18

Companies Act, 2013 : Types of Companies and Their Characteristics

18.1 DEFINITION OF A COMPANY

18.1.1 Literary Meaning

Company is an association of persons formed for the purpose to achieve some common objects.

18.1.2 Legal Meaning—Section 2 (20)

Company means a company formed and registered under this act or an existing company. This act means, company registered under the Companies Act, 2013. Existing company means a company formed and registered under any of the previous Companies Act (i.e., Companies Act, 1956 or Indian Companies Act, 1913 or Indian Companies Act, 1882.)

The definition does not bring out clearly the meaning of a company. For a common man, a ‘company ‘means, an association of persons for certain purpose. But all association of persons cannot be technically called ‘companies’.

18.2 THE CHARACTERISTICS OF A COMPANY

Company format of business is known for its various unique characteristics which can be understood by one as under:

18.2.1 Incorporated Association

A company must be incorporated or registered under the Companies Act. Minimum number required for the purpose is seven in case of a public company, and two in case of a private company, and one person in case of an one person company (Section 3).

18.2.2 Artificial Person

A company is created with prior sanction of law and is not itself a human being. It is, therefore, called an artificial entity. As such an entity is always clothed with certain legal rights and obligations; hence, it is considered as a person. A company is, accordingly, an artificial person.

18.2.3 Separate Legal Entity

Unlike partnership, a company is also distinct from the persons who constitute it. Section 9 of the Companies Act says that on registration, the association of persons becomes body corporate by the name contained in the memorandum.

In the famous case of Salomon vs Salomon & Co. Ltd., it was observed that a company is at law a different person altogether from the subscribers; although it may be that after incorporation the business is precisely the same as it was before, and the same persons are managers, and the same hands receive the profits, the company is at law not the agent of the subscribers or trustee to them. Nor are the subscribers as members liable in any shape or form, except to the extent and in the manner provided in the Act.

The facts of the famous Salomon’s case were as follows:

 

Salomon carried on business as a leather merchant. He sold his business for a sum of £30,000 to a company formed by him along with his wife, daughter, and four sons. The purchase consideration was satisfied by allotment of 20,000 shares of £1 each and issue of debentures worth £10,000 secured by floating charge on the company’s assets in favour of Mr Salomon. All the other shareholders subscribed for one share of £1 each. Mr Salomon was also the managing director of the company. The company almost immediately ran into difficulties and eventually became insolvent and winding up commenced. At the time of winding up, the total assets of the company amounted to £6,050; its liabilities were £10,000 secured by the debentures issued to Mr Salomon and £8,000 owing to unsecured trade creditors. The unsecured sundry creditors claimed the whole of the company’s assets, viz., £6,050 on the ground that the company was a mere alias or agent for Mr Salomon.

It was held that contention of the trade creditors could not be maintained, because the company, being in law a person quite distinct from its members, could not be regarded as an agent or trustee for Salomon. Also, the company’s assets must be applied in payment of the debentures as a secured creditor is entitled to payment out of the assets on which his debt is secured in priority to unsecured creditors.

 

In Lee vs Lee Air Farming Limited, a company was formed for the purpose of manufacturing aerial top-dressing. Lee, a qualified pilot, held majority of shares in the company and by the articles was appointed director of the company and chief pilot. Lee was killed while piloting the company’s aircraft and his widow claimed compensation for his death under the Workmen Compensation Act. The company opposed the claim on the ground that Lee was not a ‘worker’ as the same person could not be employer and the employee. It was held that there was a valid contract of service between Lee and the company, and Lee was, therefore, a worker, Mrs Lee’s contention was upheld.

18.2.4 Limited Liability Company

The company being a separate person, its members are not as such liable for its debts. In the case of a company limited by shares, the liabilities of its members are limited to the nominal value of shares held by them. Thus, if the shares are fully paid-up, their liability will be nil.

However, companies may be formed with unlimited liability of members. In case of unlimited liability companies’ members shall continue to be liable till each paise has been paid-off.

In case of companies limited by guarantee, the liability of each member shall be determined by the guarantee amount, i.e., he shall be liable to contribute up to the amount guaranteed by him. But, in case of a guarantee company having share capital, the liability shall be limited to the aggregate of the amount remaining unpaid on the shares held by a member and the amount guaranteed by him unlimited liability of a member of a limited liability company.

18.2.5 Transferability of Shares

Since business is separate from its members in a company form of organization, it facilitates transfer of members’ interest. The shares of a company are transferable in the manner provided in the Articles of the company. However, in a private company, certain restrictions have to be placed on such transfer of shares, but the right to transfer is not taken away absolutely.

18.2.6 Perpetual Existence

A company being an artificial person cannot be incapacitated by illness and it does not have an allotted lifespan. Situations like death, insolvency, or retirement of its members leaves the company unaffected. Members may come and members may go, but the company goes on forever.

18.2.7 Separate Property

Shareholder is not the part owner of the company or its property, he is only given certain rights by law e.g. to vote, to attend meetings, to receive dividends. It was observed that even where a shareholder held almost entire share capital he did not even have an insurable interest in the property of the company.

