CORPORATE PERSONALITY

Corporate personality is a creation of law. Legal personality of corporation is recognized in

English and Indian Law. A corporation is an artificial person enjoying in law capacity to have
rights and duties and holding property. The individuals forming the corpus (body) of the
corporation are called its members.
Juristic personality of corporations requires the existence of three conditions.
- There should be a gathering or assemblage of individuals related for a specific
reason.
- There should be organs through which the company capacities,
- The organizations are ascribed will (enmity) by lawful fiction.

The privileges of organizations are unimaginable, similar to the right of holding property or
arranging it off, right of sue, right of going into contracts and so on. In The Citizen’s Life
Assurance Company v. Brown  (1904)AC426  the life assurance company was vicariously liable
in respect of a libel contained in a circular sent out by a person who was employed by the
company under a written agreement as its ‘superintendent of agencies’. By the terms of the
agreement that person was to devote his whole time to furthering the company’s business and
was to be paid a salary weekly as WELL as a commission on policies procured by him. The
Privy Council has decided that He was a servant of the company for whose actions the company
was liable. Once companies are recognized by the law as legal persons, they are liable to have
the mental states of agents and employees such as dishonesty or malice attributed to them for the
purpose of establishing civil liability. Lord Lindley said: ‘If it is once granted that corporations
are for civil purposes to be regarded as persons, i.e., as principals acting by agents and servants,
it is difficult to see why the ordinary doctrines of agency and of master and servant are not to be
applied to corporations as will as to ordinary individuals.’

Corporations are of two kinds, namely, (1) Corporation Aggregate, and (2) Corporation Sole.

Corporation Aggregate – A corporation aggregate is a separate legal entity formed by several

individual persons. Example is limited companies. Such a company is formed by a number of
persons who as shareholders of the company contribute or promise to contribute to the capital of
the company for furtherance of a common object. Their liability is limited to the extent of their
share-holding in the company. A limited company is thus formed by the personification
(representation) of the shareholders. The property of the company is not that of the shareholders
but its own property and its assets and liabilities are different from that of its members. The
share-holders have a right to receive dividends from the profits of the company but not the
property of the company.

Company has an independent existence from those of its members. It is for this reason that
the company may become insolvent but its members may still be rich and wealthy.
Conversely, the insolvency of the members does not adversely affect the company and it may
continue to have a flourishing business. The death of members does not finish the existence of

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the company. Gower cites a unique example of this and writes that in the General Meeting of a
company all the members died due to a bomb-explosion but it did not affect the existence of the
company and it continued functioning as before.

Case law - Saloman was carrying the business of boot and shoe manufacturing. He incorporated
a company named “Saloman & Co. Ltd.” with seven subscribes consisting of himself, his wife,
four sons and one daughter. The company took over the personal business assets of Saloman for
£38,782 and in turn, Saloman took 20,000 shares of £ 1 each, debentures worth £10,000 of the
company with charge on the company’s assets and the balance in cash. His wife, four sons and a
daughter took £1 share each. Subsequently company went into liquidation due to general trade
depression. There were various unsecured creditors, who contended that Saloman could not be
treated as a secured creditor of the company in respect of the debenture held by him, as he was
the managing director of one-man company, which was not different from Saloman and the
cloak of the company was a mere sham and fraud.

Lord Mac Naughten observed: “When the memorandum is duly signed and registered, though
there be only seven shares taken, the subscribers are a body corporate exercising all the functions
of an incorporated Company. The Company is at law a different person altogether from subscribers
to the memorandum, and though, 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 not in law the agent of the subscribers or trustees of them. Nor are the subscribers,
as members, liable, in any shape or form, except to the extent and in the manner provided by the
Companies Act.” The corporate aggregate has an existence which is separate from the persons
comprising it.

There are three types of corporation aggregate: chartered, statutory and registered.

a. Chartered corporation aggregate - The Crown can create a corporation aggregate
by granting a Royal Charter. The majority of corporations created by the Crown have
the word “chartered” in their title, for example Institute of Chartered Accountants and
the Chartered Insurance Institute. Not all corporations granted a Royal Charter have
the word Chartered in the title, for example the British Broadcasting Corporation.
b. Statutory corporation aggregate - A statutory corporation aggregate may only be
created by Parliament using a specific piece of legislation for that purpose. For
example, the Iron and Steel Act 1967 which created British Steel.
c. Registered corporation aggregate - The most common corporate aggregate is the
registered company. A registered company is formed under the Companies Act 2013.
d. Corporation sole – A corporation sole is an incorporated series of successive
persons. Corporation sole are the holders of a public office which are recognized by
law as corporation. The chief characteristics of a corporation sole is its "continuous
entity endowed with a capacity for endless duration". In corporation sole single
person holding the public office holds the office in a series of successions means his
rights and liabilities and property do not extinguish but they are vested in the person

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 his who succeeds him. So, after the death of the person his natural personality is
destroyed but legal personality continues to be represented by the successive person.
Example: In India, different workplaces like the Prime Minister Office, Governor of Reserve
bank of India, The State Bank of India, The Post Master General, the General Manager of the rail
line, the Registrar of Supreme Court, Comptroller and Auditor-General of India and so forth are
made under various sculptures are the instances of enterprise sole.

Theories Of Corporate Personality

1. Fiction theory 5. The organism theory
2. Realistic theory 6. The ownership theory
3. The concession theory 7. The purpose theory
4. The Bracket theory 8. The Kelsen’s theory

1. Fiction Theory - This theory was pronounced mainly by Savigny, Salmond, Coke,
Blackstone and Holland. According to this theory, a corporation is clothed with a legal
personality. The personality of a corporation is different from that of its members.
Savigny regarded corporation as an exclusive creation of law having no existence apart
from its individual members who form the corporate group and whose acts by fiction, are
attributed to the corporate entity. As a result of this, change in the membership does not
affect the existence of corporation or its unity. Savigny further pointed out that there is
double fiction in case of a corporation. By one fiction, the corporation is given a legal
entity, by another it is clothed with the will of an individual. Thus, fictitious personality
of a corporation has also a will of its own which is different from that of its members.
Gray justifies fiction theory on the ground that the main object of incorporation is to
protect the interests of persons having common objectives. Like fictitious personality, the
will of the corporation is also an imaginary creation of law.

2. Realistic Theory / Organic Theory / Sociological Theory - The hypothesis was given
by Johannes Althusious, Gierke in German and Maitland in England. This theory talks in
contrast with the fictitious theory. This theory says that corporation has a real personality
not a fictitious. Gierke was the exponent of this theory and tried to criticize the fiction
theory. His opinion was that, corporate has a real and recognized personality and it is not
created by law. This theory also known as sociological theory because in corporate
aggregate there is a collective will of different members and individual will is different
from collective will. So, corporation has its own real psychic will, therefore it is not
fictitious or imaginary instead it is a real personality recognized by law. But this theory
does not apply to corporate sole because collective will is necessary for form a real and
psychic personality. Hence this theory states that aggregate personality has similar
features as a human personality.

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3. Concession Theory - Given by Savigny, Salmond and Sketchy the concession theory of
the personality of the corporation, which is akin to the fiction theory, but not identical
with it, says that legal personality can follow from law alone. It is by grace or concession
alone that the legal personality is granted, created or recognized.

4. Bracket Theory / Symbolist / Jhering - This theory developed by Jhering and later
propounded by Marquis de Vareilles-Sommiéres. This theory is somewhat similar to the
fiction theory in which human involvement is needed and it also asserts that only human
beings are subjected to legal rights and certain obligations. According to this theory the
member of the corporation has their own legal rights and legal obligation which has been
referred to corporation itself. To know the actual nature and state of the corporation, the
brackets have to be removed and names of members are kept in brackets. When brackets
are removed, a person could able to see what corporation is, what its actual nature and
how members are revealed by the way of removing the brackets. The essence of this
theory is that rights, obligation and liabilities are vested only to natural person but not to
corporation those are legal entities. In the cases of Soloman V Soloman Co. Ltd., (1897)
AC 22 it was said by the court that to understand the real nature of the corporation, we
must remove the bracket to find out the actual position of the company.

5. Organism Theory – The organism theory of the personality of the corporation is the one
that expounds that the corporation, like an organism, has members (limbs), head and
other organs. The individual also has a head, a body with limbs that satisfy inter-
dependent functions. Corporation, such as the state, the university, the club, social and
public utility organizations, have also limbs in the, and wills of their own. A corporation,
according to this theory, is a subject of legal rights and is liable to duties also. According,
to this theory, a subject of legal rights need not to be a human being. Any being or body
with a will of its own and a life of its own can have legal rights and can be subject to
legal duties and liabilities. What is essential, according to this theory, is that such a being
or body must have a will of its own.

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 6. Ownership Theory – Another theory of the personality of the corporation is the ownership
theory. Developed by Brinz, Bekker, Demelius, and elaborated by Paniol, the ownership
theory of the personality of the corporation asserts that legal rights can be had by human
beings and not by corporation. According to this theory, the so-called juristic person that is
the corporation is not a person at all. It is “subject less property” destined for a particular
purpose, according to Planiol, subject less rights are “legal monster”. He holds that
fictitious personality is not an addition to the class of persons, but is only a matter of
owning or possessing property in common. It is only a “form of ownership”. He adds
“collective ownership is, so to speak, hidden from our eyes by the existence of fictitious
beings to which we ascribe, at least in a certain measure, the attributes of personality,
which are reputed owners, creditors or debtors, which make contracts, and sustain legal
processing’s like true persons. All the collective ownerships are attributed to fictitious
person, of which each is reputed the single owner of a mass of goods, and the collective
ownership appears as itself an individual ownership; a conception as false as useless.
Consequently, instead of teaching that we have two kinds of ownerships, its taught that
there are two kinds persons.

7. The Kelsen’s Theory - According to Kelsen, personality is "only a technical

personification of a complexes of norms, a focal point of imputation which gives unity to
certain complexes of rights and duties. Kelsen shows that there is no significant
difference between the legal personality of an individual and that of corporation, for in
the case of both what is known as legal personality is nothing but a complex of norms,
that is to say, what is constituted by the bundle of rights and duties and liabilities
centering round and the norms which rule the behaviour of individuals are also the norms
that determine the rights and duties of corporation. For organizing rights and duties, a
convenient legal device is that a legal personality. Kelsen's theory should be a welcome
theory, as it would enable the recognition of the corporation as a person as much as a
natal person, and would entitle it to greater rights as also subject it to greater duties than
at present.

8. Purpose Theory – According to this theory personality is only enjoyed by human beings,
they alone can be the subject of rights and duties. The so-called juristic persons are not
persona at all. Since they are distinct from their human substratum, if any, and since
rights and duties can only vest in human beings, that are simply “subject less properties”
designed for certain purposes. The main implication of this theory is that law protects
certain purposes and the interest of individual beings. The property supposed to be owned
by juristic persons does not belong to anything; but it does “belong for” a purpose and
that is the essential fact about it. All juristic or artificial persons are merely legal devices
for protecting or giving effect to some real devices for protecting or giving effect to some
real purpose, e.g., a trade union is the continuing fund concerned and the purposes for
which it is established.

INCORPORATION OF A COMPANY
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A company is an artificial legal person who comes into existence by a process called
“incorporation.” It is only when a company has been incorporated, it becomes a distinct entity
from those who invested their capital as will as labour in it. For the formation of any company,
the first step is the process known as “promotion” where a person persuades others to
contribute capital to a proposed company before it is incorporated. Such a person is called the
promoter of the company and its definition is given in Section 2(69) of the Companies Act,
2013.

Definition of a Company which can be formed under Section 3 of the Act –

Section 2(68): Private Company - A company that has a minimum paid-up share capital as
prescribed and restricts the right to transfer its shares according to the conditions laid down in the
Articles of Association of the company. The maximum limit of members who can form a private
company is 200 except in case of an OPC. For ascertaining the number of members, persons who
jointly hold one or more shares shall be treated as a single member for the purposes of the Act.
Also, the employees of the company as will as a person who was a former employee as will as a
member and who has ceased to be an employee but remains a member shall not be included for
ascertaining the maximum number of members. Another feature of a private company is that it
prohibits the public from subscribing to the shares of the company.

Section 2(71): Public company - A company which is not a private company and has a
minimum paid-up share capital as may be prescribed. It is clarified in the proviso to the section
that a subsidiary of a public company shall also be treated as a public company even if it remains
a private company under its articles.

Section 2(62): One-person Company – A company which only has one person as its member. It
is to be noted that prior to the Companies (Amendment) Act, 2015, a minimum paid-up share
capital of rupees one lakh for a private company and rupees five lakhs for a public company was
prescribed under the Act. Currently, this requirement has been done away with and there is no
minimum paid-up share capital that is prescribed under the Act.

Such a person is to become a member of the company in the event of the subscriber’s death or
his incapacity to contract. Such a person’s written consent has to be filed with the registrar at the
time of incorporation of the One-person company along with his memorandum and articles. It is
also provided that such a person may withdraw his consent in accordance with the prescribed
manner.
The member of the One-person company may also change the name of the nominee by following
the prescribed procedure. A duty is vested upon the member to intimate the company of such in
the nominee by indicating the same in the memorandum or otherwise. After this, the company
has to notify the Registrar of Companies (RoC) of such change. This clarifies that such a change
in a nominee is not be treated as an alteration of the memorandum of the company.

Formation of a Company

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Section 3 of the Act provides that in the form of a company, the members as prescribed above
have to subscribe their names to the memorandum of the company and comply with the
provisions of the Act. The MoA is the most important document as far as a company is
concerned. It is often called the “Constitution” of the company. The preparation of the
MoA of a company is one of the first steps in the formation of a company.

The Companies Act under Section 4 provides that the MoA has to be divided into five clauses as
per any of the forms specified in Tables A to E in Schedule 1. The different clauses which
must be mandatorily present in the MoA are the Name clause, Registered Office clause,
Objects clause, Liability Clause and the Capital Clause.
In addition to the MoA, the next most important document for the formation of a company is the
Articles of Association (AoA) as provided in Section 5 of the Act. Whereas the MoA mainly
handles the external affairs of a company, the AoA is concerned with regulating the
internal structure of a company. Articles are internal regulations and bye-laws for the
management of the company.

The process for the incorporation or formation of a company is provided in Section 7 of the
Act. In order to form a legally valid company, it must be registered according to the conditions
prescribed in the Act. An application must be filed with the Registrar of Companies
accompanied with certain documents such as the memorandum of association, articles of
association, a copy of the agreement, if any, which the company proposes to enter into with any
individual for his appointment as managing or whole-time director or manager and a declaration
that all the requirements of the Act have been complied with. It is only after receiving all the
documents and information listed in Section 7(1) that a registrar shall issue a certificate of
incorporation. The issue of such a certificate brings the company into existence as a legal person.
It marks the birth of a company, and the date mentioned in the certificate is regarded as the day
on which the proposed company came into existence as a distinct legal entity. The Registrar
shall also allot to the company a corporate identity number, which shall be a distinct
identity for the company and which shall also be included in the certificate.
STEPS IN FORMATION OF A COMPANY ARE AS FOLLOWS
STAGE 1 – Promotion STAGE 3 - Capital Subscription
STAGE 2 - Incorporation (Registration) STAGE 4 - Commencement of Business

Only first two steps are required for the formation of a Private and a Public Ltd. Company
not having any shares. All the four stages are required to be fulfilled by a public ltd company
having a share capital.

STAGE 1 - PROMOTION
As the name suggests this stage of incorporation deals with the promotions of the yet to be
incorporated Company. It is the stage where the Promoter walks in the market of the potential
investors to collect the investment towards an idea which might be his own brainchild or of
someone else. The Promoter induces the confidence on the idea, over the investors and tries to
build upon the investment so as to be able to incorporate the company.
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Promoter has been defined under Section 2(69) of the Companies Act, 2013.
“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.
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 shareholders agreements or voting agreements or in any other manner.

The Promoter along with convincing investors towards the idea of the company also brings
together the physical capital of the labour, raw materials, managerial ability, machinery etc. The
Promoter although is passionate towards the company’s ideas, but has to SWOT analyse
(strengths, weaknesses, opportunities, and threats related to business competition or project
planning) the idea with respect to the future prospects and feasibility with respect to the societal
dynamics. 

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Functions of a Promoter
(i) Spotting a Business Demand in the Market - The promoter before promoting a company
idea first identifies a potential business opportunity. The potential opportunity may be any new
product or a new service or may even be the production or manufacture of an already established
product by new means.
(ii) The practicality of the Idea - The promoter has to evaluate the idea of the new potential
company under the magnifying glass of technical and financial feasibility. Therefore, it is
important that the promoters undertake detailed studies regarding all aspects of the business idea
by using various tools such as the economic studies of the market, taking opinions of the
technical experts of such products, opinions of the chartered accountants, economists etc. The
feasibility of the idea can be evaluated using the below mentioned three tests.
 Technical conceivability: the ideas of the business may be good but sometimes they
may be technically difficult to conceive into reality given such hurdles regarding the
raw material acquisition, the difficulty of making a product with limited funds, etc.
 Budgetary feasibility: Sometimes it may not be possible to gather a large fund
required for the business being under the sword of limited means and sometimes
stipulated time. Also, financial institutions may be hesitant to give huge loans to new
ventures.
 Monetary feasibility: A business idea may be technically and financially feasible but
not monetarily appreciable. It may not be gainful or may not return enough profits. In
such a case, the promoters refrain from promoting the idea of business.

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(iii) Name of the Company - The Promoter after fixing the launch of the idea intends to get a
name to the Company. Promoter applies to the registrar of companies of that jurisdiction
wherever the promoter intends to make the registered head office of the Company. Application
to registrar contains three names “X or Y or Z” in the sequence of priority and Promoter adheres
to Section 8 of the Companies (Incorporation) Rules, 2014.
(iv) Finalizing Signatories to MOA - The promoters decide who all will be the members
signing the Memorandum of Association of the Company which is to be formed. Generally, the
signatories of the MOA are the first Directors of the Company. The written consent of the
signatories of the memorandum is essential to become Directors of the company.
(v) Hiring Professionals - Promoters are required to appoint certain professionals such as
mercantile bankers, auditors, lawyers, etc. These professionals aid the promoter in the
preparation of necessary documents that are to be filed with the Registrar of Companies during
the registration of the Company.
(vi) Preparation of Necessary Documents - The promoters are the ones who are responsible to
collect documents that are submitted to the Registrar of the Companies for getting the company
registered. These documents are a return of allotment, Memorandum of Association, Articles of
Association, consent of Directors and statutory declaration.

Duties of the Promoter

The Companies Act 2013, contains some provisions regarding the duties of promoters. The
fiduciary duties of a promoter include:
1. Duty to disclose secret profit [(section 102 (4)]- 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 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]

2. Duty to keep the company informed about the transactions - 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 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
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 (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.

3. As per section 13(8), a company, which has raised money from public through prospectus
and still has any unutilized amount out of the money so raised, shall not change its
objects for which it raised the money through prospectus unless a special resolution is
passed by the company and the dissenting shareholders shall be given an opportunity to
exit by the promoters and shareholders having control in accordance with regulations to
be specified by the Securities and Exchange Board.

4. As per section 27(2), the dissenting shareholders being those shareholders who have not
agreed to the proposal to vary the terms of contracts or objects referred to in the
prospectus, shall be given an exit offer by promoters or controlling shareholders at such
exit price, and in such manner and conditions as may be specified by the Securities and
Exchange Board by making regulations in this behalf. As per section 167(3), where all
the directors of a company vacate their offices under any of the disqualifications
specified in sub-section (1), the promoter or, in his absence, the Central Government shall
appoint the required number of directors who shall hold office till the directors are
appointed by the company in the general meeting.

5. As per section 284(1), the promoters, directors, officers and employees, who are or have
been in employment of the company or acting or associated with the company shall
extend full cooperation to the Company Liquidator in discharge of his functions and
duties during winding up by the Tribunal.

Promoter’s duties under the Indian Contract Act - Promoters’ duties cannot depend on a
contract because at the time the promotion begins, the company is not incorporated, and so
cannot contract with its promoters. The promoter's duties must be the same as that of a person
acting on behalf of another individual without a contract of employment. If he does make any
misrepresentation in a prospectus, he may be held guilty of fraud under Section 17 of the Indian
Contract Act, 1872 and would be held liable for damages.

Termination of Promoters' Duties - It is a general opinion that a promoter completes his duty
the moment the company, that he promotes, is incorporated or when the Board of directors is
appointed. But, in reality it continues until the company has acquired the property for which it
was formed to manage and has raised its initial share capital, [Lagunas Nitrate Co. v. Lagunas
Syndicate Ltd. (Supra)] and the Board takes over the management of the affairs of the company
from the promoters.

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Legal Position of the Promoter
- 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. (39 LT 269).
- 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 what
supervision, it shall start into existence and begin to act as a trading corporation.

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Liabilities of the 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 mis-statements 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, 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 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.

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5. Contravention of provisions relating to private placement - If a company makes an offer
or accepts monies in contravention of the provisions of private placement as stated in
section 42, the company, its promoters and directors shall be liable for a penalty which
may extend to the amount involved in the offer or invitation or two crore rupees,
whichever is higher, and the company shall also refund all monies to subscribers within a
period of thirty days of the order imposing the penalty. [Section 42(10)]

6. Failure to cooperate with Company Liquidator during winding up - As per section 284
(2), where any promoter, without reasonable cause, fails to cooperate with the Company
Liquidator during winding up, he shall be punishable with imprisonment up to six months
or with fine up to 50,000 rupees, or with both.

7. A promoter may be liable to public examination like any other director or officer of the
company if the Tribunal so directs on a Company Liquidator's report alleging fraud in the
promotion or formation business or conduct of affairs of the company since its formation
[Section 300(1)].

8. A company may proceed against a promoter on action for deceit or breach of duty under
Section 340, where the promoter has misapplied or retained any money or property of the
company or is guilty of misfeasance or breach of trust in relation to the company.

9. 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:
(i) that the statement or omission was immaterial; or
(ii) 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.
The following are some of the remedies available to the subscriber who is deceived by
any misleading statement or the inclusion or omission of any matter in the prospectus:
i. As per section 37, a suit may be filed or any other action may be taken under
section 34 or section 35 or section 36 by any person, group of persons or any
association of persons affected by any misleading statement or the inclusion or
omission of any matter in the prospectus.

14
 ii. He may take proceedings to repudiate (reject) the contract and require repayment
of his money with interest.
iii. He may, in respect of any misleading statement or the inclusion or omission of
any matter in the prospectus, bring an action against the directors and promoters
for the recovery of compensation.
iv. He may, bring an action for damages against the directors and other persons
responsible for failure to disclose matters in a prospectus.

In addition to directors and promoters the liability under the section also attaches to person who
have authorized the issue of the prospectus. However, the words cannot reasonably be held to
apply to such persons as bankers, brokers, accountants, solicitors and engineers who merely
consent to their names appearing as such in the prospectus.

10 Liability during Revival and Rehabilitation - The liability of promoters is now dealt under
Insolvency and Bankruptcy Code, 2016.
i. Misrepresentation of facts: A promoter will be responsible for any misstatement
as to an existing fact. A calculation of future profits is not a statement of fact
[Bentley v. Black, (1893) 9 TLR 580 (CA)]. But a misstatement as to purposes for
which the money to be raised and is to be applied is a misrepresentation of a
present fact. [Edgington v. Fitzmaurice, (1885) 29 Ch D 459: (1991-5) All ER
Rep 59 (CA)].
ii. Misstatements of Names of directors: If a director's name is misstated in the
prospectus, it is an important misrepresentation and the promoter can be held to
be liable, [Metropolitan Coal Consumer's Association Ltd., Karberg's case,
(1892) 3 Ch 1 (CA)].
iii. Representation true only at time of issue: Sometimes representations which were
true when the prospectus was issued, become false before the allotment is made.
In such cases, the fact ought to be communicated to the applicant otherwise the
applicant will not be able to rescind the contract. A promoter/director who knows
that a statement has become false is under a duty to disclose the truth and if he
abstains, he may be guilty of fraud. [Brownliey v. Campbell, (1880) 5 App. Cas
925; Rajagopala Iyer v. The South Indian Rubber Works, AIR 1942 Mad 656;
(1942) 12 Com Cases 203].

