Author Name:   Mohit.Daulatani

When an individual has an idea for a new business venture, he or she may set about interesting others in the venture and persuade them to contribute capital to a company to be incorporate for the purpose of carrying on the venture.

Position of a promoter in establishing a Company

When an individual has an idea for a new business venture, he or she may set about interesting others in the venture and persuade them to contribute capital to a company to be incorporate for the purpose of carrying on the venture. The individual will then be described as ‘promoter’ of the company. A person who acts in a professional capacity is not a promoter. A company is born only when it is duly incorporated. For incorporating a company various documents are to be prepared and other formalities are to be complied with. All this work is done by promoters.

Then the question arises that who really are promoters of a company, the most important work of a promoter is in the formation of a company. The whole process of the formation of a company may be divided into four stages (i) Promotion, (ii) Registration, (iii) Floatation and (iv) Commencement of business. Promotion is a term of wide import denoting the preliminary steps taken for the purpose of registration and floatation of the company. A promoter may be an individual, syndicate, association, partner or company.

The expression ‘promoter’ has been defined under Section 2(69) in the Companies Act, 2013 as:

“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 nothing in sub-clause (c) shall apply to a person who is acting merely in a professional capacity;

The term is used expressly in sections 35, 39, 300 and 317.

In the case of Bosher v. Richmond Land Co., the term Promoter has been defined as:

“A Promoter is a person who brings about the incorporation and organization of a corporation. He brings together the persons who become interested in the enterprise, aids in procuring subscription, and sets in motion the machinery which leads to the formation itself.”

“A promoter is one who undertakes to form a company with reference to a given project and to set it going, and who takes the necessary steps to accomplish that purpose.”

L.J. Brown in the case of Whaley Bridge printing Co. observed that the term promoter is “a term not of law but of business”.

To be a promoter one need not necessarily be associated with the initial formation of the company; one who subsequently helps to arrange floating of its capital will equally be regarded as a promoter. However, a person assisting the promoters by acting in a professional capacity do not thereby became promoters themselves. The relationship between a promoter and the company that he has floated must be deemed to be fiduciary relationship from the day the work of floating the company starts and continues up to the time that the directors take into their hands what remains to be done in the way of forming the company.

The status of the promoter is generally terminated when the Board of Directors has been formed and they start governing the company. Chronologically, the first persons who control or influence the company’s affairs are its promoters. It is they who conceive the idea of forming the company, and it is they who take the necessary steps to incorporate it, to provide it with share and loan capital etc. when these things have been done, they handover the control of the company to its directors, who are often themselves under a different name. on handling over the control of the company the promoter’s fiduciary and common law duties cease, and he is thereafter subject to no more extensive duties in dealing with the company than a third person who is unconnected with it.

Promoter

Meaning of Promoter

A promoter is a generic term associated with the person who starts a business. In common parlance, this person is also referred to as the founder of the business. A promoter typically is responsible for raising capital, targetting initial leads and chasing initial business opportunities, entering into the initial contracts for the business formation and incorporating the company.

The Substantial Acquisition of Shares Takeovers (SEBI) Regulation states that the promoter is:

(a) any person who is in control of the target company

(b) any person named as promoter in any offer document of the target company or any shareholding pattern filed by the target company with the stock exchanges pursuant to the listing agreement, whichever is later;

In the old Companies Act, 1956 there was no static definition of promoter although it was mentioned in various section, but in the new Companies Act, 2013 Section 2(69) defines promoter.

Position of promoter in Companies Act, 1956 and in different Statues

The expression ‘promoter’ has not been defined under the Companies Act, 1956, although the term is used expressly in sections 62, 69, 76, 478 and 519. Section 62 of Companies Act, 1956 defines ‘promoter’ for the limited purpose of that section only. Section 62(6)(a) defines the expression ‘promoter’ to mean a promoter who was a party to the preparation of the prospectus or of a portion thereof containing the untrue statement, but does not include any person by reason of his acting in a professional capacity in procuring the formation of the company.

In Twycross v. Grant promoter was described as “one who undertakes to form a company with reference to a given project, and to set it going, and who takes the necessary steps to accomplish that purpose.”

In USA, the Securities Exchange Commission Rule 405(a) defines promoter as a person who, acting alone or in conjunction with other persons directly or indirectly takes the initiative in founding or organizing the business enterprise.

In Lagunas Nitrate Co. v. Lagunas Syndicate [1889] 2 Ch. 392 (p. 428, C.A.), it was stated that “to be a promoter one need not necessarily be associated with the initial formation of the company; one who subsequently helps to arrange floating of its capital will equally be regarded as a promoter.

The difficulties in defining the term led the judges to state that the term promoter is not a term of art, nor a term of law, but of business.

Position of promoters in Companies Act, 2013

The new Companies Act, 2013 has defined promoter in Section 2(69) as;

“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 nothing in sub-clause (c) shall apply to a person who is acting merely in a professional capacity;

A person who acts in a professional capacity is not a promoter. Thus a solicitor, who prepares on behalf of the promoters the primary documents of the proposed company, is not a promoter. Similarly an accountant or a valuer who helps the promotion in his professional capacity is not a promoter. But any such person may become a promoter if he helps the formation of the company by doing an act outside the scope of his professional capacity.

