The Uganda Companies Act 2012: Independence or continued dependency?

By Chrispas Nyombi

Ever since Uganda gained independence from Britain in 1962, it has not relented on tearing up its colonial documents.

The country has made significant changes in its economic, social and political landscape to reflect the needs and ideas of the Ugandan people.

Despite these monumental strides, Uganda continues to rely on legal frameworks designed and implemented during the colonial era. Such dependency is noticeable in Uganda’s system of company law, a vital part of the legal framework within which business is conducted yet until 2012, was regulated by the Companies Act 1961 (a product of the colonial era designed in line with the English Companies Act 1948).

Reliance on British legal ideas is not an issue for company law alone, areas such as matrimonial law (Marriage Act 1904), intellectual property law (Trademarks Act 1953) and insolvency law (before the enactment of Insolvency Act 2011 was regulated by the Bankruptcy Act 1931, a replica of the British Bankruptcy Act 1914) still depend on statutory frameworks from the colonial period.

However, it is arguable that since Britain is a laboratory for new legal ideas, continued reliance (with constant reform) makes credible sense; but where does that leave the notion of independence?

During the last two decades, Uganda has transformed into a major market player within the East African region; with the Uganda Stock Exchange attracting companies from all over of the world. However, as the business environment evolves, this creates a risk that the legal framework would become gradually divorced from the needs of corporate entities, particularly the needs of private companies, thus limiting their operational and development capability and capacity.

The Ugandan government responded to this overwhelming logic, though in an untimely fashion, by enacting the Companies Act 2012. This was a much-welcomed move given that previous companies legislation was notoriously and indefensibly complex and some of the underlying conceptual considerations that influenced the development of company law in the colonial era no longer applied. This monumental legislation is likely to propel Uganda on Global Doing Business Indicators and act as fuel for the commercial engine that drives the economy.

The World Bank Doing Business Report 2013 placed Uganda 144th out of 185 countries on ease of starting a business. In the East African Community, Uganda ranked bottom (Kenya 126, Tanzania 113, Burundi 28 and Rwanda holding an impressive 8th position). However, the report was drafted before the Companies Act 2012 came into effect thus in the 2014 version, Uganda is poised to command a stronger position.

The success of the Companies Act 2012 should not be judged by positive global indicators alone but by its ability to provide a simple, efficient and cost-effective framework for carrying out business activity. The legislation must permit the maximum amount of freedom and flexibility to those organising and directing the enterprise and at the same time protect, through regulation where necessary, the interests of those involved with the enterprise, including shareholders, creditors and employees; and be drafted in clear, concise and unambiguous language which can be readily understood by those involved in business enterprise. The major reforms made under the Companies Act 2012 are as follows:

First and foremost, it is now possible for a newly formed company to ratify a pre-incorporation contract (section 54). Before the 2012 Act, a company could not simply take over the existing contract, but a new contract had to come into existence. Thus, in order to avoid personal liability, there needed be an agreement that the company, once incorporated, will create a new contract on the same terms.

Section 54 has taken a different route from the UK section 51 of the Companies Act 2006. In UK, an incorporator cannot act as an agent of a company that is yet to be incorporated because the principal does not exist. The only option available to incorporators in UK is to enter into an agreement, that once the company is incorporated, it would adopt the contract. A likely problem that may be caused by section 54 is a surge in cases of defaulting incorporators. Despite that, the rule is designed to reflect the commercial development in Uganda and a move that demonstrates independence in ideas.

Second, the Companies Act 2012 has increased the maximum number of promoters in a private company from 50 to 100. Furthermore, according to section 4 (1) of the Companies Act 2012, one or more persons associated for any lawful purpose can form an incorporated company by adding their names to the Memorandum of Association.

 It thus enables a single person to form a company. These legal developments reflect the commercial landscape in the 21st century where demands for corporate finance requires more incorporators and the recognition of a one man company to ease limitations on accessing corporate form. However, the UK had already taken the same steps under their Companies Act 2006 to which the Uganda Law Reform Commission drew great inspiration. Another borrowed example, designed to bring about greater accountability, can be found under section 187 Companies Act 2012 which requires public companies to have a qualified company secretary.

Third, section 63 of the Companies Act 2012 prohibits public companies from giving financial assistance but a private company is permitted as long as it is a holding company. The removal of the prohibition for private companies would be useful once the leveraged finance market picks up in Uganda but as the prohibition continues to apply to public companies there is still the risk that when banks ask for group cross-guarantees these may not be given because there might be public companies in the group.