15
 iv. Liability U/S 447 of the Companies Act,2013: Without prejudice to any liability
including repayment of any debt under this Act or any other law for the time
being in force, any person who is found to be guilty of fraud, shall be punishable
with imprisonment for a term which shall not be less than six months but which
may extend to ten years and shall also be liable to 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 : Provided that where the fraud in question involves public
interest, the term of imprisonment shall not be less than three years. Explanation -
For the purposes of this section— (i) “fraud” in relation to affairs of a company or
anybody corporate, includes any act, omission, concealment of any fact or abuse
of position committed by any person or any other person with the connivance in
any manner, with intent to deceive, to gain undue advantage from, or to injure the
interests of, the company or its shareholders or its creditors or any other person,
whether or not there is any wrongful gain or wrongful loss; (ii) “wrongful gain”
means the gain by unlawful means of property to which the person gaining is not
legally entitled; (iii) “wrongful loss” means the loss by unlawful means of
property to which the person losing is legally entitled.

Rights of the 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 Company (1906) 2 Ch. 435 CA]. 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.

STAGE 2 - INCORPORATION OF COMPANIES - PROCEDURAL ASPECTS

Section 3(1) states that a company may be formed for any lawful purpose by—
Category of Company Minimum members Maximum members
Private Limited 2 or more 200
Public Company 7 or more Unlimited
One person company 1 1

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1. Deciding the Proper Business Structure
This is a big step in getting started with the procedure to incorporate a company. This basically
decides the direction your company will take, whether you’re open to investments, whether you
want to restrict liability, whether you want to go solo it all depends on what you think will be
best for your startup. Based on the decision you take, you can form the following types of
companies in India.

Private Limited  Minimum number of Shareholders:  2

Company  Limited Liability: In case the company is incurring losses,
members only have to pay as much as their shares value.
 Perpetual Succession: Company keeps on existing even after
death or exit of directors
 Authorized Capital: Minimum Rs. 1 lakh.
 Shareholding: Shareholding in Private Limited Company is
closed, they cannot attract investments or trade shares to the
public.
Limited Liability  Minimum Number of Shareholders: 2
Partnership  Limited Liability: Similar to Private Limited Companies
 Lenient Taxation Scheme: LLPs are taxed as a Partnership
firm Organizational Flexibility
 Perpetual Succession: Similar to Private Limited Company
 Authorized Capital: Minimum Rs. 1 lakh
 Shareholding: LLPs have open shareholding which means
they can attract investments as will as trade shares to the public
Sole  Most flexible business structure
Proprietorship  Solo Traders
 Total Control over decision making
 Easy Winding up Procedure
 Marginal Tax Rate
Public Company  Limited Liability
 Stakeholder Involvement
 Can attract investments, as will as, the shareholding is open
 Great for growth standpoint can offer securities such as debt or
equity

17
 One Person  One member/ One Shareholder
Company  It is treated as a Private Limited Company
 No need to hold the Annual General Meeting (AGM)
 Have to appoint a nominee for succession
NBFC (Private  Financial Organization
Limited  Loans to the public
Company)  Investment and Loan Companies provide loans in a convenient
fashion
 Governed by RBI and MCA both

2. Apply for Digital Signature Certificate (DSC)

Digital Signature Certificates (DSC) are the digital equivalent (i.e. electronic format) of physical
or paper certificates. Certificates serve as proof of identity of an individual for a certain purpose.
A digital certificate can be presented electronically to prove your identity, to access information
or services on the Internet or to sign certain documents digitally. One can get DSC registered by
signing MCA-21 E-forms digitally.

3. Apply for Director Identification Number (DIN)

It is a unique identification number allotted to the existing director of the company or intending
to be appointment as director of a company according to Section-152(3), Section-153 & Section-
154 of the Companies Act, 2013.

It is only after the DIN is approved; the incorporation documents can be filed with the Registrar
Form No.-DIR-3. However, the name approval can be obtained prior to approval of DIN. It takes
about 7 days for getting the DIN approved, provided all proper documents are furnished. Fees to
be paid for the allotment of DIN is Rs.500.

4. Application for Availability of Name of company –

As per section 4(4) and rule 9 a person may make an application, in Form no INC – 1 along
with fee, to the Registrar for the reservation of a name set out in the application as—
(a) the name of the proposed company; or
(b) the name to which the company proposes to change its name.

The applicant has to select at least 6 ALTERNATIVE NAMES in the order of preference
ROC shall inform about the APPROVAL of proposed name within 7 DAYS
Upon approval, the name shall be kept reserved for 60 days
Application or INCORPORATION applicant is to be submitted within 60 days if not the name
shall be allotted to other applicant

According to section 4(2), the name stated in the memorandum of association shall not—
(a) be identical with or resemble too nearly to the name of an existing company registered
under this act or any previous company law; or
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 (b) be such that its use by the company—
(i) will constitute an offence under any law for the time being in force; or
(ii) is undesirable in the opinion of the Central Government.

Section 4(3) provides that a company shall not be registered with a name which contains
(a) any word or expression which is likely to give the impression that the company is in any
way connected with, or having the patronage of, the Central Government, any State
Government, or any local authority, corporation or body constituted by the Central
Government or any State Government under any law for the time being in force; or
(b) such word or expression, as may be prescribed unless the previous approval of the
Central Government has been obtained for the use of any such word or expression.

5. Preparation of Memorandum of Association (MoA)

The Memorandum of Association is the charter of a company. It is a document, which amongst
other things, defines the area within which the company can operate.
Section 4(1) states that the memorandum of a company shall state—
a. Name clause - the name of the company with the last word “Limited” in the case
of a public limited company, or the last words “Private Limited” in the case of a
private limited company.
b. Situation Clause - the State in which the registered office of the company is to be
situated;
c. Object clause - the objects for which the company is proposed to be incorporated
d. Labiality clause - the liability of members of the company, whether limited or
unlimited
e. Capital Clause - in the case of a company having a share capital,— (i) the
amount of share capital with which the company is to be registered and the
division thereof into shares of a fixed amount and the number of shares which the
subscribers to the memorandum agree to subscribe which shall not be less than
one share; and (ii) the number of shares each subscriber to the memorandum
intends to take, indicated opposite his name;
f. Nominee Clause - in the case of One Person Company, the name of the person
who, in the event of death of the subscriber, shall become the member of the
company.
As per Section 4(6), the memorandum of a company shall be in respective forms specified in
Tables A, B, C, D and E in Schedule I as may be applicable to such company.

19
6. Preparation of Article of Association (AoA)
AoA which is an important document explains the operation of the company, purpose for which
Company is incorporated along with the information for the process of Appointment of Directors
and also management of the financial Record of the company.

In drafting of the AoA of company it shall contain-

- Regulation for management of the Company.
- It shall also contain such, matter as may be prescribed.
- May contain the provisions for entrenchment to the effect that specified provision of the
Article may be altered only if condition or procedures as that are more restrictive than
those applicable in the case of a special resolution are met or compiled with.

According to Section-5(6) of The Companies Act, 2013 the Article (AoA) shall be in respective
form provided in Table F, G, H, I and J of Schedule-I as may be applicable to such company.

According to Rule 10, if the articles contain the provisions for entrenchment, the company
shall give notice to the Registrar of such provisions in Form No.INC.2 or Form No.INC.7, as
the case may be, along with the fee as provided in the Companies (Registration offices and fees)
Rules, 2014 at the time of incorporation of the company or in case of existing companies, the
same shall be filed in Form No.MGT.14 within thirty days from the date of entrenchment of the
articles, as the case may be, along with the fee as provided in the Companies (Registration
offices and fees) Rules, 2014.

7. Application for the incorporation of the company

Section 7(1) and rule 12 An application shall be filed, with the Registrar within whose
jurisdiction the registered office of the company is proposed to be situated, in Form No.INC.2
(for One Person Company) and Form no. INC.7 (other than One Person Company) along with
the fee as provided in the Companies (Registration offices and fees) Rules, 2014 for registration
of a company. The application shall be accompanied by
a) The Memorandum and Articles of the company duly signed by all subscribers;
b) A declaration in Form No.INC.8 by an Advocate or Practicing professional (CA, CS,
CA) who is engaged in incorporation, and a person named in director as Director,
Manager or Secretary, that all requirements related to incorporation has been complied
with;
c) An affidavit in Form No. INC.9 from each subscriber and from each person named as
first director in the articles that; he is not convicted if any offence in connection with
promotion, formation or management of any company, he is not been found guilty of any
fraud or misfeasance or of any breach of duty to any company during preceding five
years, and all the documents filed with the Registrar contain correct, complete and true
information to the best of his knowledge and belief;
d) A company shall, on and from the 15th day of its incorporation and at all times thereafter,
have a registered office for receiving and acknowledging all communications and notices

20
 addressed to it. The company can furnish to the registrar verification of registered office
within 30 days of incorporation in Form No INC-22;
e) The particulars of every subscriber along with proof of identity. List of poof required
Listed under [Rule-16.]; (name, surname, father’s/mother’s name, nationality, place of
birth, PAN card number, residential address proof etc.)
f) Section 7(1)(f) the Particulars of first directors along with proof of identity and his
interest in other firms or bodies corporate along with his consent to act as director;
g) The particulars of interests of first directors in other firms or bodies corporate along with
their consent to act as directors of the company shall be filed in Form No.DIR.12 along
with the fee of Rs.500/- as provided in the Companies (Registration offices and fees)
Rules, 2014.
h) Power of Attorney on a non-judicial stamp paper, with a view to fulfilling the various
formalities that are required for incorporation of a company.

8. Issue of Certificate of Incorporation by Registrar

Section 7(2) states that the Registrar on the basis of documents and information filed under
section 7 (1), shall register all the documents and information in the register and issue a
certificate of incorporation in the prescribed form to the effect that the proposed company is
incorporated under this Act. From the date of incorporation mentioned in the certificate of
incorporation, the entity is formed as a body corporate by the name provided in the MoA,
subscribers to the memorandum and all other persons, as may, from time to time, become
members of the company, it is capable of exercising all the functions of an incorporated
company under Companies Act, 2013 and having perpetual succession and a common seal (if the
company has adopted or adopts the same), it has the power to acquire, hold and dispose of
property, both movable and immovable, tangible and intangible, to contract and to sue and be
sued, by the said name. (Section 9).

9. Conclusive Evidence
The Certificate of Incorporation is conclusive evidence that everything is in order and that the
company has come into existence from the earliest moment of the day of incorporation stated
therein with rights and liabilities of a natural person, competent to enter into contracts [Jubilee
Cotton Mills Ltd. v. Lewis, (1924) (A.C. 958)]. The validity of the registration cannot be
questioned after the issue of the certificate.

10. Allotment of Corporate identity number

Section 7(3) states that on and from the date mentioned in the certificate of incorporation issued
under subsection (2), the Registrar shall allot to the company a corporate identity number, which
shall be a distinct identity for the company and which shall also be included in the certificate.
The Certificate of Incorporation issued in Form INC-11 as per Companies (Incorporation)
Rules, 2014 shall also mention permanent account number of the company which is issued by the
Income Tax Department.

11. Documents of incorporation to be preserved

21
Section 7(4) states that the company shall maintain and preserve at its registered office copies of
all documents and information as originally filed under sub-section (1) till its dissolution under
this Act.

22
Punishment for furnishing false or incorrect information at the time of incorporation
[Section 7(5) and 7(6)]
The Companies Act 2013 imposes severe punishment for incorporation of a company by
furnishing false or incorrect information. The persons furnishing false or incorrect information
shall be liable for following punishment: -

(i) If any person furnishes any false or incorrect particulars of any information or suppresses any
material information, of which he is aware in any of the documents filed with the Registrar in
relation to the registration of a company, he shall be punishable for fraud under section 447.
[Section 7(5)]
(ii) 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
under section 7(1)(b) shall each be punishable for fraud under section 447. [Section 7(6)]

Provisions Specifically Relating To Incorporation Of One Person Company

Nomination by the subscriber or member of One Person Company
According to the first proviso to section 3(1), the memorandum of One Person Company shall
indicate the name of the other person, with his prior written consent in the prescribed form (INC-
3), who shall, in the event of the subscriber’s death or his incapacity to contract become the
member of the company and the written consent of such person shall also be filed with the
Registrar at the time of incorporation of the One Person Company along with its memorandum
and articles.

Rule 4(2) of Companies (Incorporation) Rules, 2014 states that subscriber of memorandum of
one person company shall nominate such person in form INC-32 alongwith the nominee’s
consent obtained in INC-3.

Such other person may withdraw his consent in such manner as may be prescribed [Second
proviso to section 3(1)]

Rule 4(3) of Companies (Incorporation) Rules 2014 states that the person nominated by the
subscriber or member of a One Person Company may, withdraw his consent by giving a notice in
writing to such sole member and to the One Person Company. The sole member shall nominate
another person as nominee within 15 days of the receipt of the notice of withdrawal and shall
send an intimation of such nomination in writing to the Company, along with the written consent
of such other person so nominated in Form No.INC-3.

Rule 4(4) of the said rules states that the company shall within thirty days of receipt of the notice
of withdrawal of consent under sub-rule (3) file with the Registrar, a notice of such withdrawal
of consent and the intimation of the name of another person nominated by the sole member in
23
Form No INC-4 along with fee as provided in the Companies (Registration offices and fees)
Rules, 2014 and the written consent of such another person so nominated in Form No.INC-3.

The member of a One Person Company may at any time change the name of such other person
by giving notice in such manner as may be prescribed [Third proviso to sec 3(1)].

Further it shall be the duty of the member of One Person Company to intimate the company
about the change, if any, in the name of the other person nominated by him by indicating in the
memorandum or otherwise within such time and in such manner as may be prescribed, and the
company shall intimate the Registrar of any such change within such time and in such manner as
may be prescribed [Fourth proviso to section 3(1)]

As per second proviso to section 12(3) relating to painting, affixing of details of name,
Registered office etc. out side every office or place of business, states that the words ‘‘One
Person Company’’ shall be mentioned in brackets below the name of such company, wherever
its name is printed, affixed or engraved.

MEMORANDUM OF ASSOCIATION (MoA)

The Memorandum of Association is a legal and constitutional document of a company which
sets out the scope of a company’s activities and its relations with the outside world.

The first step in the formation of a company is to prepare a document called the memorandum of
association. In fact, memorandum is one of the most essential pre-requisites for incorporating
any form of company under the Companies Act, 2013.

According to Section 2(56) of the Act “memorandum” means the memorandum of association of
a company as originally framed or as altered, from time to time, in pursuance of any previous
company law or this Act.

In the celebrated case of Ashbury Railway Carriage & Iron Co. Ltd. v. Riche, (1875) L.R. 7 H.L.
653, Lord Cairn observed: “The memorandum of association of a company is its charter and
defines the limitations of the powers of the company.......... it contains in it both that which is
affirmative and that which is negative. It states affirmatively the ambit and extent of vitality and
powers which by law are given to the corporation, and it states negatively, if it is necessary to
state, that nothing shall be done beyond that ambit.........”

Purpose of Memorandum of Association

There are few reasons for which any company needs to form a Memorandum of Association.
They are: -
1. The shareholders who are investing their money in the company have the right to know the
purpose for which they are investing their money and the company’s field of operations.
Therefore, this purpose is mentioned in the memorandum.

24
2. Any person, be it a vendor, partner, employee, etc., must know the corporate objects of the
company and whether his contract is according to the objects of the company.

Form of Memorandum of Association

Section 4(6) of the Act provides that the memorandum of association should be in any one of the
Forms specified in Tables A, B, C, D or E of Schedule I to the Act, as may be applicable in
relation to the type of company proposed to be incorporated or in a Form as near thereto as the
circumstances admit.
Tables A companies limited by shares (limited liability and shares are issued)
Tables B companies limited by guarantee not having a share capital
Tables C companies limited by guarantee having a share capital (share are issued and
noted amount from the subscribers)
Tables D unlimited companies not having a share capital
Tables E unlimited companies having a share capital

Contents of Memorandum
Section 4(1) states that the memorandum of a company shall state—
a. Name clause - the name of the company with the last word “Limited” in the case
of a public limited company, or the last words “Private Limited” in the case of a
private limited company.
b. Situation Clause - the State in which the registered office of the company is to be
situated;
c. Object clause - the objects for which the company is proposed to be incorporated
d. Labiality clause - the liability of members of the company, whether limited or
unlimited
e. Capital Clause - in the case of a company having a share capital,— (i) the
amount of share capital with which the company is to be registered and the
division thereof into shares of a fixed amount and the number of shares which the
subscribers to the memorandum agree to subscribe which shall not be less than
one share; and (ii) the number of shares each subscriber to the memorandum
intends to take, indicated opposite his name;
f. Nominee Clause - in the case of One Person Company, the name of the person
who, in the event of death of the subscriber, shall become the member of the
company.

25
Name Clause - A company can have any name of its choice, keeping in mind certain conditions.
A company must include “Private Limited” at the end if the company is a private company.
And in the case of a public company, it must include the word “Limited” at the end.

The company’s name mentioned in the memorandum must not contain the words which are: -
(i) Identical or resemble - The company’s name should not be identical or must not have a
resemblance with the name of any other existing company registered under the companies act.
(ii) Already in use - The name of the company shall not be something that is already in use by
any other company.
(iii) Undesirable names - A company shall not include any name which creates an impression
that the company is associated with central government, any state government, local bodies, etc.,
or with any such body created by the central or state government. A company can include words
that resemble its existence with any government entities only after their prior approval.
Any company is not allowed to use the word ‘National’ in its title unless it is a government
company or the government has any stake or shareholding in it. Similarly, the word ‘company’

26
or ‘exchange’ can be used with the title of any company or entity only after obtaining the Non-
Objection Certificate from SEBI (Securities and Exchange Board of India).

Reservation of company name

Applying for Name: A person may apply for registration of a new name or change of name in
the format as may be prescribed by the registrar with the prescribed form and manner along with
the fees.
Reserving the name: After checking the documents along with the application form, the
registrar reserves the name for sixty days from the date of application.
Cancelling name: If, after the reservation of name, it is known that the company has reserved its
name showing incorrect or wrong documents, then:-
a. The reserved name shall be cancelled if the company is not yet incorporated,
and the person will be held liable for the penalty, which may extend to even
one lakh rupees.
b. If the company is incorporated, then the registrar may give the company an
option of being heard and then either direct the company to change its name
within 3 months after passing an ordinary resolution or take necessary action
for cancelling the name of the company from the register of companies or
make a petition for winding up of the company. The government directed
that the registrar should take proper care while reserving the name of any
company or LLP and make sure that the names are not similar to any other
body or entity.

Situation Clause - The name of the State in which the registered office of the company is to be
situated must be given in the memorandum. But the exact address of the registered office is not
required to be stated therein. According to section 12 of the Act within 15 days of company’s
incorporation, and at all times, the company must have a registered office to which all
communications and notices may be sent. The company must furnish to the Registrar verification
of its registered office within a period of 30 days of its incorporation in such manner as may be
prescribed. (e-form INC-22)

According to Section 12(3) every company is required to display its name and address in legible
letters in conspicuous position and in all its business letters, bill heads, letter papers.

Further in case of One Person Company, the words ‘‘One Person Company’’ shall be mentioned
in brackets below the name of such company, wherever its name is printed, affixed or engraved.

Ministry of Corporate Affairs (MCA) has clarified that display of its name in English in addition
to the display in the local language will be a sufficient compliance with the requirements of the
section.

Objects Clause - The third compulsory clause in the memorandum sets out the objects for which
the company has been formed. Under section 4(1)(c) of the Act, all companies must state in their
27
memorandum the objects for which the company is proposed to be incorporated and any matter
considered necessary in furtherance thereof.

The objects clause indicates the purpose for which the company has been set up and its actual
capability. It states the ambit and extent of powers of the company and, stated negatively, that
nothing should be done beyond that ambit and that no attempt shall be made to use the company
for any other purpose than that which is specified. The purpose of the objects clause is to enable
the persons dealing with the company to know its permitted range of activities. The acts beyond
this ambit are ultra vires and hence void. Even the entire body of shareholders cannot ratify such
acts. Ultra vires means an act or transaction of a company, which might not be illegal, but, is
beyond the company’s powers by reason of not being within the objects of the memorandum of
association [Ashbury Railway Carriage and Iron Company v. Riche, (1875) LR 7 HL 653]. An act
beyond the objects mentioned in the memorandum is ultra vires and void and cannot be ratified
[Dr. Lakshmanaswami Mudaliar A. v. LIC (1963) Comp LJ 248: 1963 33 Com Cases 420: AIR
1963 SC 1185].

Liability Clause - Section 4 sub-section 1(d) of the Act, states the company has to mention
whether the liability of its members is limited by shares or guarantee or the liability is unlimited.
- Limited by Shares: A member will be liable only for the number of shares purchased by
him in the company.
- Limited by Guarantee: The person has to guarantee a certain amount he will be
supposed to pay if a company suffers losses and is winding up.
- Unlimited Liability: The company members are liable unlimitedly, even to the extent of
their personal property, if a company suffers losses.

Capital Clause - This clause shall state the amount of the capital with which the company is
registered. The shares into which the capital is divided must be of fixed value, which is
commonly known as the nominal value of the share.

The amount of nominal capital is determined having regard to the present as will as future
requirements of the company with reference to its objects. The usual way to state the capital in
the memorandum is: “The capital of the company is `10,00,000 divided into 1,00,000 equity
shares of `10 each”. This amount lays down the maximum limit beyond which the company
cannot issue shares without altering the memorandum as provided by Section 61 of the
Companies Act, 2013.

Succession Clause – In the case of One Person Company, the name of the person who, in the
event of death of the subscriber, shall become the member of the company.

Association Clause – The desire of the subscribers to be formed into a company. The
Memorandum shall conclude with the association clause. Every subscriber to the Memorandum
shall take at least one share, and shall write against his name, the number of shares taken to him.

28
The memorandum must be printed, divided into paragraphs, numbered consecutively and signed
by at least 7 persons (two in case of a private company and one in the case of One Person
Company) in the presence of at least one witness who will attest the signatures. The particulars
about the signatories to the memorandum as will as the witness, as to their address, description,
occupation etc., must also be entered.

It is to be noted that a company being a legal person can through its agent, subscribe to the
memorandum. However, a minor cannot be a signatory to the memorandum as he is not
competent to contract. The guardian of a minor, who subscribes to the memorandum on his
behalf, will be deemed to have subscribed in his personal capacity.

The above clauses of the Memorandum are called compulsory clauses or “conditions”. In
addition to these a memorandum may contain other provisions, for example rights attached to
various classes of shares.

The Memorandum of Association of a company cannot contain anything contrary to the

provisions of the companies act. If it does, the same shall be devoid of any legal effect.
Similarly, all other documents of the company must comply with the provisions of the
memorandum.

Alteration Of Memorandum Of Association

Section 13(1) of the Act provides a company may, by a special resolution and after complying
with the procedure specified, alter the provisions of its memorandum. The memorandum of
association of a company may be altered in the following respects:
(1) By changing its name [Sections 13(2)].
(2) By altering it in regard to the State in which the registered office is to be situated [Section
13(4) & (7)].
(3) By altering its objects [Section 13 (1) & (9).
(4) By altering its share capital (Section 61)
(5) By re-organising its share capital (Sections 230 to 237).
(6) By reducing its capital (Section 66).

Further section 13(6) provides that a company shall, in relation to any alteration of its
memorandum, file with the Registrar the special resolution passed by the company under section
13(1).

Section 13(10) provides that no alteration made under this section shall have any effect until it
has been registered in accordance with the provisions of the said section.

