Section 21 of the Companies Act 71 of 2008 (“the Act”) provides for an exception to the common law rule that a person cannot bind a non-existent principal.
The Act provides in Section 21(1) that a person may enter into a written agreement on behalf of a company not yet in existence at the time. However, the Act sets out various formalities that must be adhered to for a pre-incorporation contract to be valid and enforceable.
The above exception is qualified by Section 21(4) which sets out strict timelines for ratification of the pre-incorporation contract by the company, as well as a default rule in the event that the company neither ratifies nor rejects the contract. In particular, the Act provides that the board of directors may within three months after the date on which a company was incorporated, completely, partially or conditionally ratify or reject any pre-incorporation contract. Failure to do so, will result in the company being deemed to have ratified the pre-incorporation contract.
Should the company ratify the pre-incorporation contract, then the person who represented the company will be released from all legal liability. However, should the company not be incorporated, or after its incorporation, rejects any part of the contract, the person who entered into the pre-incorporation contract on behalf of the company will be held personally liable on a joint and several basis (together with the company, if incorporated) for the liabilities under the contract.
The common law is not excluded by the Act. Therefore, parties can still conclude a contract on behalf of a company to be formed by making use of the common law stipilatio alteri (contract for the benefit of a third party). The only difference between the above methods is that the common law does not provide for deemed ratification of the contract and does not impose personal liability on the person contracting on behalf of the company. If the company is not incorporated or the pre-incorporation contract is rejected by the company, the contract simply falls away.
It is important to note that the Act does not specifically deal with the rights and obligations of the parties in the interim period, i.e. the period between conclusion and ratification of the contract by the company. Therefore, and in order to avoid uncertainty, it would be prudent to structure the contract in such a way so as to clearly reflect the intentions of the parties. In particular, it is advisable to indicate whether the contract is a S21 pre-incorporation contract or a common law stipilatio alteri. Furthermore, and based on the judgement handed down in the case of Venalex (Pty) Ltd v Vigraha Property CC and Others (2015) 2 All SA 645 (KZD), where the court held that the words “a company to be formed” can be construed as to include a shelf company, it is recommended that the contract clearly specify whether the company will be a shelf company or a newly incorporated company.
In conclusion, considering the implications of personal liability, it is advisable to consult an attorney before entering into such pre-incorporation contracts.
For more information, please contact our Alison Caron Fortuin at firstname.lastname@example.org or call our offices on 021 441 9800.
Alison Caron Fortuin | Senior Associate
Areas of Expertise: Conveyancing | Property Law
This article is a general information sheet and should not be used or relied on as legal or other professional advice. No liability can be accepted for any errors or omissions nor for any loss or damage arising from reliance upon any information herein. Always contact your legal adviser for specific and detailed advice. Errors and omissions excepted (E&OE)