BANARAS HINDU UNIVERSITY
FACULTY OF LAW
2017-18
SUBJECT: - COMPANY LAW
TOPIC: - PROMOTER: AN ANALYSIS
SUBMITTED TO: SUBMITTED BY:
DR. MAYANK PATHAK NAME: -ADITYA PRATAP SINGH
FACULTY OF LAW, ROLL NO.: -14137LA004
B.H.U. 7TH SEMESTER B.A.LL. B
FACULTY OF LAW, B.H.U.
ACKNOWLEDGEMENT
The success and final outcome of this project required a lot of guidance and
assistance from many people and I am extremely fortunate to have got this all
along the completion of my project work. Whatever I have done is only due to
such guidance and assistance and I would not forget to thank them.
I respect and thank DR. MAYANK PATHAK, for giving me an opportunity to do the
project work in "PROMOTER: AN ANALYSIS" and I am extremely grateful to him,
our subject teacher for providing all the support and guidance.
ABSTRACT
A promoter conceives an idea for setting-up a particular business at a given place
and performs various formalities required for starting a company. A promoter
may be a individual, firm, association of persons or a company. The persons who
assist the promoter in completing various legal formalities are professional people
like Counsels, Solicitors, Accountants etc. and not promoters.
ABBREVIATIONS
AIR- ALL INDIA REPORTER
Co.- COMPANY
Mad.- MADRAS
HC- HIGH COURT
SC- SUPREME COURT
QB- QUEENS BENCH
Ch- CHAPTER
Ltd. -LIMITED
LIST OF CASES
1. Erlanger v. New Sombrero Phosphate Co. (39 LT 269).
2. Lydney and Wigpool Iron Ore Co. v. Bird (1866) 33 Ch. D. 85
3. Erlanger v. New Sombrero Phosphate Co. (1866) 33 Ch. D. 85
4. Gluckstein v. Barnes (1900) A.C. 240
5. Re. English & Colonial Produce Company (1906) 2 Ch. 435 CA
6. Weavers Mills Ltd. v. Balkie Ammal AIR 1969 Mad 462.
7. Kelner V. Baxter. (1866) 2LR 2CP 174.
8. Phonogram Ltd v Lane 1982 QB 939
CONTENT
S. Topic Page
No. No.
1. Introduction
2. Legal Position of a Promoter
3. Duties of a Promoter
4. Liabilities of Promoter
5. Rights of Promoter
6. Remuneration to Promoter
7. Pre-Incorporation Contracts
8. Conclusion
1. INTRODUCTION
Section 2 (69) of the Companies Act, 2013 defines the term promoter asunder: -
Promoter means a person
(a) 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
(b) who has control over the affairs of the company, directly or indirectly whether
as a shareholder, director or otherwise; or
(c) in accordance with whose advice, directions or instructions the Board of
Directors of the company is accustomed to act.
Provided that sub-clause (c) shall not apply to a person who is acting merely in a
professional capacity.
By virtue of above definition, persons in accordance with whose advice, directions
or instructions the Board of Directors of the company is accustomed to act are
also treated as promoters. However, if a person is merely acting in a professional
capacity i.e. giving only professional advice to the Board of directors, he shall not
be treated as a promoter.
A director/officer/employee who has control over the affairs of the company,
directly or indirectly whether as a shareholder, director or otherwise is considered
as a promoter. As per section 2 (27), control shall include the right to appoint
majority of the directors or to control the management or policy decisions
exercisable by a person or persons acting individually or in concert, directly or
indirectly, including by virtue of their shareholding or management rights or
shareholder s agreements or voting agreements or in any other
manner.
However, a director or officer or employee of the issuer or a person, if acting as
such merely in his professional capacity, shall not be deemed as a promoter.
According to Lord Cockburn, promoter is a person who undertakes to form a
company with reference to a given object and to set it in going and who takes the
necessary step to accomplish the task.
According to Palmer, Promoter means a person who originates the scheme for
the promotion of Company. It involves preparation, execution and registration.
Promoter has been classified into three types, they are as follows: -
1. Professional Promoter,
2. Occasional Promoter,
3. Financial Promoter.
2. LEGAL POSITION OF A PROMOTER
While the accurate description of a promoter may be difficult, his legal position is
quite clear. A promoter is neither an agent of, nor a trustee for, the company
because it is not in existence. But he occupies a fiduciary position in relation to
the company and therefore requires to make full disclosure of the relevant facts,
including any profit made by him as held by Lord Cairns in Erlanger v. New
Sombrero Phosphate Co.1
One of the leading case on the same is:
Lindley L.J. in Lydney and Wigpool Iron Ore Co. v. Bird2, which described the
position of a promoter as follows:
"Although not an agent for the company, nor a trustee for it before its formation,
the old familiar principles of law of agency and of trusteeship have been extended
and very properly extended to meet such cases. It is well settled that a promoter
of a company is accountable to it for all money secretly obtained by him from it
just as the relationship of the principal and agent or the trustee and cestui que
trust had really existed between him and the company when the money was
obtained".
