Revisiting the Necta (U) Ltd & John Ndyabagye v. Crane Bank Ltd case
On 8th June 2021, the Court of Appeal of Uganda in the case of Necta (U) Ltd & John Ndyabagye v. Crane Bank Ltd, Court of Appeal Civil Appeal No. 219 of 2013, handed down its judgment regarding the effect of a company’s memorandum and articles of association, the pledging of company land as collateral security for a bank loan, the interpretation and effect of company resolutions, the difference between a company seal and a company stamp, the Turquand rule (also known as the Indoor Management Rule), a bank’s extension of additional credit to a company, the execution of mortgages, the fate of a sale that arises out of an invalid mortgage, and the proof of membership in a company etc.
Below is a breakdown of the case.
The case originated from the High Court of Uganda. The High Court had held inter alia that Crane Bank Ltd’s sale of the mortgaged land (i.e., land at Plot 94 High Street Mbarara that used to belong to Necta Uganda Ltd but was used as collateral security for an overdraft facility and two other subsequent credit facilities that were extended to John Ndyabagye supposedly for the benefit of Necta Uganda Ltd) to a one Karimi Tumwebaze was a valid one. Dissatisfied, Necta Uganda Ltd and John Ndyabagye appealed to the Court of Appeal of Uganda (the “Court”) against the High Court’s decision.
The Appeal
The appellants (i.e., Necta Uganda Ltd and John Ndyabagye) raised several grounds of appeal most of which were challenging the High Court’s stance on the special resolution that authorised the Mbarara land to be used as collateral for the overdraft facility. The High Court’s stance was that the special resolution was a valid one despite it having not been signed by all the directors of the 1st appellant company (Necta Uganda Ltd). The appellants argued that the memorandum and articles of association (memarts) of the 1st appellant company required a resolution that is passed without a meeting of directors to be evidenced in writing ‘under the hands of all the Directors’.
The appellants also challenged the Mortgage Deed and the further charges that were created over the mortgaged land. Specifically, they argued that whereas the 1st appellant company’s stamp was affixed to the Mortgage Deed, the Further Charge and Second Further Charge, the said company’s name was not stated in full and that only one person designated as a director signed the said instruments and that therefore the instruments were not legally executed nor could they be enforced against the 1st appellant company.
It is was also argued by the appellants that the 1st appellant company did not extend powers of attorney to the person who executed the Further Charge and that therefore, the said instrument was defective and unenforceable.
Understanding the terms ‘Further Charge’ and ‘Second Further Charge’
In Uganda, mortgages are currently governed by the Mortgage Act Cap. 239. Under that law, a ‘mortgage’ is said to include “any charge or lien over land or any estate or interest in land in Uganda for securing the payment of an existing or future or a contingent debt … and includes a second or subsequent mortgage, a third party mortgage and a sub mortgage”. So basically, in the context of the Mortgage Act Cap. 239, a ‘charge’ can be defined as a security interest or right that a lender (i.e., the mortgagee) has over a borrower’s (i.e., the mortgagor) land as collateral for a loan—it gives the lender/mortgagee the legal right to claim the land or property or its proceeds if the borrower/mortgagor defaults on repayment.
With that said, whenever a mortgage deed (i.e., an instrument in which a borrower/mortgagor uses his/her land or interest in land as security for a loan from a lender/mortgagee) is executed and registered as was the case in Necta Uganda Ltd & John Ndyabagye v. Crane Bank Ltd (supra), a charge is created over the mortgaged land (i.e., that land that was pledged as security in the mortgage deed) and should any other subsequent loans be granted using the same land as security as was the case in Necta Uganda Ltd & John Ndyabagye v. Crane Bank Ltd (supra), other charges—usually referred to as further charges or additional charges or subsequent charges—will also be created over the same land.
In the Necta (U) Ltd & John Ndyabagye v. Crane Bank Ltd case (supra), the further charges that were created over the mortgaged land were captured in two instruments namely the Further Charge of 24th July 1996 and Second Further Charge of 8th July 1997—it was in these instruments that the additional credit was extended to the 2nd appellant (John Ndyabagye) supposedly for the benefit of the 1st appellant company.
