Unit 1 Topic: Formation of a Company, B.Com Hons., IInd Sem, DU - B Com PDF Download

 Page 1


Formation of a Company and Company Document 
1 
Institute of Lifelong Learning, University of Delhi 
 
 
 
 
 
 
 
 
Subject: Commerce 
Lesson: Formation of a Company and Company 
Document 
Course Developer: Seema Shrivastava 
College/ Department: Motilal Nehru College, University 
of Delhi 
 
 
 
 
 
 
 
 
 
 
 
Page 2


Formation of a Company and Company Document 
1 
Institute of Lifelong Learning, University of Delhi 
 
 
 
 
 
 
 
 
Subject: Commerce 
Lesson: Formation of a Company and Company 
Document 
Course Developer: Seema Shrivastava 
College/ Department: Motilal Nehru College, University 
of Delhi 
 
 
 
 
 
 
 
 
 
 
 
Formation of a Company and Company Document 
2 
Institute of Lifelong Learning, University of Delhi 
 
Table of Contents 
? Lesson: Formation of a Company and Company Documents 
o Introduction 
o Promotion 
o Incorporation or Registration 
o Capital Subscription 
o Commencement of Business 
o Memorandum of Association 
o Articles of Association 
o The Doctorine of Ultra Vires 
o The Doctrine of Indoor Management 
o Prospectus 
o Section 
o Summary 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Page 3


Formation of a Company and Company Document 
1 
Institute of Lifelong Learning, University of Delhi 
 
 
 
 
 
 
 
 
Subject: Commerce 
Lesson: Formation of a Company and Company 
Document 
Course Developer: Seema Shrivastava 
College/ Department: Motilal Nehru College, University 
of Delhi 
 
 
 
 
 
 
 
 
 
 
 
Formation of a Company and Company Document 
2 
Institute of Lifelong Learning, University of Delhi 
 
Table of Contents 
? Lesson: Formation of a Company and Company Documents 
o Introduction 
o Promotion 
o Incorporation or Registration 
o Capital Subscription 
o Commencement of Business 
o Memorandum of Association 
o Articles of Association 
o The Doctorine of Ultra Vires 
o The Doctrine of Indoor Management 
o Prospectus 
o Section 
o Summary 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Formation of a Company and Company Document 
3 
Institute of Lifelong Learning, University of Delhi 
 
Introduction 
As discussed in lesson 1, one of the important features of a company is that it is an 
‘artificial person’ created by law. Company Law contains various provisions to form a 
company. In this chapter we will discuss the various stages of formation of a company. 
The process of formation starts when a person conceives an idea to form a company and 
ends when a company gets a certificate from the Registrar of Companies after complying 
with the various provisions relating to the formation of a company. ‘Formation of a 
Company’ has been divided into four stages: Promotion, Registration, Capital 
Subscription and Commencement of Business. Out of the four stages, the first two 
stages ‘Promotion and Registration’ are necessary for both public and private companies. 
A private company can start operating its business immediately after registration, but a 
public company has to pass through two more stages- capital subscription and 
commencement of business. A public company can raise funds from the public by issuing 
shares. After following all the legal provisions of public issue, which are specified in The 
Company’s Act, a public company can start operating its business. All these stages are 
discussed in detail in this lesson.  
Promotion 
The very first stage in the formation of a company is promotion. This stage begins when 
the idea to form a company comes in the mind of a person. The person who conceives 
the idea is called a ‘promoter’. The Companies Act does not provide a definition of a 
promoter. However, the dictionary meaning of the term promoter is ‘a person who 
promotes new trading companies. 
When an idea comes in the mind of a promoter, the first thing he / she does is to carry 
out a detailed investigation about the profitability of the project he / she wishes to 
undertake. The promoter then estimates the expected income and expenses and tries to 
find out the sources for raising the funds for the company to be formed by him. If he / 
she is confident that the project is profitable he / she then proceeds further to form a 
company. 
 