Furthermore, the memorandum of every company incorporated under the Companies Act 1961 or before the Companies Act 2012 contains an important clause known as an ‘objects clause’. The objects clause sets out the principle activities to be pursued by the company. The objects restrictions were abolished under the Companies Act 2012, section 51. The UK also abolished the restriction in their companies legislation to enable companies to venture into limitless business activities but at the same time increasing the risk of default, especially on the creditors. However, the safeguards remain under directors’ duties such as the good faith principle, which is in reality nothing more than a paper tiger (strong on paper yet powerless in action).

Fourth, section 198 of the Companies Act 2012 has codified the duties of directors. However, the statutory expression of the duties is essentially the same as the existing duties established by case law. Besides that, are the directors even aware of their duties? Very much doubtable and leads us back to the question of legal enforcement. Again, Uganda has followed the footsteps of their British counterparts who codified directors’ duties under sections 170-177 of the Companies Act 2012.

For both jurisdictions, the codification brings clarity to a complex area of law. Furthermore, the Companies Act 2012, under section 20, codifies the common law exceptions to the separate entity doctrine (a company is separate from its owners):  “The High Court may, where a company or its directors are involved in acts including tax evasion, fraud or where, save for a single member company, the membership of a company falls below the statutory minimum, lift the corporate veil.” Although not an exhaustive list, law reformers in Uganda again took the path of the British but a good path nonetheless, one which is likely to bring clarity over instances when corporate insiders can be made personally liable. Other notable codifications can be found under sections 106 and 107 which places a duty on companies to register charges created by the company and charges existing on property acquired.

Fifth, there is no statutory derivative action. A derivative claim is the procedural route by which shareholders, usually minority shareholders, are able to enforce the company’s rights (hence: ‘derivative’) where directors have breached their duties. This is because it is unlikely that directors, who usually act on behalf of the company, will want to take an action against themselves in such circumstances.

Alternatively, the Uganda Law Reform Commission chose to codify the unfair prejudice (sections 247-249 of the Companies Act 2012) provisions guided by the view that they would achieve the same objective as the derivative action procedure. However, since it is the company that benefits directly from shareholders actions, the question of who pays the shareholders costs remains unresolved. The UK retained the highly complex derivative action procedures in their companies legislation and still struggles with the issue of shareholders costs. Uganda has taken a different direction and can go a step further by passing regulations on shareholder costs.

Last but not least, registration is still by delivering the memorandum and articles to the registrar together with an application for registration and a statement of compliance. An online registration procedure is fully operational (Uganda Registration Services Bureau), but in a country where access/ knowledge of computer use is overtly limited, it is a step in the right direction but maybe a step too soon. Despite that, online registration will lead to more companies being incorporated, faster and less costly.

The main challenge for the law reformers was to strike the right balance between managerial freedom and investor protection (while offering easy access to the corporate form). So a key question here is: how well has the Ugandan government done in setting this balance? The Law Reform Commission has done a remarkable job in striking this balance but the main issue remains legal enforcement, awareness and continuous legal development, which cannot be guaranteed. In light of the reforms made under the Companies Act 2012, it is clear that the legislation is not a panacea. Even if it was, it often takes up substantial resources and management time to understand the legislation and many directors, owner/managers are too busy trying to survive, let alone make a profit to care about new laws.

In September 2013, I gave a lecture at the Uganda Law Reform Commission on the Companies Act 2012.  After a protracted debate on the merits of constant rather than periodical law reform, unlike many of scholars and lawyers present, I left unconvinced on whether Uganda had turned a corner on its colonial legacy and embarked on a new company law journey. True independence comes from being independent not only in social/legal frameworks and structures but in ideas. Most of the rules enshrined under the new legislation such as shareholder litigation and pre-incorporation contracts were designed to reflect the commercial landscape in Uganda. That is a sign of independence yet dependency is clear throughout the legislation such as in relation to one man companies, a progressive idea unlikely to be accepted in Uganda.

Since we are not fully independent, is there harm in remaining dependent on other jurisdictions with superior expertise and ideas? Clearly, none rather it provides an opportunity to access progressive ideas. My forthcoming book: ‘Principles of Company Law Uganda’ co-authored with Alexander Kibandama and edited by Professor David Bakibinga provides an edifying account of company law in Uganda. At long last, the Republic of Uganda has started to live up to its democratic values, by implementing unique ideas that represent the needs of the country and her peoples.

The writer is PhD Candidate Lecturer at University College Kensington Visiting Lecturer at Bradford University Senior Legal Advisor and Member of NHS Butabika Link Lecturer in Corporate and commercial law Membership Secretary, Association of Law Teachers Coordinator, Legal Education Research Network (LERN)