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Name-Akash Kumar. S Roll No-5 Subject-Company Law Topic-Promoter and Preincorporation of Contract Class-Viii Sem B. Com LLB
Name-Akash Kumar. S Roll No-5 Subject-Company Law Topic-Promoter and Preincorporation of Contract Class-Viii Sem B. Com LLB
S
ROLL NO-5
SUBJECT-COMPANY LAW
TOPIC-PROMOTER AND PREINCORPORATION OF CONTRACT
CLASS- VIII SEM B. COM LLB
CONTENTS
Introduction
Meaning Of Promoter And Nature Of Pre-
Incorporation Contract
Pre-Incorporation Contract
Liability Of Promoter
Table of cases
CONCLUSION
INTRODUCTION
Under the strict principles of contract law, the promoter is solely liable for
the breach of contract. The reason behind is that the promoter is party who
enters into the contract, and not the company. The rule of privity of contract
keeps away the company from pre-incorporation contract. But recent
development in corporate law and contract law makes the company liable for
pre-incorporation contract.
Whether there is any difference among Indian Law, American Law and
English Law concerning the liability of promoter in relation to pre-
incorporation contract?
Meaning Of Promoter And Nature Of Pre-Incorporation Contract
Promoter
The Company Act, 1956, does not provide a common definition of Promoter.
Although few section like 62, 69, 76, 478, 519 of Company Act and SEBI
Guidelines 2000 Chapter VI Explanation I to III to clause 6.4.2(k) does
discuss about promoter, but definition provided under those section would be
restricted to the area of those section. Resent Company Bill does have the
definition of Promoter in the definition clause under section 2(zzq), it says
that “promoter means a person who has (a) been named as such in a
prospectus; or (b) control over the affairs of the company, directly or
indirectly whether as a shareholder, director”. But this Bill is not in force till
now, so the old Act of 1956 would be applicable in present day, which does
not has the common definition clause of promoter. Even the English law does
not provide the definition. Joseph H. Gross in his celebrated article ‘Who is a
Company Promoter?’ found that it was rather intentional to not providing
definition in English Legislation, because if legislation try to define it then
someone might escape from the liability who enjoy the place of promoter but
not come under the definition of promoter. In this situation, where the
legislature if silent about the definition, it is necessary to see the judicial
interpretation.
According to Bowen J., the ‘Promoter’ is not the term of law but it is a term
of business, who play main role in the setup of a company. Whereas
Cockburn CJ in Twycross v Grant observed that a promoter is ‘one who
undertakes to form a company with reference to a given project and to set it
going and who takes the necessary steps to accomplish that purpose’.
In conclusion, one can say that promoter connote any individual, syndicate,
association, partnership or a company, which takes all the necessary steps
to create company and mould a company and set it going.
Pre-Incorporation Contract
One might question that ‘why is company not liable, even if it a beneficiary to
contact’ or one might also question that ‘doesn’t promoter work under
Principal-Agent relationship’.
Answer to all those question would be simple. The company does not in legal
existence at time of pre-incorporation contract. If someone is not in legal
existence, then he cannot be a party to contract, and ‘Privity to Contract’
doctrine excludes company from the liability. In Kelner v Baxter, Phonogram
Limited v Lane this position was confirmed.
In pure common law sense, Pre-incorporation contract does not bind the
company. But there are certain exceptions to this contract, and these
exceptions were developed in USA, India and later in England
Liability Of Promoter
Before the passing of the Specific Relief Act 1963, the position in India,
regarding pre-incorporation contract, was similar to the English Common
Law. This was based on the general rule of contract where two consenting
parties are bound to contract and third party is not connected with the
enforcement and liability under the terms of contract. And because company
does not come in existence before its incorporation, so the promoter signs
contract on behalf of company with third party, and that is why the promoter
was solely liable for the pre-incorporation contract under the established
ruling of Kelner v Baxter.Promoters are generally held personally liable for
pre-incorporation contract. If a company does not ratify or adopt a pre-
incorporation contract under the Specific Relief Act, then the common law
principle would be applicable and the promoter will be liable for breach of
contract.
Under the Specific Relief Act 1963, section 15(h) and 19(e) are the two
important sections for pre-incorporation contract. Section 15 is about
stranger’s right to sue if he entitled to a benefit or has any interest under the
contract, although it has certain limitation. Section 15(h) talks about the
company, being a stranger to pre-incorporation contract, has the right to sue
to the other contracting party. But the necessary condition is that the
contract should be warranted by the terms of its incorporation. This provision
clearly negates the common law doctrine which says that the company
cannot ratify or adopt the pre-incorporation contract. Under this provision
promoter can give his right to sue to sue to the company. In Vali
Pattabhirama Roa v Sri Ramanuja Ginning and Rice Factory Pvt. Ltd this
position was accepted.
