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ACCA Applied Skills · Corporate and Business Law (Global) · The formation and constitution of a company

Kestrel Co's constitution says the directors may not borrow more than 1 million dollars without shareholder approval. The directors, without approval, agree a 3 million dollar loan with Bankco. Bankco acted in good faith, dealt with the company through its board, and had no knowledge of the limit. The company seeks to avoid the loan. In a jurisdiction applying the rule protecting third parties dealing with a company in good faith, what is the likely outcome?

The loan binds Kestrel. Where a third party deals in good faith with the company through its directors, constitutional limits on their powers cannot be used against it. The company's remedy is against the directors for exceeding their authority, not avoidance of the loan.

  1. AThe loan binds Kestrel, because the limit on directors' powers is not enforceable against a good-faith third party, although the directors may be liable to the companyCorrect
  2. BThe loan is void because the directors exceeded their constitutional power and Bankco is deemed to know the constitution
  3. CThe loan is binding only up to 1 million dollars, with the balance unenforceable

Explanation

Statutory protection for good-faith third parties means the power of directors to bind the company is treated as free of constitutional limits. The company remains bound, and the remedy lies against the directors for breach of duty. The second option relies on constructive notice, which has been displaced by statute. The third invents a partial enforceability not found in the rule.

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