18.2.8 Common Seal

A company being an artificial person is not bestowed with a body of natural being. Therefore, it has to work through its directors, officers and other employees. But, it can be held bound by only those documents which bear its signatures. Common seal is the official signature of a company. Now, common seal has been made optional. Following documents require common seal, if company has common seal:

1. Power of Attorney
2. Share Certificate
3. Share warrant

18.2.9 Company May Sue and Be Sued in Its Own Name

Another fallout of separate legal entity is that the company, if aggrieved by some wrong done to it may sue or be sued in its own name.

18.3 BODY CORPORATE

Body Corporate means, an association of persons which has been incorporated under some statute having perpetual succession, a common seal and having a legal entity different from the members constituting it. Sub-section (11) of Section 2 of the Companies Act, 2013 defines the expression ‘body corporate’ as follows:

 

‘Body corporate’ or ‘corporation’ includes a company incorporated outside India but does not include: (a) co-operative society registered under any law relating to co-operative societies; (b) any other body corporate not being a company which the Central Government may, by notification in the Official Gazette, specify in this behalf.”

 

It may be noted that Central Government has reserved the right to declare any association of persons as a body corporate. Thus, the words ‘body corporate’ are not equivalent to the words ‘incorporated company’. Incorporated company is a body corporate, but many body corporates are not incorporated companies. (Madras Central Urban Bank Ltd. vs Corporation of Madras). The expression ‘corporation’ or ‘body corporate’ is, thus, wider than the term ‘company’.

18.4 LIFTING OF THE CORPORATE VEIL

The advantages of incorporation are allowed to be enjoyed only by those who want to make an honest use of the company. In case of a dishonest and fraudulent use of the facility of incorporation, the law lifts the corporate veil and identifies the persons who are behind the scene. They are held responsible for the perpetration of fraud.

The circumstances under which the courts may lift the corporate veil may broadly be grouped under the following two heads:

1. Under statutory provisions.
2. Under judicial interpretations.

18.4.1 Under Statutory Provisions

The veil of corporate personality may be lifted in certain cases or pierced as express provisions of the Act. In other words, the advantage of ‘distinct activity’ and limited liability’ may not be allowed to be enjoyed in certain circumstances, Such cases are:

18.4.1.1 Misrepresentation in Prospectus—Section 34 and 35 In case of misrepresentation in a prospectus, every director, promoter, and every other person, who authorizes issue of prospectus which contains misstatement incurs liability towards those who subscribed for shares on the faith of untrue statement.

18.4.1.2 Failure to Return Application Money—Section 39 In case of issue of security by a company to the public, if minimum subscription as stated in the prospectus has not been received within 30 days from issue of the prospectus the company must return the application money within 15 days of closure of issue. If money is not paid within such period, directors shall be personally liable to return the money with interest @ 15% per annum.

18.4.1.3 Misdescription of Name—Section 12 Where an officer of a company signs on behalf of the company, any contract, bill of exchange, hundi, promissory note, cheque or order for money, such person shall be personally liable to the holder if the name of the company is either not mentioned or is not properly mentioned.

Example

Director Blum signed the cheques in name of ‘Bomore Medial Supplies’, instead of ‘Bomore Medical Supplies Ltd.’ It was held that Blum is personally liable for this misdescription.

18.4.1.4 For Investigation of Ownership of a Company—Section 216 Under Section 216, the Central Government may appoint one or more inspectors to investigate and report on the membership of any company for the purpose of determining the true persons who are financially interested in the company and who control policy or materially influence it.

18.4.1.5 Fraudulent Conduct—Section 339 Where in the case of winding-up of a company it appears that any business of the company has been carried on with intent to defraud creditors of the company or any other person, or for a fraudulent purpose, those who are knowingly parties to such conduct business may, if the Tribunal thinks it proper so to do, be made personally liable without any limitation as to liability for all or any debts or other liabilities of the company. Liability under this section may be imposed only if it is proved the business of the company has been carried on with a view to defraud its creditors.

18.4.1.6 Liability for Ultra Vires Acts Directors and other officers of a corporate will be personally liable for all those acts which they have done on behalf of company if the same are ultra vires the company.

18.4.1.7 Liability Under Other Statutes Besides the Companies Act, directors and other officers of the company may be held personally liable under the provisions other statutes.

18.4.2 Under Judicial Interpretations

Some of the cases where the veil of incorporation was lifted by judicial decisions may be discussed to form an idea as to the kind circumstances under which the facade of corporate personality will be removed.

18.4.2.1 Protection of Revenue In Sir Dinshaw Maneckjee Petit, the assesses was a millionaire earning huge income by way of dividends and interest. He formed four private companies and transferred his investments to each of these companies in exchange of their shares. The dividends and interest income received by the company was handed back to Sir Dinshaw as a pretended loan. It was held that the company was formed by assesses purely and simply a means of avoiding tax and the company was nothing more than assesses himself. It did no business, but was created simply as a legal entity to ostensibly receive the dividends and interest and to hand them over to the assesses as pretended loans.

18.4.2.2 Prevention of Fraud or Improper Conduct Where the medium of a company has been used for committing fraud or improper conduct, courts have lifted the veil and looked at the realities of the situation.