Figure: The promoter 
A promoter can take the help of other persons in order to form a company. It is not 
necessary that a promoter has to be a single person. There can be a group of people 
who come together to form a company. Also, it is not necessary that a person should 
take active part in the formation of company from the beginning. A person can join the 
existing promoters at any stage and become a co-promoter. 
People who help a promoter in a professional capacity cannot be called promoters, but 
people who help a promoter out of professional capacity can be regarded as promoters. 
This can be explained with the help of the following illustrations. 
 
Page 4


Formation of a Company and Company Document 
1 
Institute of Lifelong Learning, University of Delhi 
 
 
 
 
 
 
 
 
Subject: Commerce 
Lesson: Formation of a Company and Company 
Document 
Course Developer: Seema Shrivastava 
College/ Department: Motilal Nehru College, University 
of Delhi 
 
 
 
 
 
 
 
 
 
 
 
Formation of a Company and Company Document 
2 
Institute of Lifelong Learning, University of Delhi 
 
Table of Contents 
? Lesson: Formation of a Company and Company Documents 
o Introduction 
o Promotion 
o Incorporation or Registration 
o Capital Subscription 
o Commencement of Business 
o Memorandum of Association 
o Articles of Association 
o The Doctorine of Ultra Vires 
o The Doctrine of Indoor Management 
o Prospectus 
o Section 
o Summary 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Formation of a Company and Company Document 
3 
Institute of Lifelong Learning, University of Delhi 
 
Introduction 
As discussed in lesson 1, one of the important features of a company is that it is an 
‘artificial person’ created by law. Company Law contains various provisions to form a 
company. In this chapter we will discuss the various stages of formation of a company. 
The process of formation starts when a person conceives an idea to form a company and 
ends when a company gets a certificate from the Registrar of Companies after complying 
with the various provisions relating to the formation of a company. ‘Formation of a 
Company’ has been divided into four stages: Promotion, Registration, Capital 
Subscription and Commencement of Business. Out of the four stages, the first two 
stages ‘Promotion and Registration’ are necessary for both public and private companies. 
A private company can start operating its business immediately after registration, but a 
public company has to pass through two more stages- capital subscription and 
commencement of business. A public company can raise funds from the public by issuing 
shares. After following all the legal provisions of public issue, which are specified in The 
Company’s Act, a public company can start operating its business. All these stages are 
discussed in detail in this lesson.  
Promotion 
The very first stage in the formation of a company is promotion. This stage begins when 
the idea to form a company comes in the mind of a person. The person who conceives 
the idea is called a ‘promoter’. The Companies Act does not provide a definition of a 
promoter. However, the dictionary meaning of the term promoter is ‘a person who 
promotes new trading companies. 
When an idea comes in the mind of a promoter, the first thing he / she does is to carry 
out a detailed investigation about the profitability of the project he / she wishes to 
undertake. The promoter then estimates the expected income and expenses and tries to 
find out the sources for raising the funds for the company to be formed by him. If he / 
she is confident that the project is profitable he / she then proceeds further to form a 
company. 
 
Figure: The promoter 
A promoter can take the help of other persons in order to form a company. It is not 
necessary that a promoter has to be a single person. There can be a group of people 
who come together to form a company. Also, it is not necessary that a person should 
take active part in the formation of company from the beginning. A person can join the 
existing promoters at any stage and become a co-promoter. 
People who help a promoter in a professional capacity cannot be called promoters, but 
people who help a promoter out of professional capacity can be regarded as promoters. 
This can be explained with the help of the following illustrations. 
 
Formation of a Company and Company Document 
4 
Institute of Lifelong Learning, University of Delhi 
 
Illustration 
Ram is a solicitor of Rinku Yadav who is a promoter. Rinku Yadav purchases a land for 
the proposed company and Ram carries out all the legal formalities pertaining to the 
purchase of the land. As Ram purchases the land on behalf of Rinku Yadav in his 
professional capacity therefore he is not a promoter. 
 
 
Illustration 
Ram is a solicitor of Rinku Yadav who is a promoter. Ram introduces his clients to Rinku 
Yadav and encourages them to buy shares of the proposed company. Introducing his 
clients to Rinku Yadav for buying shares is not Ram’s professional duty. As a solicitor his 
job is to look after the legal matters of the company rather than to sell the shares of 
proposed company. Thus, he will be considered a promoter. 
 
