CHAPTER 6

THE COMPANIES ACT, 1956

UNIT 1: PRELIMINARY
Company and Lifting of the Corporate Veil
Question
What is a company?
Answer
Section 3(1) of the Companies Act, 1956 defines a company: Company means a
company formed and registered under this Act or an existing company. The most striking
feature in the company form of organisation is that it acquires a unique character of being
a separate legal entity. In other words when a company is registered, it is clothed with a
legal personality. It comes to have almost the same rights and powers as a human being.
Its existence is distinct and separate from that of its members. Members may die or
change, but the company goes on till it is wound up on the grounds specified by the Act.
In other words, it means that it has perpetual succession. A company can own property,
have banking account, raise loans, incur liabilities and enter into contracts. Even
members can contract with company, acquire right against it or incur liability to it. For the
debts of the company, only its creditors can sue it and not its members. Also contrast to
other forms of organization, the members of the company usually has a limited liability. As
the company is an artificial person, it can act only through some human agency, viz., and
directors. They are at the helm of affairs of the company and act as its agency, but they
are not the agents of the members of the company. A company has a common seal to
authenticate its formal acts.
Question
A company is a person separate from its members. Explain. Examine the circumstances
under which the Courts may disregard the Companys Corporate Personality.
(P.E-II, Nov. 2000)
Or
What do you understand by separate legal entity of the company? State the
circumstances where under the separate legal entity of the company can be ignored and
liability can be imposed on the persons regulating the affairs of the company?
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Or
Under what circumstances the law disregards the principle that a company is a separate
legal entity distinct from its members?
Or
Briefly state the circumstances to lift the status of corporate legal entity of company under
the Companies Act, 1956?
Or
Explain clearly the meaning of Lifting the Corporate Veil, as applicable in case of
companies incorporated under the Companies Act, 1956. Under what circumstances the
veil of a company can be lifted by the court? (PE-II, Nov 2002)
Answer
A company in the eyes of law is regarded as an entity separate from its members. It has
an independent corporate existence. Any of its members can enter into contracts with the
company in the same manner as any other individual can and he cannot be held liable for
the acts of the company even if he holds virtually the entire share capital. The companys
money and property belong to the company, and not to the shareholders. (Salomon v.
Salomon & Co. Ltd.).
Further, from the juristic point of view, a company is a legal person distinct from its
members (Salomon v. Salomon & Co.). It has its own corporate personality. This principle
may be referred to as the veil of incorporation. The Courts in general consider
themselves bound by this principle. The effect of this principle is that there is a fictional
veil between the company and its members. That is, the company has a corporate
personality which is distinct from its members. This principle must be used for legitimate
business purposes only. Where the legal entity of a corporate body is misused for
fraudulent and dishonest purposes, the individuals concerned will not be allowed to take
shelter behind the corporate personality.
The human ingenuity, however, started using this veil of corporate personality blatantly as
a cloak for fraud or improper conduct. Thus it became necessary for the Courts to break
through or lift the corporate veil or crack the shell of corporate personality or disregard the
corporate personality of the company. Thus while by fiction of law a corporation is a
distinct entity, yet, in reality it is an association of persons who are in fact the beneficial
owners of all the corporate property (Gallaghar v. Germania Brewing Co.).
The circumstances or the cases in which the Courts have disregard the corporate
personality of the company are:
1. Protection of revenue: (To prevent evasion of taxation) The Courts may ignore the
corporate entity of a company where it is used for tax evasion. (Juggilal v.
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Commissioner of Income Tax, B.F. Guzdar v. Commissioner of Income Tax
Bombay).
2. Prevention of fraud or improper conduct: The legal personality of a company may
also be disregarded in the interest of justice where the machinery of incorporation
has been used for some fraudulent purpose like defrauding creditors or defeating or
circumventing law. Professor Gower has rightly observed in this regard that the veil
of a corporate body will be lifted where the corporate personality is being blatantly
used as a cloak for fraud or improper conduct. Thus where a company was
incorporated as a device to conceal the identity of the perpetrator of the fraud, the
Court disregarded the corporate personality (Jones v. Lipman) (Gilford Motor Co. v.
Home).
3. Determination of character of a company whether it is enemy: A company may
assume an enemy character when persons in de facto control of its affairs are
residents in an enemy country. In such a case, the Court may examine the
character of persons in real control of the company and declare the company to be
an enemy company. (Daimler Co. Ltd. v. Continental Tyre & Rubber Co. Ltd).
4. Where the company is a sham: The Courts also lift the veil or disregard the
corporate personality of a company where a company is a mere cloak or sham
(hoax). (Gilford Motor Co. Ltd. v. Home).
5. Company avoiding legal obligation: Where the use of an incorporated company
is being made to avoid legal obligations, the Court may disregard the legal
personality of the company and proceed on the assumption as if no company
existed.
6. Company acting as agent or trustee of the shareholders: Where a company is
acting as agent for its shareholders, the shareholders will be liable for the acts of
the company (F.G. Films Ltd., In re.)
7. Avoidance of welfare legislation: Where the courts find that there is avoidance of
welfare legislation, it will be free to lift the corporate veil. (Workmen of Associated
Rubber Industry Ltd. v. Associated Rubber Industry Ltd.).
8. Protecting public policy: The Courts invariably lift the corporate veil or a disregard
the corporate personality of a company to protect the public policy and prevent
transactions contrary to public policy. (Connors v. Connors Ltd.).
9. In quasi-criminal cases: The courts pierce the corporate veil in quasi-criminal cases
in order to look behind the legal person and punish the real persons who have
violated the law.

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Question
Explain clearly the concept of Perpetual Succession and Common Seal in relation to a
company incorporated under the Companies Act, 1956. (PE-II, May 2003)
Answer
Perpetual Succession and Common Seal
A company is a juristic person with a perpetual succession. It never dies, nor does its life
depend upon the life of its members. It is not in any manner affected by insolvency,
mental disorder or retirement of any of its members. It is created by a process of law and
can be put to an end only by the process of law. Members may come and go but the
company can go on forever (until dissolved). It continues to exist even if all its human
members are dead. Even during the war all the members of a private company, while in
general meeting, were killed by a bomb, the company. survived, not even a hydrogen
bomb could have destroyed it [K/9 Meat Supplies (GuiIdford Ltd, Re 0966) 3 All E.R. 320].
Perpetual succession, therefore means that a companys existence persists irrespective of
the change in the composition of its membership. Thus its continued existence is not
affected by a constant change in its membership.
Question
Some of the creditors of M/s Get Rich Quick Ltd. have complained that the company was
formed by the promoters only to defraud the creditors and circumvent the compliance of
legal provisions of the Companies Act, 1956. In this context they seek your advice as to
the meaning of corporate veil and when the promoters can be made personally liable for
the debts of the company. (PE-II, Nov 2004)
Answer
Corporate Veil
After incorporation the company in the eyes of law is a different person altogether from
the shareholders who have formed the company. The company has its own existence and
as a result the shareholders cannot be held liable for the acts of the company even
though the shareholders control the entire share capital of the company. This is popularly
known as Corporate Veil and in certain circumstances the courts are empowered to lift or
pierce the corporate veil by ignoring the company and directly examine the promoters and
others who have managed the affairs of the company after its incorporation. Thus, when
the corporate veil is lifted by the courts, (i.e., the courts have disregarded the company as
an entity), the promoters can be made personally liable for the debts of the company. In
the following circumstances, corporate veil can be lifted by the courts and promoters can
be held personally liable for the debts of the company.
(i) Trading with enemy country.
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(ii) Evasion of taxes.
(iii) Forming a subsidiary company to act as its agent.