18.4.2.3 Determination of the Enemy Character of a Company Company being an artificial person cannot be an enemy or friend. However, during war, it may become necessary to lift the corporate veil and see the persons behind as to whether they are enemies or friends. It is because, though a company enjoys a distinct entity, its affairs are essentially run by individuals.

18.4.2.4 Formation of Subsidiaries to Act as an Agent In Merchandise Transport Limited v. British Transport Commission, a transport company wanted to obtain licenses for its vehicles, but it could not do so if it made the application in its own name. It, therefore, formed a subsidiary company and the application for licenses was made in the name of the subsidiary. The vehicles were transferred to the subsidiary. Held, the parent and the subsidiary company were one commercial unit and the application for licenses was rejected.

18.4.2.5 In Case of Economic Offences In Santanu Ray v. Union of India, it was held that in case of economic offences, a court is entitled to lift the corporate entity and pay regard to the economic realities behind facade.

18.4.2.6 Where Company is Used to Avoid Welfare Legislation Where it was found that the sole purpose for formation of the new company was to use device to reduce the amount to be paid by way of bonus to workers, the Supreme Court upheld the piercing of the veil to look at the real transactions.

18.5 ILLEGAL ASSOCIATION

Section 464 of the Companies Act, 2013 provides that no company, association or partnership consisting of more than 50 persons for the purpose of carrying on any business can be formed unless it is registered under the Companies Act or is formed in pursuance of some other Indian laws. Thus, if such an association is formed and not registered under the Companies Act or any other laws, it will be regarded as an ‘illegal association’ although none of the objects for which it may have been formed is illegal. Section 464 does not apply to the following cases:

1. Association or partnership, if it is formed by professionals who are governed by special acts.
2. Joint Hindu Family: Section 464 does not apply to a joint family, that is, a joint Hindu family may carry on any business, even for earning profits and with any number without being registered or formed in pursuance of any Indian Law as required by Section 464 of the Companies Act, 2013 and yet it will not be an illegal association.

18.6 EFFECTS OF AN ILLEGAL ASSOCIATION

Every member is personally liable for all liabilities incurred in the business. Members are punishable with fine. Such an association cannot enter into any contract. Such an association cannot sue any of its members or any outsiders, not even if the association is subsequently registered as a company. It cannot be sued by a member or an outsider for any debts due to it, because it cannot contract for any debt. It cannot be wound up even under the provisions relating to winding up of unregistered companies because law does not recognize its very existence.

The illegality of an illegal association cannot be cured by subsequent reduction in the number of its members. (Kumar Swami Chettiar vs M.S.M. Chinnathambi Chettiar), The profits made by an illegal association are, however, liable in assessment of income tax (Gopaji Co. vs C.I.T.A.)

18.7 ADVANTAGES OF INCORPORATION

As compared to other types of associations, an incorporated company has the following advantages:

18.7.1 Independent Legal Entity

Unlike a partnership firm which has no existence apart from its members, a company is a distinct legal person independent of its members.

18.7.2 Limited Liability

A company can be formed with the liability of its members limited. In the case of limited companies, no member is bound to contribute anything more, than the nominal value of the shares held by him or/and the amount guaranteed by him.

18.7.3 Perpetual Succession

An incorporated company has perpetual succession. Notwithstanding, any change in its members, the company will be the same entity with the same privileges and immunities, estate and possessions. This is a distinct advantage over and above a partnership where situations like death, insolvency, insanity or separation of members, i.e., partners will not only have a bearing on its business but may even result in the dissolution of the firm.

18.7.4 Transferability of Shares

Section 44 of the Companies Act, 2013 of the Act provides that the shares of any member in a company shall be movable property, transferable in the manner provided by the articles of the company. The facility of free transferability of shares encourages investment in the shares of the companies.

18.7.5 Infinite Membership

Another advantage of incorporation is that there is no limit to the maximum number of members in a public company. Accordingly a very large number of people including the juristic ones, can combine and contribute to the formation and financing of the company.

18.7.6 Separate Property

The property of the company is not the property of the shareholders; it is the property of the company. In the case of Gramophone and Typewriter CL vs Stanley it was held that no member or director can claim himself to be the owners of such a company’s property or use the properties of the company.

18.7.7 Control and Management

The company law provides for all the managements of the companies through the elected representatives of the members, known as the directors and therefore, no shareholder is to worry about the management of the company.

18.8 DEFINITION OF A PUBLIC COMPANY

Section 2(71) of the Companies Act, 2013, defines a public company. Public Company means, a company which:

1. Is not a private company.
2. Has a minimum paid-up capital as may be prescribed;
3. Is a private company, which is a subsidiary of a company, and not a private company.

18.9 DEFINITION OF A PRIVATE COMPANY

As per Section 2(68) of the Companies Act, 2013, ’Private company‘ means a company which has minimum paid-up capital as may be prescribed, and by its articles:

1. Restricts the right to transfer its shares;
2. Limits the number of its members to 200, not including;
   1. Persons who are in the employment of the company, and
   2. Persons who having, been formerly in the employment of the company, were members of the company while in employment and have continued to be members after the employment ceased. Here, it should be noted that joint holders of the shares are treated as single members..
3. Prohibits any invitation to the public to subscribe for any securities of the company.

