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Chapter 1 - Nature and classification of companies

Definition of the term Company
The word ‘Company’ has no strict technical or legal meaning;
Section 3 of the Companies Act 2015 defines a company as, “company" means a company formed and
registered under this Act or an existing company.
In common law, a company is a ‘legal person’ or ‘legal entity’ separate from, and capable of surviving
beyond the lives of its members. Like any juristic person a company is legally an entity apart from its
members, capable of rights and duties of its own, and endowed with the potential of perpetual succession.
However, ‘a company’ is not merely a legal institution; it is also a legal device for the attainment of any
social or economic end, and to a large extent has public and social responsibility.
The concept of a business corporation emerged during the mercantile era mainly for two reasons:
1) Need for large scale investment consistent with market demand as a result of which, traders were
in dire need of a commercial device that could facilitate the raising of capital on a large scale
2) Need to limit liability of investors
Members contribute money or money’s worth to a common stock. The money is put together by the
members and is employed to a common purpose.
Under the Kenyan law, companies are only one of the various forms of recognized business associations.
Company Law
This is the study of the rules & principles which regulate the operation of what Kenyan law recognizes as
a company
Sources of Company law
1) Companies Act 2015
It is an Act of Kenyan legislature and it came into operation in 2015. The New Act has drawn heavily on
the Companies Act, 2006 of the United Kingdom. At 1,026 sections running to over 1,600 pages (without
schedules) the New Act is by far the most extensive piece of legislation on the statute books in Kenya.
By comparison, the old Companies Act (Cap 486) had 406 sections covering 270 pages (which included
a regime for corporate insolvency).
2) Common Law and Doctrines of Equity
Common law is a term that may refer to the English system of law as a whole when being contrasted
with alternative systems of law. It can also be used to refer to the rules of law which evolved over the
years within the English jurisdiction through decisions by judges in court cases (judicial precedent)
Doctrines of equity are principles of justice and fairness which also evolved over the years within the
English jurisdiction. They apply to company law in the same way as they apply to any other legal matter
in the country.
Common law and doctrines of equity apply to Kenya by virtue of the section 3 of the Judicature Act Cap
8 Laws of Kenya
3) Precedents
These are judicial decisions made by the superior courts in Kenya and are binding on subordinate courts
and the High court as well as the Court of Appeal when they originate from the Supreme Court.
To the extent that the decisions of superior courts relate to interpretation of company law, they guide the
subordinate courts.
Types of Companies
Chartered Companies
This relates to companies granted a charter or letter of patent by the crown under the royal prerogative or
special statutory powers. Such a charter normally confers corporate personality. For example the British
East African Company - This Company was formed and chartered to a group of enterprising English men
who later colonized East Africa in order to do business here.
Today, an ordinary trading concern would not contemplate trying to obtain a royal charter, for
incorporation since incorporation under Companies Act would be far quicker and cheaper. In practice
however, this method of incorporation is used by organizations formed for charitable or quasi-charitable
objects such as learned and artistic societies, schools and colleges.
For example, Private Universities are chartered corporations under the Universities Act, Chapter 210
Laws of Kenya. To establish a private university, an application must be made to the Commission for
Higher Education which forwards the same to the Cabinet Secretary for Education who in turn forwards
the same to the President for the grant of a charter. The Charter must set out the name, membership,
powers and functions of the University. Under Section 14 of the Universities Act, a private University
becomes a legal person when the charter is published in the Kenya Gazette.
Statutory Companies
Some companies are formed through some specific act of parliament. The aim of this is to confer them
with the power they would not have if they were formed by registration under the Companies Act. The
characteristics of these companies are:
No shareholders
Initial capital provided by the treasury
It is expected to operate according to commercial principles and make profit
If it makes profits and becomes unable to pay debts, its property can be attached by its creditors but it
cannot be wound up, on the application of any creditor and the government can come to its aid
Their functions are carried out by public boards and corporations set up by Acts of parliament. They
include, the Agricultural Finance Corporation, Kenya Railways etc.
Statutory companies have the status of legal persons and exist as corporations only for the particular
purpose, for which they are incorporated; therefore, the objects of such corporations are set out in the Act
creating them. Thus a statutory corporation may carry out only those functions for which it was created.
