and Omega Ltd. and 500 shares
of Sh. 10 each in the Beginning and End Ltd. Both companies are regulated by Table A -
articles of association. ShadrackRuto has agreed to sell all his shares in Alpha and Omega
to Albelnego Soi and 300 shares in Beginning and End to Meshack Mamba. He has been

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informed that both companies use the form of transfer that is generally used by brokers,
who are members of national stock exchange.

Advise ShadrackRuto oh:

(i)The information which is required on the share transfer form.
(ii)The procedure which should be followed to effect the transfer, and the duration it will
take to issue the new share certificates.

TOPIC 5
SHARE CAPITAL

MEANING AND TYPES OF SHARE CAPITAL

The term capital is used to refer to the amount of money which a company raises from
selling its securities such as shares and debentures.
The amount raised from the sale of shares is called share capital
Share capital can be classified as follows:

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From the law point of view, the capital of a company refers to the nominal/ authorized/
registered capital and it is a fixed amount, which remains constant until some steps are
taken to alter it.
From the accountant point of view, it is the net worth of the business. (ASSETS-
LIABILITIES)

TYPES OF SHARE CAPITAL

Check Past Paper question; December 2013 QN 4B
1. Authorised/ Nominal/registered share capital.
- This is the amount of share capital, which the company is authorised to raise by
issue.
- It is the amount specified by the capital clause of the MOA and the statement of
nominal capital.
- It is known as registered capital because it is the amount that the company is
registered with.

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2. Issued and unissued share capital

a) Issued share capital represents a number of shares out to the total authorised
shares that have been issued to the public for subscription.
b) Unissued share capital represents the number of shares being part of the
authorised shares retained for a future issue.
3. Subscribed and unsubscribed share capital.
a) Subscribed – this is the part of issued share capital that is already taken up by
public
b) Unsubscribed – It is the part of issued share capital that is not yet taken up by
the public.
It forms the basis of companies name to search for an underwriter/ insurer to
avoid the risks of under subscription.
4. Called up and uncalled up share capital.
a) Called up share - is the part of subscribed share capital that the directors have
already announced a call upon.
b) Uncalled up share capital - is part of subscribed share capital, which the
directors are yet to announce a call upon.

5. Paid up and unpaid up share capital

a) Paid up- It is the part of called up share capital whose payment has already
been made or received by the company.
b) Unpaid up share capital- It is part of called up share capital whose payment is
not yet made or received by the company. It represents calls in arrears and it is
always subject to forfeiture or lien by the company.
6. Reserve capital or Capital reserve
Also known as reserve liability, its where a company may resolve by a special
resolution that the whole or any part of the uncalled up capital shall not be
capable of being called up except for purpose of winding up. It acts as a security
of creditors.

RAISING OF CAPITAL

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The method of raising the capital will depend whether the company is a private or public
company.
In the case of private company, the capital is raised privately without involving the
general public. This is because a private company is not allowed to invite the general
public to subscribe for its shares.
In the case of public company, it is allowed to invite the general public to subscribe for
its shares and therefore raising of capital is highly regulated by capital market authority.

A public company can raise capital using any of the following methods
1. PLACING
Under this method the company will enter into agreement with the a registered stock
broker whereby the stock broker will take up the shares and look for people to subscribe
for them
If the stock broker only invites his own clients, then the process is called private placing
If the broker does not undertake to keep any shares that may not be sold within the agreed
time. Such shares will be returned back to the company.
For the services that the broker provides he is going to earn brokerage fee

2. OFFER FOR SALE

In this method, the company will enter into an arrangement with some financial
institutions commonly called issuing house.
In this arrangement, the issuing house will buy the shares from the company and then
they will look for subscribers from the general public to come and buy those shares from
them.
Therefore, if there are shares that remain unsold, they will be retained by the issuing
house. In all these arrangements, the issuing house will earn an underwriting commission

Placing Offer for sale

The company engages stock broker The company selling shares engages an
issuing house
Any shares that remain unsold are The unsold shares remain with the issuing
returned back to the company house

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THE PROSPECTUS/INFORMATION MEMORANDUM

A prospectus means prospectus, circular, notice, advertisement or other invitation

offering to the public for subscription or purchase of any shares or debentures of the
company.

Features of prospectus

- Every prospectus must be in writing. This means that any oral communication
through radio, interviews, TV is not prospectus even if it invites public to
subscribe for the share. Prospectus is an invitation to treat but not an offer
document.
- The prospectus must be addressed to the public i.e. prospectus must make its
shares available to the public without any discrimination.

Statutory/ legal provisions relating to issue of prospectus

Check; November 2016 QN 1c
To protect the public, the following legal or statutory provisions must be complied:-
1. Definition of a prospectus: - The prospectus must be defined by the Act.
2. Dating of the prospectus: - prospectus must be dated, date shall be unless the
company is proved be taken as the date in which the prospectus was issued to
public.
3. Content of the prospectus: - Authors of the prospectus are legally free to state
anything they think is appropriate in the prospectus but they must include the
matter specified under the Act.

Circumstances in which a company may issue a prospectus

1. A newly formed company may issue a prospectus inviting prospective

investors to subscribe for securities.
2. An existing public company wishing to raise additional capital from the public
may issue a prospectus in relation to the issue.
3. If a private company passes a special resolution converting itself into a public
company, it must deliver to the registrar for registration within 14 days a
statement in lieu of prospectus.

Contents of a prospectus

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A prospectus contains matters and reports as follows:

The matters to be stated in a prospectus are:

1. Directors’ and Auditors of the company
a) Directors’ names, addresses and occupations.
b) Directors’ qualification shares, if any, and their remuneration (if there is a
provision in the articles).
c) Directors’ interest in the company’s promotion.
d) Auditors’ names and postal addresses.

2. Formation expenses

a) Preliminary expenses.
b) Promoters’ remuneration.
c) Particulars of options on shares or debentures.
d) Underwriting commission and brokerage.

3. Investor information

a) The minimum subscription.

b) The time of the opening of the subscription lists.
c) Amount payable on application and allotment.
d) Voting and class rights
e) Deferred shares.

4. Company’s property and business

a) Particulars of shares and debentures issued otherwise than for cash.

b) Particulars of material contracts.
c) Vendors of property to the company.
d) Amount paid for property to be bought by the company, stating the amount paid
for goodwill.
e) Length of time the business has been carried on, if less than three years.

The Reports include:

i) An auditor’s report showing:

a) Profits or losses in each of the last FIVE years.

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b) Rate of dividend during the last five years.

c) Assets and liabilities at the date of the last accounts.
d) Similar details with regard to subsidiary companies, if any. ii) Where the proceeds
of the issue are to be used to buy a business,

ii) A report by named accountants on the profits or losses of the business for the last five
years, Its assets and liabilities at the date of the last account

Contents of a prospectus issued in Kenya by a foreign company (Sept 2015 Q 1B)

 Name of the company and country of incorporation.

 The shareholding structure.
 Details of directors
 Number and classes of shares being issued.
 Approval by CMA and NSE for shares to be floated in Kenya.

Actions and omissions that constitute criminal behavior in relation to issuing a

prospectus (June 2013 Q 3B)

1. Failure to include matters and reports that are supposed to accompany the
prospectus stating that the prospectus includes an expert’s statement and the
Expert has not given a written consent.
2. A prospectus containing an expert's statement 'and the expert -has not endorsed
such a statement
3. Issuing a prospectus without delivering a signed copy thereof to the registrar
for registration.
4. Omitting to include material contracts.
5. Including false statements in the prospectus.

Legal principles relating to a misleading prospectus

 The general rule is that a prospectus must disclose all material facts accurately; it
must not misrepresent facts thereby improperly influencing and misleading a
prospective investor into becoming an alotee of shares or debentures in
consequences of which he suffers loss.
 A misled investor has the following remedies:
 Rescind the contract of allotment, return the shares to the company, and recover
the money.
 .Recover damages from the company for fraud by proving that the statement was
fraudulent.
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 Damages for misrepresentation for any loss sustained by subscriber because of

untrue statement.
 Damages for negligence at common law if he can show that the defendant owed
him a duty of care when issuing the prospectus and there was a breach of the duty
of care.

Circumstances under which persons would be exempted from liability on false

information contained in a prospectus (JUNE 2011 Q2)

 Reasonable belief that the statement is true and not misleading

 Where the offending statement is made by or on the authority of an expert.
 Where the defendant takes reasonable steps to correct the statement.
 The person used public official statements and documents by official persons.
 The person withdrew the prospectus in writing before it was delivered for
registration

The persons who can be made liable for misleading prospectus are:

a) Directors at the time of the issue of the prospectus;

b) Persons who consented to be named in the prospectus as directors or future
directors
c) Promoters of the company,
d) Every person who authorised the issue of the prospectus

MAINTENANCE OF SHARE CAPITAL

The authorized capital of company is intended to be used by company for its operation.
As such that capital must be maintained within the company.
In addition to this, capital is considered to be the alternate security of creditors of the
company. The companies act has a number of provisions intended to ensure that
 Company’s capital is not reduced in value as it comes into the company.
 The company’s capital does not go out of company once it is received.

Rules of maintenance of share capital

1. Payment of underwriting and brokerage commission is subject to the following

conditions:
i. The payment must be authorized by the articles
ii. The commission to be paid should not exceed 10% of the price at which the shares
are issued.
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iii. The amount or rate of commission must be disclosed in the prospectus or

statement in lieu of prospectus

What is underwriting commission?

A public company, which invites the public to subscribe for its share / debenture, must
ensure that public subscribes to the issue.
To spread the risk of under subscription, the company insures with underwriters. In
return, the company will pay under writing commission to underwriter. Underwriter-
means a person who agrees to the share or debenture specified in the underwriting
agreement if the public fails to subscribe for them.

Brokerage commission
This is a payment made to issuing house and brokers, in return for their placing the
companies or securities but without under taking to subscribe for them.

It differs from underwriting commission in that it is payment made to agree to sell

companies share on behalf without undertaking to buy its share, which he fails to sell.
Unlike underwiritng commission, there are no restrictions on rate of brokerage
commission.

2. Issue of shares at a premium.

When shares are issued at a premium, a share premium account should be created and the
amount of premium on such shares is credited into this account. The share premium
account can only be applied in the following:
i. To issue members fully paid bonus shares
ii. To write off preliminary expenses of the company
iii. To write off expenses incurred on issue of any shares or debentures of the
company e.g. discount allowed or commission paid.
iv. To provide for the premium payable on redemption of any redeemable preference
shares or debentures of the company

3. Issue of shares at a discount.

Issue of shares at a discount is unlawful as it amounts to reduction of share capital.
However, a company can issue shares at a discount subject to the following
conditions/requirements:
i. The shares are of a class already issued.
ii. The issue is authorized by a resolution passed in general meeting
iii. The resolution must specify the maximum rate of discount
iv. Not less than 1 year has elapsed since the company was entitled to commence
business

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v. The issue is sanctioned by the court

vi. The issue must be made within one month after court sanction

4. Prohibition of a company to buy or purchase its own shares (Trevor vs,

Whitworth-1837)
- In Trevor vs, Whitworth (1837), it was decided that it is unlawful or illegal for a
company to purchase its own shares because it amounts to reduction of the share
capital of the company.

Exceptions to the rule of Trevor vs. Whitworth. (Where a company can purchase its
own shares)
Check; December 2014 QN 6b, December 2009 QN 3c, December 2011 QN 3c.
i. Where it is a purchase of redeemable preference share.
ii. Where the share are acquired because of a resolution of reducing the company’s
share capital.
iii. Where the shares are purchased because of court order in protection of minority
interest.
iv. Where the share are forfeited for non- payment of a call.
v. Where the shares are surrendered in lieu of forfeiture.
vi. Where the companies acquires its own shares otherwise than for a valuable
(cash) consideration.

5. Prohibition of financial Assistance by a company to purchase its own shares.

It is unlawful for a company whether directly or indirectly and whether by means of
loan, guarantee, security or otherwise any financial assistance for the purpose in
connection with the purchase of any shares in the company.

Penalties for contravening the above provisions. Check November 2017 QN 3 A

1. The company and every officer in default is liable to a fine not exceeding sh 1
million.
2. The company that has lent the money to finance purchase of its own share
irregularly it cannot recover that loan.
3. Any share or debentures issued in connection with financial assistance stands
invalid.
4. The agreement to purchase the shares is not enforceable.
5. The company may sue the directors for breach of duty, to recover any loss resulting
from the financial assistance.

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6. The directors are liable for damages for breach of trust since directors are trustee of
the company’s resources including money.

Exceptions to this rule include-Prohibition of financial Assistance by a company to

purchase its own shares:

i. Where lending of money is part of the ordinary business of the company and the
money is lent by the company in the ordinary course of its business e.g. financial
institutions like banks.
ii. Where the loan is to trustees to enable them purchase fully paid shares to be held
under employees share scheme
iii. Where the loan is to employees other than directors to enable them purchase fully
paid shares by way of beneficial ownership.
iv. Where the company is advancing such monies or financial assistance to a director
to enable him perform his duties efficiently.

6. It is unlawful for the company to give a loan to a person who is its director,
guarantee such a loan, or provide security for such a loan.Exceptions to the rule
that a company cannot make out a loan to its directors.
i. When the company is for the time being private.
ii. When the lending company is the subsidiary and the holding company its
director.
iii. When lending money or giving guarantee is part of the ordinary business of the
company and the same is given in the ordinary course of that business.
iv. When the funds are necessary to meet expenditure incurred or to be incurred by
the
director for purposes of the company or enabling him to properly perform his
duties as an officer of the company.
v. When such payment has been approved at the general meeting and the particulars
of the payments have been disclosed.

7. Prohibition for financial compensation for loss of office.

It is unlawful for a company to make to a director any payment by way of
compensation for loss of office.

Director’s rights with regard to recovering remuneration and compensation for loss
of office- December 2012 question 3A
 Prima facie, directors are not entitled to any remuneration apart from that which is
provided in the articles of association of the company

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 Where the articles make provision for such payment, directors can claim
remuneration out of the funds of the company if the company is not able to pay out
of profits.
 Particulars of the proposed payment including the amount has been disclose to
members of the company
 The payment has been approved by the company in general meeting
 Amount of remuneration should not be varied except through a special resolution.
 It is unlawful; for directors to be paid compensation for loss of office unless the
particulars thereof have been disclosed and approved by members of the company

8. Redemption of redeemable preference shares.

Companies Act provide that every company issuing redeemable preference share
should create a capital redemption reserve fund account (CRRFF) to finance the
preference share that are redeemed.

9. Reduction of capital is subject to certain conditions

10. Prohibition of payment of dividend out of capital
No dividend shall be paid out of capital account, dividend should only be paid out
revenue reserve or profit in given year
ALTERATION AND CONSOLIDATION OF SHARE CAPITAL
The company is empowered to alter or change to capital subject to the following
conditions
 Alteration must be authorized by the company’s constitution.
 Company must hold a general meeting of the members with an agenda of altering
capital.
 Alteration must be authorized by special resolution passed by the members in a
general meeting.
Methods of alteration
1. Increasing the company’s share capital by issuing new shares.
2. By consolidating and dividing all or any of the company share capital into shares
of larger amount than the existing shares.
3. By subdividing all or any of the shares into shares of smaller amounts (share split).
4. By cancelling shares that have not been issued or taken by anybody.
5. By reducing the company share capital.

Procedure/ condition for alteration of capital

1. There must be an authority of the articles of association to alter the capital.

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2. The company must convene a member’s general meeting.

3. The members must pass an ordinary resolution
4. The registrar of the companies must be notified of the alteration within 30 days
from the date of passing the resolution.
Methods/ Modes of alteration of share capital
Check; June 2013 QN 2B
The alteration of the share capital is made by:-
1. Increasing the share capital through issuing new shares of such amount as the
meeting may approve.
2. Consolidation and dividing all or any class of shares into shares of larger
amounts than those existing.
3. Subdividing all or any class of shares into shares of smaller amount than is
fixed by the MOA
4. Converting all or any of the paid up share capital into stock or conveying the
stocks into paid up shares of any denomination.
5. Cancelling shares where have not been taken up thereby diminishing the
amount of share capital.
Diminution of share capital
When the shares have not taken up, the unsubscribed shares are cancelled and thereby the
company diminishes or it eliminates the amount of that capital.
This method of alteration is known as diminution of share capital and should not be
taken as reduction of share capital.
Increase of share capital.
A company limited by share or by guarantee and having a share capital can increase its
authorised share capital by any amount even if the initial authorized share capital has not
been fully issued.
Conditions/ procedures for increasing share capital
1. There must be authority to increase the capital in the AOA.
2. The company must convene a member’s general meeting.
3. The members must pass an ordinary resolution.
4. The registrar of the companies must be notified of the increase within 30 days
from the date of passing resolution.

Members’ pre-emptive rights

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 Companies Act 2015 permits public companies and private companies to exercise
pre-emptive rights.
 Private companies may restrict pre-emptive rights on its article.
 A member’s pre-emptive rights means that the existing members are given priority
for consideration to buy new shares or towards transfer of shares between
members before they are offered to the members of the public.

The pre-emptive rights on the issue of shares do not apply if:(Nov 2016 Q 7B)
 The memorandum or articles of a private company exclude them or provide
alternative Provisions, e.g. To make more detailed provisions in respect of different
classes of
 The company passes a special resolution to exclude them.
 The shares are issued for non-cash consideration;
 Shares within employees' share scheme
a) REDUCTION OF SHARE CAPITAL

The general rule is that it is illegal for a company to reduce its share capital

Reduction in this case means any attempt by a company to return or to refund part of the
monies already received as share capital to share holders

This move is strictly prohibited because: -

a) It reduces the security available to the creditors.
b) It gives a bad public image to the company.

However, a company can reduce its share capital subject to the following conditions:

Procedure/ conditions for reduction of share capital. Check; June 2010 QN 1c

- The Act provides an exception to the above general rule where a company can
reduce its share capital. A company with share capital can reduce its capital
subject to the following conditions:-

 Authority of the articles: - A company having a share capital may if authorised

by its Articles reduces its share capital.

 Special resolution:- The companies Act requires that a company limited by shares
or guarantee may by special resolution passed by members at General meeting

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reduce its share capital, this resolution if passed is known as Special resolution of
Reducing of share capital.

 Application to the court for confirmation

- The Act requires that after the resolution has been passed, a company must then
apply to the court by way of petition for confirmation of reduction.
- The court must then satisfy its self that the resolution passed does not unfairly
compromise the interest of members and creditors.
- The court may order that the company prepare and submit to it a list of all
creditors entitled to object.
- It must also satisfy itself that all creditors entitled to object have consented to
the reduction;
- The court must satisfy itself that creditors’ claims have been discharged or
secured.
- However, the court is empowered to do away with the creditors consent or
objection. If it is satisfied that the company has followed the procedure, it may go
ahead and confirm the reduction.

 Confirmation of reduction
- The Act provides that if the court is satisfied that every creditor entitled to object
has consented or that his claims has been discharged or secured, it may then make
an order confirming the reduction on such terms and conditions it may deem fit.
- The court may for any reason if it thinks fit to do so order the company to add the
words “and reduced” at the end of its name for a specified duration.
 Notification to the registrar and registration of reduction
- The Act states that upon production of certified copy of the court order
confirming the reduction, copies of the special resolution, minutes approving
the same and other document as may be required, the registrar registers the
reduction and issues the certificate confirming the reduction of companies capital
and this certification acts as a conclusive evidence that the requirement of the
companies act in respect to the reduction of capital have been complied with.
- A reduction of capital takes effect when registered by the registrar.
N.B:- A private company’s resolution for reducing the share capital (if the company is
limited by share) must be supported by a solvency statement (that the company is able to
pay its debts in the next 12 months.)

How the interest of following persons is protected in reduction of capital of a company

1. General public
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2. Companies creditors
3. Companies members.

a) General public
- The general public are potential shareholders or creditors in future and must be
informed the truth regarding the reduction of the capital.
- The general public is protected by the high court order which requires the
company seeking to reduce its capital to compulsorily change its name to add the
words “and reduced” at the end of its name for a period of at least 2 months or as
the circumstances may deem fit .
- It enables the public to make enquiries to ascertain the reason for reduction of
capital to make informed decisions.

b) Companies creditors
- Where the reduction involves the cancellation of unpaid up capital or repayment to
shareholder payback capital, the creditors have statutory right to object to the
proposed reduction.
- Upon such objection, the company is required to prepare list of creditors to
forward to the high court, the high court after considering the risk may reject or
confirm the reduction.

- It can only confirm the reduction if satisfied that Check; June 2010 Qn 1(c):-
1. Creditors have consented to the proposed reduction
2. Creditors have been given alternative security
3. Creditors’ claims have been discharged or paid off.

c) Companies members

 Minority membership
Minority members can seek court protection where they are of opinion that the resolution
passed by the majority is not fair and equitable at all
 Majority membership
They are protected by Act, which provides that the membership must pass a special
resolution. It is most unlikely that (2/3 or 75%) or ¾ of the majority members can agree
to pass a resolution for reducing capital against their interest.

ROLE OF COURT IN CAPITAL REDUCTION

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1. Protection of creditors.
The court will only allow a reduction of capital if it is satisfied that the creditors have
consented creditors have been given security creditors have been paid off

2. Protection of members
Although the majority of members of the company may not need protection from the
court, the minority who may not agree to a resolution to reduce the capital may require
the court to protect their interests especially if the majority acted in a manner that is
oppressive to the minority.

3. Protection of the general public

It may happen that the company may have decided to pass a resolution to reduce the
capital without providing proper information to the general public.
The court may step in to ensure that their interests are protected by requiring the
company to provide all the necessary information.

Methods/ modes of reduction of capital (Check; May 2017 QN 6A)

1. Extinguishing the liability on any of its shares in respect of share capital not
paid up. E.g. par value of share is sh 10, shares are 1 million paid amount is per
value sh five, balance not paid is par value sh. 5. A company may pass a special
resolution to eliminate/ extinguish liability of balance of sh.5.
2. Reducing the liability on any of the shares in respect of the share capital not
paid up. E.g. (the balance of sh 5) the company may pass a resolution to reduce the
liability on share I.E the shareholder may be required to pay only sh 2.5 per.
3. Cancelling any paid up capital, which is lost or unrepresented by available
assets without extinguishing and reducing liability of members.
4. Repayment to shareholders of the paid up capital in excess of the companies
wants without reducing or extinguishing liability on shares.
5. Paying off paid capital, which is in excess of the companies need and reducing
the liability on any shares.
6. Paying off paid capital, which is in excess of the companies need and
extinguishing the liability on any shares.

Liability of members upon reduction of capital

Ordinarily, where company reduces its capital, the members are no longer liable to pay
the reduced amount on share capital.

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The Act provides that if the company goes into liquidation within 12 months from the
date of reduction of capital, then the member’s liability shall be reviewed and shall be
liable to meet the claims of the creditors who were never aware of the reduction of share
capital and did not consent to it.

Further issue on share capital

A public company limited by shares may at any time increase its subscribed share capital
by issuing new shares from any unissued share capital within the limits of its authorised
share capital. This type of issue is known as further issue on share capital.

Members’ pre-emptive rights

Where a company makes a further issue of shares, an obligation is imposed upon the
directors by the articles to offer such shares, first to the existing shareholders before they
are offered to the public. This right of existing shareholder to have new shares in priority
to the public is known as members pre-emptive rights.

Companies Act 2015 requires every public company to exercise pre-emptive right
whereas a private company may restrict such a right under its articles.

CONSOLIDATION OF SHARES

Consolidation of shares is a process by which a company limited by shares may change

the structure of its share capital by reducing the number of shares it has in issue and
increasing the nominal value of each share. On a consolidation, the total nominal value of
the company's issued share capital remains unchanged.

When subdividing, consolidating or dividing its shares, a company shall ensure that the
proportion between the amount paid and the amount if any unpaid on each resulting share
is the same as it was in the case of the share from which that share is derived.

DIVIDEND

They are profit of trading company distributed among members in proportion to their
shareholding.

Provisions of the Articles of Association in regard to payment of dividend

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1. A company in general meeting may declare dividend payable and no dividend

payment shall exceed the amount recommended by the directors.
2. Directors may from time to time pay to members such an interim dividend in
between the years, as it appears justifying on the company’s profit.
3. No dividend shall be paid otherwise than out of profit.
4. Directors may default recommending any dividend and transfer all profits to
capital reserves
5. Dividend must be paid to the persons and title within 42 days of their declaration.
6. Dividend may be paid up in cash, cheques or warrants.
7. No dividend shall bear interest against the company.

Common law rules on payment of dividend

Common law rules supplement the articles. They include:

a) Losses of previous years need not to be provided for when determining the profits
available for distribution.
b) Profits of various years will be brought forward to be distributed as dividend even
if there is a revenue loss in current years when company make.
c) Unrealised capital profits on revaluation of assets can be distributed by way of
dividend or used to finance a bonus issue.
d) Dividend must not be paid out of capital (capital impairment rule)
e) Dividend cannot be paid if it will result in the company being unable to pay its
debt as they fall due. (solvency rule)
f) Losses of circulating assets (current assets) in the current attaining period must be
made good before payment of a dividend. (case number 46 exchange banking
company ltd)
g) The company financial statement as a role must be taken into account before
determining the amount available for distribution as dividend.
h) A shareholder cannot enforce payment of dividend even if company is making
huge profits.
i) In the absence of dividend being recommended by directors, the general meeting
has no power to declare dividend as available for payment. ( case 47 Scott vs
Scott)
j) Once dividend are properly declared it becomes a debt due against the company to
each shareholder the company of which a shareholder can sue the company.
k) Dividend are payable in cash unless the AOA provides otherwise. (Case 21 Wood
vs Odesa water works company.)
l) Dividend must only be paid to the registered shareholder or members.

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m) A realised profit on sale of fixed assets may not be treated profits available for
distribution.

The fundamental principle / Basic principle on payment of dividend

Dividend should not be paid out of capital. It is a basic principle of the company law that
dividend must not be paid out of funds realized by issue of shares and debenture i.e.
dividend must not be paid out of capital unless under the following condition/
requirement:-

Check Past Paper Question; December 2009 Question 5A,

1. Such payment must be authorised by articles.

2. The company must convene member’s general meeting to seek consent of its
members.
3. Members must pass a special resolution (75%).
4. The payment must be authorized or approved by the registrar of the companies.

N.B: The registrar by approving such payment may appoint a person to inquire and report
to him on the circumstances leading to such payment and may require that a company
register a guarantee for the payment of the cost of inquiring. If a dividend is improperly
paid out of capital, all the directors who are knowingly part of the payment are jointly
liable and the dividend so paid shall be recovered from the recipient if they knew that it
was paid out of capital.

Circumstances when a dividend could become a debt against the company. (May
2014 Q 5 C)
1. If the articles so expressly provide, dividend will become payable and
enforceable.
2. In case of preference shares which carry a limited dividend and in respect of
which there are no voting rights.
3. When the company declares the dividend as a final dividend.

The reasons why a company might seek to control the funds from which dividends
are paid. (May 2014 Q 5 D)

1. To facilitate maintenance of capital

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2. To maintain a certain level of reserve

3. Cash flow issues so that the company can run its business effectively.

CAPITALIZATION OF PROFITS

- This is conversion of a part of revenue account into nominal capital of the

company.
- It is an alternative way to pay cash dividend.
- The company may capitalize its profits in two ways:
i. By issuing fully paid up shares (bonus share)
ii. By transferring undistributed profits to capital account (transfer to general
reserve.) This must be done subject to the following conditions:-

a) Must be done in accordance with authority in the AOA

b) A company must pass ordinary resolution
c) Members must pass ordinary resolution
d) The distributors must be in the same proportion that the members would
have received a cash dividend
e) The capitalization must be made with the profits available for distributors.

FLOATATION

- Floatation is a process by which a company avails securities to the public for

subscription
- This enables companies to raise capital from the public
- Floatation is only done by public companies since the articles from doing so
prohibit private companies.
- A private company, which intends to have its capital floated off to the public, must
alter its articles in such a manner that they no longer:

a) Restrict the maximum number of shares a member holds

b) Prohibit any invitation to the public to subscribe for any share or debenture of
the company.
c) Restrict the right to transfer shares.
8. Within 14 days after altering its article, deliver to for registration a statement
known as statement in lieu of prospectus.

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Methods of Floatation/ Raising share capital Check; May 2016 QN 2A

1. Prospectus issue
2. Offer by tender
3. Right issue
4. Bonus issue
5. Placings
6. Offer for issue
7. Conversion issue

a) Prospectus issue/ Direct offer

Company sells its shares directly to the public. The company issuing securities
prepares prospectus inviting subscription.