18.10 DISTINCTION BETWEEN PRIVATE AND PUBLIC COMPANY

‘In the case of a private company, minimum number persons to form a company are two while it is seven in the case of a public company. In case of a private company, the maximum number must not exceed two hundred, whereas there is no such restriction on the maximum number of members in case of a public company.

In a private company, the right to transfer shares is restricted, whereas in case of public company the shares are freely transferable.

A private company cannot issue a prospectus, while a public company may, through prospectus, invite the general public to subscribe for its shares or debentures.

A private company must have at least two directors, whereas a public company must have at least three directors.

A private company cannot accept deposits from public. There is no such restriction for a public company.

18.11 LIMITED LIABILITY COMPANIES

The discussion on limited liability companies may be divided under the following three heads:

1. Companies limited by shares;
2. Companies limited by guarantee;
3. Companies limited by a guarantee, having share capital.

18.11.1 Companies Limited by Shares

A company having the liability of its members limited by the memorandum, to the amount if any, unpaid on the shares, respectively, held by them is termed as a company limited by shares.

A company of this type is commonly called, ‘Limited Liability Company’. Although, the liabilities of the company are never limited, but it is the liabilities of its members are limited. The liabilities of the members can be enforced at any point of time during the existence and, also during the winding-up of such a company.

A company of this nature must have share capital as the extent of liabilities, is determined by the face value of its shares. However, except where the articles, otherwise, provide, there are no liabilities to pay any balance amount due on the shares, except in pursuance of calls duly made in accordance with law and the articles while the company is a going concern or of calls made in the event of winding-up of the company.

18.11.2 Companies Limited by Guarantee

A company limited by guarantee, may be defined as a company having liability of its members limited by the memorandum to such an amount that its members may respectively undertake by the memorandum to contribute to the assets of the company in the event of its being wound-up.

The liability of a member in the case of a company limited by guarantee, where the company has no share capital, is limited to the amount which he has undertaken by the memorandum of association to contribute to the assets of the company in the event of its being wound-up.

18.11.3 Companies Limited by Guarantee Having Share Capital

The liability of a member of a guarantee company having share capital is not merely limited to the amount guaranteed. he may be called upon to also contribute to the extent of any sums remaining unpaid on the shares held by him.

18.12 UNLIMITED LIABILITY COMPANY

A company having no limit on the liability of its members is an unlimited company. Thus, in the case of an unlimited liability company, the liability of each member extends to the whole amount of the company’s debt and liabilities. It may be seen that the liability of members of an unlimited company is similar to that of the partners, but unlike the liability of partners, the members of the company cannot be directly proceeded against. Company being a separate legal entity, the claims can be enforced only against It company. Thus, creditors shall have to institute proceedings for winding up the company for their claims. But the official liquidator may call upon the members to discharge the debts and liabilities without limit.

An unlimited company may or may not have share capital. The articles of association of an unlimited company must state the number of members with which the company is to be registered and, if the company has share capital, the amount of share capital with which the company is to be registered. As the capital, if any, is stated in the articles and not in the memorandum, it may be varied, increased or reduced, by passing a special resolution.

18.13 CONVERSION OF A PRIVATE COMPANY INTO A PUBLIC COMPANY

The discussion on conversion of a private company into a public company may be grouped under the following heads:

1. Conversion by default;
2. Conversion by choice.

18.13.1 Conversion by Default

Where a private company default in compliance with the statutory requirements as laid down in Section 2(68) of the Companies Act, 2013 (i.e., if its membership exceeds 200 or it invite public to subscribe to security of company), its becomes a public company automatically.

As a consequence, the company shall cease to enjoy the privileges and exemption conferred on a private company and the provisions of the Companies Act apply to it as if it were a public company. However, Central Government on being satisfied that the failure to comply the conditions was accidental or due to inadvertence or to some other sufficient cause, may grant relief from such consequence as aforesaid. The relief granted on grounds which the central government feels is just and equitable.

18.13.2 Conversion by Choice—Section 14

A private company may, of its own choice become a public company. The following steps are necessary for this purpose:

18.13.2.1 Special Resolution A private company desiring to become a public company must pass a special resolution deleting from its articles the requirements of Section 2(68). Application in Form No. INC 27 shall be made. A copy of the special resolution so passed must be filed with the Registrar of Companies within 30 days thereof in Form No. MGT 14.

18.13.2.2 Increase in Membership If the number of members is less than seven, it must be raised to not less than seven.

18.13.2.3 Increase in Number of Directors If the number of directors is less than three, it must be raised to not less than three.

18.13.2.4 Raising of Paid-up Capital Where necessary, the paid-up capital must be raised to the minimum limit prescribed for public companies.

18.13.2.5 Filing of Copy of Prospectus or Statement in Lieu of Prospectus Within 30 days from the passing of the special resolution, a prospectus or a statement in lieu of prospectus in the prescribed Form must be filed with the Registrar.

18.14 GOVERNMENT COMPANIES

Section 2(45) defines a Government company to mean any company in which not less than 51% of the paid-up share capital is held by:

1. The Central Government; or
2. Any State Government or Governments; or
3. Partly by the Central Government and partly by one or more State Governments.
4. A subsidiary of a Government company shall also be treated as a Government company.