With regard to winding-up, it differs significantly from winding up of a limited liability company. If it
makes losses, and is unable to pay its debt, its property is liable to execution, but it is not liable to be
wound up on being sued by any creditor. It can only be wound up on the repeal or revocation of the
specific Act which created it.
Registered Companies
In order for a company to operate in Kenya it must be registered under the Companies Act. Section 3 of
the Companies Act defines a company as a company registered and formed under this Act. A registered
company is formed by registration at the Registrar’s office.
Corporations Sole.
This is a legally established office distinct from the holder and can only be occupied by one person after
which he is succeeded by another. It is a legal person in its own right with limited liability, perpetual
succession, capacity to contract, own property and sue or be sued. E.g. include the Office of the Public
Trustee and the Office of the Principal Secretary to the National Treasury.
Corporations Aggregate
This is a legal entity formed by two or more persons for a lawful purpose and whose membership
consists of at least two persons. It has an independent legal existence with limited liability, capacity to
contract, own property, sue or be sued and perpetual succession. E.g. public and private companies.
Nature and characteristics of Companies
A company is an artificial person. This is a person created through a legal process. It is an abstraction of
law often described as a juristic person. It is a metaphysical entity created in contemplation of the law.
Characteristics of companies
1. Legal personality: A corporation is a legal person distinct and separate from its members and
managers. It has an independent legal personality. It is a body corporate with rights and subject to
obligations as stated in Salomon v. Salomon & Co Ltd (1897
2. Limited liability: The liability of a corporation is limited and as such members cannot be called
upon to contribute to the assets of a corporation beyond a specified sum. In registered companies
liability of members is limited by shares or guarantee.
3. Owning of property: as a legal person a corporation has the capacity to own property. Such right
is vested in the corporation. The property of a corporation belongs to it and not to the members.
The corporation alone has an insurable interest in such property and can therefore insure it as was
the case in Macaura v. Northern Assurance Co Ltd (1925).
4. Sue or be sued: Since a corporation is a legal person, with rights and subject to obligations, it has
the capacity to enforce its rights by action and it may be sued on its obligations e.g. when a wrong
is done to a company, the company is the prima facie plaintiff as was the case in Foss v
5. Capacity to contract: A corporation has capacity to enter into contracts in furtherance of their
objects and purposes. These could be contracts of employment or to promote the purposes for
which they were created as was the case in Lee v. Lees Air farming Co. Ltd (1961
6. Perpetual Succession: Since a corporation is created by law, its life lies in the intendment of law.
It has capacity to exist in perpetuity. Its existence can only be brought to an end through a legal
process. For example, the death of directors or members of a company cannot determine a
company’s life. It can only be brought to an end through the legal process of winding up.
7. Common seal: all corporations have common seals to authenticate their transactions.
Classification of Companies
Section 5 of the Companies Act identifies a company as a limited company if it is a company limited by
shares or by guarantee.
Section 6 provides that a company is a company limited by shares if the liability of its members is
limited by the company's articles to any amount unpaid on the shares held by the members.
Section 7 provides that a company is a company limited by guarantee ifa) it does not have a share capital;
b) 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
c) its certificate of incorporate states that it is a company limited by guarantee.
Section 8 provides that a company is an unlimited company ifa) there is no limit on the liability of its members; and
b) its certificate of incorporation states that the liability of its members is unlimited.
Section 9 provides that a company is private if:
a) its articlesi.
restrict a member's right to transfer shares;
limit the number of members to fifty; and
prohibit invitations to the public to subscribe for shares or debentures of the company;
b) it is not a company limited by guarantee; and
c) its certificate of incorporation states that it is a private company.
Section 10 provides that a company is a public company ifa) its articles allow its members the right to transfer their shares in the company;
b) its articles do not prohibit invitations to the public to subscribe for shares or debentures of the
company ; and
c) its certificate of incorporation states that it is a public company.