For a company issuing shares for the first time, it must be licenced by the CMA.

b) Offer by tender
The company invites tender for its share and sells turn to the highest bidder.

c) Right issue
The company offers its share to the existing shareholder to buy at a reduced price.

d) Bonus issue
It is an alternative to pay dividend.
Its where company issue fully paid up share to current shareholder for free
It involves capitalization of reserves into share capital

The company may use the following funds in financing bonus issue:

1. Profits available for distribution as dividend

2. Amount credited in the share premium account
3. Unutilised amount in capital redemption reserve fund

Conditions for the right issue and bonus issue

1. It must be authorised by the articles of the company.

2. It must be sanctioned by the CMA
3. The board at the board members must recommend it.

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4. It must be authorised by an ordinary resolution of members in the general

meeting.
5. A return must be made to the register within 60 days.

e) Placing
The company arranges with its broker to sell shares on behalf of the company. This
method is mostly used by the private companies. The broker then places the shares
with its client privately. There is no direct invitation of the public.

f) Offer for sale

This is saleof shares to an issuing house, which in return prepare and issue
prospectus-inviting subscription. Company sells its shares to an issuing house to
resell shares to public. The issuing house bears the risk of undersubscription.

g) Conversion issue
Conversion issue the holders of one type of shares are given a chance to convert to
another type.

REVISION EXERCISE

QUESTION 1
Discuss four regulations governing redeemable preference shares under the Companies
Act.

QUESTION 2
Outline the contents of a prospectus issued in Kenya by a foreign company.

QUESTION 3
(b) Explain four acts or omissions which might give rise to criminal liability in respect
of a prospectus.
(c) Outline three conditions to be fulfilled before the court can approve a reduction of
capital of a company

QUESTION 4
Ben Nyotu and MlaChake are directors of BankiYetu Ltd. Each of them holds forty
percent of the ordinary shares and the reminder is held by MlaYote. In addition to the
shares, Ben Nyotu holds debentures issued by bankiYetu, redeemable on 9 Septemer
2015 benNyotu wishes to dispose of his shares and debentures to MlaChake and MlaYote
on priority basis.

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BankiYetu Ltd intends to raise funds and lend the samo to MlaYote to enable him
purchase Ben Nyotu’s debentures. MlaYote will also arrange for a private loan
guaranteed by Bank Yetu Ltd to enable him purchase ben Nyotu’s shares and debentures.

Advise bankYetu Ltd on the legality of its arrangement with MlaYote regarding the
purchase of Ben Nyotu’s shares and bentures.

QUESTION 5
In Trevor v Whitworth (1887), it was held that a company cannot purchase its shares or
be a member of itself.
However, a company could purchase its shares in certain circumstances.
(i) Evaluate three circumstances in which a company could purchase its own shares. ,
(ii) Identify three instances when a company might give financial assistance to facilitate
purchase of its shares.

QUESTION 6
(c) Explain the circumstances when a dividend could become payable and enforceable
as a debt against the company.
(d) Examine three reasons why a company might seek to control the funds from which
dividends are paid.

QUESTION 7
Advise a group of shareholders on the distinction between the following types of capital
(i) Nominal capital.
(ii) Reserve capital.

QUESTION 8
A company may alter the objects clause in so far as it may be required to carry on its
business more economically.
Explain the classes of persons who might object to the alteration of the objects clause.

QUESTION 9
Discuss the actions and omissions that are deemed to contribute to criminal behavior in
relation to preparation and issuing of a prospectus.

QUESTION 10
Explain five ways in which a company might alter its share capital.

QUESTION 11

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Wakulima Company Limited is in the business of importing seeds. It is about to make a

new, issue of 800,000 shares of Sh.20 each.

The prospectus has stated that the seeds produced by this company yield 20 bags per acre
"even on arid land and that the company was the only one with such kind of seeds. There
was also a publication in the local newspaper about the shares.

Maureen Mwikali did not read the prospectus but had applied for the shares and was
allocated 4,000 shares at Sh.40 per share.

Olive Omute read the prospectus and was not allocated the shares. She bought 6,000
shares at the securities exchange at Sh.50 per share.

Mary Mpito read the publication in the local newspaper about the shares and BP bought
10,000 shares at the securities exchange at Sh.55 per share

An actual analysis of the seed and it was discovered that the seeds were not as productive
and only produced 5 bags per acre and could only thrive in wet land The shares of
Wakulima Company Limited dropped in value to Sh. 9 per share. Mercy Matu had held
the shares of the company from the time of inception and in her opinion; it was the
publication that had caused the drop in the value of the shares
i) Explain three types of misrepresentation.
ii) Explain five elements of misrepresentation.
iii) Advise Maureen Mwikali, Olive Omute, Mary Mpito and Mercy Matu.
QUESTION 12
(a) Paradise Company Limited is the largest producer and seller of passion fruits in
your country. These products are used in making fruit juices and fruit cakes by
both commercial takers and homemakers.
The company announced a net income of Sh.12, 233,270 for the year ended 31
December 2011 compared to Sh.6, 981, 380 for the year ended 31 December
2010. The board of directors declared an annual dividend of Sh.20 per share of
Paradise Company Limited's common stock, payable on 20 April 2012 to
shareholders on record at the close of business on 13 April 2012.

c) Describe the procedure that was followed by Paradise Company Limited in

declaring the dividend.
Outline the form of the annual return prescribed for a company which has share
capital.

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QUESTION 13
Uzuri Company Limited, was registered two years ago. The company has uncalled up
capital of sh. 1 million. The company also has two directors Steven Meta and Paul Mailu.

Recently, Steven Meta in the absence of Paul Mailu and other shareholders held a
meeting and passed resolutions to make a call. The meeting scheduled for 28 October
2011 was only attended by one member and the company secretary who was not a
member.

The member acted as chairman and the “meeting” resolved that calls be made. Paul
Mailu was sued for failure to make good the call. However upon hearing the case the
court held that the purported proceedings were invalid.
i) "Outline the rule which the court relied on to make its decision
ii) Citing relevant provisions, discuss any five expectations to the rule in (a) (i) above

QUESTION 14
a) Describe the legal principles that govern the following classes of persons in relation
to the membership of a company:-
i. A minor
ii. A bankrupt
iii. A deceased member / personal representative.
b) Outline the details contained in the register of members of a company.

QUESTION 15
Modem technology limited issued a prospectus inviting subscribers to acquire shares in
the company. The prospectus stated that “the company had made a break-through by
discovering a cure for a dreaded diseases and that the company had successfully patented
the drug.

In addition the marketing manager of the company published an article in the daily
newspapers to the effect that the company was the only one with the registered patent for
the drug. As a result the shares of the company were over- subscribed.

Alpho Mwanzo who read the prospectus was allotted 4,000 shares at Sh.50 per share. It
has now become apparent that the patent claimed by the company had been registered by
another company and was revoked. Consequently, the price of the shares dropped to Sh.5
per share.

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OmegoMwisho on the other hand, had a total of 5,000 shares before the issue. He feels
aggrieved that the information contained in the prospectus had led to the eventual decline
in the price of the shares of the company.

With reference to the facts given in the case above, explain the following to
AlphoMwanzo and OmegoMwisho
a) The persons who would be held liable for the particulars contained in a prospectus
s of a company
b) Circumstances under which persons would be exempted from liability on a false
prospectus
c) The remedies available to AlphoMwanzo and OmegoMwisho against the company
d) Circumstances under which the remedies in (c) above might be lost

QUESTION 16
(i) Highlight the ways in which a company may reduce its capital
(ii) Outline the circumstances under which a court would confirm the reduction of capital
of a company
QUESTION 17
The general rule of company law is that dividends must not be out of the money raised
through the issue of shares or through debentures. Explain exceptions to this rule. •

QUESTION 18
(a) "A company's shares can be issued at a discount, premium or par value".
Discuss this statement

(b) Explain the provisions which govern the issue of shares of a company for purposes
other than raising capital.

QUESTION 19
A public company in the mining business made an issue of its shares to the public at
Sh.10 per share.

In the prospectus, the Company stated that “the company has discovered a booming
market in the European Union member countries for its minerals."

The company had never market its' minerals in the European Union member countries.
Timothy, without reading the prospectus applied for shares and was allotted 1,000 shares
at Sh10 each.

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Mary read the prospectus applied for the shares but was not allotted any shares. Later on,
Mary bought 2,000 shares at the stock exchange at Sh.25 each.

Peter, an old shareholder in the company owned 500 shares even before the company
made the new issue. He is disappointed with the price at which the new offer for sale was
made claiming that this had destabilized the price of the company's shares.

Required:
a) Explain the legal principles applicable in the above case and advise Timothy, Peter
and Mary.
b) Timothy prepared a transfer form to transfer 100 shares only 10 his wife Rose and
presented the form to the company. The company erroneously transferred the entire
1,000 shares to Timothy's wife. Timothy is aggrieved and seeks your legal advice.
Discuss the legal principles in the case and advise Timothy.

QUESTION 20
Explain the circumstances when a prospectus is not required in an issue of shares or
debentures.

Discuss the civil and criminal liabilities relating to a prospectus.

QUESTION 21
With reference to the companies Act explain the provisions of the Act which ensure that
the majority shareholders do not conduct the affairs of the company with complete
disregard of the interest of the minority shareholders.

QUESTION 22
The share capital of a company may be altered under Section 404 of the companies Act
provided the company follows the procedures set down. '
Explain the rules and procedure governing the alteration of share capital.

QUESTION 23
a. State and briefly explain the conditions which must be fulfilled before a company
limited to shares can issue redeemable preference shares.
b. Outline the rules governing payment of dividends.
c. It is a basic principle of company law that dividends must not be paid out of funds
raised by issue of shares or debentures.

Highlight the exceptions to this principle.

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QUESTION 24
A prospectus is required to contain the matters and reports specified in Part I and II of the
Third Schedule.
Explain these matters as outlined in the Third Schedule.

QUESTION 25
Outline the provisions of the Companies Act, relating to civil and criminal liability in
respect of non-compliapce with provisions relating to a prospectus on the Company and
the directors.

QUESTION 26
a) Explain the circumstances when a dividend may become payable and enforceable
as a debt against the company.
b) Give reasons why a company may seek to control the funds from which dividends
are paid.

TOPIC 6
DEBT CAPITAL

BORROWING POWERS OF A COMPANY

Debt capital refers to the capital that is raised through borrowing.

A registered company has implied powers to borrow. The powers can also be provided
for by the company’s constitution. All companies have an implied power to borrow for
purposes incidental to their trade or business.

A public company cannot exercise borrowing powers before it receives certificate of

trading from the registrar.

However a private company can exercise borrowing powers as soon as it is registered.

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The company’s articles of association may also contain provisions on how the directors
can carry out borrowing including the internal procedures to be followed and the
maximum amount that the directors can borrow.

If any borrowing exceeds those internal procedures and requirements then it is said to be
ultra – vires borrowing and such a borrowing can be rectified by the members of the
company.
Where borrowing is beyond the overall powers of the company then it is said to be ultra –
vires borrowing .

borrowing
powers

implied expressed

intra vires
intra vires ultra vires

Types of borrowing

1. Express borrowing
Arises where the power to borrow is specifically mentioned in the company’s
constitution I.e. AOA
2. Implied borrowing

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A company has implied power to borrow if it is undertaking a commercial activity,

trade or business

Further borrowing by a company can fall into two categories.

1. Intra vires borrowing

This is when the borrowing has been authorised by the company constitution and all the
procedure in respect to such borrowing have been properly complied with.

2. Ultra vires borrowing

This occurs when borrowing transaction is totally beyond the powers of the company i.e.
it is not provided within the company’s constitution or where irregularities have occurred
under such borrowing. It is simply an abuse of powers by directors. Ultra vires borrowing
can be categorized into the following:

a) Ultra vires borrowing to both the company and directors

In this case, neither the amount nor the purpose of borrowing is authorised by the
company’s constitution. The transaction is therefore null and void and as such, the lender
cannot legally sue the company to recover the money lent. He may however seek
equitable remedies such as injunction, tracing and identification.
Such borrowing cannot be ratified (approved) by the company since it is null and void.

b) Ultra vires borrowing to directors but intra vires to the company.

In this case the amount and the purpose of borrowing is authorised by the company’s
constitution but the directors have adopted a wrong procedure in exercising the
borrowing powers e.g. failure to convene a board meeting in order to pass a resolution to
such borrowing.
This can be ratified in order to have a company assume the responsibility of borrowing
the payment of such debts towards the lenders.

Remedies for lenders against the company in case of ultra vires borrowing

If lender has acted in good faith. i.e. without the knowledge that the company borrowed
the money beyond its powers, he may have the following remedies:
1. Injunction: - if the company has not spent the money borrowed, the lender may
obtain an injunction order against the company restraining from spending the
amount and recover the same.
2. Subrogation: - if the money has been applied in paying off debts of the company,
the lender is entitled to step into the shoes of the creditors so paid off and rank as

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creditor of the company to the extent of the money so applied. If the money has
been invested in some particulars assets, he may claim the assets
3. Sue for breach of warranty:- lenders may sue the directors personally for breach
of the implied warranty of authority and claim damages for the same
4. Identification and tracing: -If the lender can identify his money where the money
is still in the hands of the company in its original form or any property purchased
with it, he can claim the money or property purchased with it.

Effects of Ultra vires Borrowing (Dec 2010 Question 3)

a) A borrowing is ultra vires if a company borrows beyond the powers as stipulated in

the memorandum of association.
b) In such case, no debt is created against the company.
c) Any security given is inoperative.
d) The contract is void and cannot be ratified
e) The lender cannot sue the company for the repayment of the loan. He can only obtain
injunction, seek subrogation, seek tracing order or sue directors for breach of
warranty.

COMPANY DEBENTURES
A debenture is the written acknowledgement of a debt by a company normally containing
provisions as to payment of interest and terms of repayment of principal.

Debenture stock
Debenture stock is a group of fully paid up debenture put together into a large mass,
generally secured by a trust deed.

Distinction between debenture and debenture stock

DEBENTURE DEBENTURE STOCK
 Group of fully paid up debenture  Unit of debt capital
 May be issued with/ without security  It is generally created by a trust deed
 They are identified by a distinct number  They do not have such distinct number
 Debenture need not fully paid  They must be fully paid.
 A debenture is transferred for a fixed  Debenture stock can be transferred to
sum fractional amounts

Distinction between shares and debentures (MAY 2019 2bii)

SHARES DEBENTURES

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A shareholder is a member of a company Debenture holder is a creditor of the company whose

whose name must be in the register of name must be on the register of debenture holder.
members.
A company cannot purchase its own A company can purchase its own debenture.
shares.
Dividends are paid to shareholders out of Interest on debenture is paid out of profits but if not
profits. available may be paid out of capital.
Shares are usually not issued at a Debentures may be issued at a discount.
discount.
Shares are not secured. Debenture are generally secured.
Shareholders repayment of capital is Debenture holders must be paid before anything is
postponed until all the debenture holders distributed to shareholders in liquidation.
are paid in full.
A share is a unit of a member’s Debentures is a unit of loan capital must be paid to
investment in a company measured in the lenders in accordance to the terms of debenture
terms of money. document.
Shares are generally irredeemable. Debentures are generally redeemable.

Similarities between shares and debentures

- A debenture is usually one of a series, which is similar to a class of share.

- Both shares and debentures are long term investments transferable in same manner.
- Both shares and debentures can be issued in the same way i.e. through prospectus.
- Sale of both shares and debentures bring money to the company.
- Both shares and debentures create a debt to a company.

TYPES OF DEBENTURES

Classification according to negotiability

1. Registered and bearer debentures

Registered debentures are registered with the company in the name of the holder.
Transfer is effected by delivering proper instrument of transfer to a company.
Bearer debentures are made payable to the bearer. They are transferable by mere
delivery and therefore are negotiable instruments.

Classification according to security

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2. Secured and unsecured debentures

Secured debenture is one that grants a mortgage or charge over a company property
therefore a holder has an advantage over other ordinary creditors. Unsecured debentures
have no charge on the assets of the company.

Classification according to permanence

3. Perpetual and redeemable debentures

Perpetual debenture is one that has no repayment date or which is expressed to be
repayable only when a company is winding up.

Redeemable debenture stipulates that repayment shall be made on or before fixed date.
Redeemable debentures may be issued unless the AOA provides to the contrary or the
company has shown an intention to cancel them by passing a resolution to that effect.

Classification according to conversion

4. Convertible and inconvertible debentures,

The holder of convertible debentures is given an option to convert the debenture into an
ordinary or preference shares at a given rate of exchange i.e. to enable holders acquire
equity capital.

Conditions for conversion

i. There must be an authority in the AOA
ii. An ordinary resolution must be passed.
iii. They are first offered to the existing debenture holders and the employees
shareholder.
Inconvertible debentures on the other hand retain their Status until they are redeemed
by company.

Classification according to priority

5. Single and series debenture

Single debenture is one issued to creditor covering one debt. Series debenture is a
debenture covering several debts.

Advantages of debentures
i. Debenture is easily traded

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ii. it’s terms are clear and specific so that a company can be certain of its true
position.
iii. Debentures secured by floating charges are popular instruments, they give the
holders a security of a charge but the assets charged can be freely traded by a
company.
iv. They offer to potential investors the security of guaranteed income.
v. They are more popular than preference shares,
vi. Their requirements are more relaxed in the company’s Act e.g. There is no
restriction by the company to buy them.

Disadvantages of debentures
i. A Company may have to offer a relatively high rate of interest in order to make the
debentures attractive.
ii. Payment of debenture interest is mandatory and not discretionary.
iii. Interest payment results in a reduction of dividends payable to shareholders and
cause a fall in share prices
iv. Debenture holders remedies include 'appointment of receivers, which may have
disastrous consequences on the company,
v. Crystallization of a floating charge means that the same security is swiftly enforced
since that security will often be of a trading assets and its enforcement can cause
major problems for the company

Characteristics of debentures

i. It is usually in the form of a certificate showing acknowledgement of indebtedness

ii. it is an instrument in writing
iii. It is under the company's seal
iv. It is one of a series issued to a number of lenders although we also have single
debentures
v. It usually specifies specific period or date when payment is to be made.
vi. It generally creates a charge on the company's asset
vii. A holder is not a member of the company and has no right to vote in the
companies' meeting

Contents of Debenture Certificate

 Name of the company

 Name of the debenture holder
 Number of debentures held
 Nominal value of debentures
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 Interest rates
 Extent to which they are paid
 Common seal of the company
 Signature of the directors

TRUST DEED

When debentures are offered for public subscriptions, the company usually enters into a
trust deed with trustees. The trustees are appointed and paid by the company to act on
behalf of the debenture holders. The charge securing the debentures is 'made in favor of
the trustees who hold it in trust.

Under the deed the company undertakes to pay to the debenture holders their principle
and interest and normally charges its property to the trustees as security.

Contents of the Trust deed

 The particulars of the parties involved

 A covenant/promise by the company to pay the debenture holders their agreed
installments and their accrued interest
 Description of the property charged to cover the debenture
 The events in which the security becomes enforceable
 Appointment of the receiver
 A clause empowering the trustees to take the position of the property charged in
the event the company defaults.
 Meetings of the debenture holders
 A covenant by the company to insure the property charged and to keep it in good
condition

Provisions of the trust deed (June 2011,Q3b)

a) Appointment and remuneration of trustees

b) Type of debentures e.g. bearer /registered etc.
c) Creation of a charge
d) Enforcement of the charge
e) Methods of enforcing a charge
f) The obligations of the company e.g. to insure the property
g) The powers of the trustees e.g. to appoint receivers

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h) Priority of debentures
i) Convening of meeting of debenture holders by trustees so as to take instruction.
j) A covenant or promise by the company to pay the debt.
k) A description of the property charged.
l) A provision empowering the trustees to take possession of the property charged in
the event the security becoming enforceable and to carry on the company’s
business and even to sell the property charged.

Advantages of trust deed (Nov 2015 Q5b (i) May 2017 Q4 (I)

i. The trustees have a legal mortgage over the company’s property. It enables the
security by way of a specific mortgage/ charge on the company's land. The
creation of a legal charge gives a legal interest to the person in favor of whom it is
drawn
ii. It facilitates protection of security on behalf of all creditors. The interest of
debenture holders are safe guarded more efficiently by a small group of trustees.
iii. The trustees are often empowered to call meeting and inform the debenture
holders of the position and receive Instructions.
iv. The trustees act quickly if there is default in terms of the debentures: e.g. appoint
receivers, sell the secured property etc.
v. Obligations can be imposed on, the company which otherwise can be
impracticable e.g. to insure and repair the premises. The trustees are in a position
to see that the company carries out these obligations.
vi. The, deed carries the circumstances with which the principal sum may become
repayable.
vii. The appointment of trustees facilitates efficient administration of the trust since
they are there and exercise continuous supervision of the debenture holder's right's
and to take prompt action if need arises (act as a watchdog)
viii. If there is to be a specific mortgage/ charge in shares in a subsidiary company,
trustees are needed in order that someone independent on the holding company
can exercise any right to vote.

Liability of trustees

A trustee is liable for any breach of trust where he fails to show the of care and diligence
required of him as trustees, having regard to the provisions of the trust deed conferring
him any powers, authorities or discretions. In particular, they cannot purchase the
debentures without, the consent of all debenture holders,

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Any provision in a trust deed or in a contract with the holders of debentures secured by a
trust deed exempting a trustee from, or indemnifying him against, liability for breach of
trust where he fails to show the degree of care and diligence required of him as trustee
shall be void (companies Act 2015)

Exception to above rule

A trustee will not be liable in the following cases;

a) Where the trustee can show that he took such care and diligence as is required of
him as trustee having regard to the powers, authorities and discretion conferred on
him by the trust deed.
b) Where a majority than 3/4 in value of the debenture holders present and voting in
person, or where proxies are permitted at a meeting summoned for the purpose,
agree and voting relates to specific acts or omissions or to a trustee who is dead or
has ceased to act.
c) If such a person being a director or other officer of the company in the opinion of
the court has acted honestly and reasonably, he can be relieved from liability in
respect of negligence, default, breach of duty or trust.

Register of debenture holders.

Companies Act provide that, every company which issues a series of debenture is
required to keep at its registered office a register of holders of such debentures.
If the work of making up the register is done at some other office of the company or of
another person, it may be kept at that office.
A company shall register an allotment of debenture as soon as is practicable and in any
event within 2 months after the date of allotment.
The Registrar shall be notified of such place and of any change thereof.

Particulars of the register of debenture holders/ charges (DEC 2014, Q7C)

a) The name, address, occupation of each debenture holders

b) The debenture held by each holder distinguishing each debenture by its number
c) The amount paid or agreed, to be paid on the debenture
d) The date at which each person was entered in the register as a debenture holder
e) The date at which any person ceased to be a debenture holder.

Every company to keep at its registered office a register of charges with the following
particulars
a) A short description of the property charged

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b) The amount of charge

COMPANY CHARGES

A charge is an encumbrance upon real or personal property granting the holder certain
rights over that property.
A charge secured over a company's assets gives to the creditor (called the chargee) a prior
claim (over other creditors) to payment of their debt out of those assets.
It is a right to the lender to sell the property charged or otherwise the case may be,

Types of charges

a. Legal charge
A legal charge or mortgage is created, when the assets charged are transferred by the
company to the lender subject to the company's equitable right of redemption.

b. Equitable Charge
An equitable charge or mortgage is created when the company deposits a document of
title to the property to the lender to hold it until the mortgage debt is redeemed. Here, the
lender does not acquire any title to the property.

c. Fixed Charge
Is a charge mortgaged on a specific property such as a plant and machinery, land and
buildings or uncalled capital.A fixed charge passes legal title to certain specific assets and
the company loses the right to dispose the said property.

Advantages of a fixed charge

- It is a mortgage of specific property e.g. value of the security is known
- It prevents the company from disposing off the property secured by the charge
without the consent of the holders of the charge.
- The lender has absolute priority.
- The holder of fixed charge has a valid security and has powers over other
debentures either to appoint a receiver or sell the security property.
- The chargee is in a position to control usage of security. This enables him prevent
its wastage.

d. Floating charge

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This is an equitable charge securing a debenture on the assets of a going concern. The
company gives to the charge rights over its assets while retaining freedom to deal with
them in the ordinary course of business until it crystallizes.

Characteristics of a floating charge

- It is an equitable charge
- Does not fasten on any definite asset until the date of crystallization
- During the currency of the loan, the content of the security is always changing as
the company is free to dispose off the assets within the charge and acquire new
assets that will become the subject matter of the charge.
- The process is usually continuous unless and until the charge crystallizes i.e.
becomes attached to the assets of the class charged at the moment of
crystallization or which comes into existence thereafter.
NOTE:
While a floating charge is floating, 'it is a dormant security because the charge does not
attach or fix at the time its creation upon any particular asset.

Advantages of floating charges

1. All classes of assets can be used.

2. The company has an implied license to deal freely with the assets charged until
crystallization
3. The class of assets charged will be used in the ordinary cause of business and will
be changing from time to time
4. The debenture holder has sufficient security in form of assets i.e. if the company
default, he has power to appoint a receiver or sell the security proposed.
5. The debenture holder has guaranteed income i.e. interest on debentures payable
from undistributed profits and if not from capital.
6. It enables companies without fixed assets to borrow because it is only created on
current assets.
7. It enhances the company's borrowing powers.
8. It enables the company charge property, which would otherwise not be charged
since such a property, cannot be a subject of a fixed charge.

Disadvantages of floating charge

1. The content of the security fluctuates and therefore the value is uncertain until it
crystallizes
2. The company has the freedom to deal with its assets before the charge crystallizes.
3. The rights of the holders are postponed to other interest

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4. The charge may be avoided if it is not registered within 42 days from the date of
its creation.
5. If created within 6 months before the commencement of winding up, it is deemed
to be a fraudulent preference and it is void.
6. It is subordinate to a fixed charge.
7. A floating charge will not crystallize on certain grounds
8. The charge is avoided during liquidation unless it is proved that the company was
solvent at the time the charge was created.

Crystallization of floating charge (Sept 2015,Q5A, MAY 2017,Q4A ii)

A floating charge is said to crystallize when it becomes fixed or fastened on the assets
charged. A floating charge will crystallize on the following grounds:-

1. On the liquidation or the winding up of the company.

2. If a receiver is appointed to take over the company’s assets.
3. If execution of a court decree against the company’s assets is issued.
4. If another floating charge crystallizes within the company’s structure which
causes the company to cease carrying on business.
5. When there is a default in paying the principle and interest.
6. When certain events set out in the trust deed occur e.g. when the property is in
danger.

Priority of charges (NOV 2016,Q4B)

Sometimes a combination of legal and equitable charges or fixed and floating charges
are created in the same assets. It is necessary on such cases to ascertain how these
charges would rank in the event of company’s liquidation. The following rules apply in
ranking of charges:-

1. Where a series of fixed charges are created on the same assets, they shall rank on
the basis of the date of creation unless there is an express agreement among the
lenders that 'they shall rank "parripassu" i.e. they rank irrespective of their dates of
creation.
2. Where a series of fixed charges and floating charges are created on the same
assets, the fixed charges shall have priority to all floating charges Irrespective of
the dates of creation. However, an earlier floating charge shall take priority to a
later fixed charge if:

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(a) The floating charge contains a "negative pledge clause" which prohibits the
company from later on creating a fixed charge with priority over it
(b) The holder of the subsequent fixed charge actually knew of the prohibition.
3. If two floating charges are created over the general assets of the company, they
rank in order of creation since the equities are equal and first in time must prevails.
4. If a company creates a floating charge over a particular kind of assets e.g. book
debts, the charge shall rank before an existing floating charge over the general
assets.
5. A registered charge takes takes priority over unregistered charge.

The following have priority over a floating charge:

a) A later fixed charge

b) An execution creditor i.e. one who completes execution before crystallization.
c) A landlord’s distress for rent levy before crystallization of floating charge.
d) Any right of lien arising before crystallization.
e) A creditor who obtains from the court “a garnishee order” attaching any goods/
money which a third party or which belongs to the creditor so that it can be used
pay off the creditor.
f) A supplier of goods to the company who has included a retention clause in their
invoice.
g) Negative pledge clause- A creditor to whom a faulty charge is given may seek to
protect himself against losing his priority by including in the terms of a floating
charge a “negative pledge clause” which prevents the company against creating a
subsequent fixed charge over the same property which otherwise take priority.
h) Rates, taxes and wages.

Avoidance of charges

A fixed charge/ floating charge is void and the holder treated as unsecured creditors if
(i) The charge is not registered within 42 days from the date of its creation.
(ii) If the creation of the charge was a fraudulent preference

REGISTRATION OF CHARGES

The law provides that every company must keep a copy of every instrument creating a
charge required to be registered at the registered office of the company. These copies and
register of charges must be open for inspection by any creditors or member of the
company during business hours. Companies Act provides that the prescribed particulars

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of the following charges created by the company together with the instruments creating
them must be delivered to the Registrar within 30 days after creation.