(iv) The benefit of limited liability is destroyed by reducing the number of members
below 7 in the case of public company and 2 in the case of private company for
more than six months.
(v) Under law relating to exchange control.
(vi) Device of incorporation is adopted to defraud creditors or to avoid legal obligations.
Question
ABC Pvt. Ltd., is a Private Company having five members only. All the members of the
company were going by car to Mumbai in relation to some business. An accident took
place and all of them died. Answer with reasons, under the Companies Act, 1956 whether
existence of the company has also come to the end? (PE-II, May 2008)
Answer
Death of all members of a Private Limited Company, Under the Companies Act, 1956
A joint stock company is a stable form of business organization. Its life does not depend
upon the death, insolvency or retirement of any or all shareholder(s) or director(s). The
provision for transferability or transmission of the shares helps to preserve the perpetual
existence of a company. Law creates it and law alone can dissolve it. Members may come
and go but the company can go on forever. So in such case, the ABC Pvt. Ltd. does not
cease to exist. By way of transmission of shares, shares are transmitted to their legal
representatives. The company ceases to exist only on the winding up of the company.
Therefore, even with the death of all members (i.e. 5), ABC (P) Ltd. does not cease to exist.
Question
F, an assessee, was a wealthy man earning huge income by way of dividend and interest.
He formed three Private Companies and agreed with each to hold a bloc of investment as
an agent for them. The dividend and interest income received by the companies was
handed back to F as a pretended loan. This way, F divided his income into three parts in a
bid to reduce his tax liability.
Decide, for what purpose the three companies were established? Whether the legal
personality of all the three companies may be disregarded. (PCE, June 2009)
Answer
The House of Lords in Salomon Vs Salomon & Co. Ltd. laid down that a company is a person
distinct and separate from its members, and therefore, has an independent separate legal
existence from its members who have constituted the company. But under certain circumstances
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the corporate veil may be lifted by the courts. It means looking behind the corporate faade and
disregarding the corporate entity. Where a company is incorporated and formed by certain
persons only for the purpose of evading taxes, by taking shelter of the corporate nature, the
courts have discretion to disregard the corporate entity in the matter of tax evasion.
(1) The problem asked in the question is based upon the aforesaid facts. The three
companies were formed by the assessee purely and simply as a means of avoiding
tax and the companies were nothing more than the assessee himself. Therefore the
whole idea of Mr. F was simply to split his income into three parts with a view to
evade tax.
(2) The legal personality of the three private companies may be disregarded because
the companies were formed only to avoid tax liability and the company was nothing
more than the assessee himself. It did no business, but was created simply as a
legal entity to ostensibly receive the dividend and interest and to handover them
over to the assesse as pretended loans. The same was upheld in Re Sir Dinshaw
Maneckji Petit AIR 1927 Bom.371 and Juggilal vs. Commissioner of Income Tax
AIR (1969) SC (932).
Classes of Companies Under the Act
Question
What is meant by a Guarantee Company? State the similarities and dissimilarities
between a Guarantee Company and a Company having Share Capital. (PE-II, Nov. 2004)
Answer
Meaning of Guarantee Company: Where it is proposed to register a company with
limited liability, the choice is to limit liability by shares or by guarantee. Section 12(2)(b) of
the Companies Act, 1956 defines it as a company having the liability of its members
limited by the memorandum to such amount as the members may respectively undertake
by the memorandum to contribute to the assets of the company in the event of its being
wound up. Thus, the liability of the member of a guarantee company is limited by a
stipulated amount mentioned in the memorandum. The members cannot be called upon to
contribute more than the stipulated amount for which they have guaranteed in the
memorandum of association of that company. The articles of association of such company
shall state the number of members with which the company is to be registered.
Similarities and dis-similarities between the Guarantee Company and the Company
having share capital: The common features between a guarantee company and the
company having share capital are legal personality and limited liability. In case of the
later company, the members liability is limited by the amount remaining unpaid on the
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shares, which each member holds. Both of them have to state this fact in their
memorandum that the members liability is limited.
However, the dissimilarities between a guarantee company and company having share
capital is that in the former case the members may be called upon to discharge their
liability only after commencement of the winding up and only subject to certain conditions;
but in latter case, they may be called upon to do so at any time, either during the
companys life or during its winding up.
Further to note, the Supreme Court in Narendra Kumar Agarwal vs. Saroj Maloo (1995) 6
SC C 114 has laid down that the right of a guarantee company to refuse to accept the
transfer by a member of his interest in the company is on a different footing than that of a
company limited by shares. The membership of a guarantee company may carry
privileges much different from those of ordinary shareholders.
It is also clear from the definition of the guarantee company that it does not raise its initial
working funds from its members. Therefore, such a company may be useful only where no
working funds are needed or where these funds can be had from other sources like
endowment, fees, charges, donations etc.
Question
Can a non-profit organization be registered as a company under the Companies Act? If
so, what procedure does it have to adopt? (PE-II, May 2002 & 2004)
Answer
Procedure/or Registration of a non-profit organisation as a company: An association
of persons set up for promoting commerce, arts, science, religion, charity or any other
useful, object and intends to apply its profits or other income in promotion of its objects
can be registered as a Company under the Companies Act. However, it has to prohibit
payment of any dividend to its members.
Procedure: The association has to apply to the Central Government for issuing a licence.
Through this licence the Central Government shall direct the Registrar to register the
association as a company with limited liability without the addition of words limited or
private limited to its name. Therefore, the association may be registered accordingly.
The association has to fulfill the conditions needed for registration as a company, i.e. it must
have its name, its Memorandum of Association, its Articles of Association or Rules/Bye-laws
and signatures or its founder members with two witnesses. On registration (subject to the
provisos of Section 25) it will have the same privileges and obligations as a limited company
has. This licence is revocable by the Central Government, and on revocation the Registrar
shall put the words Limited or Private Limited against the companys name in the
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Register. But before such revocation, the Central Government must give it a written notice
of its intention to revoke the licence and opportunity to be heard in the matter.
Question
Mr. V, alongwith six other persons desires to float a company for charitable purposes, as
permissible under Section 25 of the Companies Act, 1956. He seeks your advise about
the procedure to be followed to give effect to the above proposal. Advise him.
(PCE, Nov. 2007)
Answer
Company for charitable purposes: (Section 25 of the Companies Act, 1956)
According to Section 25 of the Companies Act, 1956 the procedure to be followed to give
effect to the said proposal is as follows:
1. Mr. V, must mobilise six other persons who are majors and sound mind to sign MOA
and AOA which may be of its own or as in Table C or D of the Companies Act.
2. The company may be a Limited Company with share capital or a company limited
by guarantee.
3. In no case the profits of the company can be distributed in the forms of dividends
on bonus shares.
4. All the profits of the company should be used only for welfare purposes and
company's progress. These factors must be incorporated in AOA.
5. Out of the three names chosen by the promoters for the name of the company one
should be used. If it is not available the proposals repeated by filing form no. 1A.
6. After getting the name from the ROC, the draft MOA and AOA must be got
approved by Regional Director who has been delegated the powers by the Central
Government.
7. Three copies of a approved MOA and AOA alongwith the registration and filing fee,
documents like form 1,18,32 and consent etc. must be submitted.
8. A power of attorney in favour of Practicing CA/CS/ICWA or an advocate for
presentation before ROC to make corrections and collect incorporation certificate
must also be filed on non judicial stamp paper.
