MODULE 2

FORMATION OF A COMPANY
Promotion:
It is the discovery of business opportunities and the subsequent organisation of funds, property
and managerial ability into a business for the purpose of making profit.

Company Promoter:
One who undertakes to form a company with reference to a given project and to set it going,
and who takes necessary steps to accomplish that purpose.

Types of Promoter
1.​ Professional Promoter: Takes the promotion as their profession.
2.​ Occasional promoter: Do promotional activity whenever they find an opportunity
coming their way.
3.​ Entrepreneur promoter: they conceive idea of a new business unit, do the work to
establish it
4.​ Financial promoter: Purchase the entire share capital of the company promoted later
on they sell the shares at some profit.

Functions of Promoter
●​ Discovery of new business idea
●​ Detailed investigation
●​ Assembling resources (4M)
●​ Preparing Preliminary Documents (MoA & AoA)
●​ Entering into preliminary contracts
●​ Naming the company
●​ Appointment of bankers brokers solicitors and underwriters.

Duties of Promoter
●​ Prepare Memorandum and Article: Articles
●​ He should not make any secret profit out of promotion
●​ He should make all disclosure regarding transactions on behalf of the company as a
promoter.

Document of Companies
1.​ Memorandum of association
2.​ Articles of association
3.​ Prospectus

I.​ Memorandum of Association

It is the main document of the company which defines its objectives and lays down the
fundamental conditions upon which alone the company is allowed to be formed. It is the charter
of the company. Its purpose is to enable shareholders, creditors and those who deal with the
company to know what exactly its permitted range of activities is.
Memorandum shall:
●​ Printed
●​ Divide into paragraph and numbered
●​ Signed by each subscriber

Requirement with Respect to Memorandum

●​ Name of the company with Ltd or Pvt. Itd
●​ Registered office of the company
●​ Objects of company
●​ Liability of members (Itd or un Itd)
●​ Registered share capital

Contents of Memorandum
1.​ Name Clause
2.​ Registered Office Clause
3.​ Object Clause
4.​ Capital Clause
5.​ Liability Clause
6.​ Association or Subscription Clause

1.​ Name Clause

Promoters make an application to the registrar of companies for the availability of name.
The company can adopt any name if:
• There is no other company registered under the same or under an identical name
• The name should not be prohibited by the central government
Once the name has been approved and the company has been registered,
• then the name of the company with registered office shall be affixed on outside of the business
premises;
• the words "limited" or "private limited" as the case may be, shall be added to the name;
• The name and address shall be mentioned in all letterheads, business letters, notices and
common seal of the company.

2.​ Registered Office Clause

Memorandum of association must state the name of the state in which the registered office of
the company is to be situated.
Every company must have a registered office within 30 days of its incorporation, notice of the
situation of the registered office and every change shall be given to the registrar within 30 days
after the date of incorporation or change.

3.​ Object Clause

It not only shows the object or objects for which the company is formed but also determines the
extent of the powers which the company can exercise in order to achieve the object or objects.
While drafting the objects clause of a company the following points should be kept in mind.
• The objects must not be illegal.
• The objects must not be against the provisions of the companies act
• The objects must not be against public
• The objects must be stated clearly.

4.​ Capital Clause

State the amount of share capital with which the company is to be registered and division of the
share capital into shares of a fixed amount.

5.​ Liability Clause

In the case of a company limited by shares or by guarantee, a memorandum of association
must have a clause to the effect that the liability of the members is limited. It implies that a
shareholder cannot be called upon to pay any time amount more than the unpaid portion on the
shares held by him

6.​ Association or Subscription Clause

In this clause, the subscribers declare that they desire to be formed into a company and agree
to take shares stated against their names. No subscriber will take less than one share and be
subscribed to by at least 7 persons in a public company and 2 persons in a private company.
The signature of each subscriber must be attested by at least one witness who cannot be any of
the subscribers.
Each subscriber and his witness shall add his address, description and occupation,

Alteration of Memorandum of Association

1.​ Change of Name
A company may change its name by special resolution and with the approval of the central
government signified in writing.

2.​ Change of Registered Office

a)​ Change of registered office from one place to another place in the same town or village.
In this case, a notice is to be given within 30 days after the date of change to the
registrar.
b)​ Change of registered office from one town to another town in the same state. a special
resolution passed at a general meeting and a copy of it is to be filed with the registrar
within 30 days.

3. Alteration of the Object Clause

It is approved by special resolution of the members in general meeting for alteration of the
objects clause in memorandum of association's sanction of central government is dispensed
with.
 4. Alteration of Capital Clause
The procedure of alteration provided in the articles of association is not given in the AoA, the
company must change the AoA by passing a special resolution. If the alteration is authorized by
the articles, the following changes in share capital may take place:
●​ Alteration of share capital
●​ Reduction of capital
●​ Reserve share capital
●​ Variation of the rights of shareholders

5. Alteration of Liability Clause

Liability clauses cannot be altered so as to make the liability of members unlimited. the liability
of the members cannot be increased without their consent. A company, if authorized by its
articles, may Alter its memorandum to make the liability of its directors or manager unlimited by
passing a special resolution.

II.​ Articles of Association

AoA are the rules, regulations and bye-laws for governing the internal affairs of the company.
They may be described as the internal regulation of the company governing its management
and the powers of the directors and officers, shareholders.