Charges to be registered (MAY 2016, Q 6A)

1. Charges securing an issue of debentures

2. Charges on uncalled share capital
3. A charge requiring registration under the Chattels Transfer Act e.g. letter of
hypothecation.
4. A charge on any land or interaction on land
5. A charge of book debts of the company
6. A charge on calls made but not paid
7. A floating charge on the undertaking / property of the company
8. A charge on a ship or any share in a ship
9. A charge on goodwill, licenses, patents, trademarks or copyright
Particulars to be registered

1. Total amount secured by the charge

2. The date of the resolution authorizing the issue of the series and the date of
recovery of the deed.
3. A general description of the identity of the charge
4. The names, postal addresses and description of the trustees
5. The amount or the rate of commission, allowance or discount
6. Particulars of the company

The purpose of registering the aforesaid particulars is to enable the would be creditors to
know the company existing indebtedness and tine assets available for their settlement.
Certificate of registration of charges is issued upon registration of charges.

Effects of non-registration (NOV 2017, Q7A)

Failure to register a registrable charge within the prescribed period shall attract the
following consequences: -
i. The sums lent shall become payable immediately i.e. the lender can demand the
balance of the loan immediately even if the borrower is complying with other terms
of the agreement e.g. paying instalments on due dates.
ii. The charge shall be void as against a subsequent lender/ the liquidator i.e. the charge
shall be unsecured creditor and if the company were to charge the same property to
subsequent lender shall have a supreme claim to that asset.

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iii. Similarly, if the company goes into liquidator, the liquidation shall have a superior
claim over the creditor whose charge was not registered.

REDEMPTION OF DEBENTURES

Redemption of Debenture
Discharging or extinguishing the liability on account of debenture and in reference with
the terms of redemption states in the debenture trust deed is called redemption of
debentures. A company has to keep in mind the following three aspects regarding
redemption that it:-

(i) The time of redemption.

(ii) The amount to be paid.
(iii) The source from which redemption will have to be carried out.

Remedies to debenture holders:-

(i) When the debentures are not secured by any mortgage or charge:- the remedies
available to the holder when the debentures are not secured by any mortgage or
charge are either:-
1. To sue the company for the recovery of the money secured by the debenture and
execute the decree against the company’s property; or
2. To present a petition for the winding up of the company on the ground of the
company inability to pay its debts. If winding up is already in progress, than the
holder has to prove in which winding up the amount due to him like any other
unsecured creditors.

(ii) Where the debentures are secured by a mortgage or charge: When the
debentures are secured by a mortgage or charge the holder who wants to realize his
security and recover the money due to him may apply to all or any of the following
remedies:-

1. If the condition of issue permits a receiver may be appointed.

2. He may sue on his own behalf and on behalf of other debenture holders of the
same class to obtain payment or enforce his security by sale.
3. An application for the winding up may be presented in the capacity of creditor for
the principal and interest thereon.
4. The property can be sold by the trustee, if the debenture trust deed permits the
sale.

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5. An application can be made to the court for the closure of the company’s right to
redeem the debentures. But in such an action all debenture holders of the company
in contradiction to those of a class as well as the company should be joined as
parties.
6. After the date of the liquidation of the company the debenture holder will not be
entitled for payment of interest, only the value of security will be raised, and debt
for the balance is proved. He is not entitled to recover the interest out of his
security when arriving at a balance for which he can prove in the winding up.

RIGHTS OF DEBENTURE HOLDERS

Rights and remedies of unsecured debenture holder:-

1. They can file a suit against the company for the principal as well as for the
interest.
2. They can file an application to the court regarding compulsory dissolution of the
company.
3. If the company is under the process of winding up, they can claim their principal.

Rights and remedies of secured debenture holder:-

1. They can file a suit against the company for the principal as well as for the
interest.
2. They can file an application to the court regarding compulsory dissolution of the
company.
3. If the company is under the process of winding up, the can claim their principal.
4. These debenture holders can file a suit against the companies for its compulsory
dissolution through the debenture trustee.
5. They can file a suit against the company for the sale of property.
6. It can get injunction from the court to restrict the right of the company to sell its
property for redemption of the debenture.
7. If the trustee is so authorized, the debenture holder may appoint liquidator,
through the trustee and get the charge sold for the purpose of repayment.
8. If the charged assets are unable to make the full payment, it can file a suit against
the company for the balance payment.

REMEDIES/RIGHTS TO DEBENTURE HOLDERS IN THE EVENT OF

DEFAULT BY THE COMPANY (JUNE 2011,Q3B MAY 2017, Q7A)

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In the event of company's default either in the repayment of interest or principal sum, the
debenture holders as creditors may exercise the following:-
i. Appoint a receiver to carry on the business of the company
ii. Petition the High court for compulsory wilding up on the ground of inability to
pay debts.
iii. Sue the company for arrears of interest, principal sum or both
iv. Apply for an order of closure. i.e. the effect of an order for closure is to extinguish
the company's equitable right of redemption and vest the property to the creditors
absolutely.

REVISION EXERCISE

QUESTION 1
Discuss three events when a floating charge might crystallize.

QUESTION 2
Summarize four particulars of the register of charges.

QUESTION 3
Shares may be disposed of as a security for a loan. Such a transaction is referred to as
mortgage of shares and may be legal or equitable.

With reference to the above statement distinguish between a legal and an equitable
mortgage.

QUESTION 4
According to the decision of Romer L.J in.Re: Yorkshire Woolcombers Association
Limited one of the characteristics of a floating change |s “it hovers over all the assets of a
company until some event occurs which causes the charge to crystallize”.

In reference to the above statement, explain the events that cause the crystallization of a
bearing charge.

QUESTION 5 '
(b) Debentures may be collaterally secured by a trust deed.
Explain the main clauses in a debenture trust deed.

(c) Mashariki bank Limited has a standard debenture form, duly registered and thereby
giving the bank a fixed charge of Mashaka Limited ‘s factory and machinery and a

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floating charge over other assets and whole undertaking Mashaka limited has
defaulted in the payment of the principal sum and interest The directors of Mashariki
Park Limited seek your advice on the remedies available to the bank as a debenture
holder.

Advise the directors

QUESTION 6
d) Explain the meaning of the term ‘floating charge’ as used in company law.
e) Discuss the factors that distinguish a debenture from a share.
f) Every trading company is deemed to have borrowing powers. However, the law
imposes some restrictions on these powers.
With reference to the above statement explain
i) The restrictions on borrowing by a company
ii) The legal effect of ultra vires borrowing

QUESTION 7
Sahara Company limited created a fixed charge over its premises in favour of Omega
Bank Limited. The registrar of companies issued a certificate stating that the charge had
been registered.

When the particulars of registration had been sent to the Registrar, the date of creation of
the charge was stated as being 30 December 2007, although in fact it had been created on
1 May 2007. The entry of charges in the registrar was made on 1 February 2008. The
certificate states that the charge was registered as covering and advance of sh. 15 million
to the company Sahara Company Limited though in fact the charge extended to other
sums owned to Omega Bank Limited by the company in respect of goods supplied.

Explain the legal principles applicable in the case and advice Sahara Company limited

QUESTION 8
In relation to floating charges;
a) The characteristics of a floating charge.
b) The events which would lead to crystallization of a floating charge.
c) The legal effect of crystallization.

QUESTION 9
(a) Section 878 of the companies Act requires the prescribed particulars of specified
charges on a company's property or undertaking to be delivered to the Registrar for
registration.

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i. List and briefly describe the specified charges as provided for by the Act
ii. Outline the prescribed particulars of registered charges.

(b) Central Park Company Limited submitted an application for an overdraft facility from
Unity Bank Limited in July 2007. The overdraft was secured against a title deed of
some of the company's property. Thereafter, a memorandum of charge on the security
was executed but was not dated and neither was the charge registered with the
registrar.

The overdraft facility was approved by the bank. In the course of reviewing the
securities held by the bank, the credit manager, on 10 January 2008, discovered that,
the charge was undated. He subsequently filled in the date as 10 January 2008 and a
submitted the memorandum to the registrar. The memorandum was thereafter
registered on 31 January 2008 and a certificate of registration was duly issued to the
bank.

The company has gone into liquidation

Discuss the Validity of charge the effect of non - registration within the stipulated
period.

QUESTION 10
(a) Explain the similarities and differences between shares and debentures.
(b) Wheels Limited issued a debenture to East Bank years ago. The debenture was in the
standard bank form described as a fixed and floating charge over all the assets of the
company. However, due to inadvertence, the charge was not dated nor registered
within time. The company is now in liquidation and the loan is in arrears. The bank
seeks your legal advice as to whether it can rely on the charge to prove its claim in
the winding up proceedings of the company.

Advise the bank.

QUESTION 11
(a) (i) A basic fundamental rule of company law is that a company may not purchase its
own shares. Explain the exceptions to this rule.
(ii) Explain the advantages of a company purchasing its own shares.
(a) Outline the circumstances under which, a company may give financial assistance for
purchase of, or subscription for its shares.
QUESTION 12
Explain the various types of securities that must be registered under the Companies Act,
Section 878, as registerable charges.

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QUESTION 13
The Board of Borrowers Company Ltd. has applied for a loan from Uchumi Commercial
Bank. The Bank has advised that any loan will be conditional upon the bank being
granted security in the form of a combination of fixed and floating charges on the
company’s assets. The bank has also advised Borrowers Company Ltd. that the charges
will be contained in the bank’s standard form debenture document. This contains a
“negative pledge clause” and a term which enables the bank to place the company in
administrative receivership in the event of default by the company.
(a)
i. In numbered paragraphs distinguish between a fixed and a floating charge.
ii. What are the disadvantages of a floating charge to the bank?
(a) Explain the meaning of a “negative pledge” clause. ,
(b) Explain how administrative receivership differs from liquidation.

QUESTION 14
Distinguish between the following classifications and debentures:
(a) Bearer debentures and registered debentures.
(b) Redeemable debentures and irredeemable debentures.
(c) Debentures and debenture stock
(d) Unsecured debentures and secured debentures

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TOPIC 7
COMPANY MEETING

A meeting may be defined as a concurrence or coming together of at least a quorum of

members to transact either the ordinary or special business of the company.

RULE OF SHARP vs. DAWES

A meeting was defined as an assembly of people for a lawful purpose or the coming
together of at least two persons for a lawful purpose.

Exceptions to the RULE OF SHARP vs. DAWES

(MAY 2015Q1A, MAY 2017 Q2A)

Exceptions to the rule of Sharp vs. Dawes are those circumstances in which one person
may constitute a meeting. They include:

1. A meeting convened by the order of the registrar.

In this case, he has statutory powers to direct that a meeting may be held and that one
member present in person or by proxy shall constitute a meeting.

2. General meeting summoned pursuant to a court order.

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In this case, the court may order the holding of a meeting may be held and that one
member present shall be quorum. This actually happens when it seems impracticable
to hold a meeting where some members deliberately absent themselves so as to defeat
quorum.

3. Class meeting
One person may constitute a particular class of shareholders if the person holds all
shares of that class. Any meeting held by him in respect to the shares he solely holds
is a valid meeting.

4. Adjourned meeting.
This is continuation of an earlier meeting. If a meeting summoned by the directors has
no quorum present within 30 minutes of the appointed time, it stands adjourned to the
following week on the same day, time and place unless the directors otherwise
resolve. The adjourned meeting is duly constituted by one members present in
person or by proxy.
5. Creditors meeting
In a creditors winding up meeting where a company has only one creditor, one person
constitute a valid meeting and the resolutions thereafter are valid.

6. In a board meeting of a private Company that has a sole director.

IMPORTANCE OF COMPANY MEETINGS (June 2012, Q1C)

The meetings of the companies involving the shareholders are called general meetings
and are usually held for the following reasons

1. To comply with statutory provisions which require certain general meeting to be

held in order to transact a specified business. Such meeting includes the statutory
meeting, AGM and class meeting.
2. To transact business that may only be transacted ata general meeting of the
members such as reduction of share capital.
3. To enable directors and members to exchange views on the running of
companies affairs or resolve some existing disputes.
4. To transact some business which may only be transacted at a meeting of a
class of the companies members, such as variation of a right attached to a class
of charges.

TYPES/CLASSIFICATION OF MEETINGS

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1. Statutory meetings (under the previous companies Act)

2. Annual general meetings
3. Extra ordinary general meetings ( general meetings at other times)
4. Class meetings.
5. Directors meetings.

1. STATUTORY MEETING

 This is the first meeting of the shareholders of a public limited company with a
share capital.
 Companies Act 2015 provides that an existing company which came into
existence before 2015(under the Repealed companies Act 1948) and has not held
statutory meeting has to meet the requirements of the repealed Act in the stated
sections. However for companies registered under the 2015 Act, there is no
requirement that this meeting be held.
 The meeting is held once in the lifetime of a company. The object of the meeting
is to accord shareholders an early opportunity of obtaining material information as
to the circumstances of the company’s promotion and its immediate prospects.
 The members have a statutory right to discuss any matter relating to the formation
of the Company or arising out of a statutory report whether previous notice has
been given or not.
 Statutory meeting discuss statutory report
 Private companies are not required to hold statutory meetings

Statutory report

The directors are required to send a statutory report to every member of the company at
least 14 days before the date of the meeting. The report must be certified by at least two
directors of the company.

Contents of the statutory report

- Total share allotted.

- Total cash received in respect of the shares.
- An abstract of reports and payments made up to a date seven days before the date
of the report and matters to which the receipt and payment relate.
- The names, address and occupation of directors, auditors and the secretary of the
company.

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- The particulars of any contract, the modification of which is to be submitted to the

meeting for approval together with particulars of any modifications or proper
modifications.

In the event of default in convening a statutory meeting, every director of the company
knowingly and willfully guilty of the default is liable a fine up to Sh 1,000.
Similarly, default in delivering the statutory report and holding the statutory meeting is
one of the grounds for winding up order against the company although in. practice, the
court may direct the report to be delivered or the meeting to be held and the costs
incurred to be paid by persons in default.

2. ANNUAL GENERAL MEETING (AGM)

 Every public company is required to hold Annual General Meeting every year.
 Private companies are not required to have an AGM each year and therefore their
business is usually conducted through written resolution.
 Failure for a public company to hold AGM is a criminal offence punishable by a
maximum fine of KES 1,000,000/=
 Any member may apply to the registrar to call or direct the calling of AGM.

Requirements of notice of AGM

 Notice of AGM is 21 days in writing, in case of other general meeting at least 14

days’ notice to members
 An AGM may be convened by shorter notice than 21 days required companies
Articles allow and if all the members entitled to attend and vote at the meeting
agree to the shorter notice.

Ordinary business of AGM (NOV 2016, Q5B)

1. Consideration of accounts and reports of an auditor

2. Declaration of a dividend
3. Appointment or re-appointment of auditors and the fixing of their
remuneration.
4. Election or re-election of directors

3. EXTRA ORDINARY GENERAL MEETING

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- This is a general meeting which a company may hold at any time when need
arises. It generally considers special business and may be summoned by directors,
requisitionists, or pursuant to a court order.
- Requisionists convene EOGM if directors fail to convene the meeting within 21
days upon request by requisionists.
- When making a requisition, requisitionists must state the purpose of the meeting
- All requisitionists must sign the requisition.
- All business transacted at this meeting is called special business.

4. CLASS MEETING

These are meetings of a particular class of shareholders. They are convened by either the
company or by the court to effect variation in the rights of .a particular class of
shareholders or in connection with a scheme of arrangement or at the time of winding

5. DIRECTORS MEETING

 This is a meeting of members of the board and may be held at any time when need
arises
 The meeting may be summoned by a director or the company or the company
secretary if instructed by a director.
 Quorum for such meeting is fixed by the directors failing which is two for public
companies and one for private companies.
 The meeting must have a chairman within 5 minutes of the appointed time

Business transacted at board meeting

a) Borrowing,
b) Recommending dividends
c) Payment of interim dividends
d) Appointment of the managing director
e) Appointment of company secretary

REQUISITES (ESSENTIALS) OF A VALID MEETING

In order to transact legally binding business, the meeting must be validly held.
Theessentials of a valid meeting include:

1. Proper convening authority

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2. Proper notice
3. Requisite quorum
4. Proper person to be the chair
5. Maintenance of minutes

PROPER AUTHORITY

The following are proper authority in convening respective meetings:(DEC 2014, Q2A)

1. Board-Convene AGM as well as board meeting

2. Registrar-Can convene AGM if a public company fails to hold one
3. Court-On application by minority members
4. Liquidator-Winding up meetings
5. Requisitionists -In the event directors fail to convene an extra ordinary general
meeting, requisitionists can proceed and convene the meeting.

PROPER NOTICE (MAY 2016, Q7C)

 AGM at least 21 days' notice to members

 any other general meeting at least 14 days' notice to members
 The notice must be given to all members entitled to attend the meeting
 A shorter notice may suffice if all members entitled to attend a meeting agree;

Contents of notice (NOV 2015, Q4A)

i. The time and date of the meeting,

ii. The type of the meeting;
iii. The place of the meeting
iv. The general nature of the business to be dealt with at the meeting

Entitlement to Notice of meeting (Who are entitled to notice of meeting?)

1. Director
2. Shareholders
3. Auditor
4. Personal representative
5. Trustee in bankruptcy

Service of Notice

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1. Through registered post

2. Can be served personally to members
3. Through print media in case of AGM of public company
4. Through electronic means e.g. website or email supplied by a member
5. Serving notice on the personal representative of a deceased member
6. Serving notice on the trustee in bankruptcy of a bankrupt member

REQUISITE QUORUM

A quorum is the scientific number of qualified persons (members) whose presence is

necessary for transacting legally binding business at the meeting. The following rules
relate to a quorum:

 It is the duty of the chairman of the meeting to determine whether a quorum is

present by the time the meeting proceeds to business.
 The quorum must be effective, i,e only persons who are entitled to participate are
counted.
 A meeting with no quorum is a legal nullity (null and void) and so are its purported
proceedings.
 If within half an hour from the time appointed for meeting, a quorum is not present,
it shall be adjourned to the same day in the next week, at the same time and place,
or such other time and place as the directors may determine.
 An adjourned meeting is a continuation of an earlier meeting
 A meeting adjourned for lack of quorum is duly constituted by one member present
in person or in proxy.
 A meeting adjourned for more than 30 days requires a new notice

PROPER PERSON TO BE THE CHAIR

 There must be a chairman to preside over the proceedings of the meeting.

 The chairman of a general meeting is responsible for conducting the business of
the meeting.
 Members present at a general meeting may by ordinary resolution elect one of the
members to preside at the meeting.

Duties and functions of the chairman

1. To maintain order in the conduct of those present at the meeting.

2. He must inform himself of the business of the meeting

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3. He must satisfy himself that the meeting is duly constitute

4. He must satisfy himself that a quorum of members is present at the time the
meeting proceeds to business.
5. Frame issues for discussions by the meeting
6. Determine whether proposed amendments are in order
7. Confine discussions within the issue and reasonable limits of time
8. Ensure that the sense of the meeting is kept by asking relevant questions
9. Ensure that minutes of the meeting are kept.
10. Conduct voting by show of hands, or poll
11. Sign the minutes of the meeting or previous meeting.

Powers of the chairman

- To call the meeting to order.

- To determine who speaks and for how long.
- To use a second or casting vote in the event of a ties.
- He has power to order the removal of any person who has no right to be present.
- To adjourn the meeting in the event of disorder or inadequate space.
- To close the meeting at the appropriate time.
- To declare the outcome of the voting by show of hands or by poll.

The chairman may adjourn the meeting in the following circumstances.

 When at the appointed time, the meeting there was no quorum.

 When he moves a motion of adjournment before the meeting and the meeting
approves it
 When it is impracticable to conduct the business of the meeting due to animosity
between members or inadequacy of space.

MAINTENANCE OF MINUTES

Minutes refer to a concise and accurate official record of the business transacted at
company meetings. They only include resolution actually passed. The minutes signed by
the chairman of the meeting at which the proceedings took place or by the next chairman
in the succeeding meeting, are evidence of its proceedings and are presumed correct.

Every company shall keep the following;

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 Copies of all resolution of members passed otherwise than at general meeting.

 Minutes of all proceedings of general meetings
 Details provided to the company where decisions are taken by a company that has a
sole director.

Contents of minutes

- The nature of the meeting.

- The date, time and. place of the meeting,
- The names of, the chairman and secretary
- Names of the members present at the meeting with a view of indicating the
presence of quorum,
- All resolutions passed at the meeting.
- Vote of thanks
- The chairman's signature with a date in its own hands

Inspection of the minute book of a general meeting

 Section 320 requires companies to keep it records available for inspection at its
registered office and open for inspection by members without charge for at least
two hours every business day, subject to restriction imposed by the Articles or the
general meeting.
 A member who applies for the copies of any minute is entitled to be furnished
with the same within 14 days of the application.
 It is a criminal offence for the company to deny any member the right to inspect
the minute book or furnish copies thereof.
 The company and every officer in default are liable to default fine. The high court
has jurisdiction to compel the company to;

a) Furnish copies of minute as requested,

b) Facilitate immediate inspection of the minute book.

Rules when drafting minutes (NOV 2016,Q5B)

1. They only include resolutions actively passed

2. They are drafted in past tense
3. They must be signed by the chairman
4. They must be concise and brief

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VOTING

It means an expression of the wish or opinion of the members.

Methods of voting

1. Show of hands
2. By poll

Show of hands -Each member present in person has one vote and each proxy present
who has been duly appointed by a member entitled to vote on the resolution has one vote.
It is the duty of the chairman to count the hands and decide the outcome.

By poll -This is an equivalent of ballot voting where members vote with their shares.
each shares carries one vote Therefore the number of votes that a member is entitled will
depend on their shareholding. In most cases one share will be equivalent to one vote or
any other way that may be provided for by the articles.

Voting by poll can be demanded by

 The chairman
 At least two members present
 Holders of not less than 5% of the voting rights.

Documents required when casting vote by poll

1. Polling papers
2. Register of members
3. Attendance register
4. Proxy register
5. Specimen signature of members
6. Proxy forms received
7. Board resolutions

Persons entitled to vote at general meeting.

1. Persons whose names appear on the register are prima facie members and are
entitled to vote,

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2. The vote of a corporation which is a member is given by its authorized

representatives.
3. A person of unsound mind votes through the manager appointed under the mental
Health Act
4. A bankrupt member whose name remains the register may vote.
5. Joint holders of a share determine who among them is to vote failing which the
member whose name appears first on the register votes
6. Proxy

PROXIES

A Proxy is a person who is appointed by the member to attend general meetings on his
behalf if the member will not be attending .In public companies the regulations requires
that the notice that is convening

A general meeting must indicate that every member has a right to appoint a proxy to
attend general meeting on his behalf if he will not be attending. A member therefore will
complete a proxy notice which should contain the following details

 Details of the member appointing the proxy

 The identity of the proxy
 The signature of the member

There are two types of proxies; (June 2012,Q7A)

1. General proxy; This is a proxy empowered to vote as he wishes having regard to the
discussion at the meeting
2. Special proxy; This is a proxy appointed to vote either for or against a particular
resolution before the meeting. He votes as instructed by the appointing authority.

Rights of a proxy

a) The right to attend the meetings

b) Right to join other proxies or member to demand voting by poll
c) Right to vote by poll
d) Right to speak in the case of private company meetings

Revocation of authority of a proxy

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Authority of a proxy can be revoked on the following grounds:

1. When the proxy form is not presented within 48 hours before the meeting
2. When the member personally attends the meeting
3. When the appointing authority revokes the proxy form
4. When the appointing authority dies or becomes bankrupt before the meeting

RESOLUTIONS

Decisions of the company are made by resolutions of its members passed at meetings of
the members.

Kinds of resolutions
i. Ordinary resolutions
ii. Special resolutions
iii. Resolutions requiring special notice
iv. Written resolutions

1. Ordinary resolution

 It is a resolution in meeting of a company passed by a simple majority of

members i.e. Votes cast for exceeding votes cast against it.
 The required notice is 21 days.
 They are not registrable

Ordinary resolution is necessary for the following matters:

a) To increase the share capital

b) To appoint an auditor.
c) To elect a director
d) To approve accounts
e) To declare dividend

Special resolution (Dec 2010 Qn 5a(i))

 It requires a qualified majority of 3/4 to pass.
 The resolution to be passed should be set out in the notice convening the meeting.
 Not less than 21 days/ notice is required,

A special resolution is needed for the following matters: (Dec 2010 Q 5a(ii)

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- To alter the objects of the company.

- To alter the articles of association.
- To change the name of the company
- To change the registered office of the company.
- Reduction of share capital.
- To issue shares at a discount
- To petition for investigations into the affairs of the company.
- To institute a member's voluntary winding up of the company

Resolution requiring special notice

 For certain matters, the Act requires that a special notice of an ordinary resolution
must be given.
 Notice of the intention to move it must be given to the company not less than 28
days.

The Act requires special notice for the following resolution: (June 2009 Q3)

- To appoint or re-appoint a director who is over the age limit of 70 years.

- To remove a director before his period of office has expired
- To remove an auditor before his period of office has expired.
- To prevent a retiring auditor from being re-appointed.
- To appoint another director in place of the removed director.

Written resolution

 A resolution of the members or, of a class of members of a private company may

be passed either as a written resolution or at a meeting of the members.
 The following may not be passed as a written resolution.
a) A resolution removing a director from office before the end of the director's period of
office;
b) A resolution removing an auditor before the end of the auditor's term of office,
 Either the directors or members of a private company, may propose resolution, as a
written resolution.
 A written resolution has effect as if passed by the company or by a meeting of a class
of members of the company.
 A written resolution may be passed with the simple majority (ordinary resolution) or
a majority of not less than 75% (special resolutions).

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Registration of resolutions
 It is provided that a certified copy under the signature of an office of the company
of the following resolutions and agreements must be registered with the registrar,
within 30 days of passing the resolutions.
 Failure to register a registrable resolution renders the company and every officer
in default liable to a default fine.

Registrable resolutions include:

a) All special resolutions
b) Resolution which have been agreed upon by all members of the company but
which in the absence of such agreements will have to be passed as special
resolutions.
c) Resolutions or agreements which have been approved by all members of a class of
shareholders.
d) All resolutions or agreements which bind all the members of a class of
shareholders though not approved by all these members.
e) Resolutions requiring a company to be voluntarily wound up.

MINORITY SHAREHOLDERS

In Kenya, the Companies Act does not at any point define who may qualify as a minority
and majority shareholder. However, the Black’s Law Dictionary defines a majority
shareholder as an individual who has more than a half of the company shares. A minority
shareholder may be defined as an Individual owning less than half of the total company
shares and as such cannot be in a position to control the corporation.

RIGHTS OF MINORITY SHAREHOLDERS

The Companies Act is the principal legislation that provides for the rights of
shareholders, however, the same may be modified to suit the preference of members of a
company through Articles of Association. The rights include but are not limited to the;

1. Right to information: A shareholder has a right to be kept abreast with regards to

all information relating to the company either orally or in soft and hard copy. The
extent of the information is seen to include the accessing of annual financial
reports. In the event that the directors need to convey a general meeting, they are
required under Section 289 of the Act to inform the members through a notice
briefly highlighting what matters will be dealt with in the meeting. They also have
a right to access the financial records of the company. The same was reaffirmed by
the court in the Guthrie v Harkness case by stating that shareholders should be
allowed to inspect the financial records of the company as stipulated in the

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regulations. Also, Section 550 of the Act provides that members have a right to
inspect copies of reports during the official working hours of the company free of
charge.
2. Right to require the directors to convene general meetings: Section 277 of the
Companies Act provides, that shareholders have a right to intimate to the directors
that a general meeting ought to be convened. Subsection of the aforementioned
provision requires that the request ought to have been put forth by members who
make up the required percentage of a company’s paid up capital. In essence they
have the right to personally attend the said meetings or through the use of proxies.
At such meetings, the shareholders have a right to pose questions to the board of
directors and have them answered. This is particularly helpful in promoting
financial accountability as the court in the Agricultural Development Corporation
of Kenya v Nathaniel Tum & another case stated that such meetings provide
shareholders with an opportunity to query the company’s financial matters.
Additionally, the participation of the shareholders is also extended to the right to
demand a poll at the general meeting.
3. Shareholders have a right to appoint proxies: In this regard, the Act has gone to
an extent of allowing shareholders of a certain company to appoint proxies who
may represent them at any meeting called by the company. Additionally, sub-
section 2 of the above provision states that a member is given an opportunity to
appoint different proxies in relation to the exercise of different shares held by
them.
4. The Right to have their Name and Shareholding entered into the Register of
Members: Any person who may want to be a member of a company, can only do
so by having subscribed to the companies’ article of association and the
memorandum of association. A company is required to have a register which
contains the contact details of the members which include but not limited to; their
names, contact addresses and the date they become members. The register ought to
be kept at the company’s registered offices or if kept in other branches of the
company, it ought to keep a copy of the said register. If at any one time, the
company fails to keep such a register, the Act provides that it will be held liable as
it has committed an offence and is to be fined not more than Kenya Shilling Five
Hundred Thousand. Also, the members of a company have a right to inspect the
details imputed at the said register free of charge and keep a copy of the same.
5. Right to Receive Dividend: Minority shareholders are entitled to dividends which
may be simply described as profit shares paid out by the company to its
shareholders. This often declared by the company’s directors at the end of every
financial year. In the payment of dividends, the company makes its first payment
to preferential shareholders and subsequently to the ordinary shareholders.

