Asialaw - Clarity for Corporate Counsel

Promoters of an Indian Company

By Singh & Associates

Date: September 2007

The first step towards the formation of a company starts with efforts of its promoters. This nomenclature has its own significant importance. It occurs frequently in the Companies Act, 1956, but the irony is that this word has not been defined by the act.

Section 62(6)(a) of the act describes the nature of the promoter as one who was a party to the preparation of the prospectus or of a portion thereof containing an untrue statement, but does not include any person by reason of his acting in a professional capacity in procuring the formation of a company. In the United States, Securities Exchange Commission Rule 405(a) defines a promoter as a person who, acting alone or in conjunction with another person, directly or indirectly takes the initiative in founding or organizing the business enterprise.

Duties of promoters
The Companies Act contains no provision which states the duties of the promoters, but cultural notions and legal trends have enumerated certain duties:

The promoter originates the scheme for the formation of a company, he gets memoranda and articles prepared, executed and registered and he deals with merchant bankers, brokers and legal advisors.

Fiduciary agent
Promoters stand as a fiduciary agent of a company. As a fiduciary agent, the following duties are done in his name:
(i) He should make all disclosures regarding accounts and formation so as to maintain transparency at the time of transfer of management to the director.
(ii) He should not make any secret profit out of the promotion of the company.
(iii) He should make all disclosures regarding transactions entered by him on behalf of the company as promoter.

Liabilities of promoters
Section 56 and Schedule II. These sections require that the promoter state all the contents of a prospectus, such as general information; capital structure of the company; terms and conditions of the present issue; company management and its projects; and financial information such as reports of editors, accountants, and the underwriting commission brokerage. The liability of the promoter arises only with respect to original allotments of shares and would not extend to any further allottees.

Civil Liabilities (Section 62). Civil liability arises when any person applies for the shares and debentures on the faith of the prospectus, believing it to be true, and later finds untrue statements and records regarding the public issue of the company. Every such person may rescind the contract to take the shares and claim damages.

Criminal liabilities (Section 63). Criminal liability arises like civil liability. Every promoter authorizing the issue is punishable by imprisonment for a term up to two years, a fine up to Rs50,000 (US$1,200) or both.

Section 203. If any promoter is found to be involved in a activity which amounts to an offence regarding the promotion, management or formation of a company, the court can bar such a promoter from taking part in administration of the company for five years.

Section 478. The court can order a promoter liable to public examination when he is found to have been involved in fraudulent activity at the time of promotion of the company.

Section 542. If, in the course of the winding up of a company, it appears that any business of the company has been carried on with the intent to defraud creditors, the court may declare that any persons who were knowingly parties to the carrying on of the business in the manner aforesaid shall be personally liable.

Pre-incorporation contracts. If any promoter enters into any contract on behalf of the company before it was actually incorporated, then the promoter shall be personally liable for non-fulfillment of the contract unless it was rectified by the company after incorporation.

Singh & Associates
Advocates And Solicitors
N-30 Ground Floor, Malviya Nagar
New Delhi 110017 India
Tel: 91-11-26680927, 26687993, 26680331 Fax: 91-11-26682883
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