Company Law: How do the courts interpret the articles of association?

A common problem with the articles of association is the addition of poorly drafted precedents with unambiguous terms. The court is often asked to make judgments on such provisions and to interpret the true meaning of the words used. To instigate the process of establishing the intention of the parties, it is important to consider firstly the articles in terms of their contractual obligations.

Are the articles of association a legal contract?

The principles of constructing the articles of association where clearly established in Cosmetic Warriors Ltd v Gerrie [2017] EWCA Civ 324. The articles are a statutory contract between the members, and between each member and the company.

How does the court interpret contractual terms?

The courts generally interpret the articles of association and apply the same principles in the same way as any written contract. The caselaw around the interpretation of contracts is extensive and has been tested at the highest levels.

Arnold v Britton [2015] UKSC 36

The first concern of the court when interpreting the company article is to establish the intention of the parties based on what a reasonable person would understand the language used in the articles to mean, having all the background knowledge that would have been available to the parties.

The relevant words and the documentary, factual and commercial contexts are assessed based on the following four principles (adapted from Arnold v Britton [2015] UKSC 36):

o the natural and ordinary meaning of the articles of association,
o any other relevant provisions of the articles,
o the overall purpose of the articles,
o the facts and circumstances known or assumed by the parties at the time that the articles were executed, and commercial common sense, but disregarding subjective evidence of any party's intentions.

Interpretation: The differences between private contracts and the company articles of association.

Although the court acknowledges the articles are a legal contract and the interpretation ought to follow that of any private contract, there are two substantial differences in the approach taken:

1. There is no formal agreement required of all the members. New shareholders are bound by the existing articles registered at company’s house.

2. The articles of association are a public document, readily available for inspection by any individual. Therefore, the court will expect the articles to be easily understood by new shareholders willing to buy into the company, or any third party who may want to have dealings with the company.

Limitation on admissible background and construction

As the articles of association are registered and available publicly, the admissible background for the purposes of construction is limited to what the reader would reasonably be supposed to know. Extrinsic facts known only to the founding directors and shareholders must be excluded.

Belize Telecom Limited (BTL) - Implied Terms

However, in certain limited cases, the courts may imply terms into the articles, as seen in the case of Attorney General of Belize v Belize Telecom Limited [2009] UKPC 10. A company (BTL) was formed to take over a government public body, namely the Belize Telecommunications Authority, in order for the government to instigate a sale of its financial interests.

The share structure awarded the Belize government a range of special rights to protect their interests; in particular, enhanced powers to appoint and remove directors. The powers to appoint two special directors to the board were vested in the C class shares.

Eventually BTL acquired the shareholdings with the C class shares with the attached special rights together with most of the issued ordinary shares. BTL then used the ordinary shares, which equated to around 60% of the issued share capital as collateral, to secure the finance to purchase the government’s holdings.

BTL Default

Within less than a year, BTL defaulted on the financial agreement, so the Belize government took back the 60% ordinary shareholding, leaving BTL with the C class shares and the ordinary shares amounting to remaining the 40% of the issued share capital.

The question then arose: should the two directors appointed to the board by BTL, by virtue of holding the C shares, remain members of the board? The only person with powers to remove or appoint them is the holder of the C shares – the resulting default and seizure meant no person existed.

The articles of association had no express provisions and therefore BTL suggested the directors could not be removed from the board until they chose to resign or fell foul of the standard provisions for removal, such as becoming bankrupt or being found to be of unsound mind.

Intention of the Parties

The Belize government suggested this outcome was absurd. It should be noted the courts will not improve the articles of association to make them fairer. Their role is focused on asserting the true meaning of the articles based on what a reasonable person would understand them to mean, given they had the same background knowledge. This is commonly referred to as the intention of the parties.

The limitation of information

In Cosmetic Warriors Ltd v Gerrie [2017] EWCA Civ 324, the scope of information to establish the intention of the articles was limited to what third parties could garner from the public domain:

a) that the company was small,
b) only one class of shares was issued,
c) the identity of the shareholders,
d) at any one time there had only been a small number of shareholders.

Attorney General of Belize v Belize Telecom Limited – Implied Terms Allowed

The court ruled the two BTL directors should be removed based upon the extrinsic evidence available:
• the limited scope of the internal information available,
• that everyone in Belize was given the articles of association to read,
• and that the telecommunications had been a state monopoly and was being privatised.

Commercial Common Sense

In other words: read alone, the BTL articles would not allow the removal of the directors. However, allowing for the external evidence concerning BTL, commercial common sense must prevail. To any reasonable person in Belize, it would be absurd to allow the directors positions to stand.

If you would like more information on drafting and amending the articles of association for charitable companies, Richard is running a webinar on the 26 of November 2021 in association with MBL seminars. It is aimed at trustees, solicitors, accountants, and practitioners who advise companies in the charity sector. Richard is the author of Articles of Association for Charities and Not for Profit Organisations: Guidance and Precedents, and Law and Regulation of Community Interest Companies, Articles of Association: Guidance and Precedents

Richard C. Bishop

Written by Richard C. Bishop

Richard is lecturer in finance at Leeds Beckett University teaching in the Centre for Tourism and Hospitality Management. Prior to working at Leeds Beckett, Richard taught marketing and business strategy at Wolverhampton University, specializing in delivering CIM modules and lead the financial service degree program at Coventry University College.

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