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6. The Right to Vote: Minority shareholders have a right to vote when called upon
to do so by the company. The court in the North-West Transport Co. Ltd v
Beatty[15] affirmed this by reiterating that all shareholders have a right to vote as
they are legally competent to do so. Despite this entitlement more often than not,
the minority shareholders often get their opinions swept under the rag. In such
instances, especially when the majority shareholders have carried the day, the
minority shareholders ought not to feel discriminated especially if the decision
was arrived at in good faith.

MINORITY PROTECTION AT COMMON LAW:

Courts of law have not gone far enough to champion minority interest. However, they
will interfere with a majority decision in certain circumstances e.g.

1. If a decision is arrived at in contravention of the articles or law.

2. If the majority decision is made in bad faith.
3. If the majority has exercised its voting power to benefit at the expense of the
minority Expropriate corporate assets etc.

MINORITY PROTECTION BY STATUTE:

Minority protection has for the most part been realized through statutory provisions. The
Companies Act contains numerous provisions which expressly safeguard minority
interest:

1. Alteration of the objects clause: Under Section 8(1) of the Act, a company may by
special resolution alter the objects clause of its memorandum. However, the
alteration may be objected to by: (a) Holders of not less than 15% of nominal value
of the company’s issued share capital (b) Holders of not less than 15% of any class
of shares of the company. (c) Not less than 15% of the number of members of a
company. The court may cancel the proposed alteration.
2. Variation of class rights: Under Section 74(1) of the Act, a company whose share
capital has been divided into different classes of shares e.g. ordinary, preference,
deferred e.t.c. may if authorized by its articles or memorandum, vary the rights
attached to any class of the shares either by a special resolution or written consent of
holders of not less than ¾ of that class of shares. However, holders of not less than
15% may within 30 days of the consent or resolution, apply to the court for the
variation to be cancelled.
3. Convention of an AGM in cases of default: Under Section 13(2) of the Act, if a
company fails to hold an AGM, pursuant to Section 131(1), any members of the

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company may petition the registrar to convene or direct the convention of an AGM.
Such an AGM, is duly constituted by 1 member present in person or by proxy.
4. Requisitioning of an Extraordinary General Meeting: Under Section 132(1) of
the Act, holders of not less than 1/10 of the paid up capital or total voting rights of
the company, may requisition an extra-ordinary General Meeting by depositing a
requisition with the company. If directors do not convene a meeting, within 21 days
of the deposit, the requisitionists or not less than 1/12 of them may convene the
meeting.
5. Convention of General Meeting: Under Section 135(1) of the Act, if for any
reason, it is impracticable to call a company meeting or conduct a meeting in the
manner prescribed by the articles or by the Act, the court may either on its own
motion or upon application, by a director or a member entitled to attend and vote,
direct convention or conduct of a meeting in accordance with the Act or Articles.
Such a meeting is duly constituted by 1 member present in person or by proxy.
6. Investigation of company affairs by inspectors: Under Section 165(1) of the Act,
shareholders may instigate the appointment of one or more competent inspectors to
investigate the affairs of the company. The investigation is made by an application
to the court by:
a. Not less than 200 members
b. Holders of not less than 1/10 of the issued shares.
c. Not less than 1/5 of the number of members in the register.

The applicants must furnish the court with sufficient evidence to justify the
appointment.

7. Take-over Bid: Under Section 210(1) of the Act, if a scheme involving, the transfer
of shares or any class of shares in a company to another is proposed, and within 4
months of the offers, holders of not less than 90% of the shares or class there of
have accepted the offer, the offering company may at any time within 2 months after
the 4 months notify the dissentient shareholders of the offering company its
intention to acquire their shares compulsorily. The dissentient shareholders may at
any time within 1 month of the notice apply to the court seeking cancellation of the
takeover bid and the court may disallow the same as was the case in re Buggle Press
Ltd where the majority shareholders had formed a new company to enable them
acquire the minority interest in their other company by the use of Section 210. The
take over bid was disallowed.
8. Winding up under the Just and Equitable Ground: Under Section 219(f) of the
Act, a company may be wound up by the court if the court is of the opinion that it is
just and equitable that the company should be wound up. The minority may have a

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company wound up on this ground in case of oppression or where they have

justifiably lost confidence in the management of the company.

REVISION EXERCISE

QUESTION 1

(c) In Foss v Harbottle (1843), the anxiety of the law was to strike an optimum balance
between the principle of the majority rule on the one hand and safeguarding minority
shareholders against abuse of power on the other. It can neither give more support to
the majority as the minority will then be prejudiced and nor to the minority who
would then object on every action. With reference to the above statement, discuss the
three principles emanating from the rule

(d) The directors of NovaGift Ltd. had been accused of being negligent in selling a drying
machine of the company at a price which was much lower than its true market value.
A resolution had been passed by the majority of the shareholders to sell the machine
at that price. The directors did not in any way benefit from the transaction.

iii) State the two elements that must be present for the minority shareholders to
successfully sue the company.
iv) Advise the minority shareholders who have sued the company on whether they are
likely to succeed in their representative suit.

Suggested Answers

(a) Three principles emanating from the rule in Fosi v Harbottle (1843):

- Proper plaintiff principle- This principle is to the effect that when a wrong is
done to a company, the company is prima facie the proper plaintiff for redress.
- Internal management principle - Courts of law will not generally interfere with
the internal affairs of the company.
- Irregularity principle - A member of a company cannot generally sue to rectify
an irregularity or informality which the company can, by its members internally
correct.
b)
(i) Elements that must be present for the minority shareholders to sue.
- Fraud - Conduct complained of must involve some fraud on the minority.

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- Control- it must be evident that the wrong doers are in legal or factual control of
the company.

(ii) Advise to the minority shareholders on whether they will succeed.

- For an action to succeed it must fall within the exceptions in Foss v Harbottle.
- The sale of the machine was not beyond the powers of the company
- There is no allegation of fraud on the part of the directors
- Minority shareholders action is not going to be available since it was open to the
company, on the resolution of the majority of the shareholders to sell the drying
machine at a price decided by the company.
- The director's negligence in exercising their duties when they had not benefited
from the transaction does not amount to fraud.
- Therefore the minority shareholders will not be successful in their representative
suit.
QUESTION 2

With reference to the companies Act explain the provisions of the Act which ensure that
the majority shareholders do not conduct the affairs of the company with complete
disregard of the interest of the minority shareholders.

Suggested Answers

Protection of the minority’s rights

Exceptions to the rule in FOSS-vs-Harbottle thus a minority of members may bring an

action:
 To restrain the company from doing an illegal act or ultra vires
 To prevent a fraud on the minority
 To restrain the company from doing an act which vividly can be done by a
special resolution and such a resolution has not been properly passed or is passed
tpy means of a trick.
 To protect, the personal rights of an individual shareholder for example to vote
at the meetings or to receive dividends.
 To restrain the company from doing an act which is inconsistent with the articles
 Apply to court for an order of winding. Up' of the company on- the ground that
it’s just and' equitable to wind up the company.
 The applicant must prove the affairs of the company being conducted in a
manner oppressive to a member or some members.

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 If the order for winding up will be prejudice to the interest of the oppressed
minority, the court may make such order with a view to bringing to an end the
matters complained of as it thinks fit.
 Such an order may provide for the purchase of the shares of the prejudiced
minority.
 To alter the rights given to any class of shares by the memorandum or articles of
association of the company
 The minority can petition the court on the ground that it is just and equitable to
wind up the company.
 Dissentient holders of 15% of the issued shares can apply for the cancellation qf
alteration of the objects.
 There are also certain rights given to the minority in regard to meetings, thus the
tight given-to 10% minority to require the convening of an extra ordinary
general meeting.
 The right of 20% minority to requisition members' resolution at the annual
General Meeting. As regards investigations, a right given to 10% minority to
request the Registrar on the basis of evidence submitted to order an investigation
of the company's affairs or compel an investigation into its ownership.
 The minority have a right to petition the court On the ground of unfair prejudice
or for winding up

REVISION EXERCISE

QUESTION 1
Outline the roles governing the following:
(i) Entitlement to notice of a meeting.
(ii) Four contents of a notice of a meeting.

QUESTION 2
Discuss five exceptions to the rule in sharp V. Dawes (1876) 2 QBD 26.

QUESTION 3
In relation to meetings:
(i) Explain four reasons why companies hold meetings.
(ii) List eight persons who are entitled by law to call for a meeting.

QUESTION 4
State four ways in which a company meeting might be adjourned.

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QUESTION 5
The company being an artificial person conducts its business through a meeting or the
owners who are the shareholders of the company. The conduct of meetings is therefore
crucial to the operations of the company and the manner in which such meetings are
called is important.

The Companies Act provides guidelines on the calling of the meetings of a company.
In light of the above statement, explain the provisions of the law with regard to:
i) The service of notice of a meeting of a company.
ii) The parties to whom the notice of a meeting should be issued.

QUESTION 6
The articles of Gorgeous Garments Ltd. provide that every member is entitled to one vote
for each of the first ten shares and thereafter to one vote for each additional ten shares.
Jane Wanja owns one hundred shares. She has transferred ten of her shares to her nine
nominees to increase her voting power in the general meetings. Joseph Wanga, who is the
chairman at the general meeting, refused to accept the votes of Jane Wanja's nominees.

Advise Jane Wanja on the validity of the chairman's action and her right as a member.

QUESTION 7
Distinguish between a "general proxy form” and a "special proxy form”.

QUESTION 8
Explain the purposes of company meetings.

QUESTION 9
With reference to meeting of members of a company, explain the following;
i. Meaning of the term ‘special resolution’
ii. Matters that require a special resolution

QUESTION 10
With reference to the law which govern company meetings explain;
a) The circumstances under which one person would constitute a valid meeting
b) The methods of serving a notice of a company meeting to a member
c) Three types of meetings which may be held by a company

QUESTION 11
In relation to the law relating to meetings under company law, discuss the rules which
govern the following:

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(i) Voting by proxy.

(ii) Revocation of the authority of a proxy.

QUESTION 12
Write explanatory notes on the following types of resolutions indicating the business
requiring each type of resolution
a) Ordinary resolution.
b) Special resolution.
c) Resolution requiring special notices
QUESTION 13
a) Explain the purpose of company meetings
b) Explain the rule in Sharp Vs. Dawes and the exceptions thereof.

QUESTION 14
(a) Advise the Board of Directors of Excellent Home Care Agencies Ltd. on the
following matters:
(i) The length of notice to be given before an annual general 'meeting can be held.
(ii) The ordinary business transacted at such meetings.
(b) As you are leaving a meeting of the board of directors, you meet Mr Shida, a
shareholder, who is aggrieved that since the time the company was incorporated three
years ago, no annual general meeting has ever been held by the company. He seeks your
advice.
Advise him.

QUESTION 15
Outline the purposes for which a special resolution is required.

QUESTION 16
Advise the directors of Tangaza Company on the following issue:
When a company is compelled to call an extra ordinary general meeting.

QUESTION 17
a) Explain the rules that govern quorum and the exceptions thereof
b) In relation to proxies, write brief notes on:
i) General proxies.
ii) Special proxies.

QUESTION 18
(a) In relation to special notice, state the following:
i) Objects of a special notice.

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ii) The number of days required.

iii) The ordinary resolutions which require special notice.

(b) In relation to company meetings, explain the following:

i) Issues that require special resolution.
ii) Support required for a special resolution to be passed.

TOPIC 8
DIRECTORS

The companies act does not define who a director is but rather provides that director
include any person occupying the position of a director by whatever name he is called.

In practice however a director refers to any person who is appointed by the shareholders
to manage the affairs of the company on shareholders behalf.

In most cases directors are also shareholders in the company but there is nothing that
prevent the articles from allowing an outsider to be appointed as the director.

Types of directors

(i) Executive director

This is the director who spent most of his time in the management of the company’s
affairs on day–to – basis.

In most cases an executive director also has a separate employment contract meaning that
he is both an employee and also sits in the board.

(ii) Non executive director

This is a director who does not spent most of his time managing the affairs of the
company. He attends the affairs occasionally example during the board meetings.

(iii) Shadow director

This is a person who is able to control and influence the board and the operations of the
company without necessary sitting in the board.

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Such individuals usually have big shareholding but do not want to sit in the board
themselves but through representatives or proxies.

(iv) Alternate director

A company’s articles can allow a director to appoint another person to attend and vote in
board meetings in his absence.
This person appointed is called alternate director.

(v) Managing director

This is the director who can be appointed by the board to oversee and manage the
company on day to day basis on behalf of the board.
He is usually also an employee of the company.

QUALIFICATION OF DIRECTORS

The companies Act does not specify the qualifications that somebody should have to be
appointed as directors.

However it makes the following restrictions

 A person to be appointed as a director should have attained the age of majority 18
years.
 The person should not be undischarged bankrupt
 In addition to this the articles may provide that for a person to be appointed as a
director they must take and pay a minimum number of shares common called
share qualification

APPOINTMENT OF DIRECTORS

Directors are appointed in accordance with the provision of the articles and of the Act as
follows

(i) First directors

The articles of the company usually names the first directors at the point when the
company is been registered.

If the article does not indicate the first directors then all the subscribers to the
memorandum are considered to be the first directors of the company.

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(ii) Subsequent directors

Any future directors of the company are usually elected by the shareholders during the
Annual General Meeting to serve for a specified period after which they can be re-elected
or retire.

(iii) Casual vacancy

This vacancy usually arises when the director leaves office before the Annual General
Meeting is held for example through resignation, death etc.
In such cases the boards usually have power to appoint a director to fill in the vacancy.

Such a director will serve until the next Annual General Meeting when he will be eligible
for re- election /re-appointment

DISQUALIFICATION OF DIRECTORS

Directors may be disqualified either by the Act or by the articles on the following
grounds
 Where a director has failed to take up share qualification
 Where a director is undischarged bankrupt
 If he becomes a person of unsound mind
 If he is restrained by the court after been found guilty of fraud or mismanagement.
 If he resigns from office by giving a written notice to the company
 If he has not attained the age of qualification
 If he is absent without permission for more than six months

POSITION OF THE DIRECTORS IN THE COMPANY

(i) Director as an agent of the company

Directors are considered to be agents of the company and therefore they can enter into
transactions and contracts on behalf of the company.

This means that the actions of the directors will bind the company .
However there are certain circumstances when a director will be held personally liable to
third parties for any contract they enter into. These are

 If he acts in his own name

 If he does not mention he is signing the contract on behalf of the company
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 If he exceeds his powers

 If the company’s name is not properly indicated

(ii) Directors as trustees

Directors are considered to be trustees of the company’s assets and money and therefore
there exist a fiduciary relationship between the company and the director where the
director is required to act honestly in good faith and for the best interest of the company.

(iii) Directors as managing partners

A company is owned by shareholders collectively but the management is vested on the

directors. Therefore directors are considered to be the managing partners.

POWERS AND DUTIES OF THE DIRECTOR

DIRECTORS' POWERS

Under various sections of the Act the following powers, subject to any restriction placed
by the articles can be exercised by the board only by means of resolutions passed at
meetings of the board and not by circulation:
i) The power to make calls
ii) The power to issue debentures;
iii) The power to borrow moneys otherwise than on debentures;
iv) The power to invest the funds of the company; and
v) The power to make loans.

DUTIES OF THE DIRECTOR

Duties of the director can be classified into two
 Fiduciary duties
 Statutory /general duties

FIDUCIARY DUTIES

These duties arise due to fiduciary relationship that the directors have with the company
as trustees. These duties include
 Duty to always act honestly
 Duty to always act in good faith

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 Duty to act for the best interest of the company

 Duty to avoid conflict of interest
 Duty to disclose any interest in company’s contracts
Remedies for breach of fiduciary duties

In case of breach of fiduciary duty company and the members can have the following
remedies.
 Removal of director from office.
 Sue for damages/compensation.
 Sue for injunction order to prevent continuous breach.
 In case of a contract the company can sue for rescission of the contract.
 In case the director has made secret profit he may be required to account for the
profit to the company.

STATUTORY /GENERAL DUTIES

The companies Act of 2015 requires the directors to perform the following duties.
 Duty to act within the powers provided by the company’s constitution.
 Duty to promote the success of the company and for the benefit of the company.
 Duty to exercise independent judgment while handling company’s matters or
decisions .
 Duty to avoid conflict of interest between personal interest and interest of the
company.
 Duty not to accept benefits from third parties by a reason of being a director or by
doing anything as a director.
 Duty to declare interest in proposed transactions or arrangements.
 Duty to exercise reasonable care, skills and diligence

This duty was previously highlighted or explained in the case of city equity fire insurance
company co ltd (1925)

Facts
The directors of an insurance company left the entire management of the company’s
affairs in the hands of the managing director. They never enquired about what was
happening in the company .Due to the managing director fraud and negligence the
company’s assets and money were lost .When they were sued the court held that the
directors were protected from the liability by the company’s articles and therefore the
court did not hold them accountable. In delivering his judgment the court explained the
duties of the directors in the following propositions

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A director need not to exhibit /show in performance of his duties a greater degree of skills
than may reasonably be expected from a person of his knowledge ,experience or the law
that expects from him is to serve the company honestly and to the best of his ability.

A director is not bound to give continuous attention to the affairs of the company because
his duties are alternating in their nature and can be performed periodically.

The director can delegate his duties to the officers of the company provided there is no
suspicion that the officer will not perform his duties honestly.

REMOVAL AND VACATION FROM OFFICE

Vacation of office

The office of the director can be vacated under the following circumstances
 If the director becomes disqualified
 If the director retires
 If the director resigns by giving a written notice
 If the director dies while in office
 If the company is dissolved after liquidation
 If the director is removed through a resolution by the members

Removal of a director

The members of a company can remove a director from office by passing a resolution to
that effect.
The procedure of removing the director is as follows
 The proposal to remove the director should be sent to the company as a special
notice .A copy must be given to the director concerned.
 The company will convene a general meeting with the business to remove the
director
 The resolution to remove the director is discussed. The concerned director must be
given an opportunity to make presentations either orally or in writing.
 The resolution is voted for and if supported by simple majority then the director
stands removed.
 Within 14 days of his removal the company must notify the register.

REGISTER OF DIRECTORS

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A company must maintain a register of its directors in its registered office .

The register should contain the following particulars

 The past and present names of the directors
 The nationality and residential address
 Date of birth
 Business occupation if any
 Date of appointment
 Details of any other directorship

NB if the director of a company is a corporate body or firm then the following details
should be included in the register
 The firm /corporate name
 The firms registered office
 The legal form of the body example whether a partnership ,cooperative etc
 The law under which it is registered and governed
 Details of its registration

REMUNERATION OF THE DIRECTORS

Since directors are not employees of the company they are not entitled to any
remuneration.

However the articles of association can make a provision for directors to be remunerated.
Such remuneration must be authorized by the members who will pass an ordinary
resolution during the Annual General Meeting.

In addition any remuneration that is paid to directors must be disclosed in the company’s
financial statement in accordance with financial reporting standards.

The companies Act does not prevent a company from making payment to directors as a
compensation for loss of office. Such payment must however be disclosed and approved
by the members.

LIABILITIES OF THE DIRECTORS

Liability to the outsiders

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Directors are personally liable to outsiders if they do not act within the powers that have
been given to them by the company’s articles. For example if they contract in their own
capacity or they fail to indicate that they are acting on behalf of the company

Liability to the company

These liabilities may arise under any of the following circumstances
 Where they allow the company to act in ultra vires manner
 Where they have acted negligently or careless
 Where there is breach of trust by the directors
 Where they have willingly misconduct themselves

Criminal liability

This arises where directors commit crimes either under the companies act or under any
other law .For example where they have committed insider trading.

LOANS TO DIRECTORS

Under the companies act it is unlawful for the company to make loans to a director
including guaranteeing loans to directors.
These restrictions do not apply under the following circumstances

 In case of a private company

 In case of a subsidiary whose director is its holding company.
 If payments are made to the director for purposes of allowing the director to meet
expenses relating to the company
 If the loan is given to the director in the course of ordinary business of the
company whose one of the businesses is to give loans example a bank

COMPENSATION FOR LOSS OF OFFICE

a) Its unlawful for a company to make a director any payment by way of

Compensation for loss of office or as consideration for or in connection with his
retirement, unless particulars of the proposed payment, including the amount, are
disclosed to the members of the company and the proposal is approved by the
company in general meeting. If the payment is not disclosed and approved, the
director to whom it is paid shall be deemed to have received it in trust for the
company. The directors who paid the money are liable to repay the money to the
company:

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b) It’s unlawful, in connection with the transfer of the whole or any part of the
undertaking or property of a company, for any payment to be made to any director
of the company by way of compensation for loss of office or on retirement unless
particulars are disclosed and approved. If such a payment is not disclosed, the
director holds it upon trust for the company.
c) If a payment is made to a director as compensation for loss of office or on his
retirement where the shares of the company are being transferred, he must take
reasonable steps to ensure that the particulars of the proposed payments are
disclosed in the offer. If this is not done, the director holds the payment on trust
for the persons who have sold their shares as a result of the offer.
d) Payments made to any director by way of compensation for loss of office do not
include any bona fide payment by way of damages for breach of contract or by
way of pension in respect of past services.

DISCLOSURE OF INTEREST BY THE DIRECTORS

Directors of a company are required to make certain disclosures as required by the act
and for the purpose of promoting good governance in the company.

The disclosures that a director must make include

 Any interest that a director may have in a transaction involving a company
 Any interest that a director may have in relation to contracts involving the
company
 Other directorships that the director may be holding in other companies
 Personal relationships including family relations that a director may have in any
interested parties relating to the companies affairs.

DOCTRINE OF INDOOR MANAGEMENT (THE RULE IN TURQUAND’S

CASE)

This doctrine is to the effect that a third party who is dealing with the company is not
obligated to inquire whether the company’s internal procedures have been followed or
not.

The law only requires such a person to have a constructive notice about the contents of
the company’s public documents.

Royal British Bank VS Turquand (1856)

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Turquand was a liquidator of the company that had taken a loan of 2000 pounds from the
Royal British Bank by issuing a bond to that bank. However the amount had not been
paid when the company went into liquidation. According to the company’s articles the
directors had the power to borrow that was authorized by an ordinary resolution. In this
particular case however no such a resolution had been passed even though the bond was
issued under the common seal of the company and signed by the directors and the
company secretary. Turquand had refused to pay arguing that the loan was not properly
authorized due to lack of resolution. The court held that the company was liable to pay.
The court explained that a person dealing with the company is only required to have a
constructive notice but is not obligated to enquire whether the internal procedures of the
company have been followed or not.

Exceptions to the rule in Turquand case

The rule will not apply under the following circumstances

 Where the person suing is in fact an insider example the director.
 If the person actually knew about the irregularity but did not do anything about it.
 If the articles had recommended special resolution which had not been passed.
 If there was some special circumstances which would have made the outsider to
make an inquiry.
 If the transaction is ultra vires as far as the company is concerned.
 If the transaction relate to issue of a forged document without the authority of the
board example a share certificate

Majority rule and minority protection

This rule is to the effect that the majority in a company will always have the say in terms
of decision making as long as those decisions are made within the provisions of the
articles and of the companies act.

Where the majority makes decision that are within the law then the court will not
interfere with the majorities decision.

The majority rule is also called the RULE IN FOSS VS HARBOTTLE (1843)

Facts of the case

In this case the plaintiff Foss and Turton were shareholders in a company called Victoria
park & co ltd which was formed to buy land for use as a pleasure park.
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The defendants on the other hand were directors and other shareholders in the company.

The plaintiff alleged that the defendant had defrauded the company in various ways and
in particular some of them had sold their own land to the company at an exaggerated
price.

They therefore requested the court to order the defendants to make good the losses that
the company had suffered.

The court held that it was incompetent for the plaintiffs to bring such case because the
right to do that belonged to the company in its corporate character.

The court explained that when a wrong is committed against the company then the proper
plaintiff is the company itself.

The rule in Foss vs Harbottle can be explained in three principles as follows

Proper plaintiff principle

This principle is to the effect that where a wrong is committed against the company then
the proper plaintiff is the company itself.

Internal management principle

If the alleged wrong can be confirmed or rectified by simple majority then the court will
not interfere.

Irregularity principle
If what is complained of is an internal irregularity which can be confirmed by the
majority then the court will not interfere.

Exceptions to the rule in Foss VS Harbottle

This rule will not apply in the following circumstances

 Where the actions complained about are ultra vires or illegal.
 Where the actions were required to be supported by a special majority which is not
achieved
 Where the actions of the majority constitute fraud on minority
 Where the actions of the majority violated membership rights of the minority or
members
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 Where the actions of the majority amounted to oppression on minority

 Where the actions of the majority was a breach of duty and mismanagement

Minority protection

Where the decision of the majority violates rights or amounts to oppression of minority
then a member of the company can take action against the majority and the directors

(i) Personal action

This is where an individual member sues in his own rights to protect his individual rights
as a member.

For example in case of membership violation.

(ii) Representation action

Where an individual member has suffered personal loss in addition to the injuries that a
company has suffered then the member can bring a representative action on behalf of him
and on behalf of other shareholders who may have suffered similar injuries or losses.

(iii) Derivative action

In this case a member will sue on behalf of the company.

It is called derivative action because a member will derive the right to sue from the rights
of the company.

Derivative action has the following characteristics.

 A wrong must have been committed against the company.

 The company is under the control of the majority shareholders and directors.
 Majority shareholders and directors are not willing to act.
 A member decides to sue on behalf of the company.
 Any damages awarded will go to the company but not to the suing member.

Protection of the minority by the statute

The companies act has a number of provisions whose impact is to protect the members
and their interests.
These provisions include

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 Where the decision is made by the majority to alter the company’s articles .The
member can make a petition to prevent the alteration.
 Variation of class rights
 If the decision is made to vary the rights of a given class of shares then holders of
that class have a right to stop the variation.
 If the directors fail to convene an Annual General Meeting the members can make
a petition to the registrar or to the court to have the Annual General Meeting
convened.
 Members can require the directors to convene a general meeting. If the directors
refuse or fail then the members can convene the general meeting on their own.
 Members have powers to pass a resolution to appoint an inspector to investigate
the affairs of the company.
 During a takeover bid a member can make a petition to the court to stop the
takeover even where it has been approved by the majority.
 A member of the company has a right to file a petition in court for compulsory
winding up of the company if they have a good reason to do that.

INSIDER TRADING OR DEALING

Insider dealing occurs where an individual or organisation buys or sells securities while
knowingly in possession of some piece of confidential information which is not generally
available and which is not likely, if made available to the general public, to materially
affect the price of the securities. For example, where a company director who is aware
that the company is in a bad financial state sells his shares knowing that this information
will be made public with an announcement of a cut in dividend payment.

It is argued that the use of insider information is unfair to those who deal with the insider,
though it is difficult to identify the looser since the transaction takes place on the stock
exchange. However, a person who buys something which turns out to be worthless than
the price paid for it may feel aggrieved. In principle, dealings in a market generally
reflect the value of the security if all the information used in valuation is available to both
buyers and sellers. Information generally used by those involved in company securities
relate to:
(i) World trade in the particular market in which the company is trading
(ii) Economy of the country
(iii) How the company is handling its affairs.

With the expansion of dealings in stock exchange, it has become evident that taking
advantage of inside information is fraudulent on other investors and could lower public
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confidence in the stock exchange, and for officers of the company, this amounts to a
breach of trust since the information is obtained in the course of their employment.

Case for regulation

In the realm of company law, it may be necessary to regulate insider trading or dealing
since the insider with access to confidential information is in potential conflict of interest
situation, in particular where his position in the company enables him to dictate or
influence when the public disclosure of price-sensitive information is to be made.

In such a case, the officer’s decision and his own desire to trade advantageously in the
company’s shares may conflict and such conduct is likely to bring the company into
disrepute. It is thereof recognised that it is wrong for a director or another to deal in a
company’s securities knowing of some development which is likely to affect the price of
the securities, which other members of the public are generally privy to.

In conclusion, insider trading should be regulated for the following reasons:

1. It spoils the reputation of the company.

2. There is no equality in information access.
3. Breach of director’s duties.
4. Lack of confidence in the market.

REVISION EXERCISE

QUESTION 1
Wanyoro Ltd is a public company. Its directors have decided to venture into transport
busihesi by acquiring a fleet of public service vehicles. They did not notice that this
activity is outside its objects clause. The company’s chairman, Ann Omesa who owns
10% of the voting shares negotiated a loan which was in excess of the company’s issued
capital from Joan Mekonge, a financier.

Joan Mekonge did not refer to any of the company’s registered documents nor did she
inquire into the purpose to which the money would be put. The money is used by the
directors to pay part of the purchase price of the vehicles. The test of the purchase price
remains unpaid. Some members who hold a substantial amount of shares in Wanyoro Ltd
intend to move a resolution to insert into the memorandum, an object permitting the
acquisition and use of the vehicles. One of the directors of Wanyoro Ltd announces that if
this is done, he will apply to court to have the new object clause quashed.