18.15 FOREIGN COMPANY—SECTION 2(42)

A foreign company means a company or body corporate incorporated outside India and having a place of business in India. Accordingly, a company which is incorporated outside India and employs agents in India, but has no office or does not establish a place of business in India will not be a foreign company.

A company shall be said to have a place of business in India if it has a specified or identifiable place at which it carries on business such as an office, storehouse, godown, and other premises having some concrete connection between locality and business. Having a share transfer office or share registration office will constitute a place of business.

It may be noted that Section 2(42) defines a foreign company in terms of its place of incorporation. If the company is established outside India and has a place of business in India, then only it will be a foreign company under this section.

18.16 HOLDING AND SUBSIDIARY COMPANIES

‘Holding’ and ‘subsidiary’ companies are relative terms. A company is holding company of another if the other is its subsidiary. According to Section 2(87) of the Companies Act, 2013, a company shall be deemed to be a subsidiary of another, in the following cases:

1. The other company controls the composition of its Board of Directors;
2. The other company holds more than half of total share capital or control in other company either by itself or by its subsidiary companies.

Example

Where Company B is a subsidiary of Company A, and Company C is a subsidiary of Company B, then Company C shall be a subsidiary of Company A. If the Company D is a subsidiary of Company C, then Company D shall also be a subsidiary of Company B, and consequently also of Company A.

18.16.1 Control of Composition of Board of Directors

The composition of the Board of Directors of a company shall be deemed to be controlled by the other if the latter has the power, without the consent or concurrence of the other persons to appoint or remove all or majority of the directors.

18.17 PROMOTER

In layman language, any person, who conceives of the idea of forming a company, and actually put it into existence, can be termed as promoter. As per Section 2 (69) of the Companies Act, 2013, promoter means a person:

1. who has been named as such in a prospectus or is identified by the company in the annual return referred to in section 92; or
2. who has control over the affairs of the company, directly or indirectly whether as a shareholder, director or otherwise; or
3. in accordance with whose advice, directions or instructions the Board of Directors of the company is accustomed to act.

“A promoter is one who undertakes to form a company with reference to a given object and to set it going, and who takes the necessary steps to accomplish purpose,” (Twycross vs Grant)

A company promoter is a person who originates a scheme for the formation of the company, has the Memorandum and Articles prepared, executed and registered, and finds the first directors, settles the terms of preliminary contracts and prospectus and makes arrangements for advertising and circulating the prospectus and placing the capital. A promoter is a person who does the necessary preliminary work for the formation of a company.

A promoter may be an individual, firm, an association of persons or a body corporate. However, everyone who is connected with the formation of a company may not be a promoter. For instance, under the Companies Act, persons acting in a professional capacity to assist persons engaged in procuring the formation of a company (e.g., Company Secretary, Chartered Accountants, etc.) are not considered as promoters.

18.18 LEGAL POSITION OF PROMOTERS

The promoters occupy an important position and have wide powers relating to the formation of a company. His legal position is clear.

It is interesting to note that he is neither an agent nor a trustee of the proposed company. He is not the agent, because there is no company yet in existence and he is not a trustee, because there is no trust in existence. But, it does not mean that the promoter does not have any legal relationship with the proposed company. The correct way to describe his legal position is that he stands in a fiduciary position towards the company about to be formed.

In Erlanger vs New Sombrero Phosphate Co., it was held that “The promoters of a company stand undoubtedly in a fiduciary position. They have in their hands the creation and moulding of the company. They have the power of defining how and when and in what shape and under what supervision, it shall start into existence and begin to act as a trading corporation.”

It was observed in Lagunas Nitrate Co. vs Langunas Syndicate that “The Promoters stand in fiduciary position to those persons whom they induce to become shareholders in it.”

This fiduciary relationship imposes an obligation on the promoter that he must act honestly and must make a complete disclosure of all material facts relating to the formation of the company. There are two fiduciary duties of a promoter not to make any secret profits and to make a full disclosure to the company. It was held that the disclosure should be made to an independent and competent Board of Directors. Where it is not possible to constitute an independent board of directors, the disclosure should be made to the whole body of persons who are invited to become shareholders and this can be done through the prospectus.

In Gluckstein vs Barnes, it was held that making of profit is not forbidden; what is forbidden is nondisclosure of it. Thus, we can conclude by stating that the promoter is neither the agent nor a trustee for the company he promoters, but he stands in a fiduciary relationship with the company.

18.19 DUTIES OF PROMOTER OF A COMPANY

18.19.1 To Disclose Secret Profits

A promoter must not make any secret profit at the expense of the company that he promotes. If he has made any secret profit, it is his duty to disclose all the money secretly obtained by way of profit. If he fails to do so, the company may recover such profits from him. In the case of Gluckstein vs Barnes, it was held that promoter is not forbidden to make profit, but to make secret profit.

18.19.2 To Disclose all Material Facts

A promoter should make full disclosure of all the material facts regarding the formation of a company. The promoter is not allowed to derive a profit from the sale of his own property to the company unless all material facts are disclosed.

If a promoter contracts to sell to the company, a property without making a full disclosure, and the property was acquired by him at a time when he stood in a fiduciary position towards the company, the company may either rescind it or affirm the contract and then recover the secret profits from promoters. The material fact may be disclosed to an independent and competent board of directors of the company or in the Articles of Association or in the prospectus or to the whole body of shareholders.