A promoter does various things to get the company promoted. Some of these are 
discussed below: 
1. Appoint bankers, solicitors, brokers for the company. 
2. Prepare the memorandum and the articles of association of the company, get it 
printed and registered. 
3. Find the persons who are ready to sign the memorandum and articles of 
association. 
4. Enter into preliminary contracts with underwriters, suppliers of raw material, 
plant and machinery etc. 
The stage of promotion starts when a promoter conceives the idea to form a company 
and ends when the company is formed and is handed over to the directors. 
 Legal Position of a Promoter 
 
A promoter has to perform various tasks to form a company. He holds a very important 
position and has wide powers relating to the formation of a company. Since a promoter 
has to perform various duties, his/her legal position is quite clear. A promoter stands in 
a fiduciary position (position of trust and confidence) towards company which is to be 
formed. It is expected that whatever promoters do, will be in the best interest of the 
company. The fiduciary position gives rise to two important duties of a promoter which 
are as follows: 
 
Figure: Legal Position of a Promotor 
Page 5


Formation of a Company and Company Document 
1 
Institute of Lifelong Learning, University of Delhi 
 
 
 
 
 
 
 
 
Subject: Commerce 
Lesson: Formation of a Company and Company 
Document 
Course Developer: Seema Shrivastava 
College/ Department: Motilal Nehru College, University 
of Delhi 
 
 
 
 
 
 
 
 
 
 
 
Formation of a Company and Company Document 
2 
Institute of Lifelong Learning, University of Delhi 
 
Table of Contents 
? Lesson: Formation of a Company and Company Documents 
o Introduction 
o Promotion 
o Incorporation or Registration 
o Capital Subscription 
o Commencement of Business 
o Memorandum of Association 
o Articles of Association 
o The Doctorine of Ultra Vires 
o The Doctrine of Indoor Management 
o Prospectus 
o Section 
o Summary 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Formation of a Company and Company Document 
3 
Institute of Lifelong Learning, University of Delhi 
 
Introduction 
As discussed in lesson 1, one of the important features of a company is that it is an 
‘artificial person’ created by law. Company Law contains various provisions to form a 
company. In this chapter we will discuss the various stages of formation of a company. 
The process of formation starts when a person conceives an idea to form a company and 
ends when a company gets a certificate from the Registrar of Companies after complying 
with the various provisions relating to the formation of a company. ‘Formation of a 
Company’ has been divided into four stages: Promotion, Registration, Capital 
Subscription and Commencement of Business. Out of the four stages, the first two 
stages ‘Promotion and Registration’ are necessary for both public and private companies. 
A private company can start operating its business immediately after registration, but a 
public company has to pass through two more stages- capital subscription and 
commencement of business. A public company can raise funds from the public by issuing 
shares. After following all the legal provisions of public issue, which are specified in The 
Company’s Act, a public company can start operating its business. All these stages are 
discussed in detail in this lesson.  
Promotion 
The very first stage in the formation of a company is promotion. This stage begins when 
the idea to form a company comes in the mind of a person. The person who conceives 
the idea is called a ‘promoter’. The Companies Act does not provide a definition of a 
promoter. However, the dictionary meaning of the term promoter is ‘a person who 
promotes new trading companies. 
When an idea comes in the mind of a promoter, the first thing he / she does is to carry 
out a detailed investigation about the profitability of the project he / she wishes to 
undertake. The promoter then estimates the expected income and expenses and tries to 
find out the sources for raising the funds for the company to be formed by him. If he / 
she is confident that the project is profitable he / she then proceeds further to form a 
company. 
 
Figure: The promoter 
A promoter can take the help of other persons in order to form a company. It is not 
necessary that a promoter has to be a single person. There can be a group of people 
who come together to form a company. Also, it is not necessary that a person should 
take active part in the formation of company from the beginning. A person can join the 
existing promoters at any stage and become a co-promoter. 
People who help a promoter in a professional capacity cannot be called promoters, but 
people who help a promoter out of professional capacity can be regarded as promoters. 
This can be explained with the help of the following illustrations. 
 