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Advise the directors of the company.

QUESTION 2
Explain four circumstances under which the office of a director might be vacated.

QUESTION 3
Angela Wanjiku and Christabel Ochieng’ had been carrying on business as a partnership,
sharing profit and losses equally. Christable Ochieng’ wished to introduce her son Abel
Ochieng’ into the business and Angela Wanjiku consented. They converted the
partnership into a limited liability company now known as ACA Company Ltd. Angela
Wanjiku and Christabel Ochieng’ each hold 40% of the total shares issued and the
balance is held by Abel Ochieng’. They are also directors of the company.

Soon after the company was formed, misunderstandings arose between Angel Wanjiku
and Christabel Ocheng’ regarding the day to day management of the business. Christabel
Ochieng and her son Abel Ochieng’ decided to expel Angela Wanjiku from the board of
directors. They have now resolved to remove her from the board of the company.

Advise Christabel Ochieng’ and Abel Ochieng on the steps they should take in order to
remove Angela Wanjiku from being a director of the company.

QUESTION 4
(a) It is unlawful for a company to make a loan to any person who is its director or
director of its holding company or extend a guarantee or provide security in
connection with a loan.
Discuss the exceptions to the above rule.
(b) In relation to the duties of directors:
(i) Summarize the facts in Re City Equitable Fire Insurance Co. Ltd. (1925).
(ii) Discuss three propositions of care, skill and diligence as enumerated in the above
case.

QUESTION 5
Outline four circumstances under which a director would become personally liable.

QUESTION 6
The articles of association of Xanadu Ltd. authorised the appointment of a managing
director who is entitled to exercise all the powers of the board.

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Simon Sixte assumed the duties of managing director, although no formal appointment to
that position had been made.
The other directors have no knowledge of Simon Sixte's activities, largely because they
do not concern themselves with the day-to-day running of the company.

In the course of executing the duties of a managing director, Simon Sixte commissioned
David Dunga to install a new heating system in the company factory. This act is intra-
vires. The work is carried out satisfactorily but the company refuses to pay for it.
With reference to decided case, advise David Dunga on the action to take again the
company

QUESTION 7
(a)It was held by Greer L. J in Shaw v Shaw (1935) that "they cannot themselves usurp
the powers which by the articles are vested on the directors any more than the directors
can usurp the powers vested by the Articles in the general body of shareholders."
Discuss the exceptions to the above rule.

(b)Warren Lomi was the Chairman of a company who with two other directors, agreed to
buy shares from Anne Omesa at Sh.120 each. Anne Omesa found out that the directors
had been negotiating with Ben Kigo for the sale of the whole company at far more than
Sh.120 per share. The directors had not disclosed this information to Anne Omesa, Anne
Omesa claimed breach of fiduciary duty.

Discuss the extent to which Warren Lomi might be regarded as a trustee to Anne Omesa
as an individual shareholder.

QUESTION 8
Discuss the rights of a director with regard to recovering remuneration anc compensation
from the company for loss of office.

QUESTION 9
Chengo Ltd., a public limited company whose articles are in the form of Table A decided
to purchase tankers to transport wine to Burundi.. However, its directors failed to
recognise that this purchase falls outside the company's objects clause. The company's
chairman who owns 10% of its shares negotiated for a loan which was in excess of the
company's issued share capital from Iko Bank, a financier. The Bank did not refer to any
of the company’s registered documents nor did it inquire about the purpose into which
the money would be put.

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The directors of Chengo Ltd. used the money to pay part of the purchase price for the
tankers, and the rest in the purchase of a wine store. While on its way to Burundi, one
tanker exploded thereby damaging a trailer owned by Triple H,

Some members of Chengo Ltd. who holds large blocks of shares in the company intend
to pass a resolution to alter the memorandum of association retrospectively to insert an
object permitting the acquisition and use of the tankers.

However, one of the directors has dissented and maintairis that if this is done, he will
move to court.

Discuss the legal principles in the above case and advise the directors of Chengo Ltd.

QUESTION 10
Boaz Tito was appointed as director of Bantex Limited in the last annual general meeting
of the company. Boaz intended to invest in a piece of land and therefore applied for a
loan for the purpose. His loan application was not approved.

Boaz Tito feels aggrieved after learning that a junior employee who applied for a loan at
about the same time was granted the loan.

Advise Boaz Tito on the circumstances under which a company could grant a loan to a
director of the company

QUESTION 11
a) “Directors are trustees of the company's assets as well as agents of the company. This
position as trustees is however different from that of ordinary trustees, though similar
in some aspects”
Elaborate on the above statement

b) Jairo Mandevu a director of Holiday hotel limited signed an agreement not to solicit
for the hotel’s customers upon leaving the company
Jairo Mandevu, who has since retired from the company established his own company
in the hotel industry to carry on business, which if he had done so personally would
be in breach of the agreement with Holiday Hotel limited.
Citing relevant case law advice Holiday Hotel Limited on the available remedy
against Jairo Mandevu.
QUESTION 12
Highlight the circumstances under which a director of disqualified from holding office

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QUESTION 13
a) “A person dealing with a company is entitled to assume in the absence of facts
putting him on doubt, that there has been due compliance with all matters of internal
management and procedure required by the articles”

With reference to the rule in Kenya British Bank vs. Tarquand (1856) discuss the
above statement

b) A director said to be in a fiduciary Relationship to his company

Explain the remedies available to the company for breach of these fiduciary duties.

QUESTION 14
John Makori is a non-executive of Kuzi limited, a listed company, shortly after attending
a board meeting where arrangements were finalized for an agreed take-over bid of the
company by Bama Limited. John Makori bought shares in Kuzi Limited from the listing
in the stock exchange.

John Makori thereafter bought shares of the same company from Jane Amani, a
shareholder.

Immediately the takeover was made public, John Makori sold all the shares he had
bought at a profit
a) Discuss whether Kuzi Limited Jane Amani and Bama Limited have an action
against John Makori for recovery of the profit.
b) Explain whether or not John Makori has committed the offense of insider dealing.

QUESTION 15
With reference to company law; discuss the provisions which govern the removal of a
director from office before expiry of his tenure.

QUESTION 16
i. Discuss the circumstances under which providing financial assistance by a company
may be held to be lawful.
ii. Outline the legal requirements that the directors of a company should comply with
in order to protect creditors before providing financial assistance to any recipient.

QUESTION 17
Discuss the duties of directors in relation to disclosure of interest and state the legal
consequences of non-disclosure.

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QUESTION 18
Abel and Boaz have been carrying out business as a partnership. They have both been
employed on full time basis in the business and have shared profits and losses equally.
Abel wished to bring his son David into the business and Boaz accepts the proposal.

They wish to convert the partnership into a private limited company, ABD Company
Ltd., in which Abel and Boaz will each hold 40 percent of the shares and David will hold
20 per cent. All the three shareholders will be directors of the new private company.
After ABD Company Ltd. was formed, there arose a disagreement between Boaz and
David regarding the day-to-day management of the business. Abel and David decided to
remove Boaz from the board of directors.

Explain the procedure that Abel and David should follow to effect the removal of Boaz as
a director of the company.

QUESTION 19
In pursuit of good corporate governance practices by directors, enumerate the best
practices relating to directors which would promote and protect the shareholders rights.

QUESTION 20
a. What are the directors’ rights with regard to receiving remuneration a compensation
for loss of office?
b. Outline the procedure that a company must follow if it wishes to offer a directly a
service contract for more than five years.
c. Although the directors of a company are its agents, they are also held trustees of the
company’s money and property. However, their position trustees of the company
differs from that of ordinary trustees.
Discuss.

QUESTION 21
In what circumstances can a court make a disqualification order against a director of a
company?

QUESTION 22
The procedure to be followed to remove a director from office.

QUESTION 23
In relation to company law, explain the powers and fiduciary duties of the board of
directors of a company.

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TOPIC 9

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THE COMPANY SECRETARY

This is the officer appointed by the directors of a company as responsible for ensuring
that firm's legal obligations under the corporate legislation are complied with. The office
of the Company Secretary, Corporate Secretary or Board Secretary is in charge of legal
and regulatory compliance at Board level. A company secretary is not automatically an
employee of the company but remains a principal officer under the Act.

The office of the Company Secretary is created by the Section 198(1) of the 2015
Companies Act which states that every company must have a Company Secretary.
Specifically however, Company Secretaries are provided in Part XII of the 2015
Companies Act of Kenya.

Section 243 provides that a private company is required to have a company secretary only
if it has a paid up capital of KES 5,000,000 or more.

Under Section 243, if a private company does not have a company secretary:
1. Anything required to be done by the CS may be done by a director or any other
authorized person
2. Anything required to be served on the CS may be served on the company itself or
on any authorized person

Under Section 178 (2) if the office of the Company Secretary is vacant, its function and
duties may be discharged by a deputy or assistant Secretary or delegate of the Board of
Directors.

Section 244 is clear that every public companies are required to have a company
secretary or joint secretaries. Where the AG is satisfied that a company is not complying
with the rule in section 244, he may give direction, under Section 245 as to:
• What the company is required to do in order to comply with the direction;
• The period within which it is to comply (between 1 and 3 months); and
• The consequence of failing to comply with the direction.

Under Section 245 (4) the company shall then comply with the AG’s direction by:
• Making the necessary appointment; and
• Giving notice of the appointment under Section 249, before the end of the period
specified in the direction.

Failure to comply attracts an default fine of KES 500,000 to the company and its officers
and a subsequent daily fine of KES 50,000.
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APPOINTMENT OF THE COMPANY SECRETARY

Under the Companies Act the Company Secretary is appointed by the Board of directors
for such term and such other conditions as the board may deem fit. The board is
empowered to remove the Secretary subject to the terms of the appointment.

Under Section 246, the directors of a public company shall take all reasonable steps to
ensure that the secretary or each joint secretary of the company:

a. is a person who appears to them to have the requisite knowledge and experience to
discharge the functions of a secretary of the company; and
b. is the holder of a practising certificate issued under the Certified Public Secretaries
of Kenya Act .

A director of a public company who fails to comply with S.246 commits an offence and
on conviction is liable to a fine not exceeding KES 200,000.

The following persons are disqualified from being appointed company secretaries:

• The sole director of the company.

• A corporation which is a sole director of the company.

Vacancy in the Office of the Secretary – Section 247

If, in the case of a public company, the office of secretary is vacant, or for any other
reason there is no secretary capable of acting, anything required or authorized to be done
by or to the secretary can be done by or to:
a) An assistant or deputy secretary (if any);
b) Any person capable of acting; or
c) Any person authorized generally or specifically for the purpose by the directors.

Appointment/Qualifications of a company secretary

- The Company Secretary is appointed by the Directors

- The company secretary must be a registered member of the Institute of Certified
Secretaries of Kenya (ICSK)

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- The company secretary must be a holder of CS qualification offered by KASNEB.

- The company secretary must be of good ethical and governance standing,
- The company secretary must be knowledgeable in financial aspects of a company

Persons not qualified to hold office as a company secretary.

(May 2015, Q4C, June 2013 Q6A)
1. He has been convicted by a court of competent jurisdiction of an offence fraud or
dishonesty.
2. He is undischarged bankrupt.
3. If he is unsound mind
4. Under any such terms as the registration, board may determine.

Legal position of a company secretary (May 2016 Q3A)

What is the legal position of the company secretary

(a) As a servant of the company

The secretary of a company is a servant of the company ,whose duty is to act in
accordance with instructions given to him by the directors

(b) As an agent of the company

The secretary of the company ,being the chief administrative officer of the company by
virtue of his office ,is also an agent of the company in a restricted sense. He has osten-
sible authority to enter into contracts on behalf of the company as regards matters
connected with administration

(c) As an officer of the company

The secretary is also an “officer” of the company. AS an” officer “of the company he
may incur liability to statutory penalties by reason of non –compliance with the
requirements of the Act ,for instance ,he may be held liable for default in holding the
statutory meeting and filing the statutory report.
DUTIES AND OBLIGATIONS OF THE COMPANY SECRETARY (Sept 2015
Q3C)
Although the Companies Act does not identify the duties of a Secretary, it perceives them
as administrative. His duties depend on the size of the company and the terms of
engagement. His overall responsibility is to ensure that the affairs of the company are
conducted in accordance with the company’s Constitution.
Some of his specific duties include:
 Taking minutes at General and Board meetings.

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 Issuing notices to members.

 Accepting or receiving notices on behalf of the company.
 Certifying transfers.
 Issuing share and debenture certificates.
 Registering charges created by the company.
 Registering special resolution.
 Filing the annual returns.
 Maintaining custody of certain books of the company.
 Maintaining custody of the company’s common seal.
 Publishing the company’s name as required.
 Countersigning documents on which the company seal is placed or used.

Under corporate governance rules, the Company Secretary is tasked with ensuring legal
and regulatory compliance by the Board of directors. His role here includes:
 Ensuring good information flows within the Board and its committees
 Facilitating the induction of newly appointed Board members
 Assist with the professional development of Board members
 Advising the Chairman and the Board in general on all governance issues

LIABILITY OF A COMPANY SECRETARY (WHEN CAN CS BE HELD

LIABLE?) (Dec 2011, Q7A, Dec 2014 Q7 B, Nov 2019,Q6ii)

As a fiduciary, he is liable in damages for breach of any fiduciary duties. He must act in
good faith and must not make a secret profit. He may be held liable to account for any
secret profit made in breach of these duties.
He is criminally liable for:
 Failing to publish the company’s name as required.
 Failing to register charges.
 Failing to make the annual returns.
 Failing to make returns on allotment.
 Destroying or falsifying the company’s books with intent to defraud.
Particulars in the register of secretaries if the secretary of a public company is a
Natural person

If the secretary of a public company is a natural person, the company shall ensure that its
register of secretaries contain the following particulars
 The name and any former name of the secretary
 The address of the secretary

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Particulars in the register of secretaries if the secretary of a public company is a

company or a firm (Nov 2016 Q3A)

a) The name of the company or the firm;

b) The registered or principal office of the company or the firm
c) The legal form of the company or firm and the law by which it is governed; and
d) In the case of a company or a firm that is incorporated, register in which it is
recorded (including the place where the register is kept) and its registration
number in the register..
If all the partners in a firm are joint secretaries, it is to state the particulars that would be
required if the firm were a legal person and the firm had been appointed secretary.

REMOVAL OF A COMPANY SECRETARY (May 2017 Q 7B)

a) Directors must pass resolution to remove a secretary; this can be done at a board
meeting or by written resolution.
b) The directors must immediately give the notice to the secretary concerned
c) Record the removal or resignation in the company's register of secretaries.
d) Notify the bank that the secretary is no longer an authorized on the business bank
account.
e) Notify the registrar of the removal within 14 days.

Contents of an annual return (May 2016 Q3A)

- Type of company and its private activities.

- Address of its registered office.
- Particulars of directors and secretaries.
- Any person appointed as authorized signatories.
- Total amount of indebtedness in respect of all registerable charges.
- Financial statement or exemption statement where applicable.
- Names and addresses of these who were members as at the date of the return.
- Number of shares held by each members stating the shares transfers since the date
of the last return.

THE REGISTER OF COMPANY SECRETARIES

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Under Section 248, a public company shall keep a register of its secretaries containing
the required particulars of the person who is, or persons who are, the secretary or joint
secretaries of the company.

For natural Secretaries, Section 250 requires the following details:

1. The name and any former name of the secretary; and
2. The address of the secretary

For corporate secretaries, section 251 requires the following details:

 The name of the company or the firm;
 The registered or principal office of the company or the firm;
 The legal form of the company or firm and the law by which it is governed; and
 In the case of a company or a firm that is incorporated, register in which it is
recorded (including the place where the register is kept) and its registration
number in the register.

Under Section 252, a person who knowingly or recklessly authorizes or permits the
inclusion of misleading, false or deceptive particulars in register of secretaries commits
an offence and is liable on conviction to imprisonment for a term not exceeding 2 years
or a fine not exceeding KES 1,000,000 or to both

The register of Secretaries is open for inspection at the company’s registered office –
subject to the company’s regulations, by:

a) Any member of the company without charge; and

b) Any other person on payment of the prescribed fee (if any)

Section 248(4) prescribes a fine of KES 500,000 to the company and its officers for
default in maintenance of the register.

Duty to notify the Registrar of changes in the Secretary’s Office

Under Section 249, the company shall, within 14 days thereof, lodge with the Registrar
for registration a notice of any change in the office of the CS including:

a) The appointment of CS or joint CS,

b) Cessation of appointment or
c) Change in the particulars contained in the register of Secretaries

A default fine of KES 200,000 applies under Section 249(3) and a further daily default
fine of KES 20,000 under S.249 (4).
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NB: Section 254 states that a provision requiring or authorizing a thing to be done by or
to a director and the Secretary of a public company is not satisfied by its being done by or
to the same person acting both as director and as, or in place of, the Secretary.
The Legal position of the Company Secretary
He stands in a fiduciary position in relation to the company and owes it the basic
fiduciary duties i.e. must act bonafide and avoid conflict of interest. He is in a position of
trust, confidence and good faith.

Status of the Secretary

During the 19th century the Company Secretary was regarded as mere servant of the
company with no powers to bind it. In the word of Lord Esher in Barnett Hoarses and
Co. V South London Tramways Co Ltd (1887):

“A Secretary is a mere servant his position is that he is to do what he is told to and no

person can assume that he has any authority to represent anything at all”

However his status has since changed and he is today regarded as the Chief
Administrative Officer of the company with extensive duties and responsibilities.

In the Panorama case (Panorama Developments (Guilford) Ltd V Fidelis Furnishing

Fabrics), a Company Secretary hired motor vehicles for personal use but on the pretext
that he wanted to use them for the company’s business and the company was sued for the
hiring charges. It was held that the company was liable as the Secretary had apparent/
ostensible authority to enter into the transaction. In the words of Lord Denning:

“… but the times have changed. A Company Secretary is a much more important person
than he was in 1887. He is an important office of the company with extensive duties and
responsibilities. He is no longer a mere clerk. He is certainly entitled to sign contracts
connected with the administrative side of the company’s affairs.”
REVISION EXERCISE

QUESTION 1
Explain four duties of a company secretary.

QUESTION 2
Outline the provisions governing the following matters as related to the company
secretary.
(i) Appointment of the company secretary

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(ii) Persons not qualified to hold office as a company secretary.

QUESTION 3
List four omissions for which a company secretary might be held to be criminally liable.

QUESTION 4
Identify four circumstances under which a person might be disqualified from holding the
office of company secretary.

QUESTION 5
Describe the responsibilities of the company secretary.

QUESTION 6
As a fiduciary, a company secretary is liable on damages for breach of this fiduciary
obligations

Explain the liability of a company secretary.

QUESTION 7
WajuziLtd, was incorporated fourteen months ago. The company has a nominal capital of
sh.80 million.
The directors of Wajuzi Limited are not sure of how to proceed with the operations of the
company Advise the directors on the following matters.
i. Appointment of a company secretary.
ii. Holding of annual general meetings

QUESTION 8
You have been appointed the Company Secretary of Maarifa Company limited Prepare a
memorandum advising the directors on the following matters;-
i) Disclosure of interest in a contract by directors

TOPIC 10
AUDITORS

QUALIFICATION, APPOINTMENT AND REMOVAL

Eligibility for appointment as a statutory auditor

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A natural person or firm is eligible for appointment as an auditor only if the person, or
each partners of the firm-

 Is the holder of a practicing certificate issued under the Accountants Act Has a
valid annual license issued under the accountant act.
 Statutory auditor, who, at any time during the auditor’s tern of office, becomes
ineligible for appointment as such, shall immediately resign from office, and give
notice to the audited person that the auditor has resigned as a result of having
become ineligible for appointment.
 Person may not act as statutory auditor of the company if the person is
 An officer or employee of the audited company
 A partner or employee of the audited company, or a partnership of which such a
person is a partner
 An officer or employee of an associated undertaking of the audited company
 -Partner or employee of the audited company or a partnership of which such a
person is a partner.

Appointment of auditors of private companies

A private company shall appoint an auditor or auditors for each financial year of the
company, unless the directors reasonably resolve otherwise on the ground that the audited
financial statement is unlikely to be required.
Following a period during which the company (being exempt from audit) did not have
any auditor at any time before the next deadline for the company to appoint auditors or to
fill a casual vacancy in the office of auditor.
The members may appoint an auditor or auditors by ordinary resolution –
a) Not later than the deadline for appointing auditors
b) If the company should have appointed the auditor or auditors by a deadline for
appointing auditors but did not do so or
c) If the directors had power to appoint an auditor or auditors but did not make an
appointment

Term of office of auditors of private company

An auditor or auditors of a private company hold office in accordance with the
terms of their appointment, subject to the requirement that –
 They do not take office until any previous auditor or auditors cease to hold office
 They cease to hold office at the end of the next period for appointing
auditors unless reappointed.
If no auditor has been appointed by the end of the next period for appointing
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auditors, any auditor in office immediately before that time is taken to be

reappointed at that time unless
 The auditor was appointed by the directors
 The company’s articles require actual reappointment
 The reappointment is blocked by the members
 The members have resolved that the auditor should not be re-appointed
 The directors have resolved that no auditor or auditors should be
appointed for the financial year concerned.

Appointment of auditors of public company

A public company is required to have an auditor or auditors for each financial year of the
company, unless the directors reasonably resolve otherwise on the ground that an audited
financial statement is unlikely to be required for a particular financial year.
For each financial year for which an auditor or auditors is ,or are to be
appointed, other than the company’s first financial year, a public company shall
ensure that the appointment is made before the end of the general meeting at
which the company’s annual financial statement for the previous financial year
is presented.
The directors of a public company may appoint an auditor or auditors of the company-
a) At any time before the general meeting at which the company’s first
financial statement is presented.
b) Following a period during which the company ,being exempt from audit
did not have any auditor ,at any time before the next general meeting at
which the company’s annual financial statement is to be presented
c) To fill a casual vacancy in the office of the auditor
The members may appoint an auditor in the office of auditor
 At a general meeting at which the company’s financial statement is presented
 If the directors had power to appoint an auditor or auditors but did not make
an appointment.
 If an auditor or auditors have not been appointed for a public company
within a period for appointing auditors, the company shall, within seven days
after the end of that period, notify the cabinet secretary of the failure .
 As soon as practicable after being notified in the cabinet secretary shall
appoint one or more auditors to fill the vacancy unless satisfied that there are
good reasons not to.
 If the company should have appointed an auditor or auditors but did not
make an appointment.

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Term of office of auditors of public company

The auditor or auditors of a public company hold office in accordance with the
terms of their company appointment, subject to the requirement that-
 They do not take office until the previous auditor or auditors have ceased
to hold office
 They cease to hold office at the conclusion of the financial statements
meeting next following their appointment unless re-appointed
If an auditor is appointed by the members of a company, the members shall fix
the auditor’s remuneration either by ordinary resolution or in such as the
members may, by ordinary resolution determine
If an auditor of a company is appointed by the directors, the directors shall fix
his remuneration of the auditor at a reasonable rate fixed by the cabinet
secretary.
Company to disclose terms of appointment
A company shall disclose the terms on company to disclose terms of audit which the
company’s auditor is appointed, remunerated or appointed is required to carry out his or
her responsibilities. In making a disclosure a company
a) Shall include
 A copy of any terms that are in writing
 A written memorandum setting out any terms that are not in writing
b) ensure that the disclosure is made at such times ,in such places and by and by such
means as are prescribed in the regulations specify the place and means of
disclosure
 In a note to its annual financial statement
 In the director’s report
 In the auditor’s report on its annual financial statement

Disqualified Auditors

The following persons are not qualified for appointment as auditors

 A body corporate.
 An officer or employee of the company.
 A partner or employee of an officer or employee of the company

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 A person disqualified for appointment as auditor for the holding company is

likewise disqualified for appointment as auditor for the subsidiary.
 Undischarged bankrupts and
 Persons of unsound mind are disqualified for appointment by the company law.
If a disqualified person is appointed auditor the person, the company and every
officer of the company in default are liable to a fine.

REMOVAL OF AUDITORS

The provisions of the Companies Act confer upon a company the power to remove an
auditor from office by a resolution at general meeting. Under section 160 (1)

 A special notice of the intended resolution to remove an auditor from office must
be given to the company.
 Upon receipt of the notice the company must send a copy thereof to the auditor
concerned.
 The auditor is entitled to make written representations not exceeding reasonable
length as his defense and may request the company to notify its members the fact
that he has made representations.
 The company must convene an extraordinary general meeting to determine the
issue. A special notice of the intended resolution must be sent to every member
and members must be notified that the auditor has made representations if any.
 Copies of the representations must be enclosed with the notice of the meeting and
sent to the members. If this is not possible by reason of lateness or default by the
company, the auditor is entitled to have them read out at the meeting. However,
copies of the auditor’s representations need not be sent to members or be read out
at the meeting if upon application by the company or any other aggrieved party,
the Court is satisfied that the auditor is abusing the right to be heard to secure
needless publicity for defamatory purposes. The Court may order the company’s
cost of the application be paid wholly or in part by the auditor.

Cessation of office of auditor

The members of a company may remove an auditor from office at any time by
ordinary resolution at a meeting.
Special notice is required for a resolution at a general meeting of a company
removing an auditor from office .On receipt of the notice of such an intended
resolution ,the company shall immediately serve a copy of the notice on the
auditor proposed to be removed

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The auditor proposed to be removed may, be with respect to the intended

resolution
 Make a written representations to the company ,not exceeding two thousand words
 Request the company to notify the representations to the members.
- The company is not required to send copies of the representations to the
members if the members would not receive their copies of the representations
before
- If a copy of any such representations is not sent out as required because it was
received too late or because of the company’s default, the auditor may ,require
the representations to be read out at the meeting

Within 14 days after a resolution to remove the auditor from office is passed
company shall lodge a copy of the resolution with the registrar for registration.

Resignation of auditor
 An auditor of a company may resign office by lodging a notice to that
effect at the registered office of the company
 The notice is not effective unless it is accompanied by the statement of the
circumstances connected with the auditor’s ceasing to hold office ,unless the
auditor considers that there are no circumstances in connection with the
cessation of office that need to be brought to the attention of members or
creditors of the company.
 An effective notice of resignation ends the auditor’s term of office on the date
on which the notice is lodged or on such a later date as may be specified in the
notice
 Within 14 days after an auditor of the company has resigned the company shall
lodge with the registrar for registration a copy of the notice of resignation

REMUNERATION OF AUDITORS

The term “remuneration” refers to any sums paid by the company in respect of his
expenses. The auditor’s remuneration may be fixed by:

 Directors if appointed by them.

 The cabinet secretary if appointed by him.
 By the company in a General meeting.
 In the manner determined by the company in General meeting.

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Functions of auditors
An auditor shall make a report to the members of the company on all annual financial
statements of the company of which copies are ,during the auditor’s company tenure
in office-
a) In the case of a private company –to be sent out to members
b) In the case of a public company-to be presented at a general meeting of the
company

The auditor shall include in the auditor’s report –

 An introduction identifying the annual financial statement that is the subject

of the audit and the financial reporting framework that has been applied in its
preparation

 A description of the scope of the audit identifying the auditing standards in

accordance with which the audit was conducted

 The auditor shall clearly state in the report whether, in the auditor’s opinion
,the annual financial statements

Gives a true and fair view of

a) In the case of an individual balance sheet of the financial position of the
company as at the end of the relevant financial year
b) In the case of an individual profit and loss account of the company for the financial
year

c) In the case of a group financial statements of the financial position as at the end of the
financial year and of the profit or loss for the financial year of the undertakings to
which the statements relate, taken as a whole ,so far as concerns members of the
company.
 Has been prepared in accordance with the relevant financial reporting
framework.
 Has been prepared in accordance with the requirements of the companies Act.
 State in the report whether the report is unqualified or qualified
 Include in the report a reference to any matters to which the auditor wishes to
draw attention without qualifying the report.
 the auditor shall state in the auditor’s report on the company’s annual financial
statement whether the auditor’s opinion ,the information given in the director’s

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report for the financial year for which the financial statement is prepared is
consistent with that statement
 In reporting on the annual financial statement auditor’s of a quoted company,
the auditor shall report to the company’s members on the auditable part of the
director’s remuneration report and state whether in the auditor’s opinion that
part of the director’s remuneration report has been properly prepared in
accordance with this Act.
 An auditor shall sign and date the auditor’s report and ensure that the auditor’s
name is prominently displayed in the report.

RESPONSIBILITIES OF THE AUDITOR

1. In reporting on the annual financial statement of the company, the company’s
auditor shall carry out such investigations as will enable the auditor to form an
opinion –
2. Whether adequate accounting records have been kept by the company and returns
adequate for their audit have received from the company’s branches not visited by
the auditor
3. Whether the company’s individual financial statement is in agreement with the
company’s accounting records and returns
4. In the case of a quoted company –whether the auditable part of the company’s
directors’ remuneration report is in agreement with those accounting records and
returns

COMMON LAW DUTIES OF AN AUDITOR

1. Duty to examine the accounts of the company: it is the duty of the auditor to
examine the accounts of the company, its balance sheet, profit and loss account
and any group accounts vouchers and other material information and make a
report for submission to members at general meeting during his tenure of office.
The auditor’s report must be read out before the company in general meeting and
must be accessible to members.
2. Duty to acquaint himself with his duties: He is bound to acquaint himself with
his duties under Companies Act and the Articles of the company.

