Company Limited by Guarantee

Introduction

Section 2(21) of the Companies Act, 2013 (“Act”) defines a company limited by guarantee as a company having the liability of its members limited by the memorandum to such amount as the members may respectively undertake to contribute to the assets of the company in the event of its being wound up.

Generally, this form of company is preferred by educational or charitable entities, clubs, membership organisations, societies, trade or sports associations, professional, cultural, religious or other associations or entities having various purposes of general utility, etc. This form of entity is not generally used by the ‘For Profit’ or trading organisations. 

One of their continuous sources of income, mostly for working capital, is membership fees, donations or grants. 

Liability

As per the definition under section 2(21) of the Act, the liability of the members is limited by the amount which is guaranteed by them in the Memorandum of Association (MOA). Section 4(1)(d)(ii) of the Act states that the MOA of a company limited by guarantee shall state the the amount up to which each member undertakes to contribute—

(A) to the assets of the company in the event of its being wound-up while he is a member or within one year after he ceases to be a member, for payment of the debts and liabilities of the company or of such debts and liabilities as may have been contracted before he ceases to be a member, as the case may be; and

(B) to the costs, charges and expenses of winding-up and for adjustment of the rights of the contributories among themselves [Section 4(1)(d)(ii)] 

Hence, the members’ liability arises only in case of winding up and not before that when the company is in going concern.

This capital clause in MOA differentiate ‘Guarantee company without share capital’ from ‘a company with share capital’ in a way that whenever the members propose to increase the guarantee amount and increase their liability they can do so only by altering the MOA by seeking government approval. To the contrary, in a company with share capital, the authorised capital can be increased once by altering the MOA and then members have the liberty to increase paid up capital without amending the MOA and seeking government approval.

Types of Company Limited by Guarantee

There can be two types of companies (public or private) limited by Guarantee which are as follows:

A company limited by guarantee and having a share capital 

This kind of company enjoys the perks of both a ‘Guarantee Company’ and a ‘Share Company’ which makes it a hybrid form of entity. Now, considering that it consists elements of both kinds of companies, there is a double-edged liability of the members (i) limited to the share capital of the company which the members pay when the company is in going concern, and (ii) limited to the guaranteed amount mentioned in the MOA which the members will be liable to pay at the time of liquidation of the company.

Also, there will be two capital clauses in the MOA of such a company: (i) Share Capital Clause and (ii) Guarantee Clause.

A company limited by guarantee and NOT having a share capital 

This kind of company will only have the features of a Guarantee Company and apparently any provision governing the companies having share capital will not be applicable to this kind of company. Also, in this case, the guarantee amount can only be recovered at the time of winding up of the company. 

Thus, it seems pretty obvious that members of this kind of company do not make any capital contribution at the initial stage and even when the company is in going concern. Then how does a Guarantee Company run its business or fulfill its objectives? It gets funds in the form of donations or fees which makes it a suitable choice of entity for charitable organisations, research or training institutes, professionals, etc.

Members

Members in a company limited by guarantee not having share capital are the guarantors and not shareholders. They are made liable under the Liability clause of MOA of the company and their names are entered in the Register of Members. The amount of guarantee is also mentioned in the Register of Members against their names.

Transfer of Membership

The Articles of Association (AOA) of the Guarantee company makes special provisions for transfer of membership interest, assignment and nomination of interest, expulsion of members, resignation by members, transmission of interest of a deceased member, etc. 

Section 56 of the Act also covers the provision of transfer of interest by stating that a company shall not register a transfer of the interest of a member in the company in the case of a company having no share capital unless a proper instrument of transfer, in such Form SH 4, duly stamped, dated and executed by or on behalf of the transferor and the transferee has been delivered to the company by the transferor or the transferee within a period of sixty days from the date of execution.

In the case of a company not having share capital, the provisions shall apply as if the references therein to securities were instead references to the interest of the member in the company.

In the matter of Shri Narendera Kumar Agrawal vs Smt. Saroj Maloo And Ors dated 20 September, 1995, there was no provision in the AOA of the company limited by guarantee not having share capital regarding nomination of membership leading to transfer of the same in favour of the nominee. 