A person cannot; however become a promoter merely because he signs the memorandum as a subscriber for one or more shares.

In conclusion, it may be said that word “promoter” is used in common parlance to denote any individual, syndicate, association, partnership or a company which takes all the necessary steps to create and mould a company and set it going.

3. Duties of Promoter

The promoters occupy an important position and have wide powers relating to the formation of a company. It is, however, interesting to note that so far as the legal position is concerned, he is neither an agent nor a trustee of the proposed company. But it does not mean that the promoter does not have any legal relationship with the proposed company. The promoters stand in a fiduciary relation to the company they promote and to those persons, whom they induce to become shareholders in it.

Following are the major Duties of the promoter:

3.1.Duty to disclose secret profits
A promoter is not forbidden to make profit but to make secret profits. 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 principle’s consent.

A promoter is allowed to make a profit out of a promotion but with the consent of the company.

3.2.Duty of disclosure of interest
In addition to his duty for declaration of secret profits, a promoter must disclose to the company any interest he has in a transaction entered into by it. This is so even where a promoter sells property of his own to the company, but does not have to account for the profit he makes from the sale because he bought the property before the promotion began. Disclosure must be made in the same way as though the promoter was seeking the company’s consent to his retaining a profit for which he is accountable.

3.3.Promoter’s duties under the Indian Contract Act
Promoter’s duties to the company under the Indian Contract Act have not been dealt with by the courts in any detail. They cannot depend on contract, because at the time the promotion begins, the company is not incorporated, and so cannot contract with its promoters. It seems, therefore, that the promoter’s duties must be the same as those or a person, who acts on behalf of another without a contract of employment, namely, to shun from deception and to exercise reasonable skill and care. Thus, where a promoter negligently allows the company to purchase property, including his own, for more than its worth, he is liable to the company for the loss it suffers. Similarly, a promoter who is responsible for making misrepresentations in a prospectus may be held guilty of fraud under section 17, of the Indian Contract Act and consequently liable for damages under section 19 of the Act.

3.4.Termination of Promoter’s Duties
A promoter’s duties do not come to an end on the incorporation of the company, or even when a Board of directors in appointed. They continue until the company has acquired the property or business which it was formed to manage and has raised its initial share capital and the Board of directors has taken over the management of the company’s affairs from the promoters. When these things have been done, the promoter’s fiduciary and contractual duties cease.

3.5.Remedies available to the company against the promoter for breach of his duties
Since a promoter owes a duty of disclosure to the company, the primary remedy in the event of breach is for the company to bring proceedings for rescission of any contract with him or for the recovery of any secret profits which he has made.

3.5.1. Rescission of contract
So far as the right to rescind is concerned, this must be exercised on normal contractual principles, that is to say, the company must have done nothing to show an intention to ratify the agreement after finding breach involving non-disclosure or misrepresentation.

3.5.2. To recover secret profit
If a promoter makes a secret profit or does not disclose any profit made, the company has a remedy against him.

4. Liabilities on Promoter

A promoter is subjected to liabilities under the various provisions of the Companies Act.

· Section 26 of the Companies Act, 2013 lay down matters to be stated in a prospectus. A promoter may be held liable for non-compliance of the provisions of the section.

· Under section 34 and 35, a promoter may be held liable for any untrue statement in the prospectus to a person who subscribes for shares or debentures in the faith of such prospectus. However, the liability of the promoter in such a case shall be limited to the original allottee of shares and would not extend to the subsequent allotters.

· According to section 300, a promoter may be liable to examination like any other director or officer of the company if the court so directs on a liquidator’s report alleging fraud in the promotion or formation of the company.

· 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 property of the company or is guilty of misfeasance or breach of trust in relation to the company.

The Madras High Court in Prabir Kumar Misra v. Ramani Ramaswamy [2010] 104 SCL 174, has held that to fix liability on a promoter, it is not necessary that he should be either a signatory to the Memorandum/Articles of Association or a shareholder or a director of the company. Promoter’s civil liability to the company and also to third parties remain in respect of his conduct and contract entered into by him during pre-incorporation stage as agent or trustee of the company.

5. Status of pre-incorporation of contracts
The promoter is obligated to bring the company in the legal existence and to ensure its successful running and in order to accomplish his obligation he may enter into some contract on behalf of prospective company. These types of contract are called ‘Pre-incorporation Contract.

Nature of Pre-incorporation contract is slightly different to ordinary contract. Nature of such contract is bilateral, be it has the features of tripartite contract. In this type of contract, the promoter furnishes the contract with interested person and it would be bilateral contract between them. But the remarkable part of this contract is that, this contract helps the perspective company, who is not a party to the contract.