The promoters undoubtedly stand in a fiduciary position. They have in their hands
the creation and molding of the company. They have the power of defining how
and when and in what shape and under whose supervision it shall come into
existence and begin to act it was held by Lord Cairns in Erlanger v. New Sombrero
Phosphate Co.3,
1.(39 LT 269).
2.(1866) 33 Ch. D. 85
3.Ibid
3. DUTIES OF A PROMOTER
The Companies Act, 2013, contains some provisions regarding the duties of
promoters. The fiduciary duties of a promoter include:
(a) As per section 102(4), where as a result of the non-disclosure or insufficient
disclosure in any explanatory statement annexed to the notice of a general
meeting, by a promoter, director, manager, if any,
or other key managerial personnel, any benefit accrues to such promoter,
director, manager or other key managerial personnel or their relatives, either
directly or indirectly, the promoter, director, manager or other key managerial
personnel, as the case may be, shall hold such benefit in trust for the company,
and shall, without prejudice to any other action being taken against him under
this Act or under any other law for the time being in force, be liable to
compensate the company to the extent of the benefit received by him.
In the case of default in complying with above provisions, every promoter,
director, manager or other key managerial personnel who is in default shall be
punishable with fine which may extend to 50,000 rupees or five times the amount
of benefit accruing to the promoter, director, manager or other key managerial
personnel or any of his relatives, whichever is more. [Sub-section (5) of Section
102]
The above provision is based on the principle that a promoter cannot make either
directly or indirectly, any profit at the expense of the company he promotes,
without the knowledge and consent of the company and that if he does so, in
disregard of this rule, the company can compel him to account for it. In relation to
disclosure it may be noted that part disclosure will also attract the same
consequences. A promoter is not forbidden to make profit but he is barred from
making any secret profit. He may make a profit out of promotion with the consent
of the company in the same way as an agent may retain a profit obtained through
his agency with his principal's consent.
In Gluckstein v. Barnes4, it was held that where a promoter makes some profits in
connection with a transaction to which company is a party and does not make full
disclosure of his profits; the company
has the right to affirm the contracts and promoter should handover his profits to
the company.
4.(1900) A.C. 240
(b) A 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 his own property to the company without making a full disclosure, the
company may either repudiate the sale or affirm the contract and recover the
profit made out of it by the promoter. Either way the dishonest promoter is
deprived of his advantage.
In Erlanger v., New Sombrero Phosphate Co 5., a syndicate of which E was the
head purchased an island containing mines of phosphate for 5,000. He then
formed a company to buy this island. A contract was made between X a nominee
of the syndicate and the company for its purchase at 1,10,000.
The details of the sale were not disclosed to the shareholders or to the
independent Board of directors. The company now sought to rescind the contract
of sale. It was held that as there had been no disclosure by the promoters of the
profit they were making, the company was entitled to rescind the contract.
In case, therefore, the promoter wishes to sell his own property to the company,
he should either disclose the
fact:
(a) to an independent Board of directors; or
(b) in the articles of association of the company; or
(c) in the prospectus; or
(d) to the existing and intended shareholders directly.
In addition to disclosing secret profits, a promoter has the duty to disclose to the
company any interest he has in a transaction entered into by him.
5.(1878) 3 A.C. 1218
4. LIABILITIES OF A PROMOTER
A promoter is subject to the following liabilities under the various provisions of
the Companies Act, 2013: -
1. Incorporation of company by furnishing false information:- As per section 7(6),
where, at any time after the incorporation of a company, it is proved that the
company has been got incorporated by furnishing any false or incorrect
information or representation or by suppressing any material fact or information
in any of the documents or declaration filed or made for incorporating such
company, or by any fraudulent action, the promoters, the persons named as the
first directors of the company and the persons making declaration shall
be liable for fraud under section 447.
2. Section 26 of the Act lays down matters to be stated and reports to be set out
in the prospectus. The promoter(s) may be held liable for the non-compliance of
the provisions of this Section. Further, as per
section 26(1)(a)(xiv) prescribed disclosures about sources of promoter s
contribution has to be made in prospectus.
