A recent High Court case has illustrated the risks incurred by shareholders who fail to understand or adhere to the provisions of their company’s constitution, according to a Corporate Lawyer.

“It is possible for a company’s articles of association to be amended by informal unanimous agreement of the shareholders, which can be inferred from conduct”, says Philip Round, a Corporate Partner based at George Green’s Wolverhampton office.  “A recent judgment has demonstrated that where, over a period of time, shareholders have acted in a manner inconsistent with the restrictions in a company’s articles, there is a real risk that they will be prevented from enforcing those restrictions at a later date.”

Mr Round continues, “in the case of The Sherlock Holmes International Society Ltd v Aidiniantz, a family owned company’s articles stipulated that only persons who were members of the company were eligible to hold office as directors.  Various directors were, however, appointed over time, including several non-members. One of the members presented a petition to wind up the company on the ground of insolvency, and a winding up order was made.  When the company was granted permission to appeal the winding up order, the relevant member applied for a declaration that the company had not authorised the appeal and that it should therefore be dismissed”. 

According to Mr Round, the member argued, amongst other things, that the sole director who authorised the appeal was not a member and not therefore qualified to be a director.  “The company contended that the articles had been amended through an informal agreement, to be inferred from the members’ conduct, to permit the appointment of any person as a director,” says Mr Round.  “The High Court concluded that, according to the most natural interpretation of the shareholders’ conduct, they had intended all of the relevant individuals to qualify indefinitely for appointment as directors, and that their appointments were not one-off exceptions.  The articles had therefore been amended to allow non-members to join the board.  The appeal against the winding up order was dismissed, however, because under the articles the directors were subject to retirement by rotation and the sole director who had purported to approve the appeal was deemed to have retired prior to passing such resolution.”

Mr Round concludes, “the case is a useful reminder that shareholders should be familiar with and fully understand their company’s constitution. They cannot expect to act repeatedly in a manner inconsistent with its terms and subsequently seek to uphold those terms.  If the articles are unsuited to the way in which the company is managed in practice, we strongly recommend that the articles are updated rather than simply being ignored”.