9. The company becomes operative on incorporation.
Question
State the conditions of restrictions with which a private company is incorporated under the
Companies Act,1956. (PE-II, Nov. 2003)
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Answer
Restrictive conditions on the basis of which a company may be incorporated as a
private company: Following are the restrictive conditions on the basis of which a
company may be incorporated as a private company under the provisions of the
Companies Act, 1956:
1. Restrictions on the right to transfer its shares.
2. Limitations on the number of members to 50 excluding past and present employees
who are the members of the company.
3. Prohibition on inviting public to subscribe to any shares or debentures of the
company.
4. Prohibition on invitation or acceptance of deposits from persons other than its
members, directors or their relatives, [Section 3(1) (iii): Companies Act, 1956].
It is also necessary that every private company should have paid up capital of Rs. 1 Lac
or such higher capital as may be prescribed.
Question
Under what circumstances a company becomes subsidiary of another company under the
provisions of the Companies Act, 1956?
Answer
Holding and Subsidiary Companies are relative terms. A company is a holding company of
another only if the other is its subsidiary. Any of the circumstances illustrated below must
exist to constitute the relationship of holding and subsidiary companies:
(a) When one company controls the composition of Board of Directors of the other
companies.
(b) When a company is an existing company in respect of which the holders of
preference shares issued before the commencement of this Act have the same
voting rights in all respects as the holders of equity shares, exercises or controls
more than half of the total voting power of such company.
Where a company other than above mentioned company above holds more than
half in nominal value of the equity share capital of the other company. [Section
4(1)(b)].
(c) Where a company is subsidiary of another company which is subsidiary of still
another company.

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Question
With reference to the provisions of the Companies Act, 1956 explain the circumstances
under which a subsidiary company can become a member of its holding company-
Examine the position of the following with regard to membership in a company:
(i) An Insolvent
(ii) Partnership Firm. (PE-II, May 2001)
Answer
In accordance with the provisions of Section 42 of the Companies Act, 1956, a subsidiary
company cannot become a member in its holding company and any allotment or transfer of
shares in a company to its subsidiary is void. The section however does not apply where:
(a) the subsidiary company is a legal representative of a deceased member of the
holding company, or
(b) the subsidiary company is a trustee and the holding company or a subsidiary
thereof is not beneficially interested under the trust, or
(c) entered into by the holding company in the ordinary course of business which
includes the lending of money.
Position of the following with regard to membership in a company:
(i) Partnership Firm: A partnership may firm hold shares in a company in the individual
names of partners as joint shareholders. As an un incorporated association, a firm
is not a person and as such it cannot be entered as a member in the register of
members. (Ganesh Das Ram Gopal v. R.G. Cotton Mills Ltd.) Section 25 of the
Companies Act however, permits a firm to be a member of a company licensed
under Section 25.
(ii) An Insolvent: An insolvent may be a member of a company. So long as his name
appears in the register of members, he is a member and is entitled to vote even
though his shares vest in the Official Assignee or Receiver. (Morgan v. Gray)
allotment or transfer of shares is by way of security for the purpose of a
transaction.
Question
The paid-up Share Capital of AVS Private Limited is Rs. 1 crore, consisting of 8 lacs
Equity Shares of Rs. 10 each, fully paid-up and 2 lacs Cumulative Preference Shares of
Rs. 10 each, fully paid-up. XYZ Private Limited and BCL Private Limited are holding 3 lacs
Equity Shares and 1,50,000 Equity Shares respectively in AVS Private Limited.

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XYZ Private Limited and BCL Private Limited are the subsidiaries of TSR Private Limited.
With reference to the provisions of the Companies Act, 1956, examines whether AVS
Private Limited is a subsidiary of TSR Private Limited ? Would your answer be different if
TSR Private Limited has 8 out of total 10 directors on the Board of Directors of AVS
Private Limited? (PE-II, May 2007)
Answer
Holding, subsidiary relationship: For the purpose of determining whether a company is
subsidiary of another company, only equity shares issued by the first mentioned company
are to be taken into account [Section 4 (1) (b) (ii), of Companies Act, 1956]. Again, shares
held by a subsidiary company shall be treated as held by its holding company [Section 4
(3) (b) (ii)] If a company by itself or along with its subsidiaries holds more than half in
nominal value of the equity shares capital of another company, it will be considered as the
holding company of the other company [Section 4(3) (b) (ii) of companies Act, 1956]
In this case, the equity share capital of AVS Pvt. Ltd. is Rs. 80,00,000 consisting of
8,00,000 equity shares of Rs 10 each fully paid up XYZ and BCL Pvt. Ltd. are holding
4,50,000 (3,00,000+1,50,000) equity shares in AVS Pvt Ltd., TSR Pvt, Ltd will be treated
as holding more than half in nominal value of the equity share capital of AVS Pvt Ltd.
If TSR Pvt. Ltd. controls the composition of the Board of Directors of AVS Pvt. Ltd; it will
also be treated as holding company by virtue of Section 4 (1) (a). Hence the answer will
not be different.
Question
Which of the institutions are regarded as Public Financial Institutions under the
Companies Act, 1956? (PE-II, May 2004)
Answer
Public Financial Institutions
By virtue of Section 4A of the Companies Act, 1956 the following institutions are to be
regarded as public financial institutions:
(i) The Industrial Credit and Investment Corporation of India Ltd.
(ii) The Industrial Finance Corporation of India
(iii) The Life Insurance Corporation of India
(iv) The Industrial Development Bank of India
(v) The Unit Trust of India
(vi) The Infrastructure Development Finance Company Ltd.
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(viii) The Securitisation Co., or The Reconstruction Co. which has been registered under
the Securitisation and Reconstruction of Financial Assets and Enforcement of
Security Interest Act, 2002.
The Central Government is empowered under Section 4A(2) to add any other institution to
the above list. This addition has to be made through a notification, in the Official Gazette.
Secondly, the institution for being added to the existing list, (i) must have been
established or constituted by or under any Central Act; or (ii) at least 51% of the paid-up
share capital of such new institution is held or controlled by the Central Government. In
exercise of this power, the Central Government has notified more than 30 institutions as
Public Financial Institutions.
Miscellaneous Provisions (Sections 43-45)
Question
A public limited company has only seven shareholders, all the shares being fully paidup.
All the shares of one such shareholder are sold by the court in an auction and purchased
by another shareholder. The company continues to carry on business thereafter. Discuss
the liabilities of the shareholders of the company under the Companies Act, 1956.
(PE-II, Nov. 2008)
Answer
Consequences of membership falling below legal minimum
The problem in the question relates to reduction of membership below the statutory
minimum. Section 12 of the Companies Act, 1956 requires a public company to have a
minimum of seven members. If at any time the membership of a public company falls
below seven and it continues its business for more than six months, then according to
Section 45 of the Act every such member who was aware of this fact would be personally
and severally liable for all debts contracted by the company during the period and may be
severally sued for all debts contracted after six months.
Accordingly, in the given problem, the remaining six members shall incur personal liability
for the debts contracted by the company,
(i) If they continued to carry on the business of the company with that reduced
membership beyond the six month period.
(ii) Only those members who knew of this fact of reduced membership shall be liable.
(iii) The liability shall extend only to the debts contracted after six months from the date
of auction of that members shares.
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Question
UMC, Limited has only 7 shareholders having fully paid-up shares. On 30th April, 2009,
all the shares of x (a shreholder of the company) are sold to Y (another shareholder of the
company) in an auction by the order of the court. Z , (a shareholder of the company) was
in USA for a business trip from January and thus he was not aware of the developments.
The company continues to carry on its business thereafter. In December, 2009, the
company borrowed a sum of Rs. 5 lac from the Unique Bank. Later, the company was
wound up and the Assets of the company were not sufficient for the payment of its
Liabilities. The Bank filed a suit against Y and Z for recovery of the said loan from them.