Judgment of the Court
On the special resolution
The Court found that the evidence on record showed that there were at least 4 directors in the 1st appellant company and noted that indeed the memarts of the said company did empower the board of directors to borrow for and in the interests of the company.
However, the Court took note of the fact that in the same memarts, it was a must for a resolution and in particular one that was passed without a meeting of directors, to be evidenced in writing ‘under the hands of all the Directors’.
The special resolution which was dated 1st February 1996 and printed on the 1st appellant company’s letter head, was signed by the 2nd appellant as a director in the 1st appellant company and his wife Elizabeth Ndyabagye as the secretary of the 1st appellant company.
Citing Section 21(1) of the Companies Act Cap. 110 (now Section 19(1) of the Companies Act Cap. 106) which provided that a company’s registered memarts bind the company, the Court held that the 1st appellant company’s memarts had a binding effect on the company and as such, the special resolution had to abide the directors’ decision-making procedures which were clearly outlined in the said memarts.
Since the special resolution was signed by only one director (i.e., the 2nd appellant), it meant that it did not abide the directors’ decision-making procedures outlined in the 1st appellant company’s memarts which required a resolution that was passed without a meeting of directors to be evidenced in writing ‘under the hands of all the Directors’. It also meant that the mortgaged land was not properly and lawfully pledged as collateral security for the overdraft facility.
The Court therefore held that the special resolution was incurably defective and invalid.
Please note that at the time of handing down the judgment in the Necta (U) Ltd & John Ndyabagye v. Crane Bank Ltd case (supra), the law that was in force regarding companies was the Companies Act 2012 which had repealed the Companies Act Cap. 110 but the Court quoted the repealed law (i.e., the Companies Act Cap. 110) because that was the law in force when the appellants filed their High Court claim in 2001 and 2003—remember, it is a well-recognised principle that courts of law will not ascribe retrospective force to a new law unless a retrospective effect is clearly intended by express words in that new law (see Phillips v. Eyre [1870]1 LR 6 QB 1; Pulborough School Board Election (1894)1 QB 725; and Tom Butime v. Muhumuza David & Anor, Election Petition No. 11 of 2011).
On the Turquand rule
In reply to the appellants’ argument that the special resolution was defective for having been signed by only one director, the respondent bank (Crane Bank Ltd) invoked the Turquand rule to argue that it dealt with the 1st appellant company in good faith and thus it was entitled to assume that acts within the said company’s constitution had been duly performed and it was not bound to inquire whether acts of internal management had been regular. The respondent bank relied on the locus classicus case of The Royal British Bank v. Turquand (1856) Vol. 6 of the Exchequer and Bail Court Cases at Page 327 to support its argument.
The Court rejected the respondent bank’s argument and held that the respondent bank had a duty to inquire beyond the special resolution as to whether the 2nd appellant and his wife Elizabeth Ndyabagye were the only persons authorised to sign the resolution. The Court in its rejection of the respondent bank’s argument stated that the Turquand rule is “far from being a carte blanche for presumed corporate authority” and that the “rule is grounded in the presupposition that sufficient inquiries have been made with regard to a company’s constitutive documents before such corporate authority can be inferred”.
Please note that the Companies Act Cap. 110 (the law that was in force at the time when the appellants filed their claim in the High Court in 2001 and 2003) did not contain any provision on the Turquand rule. The rule eventually found its way into Uganda’s written laws in 2012 with the enactment of the Companies Act 2012 and, following the 2024 revision of the Principal Laws of Uganda, the rule is now enshrined in Section 51 of the Companies Act Cap. 106 which states that, “A party to a transaction with a company is not bound to enquire whether it is permitted by the company’s memorandum, if any, or as to any limitation on the powers of the board of directors to bind the company or authorise others to do so”. While the Turquand rule is now codified in Uganda’s written laws and can be invoked in corporate disputes, enforcing it before 2012—or even after, for pre-2012 claims that are still being heard in courts of judicature—was difficult since the said rule was not expressly provided for in the country’s written laws at the time and existed only as a common law doctrine.