In this case, appeal was filed before the Hon’ble Supreme Court of India against the order of the High Court of Patna. The High Court held that no distinction can be made between transfer of share of a limited company limited by shares and transfer of other interest of a member in a company limited by guarantee. Following the decision of the Supreme Court in V.B. Rangaraj vs. V.B. Gopalkrishnan and others reported in 1992 (1) SCC 160 wherein it was held that the only restriction of the transfer of the shares of the company is as laid down in its Articles of Association and a restriction which is not specified in the Article is not binding either on the company or on the shareholders, the High Court held that as there was no bar of transfer by nomination of other interest in the Articles of Association of the Company, refusal by the Company was not justified and legal.

However, the Supreme Court dismissed the appeal by remitting the matter for reconsideration by the High Court. It held that the High Court should have examined all these relevant aspects and ought not to have disposed of the matter by merely observing that no distinction can be made in the matter of transfer of share or other interest between a company limited by shares and a company limited by guarantee. 

Restriction on transfer of membership: Generally, for becoming a member of a company limited by Guarantee, certain mandatory qualifications are imposed which makes it difficult and less likely that a membership interest can be easily transferred. Therefore, it is highly recommended for such companies to either lay down such qualifications in their AOA or any other charter document.

Expulsion from membership: There may be special provisions in the AOA of the company for cessation of membership for instance, if the member voluntarily resigns, if he is adjudicated bankrupt or insolvent, if he does not pay membership fees, if he is convicted, and so on. Further, Companies Act, 2013 nowhere provides provisions for the expulsion of any member if his acts or conduct should be considered detrimental to the interest of the company. 

In the matter of Gothami Solvent Oils Limited, the court held that compulsory transfer must be in the interest of the company and not for the benefit of some of the shareholders, even if they are majority shareholders.

In the matter of Siddarth Gupta vs The Delhi Golf Club Limited & Anr dated 18 December, 2015, the Hon’ble Delhi High Court held that “Once a person becomes the member of the club, who has enjoyed its facility whether he becomes a member in its ordinary course or out of turn, it is the duty of the club to follow the due process as prescribed under Regulations. The membership cannot be terminated without due process of procedure and regulations.”

In the case of Mr. Charles Mantosh and Others. v. Mr. Dalhousie Institute and Others, AIR 1993 Cal 232, it was contended that terminating membership without even giving an opportunity of hearing is not permissible. It was emphatically mentioned that members have prima facie case for grant of temporary injunction restraining authority of club from giving effect to its decision to remove. 

Similarly in the case of T.P. Daver v. Lodge Victoria, AIR 1963 SC 114 No. 363, S.V Belgaum, it was contended on behalf of the respondents that expulsion of a member no doubt demands strict compliance of the rules and it is to be done in good faith and in fairness.

Dividend

As per Section 4(7) of the Act, in the case of a company limited by guarantee and not having a share capital, purporting to give any person a right to participate in the divisible profits of the company otherwise than as a member, shall be void.

Appointment of Directors

While incorporating the company, the subscribers to the MOA shall determine the first directors of the company. Later for the purpose of appointment of subsequent directors, the process which is adopted for appointment of directors in a company having share capital shall be followed.

Voting Rights

In case of a company having share capital, the elements of a “company having share capital” will dominate the features of a Guarantee company and hence, members’ voting rights will be determined by way of their shareholding and not the amount guaranteed by them.

In case of a company Not having share capital, every member shall have one vote as per Table H of Schedule I of the Act which provides the standard AOA of a Company Limited by Guarantee and NOT Having A Share Capital. Also, the voting rights may be decided as per the ratio of amount guaranteed by each member in the MOA, if the guaranteed amount differs. 

Incorporation

A company limited by guarantee is incorporated as a private or public company and hence, the procedure of incorporation will be similar to incorporating any private or public company except a few distinctive features such as MOA and AOA of the company.

Table B of Schedule I of the Act Memorandum of Association of A Company Limited by Guarantee and NOT Having A Share Capital

Table C of Schedule I of the Act provides the standard Memorandum of Association of a Company Limited by Guarantee and Having A Share Capital.

Table G of Schedule I of the Act provides the standard Articles of Association of a Company Limited by Guarantee and Having A Share Capital.

Table H of Schedule I of the Act provides the standard Articles of Association of a Company Limited by Guarantee and NOT Having A Share Capital.