Principles of Legal Personality and Veil of Incorporation
Legal Personality
This principle is to the effect that when a company is registered it becomes a legal person separate and
distinct from its members and managers. It acquires an independent existence with certain capacities and
subject to incapacities. This principle was first formulated in the House of Lords in the matter of
Salomon v. Salomon [1897] where Lord Macnaghten was emphatic that the company is at law a
different person altogether from the subscribers to the memorandum.
Salomon was a prosperous leather merchant. He sold his business to Salomon and Co. Limited which he
formed for the purpose at the price of £39,000 satisfied by £1000 in cash, £10,000 in debentures
conferring a charge on the company’s assets and £20,000 in fully paid up £1 shares. Salomon was both a
creditor because he held a debenture and also a shareholder because he held shares in the company.
Seven shares were then subscribed for in cash by Salomon, his wife and daughter and each of his 4 sons.
Salomon therefore had 20,101 shares in the company and each member of the family had 1 share as
Salomon‘s nominees. Within one year of incorporation the company ran into financial problems and
consequently it was wound up. Its assets were not enough to satisfy the debenture holder (Salomon) and
having done so there was nothing left for the unsecured creditors. The court of first instance and the court
of appeal held that the company was a mere sham and that Mr. Salomon should therefore indemnify the
company against its trade loss.
The House of Lords unanimously reversed this decision. In the words of Lord Halsbury “Either the
limited company was a legal entity or it was not. If it was, the business belonged to it and not to
Salomon. If it was not, there was no person and nothing at all and it is impossible to say at the same
time that there is the company and there is not”
In the words of Lord Macnaghten “the company is at a law a different person altogether from the
subscribers and though it may be that after incorporation the business is precisely the same as it was
before, and the same persons are managers, and the same hands receive the profits, the company is
not in law the agent of the subscribers or trustee for them nor are the subscribers as members liable in
any shape or form except to the extent and manner prescribed by the Act. … In order to form a
company limited by shares the Act requires that a Memorandum of Association should be signed by at
least two persons who are each to take one share at least. If those conditions are satisfied, what can it
matter, whether the signatories are relations or strangers. There is nothing in the Act requiring that
the subscribers to the Memorandum should be independent or unconnected or that they or anyone of
them should take a substantial interest in the undertaking or that they should have a mind and will of
their own. When the Memorandum is duly signed and registered the subscribers are a body corporate
capable forthwith of exercising all the functions of an incorporated company.
… The company attains maturity on its birth. There is no period of minority and no interval of
incapacity. A body corporate thus made capable by statutes cannot lose its individuality by issuing the
bulk of its capital to one person whether he be a subscriber to the Memorandum or not.”
This principle is now contained in section 19 of the Companies Act which provides inter alia, “From the
date of incorporation of a company the subscribers to the memorandum, together with such other
persons as may from time to time become members of the company, become a body corporate by the
name stated in the certificate of incorporation…”
The significance of the Salomon decision is threefold.
The decision established the legality of the so called one-man company;
It showed that incorporation was as readily available to the small private partnership and sole
traders as to the large private company.
It also revealed that it is possible for a trader not merely to limit his liability to the money
invested in his enterprise but even to avoid any serious risk to that capital by subscribing for
debentures rather than shares (in addition to shareholding, it is possible for member of a company
to subscribe for its debentures and thus become a creditor.
Since the decision in Salomon’s case the complete separation of the company and its members has never
been doubted. The above legal principle as formulated in Salomon’s case was applied in several cases
subsequently such as:
i. Macaura V. Northern Assurance Co. Ltd (1925)
The Appellant owner of a timber estate assigned the whole of the timber to a company known as Irish
Canadian Sawmills Company Limited for a consideration of £42,000. Payment was effected by the
allotment to the Appellant of 42,000 shares fully paid up in £1 shares in the company. No other shares
were ever issued. The company proceeded with the cutting of the timber. In the course of these
operations, the Appellant lent the company some £19,000. Apart from this the company’s debts were
minimal. The Appellant then insured the timber against fire by policies effected in his own name. Then
the timber was destroyed by fire. The insurance company refused to pay any indemnity to the appellant
on the ground that he had no insurable interest in the timber at the time of effecting the policy.