On the requirement of executing instruments in Latin character
The appellants argued that it was not a must for the Mortgage Deed, Further Charge and Second Further Charge to be executed in Latin character since the mortgagor (i.e., 1st appellant company) was a company. Execution of instruments in Latin character (a requirement that used to dwell in Section 148(a) of the Registration of Titles Act Cap. 230 but with the 2024 revision of the Principal Laws of Uganda, the requirement now dwells in Section 132(a) of the Registration of Titles Act Cap. 240) means that the name of the signatory should be written out in full next to his/her signature. From this point forward, the Registration of Titles Act shall be referred to as the ‘RTA’ for brevity.
Under Section 132(1) of the RTA Cap. 230 (now Section 116(1) of the RTA Cap. 240), a company can, for the purpose of transferring or otherwise dealing with any land under the operation of the RTA, do away with the requirement of executing an instrument in Latin character by affixing its common seal to the instrument. Relying on this subsection, the appellants claimed that whereas the 1st appellant company’s stamp was affixed to the Mortgage Deed, Further Charge and Second Further Charge, the said company’s name was not stated in full and that only one person designated as a director signed the said instruments and that therefore the instruments were not legally executed nor could they be enforced against the 1st appellant company.
In reply, the respondent bank maintained that the Mortgage Deed, Further Charge and Second Further Charge were all duly executed under the 1st appellant company’s stamp or seal and witnessed by the 2nd appellant and his wife Elizabeth Ndyabagye as director and secretary of the 1st appellant company respectively.
The Court consulted the 1st appellant company’s memarts in which article 46 thereof pointed out that where the 1st appellant company’s seal was affixed to an instrument, it had to be accompanied by the signature of a director and “countersigned by the Secretary or by a second Director or by some other person appointed by the Directors for that purpose”.
The Mortgage Deed and the Further Charge depicted two signatures supposedly attributed to two directors of the 1st appellant company whereas the Second Further Charge depicted one signature supposedly attributed to one director of the 1st appellant company. In respect of all these signatures, the names of the signatories were not written next to the signatures—in other words, the signatures on all the instruments were not in Latin character.
Since article 46 of the 1st appellant company’s memarts provided for co-execution measures that involved signatures, the Court held that these signatures had to abide the requirement in Section 148(a) of the RTA Cap. 230 (now Section 132(a) of the RTA Cap. 240) of them being in Latin character. The Court therefore found that the Mortgage Deed, Further Charge and Second Further Charge were defective as the signatures thereon were not in Latin character something which offended Section 148(a) of the RTA Cap. 230.
On the difference between a Company Seal and a Company Stamp
The Further Charge bore a stamp titled ‘Executive Director Necta (U) Ltd’ whereas the Second Further Charge bore a stamp bearing the name of the 1st appellant company.
Remember, Section 132(1) of the RTA Cap. 230 (now Section 116(1) of the RTA Cap. 240) is to the effect that for a company to do away with the requirement of executing an instrument in Latin character, it has to affix its “common seal” to the instrument. The Court was thus faced with a question of whether a common seal and a company stamp mean one and the same thing.
The Court held that a common seal and a company stamp do not mean one and the same thing given their usage. The Court explained that “documents that need to be executed as deeds (as opposed to simple contracts) are legally executed under the company’s common seal” and that a company stamp “is not a legal requirement but its usage has evolved from the need by corporate entities to give a semblance of officialdom to documents that would not legally require an official company seal”.
The Court therefore found that the 1st appellant company’s stamp and the Executive Director’s stamp affixed to the Second Further Charge and Further Charge respectively were of no legal value to those instruments.
On the Power of Attorney question
The Further Charge bore a stamp titled ‘Executive Director Necta (U) Ltd’. What this meant is that that charge was executed by someone who was or purported to be the Executive Director of the 1st appellant company. The Court was thus faced with a question of whether that person had been authorised by the 1st appellant company to execute the Further Charge on behalf of the said company.