3. Civil Liability for misstatements in prospectus: - A promoter is liable for any
misleading statement in the prospectus to a person who has subscribed for any
securities of the company on the faith of the prospectus. By virtue of section
35(1), where a person has subscribed for securities of a company acting on any
statement included, or the inclusion or omission of any matter, in the prospectus
which is misleading and has sustained any loss or damage as a consequence
thereof, the company and certain persons as mentioned in the said section,
including a promoter of the company shall, without prejudice to any punishment
to which any person may be liable under section 36, be liable to pay
compensation to every person who has sustained such loss or damage. No
promoter shall be liable under this section, if he proves
(a) that the prospectus was issued without his knowledge or consent, and that on
becoming aware of its issue, he forthwith gave a reasonable public notice that it
was issued without his knowledge or consent.
4. Punishment for fraudulently inducing persons to invest money: - As per section
36, any person who, either knowingly or recklessly makes any statement, promise
or forecast which is false, deceptive or misleading, or deliberately conceals any
material facts, to induce another person to enter into, or to offer to enter into,
(a)any agreement for, or with a view to, acquiring, disposing of, subscribing for, or
underwriting securities; or
(b)any agreement, the purpose or the pretended purpose of which is to secure a
profit to any of the parties from the yield of securities or by reference to
fluctuations in the value of securities; or
(c) any agreement for, or with a view to obtaining credit facilities from any bank
or financial institution, shall be liable for punishment for fraud under section 447.
5. Criminal Liability for misstatement in prospectus: Besides civil liability, the
promoters are criminally liable under Section 34 for the issue of prospectus
containing untrue or misleading statements in form or context in which it is
included or where any inclusion or omission of any matter is likely to mislead.
Section 447 imposes severe punishment for fraud on promoters who make untrue
or misleading statements in prospectus with a view to obtaining capital. The
punishment prescribed is imprisonment for a term which shall not be less than six
months but which may extend to ten years and also a fine which shall not be less
than the amount involved in the fraud, but which may extend to three times the
amount involved in the fraud. Further, where the fraud in question involves public
interest, the term of imprisonment shall not be less than three years. A promoter
can, however, escape the punishment if he proves:
1. that the statement or omission was immaterial; or
2. that he had reasonable grounds to believe, and did, up to the time of
the issue of prospectus, believe that statement was true or the
inclusion or omission was necessary.
5. RIGHTS OF A PROMOTER
1. Right to receive preliminary Expenses
A promoter has no legal right to claim promotional expenses for his services
unless there is a valid contract.
Without such a contract, he is not even entitled to recover his preliminary
expenses. [Re. English & Colonial Produce Company6].
The promoters are entitled to receive all the expenses incurred for in setting up
and registering the company, from Board of Directors. The articles will have
provision for payment of preliminary expenses to the promoters. The company
may pay the expenses to the promoters even after its formation, but such
payments should not be Ultra Vires the articles of the company. The Articles may
have provision regarding payment of fixed sum to the promoters.
2. Right to recover proportionate amount from the Co-promoters
The promoters are held jointly and severally liable for the secret profits made by
them in the formation of a company. Therefore, if the entire amount of secret
profits is paid to the company by a single promoter, he is entitled to recover the
proportionate amount from co-promoters. Likewise, if the entire liability arising
out of mis-statement in the prospectus is borne by one of the promoters; he is
entitled to recover proportionately from the co-promoters.
6.(1906) 2 Ch. 435 CA
6. REMUNERATION TO PROMOTER
Promoter is not entitled to recover any remuneration for his service from his
Company in absence of a valid contract but in practice Article of Association
generally contains a provision regarding payment of expenses. The payment of
remuneration may be in the form of fully paid or partly paid shares, debentures,
commission or be it in the form of lump sum amount.
In a case, Lord Hathtrlay observed:
Although Company is not liable to remunerate the promoter but the services of
promoter may be very peculiar. Promoter may employ great skill and energy in
making the Company hence it is practically possible to remunerate the promoters.
7. PRE-INCORPORATION CONTRACTS
In order to get the benefits of a corporate personality , it is very necessary for an
association of persons to become incorporated under the Companies Act, 2013.
After the incorporation of association of persons, the company comes in
existence, and it can start its business operations as company only after that. The
simple reason behind it is that before incorporation company do no has any legal
existence before incorporation, and if the association of persons enters into an
agreement in the name of company before incorporation; the agreement would
be void ab initio.
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.
The promoter is obligated to bring the company in the legal existence and to
ensure its successful running, and in order to accomplish his obligation he may
enter into some contract on behalf of prospective company. These types of
contract are called Pre-incorporation Contract .
Nature of Pre-incorporation contract is slightly different to ordinary contract.
Nature of such contract is bilateral, be it has the features of tripartite contract. In
this type of contract, the promoter furnishes the contract with interested person;
and it would be bilateral contract between them. But the remarkable part of this
contract is that, this contract helps the perspective company, who is not a party
to the contract.
Although under common law promoter is personally liable for the pre-
incorporation contract, but there is some scope where the promoter can sift his
liability to company. He can shift to company his liability under the Specific Relief
Act 1963.
