Implications of Not Carrying Out Business Activities as Per Memorandum of Association (MOA) - MMJC

Introduction

Section 4 of the Companies Act 2013 (Act) requires a company’s Memorandum of Association (MOA) to state the purpose for which the company is incorporated and any matters deemed necessary to facilitate the purpose of the company. These objects are specified in the object clause of the company’s MOA. This clause is the most important as it enumerates the possible business activities of the company. Any transaction that falls within the scope of the underlying terms is intra vires, but any transaction that does not fall within the scope of the underlying terms is ultra vires. The object clause sets out the scope and extent of the company’s power.

This article explores the implications of not carrying out business activities as per the MOA and the associated penalties. We have captured adjudication orders of Registrar of Companies (‘ROC’) penalising companies for not carrying on business in accordance with provisions of MOA.

I. In the matter of Aegis Lifesciences Private Limited.

This case has been decided by the ROC of Gujarat, on 17th January 2023.

Facts of the Case

• Aegis Lifesciences Private Limited was incorporated in the year 2019 with the object to covert/acquiring/takeover of the existing business, assets and liabilities of Aegis Lifesciences Partnership concern which was run by seven partners. Upon the incorporation of the Aegis Lifesciences Private Limited, the company took over the business of the Aegis Lifesciences Partnership concern by following the due procedure of the law.
• The office of the Commissioner of GST (Audit) vide letter date 10 December 2022 informed that Aegis Life sciences Private Limited and Aegis Lifesciences Partnership concern were still operating and running both partnership firm as well as private limited company using the same GST number even after the change in the constitution of the business at the same premises under different name. Thus, company carried on business activities on in breach of main object number 1 of the company as stated under clause 3A on MOA.
• It was submitted on behalf of the Company that due to the pendency of the issuance of the Management System Certification and EC Certification the company had to continue manufacturing goods under the name of partnership but at the same time all revenue was booked in the name of Aegis Lifesciences Private Limited and Income Tax returns were filed accordingly. Due to such technical/ regulatory difficulties of various countries the directors had to keep the partnership firm working although there was no intension to run two separate entities.

Carrying on business and continuing the operations of the company and as well as partnership firm even after the takeover amounts to activities being carried out for a fraudulent and unlawful purpose and also a breach of main object.

The presiding officer at ROC stated that the company operating /running both partnership firm as well as private limited company under GST even after the change in constitution of the business and breached the object for which the company was formed, and is ultra vires the company and void. Therefore, it is concluded that the company and its officers in default are liable for penalty of Rs 5,000/- each under section 450 of the  Act for default under section 10 of the Act.

The above case is a suitable example of the fact that regulatory authorities are conscious of businesses undertaken by the company and mapping the same with their objects clause.

II. In the matter of Eveready Industries India Limited

This case has been decided by ROC Kolkata, on 17 August 2022

Facts of the Case

• The main objects of the company were to deal in diverse range of products ranging from battery, flashlights to home appliances and confectionery and not in any other business activity.
• During the FY 2017 -2018 and FY 2018-19 there was a deviation observed in the business activities of the company. There was sudden and substantial increase in finance cost and interest income of the company which was arising out of financial (borrowing and lending) activities of the company. Further the guarantees/deposits/postdated cheques were provided not out of the free reserves or surplus funds but mainly out of the borrowed funds of the company.
• The above financing activities were not a part of the object clause of the Company, further  the Company  gave guarantees/deposits /postdated cheques not out of its free reserves or surplus funds but mainly out of borrowed funds of the company.

• Thus, there was a violation of section 13 and Section 4 of the Act.

Company in its reply stated that it is engaged in the business of manufacturing and marketing of dry cell batteries flash lights and lighting products etc. and that the company was not engaged in any other business activity. With a view to support the companies belonging to the same promoter group which were in the need of funds the company provided loan given guarantee or provided security in the form of post-dated cheques from time to time. Further the financial activities of the company were a temporary financial arrangement necessitated to mitigate urgent financial needs of the Companies

The ROC Kolkata imposed penalty under section 450 of the Act of Rs 2,00,000 on the company and Rs 50,000/-on every officer who was in default.

Attention needs to be drawn to the fact that the management despite having a clarity of the nature of business (manufacturing and marketing of dry cell batteries) there was a deviation from its main object in order to lend support to any group company. Such deviation also came under the radar of ROC. Thus, such activity of lending might be considered as ultra vires the MOA of a company whose main object is manufacturing and marketing.

Thus, management must keep referring to it its object clause so as to avoid such ultra vires acts and penalties.

Conclusion 

The ROC’s play a vital role in ensuring that companies adhere to their MOA and the regulations outlined in the Act. Above precedents indicate that regulatory authorities viz. Goods and Service Tax authorities, are mapping business activity of companies with their object clause and are checking whether the revenue generated by the companies are aligned to the main object clause of the companies.

Failing to carry out the specified business activities can lead to various penalties, striking off the company’s name, and disqualification of directors.

Hence companies should monitor their revenue earning areas on periodic basis in order to ensure that the company operates within the legal framework and does not engage in any activities not stipulated in the MOA.