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3. Duty to execute his task with an inquiring mind: It is the duty of the auditor to
execute his task with an inquiring mind and not with a pre-gone conclusion of
dishonesty. In the words of Lopes L.J Re Kingston Cotton Mills (No. 2 1896), “An
auditor is not bound to be a detective… to approach his work with suspicion or
with a foregone conclusion that there is something wrong. He is watchdog but not
a bloodhound.”
4. Duty to satisfy himself that the company’s securities exist: An auditor is
obliged to satisfy himself that the company’s securities exist and are in safe
custody. However whether he must inspect the documents or accept the assurance
of the officer of the company in possession depends on the circumstances of the
case in the words of Romer J in Re: City Equitable Fire Insurance Co. (1925): “It
is the duty of a company’s auditor in general to satisfy himself that the securities
of the company in fact exist and are in safe custody and whenever an auditor
discovers that the securities of a company are not in proper custody it is his duty to
require that the matter be put right at once.”
5. Duty to exercise reasonable care, skill and caution: An auditor is bound to
exercise reasonable care, skill and caution. The standard of care and skill expected
of an auditor is that of a reasonably competent careful and cautious auditor. In the
words of Lopes L.J in Re: Kingston Cotton Mills (No 2 1896):“… it is the duty of
an auditor to bring to bear on the work he has to perform that skill care caution
which a reasonably competent careful and cautions auditor would use. What is
reasonable care, skill and caution must depend on the particular circumstances of
each case.”
6. Duty to Act honestly: An auditor is bound to Act honestly. He must not certify as
true what he does not believe to be true and must take reasonable care and skill
before certifying something as true. In the words of Lindsey J in Re: London and
General bank (1895) “An auditor however is not bound to do more than exercise
reasonable care and skill in making inquiries and investigations… he must be
honest, he must not certify what he does not believe to be true and he must take
reasonable care and skill before he believes that what he certifies is true.”
7. Duty to provide professional advice whenever called upon: It is the duty of the
auditor to provide professional advice whenever called upon to do so. It was so
held in Tomenta v. Selsdon (Foundation) Pen Co Ltd. It is not the duty of the
auditor to take stock. In Re Kingston Cotton Mills Lopes L.J observed, “It is not
the duty the duty of the auditor to take stock. He is not a stock expert. There are
many matters in respect of which he must on the honesty and accuracy of others.
He does not guarantee the discovery of all fraud.”

AUDITOR’S RIGHT TO INFORMATION

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1. Has a right of access at all times to the company’s accounting records and
financial statements, in what form they are held.
2. Right to attend any general meeting of the company
3. Right to be heard at any general meeting that the auditor attends on any part of the
business of the meeting in the capacity of auditor
4. Entitled to receive all notices of and other communication relating to, any general
meeting which a member of the company is entitled to receive
5. In relation to written resolution proposed to be agreed to by the private company,
the company’s auditor is entitled to receive all such communications relating to the
resolutions as required to be supplied to the member of the company
6. Right to require any of the following persons to provide with such information or
explanations as the auditor thinks necessary for carrying out the responsibilities of
auditor-
7. An officer or employee of the company
8. A person holding or accountable for any of the company’s accounting records or
financial statements
9. A subsidiary undertaking of the company that is a body corporate incorporated in
Kenya
10. An officer ,employee or auditor of any such subsidiary undertaking or any person
holding or accountable for any accounting records or financial statements of any
such subsidiary undertaking
11. A person who at a time to which the information or explanations required by the
auditor relates or relate

LIABILITY OF AUDITORS
Liability to the company
i. Damages for professional negligence
The company has an action in damages against an auditor who has failed to exhibit the
care and skill of a reasonably competent, careful and cautious auditor.
The company must prove that some other auditor would have acted otherwise.
ii. Damages for misfeasance
Although an auditor is not an officer of the company properly so called, case law
demonstrates that he may be held liable in damages for misfeasance committed or
omitted in the course of discharging his obligations.
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This was the case in Re: London General Bank where an auditor had failed to detect that
certain items had been over valued resulting in dividends being paid out of capital and it
was held that the auditor was liable in damages for the misfeasance.

Liability to third parties

As a general rule, auditors are not liable to third parties.
The auditor has a contractual relationship with the company and it is therefore the
company to whom the duty is owed.
Since the decision in Hedley Byrne v Heller it has been clear that a person may be liable
for financial loss resulting from a negligent statement even if there is no contract between
the maker of the statement and the recipient.
Facts
Plaintiff was an advertisement agency, working for a company called Easi power.
The Plaintiff was concerned about the financial position of Easi power, and sought help
through their bankers, who obtained information through the Defendant [Heller], the
banker of Easi power.
The Defendant, through statements and documents marked without responsibility on the
part of this bank [Defendant], replied that Easi power is in good a financial position. This
was done a couple of times.
Plaintiff relied on this when making investments and later Easi power went bankrupt,
causing the plaintiff financial loses.
Therefore, a third party who suffers loss or damage by reason of relying on the audit, and
its report may hold the auditor liable if it is proved that:
1. There was a special relationship between the auditor and the party and therefore
the auditor owed the party a legal duty of care.
2. The auditor knows or reasonably ought to have known that his audit and report
was to be relied upon.
3. The auditor broke his duty of care.
4. The third party suffered loss of a financial nature.

Duty of care between the auditor and the third party

This occurs when
 The loss suffered is a reasonably foreseeable consequences of the defendant’s
conduct
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 There is sufficient proximity of relationship between the defendant and the pursuer
 It is fair, just and reasonable to impose a liability on the defendant.

REVISION EXERCISE
QUESTION 1
Outline four matters that are required to be expressed in an auditors’ report.

QUESTION 2
Explain three grounds for removal of an auditor of a company.

QUESTION 3
Highlight four rights of an auditor of a company.

QUESTION 4
Outline four persons who are disqualified from appointment as auditors of a corporate
body.

QUESTION 5
In Hedley Bryne Co. Ltd. V. Heller and Partners Co. Ltd. (1964), the court held that as
long as it could be established that a special relationship existed between parties, it was
possible for a person to sue for having suffered a financial loss even though no
contractual relationship existed between the parties.
With reference to the above ruling:
i) Enumerate six rights accorded to an auditor to enable him perform his duties.
ii) Describe three factors that should be established in' order for a third party to
successfully sue an auditor for professional negligence.

QUESTION 6
Describe how an, auditor's remuneration is fixed

QUESTION 7
XYZ Company limited has been sued severally in the past by individuals who suffered
losses after relying on the audited accounts of the company.

The boards of director have resolved to remove the auditor and have approached you for
advice.

QUESTION 8

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Highlight the provisions of the companies Act which govern the rights and duties of the
auditors

QUESTION 9
Analyze the provisions of the companies Act which govern the appointment of auditors
of a company

QUESTION 10
An auditor has been described as “a watchdog but not a blood donor” Re; Kihgsto:
Cotton Mills Company (1896)

With reference to the above statements describe the duties of an auditor and thi remedies
available to a company whose auditors have been- negligent.

QUESTION 11
Explain the rights of auditor of a company.

QUESTION 12
Section 721 (I) of the companies Act stipulates that every company shall appoint an
auditor or auditors to hold office.
a. Discuss the main obligations of an auditor
b. Explain the ways in which the auditor’s remuneration is fixed

QUESTION 13
Briefly explain the grounds on which a person may be disqualified from being appointed
as an auditor of a company

QUESTION 14
Discuss the ways in which the traditional role of an auditor has been affected by recent
demands by regulatory authorities and shareholders.

QUESTION 15
a) Compare the position of directors with that of auditors in respect to the standard duty
of skill and care expected of them.
b) Explain the rules that govern the appointment and removal of an auditor of a
company.

QUESTION 16

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(a) Explain the category of persons to whom an auditor owes a duty of care in the
preparation of his audit report.

(b) Enumerate the rights accorded to an auditor to enable him perform his duties as the
auditor of a company.

(c) In Hedlev Byrne V. Heller (1964) the court held that provided that it could be
established that a special relationship existed between parties it was possible for a
person to sue for having suffered a financial loss even though no contractual
relationship existed between the parties.

Highlight the factors that should be established in order for a third party to successfully
sue an auditor for professional negligence.

TOPIC 11

COMPANY ACCOUNTS

Introduction
As a safeguard to creditors, investors and shareholders, there is a statutory
obligation placed upon every company to keep proper books of accounts and to
make an annual return to the registrar giving certain information regarding the
financial position. The books must give a true and fair view of the state of the
company’s affairs and to explain its transaction.

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Annual financial statement in relation to a company, means the company's

individual financial statement for a financial year, and includes any group
financial statement prepared by the company for that year.

Under the provisions of the Companies Act, companies are obliged to keep
certain books of accounts known as the Annual Financial Statements in the
English language.

Every company must keep proper books of accounts with respect to:

• All sums of money received and expected by the company and the
matters in respect of which the receipt and expenditure takes place.
• All sales and purchases of goods by the company.
• The assets and liabilities of the company

Section 620 defines “annual financial statement", in relation to a company to

mean the company's individual financial statement for a financial year, and
includes any group financial statement prepared by the company for that year.
Specifically the annual financial statements and reports for a financial year
consist of the following:

Unquoted Companies Quoted Companies

a) The Annual Financial Statements a) The Annual Financial Statements
b) The Director’s report b) The Director’s remuneration report
c) The Auditor’s report on both (a) and (b) c) The Director’s report
above
d) The Auditor’s report on (a), (b) and (c) above

The Small Company Regime

Under the 2015 Act, regulations on companies and small companies as concerns
Company Accounts vary. Under Section 623, a company is deemed a “small company” if
any two of the following conditions apply:
a) It has a turnover of not more than KES 50Million;
b) The value of its net assets as shown in its balance sheet as at the end of the year is
not more than KES 20M; and
c) It does not have more than 50 employees on average per year.

However, S.626 excludes the following companies from the small companies regime
identified above:
a) A public company

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b) a member of an ineligible group

c) a person who carries on insurance market or banking activity

Companies Required to Keep Proper Accounting Records – S.628

S.628 is clear that every company shall keep proper accounting records i.e. records
which:
a) show and explain the transactions of the company;
b) disclose with reasonable accuracy, the financial position of the company at
that time; and
c) enable the directors lo ensure that every financial statement required to be
prepared complies with the requirements of the 2015 Companies Act.

These records should contain:

• Entries from day to day of all amounts of money received and, spent by the,
company and the matters in, respect of which the receipt and expenditure
takes place; and
• A record of the assets and liabilities of the company;
• statements of stock held by the company at the end of each financial year of
the company
• all statements of stock-taking
• statements of all goods purchased and sold identifying the buyers and sellers
in detail

Default fine: Company = KES 2M fine; Natural person = KES 1M fine and/or 2yrs
imprisonment

Location of Accounting Records

S.630 dictates that these are to be maintained in the company’s registered office.

The records must be open to inspection by the officers of the company.

These accounting records are to be preserved for a period of 7years.

Default fine: Company = KES 2M; Natural person = KES 1M fine and/or 2yrs
imprisonment

Annual Financial Statements: Composition and Preparation

Under S.635 these are to be prepared by the company directors failing which a

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default penalty of KES 1M applies.

S.636 dictates that the AFS so prepared must give a true and fair view of the assets,
liabilities, profit or loss of the company, failing which a default fine of KES
500,000 applies.

S.638 provides that the financial statements prepared comprise:

• a balance sheet as at the last day of the financial year;
• a profit and loss account;
• a statement of cash flow; and
• a statement of change in equity

Purposes of the profit and loss account:

1. It shows the profit and loss of the company that is the difference between
the revenue for the period covered by the account and the expenditure
chargeable in the period.
2. To explain the company’s transactions, for example, all money received
and spent and what matters, all sales and purchases of goods
3. To present the true and fair view of the profit and loss of the company for
the financial year
4. To safeguard the interest of creditors, investors and shareholders
 The profit and loss statement shows:
 The amount charged to revenue by way of provisions for
depreciation renewals or diminution in value of fixed assets
 The amount of interest on the company’s debentures and fixed loans
 The amount charged against income tax and other taxation on profits

BOOKS OF ACCOUNTS
Section 628 imposes a strict obligation upon the company to keep proper
books of accounts of respect to:-
 All sums of money received and spent by the company and the matters in
respect with which the receipts and expenditure take place (cash book).
 All sales and purchases of the goods by the company.
 The assets and liabilities of the company.
The books of accounts must be kept in English language at the registered
office of the company or at such other place as may be determined by the
directors. If kept at a place outside Kenya, returns regarding the business
recorded in such books are to be made to the registrar at interval not exceeding
six months.
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The books and returns are to be open for inspection by the directors.
The articles also make provisions for the inspection of the books by members
of the company but no members shall have the right except as conferred by
statutes or authorized by directors or by the company’s general meeting. The
responsibility of preparing the books of accounts rests on the directors and
default in this renders the directors liable to a fine.

Laying financial statements before the General meeting

Section 679 requires that the directors shall present to the members at the
general meeting copies of its annual financial statements and director’s report
and other reports. The financial statement shall comprise: .

 A balance sheet as at the last day of the year

 A profit and loss account
 A statement of cash flow
 A statement of change in equity

Default in laying the financial statements renders the officers of the company
liable to a fine not exceeding sh.500, 000.

Right to receive Copies

Every shareholder is entitled to a copy of every balance sheet which is to be
laid before the company in a general meeting together with those documents
to be annexed to the balance sheet. A copy must be sent to every member not
less than 21 days before the meeting.

Exception
1. A member of a company without share capital
2. Where the shareholder’s address is not known

Other requirements as to accounts

There must be shown either in the balance sheet or profit and loss account laid
before the general meeting.
 The amount of directors’ emoluments
 Particulars of directors’ emoluments which have been waived

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 Any loans made to any officer of the company or by its subsidiaries during the
financial year.
 Particulars of employees’ salaries.

GROUP ACCOUNTS
Section 639 imposes an obligation on a holding company to present to its
members alongside its own annual accounts group, accounts relating to the state
of affairs of the company and its subsidiaries. This is one of the occasions when
the veil of incorporation is lifted by statute so that the holding and subsidiary
companies are treated, though separate as one entity.

Exceptions to preparation of Group Accounts

Group accounts need not to be prepared in the case of a wholly owned subsidiary
company of the holding company.
Group accounts need not to deal with a subsidiary company if the company’s
directors are of the opinion that:-
1. It is impracticable.
2. It will be of no real value to members of the company in view of the insignificant
amounts involved.
3. It would involve expense or delay out of proportion to the value the member of the
company.
4. The result will be misleading.
5. The result would be harmful to the business of the company or any of the
subsidiaries.
6. The business of the holding company and that the subsidiaries are so different that
they cannot reasonably be treated as a single understanding.
Form and Content of Group Account
The group accounts presented before a holding company must be in the form
of consolidated accounts comprising of:-
a) A consolidated balance sheet dealing with the state of affairs of the company and
all its subsidiaries.
b) A consolidated profit and loss account dealing with the profit and loss account of
the holding company and its subsidiaries.

When the financial years of a group of companies do not coincide, the registrar may
relieve a holding company or a subsidiary company from holding an Annual General
Meeting in a calendar year where it is desirable to extend financial year to coincide
with that of its subsidiary or holding company. However, the directors are required to

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explain the reasons why the financial years don’t coincide.

There must also be attached to the holding company’s books laid before the General
Meeting a report by the directors. The report must show:-
 The state of the company’s affairs
 The amount, if any, they recommended to be paid as dividends
 The amount, if any, they propose to carry to reserves
 A fair review of the business during the year and at the end of the year. The
names of directors who have held office at any time during the year.
 Details of any acquisition by a company of its own shares.
 Directors’ interests in the shares or debentures of the company at the
beginning and end of the year if not shown elsewhere in the accounts.

DIRECTORS REPORT
Under Section 653 of the Act, the directors of a company shall prepare a
directors’ report for each financial year of the company. For a financial year in
which;-
(a) The company is a parent company; and
(b) The directors of the company prepare a group financial statement; the
directors shall prepare a group director's report relating to the undertakings
to which the financial statement relates.
If appropriate, a group directors' report may give greater emphasis to the matters
that are significant to the undertakings to which the group financial statement
relates, taken as a whole.

The directors shall include in their report for a financial year;-

(a) The names of the persons who, at any time during the financial year, were
directors of the company; and
(b) The principal activities of the company during the course of the year.

In relation to a group directors' report, subsection (1)(b) has effect as if the

reference to the company were a reference to the undertakings to which the
relevant group financial statement relates.
Except in the case of a company that is subject to the small companies regime,

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the directors shall specify in the report amount (if any) that the directors
recommend should be paid as a dividend.

If the directors of a company fail to include in the report the relevant

information, each director of the company who is in default commits an
offence and on conviction is liable to a fine not exceeding five hundred
thousand shillings.

Business Review

The directors will have to include also in the report a business review, so that
their performance can be assessed by the stakeholders of the company.

The business review will elaborate on;-

- A description of the principal risks and uncertainties facing the company;
- The development and performance of the business of the company during
the company's financial year; and
- The position of the company’s at the end of that year, consistent with size
and complexity of the business.

In the case of a quoted company, the directors shall specify in the business
review (to the extent necessary for an understanding of the development,
performance or position of the company);-
- the main trends and factors likely to affect the future development,
performance and position of the business of the company;
- information about environmental matters (including the impact of the
business of the company on the environment);
- information about the employees of the company;
- information about social and community issues, including information on
any policies of the company in relation to those matters and the
effectiveness of those policies; and
- Information about persons with whom the company has contractual or other
arrangements that are essential to the business of the company.

As soon as practicable after the directors have finished preparing their annual
report for the company, they shall approve the report and arrange for one of
them or the secretary of the company to sign it.

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TOPIC 12
AUDIT OF COMPANY ACCOUNTS

AUDITORS’ REPORT

Section 162 provides that the auditors shall make a report to the members on the accounts
examined by them, and on every balance sheet, every profit and loss account and all
group accounts laid before the company in general meeting.

Matters to be expressly stated in Auditors’ Report

This is provided for in the seventh schedule to the Companies Act and includes the

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following:
1. Theauditorsshouldstatewhethertheyhaveobtainedalltheinformationandexplanations
which to best of their knowledge and belief were necessary for the purposes of
their audit.
2. Whether, in their opinion, proper books of account have been kept by the
company, so far as appears from their examination of those books, and proper
returns adequate for the purposes of their audit have been received from branches
not visited by them.
3. Whether the company’s balance sheet and (unless it is framed as a consolidated
Profit and Loss account) Profit and Loss account dealt with by the report are in
agreement with the books of account and returns.
4. Whether, in the auditors’ opinion and to the best of their information and
according to the explanations given to them, the said accounts give the
information required by the Companies Act in the manner so required and give a
true and fair view:
5. In the case of the balance sheet, of the state of the company’s affairs as at the end
of its financial year
6. In the case of the profit and loss account, the profit or loss for its financial year,
7. Or as the case may be, give a true and fair view thereof subject to the non-
disclosure of any matters (to be indicated in the report) which by virtue of Part III
of the Sixth Schedule are not required to be disclosed.
8. In the case of a holding company submitting group accounts whether in their
opinion, the group accounts have been properly prepared in accordance with the
provisions of this Act so as to give a true and fair view of the state of affairs and
profit or loss of the company and its subsidiaries dealt with thereby, so far as
concerns members of the company, or, as the case may be, so as to give a true and
fair view thereof.
The report drawn up by the auditors must be attached to the accounts when sent to
the members (Section 156) and it shall be read before the company in general
meeting and shall be open to inspection by any member. (Section 162(2)).

ANNUAL RETURNS
Section 705 of Act states that every company having a share capital must file an annual
return (report) with the register once every year.
The return shall consist of the information required to be given to the registrar at the end
of the year.
The return must be prepared and filed with the registrar within 28 days after the date to
which is made up. If a company fails to lodge an annual return as required, the company

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and each officer who is in default shall be liable to a fine not exceeding sh.200,000.

Contents of the Annual return

Particulars to be included in the return include i. Address of the registered office
i. The place where the register of members or debentures holders are kept if not
at the registered office.
ii. Total amount of indebtedness in respect of all registrable charges.
iii. A summary distinguishing between shares issued for cash and shares issued
for a consideration other than cash specifying amount of share capital and the
number of shares.
iv. Type of company and its principals activities.
v. Financial statements or exemption statement where applicable. A list
containing the;
 Names and addresses of those who were members
 Number of shares held by each member stating the shares
transferred since the date of the last return.
 Particulars of directors and secretaries
 Any person appointed as authorized signatory of the company.

REVISION EXERCISE

QUESTION 1
Group accountants need not deal with a subsidiary of company.

QUESTION 2
Summarize the provisions of the Companies Act which govern the content of books of
account of a limited company.

QUESTION 3
Highlight the circumstances under which group accounts need not deal with a subsidiary
of the company.

QUESTION 4
b) Explain the purpose of a profit and loss account of a company

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c) With reference to company law, outline the books of account that a company is
required to maintain

QUESTION 5
Explain the provisions of the Companies Act, that govern the maintenance of books of
account of a company

TOPIC 13
COMPANY INVESTIGATION

INVESTIGATION INTO THE AFFAIRS OF THE COMPANY

Investigation into affairs of a Company means an investigation of all its business
affairs; its profit and losses, assets, investments and management of the affairs of its
subsidiaries.
The most important reason for investigation is for the protection of investors and
creditors. This is because in most cases persons who are in real control of the affairs of a
Company manage its affair in such a way that shareholders are rendered almost
ineffective.

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APPOINTMENT AND POWERS OF INSPECTORS

Circumstances under which a court might appoint inspectors
 Where the company is being conducted with the intention to defraud the
company’s creditors.
 If the company was formed for fraudulent or unlawful purpose.
 If the company members have not been given all the information all the
information with respect to its affairs.
 If it is in pubic interests.

Application for investigation may be made by:

i. The Attorney General

ii. The members
iii. The Company

Investigation by Attorney General

Under section 787(2), it is provided that the Attorney general can order investigation
where he has reasonable grounds to believe
a) That the business is being conducted;
- With intent to defraud its creditors
- In manner oppressive to its members
b) That the company was formed for a fraudulent or unlawful purpose
c) That the company’s members have not been given all the information
with respect to its affairs.
d) That it would be in public interest to do so.
e) That person responsible for the formation or management of its affairs
are guilty of fraud or misconduct towards its members.

Application by members (Sec 786)

Members have a statutory mandate to apply to the court to appoint one or more
inspectors to carry out investigations and report their findings. Such an application may
be made by:
a) In case of company having a share capital by not less than 200 members or by
members holding not less than 1/10 of the issued shares.

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b) In case of a company not having share capital by not less than 1/10 of the members.
The court before acting may require members to file convincing evidence of matters
requiring investigation.

Before acting on members’ application, the court will require evidence of matters they
require investigation. The court may require such members to deposit an amount not
exceeding sh.500,000 to meet the costs of investigation.

Application by the company (Sec 787(1)

A company may by special resolution of members in a general meeting declare that its
affairs ought to be investigated and in such a case, the court is bound to appoint an
inspector to make an investigation and report to it.
The court may also appoint inspectors where it seems that:-

a) The business of the company is being conducted with intent to defraud creditors
or for some other fraudulent/unlawful purpose
b) Where persons concerned with formation of the company have been guilty of
fraud or other misconduct towards a company or its members
c) Where members of the company have not been given all the information with
respect to its affairs.

POWERS OF INSPECTORS
1. An inspector is empowered to investigate the holding or subsidiary company of
the company under investigation if such investigation is necessary.
2. The inspector also has the power to administer oath to witnesses e.g. company
members and officials.
3. Examine persons under oath.
4. Require officers of the company to produce books and furnish such information or
explanation as may be necessary.
5. Apply to the Court to have persons whom he can’t examine, examined by the
Court for purposes of the investigation.

Expenses of Investigations

Section 799 is clear that the costs of investigation shall be borne by:

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1. The AG, who may be reimbursed by persons of interest in the investigations

including but not limited to:

 Any person convicted on criminal prosecution instituted by the AG on the basis of

the report;
 Any person who is held liable in damages or to restore company property on the
basis of proceedings instituted by the report;
 The company in whose name proceedings are instituted;
 The company being investigated; or
 The applicants for the investigations.

2. Any other person so specified by the Court

Investigations into Company Ownership – S.800

If satisfied that there are reasonable grounds for doing so, the Attorney General shall
appoint one or more competent inspectors to investigate and report on the membership of
a company for the purpose of determining the persons:

a) who are or have been financially interested in the success or failure, real or
apparent, of the company; or
b) who are able to control or materially influence the policy of the company.

THE INSPECTOR’S REPORT

This captures the findings of the investigation and acts as a formal written record of the
same.

The inspector may be required to prepare interim and/or a final report of the
investigations to the Court – S.797.

As soon as practicable after an interim report, or the final report, is submitted to the
Court, the Court shall:

a) Submit a copy of the report to:

i. The Attorney General; and
ii. The company concerned and its related entities if necessary;

b) On being requested to do so and on payment of the prescribed fee (if any)—send

a copy of the report to:

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(i) Any member of that company or body corporate;

(ii) The auditors of that company or body corporate;
(iii) Any person whose conduct is referred to in the report;
(iv) Any other person whose financial interest is affected by the report
(v) The applicants, if not the AG.

The Court may also order that the report be published in such publications (including a
website) as it may direct.

The Court may, under S.798, submit a copy of the report to the office of the DPP if it
appears, from the investigations and the attendant report, that a person has committed an
offence for which the person is criminally liable.

Powers of the Inspector

1. An inspector is empowered to investigate the holding or subsidiary company of
the company under investigation if such investigation is necessary.
2. The inspector also has the power to administer oath to witnesses e.g. company
members and officials.
3. Examine persons under oath.
4. Require officers of the company to produce books and furnish such information or
explanation as may be necessary.
5. Apply to the Court to have persons whom he can’t examine, examined by the
Court for purposes of the investigation.

Expenses of Investigations

Section 799 is clear that the costs of investigation shall be borne by:

1. The AG, who may be reimbursed by persons of interest in the investigations

including but not limited to:

• Any person convicted on criminal prosecution instituted by the AG on the basis of

the report;
• Any person who is held liable in damages or to restore company property on the
basis of proceedings instituted by the report;
• The company in whose name proceedings are instituted;
• The company being investigated; or
• The applicants for the investigations.

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2. Any other person so specified by the Court

Investigations into Company Ownership – S.800

If satisfied that there are reasonable grounds for doing so, the Attorney General shall
appoint one or more competent inspectors to investigate and report on the membership of
a company for the purpose of determining the persons:

a) Who are or have been financially interested in the success or failure, real or
apparent, of the company; or
b) who are able to control or materially influence the policy of the company.

Proceedings on the Inspector’s Report

a. Criminal prosecution – S.798

If the Court is of the opinion that a criminal offence has been committed, a copy of the
report is forwarded to the Office of the DPP, who may institute the appropriate criminal
prosecution. It is the duty of the officers of the company to assist the AG in the
prosecution.

b. Petition for winding up.

If it appears to the AG that the company ought to be wound up, he may petition for its
winding up on the ground that it is just and equitable to do so.

c. Civil proceedings – S.814

Under S.814, the AG may initiate civil proceedings on behalf of the company if from a
report made by the Inspector after investigating company affairs for:

6. The recovery of damages in respect of fraud, misfeasance or other misconduct in

the promotion, formation or management of the company
7. The recovery of company property that has been misapplied or wrongfully
retained

The Attorney General must consider that such proceedings are in the public interest.

Applicable offences
a) Destroying, mutilating, or falsifying
Fine not exceeding KES 1M; or
company documents.
S.818
Imprisonment not exceeding 7
b) Making a false entry in company documents
years; or Both

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c) Fraudulently making an omission on

company documents

Fine not exceeding KES

a) Knowingly providing false information 500,000, or
S.819
b) Recklessly providing false information Imprisonment for a term not
exceeding 2 years; or Both

Investigation by the Registrar of Companies under CAP 486

1. Noncompliance with provisions of the Act: If the Registrar has reasonable cause to
believe that the provisions of the Act are not being compiled with by the company, he
may initiate an investigation into the Company’s affairs.

2. Incomplete documents: If a document submitted to the Registrar does not disclose a

full and fair statement of the matters it relates to, the Registrar may initiate an
investigation where he directs the company to produce books and furnish him with
information or explanations as he may specify.
The same must be produced or furnished within the stipulated duration. It is the duty of
the officers and agents of the company to produce the books and furnish him with
information and explanations. If on examining the books and consideration of the
information and explanation an unsatisfactory state of affairs is disclosed, the Registrar
must make a report to the Court.