One might question that ‘why is company not liable, even if it a beneficiary to contact' or one might also question that ‘doesn't promoter work under Principal-Agent relationship. Answer to these entire questions would be simple. The company does not in legal existence at time of pre-incorporation contract. If someone is not in legal existence then he cannot be a party to contract.

Before the passing of the Specific Relief Act 1963, the position in India, regarding pre-incorporation contract, was similar to the English Common Law. This was based on the general rule of contract where two consenting parties are bound to contract and third party is not connected with the enforcement and liability under the terms of contract. And because company does not come in existence before its incorporation, so the promoter signs contract on behalf of company with third party, and that is why the promoter was solely liable for the pre-incorporation contract.

However, the provisions of the specific relief Act, 1963 makes the pre-incorporation contracts valid. Section 15(h) and Section 19 (e) of the Specific Relief Act of 1963, deviat from the common law principles to some extent,

Under section 15 (h) of the Specific Relief Act, 1963,

Except as otherwise provided by this Chapter, the specific performance of a contract may be obtained by--

(a) any party thereto;

(b) the representative in interest or the principal, of any party thereto

Provided that where the learning , skill, solvency or any personal quality of such party is a material ingredient in the contract, or where the contract provides that his interest shall not be assigned, his representative in interest or his principal shall not be entitled to specific performance his part of the contract, or the performance thereof by his representative in interest, or his principal, has been accepted by the other party; when the promoters of a company have, before its incorporation, entered into a contract for the purposes of the company, and such contract is warranted by the terms of the incorporation, the company.

Under Section 19 (e) of the Specific Relief Act, 1963,

Except as otherwise provided by this Chapter, specific performance of a contract may be enforced against the company, when the promoters of a company have, before its incorporation, entered into a contract for the purpose of the company and such contract is warranted by the terms of the incorporation.

In Weavers Mills Ltd. v. Balkies Ammal [AIR 1969 Mad 462], the Madras High Court extended the scope of this principle through its decision. In this case, promoters had agreed to purchase some properties for and on behalf of the company to be promoted. On incorporation, the company assumed possession and constructed structures upon it. It was held that even in absence of conveyance of property by the promoter in favor of the company after its incorporation, the company’s title over the property could not be set aside.

Promoters are generally held personally liable for pre-incorporation contract. If a company does not ratify or adopt a pre-incorporation contract under the Specific Relief Act, then the common law principle would be applicable and the promoter will be liable for breach of contract.

In Kelner v Baxter, where the promoter in behalf of unformed company accepted an offer of Mr. Kelner to sell wine, subsequently the company failed to pay Mr. Kelner, and he brought the action against promoters. Erle CJ found that the principal-agent relationship cannot be in existence before incorporation, and if the company was not in existence, the principal of an agent cannot be in existence. He further explain that the company cannot take the liability of pre-incorporation contract through adoption or ratification; because a stranger cannot ratify or adopt the contract and company was a stranger because it was not in existence at the time of formation of contract. So he held that the promoters are personally liable for the pre-incorporation contract because they are the consenting party to the contract.

In Newborne v Sensolid (Great Britain) Ltd, Court of Appeal interpreted the finding of Kelner v Baxter in a different way and developed the principle further. In this case an unformed company entered into a contract, the other contracting party refused to perform his duty. Lord Goddard observed that before the incorporation the company cannot be in existence, and if it is not in existence, then the contract which the unformed company signed would also be not in existence. So company cannot bring an action for pre-incorporation contract, and also the promoter cannot bring the suit because they were not the party to contract.

This case created some amount of confusion that, if the contract was sign by the agent or promoter, then he will be liable personally and he has the right to sue or to be sued. But if a person representing him as director of unformed company enters into the contact then the contact would be unenforceable.

These principles were found applicable in Indian case.

In Seth Sobhag Mal Lodha v Edward Mill Co. Ltd., the High Court of Rajasthan followed the approach of Common Law regarding liability of pre-incorporation contract. This case was criticized by A. Ramaiya in Guide to Companies Act (Sixth Edition), he found that learned judges did not noticed the Specific Relief Act.

Although under common law promoter is personally liable for the pre-incorporation contract, but there are some scope where the promoter can shift his liability to company. He can shift to company his liability under the Specific Relief Act 1963 or he can go for novation under contract law. In Howard v Patent Ivory Manufacturing, the English Court accepted the novation of contract.

In conclusion we can say that, a promoter is personally liable for the pre-incorporation contract, because at the time of formation of pre-incorporation contract, the company does not come in existence, so neither the principle agent relationship exist not the company become the party. Company is not liable for the pre-incorporation contract when it come in existence, but under the arrangement of section 15(h) and 19(e) of the Specific Relief Act 1963, company can take the rights and liability of promoter. It is also found that promoter is personally liable for the pre-incorporation contract in American Law, English Law and Indian Law.

6. Case Analysis
To further analyze the role of promoter in Company's establishment we have done case analysis.

The first case we have taken is Kelner v Baxter (1866) LR 2 CP 174, which is a UK company law case which resulted into a landmark case that established the principle of Promoter’s liability in pre-inco

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