On the other hand, section 19(e) states that the company can be sued by the
other party of pre-incorporation contract, if the terms of incorporation
warrant and adopt the contract. This provision reduces the promoter of
liability of pre-incorporation contract.
Novation of contract is defined in Scarf v Jardine as, ‘being a contract in
existence, some new contract is substituted for it either between the same
parties (for that might be) or different parties, the consideration mutually
being the discharge of the old contract’.
Doctrine Of Equity
In India under the doctrine of equity the company can be held liable. Weavers
Mills Ltd V. Balkies Ammal, company was held liable because it get the
benefit of pre-incorporation contract. But the position in English Common
Law is deferent. According to Chitty on Contract, even in equity the company
cannot be held liable for pre-incorporation contract.
Section 15(h) provides that the company may ask for specific performance
from the third party if the pre-incorporation contracts are entered by
promoters for the purpose of the company and subject to terms of
incorporation of company. This condition can only be applied if the company
has expressly shown the acceptance of such contracts after its
incorporation and communicated the same to concerned third party (i.e. the
other party). Under similar circumstances, specific performance may be
enforced against the company by the other party to the contract u/s 19(e) of
Specific Relief Act.
Hence, for enforcement of the contract by the company against the other
party to contract, the members must ratify the contract followed by
communication of acceptance to other party. Unless the contract is
accepted by the company, the company may not receive any benefit from
such contract and the promoters would be personally liable for the contracts.
In case, the said contract is not accepted by the company in its meeting,
such contract is binding to the promoters and the both, promoters and other
party may demand specific performance against each other.
There is no correct way to phrase such a clause, but to ensure that the
contract will be legally enforceable the construction of the clause is
important.
The following aspects should be addressed in the clause dealing with the
incorporation of the company:
Who will be liable as purchaser if any of the above conditions are not
fulfilled?
It is very important that the process of incorporation must be done before the
company can be said to have come into existence to attain its legal features
otherwise, if the process is not complete the independent legal entity does
not come into existence. Most of the times the pre- incorporation contracts
can be done for purchase of property of rights or rights to be acquired or for
securing the services of some mangers and experts. The persons
incorporating the company[2] will want to offer as an inducement to the
public for benefits of such agreements and contracts to take shares hence it
become necessary that these contracts be made before the formation of the
company.
CASES
Lindsay International Pvt. Ltd. & … vs Laxmi Niwas Mittal & Ors on 18
September, 2017
It is for the plaintiff to prove at the trial the agreement pleaded in Paragraph
6 of the plaint.
Mr. Chidambaram has referred to Section 15(h) of the Specific Relief Act,
1963. The said section relates to pre-incorporation contracts. Where the
promoters of company, that is, the persons who were engaged in setting up
the company entered into contracts with parties would procure its formation
and such contracts are within the limits of the objects of the company, then
the company after its incorporation may sue to enforce the contracts and the
other contracting party cannot raise any objection on the ground of privity.
Conversely, the company if it ratifies such contract is bound by its obligation.
This clause is conversed to Clause € of Section 19 of the Specific Relief Act
on which Mr. Kapoor has relied on behalf of the plaintiffs. Mr. Kapoor has
emphasized on the expression “warranted by the terms of the incorporation”
appearing in the said section and has argued that continuous support by the
defendant No.1 prior and after incorporation of the plaintiff No.1 and its
assurance that all supplies for the AM Companies would be procured solely
through the plaintiff No.1 are now being breached by the defendant No.1. The
other way of looking at is that if a situation arises as to whether the
transactions made by the company are ultra vires for which the purposes for
which the company was incorporated the said phrase in Section 19€ comes
to the aid of the company to relieve the company from its liability. This
specific argument of Mr. Kapoor was that the record manifests that the
buying and selling was indeed warranted by the terms of incorporation of the
company. The said Section 19€ is conversed to Clause (h) of Section 15.
Vali Pattabhirama Rao And Anr. Vs Sri Ramanuja Ginning And Rice … on 26
December, 1983
“In order that the company may be bound by agreements entered into before
its incorporation, there must be a new contract to the effect of the previous
agreement.”
This research paper finds that, promoter is personally liable for the pre-
incorporation contract, because at the time of formation of pre-incorporation
contract, the company does not come in existence, so neither the principle
agent relationship exist not the company become the party. Company is not
liable for the pre-incorporation contract when it come in existence, but under
the arrangement of section 15(h) and 19€ of the Specific Relief Act 1963,
company can take the rights and liability of promoter. It is also found that
promoter is personally liable for the pre-incorporation contract in American
Law, English Law and Indian Law.