The courts held that it was clear that the Appellant had no insurable interest in the timber and though he
owned almost all the shares in the company and the company owed him a good deal of money,
nevertheless, neither as creditor or shareholder could he insure the company’s assets.
ii. Lee v Lee’s Air Farming Ltd. (1961)
Lee’s company was formed with capital of £3000 divided into 3000 £1 shares. Of these shares Mr. Lee
held 2,999 and the remaining one share was held by a third party as his nominee. In his capacity as
controlling shareholder, Lee voted himself as company director and Chief Pilot. In the course of his duty
as a pilot he was involved in a crash in which he died. His widow brought an action for compensation
under the Workman’s Compensation Act and in this Act workman was defined as “A person employed
under a contract of service” so the issue was whether Mr. Lee was a workman under the Act. The House
of Lords Held:
“That it was the logical consequence of the decision in Salomon’s case that Lee and the company were
two separate entities capable of entering into contractual relations and the widow was therefore
entitled to compensation.”
The veil of incorporation
The general rule is that a company is a legal person and is distinct from its members. The principle is
regarded as a curtain, a veil, or a shield between the company and its members, thus protecting the latter
from the liability of the former.
Lifting or piercing the veil is company law’s most widely used doctrine to decide when a shareholder or
shareholders will be held liable for obligations of the corporation. Lifting the veil doctrine exists as a
check on the principle that, in general, shareholders should not be held liable for the debts of their
corporation beyond the value of their investment. The corporate veil is said to be lifted when the court
ignores the company and concerns itself directly with the members or the managers.
It can be said “that adherence to the Solomon principle will not be doggedly followed where this would
cause an unjust result”. One of the grounds for lifting of the corporate veil is fraud. The courts have
pierced the corporate veil when they feel that fraud is or could be perpetrated behind the veil. The courts
will not allow the Salomon principal to be used as an engine of fraud. The two classic cases of the fraud
exception are Gilford Motor Company Ltd v. Horne in which Mr. Horne was an ex-employee of The
Gilford motor company and his employment contract provided that he could not solicit the customers of
the company. In order to defeat this, he incorporated a limited company in his wife’s name and solicited
the customers of the company. The company brought an action against him. The Court of appeal was of
the view that “the company was formed as a device, a stratagem, in order to mask the effective carrying
on of business of Mr. Horne. “In this case it was clear that the main purpose of incorporating the new
company was to perpetrate fraud.” Thus the court of appeal regarded it as a mere sham to cloak his
The veil of incorporation can be lifted either by statute or by common law.
Lifting the Veil by Common Law
The courts have time and time again identified circumstances in which the veil of incorporation can be
lifted. These circumstances are as follows:
a) Agency
If one company is to be fixed with liability as a principal for the acts of another company, the
relationship of agency should be substantively established.
In Smith, Stone & Knight Ltd v. Birmingham Corporation where a relationship of this kind was
revealed, Lord Atkinson laid down a test as to whether such a relationship would exist.
In this case a company acquired a partnership concern, registered it as a company, and then continued to
carry it on as a subsidiary company. The parent company held all the shares except a few; treated the
subsidiary profits as its own, appointed managers and exercised effectual and constant control. When the
business of the subsidiary was acquired by the defendant corporation the court allowed the parent
company, brushing aside the legal distinction between the two companies, to claim compensation in
respect of removal and disturbance.
In that judgment, Lord Atkinson laid down the necessary questions one need to ask to know if the
company will constitute the shareholders’ as agents for purpose of carrying on the business;
Were the profits treated as the profits of the parent company?
Were the persons conducting the business appointed by the parent company?
Was the parent company the head and the brain of the trading company?
Did the parent company govern the adventure; decide what should be done and what capital
should be embarked on the venture?
Did the trading company make the profit by its skill and direction?
Was the parent company in constant and effectual control?
b) Ratification of Corporate Acts
In the past a company would be bound in a matter which would otherwise be ultra vires after a
unanimous agreement of its members in ratification. It is now clear that there is no need for unanimity.
All the members of a company need not agree on a certain matter for it to be ratified. All is required now
is agreement of all members entitled to vote on the matter.