A promoter is required to provide sufficient information and details in notice, agenda papers and explanatory statement attached with notice of general meeting. As per Section 102 of Companies Act, 2013, action can be taken against them if due to non-disclosure or insufficient disclosure, he has obtained any profit or gain.

18.19.3 Promoter Must Make Good to the Company What He Has Obtained as a Trustee

A promoter stands in a fiduciary position towards the company. It is duty of the promoter to make good to the company what he has obtained as trustee and not what he may get at any time. [Jubliee Cotton Mills Ltd. vs Lewis] Promoter must not make an unfair use of his position. The promoters must make a fair and reasonable use of his powers and position. He must act honestly.

18.19.4 To Act Diligently

The promoter is under an obligation to discharge his duties diligently. He must disclose all the private arrangements resulting in profit by the formation of the company.

18.19.5 To Use Public Issue Money for Object for Which It was Raised

As per Section 13(8), a company cannot change its object without passing special resolution when it has unutilized amount of public issue. In addition, company shall give an opportunity to dissenting shareholders to exit.

18.20 PRELIMINARY CONTRACTS OR PRE-INCORPORATION CONTRACT

Contracts made by promoters with parties to acquire some property or right for and on behalf of a company yet to be formed, are termed as ‘pre-incorporation or ‘preliminary’ contracts. Such contracts are not legally binding on the company even after its incorporation, because two consenting parties are necessary to a contract whereas the company is a non-entity before its incorporation. The company has no legal existence until it is incorporated. Thus, a company cannot sue or be sued for pre-incorporation contracts.

18.21 EFFECTS OF PRE-INCORPORATION CONTRACTS

Promoter who start company, require carrying out number of transaction and entering into contract on behalf of company before the company commence its business and acquire legal status. Pre-incorporation contracts have following effects:

18.21.1 Not Binding on Company

A company, when registered, is not bound by pre-incorporation contracts, because at the time of making the contract the company was not in to existence. Company is not liable even if it has taken some advantage from contract.

18.21.2 Cannot Ratify the Agreement

A company when registered cannot ratify or adopt the pre-incorporation agreements, because a contract can be ratified only when it is made by an agent for principal who is in existence and is competent to contract at the time when the contract is made. Since company was not in existence, therefore, ratification is not possible.

It was held in the case of Howard vs Patent Ivory Mfg. that after incorporation, a company may enter into a new contract to carry into effect the contract made by the promoters before the incorporation.

18.21.3 Promoter Personal Liability

Promoters would be personally liable for any liability undertaken or aroused out of contract. (Kelner vs Baxter)

18.21.4 Company Cannot Sue

The company cannot enforce the preliminary agreements nor has any right under it.

18.22 STEPS TO OBTAIN CERTIFICATE OF INCORPORATION

First of all, the promoters have to decide whether they want to form a public company or a private company. For securing the registration or certificate of incorporation, the following steps are required to be taken:

1. The promoters should ascertain from the Registrar of Companies whether the name by which the company is to be started is available or not.
2. For this purpose, the promoters should decide upon at least three suitable names in the order of preference to afford flexibility to the Registrar. This application should be made to the Registrar of the State where the registered office is to be situated in the prescribed form No. e-INC-1 along with a fee. Necessary care should be taken while selecting the name that it must not be undesirable or it must not be identical or too nearly resemble the name of an existing company.
3. The Memorandum of Association and articles of association should be prepared. The Memorandum should be signed by seven subscribers in case of a public company and two subscribers in case of a private company. Similarly, the Articles of Association which contains the rules and regulations for the internal management of a company should similarly be signed by subscribers. The memorandum and articles have to be duly stamped.
4. An application in the prescribed form has to be filed online (www.mca.gov.in). The application for registration must be accompanied by the following documents:
   1. Memorandum and Articles of Association duly stamped, signed and witnessed. The letter from the Registrar regarding the availability of the name should also be attached.
   2. As per Section 7 read along with Rule 14 of The Companies (Incorporation) Rules 2014 declaration should be given by an advocate, a Chartered Accountant, Cost accountant or Company Secretary in practice shall be in Form No. INC-8. Declaration is given to effect that all rules and provisions of Companies Act, 2013 have been complied with for registration of company.
   3. The affidavit shall be submitted by each of the subscribers to the memorandum and each of the first directors named in the articles in Form No. INC-9 providing that he is not convicted of any offence in connection with the promotion, formation or management of any company, or that he has not been found guilty of any fraud or misfeasance or of any breach of duty to any company under this Act or any previous company law during the preceding five years and that all the documents filed with the Registrar for registration of the company contain information that is correct and complete and true to the best of his knowledge and belief.
   4. The agreement, if any, which the company proposes to enter into with any individual for appointment as its managing or whole-time director or manager.
   5. The particulars of each person mentioned in the articles as first the director of the company and his interest in other firms or bodies corporate along with his consent to act as director of the company shall be filed in Form No. DIR-12 as provided in the Companies (Registration offices and fees) Rules, 2014.
   6. Where the location of the registered office is finalized prior to the incorporation of a company by the promoters, the promoters can also file along with the Memorandum and Articles, the verification of its registered office in Form No. INC 22.
5. Once the required documents have been filed and the prescribed amount of fee is paid, the Registrar will scrutinize the documents and if satisfied that all the formalities have been duly complied with, he will issue a certificate of incorporation. The certificate of incorporation is issued by the Registrar in Form No. INC-11. On receiving this certificate, the company becomes a body corporate. The Registrar shall allot to the company, corporate identity number (CIN) which distinguish one company from another company.