Alteration Of Name Clause – Alteration of the name of a company can be effected by two
methods:

29
 1. By special Resolutions and Permission of the government
2. By rectification of omission in name

1. By special Resolutions and Permission of the government - The section provides that the
name of a company may be changed at any time by passing a special resolution at a general
meeting of the company and with the written approval of the central government. However, no
such approval is required if the change of name involves addition or deletion of the word
“private”.

2. By rectification of omission in name (section 16) - If by oversight or mistake a company is

registered with a name which is the same or similar to the name of an existing company, the
company may change its name by passing an ordinary resolution and getting a written
permission from the Central government. In such a case the central government at any point of
time can direct the company to change its name. In such a situation, the company must alter its
name by passing an ordinary resolution within three months from the date of such direction. 

After the alteration of name of the company, the registrar should write the new name in the place
of old name. Accordingly, the certificate of newly incorporated company should be issued. If and
when the certificate of newly incorporated company is received, then only the company’s name
is recognized.

With the change of the name of the company the power and responsibilities are not changed.
Because of this change of the name legal affairs of the company are not affected. Besides it does
not affect the company’s existence. But after the new name is registered the legal affairs cannot
be continued with the old name.

An application shall be filed in Form No. INC-24 along with the fee for change in the name of
the company and a new certificate of incorporation in Form No. INC-25 shall be issued to the
company consequent upon change of name.

Any default in complying with the direction issued by the Central Government would render the
company liable for punishment with fine upto Rs. 1000/- for every day during which default
continues and its officers in default shall be liable for fine not less than Rs.5000/- and which may
extend to one lakh rupees.

Effect Of Change
The legal effect of change in name clause can be illustrated by the decision of the Calcutta High
Court in the case of Malhati Tea Syndicate v. Revenue Officer  wherein a company changed its
name from Malhati Tea Syndicate Ltd. to Malhati Tea and Industries Ltd. It filed a writ petition
in its former name. Declaring the petition to be invalid the court said that nothing in the Act
authorized the company to commence legal proceedings in its former name at a time when it had
acquired its new name which has been put on the register of joint stock companies.

30
Alteration Of Registered Office Clause
A company may change the situation of its registered office for the smooth running of its
business and the realization of its objects. Such change in the situation can be:
(a) from one place to another in the same city or town
(b) from one town to another in the same state and
(c) from one state to another.

(a) Shifting from one place to another in the same city or town: If the registered office of the
company is to be shifted from one place to another in the same city or town, the board of
directors must pass a resolution to that effect and give the name address of its registered office to
the RoC within 30 days after the date of the change of address.
(b) Shifting from one town to another in the same state: If the company wants to shift its
registered office from one town to another in the state, it shall pass a special resolution (75%
majority) to that effect at its general meeting and send the notification to the registrar within 30
days. It shall give the new address of its registered office to the registrar. 
(c) Shifting from one state to another: This kind of shifting is a much more complicated affair,
as it involves alteration of the memorandum itself. The alteration of the memorandum for this
purpose is subject to the provisions of Section 17 which requires, in the first place, a special
resolution of the company and in the second, confirmation by the Company Law Board can
confirm the alteration only if the shifting of the registered office from one state to another is
necessary for any of the purpose detailed in section 17. When this condition is fulfilled, the
second stage is reached namely to consider the objections of a person or class of person whose
interest will in the opinion of CLB be affected the alteration.
The Supreme Court in Mackinnon v. Mackenzie & Co [16] refused to sustain the contention of
the state and allowed the transfer of the company to another state. The court said there is no
statutory right of the state as a state to intervene in an application made under section 17 for
alteration of the place of the registered office of a company. To hold that the possibility of the
loss of revenue is not only relevant but of persuasive force in regard to change is to rob the
company of the statutory power conferred on it by section 17. The question of loss of revenue to
one state would have to be considered in the total conspectus of revenue for the Republic Of
India and no parochial considerations should be allowed to turn the scale in regard to change of
registered office.

Alteration Of Objects Clause Of The Company

It is very difficult to alter the objects clause because the law has laid down strict limitations on
such alteration. However, according to section 13(1), a company can change its objects by
passing a special resolution.

The limits imposed upon the power of alteration are of two kinds, namely substantive and
procedural. The former defines the physical limits of alteration and the latter the procedure by
which it can be effected.

31
The alteration of object clause involves:
Special Resolution: In the first place, the company has to call a general meeting of its members
and pass a special resolution and file a certified copy of the resolution with the central
government.
Ratification by the central government: After this, the application for proposed alteration is
filed with the central government. The application shall be scrutinized by the government before
confirming the alteration.
Registration of alteration: A certified copy of the order of the central government shall be filed
by the company with the RoC along with the printed copy of the altered memorandum within
three months from the date of the order. The registrar shall register the same and certify the
registration under his hand within one month of the date of filing such documents.
Further, section 13(8) lays down that a company, which has raised money from public through
prospectus and has any unutilised amount out of the money so raised, shall not change its objects
for which it raised the money through prospectus unless a special resolution is passed by the
company and—
(i) the details, as may be prescribed, in respect of such resolution shall be published in the
newspapers (one in English and one in vernacular language) which is in circulation at the place
where the registered office of the company is situated and shall also be placed on the website of
the company, if any, indicating therein the justification for such change;
(ii) the dissenting shareholders shall be given an opportunity to exit by the promoters and
shareholders having control in accordance with regulations to be specified by the Securities and
Exchange Board.

Alteration Of Liability Clause

According to section 13(1), a company can change the liability clause of its memorandum of
association by passing a special resolution. Further section 13(6)(a) provides that a company
shall, in relation to any alteration of its memorandum, file with the Registrar the special
resolution passed by the company under section 13(1).

Alteration Of Capital Clause

A company can change its capital clause by the passing of an ordinary resolution in a general
meeting. Alteration of capital may relate to:
 Subdivision of the shares
 Consolidation of the shares
 Conversion of shares into stock and annulment of unsubscribed capital.

Within a period of thirty days of passing a resolution, the altered Articles and Memorandum have
to be submitted to the Registrar.

32
33
ARTICLES OF ASSOCIATION (AoA)
According to Section 2(5) of the Companies Act, 2013, ‘articles’ means the articles of
association of a company as originally framed or as altered from time to time or applied in
pursuance of any previous company law or of this Act.

The articles of association of a company are its bye-laws or rules and regulations that govern
the management of its internal affairs and the conduct of its business. The articles play a
very important role in the affairs of a company. It deals with the rights of the members of
the company inter se. They are subordinate to and are controlled by the memorandum of
association.

Section 5 of the Companies Act, 2013 seeks to provide the contents and model of articles of
association. The section lays the following law
1. Contains regulations – The AoA shall contain the regulations for management of the
company
2. Inclusion of matters – It shall contain such matters, as are prescribed under the rules.
However, a company may also include such additional matters in its articles as may be
considered necessary for its management.
3. Contain provisions for entrenchment - The entrenchment provisions allow for certain
clauses in the articles to be amended upon satisfaction of certain conditions or restrictions
greater than those prescribed under the Act (such as obtaining 100% consent). This
provision acts as a protection to the minority shareholders (against the majority
shareholders, as majority shareholders have more powers) and is of specific interest to
the investment community. This shall empower the enforcement of any pre-agreed rights
and provide greater certainty to investors, especially in joint ventures.
The provisions for entrenchment referred to in section 5(3) shall be made either
(a) on formation of a company, or
(b) by an amendment in the articles agreed to by all the members of the company
in the case of a private company and by a special resolution in the case of a public
company. [Section 5 (4)]
Where the articles contain provisions for entrenchment, whether made on formation or by
amendment, the company shall give notice to the Registrar of such provisions in such
form and manner as may be prescribed. [Section 5 (5)]
4. A company can adopt all or any of the regulation in the model articles application to such
company.
5. Company registered after the commencement of this Act – In case of any company,
which is registered after the commencement of this act, in so far as the registered articles
of such company do not exclude or modify the regulations, contained in the model article
applicable to such company, those regulations shall, so far as applicable, be the
regulations of that company in the same manner and to the extent as if they were
contained in the duly registered articles of the company.
Article of association should be in any one of the Forms specified in Tables F, G, H, I or J of
Schedule I to the Act as may be applicable in relation to the type of company proposed to be
34
incorporated or in a Form as near thereto as the circumstances admit.
Tables F companies limited by shares (limited liability and shares are issued)
Tables G companies limited by guarantee having a share capital (share are issued and
noted amount from the subscribers)
Tables H companies limited by guarantee not having a share capital
(shall not give any person a right to participate in the divisible profit of the
company otherwise than as a member. If the contrary is done it shall be void)
Tables I unlimited companies having a share capital
Tables J unlimited companies not having a share capital

Articles Subordinate to Memorandum

The articles of a company are subordinate to and subject to the memorandum of association and
any clause in the Articles going beyond the memorandum will be ultra vires. But the articles are
only internal regulations, over which the members of the company have full control and may
alter them according to what they think fit.

Only care has to be taken to see that regulations provided for in the articles do not exceed the
powers of the company as laid down by its memorandum [Ashbury v. Watson, (1885) 30 Ch. D
376 (CA)]. Articles that go beyond the company’s sphere of action are inoperative, and anything
done under the authority of such article is void and incapable of ratification.

But neither the articles nor the memorandum can authorize the company to do anything so as to
contravene any of the provisions of the Act.

Statutory Requirements
The articles must be printed, divided into paragraphs, numbered consecutively, stamped
adequately, signed by each subscriber to the memorandum and duly witnessed and filed along
with the memorandum. The articles must not contain anything illegal or ultra vires the
memorandum, nor should it be contrary to the provisions of the Companies Act 2013.

Contents Of Articles
The articles set out the rules and regulations framed by the company for its own working. The
articles should contain generally the following matters:
1. Exclusion wholly or in part of Table F. 10. Forfeiture of shares.
2. Adoption of preliminary contracts. 11. Alteration of capital.
3. Number and value of shares. 12. Buy back.
4. Issue of preference shares. 13. Share certificates.
5. Allotment of shares. 14. De-materialization.
6. Calls on shares. 15. Conversion of shares into stock.
7. Lien on shares. 16. Voting rights and proxies.
8. Transfer and transmission of shares. 17. Meetings and rules regarding
9. Nomination. committees.

35
18. Directors, their appointment and 25. Remuneration of directors.
delegations of powers. 26. General meetings.
19. Nominee directors. 27. Directors meetings.
20. Issue of Debentures and stocks. 28. Borrowing powers.
21. Audit committee. 29. Dividends and reserves.
22. Managing director, Whole-time director, 30. Accounts and audit.
Manager, Secretary. 31. Winding up.
23. Additional directors. 32. Indemnity.
24. Seal. 33. Capitalization of reserves

The articles must contain provisions in respect of all matters which are required to be contained
therein so as not to hamper the working of the company later.

Alteration of Articles of Association

A company has a statutory right to alter its articles of association. But the power to alter is
subject to the provisions of the Act and to the conditions contained in the memorandum.

Section 14(1) provides that a company may, by a special resolution, alter its articles including
alterations having the effect of conversion of a private company into a public company; or a
public company into a private company.

Second proviso to section 14(1) stipulates that any alteration having the effect of conversion of a
public company into a private company shall not take effect except with the approval of the
Tribunal which shall make such order as it may deem fit.

Every alteration of the articles under this section and a copy of the order of the Tribunal
approving the alteration as per section 14(1) shall be filed with the Registrar, together with a
printed copy of the altered articles, within a period of 15 days, in form no INC. 27 who shall
register the same. [Section 14 (2)]

Any alteration of the articles registered under section 14(2) shall, subject to the provisions of this
Act, be valid as if it were originally in the articles. [Section 14(3)]

Limitations on Alteration of Articles

A company can alter or add to the Articles of association at any time by passing a special
resolution. However, the right to alter the Articles is subject to the following limitations or
restrictions:
1. Not inconsistent with provisions of any act - The alteration must not be inconsistent with
any provisions of the Companies Act or any other statute. However, Articles may impose
on the company conditions stricter than those provided under the law. If the alteration in
Article will be Ultra vires the memorandum, then it would be void and inoperative.
2. Not illegal or against public policy - The alteration must not contain anything illegal or
against public policy
36
 3. Not inconsistent with the order of a government or a court - The alteration must not be
inconsistent with an order of the Central Government or a tribunal as the case may be.
4. Must be bonafide - The alteration must be bonafide for the benefit of the company as a
whole. The alteration made shall be valid even if it is likely to affect adversely the
interest of some of the members.
5. Must not be fraudulent - If the alteration is for the benefit of majority and it constitutes a
fraud on the minority or inflicts hardship on the minority without any corresponding
benefit to the company as a whole, it shall be invalid.
6. Must not result in breach of contract - The alteration must not cause a breach of contract
with an outsider. Such an alteration shall be void and the company shall be liable to pay
damages to the other party.
7. Must not increase liability of the members - An alteration which has the effect of
increasing the liability of the members to contribute to share capital, is not binding on the
present members, unless he has given his consent in writing.

Effect of Altered Articles - Alteration binds members in the same way as original articles. The
altered articles shall bind the company and the members to the same extent as if they had been
signed by the company and by each member, means the articles as originally framed, or as they
may from time-to-time stand altered are valid under the provisions of the Act. There is clear
power to alter the articles, and as altered, they bind members just in the same way as did the
original articles.

Company cannot alter Articles except with the prior approval of Central Government -
Section 8(4)(i) companies with charitable objects shall not alter the provisions of its
memorandum or articles except with the previous approval of the Central Government.

Alterations Of Memorandum Or Articles To Be Noted In Every Copy

According to section 15(1), every alteration made in the memorandum or articles of a company
shall be noted in every copy of the memorandum or articles, as the case may be. If a company
makes any default, the company and every officer who is in default shall be liable to a penalty of
one thousand rupees for every copy of the memorandum or articles issued without such
alteration. [Section 15(2)]

Distinction Between Memorandum and Articles

Memorandum of Association Article of Association
Memorandum of association is the charter of Articles of association are the rules and
the company and defines the fundamental regulations framed to govern this internal
conditions and objects for which the company management of the company.
is granted incorporation.
Clauses of the memorandum cannot be easily In the case of articles of association, members
altered. They can only be altered in have a right to alter the articles by a special
accordance with the mode prescribed by the resolution. Generally, there is no need to

37
 Act. In some of the cases, alteration requires obtain the permission of the Court or the
the permission of the Central Government or Central Government for alteration of the
the Court. articles.
Memorandum of association cannot include The articles of association are subsidiary both
any clause contrary to the provisions of the to the Companies Act and the memorandum
Companies Act. of association.
The memorandum generally defines the The articles regulate the relationship between
relation between the company and the the company and its members and between
outsiders. the members inter se.
Acts done by a company beyond the scope of But the acts of the directors beyond the
the memorandum are absolutely void and articles can be ratified by the shareholders.
ultra vires and cannot be ratified even by
unanimous vote of all the shareholders.

Legal Effect Of The Memorandum And Articles

The memorandum and articles, when registered, bind the company and its members to the same
extent as if they have been signed by the company and by each member to observe and be bound
by all the provisions of the memorandum and of the articles.
Also, all monies payable by any member to the company under the memorandum or articles shall
be a debt due from him to the company (Section 10). The extent to which the memorandum and
articles bind:

(a) the members to the company - The memorandum and articles constitute a contract binding
the members of the company. The members, as members, are bound to the company. Each
member must, therefore, observe the provisions of the memorandum and articles. Each member
is bound by the covenants of the Memorandum as originally made and as altered from time to
time. The shareholders could not enter into an agreement which was contrary to or inconsistent
with the articles of association of the company. Example: In Boreland’s Trustee v. Steel Brother
and Co. Ltd. (1901) 1 Ch. 279, the articles of a company contained a clause that on the
bankruptcy of a member his shares would be sold to other persons and at a price fixed by the
directors. B, a shareholder was adjudicated bankrupt. His trustee in bankruptcy claimed that he
was not bound by these provisions and should be at liberty to sell the shares at their true value. It
was held that the trustee was bound by the articles, as the shares were purchased by B in terms of
the articles.

(b) the company to the members - The articles constitute a contract binding the company to its
members in their capacity as members, a member can bring an action against the company for
infringement by it of the memorandum or articles. For example, an individual member can sue
the company for an injunction restraining it from improper payment of dividend. Further, the
company is bound to individual members in respect of their ordinary rights as members, e.g. the
right to receive share certificate in respect of shares allotted to them, or to receive notice of
general meeting, etc. Normally, action for breach of articles against the company can be brought

38
only by a majority of the members. Individual or minority members cannot bring such a suit
except when it is intended for enforcement of personal rights of members or to prevent the
company from doing any ultra vires or illegal act, fraud, or oppression and mismanagement.

(c) the members bound to member - There is no contract between the members on the basis of
these documents. Even then the Articles have the effect of binding every member’ to other
members. But the members cannot sue each other. Usually, one member can sue other members
through the medium of the company.
E.g. The case of Rayfield v Hands (1960) is a pointer to the issue. Rayfield was a shareholder in
a company. He was required to inform the directors in the event of his intention to transfer the
shares. The directors were required to take the shares at a fair value. Rayfield informed the
directors in accordance with the articles. The directors contended that they were not bound to
take and pay for Rayfield’s shares and the articles could impose no such obligation on them.
The court set aside this argument by treating the directors as members and compelled them to
take Rayfield’s shares at a fair value. The court also held that it was not necessary for Rayfield to
join the company for bringing a suit against the directors.

(d) the company to outsiders - The term “outsider” signifies a person who is not a member of
the company even if he is a director of or solicitor to the company. Even in regard to members,
the articles bind the company to them in their capacity as members. As between outsiders and the
company, neither the memorandum nor the articles would give any contractual rights to outsiders
against the company or its members even though the names of outsiders are mentioned in those
documents in connection with the arrangements that the company might have contemplated for
carrying on its business. The articles do not confer any contractual rights even upon a member in
a capacity other than that of a member. To succeed, the party suing must prove a contract outside
and independent of the articles.

39
Doctrine (Rule) Of Ultra Vires
It is a Latin term made up of two words
“ultra” which means beyond and
“vires” meaning power or authority.
Ultra Vires means beyond the power

Anything which is beyond the authority or power is called ultra-vires. In the case of a company
whatever is not stated in the memorandum of association as the objects or powers is prohibited
by the doctrine of ultra vires. As a result, an act which is ultra vires is null and void, and does
not bind the company. Neither the company nor the contracting party can sue on it.

The general rule is that an act which is ultra vires the company is incapable of ratification
(approval after the act has been done).

Case Law
The doctrine of ultra-vires first time originated in the classic case of Ashbury Railway Carriage
and Iron Co. Ltd. v. Riche, (1878) L.R. 7 H.L. 653, which was decided by the House of Lords. In
this case the company and M/s. Riche entered into a contract where the company agreed to
finance construction of a railway line. Later on, directors repudiated the contract on the ground
of its being ultra-vires of the memorandum of the company. Riche filed a suit demanding
damages from the company. According to Riche, the words “general contracts” in the objects
clause of the company meant any kind of contract. Thus, according to Riche, the company had
all the powers and authority to enter and perform such kind of contracts. Later, the majority of
the shareholders of the company ratified the contract. However, directors of the company still
refused to perform the contract as according to them the act was ultra-vires and the shareholders
of the company cannot ratify any ultra-vires act.

When the matter went to the House of Lords, it was held that the contract was ultra-vires the
memorandum of the company, and, thus, null and void. Term “general contracts” was interpreted
in connection with preceding words mechanical engineers, and it was held that here this term
only meant any such contracts as related to mechanical engineers and not to include every kind
of contract. They also stated that even if every shareholder of the company would have ratified
this act, then also it had been null and void as it was ultra-vires the memorandum of the
company. Memorandum of the company cannot be amended retrospectively, and any ultra-vires
act cannot be ratified.

What is the need or purpose of the doctrine of ultra-vires?

This doctrine assures the creditors and the shareholders of the company that the funds of the
company will be utilized only for the purpose specified in the memorandum of the company. The
investors of the company can get assured that their money will not be utilized for a purpose
which is not specified at the time of investment. If the assets of the company are wrongfully
applied, then it may result into the insolvency of the company, which in turn means that creditors
of the company will not be paid. This doctrine helps to prevent such kind of situation. This
40
doctrine draws a clear line beyond which directors of the company are not authorized to act. It
puts a check on the activities of the directors and prevents them from departing from the
objective of the company.

The doctrine of ultra-vires in Companies Act, 2013

Section 4 (1)(c) of the Companies Act, 2013, states that all the objects for which incorporation of
the company is proposed any other matter which is considered necessary in its furtherance
should be stated in the memorandum of the company.

Whereas Section 245 (1) (b) of the Act provides to the members and depositors a right to file an
application before the tribunal if they have reason to believe that the conduct of the affairs of the
company is conducted in a manner which is prejudicial to the interest of the company or its
members or depositors, to restrain the company from committing anything which can be
considered as a breach of the provisions of the company’s memorandum or articles.

Basic principles regarding the doctrine

1. An act, legal in itself, but not authorised by the object clause of the MOA of a company,
is ultra vires the company.
2. In an ultra vires transaction, company is not bound and cannot sue on an transaction.
Further, it cannot be sued too by third person. If a company supplies goods or offers
service or lend money on an ultra vires contract, then it cannot obtain payment or recover
the loan.
3. An act ultra vires the company cannot be ratified even by unanimous consent of all
shareholders.
4. If a lender lends money to the company and company used it for ultra vires transaction,
then he cannot recover his money. But if company purchased goods out of this money, he
may recover goods if identified properly.
5. If an act is ultra vires the directors of a company, but intra vires the company itself, then
the members of the company can pass a resolution to ratify it.
6. If an act is ultra vires the Article of association of a company then the same can be
ratified by a special resolution at a general meeting.

Exceptions to the doctrine

1. Any act which is done irregularly, but otherwise it is intra-vires the company, can be
validated by the shareholders of the company by giving their consent.
2. Any act which is outside the authority of the directors of the company but otherwise it is
intra-vires the company can be ratified by the shareholder of the company.
3. If the company acquires property in a manner which is ultra-vires of the contract, the right
of the company over such property will still be secured.
4. Any incidental or consequential effect of the ultra-vires act will not be invalid unless the
Companies Act expressly prohibits it.

41
 5. If any act is deemed to be within the authority of the company by the Company’s Act,
then they will not be considered as ultra-vires even if they are not expressly stated in the
memorandum.
6. Articles of association can be altered with retrospective effect to validate an act which is
ultra-vires of articles.

Effects of ultra vires transactions

1. Void ab initio: The ultra vires acts are null and void ab initio. These acts are not binding
on the company. Neither the company can sue, nor it can be sued for such acts. [Ashbury
Railway Carriage and Iron Company v. Riche ].
2. Estoppel or ratification cannot convert an ultra-vires act into an intra-vires act.
3. Injunction: when there is a possibility that company has taken or is about to undertake an
ultra-vires act, the members can restrain it from doing so by getting an injunction from the
court. [ABC company, scope has been decided. A third party makes a contract with the
company which is ultra vires (beyond the scope of MoM), and pays advance. Third party
can’t enforce the ABC limited. Third party can pass an injunction order and recover the
money paid]
4. Personal liability of Directors: In Trevor v. Whitworth, it was held that a company
could never invest any of its funds for any objectives that do not come within the ambit
of the objects specified in the MOA and should be utilized only for the authorized
objectives. If any director utilizes the company’s fund for any ultra vires investment, he
could be held personally liable and refund the same to the company. Even without
making the company a party to the suit, a shareholder can initiate a proceeding against an
alleged director and make him restore to the company the funds he had invested without
any appropriate authority. In case of intentional misuse of company fund, a suit for deceit
or fraud could be brought against a director personally.
5. Criminal action can also be taken in case of a deliberate misapplication or fraud.
6. A distinction must be drawn between transaction which are ultra vires company and ultra
vires director. There is a small line between an act which is ultra-vires the directors
(director has done something which is within the powers of the company but it is beyond
the powers of the director and if all the shareholders unanimously pass the resolution, it
can ratified OR intra vires of the AoA can also be ratified by the shareholders by passing
special resolution) and acts which are ultra-vires the memorandum (act done beyond
the scope of MoA and even thought all the share holder unanimously pass the resolution
then all it shall be considered as null and void).

