Application of the Duomatic principle
In the recent case of Randhawa & Ors v Turpin & Anor, the High Court analysed the question whether, under the Duomatic principle, a company’s articles of association could effectively be amended by the holders of 75% of its share capital.
An administrator was appointed for BW Estates Limited (BWEL) by BWEL's sole de jure director, Mr David Williams (D). At this time, D held 75% of BWEL's share capital on trust for his father (R), with the remaining 25% being held by an Isle of Man registered company (IoM Co). IoM Co was dissolved prior to BWEL's admission into administration and it is understood that R was its beneficial owner.
BWEL's articles of association (the Articles) provided that the quorum for board meetings was two and that where one director was in office that director's only power was to appoint another director.
The applicants in the case were creditors of BWEL. They sought to challenge the costs which BWEL had paid to the administrator by claiming that the administrator's appointment was invalid. Their argument was that, under the Articles, D as a sole director only had the power to appoint another director.
D sought to defend this claim by asserting that the quorum provisions in the Articles had been effectively changed by a constant course of conduct where D, as the legal owner of 75% of BWEL's share capital, and R, as the beneficial owner of that share capital, had allowed a sole director to exercise the powers usually afforded to a quorate board.
Referring to the precedent of Re Duomatic Ltd, the High Court noted that where it can be shown that all shareholders with a right to vote have informally agreed on a matter, that such unanimous agreement is as binding as unanimous agreement declared by way of a formal shareholders' resolution (the Duomatic principle).
The High Court held that under the Duomatic principle, the Articles had effectively been amended by the holders of 75% of BWEL's share capital. In particular it was held that:
- the assent of IoM Co as the holder of the remaining 25% of the shares was not necessary as IoM Co was incapable of exercising those votes (by virtue of having been dissolved); and
- even if it were necessary to obtain the consent of IoM Co, the fact that R was the beneficial owner of IoM Co and had informally assented to the amendment to the Articles was sufficient in itself to trigger the Duomatic principle.
Records of decision making
The case highlights the importance of retaining a record of decisions which have been made by the board and shareholders, even in the smallest of companies.
Where a company pursues an action requiring shareholder approval and the shareholders informally sanction, or stand by to allow that action taking place, that company may find itself unwittingly making fundamental changes to its constitution and powers. The uncertainty created by this can leave certain actions of the company then open to challenge by creditors and disgruntled shareholders.
This uncertainty may also create an impression that the company has been poorly managed and that its officers are ignorant of their legal obligations. Ultimately this can ring alarm bells for commercial lenders and contractors and is likely to adversely affect shareholders' negotiating position when making an exit.
Appointment of administrators
Further, when appointing an administrator out of court (as occurred here) it is important to get it right the first time. The rules and authorities which govern this area are strict and challenges to an administrator's appointment can prove costly.
If directors wish to put a company into administration, they must comply with the company's articles (as this case highlights). Directors must also correctly give notice of an administration in accordance with the rules, as failure to do so can render appointments invalid.
If an appointment is subsequently rendered invalid, actions carried out by an administrator whilst in office have no legal standing and the Court may order the appointer to indemnify the appointee for any resulting liability. The Court may be willing to make a retrospective appointment, however this is not always the case and this method should not be relied upon.