Decide the Liabilities of Y and Z under the provisions of Companies Act, 1956. Would your
answer be the same, if the said loan was taken in the month of March, 2009?
Answer
The problem relates to reduction of membership below the statutory minimum. Section 12 of
the Companies Act, 1956 requires a public company to have a minimum of seven members. It
at any time the membership of a public company falls below seven and it continues its
business for more than six months, then according to Section 45 of the Act every such
member who was aware of this fact would be personally and severally liable for all debts
contracted by the company during the period and may be severally sued for all debts
contacted after six months.
Accordingly in the given problem:
(i) Y is personally liable for the payment of loan to the Unique Bank because the members
of the UMC Limited continued to carry on the business of the company with that
reduced membership beyond the six months period and Y knows this fact.
(ii) Z is not responsible for any debt because he is not aware about the reduced
membership.
(iii) If the said loan was taken in March 2009, only the company is responsible for the
payment of the loan. NO members shall be personally liable for the repayment.
Question
What will be the consequence in case a Private Company incorporated under the
provisions of the Companies Act,1956 defaults in complying with conditions constituting
Private Company in terms of Section 3 (1) (iii) of the Companies Act, 1956.
(PCE, Nov. 2008)

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Answer
Consequence in case of private company acting in contravention of Section 3(1) (iii)
of the Companies Act 1956:
A private company which has been constituted under Section 3(1) (iii) has the following
characteristics:
minimum 2 members
maximum 50, excluding employees and ex-employees who had become members
when they were employees
minimum 2 directors
with restrictions on transferability of shares
restrained from inviting public for share capital and from issuing prospectus
with minimum paid up capital of Rs.1 lakh
prohibited from accepting deposits from persons other than its members, directors
and their relatives.
Some other procedural concessions are also given under the Companies Act, 1956.
In accordance with the provisions of Section 43 of the Companies Act, 1956, if
contravention is made against complying with the provisions contained in Section 3 (1)
(iii), the company shall lose all the privileges and exemptions conferred on it by the Act,
and the provisions of the Act shall apply to it as if it were not a private company. But the
Company Law Board may relieve the company from such a consequence if it is satisfied
that the failure in compliance with the said requirement was not deliberate but was
accidental or inadvertent or that on other grounds it is just and equitable to grant relief.
Conversion of Public Company into A Private Company
Question
Define a Private Company. Explain the procedure for conversion of a Public Company into
a Private Company. (PE-II ,Nov 2000)
Answer
Definition of a Private Company: According to Section 3(1) (iii) of the Companies Act,
1956 a 'private company' means a company which has a minimum paid-up capital of one
lakh rupees or such higher paid-up capital as may be prescribed and by its articles:
(a) restricts the right to transfer its shares if any.
(b) limits the number of its members to 50 not including its employee members
(present or past) [Joint holders of shares are treated as a single member].
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(c) prohibits any invitation to the public to subscribe for any shares, or debentures of
the company.
(d) prohibits any invitation or acceptance of deposits from persons other than its
members, directors or their relations.
Procedure for conversion of a Public Company into a Private Company: A private
limited company, if it desires to convert itself into a public company will have to follow the
under-mentioned procedure:
(1) It should take the necessary decision in its board meeting and fix up the time, place
and agenda for convening a general meeting to alter the articles of association and
consequently the name by a special resolution as well as to alter by special
resolution the "object clause" of the memorandum subject to the confirmation of the
Company Law Board (Now Central Government) under Section 17 and by ordinary
resolution the share capital clause under Section 94 if the alteration of share
capital is involved in the process.
(2) The company has to see that any change in the articles confirms to the provisions
of the Companies Act [Section 31(1)] also to see that such change does not
increase the liability of any member who had become the member before the
alteration.
(3) It must issue notices for the general meeting in order to pass there at the special
resolutions together with the explanatory statements for the alteration of the
articles and the memorandum.
(4) It will have to convene the general meeting in order to pass there at the special
resolution (i) for the purpose of the alteration of the memorandum and article of
association; and (ii) also for the purpose of deleting those articles which are
required to be included in the articles of a private company only [Section 3(i)(iii)].
Such other articles which do not apply to a public company should be deleted and
those which apply should be inserted. Consequent upon the above changes, it will
have to delete the word "private" from its name [Section 21].
(5) It shall file either the prospectus in the Form prescribed under Schedule II or the
statement in lieu of prospectus in the form prescribed under Schedule IV within 30
days of the passing of the resolution mentioned in (4) above in the manner stated in
Section 44.
The-aforesaid prospectus or the statement in lieu of the prospectus must be in
conformity with Parts I and II of Schedule IV respectively.
(6) In the matter of the prospectus or the statement in lieu of the prospectus the
company has to adopt abundant caution against any untrue statement being
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included therein, because inclusion of untrue statement will attract penalty by virtue
of Section 44(4). It may be noted that a statement included in a prospectus or
statement in lieu of prospectus shall be deemed to be untrue if it is misleading in
the form and context in which it is included. Likewise, where the omission from
prospectus or a statement in lieu of prospectus of any matter is calculated to
mislead, it shall be deemed, in respect of such omission, to be a prospectus or a
statement in lieu of prospectus in which an untrue statement is included.
(7) It shall file with the concerned stock exchange 6 copies of such amendments on
both articles and memorandum, one of which must be a certified copy.
(8) It shall file with the Registrar the said special resolution together with the
explanatory statement within 30 days of their passing [Section 192].
(9) It must take some of the steps regarding further issue of capital under Section 81
which are not in common with the steps discussed in relating to further issue of
shares.
(10) The company has to apply to the Registrar for the issue of a fresh certificate of
incorporation for the changed name, namely, the existing name with the word
"private" deleted. On issue of such certificate shall be name of the converted
company be final and complete [Section 23].
Procedure for Conversion of A Private Company into A Public Company
Question
What is the procedure laid down in the provisions of the Companies Act, 1956 for
converting a private company into a public company? (PE-II, May 2004)
Or
Board of Directors of a private company decided to convert it into a public company. State
the steps to be taken for such conversion in order to comply with the requirements under
the Companies Act,1956. (PCE, Nov. 2007)
Answer
Conversion of Private Company into a Public Company
Procedure for conversion of a private company into a public company is as follows:
(i) Take necessary decision in its Board Meeting and fix up time, place and Agenda for
convening Annual General Meeting.
(ii) Amend Memorandum to change its name by removing the word Private by a
special resolution. Approval of Central Government is not necessary for change of
name.
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(iii) Must pass a special resolution deleting from its articles the requirements of a
private company under Section 3(1)(iii). Such other articles which do not apply to a
public company should be deleted and those which apply should be inserted. A
copy of the special resolution must be filed with the Registrar of Companies within
30 days. It becomes a public company on the date of alteration [Section 44(1)(a)].
(iv) Increase the number of shareholders to at least 7 and number of directors to at
least 3.
(v) Within 30 days from the passing of the Special Resolution, a prospectus or a
statement in lieu of prospectus in the prescribed form must be filed with the
Registrar [Section 44(1)].
(vi) The aforesaid prospectus or the statement in lieu of prospectus must be in
conformity with Part I and II of Schedule II or with Part I and II of Schedule IV
respectively. The prospectus or statement in lieu of prospectus must be true and
not misleading [Section 44(2) and (3)].
(vii) The company has to apply to the Registrar for the issue of a fresh Certificate of
Incorporation, for the changed name, namely, the existing name with the word
private deleted.