Types of ultra-vires acts and when can an ultra-vires act be ratified?

42
1. Acts which are
ultra-vires to the Companies Act - Any act or contract which is entered by the company
which is ultra-vires the Companies Act, is void-ab-initio, even if memorandum or articles
of the company authorized it. Such act cannot be ratified in any situation. Similarly, some
acts are deemed to be intra-vires for the company even if they are not mentioned in the
memorandum or articles because the Companies Act authorizes them.
2. Acts which are ultra-vires to the memorandum of the company - An act is called
ultra-vires the memorandum of the company if, it is done beyond the powers provided by
the memorandum to the company. If a part of the act or contract is within the authority
provided by the memorandum and remaining part is beyond the authority, and both the
parts can be separated. Then only that part which is beyond the powers is considered as
ultra-vires, and the part which is within the authority is considered as intra-vires.
However, if they cannot be separated then whole contract or act will be considered as
ultra-vires and hence, void. Such acts cannot be ratified even by shareholders as they are
void-ab-initio.
3. Acts which are ultra-vires to the Articles but intra-vires to the memorandum - All
the acts or contracts which are made or done beyond the powers provided by the articles
but are within the powers and authority given by the memorandum are called ultra-vires
the articles but intra-vires the memorandum. Such acts and contracts can be ratified by
the shareholders (even retrospectively) by making alterations in the articles to that effect.
4. Acts which are ultra-vires to the directors but intra-vires to the company - All the
acts or contracts which are made by the directors beyond the powers provided to them are
called acts ultra-vires the directors but intra-vires the company. The company can ratify
such acts and then they will be binding.

43
Effects of an act which is Ultra Vires – on borrowings
Any borrowing which is made by an act which is ultra-vires will be void-ab-initio. It will not
bind the company and company and outsiders cannot get them enforced in a court.
Members of the company have power and right to prevent the company from making such ultra-
vires borrowings by bringing injunctions against the company.

If the borrowed funds of the company are used for any ultra-vires purpose, then directors of the
company will be personally liable to make good such act. If the company acquires any property
from such funds, the company will have full right to such property.

No estoppel or ratification can convert an ultra-vires borrowings into an intra-vires borrowings,

as such acts are void from the very beginning. As no debtor and creditor relationship is created in
ultra-vires borrowings only a remedy in rem and not in personam is available.

Doctrine of Constructive Notice (section 399)

It is for the benefit of the company, not in the favour of the outsider (outsider can not plead for
ignorance)

The memorandum and articles, when registered, become public documents and can be inspected
by anyone on payment of nominal fee. Therefore, every person who considers entering into a
contract with a company has the means of ascertaining and is accordingly presumed to know, not
only the exact powers of the company but also the extent to which these powers have been
delegated to the directors, and of any limitations placed upon the exercise of these powers. In
other words, every person dealing with the company is deemed to have a “constructive notice” of
the contents of its memorandum and articles. In fact, he is regarded not only as having read those
documents but also as having understood them according to their proper meaning [Griffith v.
Paget, (1877) Ch. D. 517]. Consequently, if a person enters into a contract which is beyond the
powers of the company, as defined in the memorandum, or outside the limits set on the authority
of the directors, he cannot, as a general rule, acquire any rights under the contract against the
company [Mohony v. East Holyfrod Mining Co., (1875) L.R. 7 H.L. 869].

Example
1. If the articles provide that a bill of exchange to be effective must be signed by two directors,
a person dealing with the company must see that it is so signed; otherwise, he cannot claim
under it.
2. If the articles required that all documents should be signed by the managing director,
secretary and the working director on behalf of the company. A deed of mortgage was
executed by the secretary and the working director only and the Court held that no claim
would lie under such a deed. The Court said that the mortgagee should have consulted the
articles before the deed was executed. Therefore, even though the mortgagee may have acted
in good faith and the money borrowed applied for the purpose of the company, the mortgage
was nevertheless invalid [Kotla Venkataswamy v. Rammurthy, AIR 1934 Mad 579].

44
Doctrine Of Indoor Management (Exception to doctrine of constructive notice).

The ‘Doctrine of Indoor Management’ is also known as the ‘Turquand’s Rule’. The doctrine of
Constructive Notice seeks to protect the company from the outsider whereas the Doctrine of
Indoor Management seeks to protect the outsider from the company.

This doctrine emphasizes on the concept that an outsider whose actions are in good faith and has
entered into a transaction with a company can have a presumption that there are no irregularities
internally and all the procedural requirements have been complied with by the company. This is
the protection which is provided by the Doctrine of Indoor Management. Though it is necessary
for the outsider to be will versed with the Memorandum and Articles of Association of the
company in order to seek remedy for the same. The government authorities are also within the
purview of this doctrine.

Case Law
The Doctrine of Indoor Management has originated from an English case called Royal British
Bank v. Turquand.  A company’s director has issued 2000-pound bonds/debentures to Royal
British Bank. Bank subscribed for it gave 2K pound to the company. At the time of maturity,
Bank asked for the money from the company. Although, the directors of the company had been
authorized by the Articles to borrow on bonds, however, a special resolution in a General
Meeting of the company has been passed that the director of the company without permission
cannot take loan. The main question of law in this matter was whether the company can be held
liable for that bond. The court, in this case, held that the bond was binding on the company as
Turquand was entitled to presume that the resolution of the company has been passed in the
general meeting.

45
The Memorandum and Articles of Associations are Public documents and hence can be
inspected by the public. But whatever is happening internally in the company is not known to the
public. An outsider is oblivious to the internal procedures of the company and hence the
outsiders are entitled to presume that all the internal procedures are catered by the company.

Exceptions To The Doctrine Of Indoor Management

The above noted ‘doctrine of indoor management’ is, however, subject to certain exceptions. In
other words, relief on the ground of ‘indoor management’ cannot be claimed by an outsider
dealing with the company in the following circumstances.

1. Where the outsider had knowledge of irregularity — This rule does not apply to
circumstances where the person affected has actual or constructive notice of the irregularity. In
Howard V Patent Ivory Manufacturing Company (1888) 38 Ch D 156, the Articles of the
company empowered the directors to borrow up to 1,000 pounds. The limit could be raised
provided consent was given in the General Meeting. Without the resolution being passed, the
directors took 3,500 pounds from one of the directors who took debentures. Held, the company
was liable only to the extent of 1,000 pounds. Since the directors knew the resolution was not
passed, they could not claim protection under Turquand’s rule.

2. Forgery - It is pertinent to note that the Doctrine of Indoor Management does not apply in
cases where an outsider relies on a document which is forged in the name of the company. A
company can never be held liable for the forgeries committed by its officers.
For example, In the case of Ruben v. Great Fingall Ltd. The Plaintiff was a transferee of the
share certificate issued under the seal of the defendant company. The certificate was issued by
the Company’s secretary who has forged the signature of the two directors of the company and
had affixed the seal of the Company. The plaintiff, in this case, had contended that whether the
signature was forged or genuine comes under the purview of the internal management of the

46
company, therefore the company shall be held liable for the same, but it was held by the court
that the doctrine of Indoor Management has never extended to cover a forgery.

3 Negligence - Where an outsider entering into a transaction with a company could discover the
irregularities in the management of the company if he/she would have made proper inquiries,
then he/she cannot seek remedy under the doctrine of Indoor Management. The remedy under
this doctrine is also not available where the circumstances and situations surrounding the
contract are so suspicious that it invites inquiry, and the outsider of the company does not make
any efficient inquiry for the same.
For example, in the case of Anand Bihari Lal v. Dinshaw & Co.[6] The Plaintiff had accepted a
transfer of a company’s property from the accountant of the company.  It was held by the court
that the transfer is void in nature as such a transaction was beyond the scope of the accountant’s
authority. It was the duty of the plaintiff to check the power of attorney that was executed in
favour of the accountant by the company.

4. Acts that are beyond the scope of apparent authority - Acts done by an officer of a
company which are beyond the scope of its apparent authority will not make the company liable
for any of the defaults caused by the officer. In such a case, the outsider cannot seek any remedy
under the doctrine of Indoor Management simply because Articles did not delegate the power to
the officer to do such acts. The outsider can only sue the company under the doctrine of Indoor
Management if the officer had the delegated power to act on those grounds.

Example, in the case of Kreditbank Cassel v. Schenkers Ltd.[7], the branch manager of the

company had endorsed a few bills of exchange in the name of the company in favour of a payee
to whom he was personally indebted. The Company did not give him any authority to do so. It
was held by the court that the company was not bound. Additionally, it was also stated that if the
officer of the company commits fraud under his apparent authority on behalf of the company,
then the company will be held liable for the act of fraud committed by the officer.

The same can be observed in Sri Krishna v. Mondal Bros. & Co.[8]   The manager of the
company had the apparent authority under the Memorandum and Articles of Associations of the
company to borrow money. The manager borrowed money on a hundi  but did not place the same
in the strong box of the company. It was held by the court that the company was bound to
acknowledge the hundi, As the creditor had a bona fide claim for recovering the money on the
grounds of fraudulent acts done by the officer of the company.

5. Representation through Articles - This exception is the most confusing and highly
controversial aspect of the Turquand Rule. Articles of Association generally contain a clause of
“power of delegation.” For example, in the case of Lakshmi Ratan Cotton Mills v. J.K.   Jute
Mills Co.[9] One B was the Director of the company. The company comprised of managing
agents of which B was also a Director. The Articles of Association authorized the directors to
borrow money and also empowered them to delegate this power to one or more of them.  B
borrowed a sum of money from the plaintiff. Further, the Company refused to be bound by the
47
loan on the ground that there was no resolution passed directing to delegate the power to borrow
given to B. Yet it was held in the case that the company was bound by the loan as the Articles of
Association had authorized the director to borrow money and delegate the power for the same.

Doctrine Of Alter Ego –

"Alter Ego" is a derived term from Latin which means the "Other I". It is a common belief that a
company is a separate legal entity from its shareholders and directors. This common law
principle grants immunity to the shareholders and directors from being held liable for the debts
as will as criminal liabilities of the corporation. The doctrine of alter ego, however, provides for
an exception to this presumption in law. Alter ego is the doctrine which prevents the stakeholders
of the corporation, i.e., shareholders and directors from taking the refuge of doctrine of separate
legal entity. Hence, the Doctrine of alter ego is based on lifting of the corporate veil between the
directors/ shareholders and the corporation and treating both as one entity.

The doctrine of alter ego is based on the assumption that the corporation as will as the
shareholders and the managing directors are the alter egos of each other, i.e., one is the shadow
or reflection of the other or can be understood as two sides of the same coin. Hence, the courts
can rely on alter ego doctrine when they find that there is a very thin line of distinction between
the shareholders/ directors and the corporation or a limited liability corporation.

Inception And Evolution of This Doctrine

The concept of alter ego is a common law principle and has further developed by the judicial
pronouncements.

“A corporation is a separate legal entity distinct from its members. It acts through living persons
and the persons who acts for the company are not acting as an agent or a servant but are acting as
an alter ego as they are an embodiment of the company and their mind is the mind of the
company. If it is a guilty mind then the guilt is the guilt of the company.” as observed in the case
of Tesco Supermarket Ltd. V. Nattrass
However there is uncertainty regarding the application of this doctrine. Where a business entity
and its controlling owner are alter egos, under the reverse-piercing doctrine the piercing flows in
the opposite direction and makes the corporation liable for the debt of the owner.

Liability Under of Directors Under Alter Ego Doctrine-

Directors and other persons who have control over the management of affairs of the company
can be held liable for the acts committed by or on the behalf of the company under the doctrine
of alter ego. Since the corporation has no mind of its own any more than a body of its own; its
active and directing will must consequently be sought in the person who is really the directing
mind and will of the corporation, the very ego and centre of the personality of the corporation.
But it was also relied that the principle of alter ego has always been applied in reverse, so the
acts of the individuals, who is in the control of the affairs of the company are attributed to the
company not vice versa.

48
Current Status of It In India
In India, the position regarding the criminal liability of company was made clear in the case of
Standard Chartered Bank and Others V. Directorate of Enforcement and Others wherein it was
observed that

“A company is liable to be prosecuted for the criminal offence although act may be committed
through its agent.”

Further in the case of Iridium India Telecom Ltd. V Motorola Incorporation And Others, while
applying the doctrine of attribution and imputation it was observed that

“The group of the persons guiding and controlling affairs of the company or corporation
regarded as alter ego of the company. The criminal intent of the alter ego of the corporation i.e.
the person or group of the persons that guide the business of the company would be imputed to
the corporation.”

In the case of Sunil Bharti Mittal V CBI and others, the court through special judge while
applying this doctrine observed that the managing directors and directors can be considered alter
ego of the companies and the acts of the companies are to be attributed and imputed to them. The
Special Judge held that in light of the capacity in which these directors acted, they can be
considered as the persons controlling the affairs of the company and the directing mind and will
of the respective companies.

Later this order was challenged before the apex court. Apex court while rejecting the order
pronounced by the special judge observed that this order would run contrary to the principle of
vicarious liability detailing the circumstances under which a direction of a company can be held
liable. The special judge applied the doctrine in the reverse direction but the apex court observed
that the principle of alter ego can only be applied in one direction that is to make the company
liable for an act committed by a person or group of persons who control the affairs of the
company as they represent the alter ego of the company; however it cannot be applied in reverse
direction to make the directors of the company vicariously liable for an offence committed by the
company in the absence of statutory provisions.

MEMBERSHIP IN A COMPANY
By definition, the term “Member” in relation to a company means, one who has agreed to
become the member of the company by entering his name into the ‘Register of Members’. Every
person who has agreed in writing to become a part of the company and also holds shares of the
company is considered the ‘Member of the Company’ and is said to hold membership in a
company. The name of the member of the company is entered as ‘Beneficial owner in the record
of depository’.

The terms “members” and “shareholders” are usually used interchangeably. In general, every
shareholder is a member and every member is a shareholder. However, there may be exceptions
49
to this statement, e.g., a person may be a holder of share(s) by transfer but will not become its
member until the transfer is registered in the books of the company in his favor and his name is
entered in the register of members. Similarly, a member who has transferred his shares, though
he does not hold any shares yet he continues to be member of the company until the transfer is
registered and his name is removed from the register of members maintained by the company.

 In the case of a company limited by shares, the shareholders, in general, are the members.
 In a company limited by guarantee, the persons who are liable under the guarantee clause
in its Memorandum of Association are members of the company.
 In an unlimited company, those persons who are liable to contribute the sums necessary
to discharge in full, the debts and liabilities of the company, in the event of its being
wound-up, are members.

As per Section 2(55) of Companies Act of 2013, member in relation to a company means:
 The subscribers to the memorandum of a company who shall be deemed to have agreed
to become members of the company, and on its registration, shall be entered as members
in its register of members,
 Every other person who agrees in writing to become a member of a company and whose
name is entered in its register of members shall, be a member of the company,
 Every person holding shares of a company and whose name is entered as a beneficial
owner in the records of a depository shall be deemed to be a member of the concerned
company.

The two important elements, which must be present before a person can become member of a
company, are as, (i) agreement to become a member; and (ii) entry of the name of the person so
agreeing, in the register of members of the company. [Balkrishan Gupta v. Swadeshi Polytex
Ltd.]

Modes of Acquiring Membership

Acquiring a membership in a company requires many processes and modes. The following are
the modes of acquiring membership in a company

1.By subscribing to Memorandum of Association: In the case of a subscriber, no application

or allotment is necessary to become a member. By virtue of his subscribing to the memorandum,
he is deemed to have agreed to become a member and he becomes ipso facto member on the
incorporation of the company and is liable for the shares he has subscribed.

In accordance with the provisions of Section 10(2) of the Act, all monies payable by any member
to the company under the memorandum or articles shall be debt due from him to the company.
Further, a subscriber to the memorandum must pay for his shares in cash even if the promoters
have promised him the shares for services rendered in connection with the promotion of the
company. Again, he must take the shares directly from the company, and not through transfer
50
from other member(s). When a person signs a memorandum for any number of shares he
becomes absolutely bound to take those shares and no delay will relieve him from that liability
unless he fulfils the obligation. His liability remains right up to the time when the company goes
into liquidation and he is bound to bring the money for which he is liable to pay to the creditors
of the company.

2.By Agreement in Writing to become a member:

-By application and allotment: A person who applies for shares becomes a member when
shares are allotted to him, a notice of allotment is issued to him and his name is entered on the
register of members. An application for shares may be absolute or conditional. If it is absolute,
an allotment and its notice to the applicant will be sufficient acceptance. On the other hand, if the
offer is conditional, the allotment must be made according to be condition as contained in the
application.

-By transfer of Shares: Shares in a company are movable property as provided in Section 44 of
the Act and are transferable in the manner as provided in the articles of the company and as
provided in Section 56 of the Companies Act, 2013. A person can become a member by
acquiring shares from an existing member and by having the transfer of shares registered in the
books of the company, i.e. by getting his name entered in the register of members of the
company.

-By Transmission of shares: A person may become a member of a company by operation of

law i.e. if he succeeds to the estate of a deceased member. On the death of a member, his
executor or the person who is entitled under the law to succeed to his estate, gets the right to
have the shares transmitted and registered in his name in the company’s register of members. No
instrument of transfer is necessary in this case. If the legal representative of deceased member
desires to be registered as a member in place of the deceased member, the company shall do so
or in the alternative he may request the company to transfer the shares in the name of another
person of his choice.

-By Estoppels: A person is deemed to be a member of a company if he allows his name, without
sufficient cause, to be on the register of members of the company or otherwise holds himself out
or allows himself to be held out as a member. In such a case, he is estopped from denying his
membership.

3.By holding shares as beneficial owner in depository records: Every person holding shares
of the company and whose name is entered as a beneficial owner in the records of the depository
shall be deemed to be a member of the concerned company.

Difference between Member & Shareholder

MATTER Member Shareholder

51
 Meaning A person whose name is entered A person who owns the shares of the
in the register of members of a company.
company.

Definition Companies Act, 2013 defines Shareholder is not listed under the
‘Member’ under section 2(55) Companies Act, 2013

Share The holder of the share warrant is The holder of the share warrant is a
Warrantees not a member. Shareholder.

Company Every company must have a The Company limited by shares can
minimum number of members. have shareholders

Memorandu A person who signs the After signing the memorandum, a

m memorandum of association with person can become a shareholder only
the company becomes a member. if shares are allotted to him.

Cessation Of Membership
A person ceases to be a member of a company when his name is removed from its register of
members, which may occur in any of the following situations:
(a) He transfers his shares to another person, the transfer is registered by the company and his
name is removed from the register of members;
(b) His shares are forfeited;
(c) His shares are sold by the company to enforce a lien;
(d) He dies; (his estate, however, remains liable for calls);
(e) He is adjudged insolvent and the Official Assignee disclaims his shares;
(f) His redeemable preference shares are redeemed;
(g) He rescinds the contract of membership on the ground of fraud or misrepresentation or a
genuine mistake;
(h) His shares are purchased either by another member or by the company itself under an order
of the
Tribunal under Section 242 of the Companies Act, 2013;
(i) The member is a company which is being wound-up in India, and the liquidator disclaims the
shares;
(j) The company is wound up; or

Though one ceases to be a member, he remains liable as a contributory and is also entitled to
share in the surplus, if any

Liabilities of Members
Members have some liabilities under the provisions of the Companies Act and some under the
provisions of the company's articles. The main liabilities of members are as under:

52
(1) Liability to Pay the Price of Shares: Every person who agrees to become the member of a
company is liable to pay the price of shares stated in the company's prospectus.
If the member has made the contract under the influence of fraudulent misinformation, he has the
right to repudiate the contract within a specific time. The misinformation must be about some
important issue and the member who has bought the company's share must prove that he did so
under the influence of such misinformation.

When a company issues its shares, it demands a part of the price of shares with the application
and the remaining in instalments. The liability of members with respect to the shares that are
held by them is the amount of unpaid calls on such shares-and nothing more. Every shareholder
is liable by law to make payment (on demand) of the unpaid value of the shares held by him.

It is important to note that the articles of the company define how a call for payment on shares
shall be made, otherwise the call would be void. If the call for payment does not conform to the
provisions of law, the shareholders do not need to make payment for such call.

(2) Liability in Unlimited Company: In case of a company with unlimited liability, each
member of the company has the personal liability to pay the company's creditors.
(3) Liability in Company Limited by Guarantee: The liability of a member of company
limited by guarantee is limited to the amount of guarantee that the member has undertaken.

(4) Liability in Case of Reduction of Members below Minimum: When the number of
members of a limited company is reduced below the minimum, and the company continues its
business for six months or more, the liability of its members becomes unlimited,

(5) Liability on Transfer: On the transfer of shares, till the name of the transferee is entered in
the company's register of members, the transferor continues to be liable as a member of the
company.

(6) Liability on Winding up of Company: If the company is wound up within one year of the
transfer of shares, the name of the transferor is also entered in Schedule B (along with the name
of the current holder of shares) and, if need be, the transferor can also be held liable for the
unpaid calls on shares. Likewise, in case the company is wound up before the transfer of shares,
the transferor is liable for the unpaid amount on the shares transferred.

(7) Liability as Member: When a person has not agreed and does not want to become a member
of a company, but his name has been entered in the company's register of members and he does
not raise any objection, he is deemed to be a member and is liable as such.

(8) Increasing the Liability with the Consent of Members: If the liability of a member is
increased under a provision of the Act, the member shall be liable only if he gives his consent to
such increase, not otherwise.

53
(9) Taking Shares in Fictitious Name: The holder of such shares in liable in every respect

Rights of Members
When a person buys the shares of a company, a contract is created between the buyer of shares
and the company, as a result of which the buyer of the shares (who is a member of the company)
gets some rights. These rights are as under:

Statutory Rights: The rights that are lawfully attained by a member under the provisions of the
Companies Act are called “statutory rights”. These rights cannot be denied to a member, no
matter what is provided in the company's memorandum or articles of association. Under the
provisions of the Companies Act, the members of a company enjoy a number of rights. Some
rights are exercised individually, and some collectively. These are as follows:

(1) Individual Rights of Members: By 'individual rights' is meant the rights the member of
company attains when he becomes a member, and can exercise individually as a member.
These rights are as follows:
(i) Right to Transfer Shares: A member of a company has the right to transfer the shares he
holds when and to whomsoever he wants.
(ii) Right to Inspect Certain Books: Every member of a company has the right to inspect the
registers, indexes, returns, and copies of other certificates and documents like the company's
investment register, its charges register, and the register of its shareholders and debenture
holders, etc.
(iii) Right to Obtain Copies: Every member of a company has the right to obtain a copy of any
such register, index or other specified certificates or documents, or make extracts therefrom-for
example, every member has the right to receive the statutory report of the company at least
twenty-one days before the company's general meeting.
(iv) Right of Pre-emption: In case the company proposes to increase the subscribed capital by
allotment of further shares, the persons who are holders of shares at the date of the offer have the
prior right to acquire such shares.-Section 62
(v) Right Regarding Meetings: All rights with respect to the company's meetings are the rights
of every member—like the right to attend the meetings, the right to receive notices for meetings,
the rights to vote, the right to propose a resolution, etc.
(vi) Right to Nominate for Appointment of Auditor: According to Section 139 of the
Companies Act, if a company does not appoint an auditor or auditors at its general meeting, a
member or members of the company can appeal to the Central Government to nominate an
auditor.
(vii) Right to Apply for Appointment of Liquidator: In case the company is being wound up
at the instance of its creditors, the member can appeal to the National Company Law Tribunal to
appoint an Official Liquidator for the company
(viii) Right of Application to National Company Law Tribunal: In case of the share
certificates are not being issued or renewed, or there is a need to alter the registers, or there is
any mismanagement or oppression of any member's rights, the members can appeal to the
National Company Law Tribunal.
54
(2) Collective Rights of Members: By collective rights is meant those rights which the
members can exercise collectively'. Some collective rights are exercisable by a simple majority
of members, whereas some rights can be exercised by a definite majority and under certain
conditions. Collective rights can be divided into the following categories:
(i) Rights Enforceable by Simple Majority: Such rights are those which can be enforced by
passing a simple resolution at the company's meeting like the right to increase the share capital,
the appointment of auditors, etc.
(ii) Rights Enforceable by Definite Majority: A definite majority of members is required to
pass a special resolution in the company's general meeting. By a special resolution the members
can: (a) alter the memorandum of the company, (b) alter the articles of association, (c) alter the
share capital, (d) wind up the company or (e) alter the registered office of the company.