Under Section 146(1) of the RTA Cap. 230 (now Section 130(1) of the RTA Cap. 240), a person who does not have a legal interest in a piece of land cannot deal that land (e.g., transfer it, lease or mortgage it) without the registered owner’s permission/authorisation and that authorisation must take the form of a power of attorney.
The Court found that there was no evidence on record that any such power of attorney had been granted to the person that executed the further charge.
The Court therefore held that the execution of the Further Charge in the absence of the requisite power of attorney was a fundamental defect in the said instrument.
On the Bank’s reliance on the special resolution to extend additional credit
The respondent bank had relied on the special resolution to extend the additional credit to the 2nd appellant supposedly for the benefit of the 1st appellant company.
The appellants argued that another or other resolutions should have been drawn to sanction the two other credit facilities. The appellants also emphasised that the special resolution sanctioned ‘an overdraft facility’ and not the additional credit that was extended to the 2nd appellant and that therefore, the additional credit was unauthorised and illegal and as such the 1st appellant company was not liable for them.
In reply, the respondent bank supported the High Court’s findings on this issue and maintained that another or other resolutions were not necessary.
The Court found that the special resolution neither sanctioned the additional credit nor the further charges created over the mortgaged land.
The Court therefore held that the additional credit and the further charges created over the mortgaged land were unauthorised and illegal and that another or other resolutions should have been drawn to sanction the two other credit facilities.
On whether all the three credit facilities extended to the 2nd appellant were for the benefit of the 1st appellant company
It is important to note that the respondent bank had deposited all the monies in respect of the three facilities into the 2nd appellant’s bank account—the 2nd appellant was a customer of the respondent bank—the 1st appellant company wasn’t.
The High Court had found that the credit extended to the 2nd appellant was for the benefit of the 1st appellant company. This finding was challenged on appeal as the appellants vehemently argued that the credit extended to the 2nd appellant was for the benefit of the 2nd appellant himself rather than for that of the 1st appellant company.
The Court agreed with the High Court’s findings—specifically, that the main import of the special resolution was to offer the 1st appellant company’s Mbarara land as security for the overdraft facility, and that the resolution was completely silent on whether the 2nd appellant was the beneficiary of the facility.
However, the Court took note of the High Court’s acknowledgment that John Ndyabagye was also engaged in trade just like his company. The Court was therefore of the view that such an acknowledgment raised the supposition that he (the 2nd appellant/John Ndyabagye) could have needed credit in his own right.
In fact, the 2nd appellant had even averred in his affidavit evidence at the High Court that he had applied for the credit facility not as a director of or on behalf of Necta (U) Ltd, but in his own right as an account holder in Crane Bank.
The Court therefore found that there was no evidence to support the High Court’s finding that the credit extended to the 2nd appellant was for the benefit of the 1st appellant company.
On the validity of the Bank’s sale of the mortgaged land
The Court held that since the property that was sold had been pledged as security in respect of an invalid mortgage, the purported sale would similarly suffer the fate of invalidity. The Court went ahead to add that it could not sanction an illegality.
On how to prove membership in a company
The High Court had held inter alia that for the 2nd appellant to prove that he was a member/shareholder in Premier Lottery Limited (a company whose monies in the respondent bank had purportedly been assigned to pay the decretal sum from the High Court suits), he had to produce either information from the register of members or share certificates issued to him under the said company’s memarts.
On appeal, the appellants invoked Section 27(1) of the Companies Act Cap. 110 (now Section 45(1) of the Companies Act Cap. 106) to argue that the 2nd appellant having been listed in the memarts of Premier Lottery Limited as a subscriber, became a member of the said company upon the company’s registration.
The Court found that the 2nd appellant was indeed reflected in the memarts of Premier Lottery Limited as a subscriber of 5% shares therein and stated that, “By the fact of his having been a subscriber of Premier Lottery Limited at its incorporation, the Second Appellant would ipso facto have become a member of that company pursuant to section 27(1) of the Companies Act”. The Court went ahead to add that whereas a share certificate would be conclusive proof of shareholding, a subscriber that “aptly demonstrates that fact by the production of a company’s MEMARTS reflecting him/her as such would (in the absence of contrary evidence) have discharged the burden of proof of membership”.