18.23 ONE PERSON COMPANY

The concept of One Person Company [OPC] is a new vehicle/form of business, introduced by the Companies Act, 2013, thereby enabling entrepreneur(s) carrying on the business in the sole-proprietor form of business to enter into a corporate framework.

A One Person Company is a hybrid of Sole-Proprietor and Company form of business, and has been provided with relaxed requirements under the Act.

18.24 THE FEATURES OF ONE PERSON COMPANY

18.24.1 Only One Shareholder

Only a natural person, who is an Indian citizen and resident in India, shall be eligible to incorporate a One Person Company. The term ’Resident in India‘ means a person who has stayed in India for a period of not less than 182 days during the immediately preceding one calendar year.

18.24.2 Nominee for the Shareholder

The Shareholder shall nominate another person who shall become the shareholders in case of death/incapacity of the original shareholder. Such a nominee shall give his/her consent and such consent for being appointed as the nominee for the sole Shareholder. Only a natural person, who is an Indian citizen and resident in India, shall be a nominee for the sole member of a One Person Company.

18.24.3 Director

OPC must have a minimum of One Director; the sole shareholder can himself be the sole director. The Company may have a maximum number of 15 directors.

18.25 TERMS AND RESTRICTIONS OF ONE PERSON COMPANY

A person shall not be eligible to incorporate more than one One Person Company or become nominee in more than one such company.

A minor cannot become member or nominee of a One Person Company or can hold its shares with beneficial interest.

A One Person Company cannot be incorporated or converted into a company under Section 8 of the act. [Company not for Profit].

A One Person Company cannot carry out non-banking financial investment activities including investment in securities of a body corporate.

An One Person Company cannot convert voluntarily into any kind of company unless two years have expired from the date of incorporation of such a company, except the threshold limit (paid-up share capital) is increased beyond ₹ 50 Lakh or its average annual turnover during the relevant period exceeds ₹ 2 Crores, that is, if the paid-up capital of the company crosses ₹ 50 Lakh or the average annual turn-over during the relevant period exceeds ₹ 2 Crores, then the One Person Company has to invariably file forms with the Registrar of Companies, for conversion in to a private or public company, with in a period of six months on breaching the described threshold limits.

LIST OF LANDMARK JUDGEMENTS

1. Soloman vs Solomon and Co. Ltd (1897)

   The company is a separate legal entity, which is different from its members and creditors.

2. Dalmier Co. Ltd vs Continental Tyre and Rubber Co. (1916)

   The corporate veil of the company could be lifted to ascertain if the company was alien enemy or not.

3. Jones vs Lipsman (1962)

   If the company is formed for some fraudulent of improper purpose, its separate legal entity character can be avoided and the corporate veil can be lifted.

4. Hendon vs Adelmann (1973)

   If the name of the company is not properly used and there is no indication that the acts are done on behalf of the company, then the persons who have actually done the act, will be personally liable.

5. Hindustan Lever Ltd vs Bombay Soda Factory (1964)

   On the conversion of a private company into public company, no new company comes into existence. The legal personality of the company is not affected.

6. Turner Morrison and Co. Ltd vs Hungerford Investment Trust Ltd (1969)

   A holding company and its subsidiary are a separate legal entity.

7. State Trading Corporation of India vs CTO (1963)

   The Government company is not a department of the state.

8. Heavy Engg. Mazdoor Union vs State of Bihar (1969)

   The corporation’s entire share capital was contributed by the Central Government and it could not be said that the undertaking carried out by the corporation, is carried out by the Central Government.

9. Erlanger vs New Sambrero Phosphate Co. (1878)

   The promoter stands in fiduciary relation to the company which he promotes.

10. Kelner vs Baxter (1866)

    The promoters are personally liable for pre-incorporation contract they had entered into.

11. Natal Land and Colonization Co. vs Pauline Colliery Syndicate (1904)

    The company cannot sue on pre-incorporation contract.

TEST YOUR KNOWLEDGE

1. Define a company and explain its characteristics as regards to perpetual succession.

   (Ref. Para-18.1,18.2)

2. A company on incorporation becomes a separate legal entity. Explain with a leading decided case.

   (Ref. Para-18.2)

3. Explain the characteristics of a company, in regards to limited liability and separate property.

   (Ref. Para-18.2)

4. Explain clearly the concept of ‘perpetual succession’ and ‘common seal’, in relation to a company incorporated under the Companies Act, 2013.

   (Ref. Para-18.2)

5. A company has a separate legal entity, different from its members.

   Under what circumstances can this be lifted under the Companies Act?