(3) Rights of Minority Members: Normally, the majority of members of a company has the
right to make important decisions on behalf of the company, but if a minority of the members
feels that it is being discriminated against, it has the right to appeal to the National Company
Law Tribunal or the Central Government. There is, however, possibility of majority becoming
oppressive resulting into mismanagement of the company's affairs and causing great injustice to
the minority shareholders. In order to prevent this eventually, Section 244 confers a right to not
less than one hundred members of a company or not less than one-tenth of the total number of
members, whichever is less, or any member or members holding not less than one-tenth of the
issued share capital of the company, and in case if a company not having a share capital, not less
than one-fifth of its total number of members, to apply to Court under
Section 241 for relief against oppression or for relief against mismanagement.

(4) Documentary Rights: These include the rights that are granted to the members by the
memorandum or articles of association—like the right to receive dividend, the right to the
company's property in case of winding up, etc.

(5) Legal Rights: These are the rights that the law of the land grants to a member of a company-
e.g., the right to appeal to the court in case of fraud.

Register of Members etc.

Section 88 of the Companies Act, 2013 lays down:
(1) Every company shall keep and maintain the following registers as may be prescribed,
namely:
(a) register of members indicating separately for each class of equity and preference
shares held by each member residing in or outside India;
(b) register of debenture-holders; and
(c) register of any other security holders
(2) Every register maintained under sub-section (1) shall include an index of the names included
therein.
(3) The register and index of beneficial owners maintained by a depository.
55
If a company does not maintain a register of members as stated above, the company and every
officer of the company who is in default shall be punishable with fine which shall not be less
than fifty thousand rupees but which may extend to three lakh rupees and where the failure is a
continuing one, with a further fine which may extend to one thousand rupees for every day,
during which the failure continues

56
Rule 3 of Companies (Management and Administration) Rules, 2014
Every company limited by shares shall from the date of its registration maintain a register of its
members in Form No. MGT-1.
In the case of existing companies, registered under the Companies Act, 1956, particulars shall be
compiled within six months from the date of commencement of these rules.

Rule 5 of Companies (Management and Administration) Rules, 2014

(1) The entries in the registers maintained under section 88 shall be made within seven days after
the Board of Directors or its duly constituted committee approves the allotment or transfer of
shares, debentures, etc.
(2) The registers shall be maintained at the registered office of the company unless a special
resolution is passed in a general meeting authorizing the keeping of the register at any other
place where the registered office is situated or any other place in India in which more than one-
tenth of the total members entered in the register of members reside.
(3) Consequent upon any forfeiture, buy-back, sub-division, consolidation or cancellation of
shares, issue of sweat equity shares, transmission or by issue of duplicate or new share
certificates entry shall be made within seven days after approval by the Board or committee, in
the register of members.
(4) If any change occurs in the status of a member or debenture holder or any other security
holder whether due to death or insolvency or change of name, entries thereof explaining the
change shall be made in the respective register.

Rule 8 of Companies (Management and Administration) Rules, 2014

The entries in the registers maintained under section 88 and index included therein shall be
authenticated by the company secretary of the company or by any other person authorized by the
Board for the purpose.

Rule 6 of Companies (Management and Administration) Rules, 2014

Every register maintained under section 88 shall include an index of the names entered in the
respective registers and the index, so that records of member could easily be found.
Provided that the maintenance of index is not necessary in case the number of members is less
than fifty.

Registers (including Register of members) and copies of Annual Return to be kept at the
Registered office
A copy of the proposed special resolution in advance to be filed with the registrar, shall be filed
with the Registrar, at least one day before the date of general meeting of the company in Form
No. MGT.14.

Index of Members
Section 88(2) of the Companies Act, 2013 requires that every register maintained under section
88(1) shall include an index of the names included therein.

57
Every register maintained under sub-section (1) of section 88 shall include an index of the names
entered in the respective registers and the index shall, in respect of each folio, contain sufficient
indication to enable the entries relating to that folio in the register to be readily found:

The maintenance of index is not necessary, in case, the number of members is less than fifty.

The company shall make the necessary entries in the index simultaneously with the entry for
allotment or transfer of any security in such Register.

PROSPECTUS
DEFINITION OF PROSPECTUS
Meaning and Definitions of Prospectus
Section 2(70) of the Companies Act, 2013
defines a prospectus as “any document
described or issued as a prospectus and
includes a red herring prospectus referred
to in section 32 or shelf prospectus
referred to in section 31 or any notice,
circular, advertisement or other document
inviting offers from the public for the
subscription or purchase of any securities
of a body corporate.”
On the basis of aforesaid definition, it may be said that a document should have following
ingredients to constitute a prospectus:
(a) There must be an invitation to the public;
(b) The invitation must be made “by or on behalf of the company or in relation to an intended
company”;
(c) The invitation must be “to subscribe or purchase”;
(d) The invitation must relate to any securities of the company

Invitation to Public
A prospectus (practically it is 400+ pages) is an invitation issued to the public to offer for
purchase/subscribe any securities of the company. A document is deemed to be issued to the
public, if the invitation to subscribe for share capital is such as to be open to any one who brings
his money and applies in prescribed form, whether the prospectus was addressed to him or not.
The test is not who receives the document, but who can apply for the securities in response to the
invitation contained in it.
However, an issue will not be “Public” if-
(i) It is directed to a specified person or a group of persons, and
(ii) It is not calculated to result in the securities becoming available to other
persons

58
 According to section 23(1), a public company
may issue securities—
(a) to public through prospectus (herein referred
to as "public offer") by complying with the
provisions of this Part (i.e Part I) by offering IPO
(Initial Public Offering; means offering for the
first time), FPO (Future Public Offering; means
subsequent offering) and OFS (Offer for sale;
existing members of the company offer to sale to
others and exit the company, new shares are not
issued); or
(b) through private placement; or
(c) through a rights issue or a bonus issue

Section 23(2) lays down that a private company may issue securities—
(a) by way of rights issue or bonus issue in accordance with the provisions of this Act; or
(b) through private placement by complying with the provisions of Part II of this Chapter.

As per section 23, prospectus is required for only "public offer", which includes initial public
offer or further public offer of securities to the public by a company, or an offer for sale of
securities to the public by an existing shareholder, through issue of a prospectus.

Contents of Prospectus (Section 26)

 Every prospectus issued by or on
behalf of a company must be dated and
that date shall unless the contrary is
proved, be regarded as the date of its
publication.
 It shall state such information
and set out such reports on
financial information as may be
specified by the SEBI in
consultation with the Central
Government.
 A copy of the prospectus shall be
signed by every director or proposed director or by his agent must be delivered to the
registrar on or before the date of publication.
 Every prospectus issued to the public should mention that a copy of the prospectus along
with the specified documents has been filed with the registrar.
 If prospectus includes a statement made by an expert, the expert must not be engaged or
interested in the formation or promotion or in the management of the company. A written

59
 consent of the expert should also be obtained before the issue of prospectus with the
statement.
 A prospectus must not be issued more than 90 days after the date on which a copy
thereof is delivered for registration. If a prospectus is issued it will be deemed to be a
prospectus a copy of which has not been delivered to the registrar. (vetting from SEBI,
submit to RoC and then within 90 prospectus is to issued).
 A prospectus shall make a declaration about the compliance of the provisions of the act
and nothing contained in the prospectus is in contravention of the provisions of the
Companies Act, Securities Contracts (Regulation) Act, 1956 and Securities Exchange
Board of India Act, 1992. (SEBI only does the vetting of the prospectus, which means
only examines the content in the prospectus it does not verify. Before the vetting of the
prospectus the prospectus is known as the draft prospectus, after vetting it is known as
prospectus).
 Section 27 of the Act states that a company can vary the terms of a contract referred to in
the prospectus or objects for which the prospectus was issued, subject to the approval of
an authority given by the company in general meeting by way of special resolution. The
details of the notice in respect of such resolution to shareholders shall also be published
in the newspapers in the city where the registered office of the company is situated.

Rule 3 states that every prospectus issued shall contain the following information—
General Information
1. the names and addresses of the registered office of the company, company secretary,
Chief Financial Officer, auditors, legal advisers, bankers, trustees, if any, underwriters
and such other persons as may be prescribed;
2. the dates of opening and closing of the issue;
3. a statement by the Board of Directors of separate bank account;
4. a declaration made by the Board or the Committee authorized by the Board in the
prospectus that the allotment letters shall be issued or application money shall be
refunded within fifteen days from the closure of the issue or such lesser time as may
be specified by SEBI;
5. the consent of trustees, advocates, merchant bankers, registrar, lenders, and experts;
6. main objects of the issue, the purpose for requirements of funds, funding plan, the
summary of the project appraisal report and such other particulars as may be
prescribed;
7. the details of the underwriters and the amount underwritten by them;
8. the details of default and non-payment of statutory dues;
9. the details of all the utilized and unutilized monies out of the monies collected in the
previous issue made by way of a public offer;
10. the authority for the issue and the details of the resolution passed, therefore;
11. the capital structure of the company in the prescribed manner;
12. procedure and time schedule for allotment and issue of securities;

60
 13. minimum subscription, amount payable by way of premium, issue of shares otherwise
than on cash;
14. the details of any litigation or legal action pending or taken by any Ministry or
Department of the Government or a statutory authority against any promoter of the
issuer company during the last five years immediately preceding the year of the issue
of the prospectus;
15. the details of pending litigation;
16. the details of directors including their appointment and remuneration, and particulars
of the nature and extent of their interest in the company;
17. the disclosure for sources of promoters’ contribution;

The reports that the company needs to set out in the prospectus, are given in Rule 4, which are as
under: -
Financial Information
1. Reports by the auditors with respect to profits and losses and assets and liabilities of
the company.
2. Reports relating to profits and losses for each of the five financial years.
3. Reports about the business or transaction to which the proceeds of the securities are to
be applied.

Other matters and reports which are to be stated in the prospectus, are given in Rule 5. They are
as under: -
1. Proceeds or any part of the proceeds, of the issue of the shares or debentures, are
applied directly or indirectly in the purchase of any business, profits or losses of the
business, assets, and liabilities of the business, in purchase or acquisition of any
immovable property.
2. Acquisition by the company of shares in any other body corporate.
3. Matters relating to terms and conditions of the term loans including re-scheduling,
prepayment, penalty, default.
4. The aggregate number of securities of the issuer company and its subsidiary
companies purchased or sold by the promoter group and by the directors of the
company.
5. The Related Party Transactions (RPTs) entered during the last five financial years.
6. The details of acts of material frauds committed against the company.

When Prospectus is not required to be issued?

Under Section 26 of the Companies Act, 2013, the following state of affairs where the
prospectus need not be issued-
a. When the shares or debentures are not offered to the public.
b. When shares and debentures are to be allotted to the existing shareholders or debenture
holders with or without a right to renounce (reject).
E.g. when shares are placed privately to less than 50 persons (private placement means less
than 50 (i.e. 49), if 50 or more then considered as a public issue).
61
c. When shares and debentures are to be allotted are similar (uniform in nature) to the current
shares and debentures (already issued shares and debentures), then there is no requirement to
issue a new prospectus.
d. When not permissible by law (i.e. a Private Company is not required to issue prospectus
(Section 2 (35)).
e. Where invitation to the public for subscription to the shares or debentures of a company is
made in the form of Newspaper Advertisement (Section 30).
f. When an invitation to such person who has an underwriting contract for shares and
debentures.

Contravention of Section 26 of the Companies Act, 2013

 If a prospectus is issued in contravention of the provisions of this section, then the
company shall be punishable with a fine, not less than fifty thousand rupees which
may extend to three lakh rupees, and
 Every person who is party to the issue of the prospectus shall be punishable with
imprisonment for a term which may to three years or with a fine, not less than fifty
thousand rupees which may extend to three lakh rupees, or with both.

Advertisement of Prospectus
Section 30 provides that where an advertisement of any prospectus of a company is published in
any manner, it shall be necessary to specify therein the contents of its memorandum as regards
the objects, the liability of members and the amount of share capital of the company, and the
names of the signatories to the memorandum and the number of shares subscribed for by them,
and its capital structure.

Types of Prospectuses
There are four types of a prospectus, which are as under:
1. Deemed Prospectus (Section 25) 3. Red Herring prospectus (Sec 32)
2. Shelf prospectus (Section 31) 4. Abridged Prospectus (Section 33)
Deemed Prospectus
(A company needs to raise funds. If it releases a
document or advertisements. or any other
document it will be considered as prospectus,
and once a prospectus is issued the company
will have to follow all rules as per the
Companies Act, 2013. A company offers its
shares to some other company and some other
company will distribute the shares in public by
issuing a document. That document will be
considered as deemed prospectus to the
company, and all the rules of the Companies Act, 2013 shall apply to the company. If the other
company is the partnership firm, then half of the partners needs to sign the document)

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According to Section 25(1) of the Act, where a company allots or agrees to allot any securities of
the company with a view to all or any of those securities being offered for sale to the public. Any
document by which such offer for sale to the public is made is deemed to be a prospectus by
implication of law.

Shelf Prospectus
Company wants to raise money, it will go
to public, it will publish a prospectus
(section 26). A company who has to raise
money frequently (Example: Muthoot
finance, Manipuram gold) the process of
section 26 is tedious. Such company
bring a prospectus which will issue a
prospectus who’s life is for one year for
every PO.
According to Section 31 of the Act, Shelf
prospectus is issued when a company or
any public financial institution offers one
or more securities to the public. A company shall provide a validity period of the prospectus,
which should not be more than one year. The validity period starts with the commencement of
the first offer. There is no need for a prospectus on further offers.

According to section 31(2), the company which is filing a shelf prospectus is required to file the
information memorandum. It should contain all the facts regarding the new charges created, what
changes have undergone in the financial position of the company since the first offer of the
security or between the two offers.

It should be filed with the registrar within three months before the issue of the second or
subsequent offer made under the shelf prospectus as given under Rule 4CCA of section 60A(3)
under the Companies (Central Government’s) General Rules and Forms, 1956.

When any company or a person has received an application for the allotment of securities with
advance payment of subscription before any changes have been made, then he must be informed
about the changes. If he desires to withdraw the application within 15 days then the money must
be refunded to them.
63
After the information memorandum has been filed, if any offer or securities is made, the
memorandum along with the shelf prospectus is considered as a prospectus.

Red Herring Prospectus (RHP)

According to Section 32 of the Act, an
RHP means a prospectus which does not
have complete particulars on the price
of the securities offered and quantum
of securities to be issued. A company
may issue an RHP prior to the issue of a
prospectus.

The company shall file RHP with

Registrar at least three days prior to the
opening of the subscription list and the
offer. An RHP carries the same obligations as are applicable to a prospectus and any variation
between the RHP and a prospectus shall be highlighted as variations in the prospectus.

When the offer of securities closes then the prospectus has to state the total capital raised either
raised by the way of debt or share capital. It also has to state the closing price of the securities.
Any other details which have not been included in the prospectus need to be registered with the
registrar and SEBI.

The applicant or subscriber has right under Section60B (7) to withdraw the application on any
intimation of variation within 7 days of such intimation and the withdrawal should be
communicated in writing.

[Book building process, the price of the share is decided by the Price Discover Mechanism –
Company will fix the band of the shares (i.e. from 600-720) ppl select the price of the share
which think is appropriate and based on the majority the company decides to price of the share]

Abridged Prospectus
The abridged prospectus is a summary of a
prospectus filed before the registrar. It contains
all the features of a prospectus. An abridged
prospectus contains all the information of the
prospectus in brief so that it should be
convenient and quick for an investor to know
all the useful information in short.

Section33(1) of the Companies Act, 2013 also

states that when any form for the purchase of
64
securities of a company is issued, it must be accompanied by an abridged prospectus. It contains
all the useful and materialistic information so that the investor can take a rational decision and it
also reduces the cost of public issue of the capital as it is a short form of a prospectus.

A company cannot issue an application form for the purchase of securities unless an abridged
prospectus accompanies such a form.

Variation in terms of contracts referred to in the prospectus / objects for which prospectus
was issued
(A company want to raise funds,
prospectus is raised and its given to
public. It was mentioned in the prospectus
that money raised shall be used in
furniture business. Public invested. Later,
BOD decides to go in pharma business.
The object is changed first it was furniture
later its pharma i.e change in the object)

Section 27(1) states that a company shall

not, at any time, vary the terms of a contract referred to in the prospectus or objects for which the
prospectus was issued, except subject to the approval of, or except subject to an authority given
by the company in general meeting by way of special resolution through postal ballot and the
notice of this resolution shall contain following particulars:
- the original purpose or object of the issue;
- the total money raised;
- the money utilised for the objects of the company stated in the prospectus;
- the extent of achievement of proposed objects(that is fifty percent, sixty percent, etc);
- the unutilised amount out of the money so raised through prospectus,
- the particulars of the proposed variation in the terms of contracts referred to in the
prospectus or objects for which prospectus was issued;
- the reason and justification for seeking variation;
- the proposed time limit within which the proposed varied objects would be achieved;
- the clause-wise details as specified in sub-rule (3) of rule 3 as was required with respect
to the originally proposed objects of the issue;
- the risk factors pertaining to the new objects; and
- the other relevant information which is necessary for the members to take an informed
decision on the proposed resolution.

Notice in respect of resolution to shareholders, shall also published in English and in vernacular
language in the city where the registered office of the company is situated indicating clearly the
justification for such variation company not to use any amount raised by it through Prospectus.
The notice shall also be placed on the web-site of the company, if any. The company shall not

65
use any amount raised by it through prospectus for buying, trading or otherwise dealing in equity
shares of any other listed company.

According to the section 27(2) the dissenting shareholders to variation of terms are to be given
exit option. (85% of the ppl agree to the change object, the 15% ppl who do not agree are the
dissenting shareholders).

The dissenting shareholders being those shareholders who have not agreed to the proposal to
vary the terms of contracts or objects referred to in the prospectus, shall be given an exit offer by
promoters or controlling shareholders at such exit price, and in such manner and conditions as
may be specified by the Securities and Exchange Board by making regulations in this behalf.

66
Offer of Sale of Shares by Certain Members of Company (section 28)
(A company has 1L shares, company has
only 4 member A, B, C, D with 30K, 40K,
20K and 10K shares respectively. A and B
intends to exist/want to sell the share and
want money. The company will propose to
offer for sale to the public. The company
will sell 30K+40K = 70K shares to public.
No new issues are issued. No of shares
will remain same. Company will help A
and B to sell their shares. Prospectors will
be issued and provisions of Ch-III will be
applied. Owner will be C and D and
public who buy’s A and B’s share. Company will not get any money, money will go to A and B.
Balance sheet will remain unchanged. A and B will reimburse the expense incurred by the
company)

The Companies Act, 2013, for the first time, has incorporated provisions with respect to offer of
sale of shares by certain members of company to be effected by the company on their behalf. It
provides that where certain members of a company (whether individuals or body corporate)
propose, in consultation with the Board of Directors to offer whole or part of their holding of
shares to the public, they shall collectively authorise the company to take all actions in respect of
offer of sale for and on their behalf. They shall reimburse the company all expenses incurred by
it on this matter. Section 28, in this regard provides that any document by which the offer of sale
to the public is made shall, for all purposes, be deemed to be a prospectus issued by the company
and all laws and rules made thereunder as to the contents of the prospectus and as to liability in
respect of misstatements in and omission from prospectus or otherwise relating to prospectus
shall apply as if this is a prospectus issued by the company.

The Golden Rule Or Golden Legacy

It is the duty of those who issue the prospectus to be truthful in all respects. This Golden Rule
was pronounced by Kinderseley, V.C. in New Brunswick, etc., Co. v. Muggeridge, (1860) 3 LT
651, and has come to be known as the “Golden Legacy”.

Those who issue a prospectus hold out to the public great advantages which will accrue to the
persons who will take shares in the proposed undertaking. Public is invited to take shares on the
faith of the representation contained in the prospectus. The public is at the mercy of company
promoters. Everything must, therefore, be stated with strict and scrupulous accuracy. Nothing
should be stated as a fact which is not so and no fact should be omitted, the existence of which
might in any degree affect the nature or quality of the privileges and advantages which the
prospectus holds out as inducement to take shares. In short, the true nature of the company’s
venture should be ‘disclosed’. If concealment of any material fact has prevented an adequate
appreciation of what was stated, it would amount to misrepresentation. Thus, even if every
67
specific statement is literally true, the prospectus may be false if by reason of the suppression of
other material facts, it conveys a false impression”.

In R.V. Kylsant (1932) K.B. 442, all statements in the prospectus were literally true but it failed
to disclose that the dividends stated in it as paid, were not paid out of trading profits, but out of
realized capital profits (secret reserves). The statement that the company had paid dividends for a
number of years was true. But the company has incurred losses for all those years (1921-27) and
no disclosure was made of this fact. The prospectus was held to be false in material particulars
and the managing director and chairman, who knew that it was false, were held guilty of fraud.

Misstatements in the Prospectus - The

prospectus is a trusted legal document
on which people can rely before
subscribing or purchasing securities
from the company. But any
misstatement that occurs in the
prospectus leads to punishment in the
form of a fine or imprisonment.
Misstatement includes an untrue or
misleading statement, non-disclosing

facts, which is issued in the prospectus. The liabilities for Misstatement in a prospectus are Civil
Liability (Section 35) and Criminal Liability (Section 34).

Criminal Liability for Misstatement in the prospectus

According to the provision of Section 34 of the Companies Act, 2013, criminal liability arises
where prospectus contains any untrue statement,
then, every person who has authorized the issue of
the prospectus shall be punishable under Section
447. The punishment involves imprisonment for a
period of 6 months which can be extended to 10

68
years or a fine, maybe the amount involved in the fraud, or it can be extended 3 times the amount
involved in the fraud or both.

Defences available under criminal liability:

The defenses are available under criminal law if a person proves that,
 Such statement or omission was immaterial;
 He has a judicious ground to consider that the inclusion or omission was necessary;
 He has judicious ground to consider that the statement was true.

Case Laws
In APL Industries Ltd. v. Securities and Exchange Board of India
The SEBI (Securities and Exchange Board of India) ordered the company to refund the amount
of subscription to the subscriber where the public issue of share was unsubscribed.

In Derry v. Peek
The prospectus of a company contained that the company has been authorized to use steam
power in moving its trams. But, the authority that was authorized to approve the Board of Trade
refuses its approval. The court held that there is no misstatement in the prospectus, the Board of
Directors was not held guilty of fraud, because they were honest and they mentioned the
statement in a good faith. They were not intended to deceive anyone.

In  Henderson v. Lacon

In the prospectus, it is contended that the directors and their friends have subscribed a large
portion of and they now offer to the public remaining shares. But in reality, the directors had
subscribed only 10 shares each. The court held that the subscribers can rescind the contract.

In Arnison v. Smith
The court held that, in the prospectus, the non-disclosure of facts does not amount to
misrepresentation unless the concealment has prevented an adequate appreciation of what was
stated.

In Peek v. Gurney
The court held that-
 Every man must be held responsible for the consequence of false representation made by
him to another, upon which the other acts and is injured.
 The aforesaid false representation was made with the intention that it should be acted
upon by the third person in the manner resulting in injury.
 Such injury must be an immediate consequence and not remote.