Contents of Articles of Association

1.​ The business of the company
2.​ Share capital
3.​ Execution or adoption of preliminary agreements, if any;
4.​ Allotment of shares;
5.​ Lien on shares
6.​ calls on shares;
7.​ Forfeiture of shares;
8.​ Issue of share certificates;
9.​ issue of share warrants;
10.​Transfer of shares;
11.​Transmission of shares;
12.​Alteration of share capital;
13.​Borrowing power of the company;
14.​Rules regarding meetings;
15.​Voting rights of members;
16.​Notice to members;
17.​Dividends and reserves;
18.​Accounts and audit;
19.​Arbitration provision, if any;
20.​Directors, appointment and remuneration;
21.​The appointment and reappointment of the managing director, manager and secretary;
22.​Fixing limits of the number of directors
23.​Payment of interest out of capital;
 24.​Common seal; and
25.​Winding up.

Alteration of Articles
Sec 31 grants power to every company to alter its articles whenever it desires by passing a
special resolution and filing a copy of altered articles with the registrar.

Distinction between Articles of Association and Memorandum of Association

Memorandum of Association Articles of Association

It is the charter which set out the conditions It is the bye-laws for the internal management
on which the company is incorporated

Main document Subsidiary document

It defines the objects & power of the company It mentioned the ways and means

It regulates the relationship between the co. It regulates the relationship between
and the public company and members.

No company can be incorporated without its A company can incorporated without its own
own memorandum articles

Cannot be altered easily Can be altered easily

Legal effects of Memorandum and Articles

●​ Members liable to the company: articles constitute a contract between the company and
its members, and therefore every member is bound by the articles.
●​ Company liable to the members: a company is bound to members by whatever is
contained in its memorandum and articles.
●​ Members liable to member: the relationship between members also regulated by the
provisions in the basic documents like memorandum and articles.
●​ Company to outsiders: contract between company and outsiders also regulated by the
provisions in the memorandum and articles.

Doctrine of ultra vires:

Generally, a company has power to do all acts that are authorized to be done by the companies
act, its memorandum and articles. So any acts done in excess of these will be ultra vires. Hence
ultra vires activities are:
●​ Ultra vires the companies act: any act done in excess of the scope of activities of
companies act. Such an act is void.
●​ Ultra vires the memorandum of association: any act done contrary to the object clause of
the memorandum of association
●​ Ultra vires the articles: acts which are ultra vires the articles but intra vires the
memorandum will be ultra vires the articles. Such acts can be altered.
Constructive Notice of Articles and Memorandum
A company's memorandum and articles become public documents on registration with the
registrar. These documents are available for public inspection in the registrar office on payment
of a nominal fee. Every person who deals with the company is deemed to know the contents of
these two statements. This is known as constructive notice of articles and memorandum.

Doctrine of Indoor Management

According to this person dealing with the company need not inquire whether internal
proceedings relating to the contract are followed correctly, once they are satisfied that the
transactions accordance with the MOA and AoA
Eg: shareholder needs not inquire if a necessary meeting was passed or resolution was passed
properly.

III. Prospectus
It is a document which invites deposits from the public to buy shares or debentures of the
company.

Statement in Lieu of Prospectus

Where a public company does not invite the public to subscribe for its shares but arrange
money from private sources, it need not issue the prospectus. But the company has to get its
prospectus registered three days before the allotment of shares. Thus, the company prepares a
draft prospectus which contains the information given in schedule III of the act, such a draft
prospectus is known as a statement in lieu of prospectus.

Contents of the Prospectus

1.​ Name and address of company
2.​ Date of opening and closing of issue
3.​ Statement by the board about separate bank A/C
4.​ Details about underwriting
5.​ Consent of director, auditor and bankers
6.​ Details of resolution passed
7.​ Amount payable on application and allotment.
8.​ Time schedule for allotment
9.​ Capital structure of company
10.​Main object of public offer
11.​Minimum subscription
12.​Details of Their directors, and their re remuneration
13.​Reports by the auditors
14.​Reports by the accountant.

Statement of Expert
A prospectus must include a statements made by an expert who has been engaged or
interested in the formation or promotion of the company
Experts include engineers, CA, Company secretary, Cost accountant.
Misstatement in Prospectus
A statement included in a prospectus shall be deemed to be untrue if the statement is
misleading the content in which it is included.

Person Liable for Misstatement in Prospectus

●​ Every director at the time of issue of prospectus
●​ Everyperson who has authorized himself to be named in the prospectus as a director
●​ Promoters of the company
●​ Person who are authorized to issue
●​ Expert

Remedies for Misstatement in Prospectus

1.​ Remedies against the company
●​ Cancellation of the contract and receives back his money with interest
●​ Action for damages against fraud
2.​ Remedies against the Director, promoter and experts

Liabilities for Misstatement

1.​ Civil liability

If a person purchases any security of a company on the faith of statements made in prospectus
and suffers any loss the company and every person responsible for this be liable to pay
compensation to every person who sustained such loss.

2.​ Criminal liability

A prospectus issued and circulated which includes untrue statements, every person who
authorizes the issue of that shall be punishable with imprisonment for a term which is not less
than 6 months and not more than 10 years.