The Court therefore held that the non-production of a share certificate or indeed of the members’ register would not in principle necessarily negate a subscriber’s membership in the company.
The Court, however, declined to make a declaration that the 2nd appellant was a member of Premier Lottery Limited. The Court found that the evidence on record did not seem to support a finding that the 2nd appellant was indeed a member of the said company, his subscription notwithstanding. The Court premised its finding on the 2nd appellant’s affidavit evidence of 10th October 2001 in which he, on his own admission, attested to having sold his shares in Premier Lottery Limited something which lent credence to the conclusion drawn by the Court that he might have relinquished his membership in the said company despite him having been a subscriber of the company at its incorporation.
On whether the 2nd appellant’s conduct was consistent with the renown maxims of equity
A director has a duty to look after the affairs of the company and to see that it acts within its powers and that its transactions are regular and orderly. This principle was underscored in the case of Morris v. Kanssen & Others [1946]1 All ER 586, where the House of Lords rejected a director’s attempt to rely on the Turquand rule. Lord Simmonds in that case cautioned that allowing such reliance would “encourage ignorance and condone dereliction from duty”.
In the Necta (U) Ltd & John Ndyabagye v. Crane Bank Ltd case (supra), the Court observed that the 2nd appellant who was a director in the 1st appellant company, signed the special resolution offering the 1st appellant company’s Mbarara land as security for an overdraft facility that, on his own admission, was entirely for his benefit. The Court observed further that he then executed the Mortgage Deed and further charges on that basis, only to later turn around and seek to halt the sale of the mortgaged land for being illegal.
As already highlighted above, the sale of the mortgaged land was illegal due to the illegalities involved in the mortgage transaction itself but according to the Court, that did not negate the fact that the 2nd appellant benefited from the loan facilities advanced to him by the respondent bank. By the 2nd appellant benefiting from the loans and later on hiding behind illegalities to not pay back the loans, his actions were, according to the Court, nothing more than an attempt to unjustly enrich himself.
The Court therefore found the 2nd appellant’s conduct inconsistent with the renown maxims of equity and had this to say:
“Whereas this Court cannot sanction the illegality it has unearthed with regard to the mortgage transaction, it cannot sanitize the prayers of a litigant that comes to equity with unclean hands either. That would be to perpetuate a gross injustice… In equity, a court should not look on or, worse still, be invited to endorse a situation where a party knowingly secures credit from a financial or credit institution then turns around and seeks to hide behind illegalities to deprive the institution of its funds.”
The Award
Having found the 2nd appellant’s conduct inconsistent with the renown maxims of equity, the Court declined to award him damages.
The 1st appellant company was awarded aggravated damages of Ushs. 250,000,000 with an interest of 15% per annum thereon from the date of the judgment until payment in full—for the sale of its Mbarara land.
The Court upheld the decretal sum of Ushs. 218,144,745 that had been awarded by the trial court/High Court against the appellants and also slapped an interest of 6% per annum onto the decretal sum from the date of judgment until payment in full.
The costs in the Court of Appeal and the lower court/High Court were awarded to the appellants as against the respondent bank.
Conclusion
The decision in Necta (U) Ltd & John Ndyabagye v. Crane Bank Ltd (supra) serves as a stark reminder to financial institutions about the risks of overlooking a corporate client’s memarts. Failure to conduct thorough due diligence can entangle banks in protracted litigation, undermining the enforceability of securities they rely on. More critically, an invalid mortgage can jeopardize any subsequent sale arising out of that mortgage, exposing lenders/mortgagees to significant legal and financial repercussions. The Court’s decision also serves as a cautionary tale that banks must exercise heightened vigilance to ensure their transactions are airtight and legally sound before extending credit.
According to the website of Messrs. MMAKS Advocates, the law firm that represented the respondent bank in the appeal, the said bank has since appealed to the Supreme Court against the decision of the Court of Appeal. It will be interesting to see whether the Supreme Court will agree or disagree with the Court of Appeal. The outcome of that appeal at the Supreme Court could have significant implications for financial institutions and corporate lending in Uganda.