Civil Liability (unlimited liability) for Misstatement in the prospectus

Section 35 (1) provides that 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
every person who—
a) is a director of the company at the time of the issue of the prospectus;

69
 b) has authorised himself to be named and is named in the prospectus as a director of the
company, or has agreed to become such director, either immediately or after an interval
of time;
c) is a promoter of the company;.
d) has authorised the issue of the prospectus; and
e) is an expert referred to in sub-section (5) of section 26, shall, besides punishment under
section 36, be liable to pay compensation to every person who has sustained such loss or
damage.

Defences available to avoid Civil Liability

No person shall be liable under Section 35 (1), if he proves—
a) that, having consented to become a director of the company, he withdrew his consent
before the issue of the prospectus, or
b) that it was issued without his authority or consent; or
c) 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.
d) that with respect to every misleading statement purported to have been made by an expert
or copy or extract from a report or valuation, he had reasonable ground to believe and did
up to the time of issue of prospectus believe that person was competent to make it and
had no knowledge before allotment thereunder.

However, where it is proved that a prospectus has been issued with intent to defraud the
applicants for the securities of a company or any other person or for any fraudulent purpose,
every person referred to in subsection (1) shall be personally responsible, without any
limitation of liability, for all or any of the losses or damages that may have been incurred by
any person who subscribed to the securities on the basis of such prospectus (Section 35 (3)).

Punishment for fraudulently

inducing persons to invest money
Section 36 provides that any person
who,
i) either knowingly or recklessly
makes any statement, promise or
forecast which is false, deceptive or
misleading, or
ii) deliberately conceals any material
facts, to induce another person to enter
into, or to offer to enter into specified
agreements,
shall be punishable with imprisonment for a term which shall not be less than 6 months and upto
10 years and shall also be liable to 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 (sec 447 under IPC)
70
 Agreements covered under Section 36 include:
i. any agreement for, or with a view to, acquiring, disposing of, subscribing for, or
underwriting securities; or
ii. 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
iii. any agreement for, or with a view to obtaining credit facilities from any bank or financial
institution.

Action by Affected Persons/Class Action Suit (Section 37)

A suit may be filed or any other action may be taken under section 34 or section 35 or section 36
by any person, group of persons or any association of persons affected by any misleading
statement or the inclusion or omission of any matter in the prospectus. Thus, Section 37, not only
provides for individual action but also for class action.
[class action suit – A company has done fraud. 500 ppl has suffered loss. If 500 ppl files a case
against the company, then its not viable. All ppl together and file a single case against the
company]

Section 40 focus on stock

exchange, bank and
underwriter (agent)
commission

71
deals underwriter (if public doesn’t subscribe, then the underwriter will subscribe for the shares
and he will take commission). Commission can be given in cash or kind.

72
 Commission only of the
securities which is available to
public not for the securities
available to promotor

Not available to public at large

Both public and
private company can
go for private
placement.
If not a non-
conversable
debenture, then for
every PPOL special
resolution by share
holder in general
meeting.

73
SHARE
Capital is required for running of
the business. Since company is a
legal separate entity, it has to
depend on others natural person
for arrangement of the capital.

1. Owned capital - arranged by

the members of the company.
Person contributing to the equity
capital becomes the members /
owner of the company. Those who
contribute towards the equity fund
becomes the members of the
company.
2. Debt capital - borrowed from
outsider (not the members of the company). Person lending money becomes the debenture
holder. Those who lend becomes creditors of the company.
Solomon is
Rs. 1000/- debenture – liability of
the company / secured creditor /
asset for Solomon

Rs. 20000/- fully paid shares –

ownership of Rs. 20000/- worth

74
Share: Meaning, Definition and Nature
Share in the literal sense means, “a part” or “a division” or “a portion”. In company law it refers
to unit of the capital of a public limited company. A person who owns a share is called
“shareholder”, and the return he gets on his investment is called ‘Dividend’.

Example: Total capital of a company is - 5, 00,000 divided in to 50,000 shares of Rs. 10 each,
each unit of Rs. 10 is called share. In this case there are 50,000 unit i.e. shares of Rs. 10 each and
the capital is Rs. 5, 00,000.

Section 2(84) of the Act defines a share as “a share in the share capital of a company, and
includes stock except where a distinction between stock and shares is expressed or implied.”

Nature of Shares
- The capital of a public limited company (is a company that has limited liability and
offers shares to the general public) is divided into small units called “shares. A share is
an interest of a shareholder in a company. It fixes the rights and obligations of the
shareholder.
- It is a movable property since it can be easily transferable from one person to another in
an open market.
- A share entitles the holder to receive a proportionate part of the profits of the company, to
take part in the management of the company’s business in accordance with the Article, to
receive a proportion of the assets in the event of winding up and all other benefits of
membership.
- A share also carries some liabilities i.e., the liability to pay the full value in winding up.
- In India, a share is regarded as goods. According to the Sale of Goods Act, 1930,
“Goods” means any kind of movable property other than actionable claim and money,
and includes stock and shares.
According to Lord M. R. Greene, movable property is of 2 kinds
1. Choose-in-possession means property, which one has in control and in in actual
physical possession
2. Choose-in-action means property which one do not have in immediate possession but
has a right to it, which can be enforced by a legal action. This right is evidenced by a
document. Example: a railway ticket, a share in a company is also a choose – in –
action and the share certificate is the evidence.

Shares and Stock

The capital of a public limited company is divided into small units called “shares”. The
shareholder may be required to pay in full the total face value of the share or by way of
installments viz. application allotment, first call, second call, final call etc. Thus, a share may be
fully paid up or partly paid up. The term “stock” or “joint stock” is an alternate name for shares.
Stock is “a set of shares put together in a bundle”. Shares are issued in units. Example: Rs. 10/-
shares. Stock is shares bundled into lumpsum. Example: TEN (number of) shares of Rs. 10/- are

75
converted into Rs. 100/- stocks. Shares can be issued in the first instance. Stock cannot be issued
in the first instance. Shares can be converted into stock.

Difference between Shares and Stock

Shares Stocks
1 It may be fully paid-up of party paid-up Stocks originates from fully paid-up shares
2 A share cannot be broken up into parts (not Stocks unless the articles provide may be
divisible) broken up into any division (is divisible)
3 It has a nominal value No such nominal value
4 Any new company can float shares for Only fully paid up shares can be converted
subscription into stocks and then flated.
5 Only fully paid-up shares can be converted Stocks can be reconverted into shares u/s 94
into stocks of the Companies, Act
6 It can be issued to public directly It cannot be issued to public directly

Kinds of Shares
Section 43 of the Companies Act, 2013 permits a company limited by shares to issue two classes
of shares, namely:

(a) Preference share capital - The law defines preference share capital as that part of the share
capital of a company which fulfills both the following conditions namely:
- Preferential right to claim dividends
- Preferential rights for claiming repayment of capital during winding up of the company.

The preference shareholders are entitled to receive the fixed rate of dividend out of the net profits
of the company. After the payment of dividends at fixed rate is made to them, the balance can be
used for declaring a dividend on ordinary shares. Similarly, the assets remaining after payments
of debts of the company are first used for returning the capital contributed by the preference
shareholders. The rate of dividend on preference shares is specified in the articles of association.

The limitation of the preference shares is that it does not carry voting rights. Preference
shareholders have no voting rights except on those issues which affect their interests such as
non-payment of dividends for more than two years.

Kinds of Preference Shares

Preference shares Description
1 Convertible These shares can be readily converted into equity shares
2 Non-convertible These shares cannot be converted into common stocks
3 Redeemable (sec 80) These shares come with a maturity date. On maturity, the
company repurchases its shares from the investors at a fixed
rate and ceases their dividend. Also known as callable
preference stock. A company limited by shares may, if so,
76
 authorized by its articles, issue preference shares which are
liable to be redeemed within a period not exceeding twenty
years from the date of their issue.
4 Non-Redeemable These shares cannot be redeemed in the lifetime of the
company. They come with a fixed rate of dividend. According
to section 55 of the Act, a company limited by shares cannot
issue any preference shares which are irredeemable.
5 Participating Participating preference shares help shareholders demand a part
in the company’s surplus profit at the time of the company’s
liquidation after the dividends have been paid to other
shareholders. However, these shareholders receive fixed
dividends and get part of the surplus profit of the company
along with equity shareholders.
6 Non-Participating These shares do not entitle shareholder to any surplus profit but
offer them the promised dividends
7 Cumulative Cumulative preference shares are those type of shares that gives
shareholders the right to enjoy cumulative dividend payout by
the company even if they are not making any profit. These
dividends will be counted as arrears in years when the company
is not earning profit and will be paid on a cumulative basis the
next year when the business generates profits.
8 Non-cumulative Non - Cumulative Preference Shares do not collect dividends in
the form of arrears. In the case of these types of shares, the
dividend payout takes place from the profits made by the
company in the current year.
So if a company does not make any profit in a single year, then
the shareholders will not receive any dividends for that year.
Also, they cannot claim dividends in any future profit or year.
9 Adjustable In case of this share, the rate of dividend is not fixed and gets
influenced by prevailing market rates

(b) Equity share capital (foundation capital of the company)– According to section 85(2) of
the Companies act, all share capital, which is not preference share capital are equity share
capital. Equity shareholders do not have any priority (like preference shareholders) as to the
distribution of the dividends. They rank after the preference shares for the purpose of dividend
payment and repayment of capital. The rate of dividend is also generally not fixed and may vary
from year depending upon the profit of the company. This rate of dividend is recommended by
the directors of the company. They are the real owners of the company. They have voting rights
in the management of the company. In a public limited company, majority members are equity
shareholder.

As per section 43 (a) equity share capital may be divided on the basis of

77
 - with voting rights and
- with differential rights (DVR) as to dividend, voting or otherwise

Shares with Differential Voting Rights: Section 43(2)

The shares with Differential Voting Rights (DVRs) in a company means those shares that give
the holder of the shares the differential rights related to voting, i.e. either more voting rights or
less voting rights compared to the ordinary shareholders of the company. There are two types of
DVRs, i.e. shares with superior voting rights and shares with inferior voting rights. The
equity shares with less voting rights carry a higher dividend rate, whereas the equity shares with
higher voting shares carry a lesser dividend rate. The equity shares with higher voting rights are
issued to promoters, managing directors, key managerial persons, etc.

Example – Tata Motors allotted DVR shares to A @ 10 shares – 1 vote, however, dividend is
5% higher than the ordinary shares.

Conditions for issuing shares with differential rights

The Companies (Share Capital and Debentures) Rules, 2014 provide that no company whether it
is unlisted, listed or a public company limited by shares shall issue equity shares with differential
rights as to dividend, voting or otherwise, unless it complies with the following conditions:
- The Articles of Association (AOA) of the company authorizes the issue of shares with
differential rights
- The company must obtain approval from the shareholders by passing an ordinary
resolution in the general meeting. When the equity shares of a company are listed on a
recognized stock exchange, the issue of such shares shall (when shall is used it means
compulsory) be approved by the shareholders through postal ballot
- the shares with differential rights shall not exceed 26% percent of the total post-issue paid
up equity share capital including equity shares with differential rights issued at any point
of time
- the company having
consistent track record of
distributable profits (means
dividends) for the last three
years
- There should be no default
by the company in filing its
financial statements or
annual returns for the last
three financial years
preceding the financial year
of the issue of the DVRs.

78
- The company should not have defaulted in repayment of declared dividends or matured
deposits to the shareholders.
- There should be no default by the company to repay the instalment of term loan taken
from any state-level or public financial institution or scheduled bank.
- There should be no default by the company in the redemption of its debentures or
preference shares which are due for redemption and payment of any statutory dues of its
employees (example bonus).
- the company has not been penalized by Court or Tribunal during the last three years of
any offence
- the company shall not convert its existing equity share capital with voting rights into
equity share capital carrying differential voting rights and vice versa.
- the details about the shares issued with differential rights shall be disclosed in the board’s
report.
- the holders of the equity shares with differential rights shall enjoy all other rights such as
bonus shares, rights shares etc., which the holders of equity shares are entitled to, subject
to the differential rights with which such shares have been issued
- when a company issues equity shares with differential rights, the Register of Members
maintained under section 88 shall contain all the relevant particulars of the shares so
issued along with details of the shareholders.

79
Difference Between Preference Shares and Equity Shares
    Parameter Preference Shares Equity Shares

Dividend payout Preference shareholders receive After all of the liabilities have
dividends before equity been paid, the equity
stockholders shareholders receive dividends.

Rate of dividend Dividend rate is fixed for It changes for equity

preference shareholders shareholders depending on the
company's profits.

Bonus shares Preference shareholders do not In addition to existing

receive any bonus against their shareholdings, equity
current shareholdings. stockholders are granted bonus
shares.

Capital repayment Preference shares are reimbursed When the company closes, the
before the equity shares. equity shares are repaid at the
end.

Voting rights Preference shares does not offer Equity shares offer voting rights.
any voting rights.

Role in For preference shareholders, As the equity shares have voting

management they are not allowed to rights they can participate in the
participate in the management. management.

Redemption You can redeem the preference Equity shares cannot be

shares. redeemed.

Convertibility Cannot be converted. Cannot be converted.

Arrears of Preference shareholders can Equity shareholders are not

dividend avail arrears of dividend in offered any arrears of dividends.
addition to the dividends
received for that year.

Capitalization Preference shares which have Equity shares type have high
relatively fewer chances of chances of over capitalization.
capitalization.

Types Preference shares are further Equity shares are classified as

categorized into other types as ordinary stock of a company.
participatory, non-participatory,
convertible, non-convertible,
cumulative, non-cumulative, and
so on.

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 Financing term Preference shares are best Long-term investments are
invested in for the medium or prefered in equity shares.
long term.

Mandate to issue It is not a compulsion for every It is mandatory that all

company to issue preference companies issue equity shares.
shares.

Investment Preference shares offer higher Equity shares offer lower

denomination denomination. denomination.

Type of investors Investors with a low-risk profile Investors with a great risk
can invest in preference shares. appetite can invest in equity
shares.

Associated Preference stockholders are Payment of an equity dividend is

burden entitled to dividends, and optional and depends on the
companies must pay them. company's profit.

Liquidation Preference shares are not liquid, Equity shares are highly liquid.
but you can sell them back to the
company.

Participation No participation rights are Equity shareholders are

rights granted to preference responsible for the company's
shareholders. management as they have voting
right

Share Certificate
According to Section 46 of the Act, a certificate, issued under the common seal, of the company
and signed by two directors or by a director and the Company Secretary, specifying the shares
held by any person, shall be prima facie evidence of the title of the person to such shares. It shall
contain the name, address and occupation of the shareholder. If the shares are of more than one
class, it shall specify the class of shares to which it relates.

Every company shall deliver the share certificate within 3 months of the allotment or 2 months
after the application for registration of the transfer of shares. In case of default, the person
entitled may serve a notice to the company. If the company fails to comply with the notice, the
Company Law Board, on application by such person may order the company to pay all costs to
the applicant. Every officer responsible for the default is liable to pay a fine not exceeding Rs.
500/- for every day of the default.

A duplicate certificate of shares may be issued, if it is proved that the certificate has been lost or
destroyed or has been defaced, mutilate or torn and is surrendered to the company.

81
If a company with intent to defraud issues a duplicate certificate of shares, the company shall be
punishable with fine which shall not be less than five times the face value of the shares involved
in the issue of the duplicate certificate but which may extend to ten times the face value of such
shares or rupees ten crores whichever is higher and every officer of the company who is in
default shall be liable for action under section 447.

Object of Share Certificate

The object of the share certificate is to enable a shareholder to show at once his title to the shares
by producing the certificate. The effect of share certificate may be explained with reference to
a. Estoppel (go back on words) as to title – The company by issuing share certificate confers
title and hence the company is estopped from denying the title to the shareholder.
b. Estoppel as to payment – Where the share certificate states/declares that the full value of
the share has been paid, the company is estopped from denying that the share are not fully
paid.

Share Warrant
A Share Warrant is a document issued by the company under its common seal, stating that its
bearer is entitled to the shares or stock specified therein. Share warrants are negotiable
instruments. They are transferable by mere delivery without registration of transfer. It is a
negotiable instrument and mere delivery transfers the ownership of the shares. Coupons are
attached to each warrant, bearing the dates on which the dividend will be paid by the company as
they cannot know who the shareholder or who is entitled to the dividends. The person who
produces the appropriate coupon can receive payment of the dividend.
Conditions – A public company limited by shares can issue share warrants provided following
conditions are satisfied
1. The shares shall be fully paid-up
2. The articles of the company shall authorize to issue share warrants
3. Prior approval of the Central Government shall be obtained.

Difference between Share Certificate and Share Warrant

Share Certificate Share Warrant
1 The public companies and private Only public companies can issue share
companies can issue share certificate warrants
2 Share certificates can be issued in Share warrants can be issued only in respect
respect of partly paid-up shares also of fully paid-up shares
3 The holder of share certificate is a The holder of share warrant is not a member
member of the company of the company unless the Articles so
provide
4 Transfer requires registration Registration is not necessary since share
warrants are transferred by mere delivery

Transfer of Shares

82
The significant features of a public limited company is “transfer of shares”. An important
characteristic of a company is that its shares are transferable (section 82). Shares or debentures
are movable property. They are transferable in the manner provided by the articles of the
company, especially, the shares of any member of a public company.

The transfer of securities is possible through any contract or arrangement between two or more
persons. The provisions of the Companies Act deals with the transfer and transmission of
securities. Transmission of securities means loss of title on these securities due to death,
succession, inheritance, bankruptcy etc. In short, it is something other than transfer.

Meaning of Share Transfer

Transfer of shares means the voluntary handing over of the rights and possibly, the duties of a
company member (as represented in a share of the company). The rights and duties of the share
transfer happen from a shareholder who wishes to not be a member of the company any more to
a person who wishes of becoming a member.

Thus, shares in a company are transferable like any other movable property in the absence of any
expressed restrictions under the articles of the company.

The article of the company may empower the directors to refuse to register the transfer. In case
the directions are induced to register the transfer by concealment or fraud, such transfer is invalid
and the transfer cannot avoid liability on the shares.

Restrictions in case of Private Company

Reasonable restrictions can be imposed by a Private Company only under the provisions found in
the Articles of Association. There are 2 kinds of provisions which can be incorporated in the
Articles of the Company for this purpose. They are:
1. Power of Directors to refuse transfer of shares
In Bajaj Auto Limited v. Company Law Board, it was held by the Supreme Court that the power
of the Board of Directors to refuse registration of transfer of shares must be in the interest of the
company and the general body of shareholders.

83
2. Pre-emptive rights.
A right of pre-emption is incorporated in the articles of a Private Company to restrict the
members' right to transfer shares to nonmembers.

Under Sec 111, Refusal to register the transfer of shares can be done only on the ground of
restrictions contained in the Articles of Association. This was also upheld by the Supreme Court
in the case of V.B Rangaraj Vs. V.B. Gopalakrishnan

Also, under sub section 13 of Sec. 111, no petition can be filed in respect of a Private Company
which by its Articles has imposed restrictions against the right to transfer its shares. However, a
petition lies under the section in case of refusal by a private Company which is not a subsidiary
of a public authority. [Sec. 111 (11)].

Free Transferability in the Case of Public Company

Grounds on which Public listed Companies could refuse to register transfer were to be found in
S. 22 A of the Securities Contracts (Regulation) Act, 1956 [SCR]. Under the Section, the Board
of Directors could refuse to register a transfer on only one or more of the following four grounds:
1. The instrument of transfer is not proper or has not been duly stamped and executed or the
certificate relating to the security has not been delivered to the company or that any other
requirement of law relating to such transfer has not been complied with; or
2. The transfer is in contravention of any law or rules made thereunder or any administrative
instructions or conditions of listing agreement;
3. The transfer is likely to result in such change in the composition of the Board of directors as
would be prejudicial to the interest of the company or to the public interest;
4. The transfer is prohibited by any order of any court or tribunal or other authority under any
law for the time being in force.
This section has been omitted from the SCR Act, by the Depositories Act, 1996. As a result of
this omission, no ground is available to a Public Company, listed or unlisted, for refusing a
transfer.

Thus the Articles of a Public Company cannot contain provisions destructive of free
transferability. A provision in the articles of such a Company was that a selling member would
have to give notice to the Board and the latter would act as an agent to sell the shares to other
members either at an agreed price or, in the absence of an agreement, at a price to be determined
through arbitration. This provision was held to be a misfit with the concept of a public Company.
The Company was directed to drop it. [Arjun S. Kalro Vs. Shree Madhu Industrial Estates Ltd.]

Grounds on which a Public Company can refuse to register transfer

The only ground on which a Public Company may refuse a transfer is on some sufficient cause.
The Proviso to sub-section (2) of Sec. 111A provides that, If a company without sufficient cause
refuses to register transfer of shares within two months from the date on which the instrument of
transfer or the intimation of transfer, as the case may be is delivered to the Company, the

84
transferee may appeal to the Tribunal and it shall direct such company to register the transfer of
shares.

In Estate Investments Company P. Ltd. v. Siltap Chemicals Ltd. the Company Law Board laid
down the scope of the words sufficient cause. The opinion of the CLB was that only those
grounds would constitute a sufficient cause on which the CLB can order rectification of the
Register of Member of Company under S. 111A(3).

The grounds of refusal as laid down under S. 111A(3) are:

1. Contravention of the provisions of the SEBI Act, 1992 or Regulations made under that Act.
Where the acquisition of shares exceeded 10% and the procedure as to public announcement of
such acquisition as prescribed by the Takeover Regulations was not followed, that was held to be
a sufficient cause within the meaning of section 111A for the Company not to register the
transfer. [Bakhtawar Construction Co. O. Ltd. Vs. Blossom Industries Ltd.]
2. Violation of Sick Industrial Companies (Special Provisions) Act, 1985.
3. Contravention of any other law for the time being in force.

The expression or any other law for the time being in force in Section 111A(3) has to be read in
the context of the other words used in sub-section and would be confined to statute law. A
refusal to accept a transmission by a small Company was held to be justified in Xavier Joseph
Vs. Indo Scottish Brand Private Limited.

Procedure for Transfer of Shares under the Companies Act, 2013

1. Any shareholder or a person whose name appears in the register of members of company
or the legal heir/ representative of the deceased members / shareholder is entitled to
transfer the shares.
2. The transfer shall be made by a prescribed application form supplied by the company,
enclosed with the share certificate.
3. The application must be duly stamped containing the signature of the transferor and the
signature and the address of the transferee.
4. An application for the registration can be made by the transferor or transferee (section
110). In case the application made by the transferor relates to party paid shares, the
company gives notice to that effect to the transferee. If the transferor makes no objection
within 2 weeks from the date of such notice, the transfer shall be registered. The notice is
deemed to be complete, when it is dispatched by prepaid registered post to the transferee.
5. In case the company, as per the provisions of its articles, the same shall be
intimated/informed to the transferor and the transferee.
6. If the BoD’s approves the registration by passing a resolution (to that effect) refers the
matter to the Secretary for preparation and issue of new share certificate. Accordingly,
the names of the old shareholders are replaced by / with the names of the new
shareholders from the register of members (sec 113)

Transmission of Shares (Section 109B)

85
Transmission of shares takes place,
- when the registered shareholder dies; or
- when he is adjudicated an insolvent; or
- where the shareholder is a company it goes into liquidation.

On the death of a shareholder, his shares vest in his legal representative. The legal representative
may transfer the shares devolved upon him by transmission. According to s.109, a transfer share
or other interest in a company of a deceased member made by his legal representative is not a
member, is valid as if he had been a member at the time of the execution of the instrument of
transfer.

Any person entitled to a share due to the death or insolvency of a member, may either reelect to
be registered himself as a member; or alternatively, transfer the shares to someone else.

The legal representative can sell the shares without being registered subject to the provisions of
the Articles. A company has no powers to refuse registration of transmission of shares once the
legal heir produces a proper legal representation to the estate by way of will/probate/succession
certificate, etc., if the same is required in terms of the Articles, unless there is an injunction
against acting in terms of the legal representation.