Question
Sparkle Infotech Ltd. was registered as a Public Company. There are 76 members in the Company
as stated below:
(i) Directors and their relatives 36
(ii) Employees 12
(iii) Ex-employes (shares were allotted when they were employees) 8
(iv) 7 couples holding shares jointly in the names of husband and wife (7X2) 14
(v) Others 6
Total number of members 76
The Board of Directors of the Company proposes to convert it into a Private Company. Advise the
Board of Directors about the steps to be taken for conversion into a Private Company including
reduction in the number of members, if necessary, as per the Companies Act, 1956.
(PE-II, May 2010)
Answer
A private company as per Section 3 (1)(iii) cannot have more than 50 members, but for counting
these 50 members, employee members and ex-employee members (provided they acquired the
shares while in employment) are to be excluded. Besides, joint members are to be counted as a
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single member. Accordingly, the total number of members are actually 36 +7+6+=49 only. No
reduction in membership is therefore called for .
The procedure for converting a public company will require:
(i) Passing of a Special Resolution authorizing the conversion and altering the articles so as to
contain the matters specified in Section 3(1)(iii).
(ii) Changing the name of the company by omitting the Private . As per Section 21, it does not
require special resolution to be passed.
(iii) Obtaining the approval of the Registrar of Companies as required by Section 31.
(iv) Filing of printed copy of the articles with registrar as altered within one month of the receipt
of the approval [Section 31 (2A)].
Privileges and Exemptions
Question
Define Private Company. Briefly explain the privileges and exemptions for a private
company as provided under the Companies Act, 1956.
Answer
A private company means a company which has a minimum paid-up capital of one lakh
rupees or such higher paid-up capital as may be prescribed, and by its articles
(a) restricts the right to transfer its shares, if any;
(b) limits the number of its members to fifty;
(c) prohibits any invitation to the public to subscribe for any shares in, or debentures
of, the company;
(d) prohibits any invitation or acceptance of deposits from persons other than its
members, directors or their relatives.
It enjoys some privileges and exemptions, which a public company is deprived of. These
are as follows:
1. Two or more persons may form a private company [Section 12(1)].
2. It need not hold a Statutory Meeting or file a statutory report [Section 165].
3. The consent of directors to act as such, and to take up qualification shares need
not be filed with the Registrar [Section 266].
4. There is no restriction on the amount of overall managerial remuneration that it may
pay [Section 198].
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5. The directorship of a private company is not includible in the maximum number of
directorships that a person may hold [Section 310].
6. The consent of the Central Government for advancing loans to directors is not
required [Section 295].
7. There are no restrictions on the powers of the Board of Directors [Section 293]
8. The Central Government is not empowered to prevent a change in the Board of
Directors of a company, which is likely to affect management prejudicially [Section
409].
9. It can advance loans for the purchase of its own shares [Section 77(2)].
Question
Whether a limited company can become partner in a partnership firm?
Answer
One of the important features of a company is an artificial juristic person. Being a juristic
person, company is capable of entering into contract in its own name. According to
Section 4 of the Partnership Act, 1932, partnership is a contractual relationship between
persons; therefore, there should not be any objection to a company in becoming partner.
Further, the limited liability element of a limited company is also do not restrict a company
in becoming a partner in an unlimited liability of a partnership firm, because, it is limited
liability of members of a limited company and not the company itself. However, the
Ministry of corporate affairs is in the opinion that, a company may become a partner if the
Memorandum of Association specifically allows it.
When Companies must be Registered?
Question
The United Traders Association was constituted by two joint Hindu Families consisting of
21 major and 5 minor members. The Association was carrying on the business of trading
as retailers with the object for acquisition of gains. The Association was not registered as
a company under the Companies Act, 1956 or any other law.
State whether United Traders Association is having any legal status? Will there be any
change in the status of this Association if the members of the United Traders Association
subsequently were reduced to 15? (PCE, Nov. 2009)
Answer
Section 11 of the Companies Act, 1956 provides that no company, association or partnership
consisting of more than 10 persons for the purpose of carrying on the business of banking and
more than 20 persons for the purpose of carrying on any other business can be formed unless
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it is registered under the Companies Act or is formed in pursuance of some other Indian Law.
Thus if such an association violates the provisions of Section 11 it is an Illegal Association
although none of the objects for which it may have been formed is illegal.
This Section does not apply to a joint Hindu family but where the business is being carried
on by two or more joint Hindu families the provisions of Section 11 shall be applicable. For
computing the number of members for this purpose, minor members of such families shall
be excluded.
Hence, the United Traders Association constituted by two joint Hindu Families is an Illegal
Association according to the provisions of Section 11 as stated above.
Further such Association of more than 20 persons, if unregistered is invalid at its
inception and cannot be validated by subsequent reduction in the number of members to
below 20 (Madan Lal vs. Janki Prasad 4 All 319).
Mode of Registration/Incorporation of Companies
Question
Explain in brief the mode of incorporation of a company.
Answer
Mode of registration/incorporation of company: In the case of a public company with
or without limited liability any 7 or more persons can form a company by subscribing their
names to memorandum and otherwise complying with the requirements of the Companies
Act, 1956. In exactly the same way, 2 or more persons can form a private company
[Section 12]. Persons who form the company, who conceive the idea of forming the
company are known as promoters. They take all necessary step for its registration.
(a) Lawful purpose: The essence of validly incorporated company is that it must
consist of a particular number of persons and be an association for a lawful
purpose. Unless the purpose appears to be unlawful ex facie or is transparently
illegal or prohibited by way of statute, it cannot be regarded as an unlawful
purpose.
(b) Applying for the name: The promoters of the company should decide upon at
least three suitable names in order of preference to afford flexibility to the Registrar
to decide the availability of the name.
(c) Documents to be filed: After getting the name approved, the certain documents
along with the application and prescribed fees, are to be filed with the Registrar.
(d) Subscribing their names: Subscribing name means signing the names. Section 15
stipulates that the Memorandum should be signed by each subscriber who should
add his address, description and occupation in the presence of one witness.
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(e) Commencement of business
(f) Statement in Lieu of Prospectus: If a public company does not issue a
prospectus inviting the public to purchase its share because, the directors think
they can sell the shares even without the issue of the prospectus, it can do so.
(g) Certificate of incorporation: Upon the registration of the documents mentioned
earlier under the head Documents to be filed for registration of the company and
the payment of the necessary fees, the Registrar of Companies issues a certificate
that the company is incorporated, and in the case of a limited company that it is
limited.
Question
What are the documents that have to be filed at the time of registration of a company to
the Registrar?
Answer
Documents to be filed: After getting the name approved, the following documents along
with the application and prescribed fees, are to be filed with the Registrar:
(1) Memorandum of Association [Section 33(1)(a)].
(2) Articles of Association, if any [Section 33(1)(b)].
(3) The agreement, if any, which the company proposed to enter into with any
individual for appointment as its managing or whole time director or manager
[Section 33(1)(c)].
(4) A declaration that the requirements of the Act and the rules framed there under have
been complied with. This declaration is required to be signed by an advocate of the
Supreme Court or High Court or an attorney or a pleader having the right to appear
before High Court or a secretary, or a chartered accountant in whole time practice in
India who is engaged in the formation of a company, or by a person named in the
articles as a director, manager or secretary of the company [Section 33(2)].
(5) In case of a public company having share capital, where the articles name a person
as director/directors, the list of the directors and their written consent in prescribed
form to act as directors and take up qualification shares [Section 266].
Besides the aforementioned documents, the company must give a notice regarding the
situation of its registered office under Section 146 within 30 days of registration.
Question
What is the meaning of Certificate of Incorporation under the provisions of the
Companies Act, 1956? (PE-II, Nov.2005)
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Answer
Certificate of incorporation: Upon the registration of the documents required for
registration of a proposed company and filed by such company along with the necessary
fee, the Registrar of Companies issues a certificate that the company is incorporated and
in the case of a limited company, that it is limited (Section 34 of the Companies Act,
1956).