Formation of a Company and Company Document 
4 
Institute of Lifelong Learning, University of Delhi 
 
Illustration 
Ram is a solicitor of Rinku Yadav who is a promoter. Rinku Yadav purchases a land for 
the proposed company and Ram carries out all the legal formalities pertaining to the 
purchase of the land. As Ram purchases the land on behalf of Rinku Yadav in his 
professional capacity therefore he is not a promoter. 
 
 
Illustration 
Ram is a solicitor of Rinku Yadav who is a promoter. Ram introduces his clients to Rinku 
Yadav and encourages them to buy shares of the proposed company. Introducing his 
clients to Rinku Yadav for buying shares is not Ram’s professional duty. As a solicitor his 
job is to look after the legal matters of the company rather than to sell the shares of 
proposed company. Thus, he will be considered a promoter. 
 
A promoter does various things to get the company promoted. Some of these are 
discussed below: 
1. Appoint bankers, solicitors, brokers for the company. 
2. Prepare the memorandum and the articles of association of the company, get it 
printed and registered. 
3. Find the persons who are ready to sign the memorandum and articles of 
association. 
4. Enter into preliminary contracts with underwriters, suppliers of raw material, 
plant and machinery etc. 
The stage of promotion starts when a promoter conceives the idea to form a company 
and ends when the company is formed and is handed over to the directors. 
 Legal Position of a Promoter 
 
A promoter has to perform various tasks to form a company. He holds a very important 
position and has wide powers relating to the formation of a company. Since a promoter 
has to perform various duties, his/her legal position is quite clear. A promoter stands in 
a fiduciary position (position of trust and confidence) towards company which is to be 
formed. It is expected that whatever promoters do, will be in the best interest of the 
company. The fiduciary position gives rise to two important duties of a promoter which 
are as follows: 
 
Figure: Legal Position of a Promotor 
Formation of a Company and Company Document 
5 
Institute of Lifelong Learning, University of Delhi 
 
 
1) Promoter should not make any secret profits 
 
If a promoter makes any profit during the formation of the company then that profit 
must be disclosed. A promoter is not allowed to make any secret profits. 
 Case Law 1 
Glukstein Vs Barnes -[(1900) A.C.240] 
 
The objective of promoters was to purchase a property called Olympia and then re-sell 
this Olympia to a company which was to be formed by them. The promoters acquired the 
debentures of Olympia at a discount, and then they bought Olympia company for 
1,40,000 Pounds. Out of 1,40,000 Pounds debentures were repaid in full(which they 
acquired at discount) and therefore, syndicate made a profit of 20,000 Pounds. Then 
they promoted a new company by selling old Olympia to it for 1,80,000 Pounds. 
Promoters earned profit of 40,000 Pounds (1,80,000 – 1,40,000). Profit of 40,000 
Pounds was revealed in the prospectus, but not the profit of 20,000 Pounds. Held- The 
profit of 20,000 Pounds which was not disclosed to the public had to be refunded to the 
company by the promoters. 
 
2) A promoter must disclose all material facts of sale of his property to the 
proposed company. 
If a promoter sells his/her property to the proposed company for a profit, then he/she 
must disclose the profit made to the Board of Directors or to the prospective 
shareholders by mentioning the details in the prospectus or the articles of association. If 
the promoter fails to disclose the profit then the proposed company can either rescind 
the contract or it can accept the contract and then recover the profits made from the 
promoters. 
 
Figure: Disclosing sale of property 
Case Law 2 
 
Erlanger Vs. New Sombrero Phosphate Company - [(1878) 3A.C.1218] 
In this case Erlanger was head of the syndicate (group of promoters) who purchased an 
island containing phosphate mines for 55,000. The objective of syndicate was to 
purchase property from Erlanger and to sell it to the new Company to be formed by 
them. Syndicate purchased phosphate mines (cost 55,000) for 1,10,000 and got the 
transactions approved by BOD containing fictitious persons as its directors , and was also 
approved in the meeting of shareholders, but no material facts were disclosed . Later