Transmission of shares in favour of a member of a private company who is engaged in a

competing business cannot be refused. In S.M. Hagee Abdul Hye Sahib v. KNS Hajee Shaik
Abdul Kadar Labbai Sahib Co. (P.) Ltd., the CLB held that a transfer of shares in a private
company may be refused in case the transferee is engaged in a competing business but
transmission cannot be refused on that ground. Succession certificate covering shares held by a
deceased member on the date of his death would cover subsequent issue of bonus shares and no
fresh succession certificate would be required.

It is for the court to be satisfied about the payment of proper court fees and if coin fees paid is
insufficient, the recovery of deficit court fees along with penalty is to be decided by the authority
of the court or revenue authority. Once the succession certificate has been produced from the
competent court which has declared the appellant as legal heir for the shares in question and
there is no other claimant for the said shares, the company ought to effect the transmission of
shares on the basis of succession certificate produced where shares are held in joint names.
Details Transfer of Shares Transmission of shares

What is it? Voluntary Act Operational by law

Who can initiate? Transferor or Transferee Legal heir or receiver

How is it affected? A deliberate act of parties Insolency, lunacy, death, or

inheritance

86
 Is there a Yes No
consideration?

Is a transfer deed Yes No

compulsory?

Is stamp duty Yes. Payable on the market No

compulsory? value of shares 

Who is liable? Liability of transferor ceases to Original liability of shares

exist post the transfer continues to exist

Call on Shares
Definition: A call may be defined as "A demand made by the company on its share holders to
pay whole or part of the balance remaining unpaid on each share at any time during the life time
of a company".
For example: The price of a share is Rs.100/-. At the time of applying for shares, the investor
has to pay Rs.5/- of the nominal value of share i.e., Rs.5, so Rs.95/- is balance on each share. As
and when the company needs money it asks its shareholders to pay, suppose the company asks
its shareholders to pay per share, that is known as calls on shares.

Procedure regarding calls on shares:

(1) Board Meeting for passing a call resolution: A meeting of the Board of Directors will be
called. In this meeting a resolution will be passed regarding making a call. The resolution must
specify the amount of call money, the date and place of its payment.

(2) Closing of the Register of member and the Share Transfer Book: In the same Board
meeting a resolution is passed, whereby the secretary is given permission to close the transfer
book and the register of members for a period of about 15 days.

(3) Preparing the call lists: After closing the transfer book, the work of preparing the call lists
from the register of member, is under taken by the secretary. A call lists shows details like name
and address of the shareholders, numbers of shares held by them, the amount due on the call etc.
This helps the secretary in sending call letters to the members.
(4) Drafting call letters: The secretary prepares a draft of the all letter in consultation with the
chairman of the company. He gets the call letters printed in the required quantity. A call letter is
divided into three parts. They are: (i) A call letter proper, (ii) A call receipt, (iii) A call slip.

(5) Issuing call letters / Dispatch of call notice: After the preparation of call lists, the secretary
issues a call letter to the share holders on their registered address. He also publishes a call notice
in a leading newspaper for the information of shareholders.

87
(6) Arrangement with bankers for call money: The has to make necessary arrangement with
the bankers of the company to receive call money from the members. Accordingly, instructions
are given to the bankers. The amount receive on calls is credited to a separate account called a
"Call Account". After receiving the call money, bankers arrange to send the amount to the
company. The call letter and call receipt are returned to the shareholder with necessary entries,
signature and stamp.

(7) Entries in the call list and the register of members: After receiving the call money,
bankers return call letter and call receipt to the members and send all call slips to the company's
office. The secretary then makes entries against the respective names in the call lists and the
register of members.

(8) Preparing list of Defaulters: The secretary prepares a list of those members who have not
paid the call money on the stipulated date. Such a list is called a list of defaulters. It is placed
before the Board for necessary action. Unpaid call money by members is called as "Calls in
Arrears".

Calls in Arrears - The amount of allotment and calls must be paid by the shareholders on the
due date. However, if the shareholder fails in the payment of the amount due within the
prescribed time, then that amount is called Calls in Arrears or Unpaid Calls.
Calls in Advance - There are instances when the shareholders pay in the advance partial or full
amounts of the calls, which is not yet made by the company. Then the amount received
beforehand is termed as Calls in Advance.
It is quite obvious that the amount received in advance indicates the liability of the company and
needs to be credited to Calls in advance A/c. And in the future, when the call is actually made by
the company, the amount received from the shareholders in advance is adjusted towards the
payment of calls. As per the Companies Act, 2013, a company can only accept calls in advance
from a shareholder only if the company’s articles of association authorize to do so. Also, no
dividend is allowed to the shareholder on the amount paid as calls in advance.

88
Surrender of Shares
Surrender is a short cut to forfeiture. Surrender of shares means voluntary return of shares by
a member to the company. It is a short cut to the long procedure of forfeiture of shares. Shares,
which are liable to be forfeited on account of default in the payment of calls, may be surrendered
by the holder if he so desires. Such voluntary surrender of shares can be accepted by the
company provided it is authorized by the Articles of the company.

But no shares can, in any case, be surrendered to the company in consideration of the payment of
money or money’s worth by the company. Such a surrender shall be ultra-vires the company
since it would amount to purchase by the company of its own shares. There are only two cases
where surrender of shares will be valid provided its acceptance by the company is authorised by
the Articles of Association—
1. When shares are surrendered in exchange of the new shares of the same nominal value. There
would be no reduction of share capital in such a case; and
2. When shares are surrendered as a short cut to forfeiture of shares when all the circumstances
for forfeiture have arisen. Reduction of capital in such a case shall be valid.
Provisions in the articles, for the acceptance of surrender of shares in all other cases except the
above two, will be void.

A member validly surrendering his shares to the company can nevertheless be held liable as a list
B contributory in the event of winding up of the company within twelve months of his surrender
of shares. Court may order for the restoration of the plaintiff’s name in the Register of Members
after lapse of any number of years if the surrender of shares is proved to be illegal and provided
that the shares have not been reissued in the meantime or otherwise dealt with by the company.

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Forfeiture of Shares
If a shareholder fails to pay the allotment money or call money or any part thereof due on the
shares held by him, his shares may be forfeited by a resolution of the Board of Directors, if he
articles empowers it to do so. Thus, forfeiture of shares means confiscation of shares of a
defaulting shareholder for non-payment of allotment money or call money. When shares are
forfeited, the amount already paid is not refunded to him. His name is removed from the register
of members. He is also liable as a list B contributory of the company is wound up within a year
of forfeiture. Before shares can be forfeited, every technicality must be strictly observed.
Forfeiture is valid if the following conditions are satisfied:
1. Provision in the Articles – The Board of Director can forfeit the shares if the articles
empower them to do so. In Naresh Chandra Sanyal vs. The Calcutta Stock Exchange
Limited (1971) it has been held that a company may by its articles lawfully provide for
grounds of forfeiture other than non-payment of call also. The company must strictly
follow the procedure laid down in the articles of the company for forfeiture of the shares.
2. Notice of Forfeiture – A notice must be served on the defaulting shareholder requiring
payment of call or instalment as is unpaid, together with interest accrued by a certain
date. Table F provides that a period of at least 14 days must be served. The notice must
state that if the payment is not made by the prescribed date, the shares will be forfeited.
3. Resolution of the Board – If in spite of the notice, the shareholder does not pay the
unpaid amount on his shares by the prescribed date, his shares in respect of which notice
has been given may be forfeited by a resolution of the Board of Directors. Resolution for
forfeiture of share has to be passed after failure of shareholder to comply with notice of
forfeiture, and not in anticipation thereof.
4. Bonafide – The power of forfeiture of shares must be exercised bonafide i.e., in good
faith in the interest of the company.

Table A of the Companies Act, 2013 empowers the Board of Directors to sell or otherwise
dispose off the forfeited shares on such terms as it thinks fit. Forfeited shares can be reissued at
par, premium or at discount. But the discount on reissue of a share cannot be more than the
forfeited amount of that forfeited share credited to Forfeited Share Account at the time of
forfeiture. For example, is a share of Rs .10m, on which Rs 4 has already been received, is
forfeited and reissued as fully paid up, a minimum of Rs 6 must be collected at the time of
reissue. It means that maximum Rs. 4 can be allowed as discount on reissue of the share. The
transferee’s title to the shares will not be affected by any irregularity or invalidity on forfeiture,
sale or disposal of share.

Difference between Forfeiture and Surrender of Shares

Forfeiture of Shares Surrender of Shares
Definition Forfeiture of shares refers to the Surrender of shares refers to the
cancellation of allotment of shares voluntary act of surrender of shares
to the shareholders by the by the shareholder for cancelling
company due to non-payment of
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 instalments (application money or the allotment of shares
call money)
Type of Action It is a compulsory action It is a voluntary action
Initiated by Company Shareholder
Reason Forfeiture occurs due to the non- Surrender of shares occurs due to
payment of call money inability of a shareholder to pay the
call money
Time Taken Forfeiture of shares takes a long Surrender of shares is a relatively
time to settle quicker process
Impact on Forfeiture of shares impacts the Surrender of shares does not create
Reputation reputation of the shareholders as it issues with reputation as it is a
is a penalty that is charged on the voluntary act by the shareholder
shareholders due to non-payment
of instalment money

Lien on shares
A lien is the right to retain possession of a thing until a claim is satisfied. In the case of a
company lien on a share means that the member would not be permitted to transfer his shares
unless he pays his debt to the company. The articles generally provide that the company shall
have a first lien on the shares of each member for his debts and liabilities to the company. The
right of lien is not inherent but must be clearly provided for in the articles. The articles may give
the right of lien over share either for unpaid calls or for any other debt due by the member of the
company. The company may have lien on fully paid-up shares. The lien also extends to the
dividends payable on the shares.
The death of a shareholder does not destroy the lien. The right of lien can be exercised even
through the claim has become barred by law of limitation. Where the liability of the shareholder
towards the company is disputed by him, it does not deprive the company of its right of lien on
the shares. But a company will not be able to exercise its right of lien where the shareholder has
mortgaged his shares before he has incurred any liability to the company and the company has
notice of it. Similarly, a company will loose its lien if registers a transfer of shares subject to the
lien.

Case: In Bardford banking company Limited vs Briggs & Co. Ltd.,the articles conferred on a
compnay , a first and paramount lien on shares for all debts due from the holder of the company.
A shareholder delivered his share certificate to a bank security for repayment of all moneys or
balances due or to become due. The bank gave notice of this fact to the company. Later on the
shareholder became indebted to the compnay. It was held hat the band had priority over the
compnay’s lien as the bank had given notice to the compnay of thepledge of the shares.

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The company can seek the shares on which the right of lien is exercised if the articles authorise
the compnay to sell the shares held under lien to recover debt. But the articles cannot empower a
compnay to forfeit the shares to enforce the right of lien.

Difference between Lien of Shares and Forfeiture of shares

Basis Lien on Shares Forfeiture of Shares
Nature A company’s lien on shares is the Forfeiture of shares mean confiscation
right of the company to prevent a of shares of a shareholder by way of
member to transfer his shares unless penalty for his default in payment of
he pays his debt payable to the calls
company.
Exercise of The lien on shares is exercised for Share are forfeited for non-payment of
rights non-payment of the debt or other call by the shareholder
liabilities due from the shareholder
to the company
Enforcement Lien on shares can be enforced by Forfeiture of shares can be enforced by
of right the company by sale of shares held forfeiting shares i.e., by forfeiting the
under lien amount already paid on the shares
Effect on Enforcement of lien does not reduce Forfeiture reduces share capital if the
share capital the share capital as it is done by sale forfeited shares are not reissued.
of those shares
Surplus When lien is enforced by sale of the Gain from the reissue of forfeited
shares the surplus from sale shares is retained by the company and
proceeds after deducting the amount it is reserved.
due to the company belongs to the
former shareholder of those shares.

SHARE CAPITAL
Meaning: The money raised by the corporation by issuing shares to the general public is
referred to as share capital. In simple terms, share capital refers to the money invested in a
firm by its shareholders. It is a long-term source of capital in which stockholders receive a
portion of the company’s ownership. The term capital usually refers to the amount of money
used to launch a firm. It has been used in various contexts in various areas of the Indian
Companies Act, but in general it refers to the money subscribed pursuant to the Company’s
Memorandum of Association. The assets with which the business is carried on are referred to as
capital. There are different types of share capital available in the market. The total nominal value
of a company’s shares is referred to as its share capital. The terms “capital” and “share capital”
have been seen as interchangeable in the context of corporations. The capital of the company
must be indicated in the company’s Memorandum and Articles of Association.

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Forms Capital: The capital of company may be of the following types:
1. Authorized / Nominal Capital - The Memorandum of Association of every company
has to specify the amount of capital with which it wants to be registered. The capital so
stated is called Registered, Authorized or Nominal Capital. The Registered Capital is the
maximum amount of share capital which a company can raise by way of public
subscription. Example – A company is authorized to issue 50000 shares of Rs. 100/-
each. Its authorized capital s Rs. 50,00,000/-. It is the maximum limit, beyond which the
company cannot call for.
2. Issued Capital - The company may not issue the entire authorized capital at once. It goes
on raising the capital as and when the need for additional fund is felt. So, issued capital is
that part of Authorized/Registered or Nominal Capital which is offered to the public for
subscription in the form of shares. Example – Out of the authorized capital of Rs.
50,00,000/- the company may issue 25000 shares of Rs. 100/- i.e. 25,00,000/-.
3. Subscribed Capital - It is the nominal value of the shares which has been subscribed.
Example – Out of the issued capital Rs. 25,00,000/- if the capital worth Rs.20,00,000/- is
subscribed i.e., for 20000 shares, the subscribed capital is Rs. 20,00,000/-.
4. Called-up Capital - It is that part of subscribed capital which has been called up by the
company. A company does not call at once the full amount on each of the shares it has
allotted and therefore, calls up only such amount as it needs. Example – Out of the
subscribed capital of Rs. 20,00,000 if the subscribers are required to pay by 1 st call, 2nd
call etc., it is called called-up capital. It may be Rs. 20,00,000/- or less than Rs. 20,00,000
say Rs. 15,00,000/-.
5. Paid-up Capital – It is that part of called up capital against which payment has been
received from the members on their respective shares in response to the calls made by the
company. Example – The company called for payment of Rs.15,00,000/- and received
payment of Rs.12,00,000/- it is called paid-up capital.
6. Uncalled Capital – This is the remainder of the issued capital, which has not been called.
The company may call this amount any time but this is subject to the terms of issue of
shares and the provisions of the Articles. Example: A company is registered with a
capital of Rs.1,00,000/- divided into 10,000 shares of Rs.10 each. The authorized capital
of the company is such a case is Rs.1,00,000. The company offers 8,000 shares to the
public which takes them up. The issued capital of the company is Rs.80,000/-. The
company calls up only Rs. 6/- per share. In such a case, the called-up capital is Rs.
48,000/- and the uncalled capital is Rs. 32,000/-.
7. Reserve Capital - By Reserve Capital we mean that amount which is not callable by the
company except in the event of the company being wound up. The company cannot
demand the payment of money on the shares to that extent during its life time. Reserve
capital may be created by means of a special resolution passed by the company in its
General Meeting by three-fourths majority of those voting on it.
When once the Reserve Capital has been so created the company cannot alter its Articles
of Association so as to make the reserve liability available at any time. The Reserve
Capital cannot be charged as security for loans by the directors. It cannot be turned into
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 ordinary capital without the order of the court. It cannot be cancelled at the time of
reduction of capital.
8. Fixed Capital - The fixed capital of a company is what the company retains in the shape
of fixed assets such as land and buildings, plant and machinery, furniture, etc.
9. Circulating Capital – This is the property, acquired or produced by the company with
the intention to resell it at a profit. Example goods produced by the company for sale,
ordinary merchandise, etc.

Kinds of Share Capital

The capital of a company is divided into shares of a fixed amount. The shares may be of one
class/kind or different kinds covering different rights and benefits as determined by the
Memorandum or Articles of the Company. According to section 86 share capital of a company
limited by shares shall be of two kinds only, namely –
1. Equity share capital: means all share capital which is not preference share capital.
2. Preference Share Capital: means that part of the capital of the company which:
(a) Carries a preferential right as to payment of dividend at fixed rate during the life time
of the company.
(b) Carries, on the winding up of the company, a preferential right to be repaid the
amount of the capital paid up.

Alteration of Capital (Section 94)

If a company is authorized by its articles, it may alter its share capital in the following ways:
1. Increase its share capital by issuing new shares
2. Consolidate and divide all or any of its share capital of larger amount than its existing
ones.
3. Convert all or any of its fully paid-up shares into stock, and reconvert that stock into fully
paid-up shares of any denomination.
4. Sub-divide all or any of its shares into shares of a smaller amount
5. Cancel such shares, which have not been taken up, and reduce its share capital
accordingly. Such cancellation of the shares shall not be deemed to be reduction of share
capital within the meaning of the Act.
The power of alteration of the capital shall be exercised by the company in general meeting and
shall not require to be confirmed by the Court. Notice of the above should be given to the
Registrar within 30 days.

Reduction of Share Capital (Sec 100-105)

A company may if so, authorized by its articles of association, by special resolution may reduce
its share capital, which needs to be confirmed by an order of (tribunal). The three primary ways
of making such a reduction are: -
(1) The extinction of liability on shares not fully paid up
(2) The cancelation of paid-up share capital which is lost or not represented by assets;
(3) Pay of any paid-up share capital which is in excess of the wants of the company.

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Essential Requirements for Reduction
Taking into consideration section 100 of companies Act, it could be easily said that a
clause in the articles of association with regards to reduction, secondly special resolution to that
effect and lastly confirmation by the (Tribunal), these three form the basic elements of reduction
of share capital.

Manner of Reduction: There is no particular manner which is provided by the act for the
reduction of capital and the manner to eliminate the shareholder from the company. Section 100
does not prescribe the manner in which the reduction of capital is to be effected. Nor is there any
limitation on the power of the (Tribunal), to confirm the reduction of capital, except that it must
be first satisfied that all the creditors entitled to object to the reduction have been consented or
have been paid or secured.

Process of Reduction: Although, there is no particular process of reduction of capital as

contemplated by the Act, Yet the Supreme court in Punjab Distilleries India Ltd., V. CIT, (1965)
35 Comp Cases 541, 544 summed up the process of reduction thus: "First, there will be a
resolution by the general body of a company for reduction of capital by distribution of the
accumulated profits amongst the shareholders. Secondly, the company will file an application in
the court for an order confirming the reduction of capital. Thirdly, after it is confirmed, it will be
registered by the Registrar of Companies. Fourthly, after the registration the company will issue
notices to the shareholders inviting application for refund of the share capital and fifthly on
receiving the applications the company will distribute the said profits.

Issue of Shares at premium (Section 78)

The Public Company invites the public to apply for and subscribe to its share capital. For this
purpose, it also issues a Prospectus. The company generally issues its shares at par i.e., at its face
value. However, a company may choose to bring an Issue of Shares at Premium.

The issue of shares at premium refers to the issue of shares at a price higher than the face value of
the share. In other words, the premium is the amount over and above the face value of a share.

Usually, the companies that are financially strong, will- managed and have a good reputation in
the market issue their shares at a premium. For example, if a company issues a share of nominal or
face value of ₹10 at ₹11, it issues it at 10% premium.
A company may call the amount of premium from the applicants or shareholders at any stage, i.e.,
at the time of application, allotment or calls. However, a company generally calls the amount of
Premium at the time of allotment.

Also, section 52 of the Companies Act, 2013 states how a company can use the Securities Premium.
The following are the provisions regarding this:
1. The company can use the amount towards the issue of un-issued shares to the
shareholders or members of the company as fully paid bonus shares.
2. It can use this amount to write off the preliminary expenses.
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 3. The company may use it to pay the premium on the redemption of debentures or
redeemable preference shares.
4. It can also use this amount to write off the expenses incurred, commission paid or
discount allowed on the issue of any securities or debentures.
5. It can also use it for buy-back of own shares or any other securities.

Issue of Shares at Discount (Section 79)

When Shares are issued at a price lower than their face value, they are said to have been issued at
a discount. For example, if a share of Rs 100 is issued at Rs 95, then Rs 5 (i.e. Rs 100—95) is the
amount of discount. It is a loss to the company. It should be noted that the issue of share below
the market price but above face value is not termed as ‘Issue of Share at Discount’ Issue of Share
at Discount is always below the nominal value of shares. It is debited to separate account called
‘Discount on Issue of Share’ Account.

Conditions for Issue of Shares at Discount

Some of the conditions that are to be followed when a company issues its shares at a discount are
given below:
o A company must get permission from the relevant authority if it wants to issue shares
at a price lower than its face value. To get this permission, the company has to call and
convene a general meeting first so that a proper discussion can be done on this matter.
o The company is bound to issue shares within 60 days of getting permission from the
relevant authority. However, in certain cases, this time frame can be extended by the
company but again permission is required in the general meeting for this also.
o There is a limit on the rate of discount that a company can apply to issue shares. As per
the Companies Act, 2013, a company can't issue any shares at a discount of more
than 10%.
o A company can issue its shares at a discount only if it has completed one year from the
date of commencement of business.
o Other than this, the shares that the company wants to issue should belong to the same
category of shares that are already issued by the company in the market. For example, if
the company issued equity shares last time, then the company can issue only equity
shares this time also (in case of discount).
o After getting the approval in the general meeting, it is required for the company to
acquire the sanction by the Central Government.

When a Company can't Issue Shares at Discount?

A company is prohibited to issue equity and preference shares at a discount as per Clause 2 of
Section 53 (any share issued by a company at a discount shall be void) of the Companies Act
2013. If a company breaks the law, then proper legal actions can be taken against such a
company or officer who is a defaulter in the form of a penalty of the amount equal to the amount
that the company has raised by issuing such shares at a discount or the five lakh rupees,

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whichever is less. Other than this, the company also has to return all the money that is raised
with an interest of 12% p.a. from the date of issue of the shares to the shareholders.
Unlike the Companies Act, 2013, the erstwhile Companies Act of 1956 allowed a company to
issue shares at discount under its Section 79. But this could be done only after getting prior
approval from the Company Law Board.

Issue of Sweat Equity Shares (Section 79A)

Sweat equity shares can only be issued by a company to its Directors or Employees, at a discount
or for a consideration other than cash, for their providing of know-how or creation of intellectual
property rights like trademark, patent, copyright or value additions. Sweat equity shares can
be issued to:
 Permanent employee of the company who has been working in India or outside India, for
at least the last one year;
 Director of the company, whether a whole time Director or not;
 Employee or Director above of a subsidiary of the company, in India or outside India, or
of a holding company of the company.

Sweat equity shares are issued for value additions of the Director or Employee. Value additions
mean actual or anticipated economic benefits derived or to be derived by the Company from an
Expert or Professional from providing know-how or making available rights in the nature of
intellectual property rights. For sweat equity shares to be issued, the employee’s renumeration
for value addition should not have been paid or included in the normal remuneration payable,
under the contract of employment or monetary consideration payable under any other contract.

There are certain conditions that need to be fulfilled by the company before issuing sweat
equity shares.
 A special resolution is passed for authorizing the issue of sweat equity share.
 The Listed companies have to follow the provisions of SEBI for the issue of Sweat equity
shares while the unlisted company can issue as per Section 54 of the Companies Act,
2013.
 These shares can be issued by the company after the expiry of one year from the date of
commencement of business.