Section 35 provides that the certificate of incorporation given by the Registrar in respect
of all the requirements of this Act have been complied with in respect of registration and
matters precedent and incidental thereto, and that the association is a company
authorized to be registered and duly registered under this Act. A certificate of
incorporation is conclusive as to all administrative acts relating to incorporation and as to
from the date of incorporation (Jubilee Cotton Mills vs. Lewis)
Commencement of Business: A private company can commence its business as soon as
it gets Certificate of Incorporation. But a company having a share capital which has
issued a prospectus inviting the public to subscribe for its shares cannot commence any
business or exercise borrowing power unless:
(a) The minimum number of shares which have to be paid for in cash has been
subscribed and allotted.
(b) Every director has paid, in respect of share for which he is bound to pay an amount
equal to what is payable on shares offered to the public on application and
allotment.
(c) No money is or may become liable to be paid to application of any shares or
debentures offered for public subscription by reason of any failure to apply for or to
obtain permission for the shares or debentures to be dealt in any recognised stock
exchange; and
(d) A statutory declaration by the secretary or one of the directors that the aforesaid
requirements have been complied with is filed with the Registrar.
If, however, a company having a share capital has not issued a prospectus inviting the
public to subscribe for its shares, it cannot commence any business or exercise borrowing
powers unless it has issued a statement in lieu of prospectus and the conditions
contained in paragraph (b) and (d) aforesaid have been complied with.
The Registrar of Companies shall examine them and if satisfied, shall issue to the
company a certificate to commence business.
Question
What are the effects of registration of a company?
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Answer
Section 34(2) of the Companies Act, 1956 which provides for the effect of incorporation
states that: From the date of incorporation mentioned in the certificate of incorporation,
such of the subscribers to the Memorandum and other persons, as may from time to time
be members of the company, shall be a body corporate by the name contained in the
memorandum, capable forthwith of exercising all the functions of an incorporated
company and having perpetual succession and a common seal, but with such liability on
the part of the members to contribute to the assets of the company in the event of its
being wound up as is mentioned in the Companies Act.
Accordingly, when a company is registered and a certificate of incorporation is issued by
the Registrar, three important consequences follow:
(i) The company becomes a distinct legal entity. Its life commences from the date
mentioned in the certificate of incorporation.
(ii) It acquires a perpetual succession. The members may come and go, but it does on
for ever, unless it is wound up.
(iii) Its property is not the property of the shareholders. The shareholders have a right
to share in the profits of the company when realised and divided. Likewise any
liability of the company is not the liability of the individual shareholders.
Question
The Memorandum of Association of a company was signed by two adult members and by
a guardian of the other five minor members, the guardian signing separately for each
minor member. The Registrar registered the company and issued under his hand a
certificate of incorporation. The plaintiff contended that (a) conditions of registration were
not duly complied with, and (b) that there were no seven subscribers to the Memorandum.
Will the Court uphold his contention?
Answer
No. The certificate of incorporation is conclusive for all purposes. According to Section 35
of the Companies Act, 1956 a certificate of incorporation given by the Registrar in respect
of any association shall be conclusive evidence that all requirements of this Act have
been complied with in respect of registration and matters precedent and incidental
thereof, and that the association is a company authorised to be registered and duly
registered under this Act.
Question
A Company was incorporated on 6
th
October, 2003. The certificate of incorporation of the
company was issued by the Registrar on 15th October, 2003. The company on 10th
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October, 2003 entered into a contract, which created its contractual liability. The company
denies from the said liability on the ground that company is not bound by the contract
entered into prior to issuing of certificate of incorporation. Decide, under the provisions of
the Companies Act, 1956, whether the company can be exempted from the said
contractual liability. (PE-II, Nov. 2003)
Answer
Certificate of Incorporation and the binding effect:
Upon the registration of the documents as required under the Companies Act, 1956 for
incorporation of a company, and on payment of the necessary fees, the Registrar of
Companies issues a Certificate that the company is incorporated (Section 34).
Section 35 provides that a certificate of incorporation issued by the Registrar is conclusive
as to all administrative acts relating to the incorporation and as to the date of incorporation.
The facts as given in the problem are similar to those in case of Jubilee Cotton Mills v.
Lewis (1924) A.C. 1958 where it was held that an allotment of shares made on the date after
incorporation could not be declared void on the ground that it was made before the company
was incorporated when the certificate of incorporation was issued at a later date.
Applying the above principles the contention of the company in this case cannot be
tenable. It is immaterial that the certificate of incorporation was issued at a later date.
Since the company came into existence on the date of incorporation stated on the
certificate, it is quite legal for the company to enter into contracts. To conclude the
contracts entered into by the company before the issue of certificate of incorporation shall
be binding upon the company. The date of issue of certificate is immaterial.
Question
The promoters of your company incorporated on 10th September, 2009 has entered into a
contract with A on 7th August, 2009 for supply of goods. After incorporation, your company does
not want to proceed with the contract. As a Company advisor, advise the management of the
company, referring to the provisions of the Companies Act, 1956. (PE-II, May 2010)
Answer
Pre-incorporation contracts in general are void ab initio, and hence not binding on the company.
However, under Section 19(e) of the Specific Relief Act, 1963, the party to the contract can enforce
the contract against the company, if
(i) the company had adopted the same after incorporation; and
(ii) the contract is warranted by the terms of incorporation.
Thus, unless the company adopts the contract, the other party cannot enforce the same
against the Company. However, promoters can be held personally liable.
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Question
Though six out of seven signatures to the Memorandum of Association of a company were
forged, the company was registered and the Certificate of Incorporation was issued. Can
the registration of the company be challenged subsequently on the ground of forged
signatures? (PE-II, May 2007)
Answer
No. Registration cannot be challenged. Section 35 of the Companies Act 1956 declares
that certificate of incorporation given by the Registrar in respect of any company shall be
conclusive evidence that all the requirements of the Act have been complied with in
respect of registration and matters precedent and incidental thereto, and that the
association is company authorized to be registered and duly registered under the Act.
(Peels Case)
Question
Mr. Ram Lal and his friend desire to incorporate a Public Company and approach you for
help. Advise. (PCE, May 2007)
Answer
1. A name must got allotted out of a choice of three.
2. Seven members (minimum) must be ready to sign as subscribers to the MOA and
AOA.
3. MOA and AOA with necessary objects and clauses should be prepared on stamp
paper according to State Stamp Act.
4. Consent must be given in Form No. 32 for becoming a Director. List of directors
must also be filed.
5. Form No. 18 showing address of the registered office is also another document.
6. Form No. I Declaration by a Professional or Director is also necessary on the
requisite stamp paper.
7. The name available letter should be filed in Original.
8. A power of attorney on non-judicial stamp paper for making corrections and
receiving Incorporation Certificate is necessary.
9. Fees for registration of a company depending upon the authorised capital must also
be paid.
After satisfaction of the above requirements, the ROC issues a certificate staling that the
public company has been incorporated.
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Question
The Articles of a Public Company clearly stated that Mr. A will be the solicitor of the
company. The company in its general meeting of the shareholders resolved unanimously
to appoint B in place of A as the solicitor of the company by altering the articles of
association. Examine, whether the company can do so ? State the reasons clearly
(PCE, Nov. 2008)
Answer
According to Section 36(1) of the Companies Act,1956, the memorandum and articles
shall, when registered, bind the company and the members thereof to the same extent as
if they respectively had been signed by the company and by each member and combined
covenants on its and his part to observe all the provisions of the memorandum and
articles. Section 36 creates an obligation binding on the company in its dealings with the
members but the word members in this Section means members in their capacity as
members, that is, excluding any relationship which does not flow from the membership
itself. Therefore even a member cannot enforce the provisions of articles for his benefit in
some other capacity than that of a member.