Once such a decision has been reached in this manner the members are said to have ratified an action
despite the fact that the action was beyond the power of the company’s official who took it. When a court
of law looks at the circumstances of a case and concludes that during a meeting of members, members
ratified an act done on behalf of the company; in regarding the decision of the members as the decision of
the company itself, then the court would have to lift the veil of incorporation.
This was the case in Bamford V Bamford where directors of a company exercised their power to issue
shares for an improper purpose but the members in the general meeting voted in favour of the ultra-vires
action of the directors and therefore ratified it. It was held that the ratification validated the issue of the
c) Fraud/Improper Conduct
The common law has constantly and consistently declared that the veil of incorporated will be lifted in
order to prevent a fraudulent or improper design by members of a company. This is normally in order to
prevent individuals from using the advantage of the incorporation of a company to willfully and
knowingly perpetuate fraud, illegal acts or improper conduct.
In Re Bugle Press Ltd Horman L. J, to indicate that he would lift the veil of incorporation for the
purpose of disallowing the takeover bid since Jackson & Shaw (Holdings Co. Ltd) had been formed to
enable the majority shareholders acquire the shares of the minority, stated that,
‘this is a bare faced attempt to evade that fundamental rule of company law which forbids the majority
of shareholders, unless the articles so provide to expropriate a minority. The transferee company was
nothing but a small hut built round two company shareholders and the so called sham was made by
themselves as directors of that company. The whole thing is seen to be a hollow sham.’
In Jones & Another v. Lipman & Another James bought a house from Lipman for £5,250. Before the
transaction was concluded, Lipman changed his mind and opted out of the contract. He formed a
company to which he transferred the house. James sued Lipman and his company for specific
performance of the contract. The court lifted the veil of incorporation with regard to the second defendant
and decreed specific performance since the defendant had formed the company to enable him evade an
existing legal obligation. Lawrence L.J stated, ‘The defendant company is the creature of the 1st
defendant, a device and a sham, a mask which he holds before his face in an attempt to avoid
recognition by the eye of equity. The proper order to make is an order on both the defendants
specifically to perform the agreement between the plaintiff and the 1st defendant.’
d) Determination of Residence
In order to ascertain a company’s residence it is necessary to lift the veil of incorporation. This is
because a company resides in the country in which its affairs are controlled and managed from. This is
not necessarily where the company is but where its members are. The veil has to be lifted so that the
location of the members can be ascertained. In Debeers Consolidated Mines Co. v. House (1906) The
company was registered in S. Africa where its general meetings were held. Some of its directors lived in
South Africa and some board meetings were held there as well. However, majority of the directors were
Britons resident in Britain. The company’s affairs were controlled and managed from London. The
question was whether the company was a resident of the UK for purposes of tax. The court held that it
was resident in London. Lord Loveburn stated, “A company cannot act or sleep but it can keep house
and do business. A company resides for purposes of income tax where its real business is carried on.
The real business is carried on where the central management and control actually abides.’
e) Group Enterprises
Many cases have been decided where the court has held that a parent company is the same entity as its
subsidiary and vice versa. There is no basic principle governing when this decision will be reached. The
decisions are based on the circumstances of each case.
In Harold Holdsworth & Co. Ltd v. Caddies The respondent (caddies) was the appellant’s Managing
Director and an agreement between himself and the company stated
‘…. he shall perform the duties and exercise the powers in relation to the business of the company and
the business of its existing subsidiary companies, which may from time to time assigned to or vested to
him by, the board of directors of the company.’
After some time the board resolved that he should confine his attention to one of their subsidiaries only.
He refused to do so and brought an action for damages for breach of contract.
The court held that there was no breach due to the fact that in the circumstances of the case, the director
of the parent company could make decisions of the management of any of its subsidiary companies as if
the parent company and subsidiary company were one entity.
f) Determination of character/enemy character
As an artificial person a company has no actual character. It is neither friend nor foe. It can be neither
loyal nor disloyal. In order to ascertain a company’s ‘character’ courts have lifted the veil of
incorporation and taken a look at the character of its members and managers. These are the persons who
lend a company its character. A company is regarded as having an ‘enemy character’ if its members or
managers are enemies of the state or ‘alien enemies’. If this is the case, the company is said to be an
enemy of the country it is operating in.