The company can issue sweat equity shares up to:

 Fifteen percent of the existing paid-up capital.
 Rs 5 Crore (Subject to 25 percent of the paid-up capital of the company).
 The Sweat Equity shares must be issued with a lock-in period of three years.
 The facts need to be mentioned, such as the shares are locked in along with the expiry of
the lock-in period in the share certificate.
 The shares must be issued at a fair price.
 The amount of sweat equity shares should be treated as managerial remuneration in case
it fulfils the following conditions:
 If it is issued to the Director or manager.
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  If they are issued for non-cash consideration.
 The details regarding the issue and allotment of sweat equity shares must be mentioned in
the Board report with the following details-
 Class of Directors.
 Class of Shares.
 Number id issued shares.
 The formula used for valuation.
 Percentage of Sweat equity shares of the total post-issue paid-up capital.
 Consideration received or benefits to the company.
 If the shares are issued for non-cash consideration, it should be treated in the books of
account of the company:
 When it takes the form of a depreciable asset, it must be noted in the Balance sheet.
 While in other cases, it is treated as expense according to the accounting standard.

Reasons behind issuing sweat equity shares

1. It is an opportunity or a medium for the company to attract and retain its employees
by acknowledging and rewarding their contribution beyond pay package.
2. Sweat equity is direct allotment of shares at a discount, i.e., the shares are
immediately allotted to the employee and this feature holding of shares is often
preferred over ESOPs (Employee Stock Option Plan) which is a right of the employee
and not an obligation to him to buy some shares of the company at a pre-decided price
to be allotted in the future thereby being dependent on price volatility of the shares.  
3. A registered valuer assesses the value at a fair price for the sweat equity shares. He
evaluates and determines the value of know-how, of value additions, of intellectual
property rights or any consideration. As against know-how, the shares may be issued
at a discounted price or even free. In other words, this can be issued even below face
value. Sweat equity only enjoys this exception in the Act and thus meets the dual
objective of employer in rewarding without significant financial outgo. 
4. It is a way to reward beyond sitting fees for some independent directors who bring in
out of box interventions which makes the company jump an orbit and assume a
growth trajectory not achievable by organic growth pathway. Sweat equity can be
issued to an independent director to acknowledge their contribution and keep them
interested and continuing in the engagement for repeat tenures.
5. Company can issue Sweat Equity shares after remaining in business for one year only
and the reward mode can be part cash, part IPRs/value addition and/or entirely non-
cash consideration. So, it is very effective during the initial years of stabilization of
the company floated as it gives flexibility and is less demanding on liquidity
requirements and thus can be undertaken without rocking the boat.
6. No more than 15% of the existing paid-up equity share capital or INR 5 crore worth of
share value, whichever is higher, is the ceiling beyond which sweat equity is not
permitted to be issued. Moreover, 25% of the paid-up equity capital cannot be
exceeded at any time at the time of issue of sweat equity. This ceiling helps to limit

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the risk exposure of the company. Further, pricing guidelines are will defined for
Sweat Equity Shares and thus are again insulated from market driven price vagaries.

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A corporation is an artificial person which is intangible and invisible. For
making any decision and to have knowledge and intention, a living person
has a mind and hands by which he carries out his actions. But a corporate
body being an artificial person has none of these. So, it needs to act through
a living person. The company’s business is entrusted in the hands of
directors.

Section 2(34) of the Companies Act, 2013 defines a director.

Position of Directors
The position held by the directors in any corporate enterprise is a tough
subject to explain as held in the case of Ram Chand & Sons Sugar Mills
Pvt. Ltd. Kanhayalal Bhargava. The position of a director has been cited
by Bowen LJ in the case of Imperial Hydropathic Hotel Co   Blackpool
v. Hampson as a versatile position in a corporate body. Directors are
sometimes described as trustees, sometimes as agents and sometimes as
managing partners. These expressions are from indicating point by which
directors are viewed in particular circumstances.

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Are directors servant of the company?

The directors are the professional men of the company who are hired to
direct the affairs of the company. They are the officers of a company and not
a servant. In the case of Moriarty v. Regent’s Garage Co, it was held
that a director is not a servant of the company, but a controller of the
affairs of a company.

Directors as agents

In the landmark case of Ferguson v. Wilson, it was clearly recognised that

the directors are the agents of a company in the eyes of law. The
company being an artificial person can act only through the directors.
Regarding this, the relation between the directors and the company is
merely like the ordinary relation of principal and agent.

The relation between the directors and the company is similar to

the general principle of agency. When a director signs on behalf of the
company, it is a company that is held liable and not the director. Also, like
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agents, they have to declare any personal interest if they have in a
transaction of the company.

One of the important points to be noted is that they are not agents of its
individual members. They are the agents of the institution.

In the case of Indian Overseas Bank v. RM Marketing, it has been held

that the directors of a company could not be made liable merely because he
is a director if he has not given any personal guarantee for a loan taken by
the company,

Directors as Trustees

In a strict sense, the directors are not the trustees, but they are always
considered and treated as trustees of money and properties which comes to
their hand or which is under their control. As observed by the Madras High
Court in the case of Ramaswamy Iyer v. Brahamayya & Co., regarding
their power of applying funds of the company and for the misuse of power,
the directors are liable as trustees and after their death, the cause of action
survives against their legal representative.

Another reason due to which the directors are described as trustees is

because of their nature of the office. Directors are appointed to manage the
affairs of the company for the benefit of shareholders. But, the director of a
company is not exactly a trustee, as a trustee of will or marriage settlement.
He is a paid officer of a company.

As per the principles laid down in the case of Percival v. Wright, directors
are not the trustees of the shareholders. They are trustees of the company.
The same principle was repeated again in the case of Peskin v.
Anderson that the directors are not trustees for shareholders and hold no
fiduciary duty to them.

Directors as organs of Corporate body.

In the case of Bath v. Standard Land Co. Ltd.,  Neville J. stated that the
board of directors are the brain of the company and a company does act
only through them.

A corporation has no mind or body and its action needs to be done by a

person and not merely as an agent or trustee but by someone for whom the

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company is liable as his action is the action of the company itself. If we
consider a company as a human body, the directors are the mind and the
will of the company and they control the actions of the company

Appointment of Directors
The appointment of Directors of a company is strictly regulated by the
Company’s Act, 2013.

Company to have Board of Directors

Every company is required to have a Board of directors and it should be

consisting of individuals as directors and not an artificial person. Section
149 lays down the minimum number of directors required in a company as
follows:

1. Public Company– At least 3 directors

2. Private company- At least 2 directors
3. One person company– Minimum 1 director
There can be a maximum of 15 directors. A company may appoint more
than 15 directors after passing a special resolution.

The Central Government may prescribe a class or classes of a company have

a minimum one women director. Every company is also required to have a
minimum of one director who has stayed in India in the previous year for a
period of 182 days or more.

Independent Directors

The provisions of Independent Directors has been laid down under section

149(4)  of the Companies Act, 2013.  This section lays down that at least
one-third of the total number of directors should be independent directors in
every listed company The Central Government may prescribe the minimum
number of independent directors in public companies.

Who is an independent director?

Sub-section (6) of section 149, defines that an independent director stands

for a director other than a managing director, whole-time director or
a nominee director:
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 1. Who is a person with integrity and has relevant expertise and
experience.
2. Who has not been a promoter of the company, its subsidiary or
holding company either in past or present.
3. Who himself or his relative has no pecuniary relationship with the
company, its holding or subsidiary company, directors or promoters.
4. Who himself or his relative, do not hold the position in key
managerial personnel, or not an employee of the company.
The independent director has to declare his independence at the first
meeting of the Board and subsequently every year at the first meeting of the
Board in the financial year.

An independent director holds office for a term of five years on the Board.
He is also eligible for being reappointed after passing a special resolution,
but no independent director is to hold the office for more than two
consecutive terms.

Election of Independent Directors

The independent directors are to be selected from a data bank which

contains certain information such as name, address and qualifications of
persons who are eligible and willing to act as an independent director. The
data bank is maintained by anybody, institute or association with expertise
in the creation and maintenance of data bank and notified by the Central
Government. A company has to pick up a person with due diligence, as
stated in section 150.

The appointment has to be approved by the company in general meeting,

and the manner and procedure for selection of independent directors who
fulfil the qualification stated under section 149 may be prescribed by the
Central Government.

Appointment of directors through election by small shareholders

A listed company is required to have one director who should be elected by

small shareholders as per section 151  of the Companies Act, 2013.
Small shareholders in this context are referred to shareholders holding
shares of the value of maximum Rs. 20,000.

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First Directors

The subscribers of the memorandum appoint the first directors of a

company. They are generally listed in the articles of the company. If the first
director is not appointed, then all the individuals, who are subscribers
become directors. The first director holds the office only up to the date of
the first annual general meeting, and the subsequent director is appointed
as per the provisions laid down under section 152.

Appointment at the general meeting

Section 152 lays down the provision that directors should be appointed by

the company in the General Meetings. The person so appointed is assigned
with a director identification number. He also has to make sure in the
meeting that he is not disqualified from becoming a director.

The individual appointed has also to file his consent to act as a director
within 30 days with the registrar.

Annual rotation

The retirement of the directors by annual rotation can be prescribed by the

company in the Articles. If not so, only one-third of the directors can be
given a permanent appointment. The tenure of the rest of them must be
determined by rotation.

At an annual general meeting, one-third of such directors will go out, and

the directors who were appointed first and has been in the office for the
longest period will retire in the first place. When two or more directors have
been in the office for an equal period of time, their retirement will be
determined by mutual agreement, or by a lot.

Reappointment [section 152]

The vacancies created should be filled up at the same general meeting. The
general meeting may also adjourn the reappointment for a week. When the
meeting resembles and no fresh appointment is made neither there is any
resolution for the appointment, then the retiring directors are considered to
be reappointed.

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The exception to this practice is that the retired directors will not be
considered to be reappointed when:

1. The appointment of that director was put to the vote but lost.
2. If the director who is retiring has addressed to the company and its
board in writing that he is unwilling to continue.
3. If he is disqualified.
4. When an ordinary or special resolution is required for his
appointment.
5. When a motion for appointment of two or more directors by a single
resolution is void due to being passed without unanimous consent
under section 162.

Fresh Appointment

When it is proposed that a new director should be appointed in the place of

retiring director, then the procedure laid down under section 160 of the
Companies Act, 2013  is followed:

1. A written notice for his appointment as a director should be left at

the office of the company at least 14 days prior to the date of the
meeting along with a deposit of Rs.1,00,000.
2. That amount should be refunded to the person if he is elected as a
director, or
3. He gets more than 25% of the total valid votes cast.

Appointment by nomination

The appointment of Directors can also be made with respect to the

Company’s articles and not only through the general meetings. When an
agreement between the shareholders has been included in the articles that
entitles every shareholder with more than 10% share to be appointed as a
director, then they can be nominated as director.

Also, subject to the articles of the company, the Board can appoint any
nominated person by an institution in pursuance of law, as a director.

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Appointment by voting on an individual basis

The appointment of a director is made by voting at the general meeting as

laid down under section 162 of the Companies Act, 2013. The
candidates have to vote individually and the wishes of the shareholders
regarding each proposed director are required.

As held in the case of Raghunath Swarup Mathur v. Raghuraj Bahadur

Mathur, when two or more directors are appointed on the basis of single
resolution and voting then it is considered to be void in the eyes of law.

Appointment by proportional representation

As per section 163 of the Companies Act, 2013, the article of a company

can enable the appointment of directors through the system of voting by
proportional representation. This system of voting is used to make effective
minority votes. This system of proportional representation can be followed
by a single transferable vote or by the system of cumulative voting or other
means.

Appointment of Directors by Board

Generally, the appointment of the directors is done in the annual general

meeting of the shareholders but there are two instances when the Board
can also appoint a new director:

1. If the article empowers the Board to appoint additional directors

along with prescribing the maximum number.
2. Section 161 of the Act also authorises the directors to fill casual
vacancies.

Appointment by Tribunal

Under section 242(j) of the Companies act 2013, the Company Law

Tribunal has the power to appoint directors.

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Disqualifications
The minimum eligibility requirement for the appointment of directors has
been laid down under section 164  of the Companies Act, 2013. The
disqualification for a person to be appointed as a director are:

1. Unsoundness of mind.
2. If he is an undischarged insolvent.
3. When is applied to be declared as insolvent and such application is
pending.
4. When he is sentenced for imprisonment for an offence involving
moral turpitude for a period of a minimum of 6 months.
5. If the Tribunal or court has passed an order disqualifying him for
being appointed as a director.
6. If he has not paid his calls in respect to any shares of the company.
7. When he is convicted of an offence which deals with related party
transaction.
8. When he has not complied with the requirements of Director
Identification Number.

Removal of directors
The removal of directors takes place by:

1. Shareholders
2. Company Law Tribunal
3. Resignation

Removal by Shareholders

Section 169  of the Companies Act 2013  provides that a director can be
removed from his office before the expiration of his term of office by an
ordinary resolution. This section does not apply when:

1. The director is appointed by the tribunal in pursuance of section

242.
2. The company has adopted the system of electing two-thirds of his
directors by the method of proportional representation.
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To remove a director, special notice is required, and such notice should
contain the intention to remove the director and the notice should be served
at least 14 days prior to such meeting.

As soon as the company receives such notice, the copy of such notice is
furnished to the director concerned. Then the concerned director has the
right to make a presentation against the resolution in the general meeting. If
a director makes a representation, then its copy needs to be circulated
among the members.

Removal of Directors by Company Law Tribunal

The removal of directors by the Company Law Tribunal can be done

under section 242(2)(h).  When an application is made to the tribunal for
relief from oppression or mismanagement, then it may terminate any
agreement of the company which has been made with a director.  When the
appointment of a director is terminated then he cannot serve the managerial
position of any company for five years without leave of the Tribunal.

Resignation

Earlier, there was no provision for the resignation that by what procedure a
director can resign. The resignation was recognised under the provisions laid
down under section 318 of the Companies Act, 1956. Under this section,
it was held that when a director resigns his office, he is not entitled to
compensation.

If the articles mention the provisions for resignation then it will be followed.
In the case of Mother Care (India) Pvt. Ltd. v. Ramaswamy P
Aiyar, the court held that the resignation of a director is effective even if he
is the only director in the office.

Now, after the Act of 2013, section 168 lays down the provisions that:

1. The director can resign from his office by giving written notice to the
company.
2. On receiving the notice, the board has to take notice of it.
3. The registrar needs to be informed by the company within the
prescribed time period.

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 4. The fact of resignation needs to be placed by the company in the
director’s report in the immediately following general meeting.
5. The director has to send his copy of the resignation to the registrar
along with the detailed reasons within 30 days of the resignation.
Even after resignation, the director is held responsible for any wrong
associated with him and which happened during his tenure.

Powers of Directors

General powers vested under section 179

Section 149 of the Companies Act, 2013 empowers the directors with

the general power vested in the Board. The Board of directors is entitled to
exercise all the powers and do all required actions which a company is
authorised to exercise. But, such action is subject to certain restrictions.

The powers of directors are co-extensive with the powers of the company
itself. The director once appointed, they have almost total power over the
operations of the company.

There are two limitations on the exercise of the power of directors which are
as follows.

1. The board of directors are not competent to do the acts which the
shareholders are required to do in general meetings.
2. The powers of directors are to be exercised in accordance with the
memorandum and articles.
The individual directors have powers only as prescribed by memorandum
and articles.

The intervention of shareholders in exceptional cases

In following exceptional situations the general meeting is competent to act in

matters delegated to the Board:

1. When directors have acted mala fide.

2. When directors have due to some valid reason become incompetent
to act.

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 3. The shareholders can intervene when directors are unwilling to act
or there is a situation of deadlock.
4. The general meetings of shareholders have residuary powers of a
company.

Restrictions on powers under the statutory provision

The Companies Act 2013 also lays the manner in which the powers of the
company is to be exercised. There certain powers which can be exercised
only when its resolution has been passed at the Board’s meetings. Those
powers such as the power:

1. To make calls.
2. To borrow money.
3. To issue funds of the company.
4. To grant loans or give guarantees.
5. To approve financial statements.
6. To diversify the business of the company.
7. To apply for amalgamation, merger or reconstruction.
8. To take over a company or to acquire a controlling interest in
another company.
The shareholders in a general meeting may impose restrictions on the
exercise of these powers.

Powers to be exercised with general meeting approval

Section 180 of the Companies Act 2013 states certain powers which can
be exercised by the Board only when it is approved in the general meeting:

1. To sale, lease or otherwise dispose of the whole or any part of the

company’s undertakings.
2. To invest otherwise in trust securities.
3. To borrow money for the purpose of the company
4. To give time or refrain the director from repayment of any debt.
When the director has breached the restrictions imposed under the sections,
the title of lessee or purchaser is affected unless he has acted in good faith
along with due care and diligence. This section does not apply to the
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companies whose ordinary business involves the selling of property or to put
a property on lease.

Power to constitute an Audit committee

The board of directors are empowered under section 177 to constitute an

audit committee. It needs to be constituted of at least three directors,
including independent directors. In the committee, the independent directors
need to be in the majority. The chairperson and members of the audit
committee should be persons with the ability to read and understand the
financial statements.

The audit committee is required to act in accordance with the terms of

reference specified by the Board in writing.

Power to constitute Nomination and Remuneration Committees and Stakeholders

Relationship Committee

The Board of directors can constitute the Nomination and Remuneration

Committee and Stakeholders Relationship Committee under section 178.
The Nomination and Remuneration Committee should be consisting of three
or more non-executive directors out of which one half are required to be
independent directors.

The Board can also constitute the Stakeholders Relationship Committee,

where the board of directors consist of more than one thousand
shareholders, debenture holders or any other security holders. The
grievances of the shareholders are required to be considered and resolved
by this committee.

Power to make a contribution to charitable or other funds

The Board of directors of the company is empowered under section 181 to

contribute to the bona fide charitable and other funds. When the aggregate
amount of contribution, in any case, exceeds the 5% of the average net
profit of the company for the immediately preceding financial years, then the
prior permission of the company in a general meeting is required.

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Power to make a political contribution

Under section 182 of the Companies Act 2013,  the companies can make
a political contribution. The company making a political contribution should
be other than a government company or a company which has been in
existence for less than three years.

Also, the amount of contribution should not exceed 7.5% of the company’s
net profit in the three immediately preceding financial years. The
contribution needs to be sanctioned by a resolution passed by the Board of
Directors.

Power to contribute to National Defence Fund

The Board of Directors is empowered to make contributions to the National

Defence Fund or any other fund approved by the Central Government for the
purpose of National defence under section 183 of the Companies Act
2013. The amount of contribution can be the amount as may be thought fit.
This total amount of contribution made should be disclosed in the profit and
loss account during the financial year which it relates to.

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MERGER AND AMALGAMATION
Amalgamation is defined as the combination of one or more companies into a new entity. It
includes:
i. Two or more companies join to form a new company
ii. Absorption or blending of one by the other
iii. Thereby, amalgamation includes absorption.
iv. However, one should remember that Amalgamation as its name suggests, is nothing but
two companies becoming one. On the other hand, Absorption is the process in which the
one powerful company takes control over the weaker company.
v. Generally, Amalgamation is done between two or more companies engaged in the same
line of activity or has some synergy in their operations. Again the companies may also
combine for diversification of activities or for expansion of services
vi. Transfer or Company means the company which is amalgamated into another company;
while Transfer Company means the company into which the transfer or company is
amalgamated.
Existing companies A and B are wound up and a new company C is formed to take Amalgamation
over the businesses of A and B

Existing company A takes over the business of another existing company B which is Absorption
wound up

A New Company X is formed to take over the business of an existing company Y External
which is wound up. reconstruction
How is Amalgamation different from a Merger?
Amalgamation is different from Merger because neither of the two companies under reference
exists as a legal entity. Through the process of amalgamation a completely new entity is formed
to have combined assets and liabilities of both the companies.
Types of Amalgamation
i. Amalgamation in the nature of merger:
In this type of amalgamation, not only is the pooling of assets and liabilities is done but
also of the shareholders’ interests and the businesses of these companies. In other words,
all assets and liabilities of the transferor company become that of the transfer company.
In this case, the business of the transfer or company is intended to be carried on after the
amalgamation. There are no adjustments intended to be made to the book values. The
other conditions that need to be fulfilled include that the shareholders of the vendor
company holding atleast 90% face value of equity shares become the shareholders’ of the
vendee company.
ii. Amalgamation in the nature of purchase:
This method is considered when the conditions for the amalgamation in the nature of
merger are not satisfied. Through this method, one company is acquired by another, and
thereby the shareholders’ of the company which is acquired normally do not continue to
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 have proportionate share in the equity of the combined company or the business of the
company which is acquired is generally not intended to be continued.
If the purchase consideration exceeds the net assets value then the excess amount is recorded as
the goodwill, while if it is less than the net assets value it is recorded as the capital reserves.
Why Amalgamate?
a. To acquire cash resources
b. Eliminate competition
c. Tax savings
d. Economies of large scale operations
e. Increase shareholders value
f. To reduce the degree of risk by diversification
g. Managerial effectiveness
h. To achieve growth and gain financially
Procedure for Amalgamation
1. The terms of amalgamation are finalized by the board of directors of the amalgamating
companies.
2. A scheme of amalgamation is prepared and submitted for approval to the respective High
Court.
3. Approval of the shareholders’ of the constituent companies is obtained followed by
approval of SEBI.
4. A new company is formed and shares are issued to the shareholders’ of the transferor
company.
5. The transferor company is then liquidated and all the assets and liabilities are taken over
by the transferee company.
Accounting of Amalgamation
A. Pooling of Interests Method:
Through this accounting method, the assets, liabilities and reserves of the transfer or
company are recorded by the transferee company at their existing carrying amounts.
B. Purchase Method:
In this method, the transfer company accounts for the amalgamation either by
incorporating the assets and liabilities at their existing carrying amounts or by allocating
the consideration to individual assets and liabilities of the transfer or company on the
basis of their fair values at the date of amalgamation.
Computation of purchase consideration: For computing purchase consideration, generally two
methods are used:
1. Purchase Consideration using net asset method: Total of assets taken over and this should
be at fair values minus liabilities that are taken over at the agreed amounts.
Particulars Rs.

Agreed value of assets taken over XXX

Less: Agreed value of liabilities taken over XXX

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 Purchase Consideration XXX
2. Agreed value means the amount at which the transfer or company has agreed to sell and
the transferee company has agreed to take over a particular asset or liability.
3. Purchase consideration using payments method: Total of consideration paid to both
equity and preference shareholders in various forms.
Example: A. Ltd takes over B. Ltd and for that it agreed to pay Rs 5,00,000 in cash.
4,00,000 equity shares of Rs 10 each fully paid up at an agreed value of Rs 15 per share.
The Purchase consideration will be calculated as follows:
Particulars Rs.

Cash 5,00,000

4,00,000 equity shares of Rs10 fully paid up at Rs15 per share 60,00,000

Purchase Consideration 65,00,000

Advantages of Amalgamation
 Competition between the companies gets eliminated
 R&D facilities are increased
 Operating cost can be reduced
 Stability in the prices of the goods is maintained
Disadvantages of Amalgamation
 Amalgamation may lead to elimination of healthy competition
 Reduction of employees may take place
 There could be additional debt to pay
 Business combination could lead to monopoly in the market, which is not always positive
 The goodwill and identity of the old company is lost
Recently announced Amalgamation
One of the recent amalgamations announced on the corporate front is of PVR Ltd. Multiplex
operator PVR Ltd has approved an amalgamation scheme between Bijli Holdings Pvt Ltd and
itself to simplify PVR’s shareholding structure. As per the management, the purpose of the
amalgamation is to simplify the shareholding structure of PVR and reduction of shareholding
tiers. It also envisages demonstrating Bijli Holdings’ direct engagement with PVR. After the
amalgamation, individual promoters will directly hold shares in PVR and there will be no change
in the total promoters’ shareholding of PVR.
Other examples of Amalgamations
1. Maruti Motors operating in India and Suzuki based in Japan amalgamated to form a new
company called Maruti Suzuki (India) Limited.
2. Gujarat Gas Ltd (GGL) is an amalgamation of Gujarat Gas Company Ltd (GGCL) and
GSPC Gas.
3. Satyam Computers and Tech Mahindra Ltd

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4. Tata Sons and the AIA group of Hongkong amalgamated to form Tata AIG Life
Insurance.

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