Under Specific Relief Act
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. 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.
The Madras High Court while considering the case Weavers Mills Ltd. v. Balkie
Ammal7 had made a comprehensive decision. The promoters of the company had
consented to buy for the company some properties on behalf of the company to
be incorporated. After incorporation structures were constructed on the property
by the company after assuming possession. The court took its view that even if
the properties were not conveyed on to the company at the time of making the
7.AIR 1969 Mad 462.
contract by its promoters the company's title over the property could not be set
aside.
Therefore, in India, despite the fact that pre-incorporation contracts are entered
into by promoters or agents of the company before the company's existence they
are legally enforceable and has contractual obligations that continue to exist
under the Specific Relief Act.
Pre-Incorporation Contracts in the Common Law
In English law the case Kelner V. Baxter8 was one of the first case to consider pre-
incorporation contracts. The court held a pre-incorporation contract shall exist
when the individual who actually acted as a promoter or agent on behalf of the
non-existing entity would be legally liable. Kelner v. Baxter thus confirmed that a
company cannot ratify a contract, or purported contract, entered into on its
behalf if the company was not in existence at the time a person purported to
enter into a contract on its behalf. This case also highlighted the potential for
promoters to be liable on contracts they purport to enter into on behalf of an as
yet unincorporated entity.
Under section 51 of the Companies Act 2006, subject to any agreement to the
contrary, the person purporting to act for the company, or as an agent of the
company, is personally liable on the contract.9
8.(1866) 2LR 2CP 174.
9.Phonogram Ltd v Lane 1982 QB 939.
8. RECENT CASE
Aurobindo Pharmas promoters case, 22 may 2017. (disposed by
Security and Exchange Board of India)
The Securities and Exchange Board of India (Sebi) on Monday disposed of a case
relating to violation of insider trading norms against Sumanth Kumar Reddy
Mettu, promoter of Aurobindo Pharma Ltd.
The pharma firm has already imposed a fine on him and cautioned him against
future defiance.
A probe conducted by Sebi found that Mettu had traded for 40,000 share option
contract in derivatives of Aurobindo Pharma on 30 May 2013 during trading
window closure period just before announcement of quarterly results in violation
of insider trading regulations.
However, Aurobindo Pharma, on its own, had imposed a penalty of Rs5 lakh on
Mettu for indulgence into derivatives transaction in violation of code of conduct
of the company, the markets regulator said in its order. Aurobindo Pharma had
asked Mettu to pay the amount in favour of Prime Minister s National Relief Fund,
it added.
It has been established that the company had already imposed penalty of Rs5
lakh upon the noticee (Mettu) and also cautioned him to ensure strict compliance
of code of conduct of Aurobindo Pharma to avoid such violations in future.
...therefore, I am of the view that...actions taken by Aurobindo Pharma are
commensurate to the violation committed by the noticee, said Rachna Anand,
general manager and adjudicating officer at the capital markets regulator.
Anand further said that action taken by the company are justifiable to such
breach and further imposing of penalty upon the entity would not be appropriate
and would tantamount of punishing twice for the same cause of action.
Accordingly, Sebi has disposed of the case against Mettu.
9. CONCLUSION
To conclude it can be clearly stated that promoter means a person who as a
principal procures or aids in procuring the incorporation of the company. Thus,
promotion is said to start on the day when promoter start working and continue
till the date until directors take over. Promoter is thus considered one of the most
important person in a company and thus he is entrusted with various rights and
he also incurs liability on behalf of the Company. One of the most important issue
raised is the legal position of a promoter and the same has been discussed before
with proper cases on the same. Pre-incorporation contracts are those contracts
which are formed by the promoters of the company and in such a case the
Company was not held liable and it was the promoter which was held liable but
recent developments have changed the scenario which has been clearly discussed
with regard to the Specific Relief Act.
BIBLIOGRAPHY/ REFERENCES
1. Stephen Girvin, Sandra Frisby and Alastair Hudson, Charlesworth s
Company Law, Sweet and Maxwell, Eighteenth edition, 2011.
2. A.K. Majumdar and Dr. S.K. Kapoor, Company Law, Taxmann, 15th Edition,
2012.
3. S.C. Tripathi, New Company Law, Central Law Publications, Tenth edition,
2014.
4. Kailash Rai, Company Law, Allahabad Law Agency, Eighth Edition, 2007.
5. http://www.livemint.com/Money/4Nr7yYe8lKuPtVjjQOUEPO/Sebi-
disposes-of-case-against-Aurobindo-Pharmas-promoter.html
6. http://www.businessmanagementideas.com/company-
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7. http://www.yourarticlelibrary.com/company/promoters-of-a-company-
definitions-characteristics-and-other-details/42057
