What exactly is a Constitution and is it mandatory for a company to adopt one? In this article, we explore what a Constitution is and its purpose in adopting it.
What is a Company Constitution?
The Constitution of the company is a tri-partite agreement between the company, its shareholders and directors. The affairs of a company must be managed by the Board of Directors, subject to any modification, exception or limitation contained in the Companies Act or the Constitution.
Previously known as the Articles and Memorandum of Association, the Constitution is a legal document that sets out the objects and powers of a company and governs the internal affairs and management of the company.
The Constitution acts as a contract that binds the company, its shareholders and the directors, and may contain covenants and procedures with which these 3 parties would have to comply. In effect, the Constitution has a wider and more binding legal effect than a Shareholders’ Agreement (which may not bind the directors who are not parties to the agreement). As such, it would be advisable to incorporate the terms and conditions of the Shareholders’ Agreements (if any) into the provisions/ clauses of the Company’s Constitution.
The company’s constitution must be carefully considered during the registration of a new company. It can be used to entrench or restrict rights. A constitution may be created during the time of incorporation or any time thereafter . It is best to be adopted in cases where there are more than one shareholder and or director. The constitution binds even future shareholders.
When a new constitution is adopted or a change to the existing constitution is made, a special resolution of the members of the company must be passed for the changes to be approved and to take effect.
The Companies Act, 2016 sets out certain procedures which allows for the alteration and amendment of a Constitution by the Company. Section 36(1) of the Companies Act, 2016 stipulates that an alteration of a Constitution can be done by way of a passing of a special resolution which requires a majority votes of 75% of the shareholders who are entitled to vote.
However, any alteration to the Constitution may also be subjected to certain restrictions (e.g. if a provision under the Constitution expressly prohibits it to be altered) and should only be done if it is beneficial to the company.
Is a Constitution mandatory?
Under the current Companies Act 2016, it is no longer mandatory for a company to have a Constitution. Simply put, if a company does not have a Constitution, the entire provisions of the Companies Act 2016 would then apply to the company and would act as a “default” Constitution. That would mean that the rights, powers, duties and obligations of the directors and shareholders would be governed by the Companies Act, 2016.
What provisions should be included in your Constitution?
Your Company’s Constitution should be drafted depending on your company’s specific situation and needs.
Generally, a Constitution will include information relating to the type of company, shares, share certificates, transfers of shares, dividends, meetings of the members of the board of directors, voting rights during meetings, how directors are to be remunerated, official company documents, conflicts of interests, powers and responsibilities of directors, powers and responsibilities of the company secretary, indemnities, and shareholders’ loans.
A Constitution can take into account the needs of different individuals that are deemed to have a relationship with the Company. For example, the founder of the company would want to include clauses relating to ownership, control and if necessary, any exit provisions. If the company wishes to issue different classes of shares, they will need to include this in the Constitution, including clauses stating the preferential rights of the different classes of investors. They may also want to include clauses on employee share option schemes and other related clauses.
Why is it important to have a Constitution?
A company constitution provides important information to the company, its shareholders, its directors, and its company secretary.
A company constitution is created to suit the operations of the company. This means that a company constitution will grant the company’s founders greater flexibility and certainty in the running of the company. The founders will have more control as the company develops over time.
A constitution may also be used to avoid an imbalance of power between the founders and shareholders, or between directors and management. Such imbalances occur when there is inequality in the level of control exerted by the individuals / parties involved. For example, through proper wording of the company constitution, shareholders can be empowered to instruct or even veto decisions made by the directors of the company.
Certain provisions are only allowed if the constitution of the company permits them to be carried out. These provisions are not available to a company that does not have a constitution. Such provisions might relate to the company’s purchase and holding of its shares as well as the division and location of the share register.
If the Companies Act 2016 is silent in respect of a certain matter / decision / process, provisions can be added to the company constitution to fill in the gaps, thus giving more flexibility in running the Company .
Though no longer mandatory, a company is still encouraged to adopt a constitution as part of good governance.
The exercise of adopting the constitution is important so that you can meet the specific needs of the Company at present, or to anticipate any future changes or challenges, to regularize any inconsistencies and to incorporate any shareholders’ agreement that may have been entered into. Directors and shareholders will have one less problem to worry about when matters relating to the company and its regulations are set out clearly in a consolidated document which may be altered according to the best interests of the company. A constitution offers clarity on the duties and responsibilities of the directors and ensures consistency in the decision-making process.
We have assisted many of our customers in preparing the Company’s Constitution and you may contact us should you require any assistance.
Disclaimer: The information provided in this article is for general reference only. Please seek advice from a company secretary, lawyers or other professionals according to your business’s needs.