3. Ownership of shares and debenture: If there is good reason, the Registrar is

empowered to investigate the ownership of any shares or debentures of a company by
demanding information from persons who are or have been interested in the securities or
have acted as agents or advocates for the interested parties.
Such persons must give the Registrar such information as is reasonably in their
possession.
However, if the information is not forthcoming, the Registrar is empowered to place
restrictions on the shares involved in which case:
 Any transfer of the shares is void.
 The right to vote on the shares is not exercisable.
 The sums due on the shares are not payable.
 No other shares can be issued in respect of those shares.

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REVISION EXERCISE
QUESTION 1
Describe five persons who are responsible for meeting the expenses of an investigation
by an inspector appointed by the court.

QUESTION 2
Outline three powers of an inspector appointed to investigate the affairs of a company.

QUESTION 3
Outline four persons to whom the court might forward a copy of the report made by a
company inspector.

QUESTION 4
Highlight the conditions to be satisfied in order for the court to appoint competent
inspectors to investigate the affairs of a company in the following instances:
i) In a company having a share capital.
ii) In a company not having a share capital.

QUESTION 5
(a) Explain five duties of an official receiver.
(b) Describe five ways through which a person could cease to be a member of the
committee of inspection.

QUESTION 6
Discuss the legal provisions relating to investigation of company accounts, audit and
investigation by the registrar,

QUESTION 7
The law requires that certain statutory books must be kept in the registered offices of the
company.

Explain the contents and matters relating to inspection of the following statutory books:
a) Register of members.
b) Register of directors
c) Register of directors’ interests.
d) Register of charges.
e) Register of secretaries.

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TOPIC 14
CORPORATE RESTRUCTURING

Restructuring refers to a process that involves changing the company’s structure to make
it more viable and a going concern.
The change can either be on the capital structure or the overall business structure.
Capital restructuring can be done for the following reasons
 To improve the competitiveness of the company in the market or industry
 To prevent the company from going into liquidation
 To overcome financial difficulties that the company may be facing
 To enter into a compromise or arrangement with the creditors over the company’s
debts
 To reorganize the overall company capital structure
 To improve the capacity or the objectives of the company

MERGERS
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Merger means an arrangement whereby the assets of two or more companies become
vested in or under the control of one company.

Post-merger integration (MAY 2015, Q5a i)

It is combining and rearranging businesses to materialize potential efficiencies and

synergies that usually motivate mergers and acquisitions.

It involves combining the original social technical systems of the merging organizations
into one newly combined system

Types of Post-Merger Integration Strategy (MAY 2015,Q5a ii )

1. Preservation - The target company is preserved i.e it is left autonomous. Only

financial reporting and financial processes may be integrated.
2. Holding- The acquiring company just keeps the ownership of the target company
but does not integrate the target company.
3. Symbiosis- In this type it is decided where Integration is needed to 'reach the
objectives of the merger integration. Both companies mutually benefit from one
another.
4. Absorption- all organization and processes of the target company are to be fully
integrated into the acquiring company

Causes of failure of mergers (Nov 2016 Q5A)

1) Ignorance on the part of most chief executives about the process

2) Lack of a common vision about what the new will stand for or how it will operate
3) Nasty surprises resulting from poof due diligence
4) Poor governance i.e lack of clarity as to who decides what
5) Poor communication employees need to 'know why the organizations are merging
and why a merger is the best course of action,

Advantages of mergers (June 2013, Q6B)

1) Competition between the companies is eliminated

2) The amount of capital may be increased by the combined companies
3) Reduction of the operating casts thereby avoiding duplication
4) Benefits of large scale production can be secured

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5) Reduction in management costs

Disadvantages of mergers

1) Creates monopoly which may be harmful to the society

2) Identity of the old companies disappear
3) It may result in overcapitalization
4) Goodwill of the old companies is reduced
5) Management of the company may become difficult due to different cultures

FORMS OF CAPITAL RESTRUCTURING

RECONSTRUCTION
This is a procedure that involves the alteration of the capital structure and rebuilt it again.
This can be achieved through reduction of capital, increase of capital, variation of class
rights etc.
The procedure of reconstruction involves the following steps
 The company should do away with possible objections by the creditors either by
paying off the debts, providing the security for debts or obtaining consent from
them.
 Company can convene a general meeting with the agenda of presenting the
proposal to the members of the company to approve
 During the meeting the members will consider the proposal and vote for it .
 If the proposal is supported by a minimum of 75% of the votes then the proposal is
passed.
 A copy of the resolution must be filed with the registrar

SCHEMES OF ARRANGEMENT
This involves a reorganization of the company share capital by entering into a
compromise with the company’s creditors and members.
Steps/procedure for a scheme of arrangement is as follows
 An application is made to the High Court ,so that the court can allow a meeting of
the members and creditors to consider the scheme

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 If the court authorizes, separate meetings of members and creditors are convened
to consider the proposal.
 If the scheme is approved by members and creditors with a vote of 75% or more
then the scheme is passed.
 Another application is made to the court so that it can approve and allow the
implementation of the scheme.

If the court approves the scheme of arrangement then it can make the following
matters
1. The transfer of the whole or part of the undertaking ,property and liabilities to a
new company
2. Continuation of any legal proceedings.
3. The allotment of shares and debentures.
4. Dissolution of the whole company.
5. Provision for the opposing members/dissenting members.
6. Provision for any incidental and consequential matters that may be necessary to
secure the scheme.
7. A copy of the court order must be delivered to the registrar for registration.
Advantages of a scheme of arrangement

 It can be used where reconstruction or take over may not apply .

 The court makes a provision for any other eventuality.
 The scheme is more flexible than other methods.
 It ensures continuity of the company
 It prevents the company from being liquidated.
Disadvantages of scheme of arrangements
 It is not easy to compromise the members and the creditors.
 The procedure can take a long period of time.
 It is an elaborate procedure that requires a lot of efforts.
 There is no guarantee that the company will survive the procedure. Differences
between reconstruction and schemes of arrangement
Statutory Provisions relating to schemes of arrangement and
compromises/Procedure of schemes of Arrangement (Sept 2015 Q 7A)
1. The court may on application by the creditors or members or liquidator order a
meeting of the creditors or members as the case may be

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2. The scheme is approved by a majority in number representing not less than 3/4 in
value of creditors or members.
3. The scheme is sanctioned by the court in which case the court will have to
determine
whether the schemes complies with the law
4. Where a scheme of arrangement involves a reduction of capital, the court must not
sanction it unless a special resolution for the reduction of capital is passed in
accordance with the provisions of the Act.
5. A certified copy of the court order and resolution is filed with the registrar

Powers of the court to facilitate scheme of arrangement/Reconstruction

(Dec 2011 Q1 C)
- To supervise the carrying out of the scheme of arrangement or compromise.
- Power to give direction or make such modification as may be appropriate for the
proper working of the arrangement or compromise.
- Where it is satisfied that the sanction of a compromise or arrangement cannot be
worked satisfactory, it may on its motion make the order of company winding up.
- Order transfer of the whole or part of the undertaking and property or liabilities of
the company.
- The allotment of shares and debentures in that company without winding up.
- The continuation of any legal proceedings.
- The dissolution of the old company without winding up.
- Provision for dissentients.
- Such incidental add consequential matters necessary to secure the scheme to be
effective.

Information/Explanatory statement relating to compromises to be sent to creditors

or members
a) A statement explaining the effect of the compromise or arrangement.
b) The place at which creditors or members are entitled to attend the meeting must be
indicated.
c) Necessary explanation as regards to any deed securing the issued debentures.
d) Any material interest of the directors in the scheme of arrangement

Every creditor or member shall be furnished with a copy of the statement by the company
free of charge. It is the duty of each company director and any trustee of debenture
holders of the company to give notice of his interest in the scheme.

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RECONSTRUCTION

It involves transfer of assets of an existing company to a new company. There are two
types of reconstruction namely: (June 2011 Q6B)
- External reconstruction refers to the sale of the business of the existing company
to another company formed for that purpose. In this case, a company is liquidated
and another new company is formed.
- Internal reconstruction refers to internal re organization of financial structure of
the company. It permits the existing company to be continued. Generally the share
capital is reduced to write off the past accumulated losses of the company.

Modes of reconstruction
1. Scheme of arrangement
2. Reduction of share capital
3. Variation of class rights
4. Resale of assets to another company

Distinction between a scheme of arrangement and a reconstruction;

(Dec 2012 Q7B)

Scheme of arrangement Reconstruction

It involves re-organization of the share Involves selling of the assets of the
capital of the company company to a new company
Must be Sanctioned by court. Must be Sanctioned by the resolution of
members.
Settlement of dispute by mutual consensus. Existing company is wound up voluntarily.
i.e. Involves a compromise between i.e. It involves transfer of assets from one
members and creditors without going into entity to the other with the older company
liquidation been dissolved

TAKE OVER BID

Takeover bid can be defined as a process where an offer is made by one entity to acquire
all the voting shares in another company called the offeree or the target company.
The company that makes the offer is called the offeror.

A takeover scheme involves making an offer for the acquisition of all the voting shares in
that company.

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In Kenya takeover bids are governed by the Capital Market Authority and the provisions
of the Companies Act and the Competition Act of 2010.

For public listed companies an entity is assumed to have an intention to take over a listed
company where such an entity or person
 Holds more than 25% but less than 50% of the voting shares of the listed company
and acquire more than 5% in any year.
 The person holds more than 50% of the voting shares and acquires additional
shares in the listed company.
 Where the person acquires the company that holds effective control in the listed
company

The capital market authority can grant exemptions from complying with procedural
regulations under the following circumstances.

 Where an acquisition is done for purpose of strategic investments in a listed

company that is tied up with the management or any other technical support that is
relevant to the business of such company.
 Where there is an acquisition of a listed company that is in a financial distress.
 Where the acquisition is a restructuring of the listed company’s share capital.
 Where the acquisition involves a management buyout involving majority of the
employees.

PROCEDURE OF TAKEOVER

The procedure of takeover is prescribed by the Capital Market Authority

regulations and it include the following steps

(i) The offeror is required within 24 hours of making a decision to make a takeover
bid announce the proposed offer by a press notice and serve a notice of intention
in writing of the takeover scheme.

The notice of intention must contain all the information that is required by
CMA,NSE and competition authority and should be delivered to the target
company.

(ii) Within 10 days from the date of service of notice of intention the offerer must serve
the target company with an offeror’s statement which should contain the following
 Whether the offer is conditional
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 Whether the shares will be acquired in wholly or in part.

 Whether the shares are to be acquired through the swap .the proportion of
the swap should be indicated
 Whether the offerror is engaged in the same line of business as the offeree.

(iii) Within the 24 hours of receiving the offeror’s statement ,the target company must
inform the Nairobi security exchange and capital market authority and put the
proposed takeover in the newspapers.

(iv) After receiving the offeror’s statement the target company must appoint an
independent advisor. The independent advisor must prepare an advisor’s circular
and sent a copy of CMA and other copies are distributed to the shareholders of the
target company.

Contents of the advisor‘s circular

 The offeror’s stated intention regarding the continuation of the business of the
offeree
 The offeror’s stated intention regarding major changes to be introduced into the
business
 The offerors long term commercial justification for the proposed takeover
 The offeror’s stated intention with regard to continued employment of the
employees of the offeree
 The reasonableness of the takeover including accuracy of the profit forecast of the
offeree

(v) Within 14 days of serving the offeror’s statement the offeror is required to submit
to the Capital Market Authority for approval a takeover offer document which
should contain the following details
 Whether the offer is conditional upon acceptance of the offer under the
scheme
 Where the shares are to be acquired in whole or in part for cash then the
period with which such payments will be made
 Where the shares are acquired through share exchange or swap then the
proportion of share exchange and the period with which the offeree’s
shareholders will receive the new shares.
 Whether the offeror is engaged in the same line of business as the offeree and
whether the offer has been approved by the competition authority

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 Whether the offer is conditional upon maintainance of a minimum percentage

of shareholding by the general public.

(vi) The Capital market Authority should approve the takeover offer document within
30 days after which a copy is sent to the target company.

(vii) After receiving the takeover offer document the target company is required to
circulate the document together with the advisor’s circular to the shareholders .The
shareholders of the target company will consider the document and will be
required to accept the offer within 30 days

(viii) Once the offer is accepted by the shareholders of the target company then the offer
will be closed and the offer must inform capital market authority and Nairobi
security exchange about the closure of the offer.

Period Event
1 day-decision to make a takeover bid is made .

2day -Press notice and notice of intention are made a copy given to capital
1st month market authority and competition authority
12th day-Offeror serves offers statement to target company
13th day-target company informs CMA.NSE and CA about the offer .It also
appoints independent advisor.
26th day-offeror submits offer document to CMA for approval
26th day CMA approves take over document 29th day-CA approves take
over document
30th day-offeror serves approved takeover offer document to the target
2nd month company
3rd month 14th day-the target company issues board circular and circulate approved
take over document and independent circular to the shareholders
29th day –CA approves the takeover proposal
4th month 13th day –closure of the offer
-offeror informs CMA and NSE about the closure and announces the results
through press notice

HOSTILE TAKE OVER

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This is a form of take over where the offeror seeks to acquire a target company whose
management is unwilling to agree to the takeover.

It is also applied where there is in fighting among the shareholders with an intention of
kicking out the current management and shareholders who are troublesome.

There are a number of defences that the management of the target company can use to
defend themselves against the hostile takeover.

(i) Poison pill defense

In this case the target company dilutes its shares in such a way that the hostile
offeror/bidder cannot obtain controlling power without incurring huge expenses.

(ii) White knight defense

In this case the board of target company seeks a friendlier firm /person with whom they
exchange shares such that they get controlling interest before the hostile bidder.

(iii) Crown jewel defense

The target company sells of most of its valuable assets to make it less attractive

(iv) Golden parachute defense

In this case the management of the company will get contracts with a lot of benefits and
compensation in case they are removed from the company.

(v) Pac –man defense

This is where the target company makes a counter take over against the offeror

(vii) Greenmail strategy

In this case the target company repurchases shares that the offeror had already acquired
at a very high premium to prevent the shares from being given to the offeror.

(viii) Shark repellants

This is where the target company put provisions in its constitution that will deter or
prevent the offeror’s desire to make a hostile takeover

(ix) Leveraged buyout

This is where the management of the target company purchase controlling interest in the
company by use of debt financing thereby becoming a bidder who opposes the hostile
offeror.

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(4) Mergers and acquisition

Merger refers to combination or union of two or more businesses or companies where the
merger creates a new company then it is called amalgamation

Mergers can be achieved in two ways

 Through absorption –this involves combining two or more companies into an
existing company where all companies except one will lose the identity.
 Consolidation - This is where two or more companies combine to form a new
company with a new identity

Reasons why merges may fail

 Failure to carry out due diligence between the parties involved in the merger
 Where parties have different backgrounds in terms of system ,culture and
operations
 Where parties have different missions and objectives
 Failure to clearly understand the laws and regulations that govern mergers
 Poor execution and implementation of the merger process
 Poor leadership throughout the merger process
 Failure to carry out proper post merger integration

Types of mergers

1. Horizontal merger: This is where two or more businesses that are offering the
same products and services in the same market combine their business operation.
2. Vertical merger: This is a merger that involves businesses that are at different
stages or points of their supply chain usually with an aim of controlling the supply
chain.
3. Conglomerate merger: This is the merger that involves businesses or companies
that are in different industries and are offering different products or services to
different customers/markets .
4. Concentric merger: This is a merger that involves business or companies which
are offering different products and services but to the same customers

Post merger integration

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This refers to all the processes that requires to be done after companies agree to merge in
order to bring together their operations and systems.
Their activities are intended to realign the employees and the system of the merging
parties into one operation.
Post merger integrations may end up having different post merger objectives depending
on the merging parties.

The four main merger integrations that come out of post merger integration includes
(i) Preservation: This is where the dominant party in the merger preserves the other
party making it autonomous. Only financial reporting and financial processes are
integrated.
(ii) Holding: In this case the dominant party in the merger just keeps the ownership of
the other party without integrating anything into its system.
(iii) Symbiosis: In this type of merger the dominant party will only integrate those
processes that will help it to reach its merger objective.
(iv) Absorption: This is where the dominant party fully absorbs the other party in the
merger with all its systems and processes.

REVERSE MERGER

This is the term that is used to refer to a process in which a private company go public
without offering shares directly to the public but through an intermediary.

Such as the investment banks who help the company to sell the shares to the public. It is
also called the reverse initial public offer or reverse takeover.

Benefits /advantages of reverse merger

 It is a simpler process of going public.

 It is less expensive process with fewer regulations compared to initial public offer.
 The original owners of the company would get a chance to liquidate their shares
and exit the company at any time.
 The company is forced to become more transparent and accountable and with
good governance.
 The company becomes more publicized thereby gaining the ability to attract
talented and skilled employees.

Disadvantages of reverse merger

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 Since no prospectus is issued not many members of the public may know that the
shares are on offer
 There is no guarantee that once the shares are listed their value will improve
 The cost of compliance with various regulations is higher
 Companies are forced to make a lot of disclosures thereby losing confidentiality.

Other forms of restructuring

(i) Demerger: This is a form of corporate restructuring in which companies business
operations are segregated into different components such as division or branches.
(ii) Divestiture: This is a process whereby a company withdraws its investments from
different business units example by selling of a brand or product to other players in
the market
(iii) Reduction in capital
(iv) Redemption of shares/share buy back

REVISION

Procedure of a Takeover Bid (June 2012 Q4A)

1. The offer of a take-over bid must be made by a company to acquire shares of
another company (not an individual).
2. Acceptance must be obtained within a maximum of four months from the date of
the offer.
3. At the end of the fourth month, the offeror company must serve notice on the non-
accepting shareholders of the offeree company of its intention to acquire their
shares on the same terms as have been accepted by the majority,
4. On receiving the notice, non-accepting shareholders of the offeree company have
one month to apply to court to order that the offeror company shall not acquire
their shares,
5. After service of notice or after the court has rejected the application by non-
accepting shareholders, the offeror company may require the offeree company to
transfer the shares of its non-accepting shareholders to it. It may also receive the
purchase consideration to hold it in trust for the non- accepting shareholders.
6. The minority shareholders whose shares are compulsorily acquired are entitled to
benefits just like the other shareholders.

Information to be included by the offeror in a takeover offer document/ Information

and statements required to be included in an independent adviser's circular (Dec
2014, Q6A)

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1. Information regarding the offeror- the names of its directors and shareholders who
hold notifiable interest in the offeror and the extent of their holdings.
2. Whether the offeror has any intentions regarding the continuation of the business
of the offeree and if so, stating the offeror's intentions,
3. The offeror's stated intentions regarding major changes to be introduced in the
business, or strengthening the financial position of the offeree
4. Whether there are any long term commercial justifications for the proposed
takeover offer, and if so, stating the long term commercial justifications
5. Whether the offeror has any intentions with regard to the continued employment
of the employees of the offeree company and of its subsidiaries and if so, stating
the offeror’s intentions.
6. A confirmation by a financial adviser of the offeror that the offeror has the
financial capability to accept and carry out the take-over offer in full, where cash
is involved.
7. A statement that the offeror and the offeror’s financial advisers are satisfied that
the take-over offer would not fail due to insufficient financial capability of the
offeror and every shareholder who wishes to accept the take-over offer will be
paid in full.
8. Reasonableness of the take-over offer, including the reasonableness and accuracy
of profit forecasts for the offeree, if any, contained in the offer document,

Defense techniques available to a target company to resist a hostile takeover bid by

a predator (Nov 2019, Q7B, Nov 2017 Q2A)
 Use of White Knight: The targeted company accepts a takeover from a more
friendly company.
 Use of Poison Pills: Existing shareholders buy more stock so that to retain
majority shareholding. The company may also take huge debt which the transferee
will have to pay making the company unattractive.
 Sale of crown jewels: The targeted company sells off the most attractive portion,
of the business thus reducing its attractiveness.
 Scorched earth policy: The targeted company may take a suicidal act of
borrowing high debt capital to increase its gearing and financial risk thus reducing
its attractiveness.
 Use of green mail: The targeted company makes a counter offer to acquire the
shares of the predator thus reducing the advances of the predator.
 Shark repellant Involves amending the articles of association of the targeted
company such that the acquisition or the takeover bid must be supported by a
qualified (75%) of the members

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 Legal redress: The targeted company may apply to the regulatory authority
contending that the acquisition will make the predator a monopoly thus breaking
the anti-monopolist laws.
 Use of golden parachutes: These are the generous retirement packages to be
granted to the management and employees of the targeted company in the event
the company is taken over. This will significantly reduce the value of the target
company.

Forms of corporate restructuring/alternatives to corporate insolvency include:

(NOV 2017,Q7C, MAY 2015,Q2B)
1. Compromises
Compromise includes any settlement of a matter or disputes between a company
and its creditors or members by mutual concession
2. Scheme of Arrangement
It includes a re-organization of the share capital of the company by the
consolidation of shares of different classes or by division of the shares into shares
of different classes or both. It also includes a variation of the special preferential
rights on preference shares.
3. Reconstruction
Reconstruction implies the formation of a new company to take over the assets of
an existing company with the idea that the persons interested and the nature of the
business remains the same.
4. Takeovers or Acquisitions
A takeover is a purchase of one company (target) by another (the acquirer).
5. Mergers
Merger means an arrangement whereby the assets of two or more companies
become vested in order the control of one company.

Reasons for Corporate Restructuring (Takeovers, mergers and reconstructions)

(June 2013, Q6B)
1. Increase market share
2. Reduction of operating cost
3. Achieve economies of scale
4. Avoid liquidation.
5. Enhancing financial stability.
6. Achieve diversification

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REVISION EXERCISE

QUESTION 1
In relation to corporate restructuring, explain the statutory provisions relating to schemes
of arrangement and compromises.

QUESTION 2
Discuss various types of alternatives to corporate insolvency as provided for under the
companies Act.

QUESTION 3
Discuss the information that should be included in an independent adviser’s circular
during a takeover offer.

QUESTION 4
The High Court may make an order whose effect is to implement an approved scheme of
arrangement.

Explain four matters which the court will make provision for when making such an order

QUESTION 5
Discuss the main reasons for facilitating mergers, takeovers and reconstructions as
alternatives to winding up.

QUESTION 6
Distinguish between "a scheme of arrangement’’ and "a reconstruction''.

QUESTION 7
Bubanda Company Limited which is listed on the securities exchange came in with an
offer to buy Helio Company Ltd. The threshold for the deal to go through was that 80%
of Bubanda shareholders should agree.

Seventy one per cent of the company's shareholders agreed to the offer but twenty per
cent declined the offer. After more negotiations Bubanda-Company Limited was able to
convince eighty per cent of the shareholders.

Describe the procedure that Helio Company Ltd. would follow in order to affect the take-
over bid as per the Companies Act.

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QUESTION 8
In order for a scheme of arrangement to be effective, the court must make provisions for
certain matters. With reference to the above statement, highlight four matters that the
court must make provision for in a scheme of arrangement.

QUESTION 9
Discuss the various modes of reconstruction as provided for in the Companies Act.

QUESTION 10
b) Distinguish between a scheme of arrangement and a reconstruction of a company
c) Discuss the right of the disserting shareholders under an amalgamation by purchase
of shares

QUESTION 11
(a) Explain the reason why a company would resort to a takeover, merger or a
reconstruction
(b) Highlight the advantages of instituting a scheme of arrangement.

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TOPIC 15

RECEIVERSHIP, ADMINISTRATION, LIQUIDITION

AND DISSOLUTION OF COMPANIES

The term corporate insolvency refers to a situation where a company is unable to meet its
financial obligations as and when it is required to do so.
Technically the company’s liabilities far exceeds its assets and therefore its not
able to pay its debts when it is required to do so .
Where the company falls into corporate insolvency it can be dealt with in two
major ways which are provided for by the insolvency act of 2015.

 Administration/receivership
 Winding up/liquidation

ADMINISTRATION /RECEIVERSHIP OF THE COMPANY

This is a procedure in which a company is put under a receiver or administrator

in situations where it is unable to meet its financial obligations.
The main objectives of administration are
 To maintain the company as a going concern.
 To protect the interest of the creditors.
 To continue to trade in order to generate revenues under a new
administration in order to settle its debts.
 To achieve a better outcome for the company’s creditors in case the company goes
into liquidation

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APPOINTMENT OF ADMINISTRATOR/RECEIVER

A person can be appointed as an administrator of the company by

 The order of the court where a petition has been filed
 By holders of the floating charge
 By unsecured creditors of the company
 By the directors of the company

Where a petition is filed in court to put the company under an administrator

the court has powers to

 make the administration as been sought

 dismiss the application
 adjourn the hearing
 make an interim order
 treat the application as an application for liquidation

Effects of administration orders

When the court issues an administration order such an order has the following effects
 No insolvency proceedings shall be made against the company as long as the order
is there.
 The existing legal cases for or against the company can only proceed
with the consent of the administrator.
 All the official documents of the company must always indicate the
company is under administration.
 The powers of the director will cease during the period of administration.
 a person can take steps to repossess goods which are under the
possession of the company if the goods were acquired through hire
purchase

POWERS AND FUNCTIONS OF THE ADMINISTRATOR/RECEIVER

 To sell the property of the company through auction or privately.
 Power to use the company’s common seal.
 Power to appoint and remove the company’s directors.
 To manage the affairs and the property of the company.
 To convene general meetings of the company.

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 To enter into contract with third parties on behalf of the company

Vacation of the office of the administrator

A person can cease to be an administrator under the following circumstances
 Where the appointment comes to an end at the expiry of his term
 If an application is made by the creditor to remove the administrator.
 If the company goes into liquidation
 If the court think it is just and equitable to do so
LIQUIDATION /WINDING UP OF A COMPANY

This is a legal procedure by which the life of a company is dissolved and put
into an end . Liquidation process in Kenya is governed by the insolvency act of
2015.
The insolvency Act recognizes the following methods of
liquidation
a) Winding up by the court/Compulsory winding up
b) Voluntary winding up
 members voluntary winding up
 creditors voluntary winding up
c) Winding up under the supervision of the court.

Winding up by the court/compulsory winding up

This is winding up that is initiated by the court after issuing a winding up order.

The order is issued after a petition is filed in court to have the company wind up
compulsorily.

Persons who can file a petition for winding up

1. The company itself through its creditors

2. By the creditors of the company-this happens where the company is unable to pay
its debts
3.By a contributory –this refers to any person who is liable to contribute to
the assets of the company in the event the company goes into liquidation.
4. By member or members of the company-this can arise where there is
oppression of member or minority by the majority
5. The official receiver/administrator –where the company is under
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administration and the receiver feels that it has no chance to be revived

then he can file a petition for it to be wind up
6. The attorney general-the attorney general can file a petition under certain
circumstances for example where an investigation has been conducted
and the results indicate that to protect the interest of the public the
company should wind up
7. The commissioner of insurance –under the insurance act commissioner
can petition for winding up of the insurance company under any of the
following circumstances
 where the company has failed to comply with the requirements of the insurance
act
 Where the company is unable to pay its debts.
 Where the company is carrying out insurance business without been registered.
 where the company is unable to meet reasonable expectations of its policy
holders

Grounds for compulsory winding up

 Where the number of members have fallen below the statutory minimum.
 Where the company has failed to commence business within one year of
incorporation
 Where the company has suspended its business for a whole year.
 Where the company is unable to pay its debts
 Where the court is of the opinion that it is just and equitable to winding up the
company

Some circumstances which may lead to liquidation on just and equitable grounds
are

 Where the company has failed to reach its objectives (failure of

substratum) explained in the case of German Dates Company Ltd : In
this case the company was unable to produce a certain specific product as
it is indicated in its constitution due to lack of license from the
government. A petition was filed by a member and the court held that
since the sole objective could not be achieved the company should be
liquidated.
 Where a member is able to proof that he has been unfairly excluded from
the management of the company’s affairs.
 Where the member is able to proof that there was oppression of the minority by
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the majority.
 Where the company is found guilty of engaging in illegal and fraudulent activities.
 Where there is complete deadlock in the management of the company
such that the board cannot operate.
 Where it is proved that the company is sham/bubble ie it exist only on paper.

LIQUIDATION PROCESS

Compulsory winding up commences when a petition is filed for the company

to be wind up. Upon hearing the petition the court has powers to
 Dismiss the petition
 Issue interim orders
 Issue an order for compulsory winding up
 Adjourn the hearing either conditionally or unconditionally.

When the compulsory winding up order is issued it has the following

consequences/effects
 The administrator or official receiver becomes provisional liquidator
 The company will seize to carry all its business except where it is
necessary for the benefits of winding up
 Any disposal of the company’s property without liquidator’s permission is void.
 Any transfer of shares or alteration of membership is void.
 Any legal proceedings or cases either for or against the company are halted
 All the servants and employees of the company are automatically dismissed.
 Directors powers will cease and will be exercised by the liquidator.