Section 31 also provides that the company may by special resolution alter its articles. In
the given problem the company has changed its articles by passing resolution
unanimously and therefore the company can change its articles. The provision of
memorandum and articles will bind the members but in the capacity of a member only and
even a member may be treated as an outsider. Therefore a member cannot enforce the
provisions of articles for his benefit in some other capacity than that of a member. In the
given case A will not succeed and the company is empowered to appoint B as a solicitor
of the company and may change the articles accordingly. The problem is based upon the
decision held in Eley vs. Positive Govt. Security Life Assurance Co. (1876).
Memorandum of Association
Question
Explain fully the doctrine of Ultravires and state its implications. (PE-II, Nov. 2001)
Or
Briefly explain the doctrine of ultravires under the Companies Act, 1956. What are the
consequences of ultravires acts of the company? (PE-II,Nov. 2003)
Answer
The objects or the acts which a Company is empowered to do are specified in the
Memorandum of Association of the company and the company cannot cross the boundary
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drawn by the Memorandum of Association. The company is empowered to do only such
acts which are:
(a) within the framework of the Memorandum i.e. stated in clear terms in the
Memorandum of Association of the company, or
(b) which are reasonably and fairly incidental to the attainment of its objects, or
(c) which are otherwise authorised by the Companies Act. If the company does any acts
which are not covered under the three categories, such acts shall be beyond the power
of the company and shall be declared ultravires the Memorandum of the Company.
The term ultravirus means beyond powers. A company binds itself to work within the
frame work of those objects as stated in its Memorandum of Association and if it does
any act beyond the scope of its objects clause, then act or acts is declared as ultra
virus. These ultra vires acts may be categorized under the following three heads:
(i) Acts ultra virus the directors, i.e. acts beyond the powers of the Directors of the
company. Such are not altogether void and inoperative. They can be ratified by the
shareholders in a general meeting.
(ii) Acts ultra vires the Articles of Association of the company, i.e. the acts which are
beyond the powers of the company given to it by its Articles of Association. These
acts are also not altogether void and inoperative. They can also be ratified by the
company, by altering the articles through a Special Resolution.
(iii) Acts ultra vires the Memorandum of Association of the company, i.e. acts which are
beyond the powers of the company given to it by its Memorandum of Association.
As a matter of fact such acts are beyond the legal powers of the company and
therefore, known as ultra vires the company . These Acts are wholly void and
inoperative; they cannot be ratified since they are beyond the legal powers, of the
company. The company, therefore, is not bound by such acts at all. Most important
thing is, that such acts cannot be ratified even by the whole body of the
shareholders of the company.
The decisions given in the following leading cases, have proved the point in question,
that ultra vires acts of the company are void and inoperative wholly. The cases are:
(1) Ashbury Railway Carriage and Iron Co. Ltd. V. Riche (I875)
(2) Re German Date Coffee Co. (1882)
(3) Egyptian Salt Co. v. Port said Salt Association (1931)
Implications of ultra vires Acts:
Their implications can be stated as under:
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(1) Injunction against the Company: Any member of the company can obtain
injunction from the court i.e. an order from the court to restrain the company
from proceeding with the ultra vires acts.
(2) Personal liability of the Directors: The directors of the company are
personally liable to the company for the ultra vires acts. It is the duty of the
directors to see that the companys capital is used for the legitimate objects
of the company and not otherwise. However, if the person receiving the
money knows that he is receiving payment for an ultra vires act, then he is
bound to return the money back to the director.
(3) Personal liability of the directors to third parties: Directors action is treated to
be an action of an agent who acts beyond his authority and, therefore, .the
directors for ultra vires act(s) shall be held personally liable towards the third
party for any loss suffered by such third parties.
(4) Ultra vires contracts are void: This is because of the fact, that the Company
is not empowered to enter into such contracts, as well such contracts cannot
become inter vires by subsequent ratification even by the shareholders of the
company.
A contract of a company which is ultra vires the company is void ab initio and of no
legal effect. Neither the company nor other contracting party can enforce the ultra
vires contract. The company may, however, alter the objects clause for the future,
but such alteration will not validate the past ultravires acts done.
Question
X, a chemical manufacturing company distributed 20 lacs (Rs. Twenty Lacs) to scientific
institutions for furtherance of scientific education and research. Referring to the provisions
of the Companies Act, 1956 decide whether the said distribution of money was "Ultra
vires' the company? (PE-II, Nov. 2007)
Answer
Distribution of Rupees Twenty Lacs by a company engaged in Chemical manufacturing is
not 'Ultravires' the company since it was conducive to the continued growth of the
company as chemical manufacturers (Evans v. Brunnner, Mood & Co. Ltd. 1921).
Question
Explain the doctrine of Ultra-vires. What are the legal effects of ultra-vires transactions
under the Companies Act, 1956? (PE-II, May 2008)
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Answer
Doctrine of Ultravires, the Companies Act, 1956
A company has the power to do all such things as are:
1. Authorised to be done by the Companies Act, 1956;
2. Essential to the attainment of its objects specified in the Memorandum.
3. Reasonably and fairly incident to its objects.
Everything else is ultra vires the company. The term ultra vires means that the doing
of the act is beyond the legal power and authority of the company. If an act is ultra
vires the company, no legal relationship or effect ensues there from. Such an act is
absolutely void and even the whole body of shareholders cannot ratify it and make it
binding on the company. The leading case on the point is Ashbury Rly. Carriage &
Iron Co. Ltd. Vs. Riche where it was held that a company being a corporate person
should not be fined or punished for its own acts or an act of its agent, if it is beyond
its powers and privileges. Main features of the doctrine of ultra vires are:
1. when an act is performed or a transaction is carried out which, though legal
itself, is not authorized by the objects clause in the memorandum or by
statute, it is said to be ultra vires the company.
2. if an act is ultra vires the company, it cannot be ratified even by the whole
body of shareholders.
3. if an act is ultra vires the directors, but intra vires the company, it can be
ratified by the whole body of shareholders.
4. if an act is ultra vires the Articles, it can be ratified by altering the Articles by
a special resolution at a general meeting.
Effect of ultra vires transaction and borrowing: An ultra vires transaction being void
does not vest the transferee with any right; nor does it divest the transferor. It
means the transferor does not lose any right and the transferee does not get any
right.
Alteration of the Memorandum
Question
The Directors of a company registered and incorporated in the name Mars Textile India
Ltd. desire to change the name of the company entitled National Textiles and Industries
Ltd. Advise as to what procedure is required to be followed under the Companies Act,
1956? (PE-II, May 2003 & May 2006)
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Answer
Change in the name of company:
In the first instance, Mars Textile India Ltd., should ascertain from the Registrar of
Companies whether the proposed name viz. National Textiles and Industries Ltd. is
available or not. For this purpose, the company should file the prescribed Form No.1A
with the Registrar along with the necessary fees. The Registrar after examination will
inform whether the new name is available or not for registration.
In case the name is available, the company has to pass a special resolution approving the
change of name to National Textiles and Industries Ltd.
Thereafter the approval of the Central Government should be obtained as provided in
Section 21 of the Companies Act, 1956. The power of Central Government in this regard
has been delegated to the Registrar of companies. Thus, the company has to file an
application along with the prescribed filing fee for change of name. The change of name
shall be complete and effective only on the issue of a fresh certificate of incorporation by
the Registrar. The Registrar shall enter the new name in the Register in place of the
former name. The change of name shall not affect any rights or obligations of the
company and it shall not render defective any legal proceedings by or against it.