   (Ref. Para-18.4)

6. What is an ‘Illegal Association’? What are the effects of illegal associations?

   (Ref. Para-18.5, 18.6)

7. Can the shareholders claim the property of the company as their own property?

   (Ref. Para-18.7)

8. Define a private company. How does it differ from a public company.

   (Ref. Para-18.9,18.10)

9. Define the public company under the Companies Act, 2013.

   (Ref. Para-18.8)

10. Distinguish between a private company and a public company.

    (Ref. Para-18.10)

11. What is a ‘Company Limited by shares’ and ‘Limited by guarantee’?

    (Ref. Para-18.11)

12. Write a short note on unlimited company.

    (Ref. Para-18.12)

13. Is it possible to convert a private company into a public company? Is so, how?

    (Ref. Para-18.13)

14. When can any company be said as a government company?

    (Ref. Para-18.14)

15. Define ‘Holding company’. When can you say a company to be a subsidiary company of another company?

    (Ref. Para-18.16)

16. Who is a promoter? Explain in brief, the positions of a promoter relating to his rights and duties in a company.

    (Ref. Para-18.17, 18.18)

17. What remedies are available against the promoter, when he makes secret profit?

    (Ref. Para-18.19)

18. What do you understand by a preliminary contract?

    (Ref. Para-18.20)

19. Write short note on ‘pre-incorporation contract’.

    (Ref. Para-18.20)

20. Discuss the steps involved for the incorporation of companies in India?

    (Ref. Para-18.22)

21. Write down the steps to start a private company

    (Ref. Para-18.22)

22. Write down the steps required to take to incorporate, the public limited company.

    (Ref. Para-18.22)

MULTIPLE-CHOICE QUESTIONS

1. The property of a company belongs to the
   1. Company.
   2. Shareholders.
   3. Members.
   4. Promoters.
2. Which type of company’s shares are freely transferable?
   1. Private company.
   2. Public company.
   3. Both (i) and (ii).
   4. None of the above.
3. The minimum number of members in case of a public company is
   1. 1.
   2. 2.
   3. 5.
   4. 7.
4. The minimum number of members in case of a private company is
   1. 1.
   2. 2.
   3. 3.
   4. 7.
5. The maximum number of members in case of a private company is
   1. 200.
   2. 100.
   3. 150.
   4. 50.
6. The maximum number of members in case of a public company is
   1. 0.
   2. no limit.
   3. 50.
   4. 100.
7. Minimum subscription should be received within ______ days from the issuance of the prospectus
   1. 30
   2. 60
   3. 90
   4. 135
8. Liability of a member in case of a private company is
   1. Limited.
   2. Unlimited.
   3. Both ((i) or (ii).
   4. None of the above.
9. Minimum paid-up share capital in case of a private company is ______
   1. No limit prescribed by Government.
   2. 2 lakhs.
   3. 3 lakhs.
   4. 4 lakhs.
10. Minimum paid-up share capital in case of a public company is ______
    1. 1 lakh.
    2. 3 lakhs.
    3. No limit prescribed by Government.
    4. 7 lakhs.
11. The liability of members when a company is limited by guarantee is ______
    1. The unpaid value of shares.
    2. The guarantee amount.
    3. Unlimited liability.
    4. None of these.
12. The liability of the members when company is limited by shares is ______
    1. The unpaid value of shares.
    2. The guarantee amount.
    3. Unlimited liability.
    4. None of these.
13. XYZ Company shares are totally held by government. It can be called a government company.
    1. True
    2. False
14. Transfer of shares in the company is
    1. Restricted.
    2. Freely transferable.
    3. Prohibited.
    4. None of these.
15. Generally, a company’s liability is
    1. Limited.
    2. Unlimited.
    3. Situation does not arise.
16. X Company is holding majority of shares in Y company. Will X and Y companies will be the same entity?
    1. Yes
    2. No
17. A company is considered as a government company, if it is holds ______ % of paid-up share capital.
    1. More than 30
    2. More than 40
    3. More than 50
    4. None of these
18. The Central Government’s permission is required in case of ______ conversion ______.
    1. Private to public.
    2. Public to private.
    3. Both (i) or (ii).
    4. None of these.
19. ______ % of shares should be held by a company in another company in another company in order to become subsidiary.
    1. More than 50
    2. More than 40
    3. More than 30
    4. More than 20
20. Maximum capital of private company is
    1. 50 lakhs.
    2. 1 crore.
    3. 1.5 crore.
    4. unlimited
21. While calculating the maximum limit, in case of private company, which of the following will not be included?
    1. Employee
    2. Member + Employee
    3. Member
    4. None of these
22. Can a private company go for a public issue?
    1. Yes
    2. No
23. Can a private company accept deposits from the public?
    1. Yes
    2. No
24. Invitation to public offering shares or debentures, in case of private company is
    1. Prohibited.
    2. Restricted.
    3. Acceptable.
    4. None of these.
25. Maximum paid-up capital, in case of public company is.
    1. 50 lakhs
    2. 100 lakhs
    3. 125 lakhs
    4. No limit

ANSWER KEYS

1. i
2. ii
3. iv
4. ii
5. i
6. ii
7. i
8. i
9. i
10. iii
11. ii
12. i
13. ii
14. ii
15. i
16. ii
17. iii
18. ii
19. i
20. iv
21. i
22. ii
23. ii
24. i
25. iv