LIQUIDATOR

This refers to an insolvency practitioner who is appointed to carry out and

supervise winding up of the company.
For a person to be appointed as an insolvency practitioner he must
have the following qualifications
 Must hold an academic degree from a recognized university.
 5 years experience (minimum) as a professional and a member of professional

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body.
 Minimum of 2 years experience in insolvency practice.
 Minimum of 4 years experience as an apprentice/understudy under an insolvency
practitioner.
 Fulfill the requirements of chapter six of the constitution.

The following category of persons can be appointed as liquidator

 Official receiver or administrator of a company.

 Supervisor of voluntary arrangement of a company
 A provisional liquidator
 An existing liquidator

Disqualification from acting as an insolvency practitioner

 A person declared bankrupt by the court

 An insane person
 A person incapable of performing due to physical incapacitation.
 A person disqualified by the court order

Legal position of a liquidator

Where a liquidator is appointed by the court then his position can be explained as
follows
 The liquidator will be an officer of the court
 The liquidator is an agent of the company
 The liquidator is a trustee of all the creditors
 Liquidator is a fiduciary. Therefore he is required to always act honestly and in
good faith

DUTIES AND OBLIGATIONS OF THE LIQUIDATOR

 Realize the assets of the company

 Secure control of the assets of the company
 Ascertain and pay the company’s debts.
 Keep proper books of accounts

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 Convene meetings of members and creditors

 Always act for the benefit of interested parties
 Avoid conflict of interest
 Exercise a high degree of care and skills
 Always act honestly and impartially

POWERS OF THE LIQUIDATOR

This can be classified into two categories

(a) Powers exercisable with sanctions of the court

 To bring or defend a legal action on behalf of the company.

 Carry on the business of the company for the benefits of winding up.
 Appoint an advocate to assist in performance of duties.
 To pay in full all the classes of creditors.
 To make any compromise or arrangements with the creditors.
 To make a call on amount unpaid on shares.

(b) Powers exercisable without the sanctions of the court

 To sell the assets of the company.

 To draw, accept or endorse a negotiable instrument.
 To prove, rank and make a claim from a contributory who is insolvent or bankrupt.
 Make a claim from the administrators of a deceased contributory.
 Raise money on the security of company’s assets.
 Employ agents to perform the tasks that he cannot perform.
 To do all such acts and execute deeds on behalf of the company.

DISCHARGE/RELEASE OF THE LIQUIDATOR

Once the liquidator has realized the assets of the company, paid all the debts
and has distributed the surplus then he can make an application to the court to
be released from his obligations.
The court will require the liquidator to prepare a final report and if there is no
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objection from the creditors then he will be released by the court.

Such a release also releases the liquidator from any liability or acts that came
out of the liquidation process.

Committee of inspection

This is a group of creditors who are appointed to work with the liquidator during
the liquidation process.
Their main duty is to supervise the work of the liquidator and to fix his remuneration.

VOLUNTARY WINDING UP

This is a form of winding up that is initiated and controlled either by members

or by creditors without involvement of the court.
It commences when a special resolution is passed to wind up the company voluntarily.

Types of voluntary winding up

(a) members’ voluntary winding up

This is winding up that is initiated and controlled by the members.

It can only be done when the company is solvent and therefore before it
commences the directors are required to make a declaration of solvency.

This is a statutory declaration by the directors of the company to the effect

that they have made inquiry into the company’s affairs and they have
concluded that the company is able to pay all its debts within a period of 12
months after commencement of winding up.

Declaration of solvency is invalid unless

 It is made five weeks before commencement of winding up

 It contains a statement of assets and liabilities as at the last date of the account.

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 A copy is filed with the registrar before commencement of winding up.

Process of members voluntary winding up

a. A general meeting is convened where members pass a special resolution

to wind up the company voluntarily. In the same meeting a liquidator is
appointed.
b. A declaration of solvency is made by the directors.
c. The liquidator commences his work immediately .Where at any time the
liquidator realizes that the company cannot pay its debts within the
required period then the liquidator should
1. Notify the registrar
2. Provide a statement of assets and liabilities to the creditors
d. Where the liquidation is done beyond 12 months the liquidator at the end
of each year is required to prepare a report, convene a general meeting of
members and present the report.
e. When all the affairs of the company have been fully wound up the
liquidator should prepare a final report, call a final general meeting and
present the final report for approval.
f. If the report is approved by the members a copy should be filed with the
registrar with an application for dissolution of the company.
g. The registrar will then dissolve the company and remove its name from
the register of companies.

CREDITORS VOLUNTARY WINDING UP

This winding up is initiated by the creditors of the company especially where
the company is insolvent.
Procedure

(i) Two separate general meetings are convened simultaneously for the
members and creditors .The agenda of the meeting are as follows
-Members meeting
 Pass a resolution to wind up the company voluntarily Propose a
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liquidator
 Appoint members of the committee of inspection. Creditors meeting
 Receive a statement of affairs from the directors of the company Appoint
a liquidator
 Appoint members of committee of inspection
(ii) Where both members and creditors agree on the liquidator then he will
commence his work .If they disagree then the one appointed by the
creditors will become the liquidator.
(iii) if the winding up continues for more than one year then at the end of
each year the liquidator will be preparing a report and convene a general
meeting of both members and creditors and present the report.
(iv) When all the affairs of the company are wound up then the liquidator will prepare a
final report, convene a final general meeting and lay the report for approval.
(v) If the report is approved then a copy will be sent to the registrar together
with an application for the dissolution of the company.
(vi) The registrar will dissolve the company and remove the name from the register of
companies.

Differences between compulsory winding up and voluntary winding up

Compulsory winding up Voluntary winding up

Controlled by the court Controlled by members or creditors

Commences when a petition is filed in Commences when a special resolution is
the court by the various parties. passed to wound up the company
The liquidator is appointed by the court Liquidator appointed by members or creditors
Liquidator is the officer of the court Liquidator not the officer of the court
When court order is issued all the When the resolution is passed employees
employees are dismissed continue with their employment
When the court order is issued all the When a resolution is passed all the existing
cases for or against the company are cases will continue
altered
When court order is issued the official When a resolution is passed the receiver does
receiver /administrator becomes the not became automatic provisional liquidator
provisional liquidator

(iii) Winding up under the supervision of the court

This is the form of winding up which usually begins as a voluntary winding up but after

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sometime disagreements may arise forcing the members and creditors to seek the
court’s intervention.
When the case comes up to the court the court will issue orders for the winding up to
continue under the supervision of the court thereby converting it to compulsory
winding up.
The court may add another liquidator if there is need. otherwise the existing liquidator
will become an officer of the court as if he had been appointed by the court.
Differences between winding up and receivership

Liquidation /winding up Receivership

Carried out by the liquidator Carried out by the receiver/administrator

It affects legal existence of the company Does not affect legal existence of the
company
Liquidator can be appointed by the Receiver can be appointed by the creditors or
court, members or the creditors the directors
The company stops to carry on its The company will continue with its business
business
The objective is to realize the assets ,pay The objective is to maintain a company as a
debts and close down the company going concern that can be able to settle its
debts
Liquidator can investigate the affairs of Receiver cannot investigate the affairs of the
the company and hold the directors company
accountable for its failure
Directors power will cease to exist and Directors can continue to hold their office but
will be exercised by the liquidation exercise of power is limited

Liquidation of unregistered companies

Under the companies act of 2015 unregistered company include any association and
any company other than a company registered under the companies act.
A registered company and the provisions relating to liquidation of a registered
company will also apply to unregistered company.
However unregistered company cannot be liquidated voluntary but compulsory
under any of the following circumstances

 If the company has been dissolved or it has ceased to carry on its business.

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 If the company is unable to pay its debts

 If the court is of the opinion that it is just and equitable for the company to be
liquidated
NB: for a company that has been incorporated outside Kenya and which has
been carrying out its business in Kenya then it can be liquidated as
unregistered company.
TRANSACTION ARISING OUT OF LIQUIDATION
When liquidator is carrying out his work he is likely to deal with different issues
and transactions some of which are explained as follows

(i) Assets in the possession of creditors

If the creditors had taken over the assets of a company in the course of
executing a judgment for a debt against the company at the commencement of
winding up then the creditor can be compelled by the liquidator to return the
assets back to the company and make a claim for the debt from the liquidaton.

(ii) Disclaimer of assets

A liquidator has statutory right of disclaimer of assets which is governed by the
following rules He must obtain permission from the court
The disclaimer must be done within 12 months period after the commencement of
winding up.
Any person who may suffer some losses due to the disclaimer will become a creditor to
the company and can make the claim with the liquidator.
The right to disclaim the property or the asset is limited to shares ,unprofitable contracts
,land with a lot of burden and encumbrances and other property that is difficult to sell.
(iii) proof of debts
The liquidator does not settle the debts anyhowly whoever makes a claim must
sufficiently provide evidence that the debt exist.
Any debt that is not proved sufficiently will not be paid.

Those debts that are proved will be paid in accordance with the priority of the claims as
follows

(a) All the costs and expenses that are properly incurred in the winding
up process including liquidator remuneration.
(b) the preferential debts will be paid next. This includes
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 All taxes and local rates that are due from the company for not more than one
year.
 All government rent in arrears for not more than one year.
 Wages and salaries payable to the servants of the company up to four months
preceding winding up.
 The amount payable under the NSSF and NHIF Act.
 Any amount payable under the work injury benefit Act.

(c) Secured creditors will be paid next-this refers to creditors whose debts
were secured by the assets of the company.
Secured creditors have a number of options during liquidation process. These options
are
 They can rely on the security and not proof the debt.
 They arise the security and proof the balance with the liquidator.
 You can value the security and proof the balance with the liquidator
 Surrender security to the liquidator and proof all the debts.

(d) unsecured creditors are paid next

This are creditors whose debts are not secured by the assets of the company

(e) Deffered debts

This refers to debts that the company owes to its members in the capacity as
members. For example dividends that were declared but have not been paid at
the time the company went into liquidation
(f) if there is any balance or surplus then it is distributed to the
members as return and dividends.
(iv) avoidance of floating charges
Where a floating charge was created within a period of 12 months before the
commencement of winding up can be avoided by the liquidator unless it is
proved that it was created at a time when the company was solvent.

Offences relating to liquidation

(i) Fraudulent preference

This refers to any action which gives a creditor an undue advantage over the
other creditors by putting the creditor in a position that is better than they

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should be at a time when the company is unable to pay its debts.

(ii) Fraudulent trading
This is where a director or employee of the company allows the company to
continue to carry out its business with an intention of defrauding the creditors
or for any fraudulent purpose.
(iii) misfeasance
This refers to wrongful performance of a normally lawfully duty or action.
Misfeasance proceedings can be brought against a director, a promoter, a
manager, a liquidator or an employee of the company in order to recover any
losses or property belonging to the company.
Examples of misfeasances
- Misuse of company’s assets for personal gain
- Misappropriation of company’s funds
- Abuse of authority and power
- Stealing of company’s assets
- Directors making secret profit
(iv) Concealing any part of the company’s property
(v) Destroying company’s official documents
(vi) Making false entries into the company’s documents
(vii) failure to handover property and documents to the liquidator
(viii) Making false representations to the liquidator
(ix) Deliberately making omissions in the company’s
financial statements
(x) Failure to provide information as may be requested by
the liquidator

DISTRIBUTION OF ASSETS AND DISSOLUTION OF COMPANIES

Order of Distribution of Assets in a Liquidation

Preferential Creditors

First priority claims

These include the costs of the insolvency process until they are fully paid i.e.
1. The liquidator’s remuneration; and
2. Reasonable costs incurred during any court proceedings.

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Second priority claims

After the first priority claims are fully paid, second priority claims may be paid to the
extent they are unpaid. These include the following:
1. Wages and salaries payable to employees of the company.
2. Statutory deductions from employees (e.g. PAYE, NSSF, NHIF).

Third priority claims

These are the taxes payable by the bankrupt such as income tax, customs duty and excise
duty which are unpaid.

Secured Creditors rank ahead of unsecured creditors as follows:

 Fixed charge;
 Floating charge
Unsecured Creditors rank after secured creditors;

Shareholders are last to be paid.

Shareholders are paid the extent of the capital they put in. Preference shareholders may
also benefit from a liquidation preference if this is in the shareholder agreement.

REVISION EXERCISE

QUESTION 1
With respect to corporate insolvency:
i) Highlight three ways in which a liquidator’s power might be terminated
ii) Explain four contents of the official receiver’s report.

QUESTION 2
Sweetwaters Ltd is a private limited company which was incorporated in 1992. The last
annual general meeting (AGM) was held in 2005 and the directors of the company have
refused to convene one. The company is uncontrollable as the directors have become
sworn enemies. Habbakuk Kiprotich, Micah Kimanzi and Obed Kamau have filed a
compulsory winding up petition which has been objected to by John Wanjunji, Luke
Manamba and Peter Nyakach.

Micah Kimanzi and ObedKamau are children of -deceased shareholders while Habakuk
Kiprotich and Peter Nyakach are the only surviving shareholders. Luke Manamba and
John Wanjunji are the legal representatives of their deceased parents.

Advise on the following matters:

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i) The validity of the mode of winding up adopted by the petitioners.

ii) The persons entitled to petition for compulsory winding up.
iii) Whether or not Sweetwaters Ltd will be wound up.

QUESTION 3
Explain four grounds under which a court might deem it just and equitable to wind up a
company.

QUESTION 4
In the context of companies in financial difficulty, distinguish between “winding up” and
“receivership”.

QUESTION 5
Distinguish between creditor’s voluntary winding-up and members voluntary winding-up
of a company.

QUESTION 6
After 30 days of passing the resolution to wind up through a members voluntary winding
up. Begasoft Co. Ltd gave a notice of the resolution by advertisement in the gazette and
also in some newspaper circulating in the region.

Subsequently, the directors of the company prepared a statement of affairs to that effect.

A liquidator was appointed and exercised the following powers with the sanction of the
court:
• Sold moveable and immoveable assets of the company.
• Employed agents to perform tasks that he was unable to perform.
• Appointed an advocate to assist him in the performance of his duties.

He additionally performed the following tasks without sanction or the court:

• Carried on the business of the company for the beneficial winding up.
• Took out letters or administration in his official name on a deceased contributory,
• Compromised all calls, liabilities to calls, debts and other liabilities.
• Raised money on the security of the company's assets.

He finally paid the claims of the creditors.

a) Identify two mistakes that the directors made and state the correct position.
b) Highlight from the above scenario:
i) Three powers that the liquidator could only have performed with the sanction of
the court.

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ii) Three powers that the liquidator could have performed without the sanction of the
court
c) During the winding up process, the liquidator realized that the company could not
pay its debts in full within the stated period.
Explain to the liquidator two things he must do.
d) Describe the duties of the liquidator in conclusion or the winding up.

QUESTION 7
Citing the action which should be taken in each case, describe two circumstances when
the official receiver as a liquidator might apply for early dissolution of a company.

QUESTION 8
Highlight the circumstances under which an unregistered company might be wound up.

QUESTION 9
a) Wamati Company Ltd. is a private company incorporated in the year 2000 with ten
shareholders. The last annual general meeting was held in 2008. The directors have
been unable to call for another annual general meeting as they are not on talking
term's.
Three shareholders have filed a petition for winding up of the company. The petition
has however been objected to by some of the other shareholders.

Citing relevant cases, advise the shareholders on the appropriate method of winding
up the company.

b) Describe the legal effects of an appointment of a receiver by the court in the case of
compulsory winding up.

QUESTION 10
Explain six effects of a winding up order.

QUESTION 11
With reference to the law governing dissolution of companies explain:
i) The circumstances under which a company is deemed unable to pay its debts.
ii) The circumstances under which the commissioner of insurance might petition to
wind up an insurance company.
iii) The grounds upon which a contributory is entitled to process a winding up petition.

QUESTION 12

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A winding up order for Radar Co. Ltd. was made in October 2011 and a liquidator
appointed to wind up the company.

In September 2010, Pesa Bank Ltd. had granted an overdraft facility of Sh.5 million
secured by a legal charge over the company's freehold factory premises.
In April 2011, the company, which was experiencing financial difficulties, requested the
bank to extend the outstanding overdraft of Sh. 1 million, subject to the bank taking a
floating charge over all the assets of the company.

Advise the liquidator on the legality of each of the above two transactions between Radar
Co. Ltd. and Pesa Bank Ltd.

QUESTION 13
Explain the persons who could present a winding up petition to the court.

QUESTION 14
Explain the powers of the liquidator of a company that are exercisable with sanction of
the court.

QUESTION 15
Describe the procedure to be followed in a members' voluntary winding up of a company.

QUESTION 16
Highlight the circumstances under which a company would be wound-up on just
equitable grounds

QUESTION 17
Sand harvesters limited intends to petition for the winding up of Delta Construction
Company Limited. You are requested to advise them on the following matters
i) The procedure for winding up of a company by the courts
ii) The consequences of a winding up order

QUESTION 18
a) Explain the reasons which could lead to dissolution of a company by a court- order.
b) The directors of Carpets limited wish to cease trading and close down the company

Describe the modes of winding up available to the directors.

Explain the circumstances under which a company would be deemed unable to pay
its debts
QUESTION 19

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Explain the procedure to the followed in a member’s voluntary liquidation

QUESTION 20
a) Explain the circumstances under which a company shall be deemed to be unable to
pay its debts as provided for under the insolvency Act.
b) Discuss the powers of a liquidator, which he may exercise with or without the
sanction of the court as provided for under the insolvency Act.

QUESTION 21
Your former class mate, Mrs. Timrninah Seki, is an investor in one of the quoted
companies in the country. There are speculations that the company is in financial distress
and may be wound up.

Advise Mrs. Timrninah Seki on the following issues:

a) The similarities and differences between a transaction at under value and a

preference
b) Two ways in which a company may be voluntarily wound up.
c) The debts which are deemed preferential

QUESTION 22
a) Outline the resolutions which may be passed for voluntary liquidation of a company.
b) State the persons who may petition for the liquidation of a company by the court.
c) Explain the consequences of a voluntary liquidation of a company limited by shares.

QUESTION 23
(a) A court of law has a right to order liquidation of a company.
Explain the grounds for liquidation of a company by the court.

(b) Summarise the procedure to be followed in liquidation of a company by the high

court.

QUESTION 24
Outline the circumstances under which a company may be wound up by the court on just
and equitable grounds.

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TOPIC 16
FOREIGN COMPANIES

These are foreign companies and are in two categories:

 A foreign company having a branch in Kenya

 A foreign company registered in Kenya.
A foreign company shall not carry business in Kenya unless

 It is registered
 It has applied to be so registered and the application has not been dealt with within
the period prescribed for the purposes of this Act.
Carrying on a business in Kenya includes (but is not limited to)

 Offering debentures in Kenya or

 Being a guarantor for debentures offered in Kenya.

PROCESS OF REGISTERING A COMPANY

A foreign company that wishes to be registered as a foreign company shall lodge with the
registrar an application that is in accordance with the Act.
The registrar shall approve the application for registration and register the company by
entering its name and other particulars in the foreign companies register if the application

 Contains the information prescribed by the regulations for the purposes of the Act.
 Demonstrates that at least 30% of the company’s shareholding is held in Kenyan
citizen by birth
 It is accompanied by the prescribed fee ,if any ,and the required documents
 Complies with the requirements of the act with respect to the company’s name and
the appointment of the local representative.

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Documents required to accompany the applications are

1. A certified copy of the current certificate of the foreign company’s incorporation
or registration in its place of origin or a document of similar effect.
2. A certified copy of its constitution
3. A list containing the names of its directors and shareholders and their personal
details
4. If that list includes directors who resides in Kenya are members of a local board of
directors a memorandum that is duly executed by or on behalf of the foreign
company and states the powers of those directors
5. In relation to each existing charge on property of the foreign company that would
be registrable charge if the foreign company were a company formed and
registered under the Act ,the documents that would be required to be lodged for
registration with the registrar under the act.
6. Notice of the address of a registered office or its principal place of business in its
place of origin
7. Notice of the address of its registered office

Information that a foreign registered company should submit with the Registrar
(Dec 2011Q 5A, May 2014 Q 4A)

 The charter or the memorandum of association of the company.

 Information concerning of the principal office in Kenya.
 A list of directors and secretaries and their particulars.
 A list of shareholders including their personal details.
 A certified copy of the certificate of incorporation

Upon delivering the above documents, a foreign company shall have the powers to hold
land in Kenya.

PUBLICATION OF NAME AND OTHER DETAILS OF FOREIGN COMPANIES

Under section 371 of the Companies Act, every foreign company shall cause the name of
the company and of the country in which the company is incorporated to be stated:

1. In every prospectus inviting subscriptions for its shares or debentures in Kenya;

2. On every place where it carries on business in Kenya;

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3. In all bill-heads and letter-heads, and in all notices and other official publications
of the company; and
4. If the liability of the members of the company is limited, cause notice of that fact
to be stated in the places mentioned above

Rules governing stating the Name of a foreign company (DEC 2012,Q 2A)

1. The name and country of incorporation must be exhibited conspicuously in every

premises it carries on business.
2. The name and country of incorporation must be shown on every prospectus issued
by the company.
3. The name, and country of incorporation must be indicated in all business
documents and official publication of the company.
4. If the liability of the company is limited, the fact must be indicated on every
prospectus and business documents.

Consequences of contravening the legal provisions in regard to name of a foreign

company

 The company shall be liable to a default fine. The liability shall be imposed on the
local representatives.
 The company shall be compelled by the registrar to comply.

Circumstances of striking the name of a foreign company from the register

(June 2013 Q 7A)

 When the foreign company ceases to carry on business in Kenya.

 When the company is dissolved or deregistered in the country of origin

Circumstances in which name of registered foreign company can be struck off or

restored to registrar of foreign companies

 Within one month after a registered foreign company has ceased to carry on
business in Kenya
 ,each person who ,on the day when the company’s business in Kenya ceased ,was
a local representative of the company in Kenya shall lodge with the registrar for
registration a notice to that effect.

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 As soon as practicable after receiving a notice the registrar shall strike the foreign
company’s name off the foreign companies register
 If a foreign company’s name is strike off the register the company ceases to be
registered under this act.
 If the foreign company is placed in liquidation in its place of origin –
 Each person who, on the day when the liquidation proceedings began was a local
representative of the company in Kenya shall ,within one month after the day ( or
within that period as extended by the registrar in special circumstances),lodge with
the registrar

Particulars of the prospectus of shares of a foreign company

(June 2011 Q 1B, Dec 2013 Q 4A)
 The instrument constituting or defining the constitution of the company.
 The date on which and place the company was incorporated.
 The enactment (law) under which the incorporation of the company was
incorporated.
 Whether the company has established a place of business in Kenya.
 The shares or securities being offered.
 Management structure of the company.
 Whether the company has received approval from the capital market authority and
Nairobi securities exchange to have its securities floated in Kenya.

PARTICULARS OF DIRECTORS OF FOREIGN COMPANIES

Every foreign company shall state in legible roman letters, the following particulars as
concerns its directors:
 His present Christian name, or the initials thereof, and present surname
 Any former Christian names and surnames; and
 His nationality, if he is not a Kenya citizen

CERTIFICATE OF REGISTRATION AND POWER TO HOLD LAND

Where a foreign company has delivered to the Registrar the documents, the Registrar
shall, if such documents and particulars are so delivered after the appointed day, certify
under his hand that the company has complied with the requirements; and such

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certificate, shall be conclusive evidence that the company is registered as a foreign

company for the purposes of the Companies Act.

Where a foreign company has, after the appointed day, delivered to the Registrar the
documents and particulars mentioned in Section 366, it shall have the same power to hold
land in Kenya as if it were a company incorporated under this Act.

REGISTRATION OF CHARGES

Where a charge is executed by a foreign company out of Kenya comprising property

situate both within and outside Kenya:

 It shall not be necessary to produce to the Registrar the instrument creating the
charge if the prescribed particulars of it and a copy of it, verified in the prescribed
manner, are delivered to the Registrar for registration; and
 The time within which such particulars and copy are to be delivered to the
Registrar shall be 60 days after the date of execution of the charge by the company
or, in the case of a deposit of title deeds, the date of the deposit

ACCOUNTS OF FOREIGN COMPANIES

Under section 370 of the Companies Act, every foreign company shall, make out a
balance sheet and profit and loss account and, if the company is a Holding Company,
group accounts.

The foreign company will be required to make the accounts out and lay them before the
company in a General Meeting, and deliver copies of those documents to the Registrar
for registration.

However, a foreign company shall not be obliged to comply with the provisions of
section 370 if:

1. It was incorporated in the Commonwealth; and

2. It would, had it been incorporated in Kenya, have been exempt from these
provisions; and

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 COMPANY LAW STUDY NOTES

3. In every calendar year there is delivered to the Registrar for registration a

certificate signed by a Director and the Secretary of the company verifying the
conditions requisite for such exemption.

If the accounts are not written in the English language there shall be annexed thereto a
certified translation thereof.

SERVICE OF PROCESS AND NOTICES ON FOREIGN COMPANY

Any process or notice required to be served on a foreign company shall be sufficiently if

addressed to any person whose name has been delivered to the registrar.

Any process or notice can be sent by registered post to the address which has been
delivered to the registrar if:

The company makes default in delivering to the registrar the name and address of a
person residing in Kenya who is authorized to be served on behalf the company

If the persons whose names and addresses have been so delivered are dead or have ceased
to reside in Kenya or have refused to accept service on behalf of the company or for any
reason cannot be served.

RETURNS OF FOREIGN COMPANY

Foreign company are supposed to make the following returns:

 Any alteration to charter, statutes or memorandum and articles of association of

foreign company
 Alteration to the list of directors or secretary of a foreign company or the
particulars contained in the list of the directors and secretary
 Alteration in the names or postal addresses of the persons authorized to accept
service on behalf of a foreign company
 Alteration of the address of the registered or principal office of a foreign company

Additionally, the company is also meant to make a return to the Registrar within 30 days
if:

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 COMPANY LAW STUDY NOTES

 A winding-up order is made in the company’s country of incorporation; or

 Proceedings substantially similar to a voluntary winding up of the company are
commenced in the country in which such company was incorporated

APPLICABLE PENALTIES

Under Section 374, if any foreign company fails to comply with any of the foregoing
provisions of this Part, the company and every officer or agent of the company who
knowingly and wilfully authorizes or permits the default shall be liable to a fine not
exceeding KShs. 1,000 or, in the case of a continuing offence, KShs 100 for every day
during which the default continues.

CESSATION OF BUSINESS OF FOREIGN COMPANY

If any foreign company ceases to have a place of business in Kenya, it is required to

notify the registrar who removes the name of the company from the register and the
company ceases to have business in Kenya.

The registrar has reasonable cause to believe that a foreign company has ceased to have a
place of business in Kenya, he may send by registered post to the person authorized to
accept service on behalf of the company

If the registrar receives an answer to the effect that the company has ceased to have a
place of business in Kenya or does not within three months receive any reply, he may
strike the name of the company off the register.

Winding up of Foreign Companies

Any foreign company which has carried on business in Kenya is and is unregistered
within section 357 may be wound up by a Court under section 359 if it ceases to carry on
business in Kenya.

A foreign company may also be wound up by the court under section 358 if:
 It is dissolved or has ceased to exist or is carrying on business only for the purpose
of winding up its affairs, or
 It is unable to pay its debts, or
 The court is of the opinion that it is just and equitable that the company should be
wound up

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 COMPANY LAW STUDY NOTES

REVISION QUESTION

QUESTION 1
(c) Explain three matters that a foreign company’s certificate of registration must comply
with.
(d) Outline two liabilities of a local representative appointed by a foreign company.

QUESTION 2
Basil Peters, a Canadian National intends to register a branch office in Nairobi. The head
office will be based in Canada. The company once established will carry out Biometric
research and does not intend to declare profits. All proceeds of trading will be used for
further research. The company is proposed to be a small scale company with about ten
specialist researchers. The company once registered hopes to raise shillings sixty million
over a two year period from a selected group of 9 investors to meet the company’s
research needs.

Advise Basil Peters on the following:

(i) The type of company- that would be suitable to set up and why.
(ii) The documents required to accompany the application for registering the foreign
company.

QUESTION 3
i. Discuss the legal obligations of a foreign company with respect to stating its name.
ii. State two consequences of contravening the legal provisions discussed in (a) (i) above

QUESTION 4
Discuss the information that a foreign registered company should disclose to the registrar

QUESTION 5
Outline the particulars of a prospectus of a foreign company.

QUESTION 6
In relation to companies incorporated outside Kenya, describe the circumstances that
would prompt the registrar of companies to strike off the name of a foreign company
from the register.

QUESTION 7
Explain the legal provisions relating to the display of the name of a foreign company
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 COMPANY LAW STUDY NOTES

QUESTION 8
Maridadi Company Limited was incorporated in the United States of America. The
directors wish to open a branch in another country and seek your legal advice on the
documents and particulars required to be delivered to .the registrar of companies for the
registration to be effected.

Advise the directors

QUESTION 9
i) Identify two types of foreign companies recognized under the companies Act
ii) Outline the legal provisions which govern the issues of a prospectus for subscription
of shares of a foreign company.

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