Section 89 of the Companies Act 1997 is the most powerful provision available to a closely held company — and the least understood.
Section 89(1) — the deeming
(a) the taking of that action is deemed to be validly authorised by the company, notwithstanding any provision in the constitution; and
(b) the provisions of this Act referred to in Schedule 1 do not apply in relation to that action; and
(c) no agreement or concurrence is valid or enforceable unless it is in writing.
- All the shareholders — not a majority, not all but one. A single dissenting or absent shareholder defeats section 89.
- In writing — paragraph (c) is emphatic: an oral agreement or concurrence is not valid or enforceable for this purpose.
- The action may be one already taken or to be taken — so section 89 can ratify as well as authorise.
The effect of paragraph (a) is striking: an action is deemed validly authorised notwithstanding the constitution. A restriction in the constitution — on capacity, on borrowing, on issuing shares — does not defeat a unanimous shareholder decision.
Section 89(2) — the six examples
(a) the issue of shares;
(b) the making of a distribution;
(c) the repurchase or redemption of shares;
(d) the giving of financial assistance for the purchase of shares;
(e) the payment of remuneration to a director, the making of a loan to a director, or the conferral of any other benefit on a director;
(f) the making of a contract between an interested director and the company.
In an owner-managed company the shareholders and the directors are the same people. Section 139 imposes conditions and a certificate on directors’ remuneration, and sections 117 to 122 impose disclosure and avoidance rules on interested transactions. Section 89 lets the shareholders authorise both directly — which is simpler, and removes the risk of a transaction later being avoided under section 119.
Note that section 56 lists section 89 as one of the routes by which a company may acquire its own shares, and section 57A allows shares so acquired to be held as treasury shares.
Sections 89(3) to (3B) — the solvency limit
A power referred to in subsection (2) shall not be exercised unless the board is satisfied on reasonable grounds that the company will, immediately after the exercise of the power, satisfy the solvency test.
The directors who vote in favour must sign a certificate stating that, in their opinion, the company shall after the exercise of the power satisfy the solvency test.
So unanimity does not override solvency. The board must still be satisfied and must still certify — and under section 89(7), every director who fails to comply with this section commits an offence, with the penalty in section 413(4).
In applying the solvency test for section 89(3) —
(a) assets exclude all amounts of financial assistance given by the company at any time under section 63 or section 89(2)(d) in the form of loans; and
(b) liabilities include the face value of all outstanding liabilities, whether contingent or otherwise, incurred at any time in connection with the giving of financial assistance under section 63 or section 89(2)(d).
Loans made as financial assistance are stripped out of assets, and guarantees given as financial assistance are counted at face value among liabilities regardless of how likely they are to be called. That prevents a company from bootstrapping its own solvency out of the assistance it has given to buy its own shares.
Sections 89(4) to (6) — the shareholders carry the risk
A distribution deemed not to have been validly made may be recovered from the shareholder unless (a) they received it in good faith and without knowledge of the failure to satisfy the solvency test; and (b) they have altered their position in reliance on its validity; and (c) it would be unfair to require repayment in full or at all.
Where reasonable grounds did not exist for believing the company would satisfy the solvency test, each shareholder who agreed to or concurred in the making of the distribution is personally liable to the company to repay so much of the distribution as is not able to be recovered from the shareholders to whom it was made.
This is the price of section 89. Under section 54(2) that shortfall falls on the directors; under section 89(5) it falls on the shareholders who agreed. Unanimity moves the risk from the boardroom to the register.
Section 89(6) supplies the same proportionality relief as section 54(5): where the Court is satisfied the company could, by making a distribution of a lesser amount, have satisfied the solvency test, it may permit the shareholder to retain, or relieve them from liability for, an amount equal to the value of any distribution that could properly have been made.
Using section 89 well
- Get every shareholder’s signature. Check the share register first — a recently registered transferee, an unregistered executor, or a forgotten small holder will defeat the section.
- Put it in writing, identify the action precisely, and date it.
- Do the board’s solvency work anyway for anything in subsection (2), and sign the section 89(3A) certificate.
- Use it for interested transactions and remuneration — paragraphs (e) and (f) — where the alternative is the section 118 disclosure machinery and section 119 avoidance risk.
- Check Schedule 1 to see exactly which provisions are disapplied for the action in question.
- Understand what you are taking on. A shareholder who agrees to a distribution the company could not afford is personally liable for the shortfall under subsection (5).
- Section 89 does not bind creditors. A liquidator can still attack the transaction as a voidable transaction under sections 340 and 343, and the directors remain exposed under sections 348 and 348A.
Sources
- Companies Act 1997 — ss 4, 50, 54, 56, 57A, 63, 86, 89, 117–122, 139, 340, 343, 348, 348A, 413; Schedule 1
Before relying on anything here, read the current text of the Companies Act 1997 and check for later amendments. If a decision matters to you, get advice — start with the Office of the Public Solicitor, or find a firm in the law firms directory.