In Daimler Co. Ltd V Continental Tyre and Rubber Co. (Great Britain) Ltd the continental tyre co
was formed in Britain to sell German made tyres. The bulk of the co shares were held by the German co.
which manufactured the tyres. The remaining shares except one, were held by a German resident in
Germany. All directors were Germans resident in Germany. After the outbreak of the 1st world war, the
Continental tyre co. instituted proceedings against the appellant (Daimler) to enforce a trade debt. The
defendant denied liability and argued that the debt was unenforceable as enforcing it amounted to trade
with an alien enemy. This defense was rejected. However on appeal the house of lords lifted the veil of
incorporation and disallowed the action as the company was an alien enemy by reason of its members
and managers of the co. In the words of Lord Parker,
"A company incorporated in the UK is a legal entity, a creation of law with the status and capacity
which the law requires. It is not a natural person with mind or conscience. It can be neither loyal nor
disloyal. It can neither be friend nor enemy. Such a co. may however assume an enemy character.
This would be the case if its agents or the person in de facto control of its affairs whether authorized
or not are resident in an enemy country or wherever resident are adhering to the enemy or taking
instructions from or acting under the control of enemies. A person knowingly dealing with the co in
such a case is trading with the enemy.”
Lifting the Veil by Statute
a) Non-publication of a company’s name
Section 67 of the Companies Act requires a company’s officers and other agents to write its name on its
seal, letters, business documents and negotiable instruments. This is done for the benefit of third parties
who might contract with a limited company without realizing that it is a limited company. Any officer or
agent of the company who does not comply with the aforesaid statutory requirement shall be liable to
fine not exceeding sh 500,000. The imposition of personal liability on the company’s agent is what is
regarded in a somewhat loose sense as “lifting the veil of incorporation”.
b) Investigation of company’s affairs
Section 787 gives an inspector appointed by the court to investigate company’s affairs the power to
investigate the affairs of a company’s subsidiary or holding company, if the inspector thinks it necessary
to do so for the purpose of his investigation. An investigation instituted pursuant to this power would be
regarded in a loose sense, as an instance of “lifting the veil” because the order to investigate a company
sufficed to investigate the company’s members as if they were one entity.
c) Investigation of company’s membership
Section 801 empowers the Attorney General to appoint one or more competent inspectors to investigate
and report on the membership of a company for the purpose of determining the persons who are or have
been financially interested in the success or failure, real or apparent, of the
company; or who are able to control or materially influence the policy of the company.
d) Take-over bids
Section 599 provides that the Capital Markets Authority may impose sanctions on any individual who
fails to comply with the takeover rules or any other directions.
Distinction between companies and other forms of business associations
Sole trader
as Deed
of Register
self–employed partnership
Registrar of
drawn up
of one
Two or more
One or more
Member’s control
on Decision
making at
level is based
shares held and
voting powers
attached to
each share.
Liability of
partners or
of shareholder of shareholder into business.
may be at may be at risk) (corporate veil
owner Shared
(appointed by responsibility
(elected at
by partners)
an AGM by
Register with
Ten or more
level is usually
based on one
into business.
(corporate veil
Committee of
(elected at an
AGM by the
Accounts and
accounting or
Records not
available for
accounting or
audit required.
available for
and audit
(depending on
Accounts open
for public
inspection (also
in abridged
by owner
Distributed to
according to
profit sharing
Distributed by
way of
shareholders in
proportion to
their number
If owner dies
or retires
business may
go out of
unless sold by
dissolved on
retirement or
and their
company are
legal and
Mainly from
assistance and
and audit
(depending on
Accounts open
for public
Distributed by
way of
patronage to
members in
proportion to
the volume of
done by them
with the
proportion to
their number
Members and
are legal and
net assets (if
any) are
distributed to
closed and net
assets (if any)
distributed to
company is
liquidated and
net assets (if
distributed to
according to %
Usually a cooperative is
liquidated and
the net assets
(if any) are
distributed on
according to
that is to say
similar aims