Third parties were often unable to sue companies in contract because of the ultra vires rule pertaining to the objects clause - which specifies the business the company can carry on and the legal powers of the company - in the Memorandum of Association. When the rule applied it made any contract which was caught by the rule void and the creditor could receive no restitution.
This was justified by the rule of constructive notice. This holds that since the Memorandum is a public document all parties are deemed to have had the opportunity to read it prior to committing to a transaction. Moreover the rule protected the shareholders' capital from acts undertaken by Directors purportedly on the company's behalf.
The immediate result was increasingly long objects clauses as companies strove to include any business they might wish to carry on, or power they might wish to exercise, together with catch-all clause permitting the company to carry on any business which the Directors thought fit: Bell Houses Ltd v City Wall Properties Ltd .
An aligned problem is that of Directors acting outside their authority. This may not be deliberate. For example a Director may have exceeded his authority by acting independently when the Articles required a board decision, or have failed to follow a specific procedure prior to entering a contract. Unless it could be established that the Director had ostensible or implied authority then the company would not be bound by the transaction.
Further the rule in Royal British Bank v Turquand  states that a third party need not determine whether internal rules have been followed prior to entering a contract with a company. Hence certain transactions might be enforceable even where the Directors had exceeded their authority if the shareholders ratified them and the transaction was otherwise in the company's powers.
The Companies Act 1989 dealt with the ultra vires rule by inserting provisions in the Companies Act 1985 retrospectively. Key alterations made by the Companies Act 1989 include:
s3A - allowed companies to describe themselves as a 'general commercial company'. This would allow companies to carry on any trade or business it wished with the requisite powers to do so and hence making objects clauses redundant.
S108 - substituted a new s35 (1) into the Companies Act 1985. This new section prevents a company being called into question on the ground of lack of capacity by reason of anything in the Memorandum of Association. In effect this abolishes the ultra vires rule as the company and other parties are prevented from using the ultra vires rule to challenge the validity of a transaction.
S108 also introduced s35A and s35B into the Companies Act 1985. s35A expressly allows a person dealing with a company in good faith to assume that the Directors will not be bound by any limitation in the company's constitution. S35B states that a party to a transaction is not bound to enquire whether that transaction is permitted by the company's memorandum. There is a presumption of good faith and s35 (2) states that a party shall not be regarded as acting in bad faith by reason only of knowing that an act is outside the Directors' powers.