Question
M/s India Computers Ltd. was registered as a Public Company on 1
st
July, 2005 in the
State of Maharashtra. Another company by name M/s All India Computers Ltd. was
registered in Delhi on 15
th
July, 2005. The promoters of India Computers Ltd. have failed
to persuade the management of All India Computers Ltd. to change the companys name,
as it closely resembles with the name of the first registered company.
Advise the Management of India Computers Ltd. about the remedies available to them
under the provisions of the Companies Act, 1956. (PE-II, Nov. 2005)
Answer
Since the name of M/s India Computer Ltd., was registered earlier, on 1
st
July, 2005, the
promoters have a right to ask the management of M/s All India Computers Ltd to change
its name suitably as the said name closely resembles with that of the first registered
company. Since the management of M/s All India Computers Ltd., has not agreed, the
promoters of India computers Ltd., can approach the Central Government under Section
22 of the Companies Act, 1956 for rectification of the name of the company registered
subsequently. The Central Government can direct the second registered company for
correction. This direction can be given within 12 months from the date of registration of
the latter company and the said company has to comply with the direction within 3 months
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by changing its name suitably failing which penal provisions will become applicable. The
power of the Central Government under Section 22 has been delegated to the Regional
Director.
Question
India Cosmetics Limited was a registered company under the Companies Act, 1956. Later
on, another company, India Cosmetics and Accessories Limited was formed and
registered. There being similarity in the names of both the Companies, India Cosmetics
Limited lodged a complaint against India Cosmetics and Accessories Limited, with the
Registrar of Companies, stating that there is sufficient similarity between these two names
which may mislead or defraud the public. India Cosmetics and Accessories Limited is
intending to alter its name.
Advise India Cosmetics and Accessories Limited to alter the name of the Company
according to the provisions of the Companies Act, 1956. (PCE, June 2009)
Answer
Similarity in the names of Companies
In accordance with Section 22(1) of the Companies Act, 1956, if through inadvertence or
otherwise, a company on its first registration or on its registration by a new name, is registered
by a name which in the opinion of the Central Government, is identical with, or too nearly
resembles, the name by which a company in existence has been previously registered or
resembles a registered trademark, whether under this Act or any previous company law, the
first mentioned company, may by ordinary resolution and with the previous approval of the
Central Government, signified in writing, change its name or new name.
The problem asked in the question is based upon the provision of Section 22(1) of the
Companies Act, 1956. The new company registered under the name India Cosmetics
Accessories Ltd. is identical in name with the existing India Cosmetics Limited. According
to the aforesaid provisions of Section 22(1) the newly setup company should change its
name. In such a case, the company can, on its own, change the name by obtaining
previous approval of Central Government (new power delegated to Regional Director) and
then by passing an ordinary resolution [Section 22(1)(a)] within 12 months of the
registration. Such a change should be made within 3 months of the date of the direction of
the Central Government being received or such longer period as the Central Government
may deem fit to allow. The application for changing the name is required to be made to
the Registrar of companies in Form 1A with a fee of Rs. 500.
Where the name of a company has been changed the Registrar shall issue fresh
certificate of incorporation with the changed name. Such change of name shall not affect
any of the companys rights or obligations or affect any legal proceedings by or against it.
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Any legal proceedings which might have been continued or commenced by or against the
company by its former name, may be continued by its name under Section 23 of the
Companies Act, 1956.
Question
Explain the steps to be taken by a company for transfer of its registered office from one
State to another?
Answer
Procedure for shifting registered office from one state to another: A company can
change its registered office from one State to another only for purpose specified in
Section 17(1) of the Companies Act, 1956 and for no other purpose.
1. Resolution of the Board of Directors: The first step in changing registered office is
that the board of directors must adopt a resolution to that effect.
2. Special resolution: A special resolution must be passed by the company in the
general body meeting of shareholders/members. [Section 17(1)].
3. Confirmation by the CLB: The change shall not take effect unless and until it is
confirmed by the CLB on a petition by the Company. [Section 17(2)].
4. Notice to affected parties: Before confirming the change the CLB shall ensure that
sufficient notice has been given to every person whose interest will be affected by
the change and that the consent creditors of the company has been obtained or
their debts or claims have been discharged or secured. [Section 17(3)].
5. Notice to Registrar: The CLB shall cause notice of the petition for confirmation of
the change to be served on the Registrar. The Registrar shall also be given a
reasonable opportunity to appear before the CLB and state his objections and
suggestions, if any, with respect to the confirmation of the alteration. [Section
17(4)].
6. The CLB as it may think fit impose such terms and conditions.
7. Copy of the order to be filed with ROC's: A certified copy of the order confirming
the alteration, together with a printed copy of altered memorandum shall be filed by
the company with the registrar of each of the states who shall register the same. All
the records of the company shall be transferred.
The aforesaid copy of the order must be filed within three months from the date of the
order. The CLB before confirming a resolution will satisfy itself that sufficient notice has
been given to every creditor and all other persons whose interests are likely to be affected
by the alteration including the Registrar of Companies and the Government of the State in
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which the registered office is situated. In Orient Paper Mills Ltd v. State of AIR (1957) Ori.
232, it was observed that a State whose interests are affected by the change of the
registered office to a different State has a locus standi to oppose shift of the registered
office of a company. Accordingly, the Orissa High Court declined to confirm change of
registered office from Orissa to West Bengal on the ground that the State has the right to
protect its revenue and therefore the interest of the State must be taken into account.
But in Minerva Mills Ltd. v. Government of Maharashtra, the Bombay High Court held that the
CLB cannot refuse confirmation of the shifting of the registered office on the ground of loss of
revenue to a state or would adverse effects on the general economy of the State. Similar, view
was expressed in Rank Film Distributors of India Ltd v. Registrar of Companies, West Bengal.
Question
M/s ABC Ltd. a company registered in the State of West Bengal desires to shift its
registered office to the State of Maharashtra. Explain briefly the steps to be taken to
achieve the purpose.
Would it make a difference, if the Registered Office is transferred from the Jurisdiction of
one Registrar of Companies to the jurisdiction of another Registrar of Companies within
the same State? (PE-II, Nov. 2004)
Answer
Transfer of Registered Office of a Company
In order to shift the registered office from the State of West Bengal to the State of
Maharashtra, M/s ABC Ltd has to take the following steps:
(i) To pass a special resolution and thereafter file the same with the Registrar of
Companies.
(ii) To file a Petition before the Company Law Board under Section 17, of the
Companies Act, 1956.
(iii) To give an advertisement in two newspapers one in English language and the other
in local language indicating the change and any member/creditor having objection
can write to the Company Law Board.
(iv) To give notice to the State Government of West Bengal.
(v) To submit all the required documents along with the fee to Company Law Board.
The Company Law Board (Central Government)* after hearing the petition passes an
order confirming the alteration in the memorandum of association of the company
regarding the shifting of the registered office. The Company Law Boards (Central
Government)* order should be filed by ABC Ltd with both the Registrars of Companies
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West Bengal and Maharashtra. After registration of the said order the Registrar of
Companies Maharashtra will issue a certificate which is the conclusive proof that all the
formalities have been complied with.
Change of registered office from the jurisdiction of one Registrar to the other
Registrar within the same State: The procedure and law pertaining to the change of
registered office from the jurisdiction of one Registrar to the other Registrar within the
same State is contained in Section 17A of the Companies Act, 1956 as amended upto
date is as follows:
(i) Company can do so only if the Regional Director permits to it.
(ii) Application for permission has to be made on a prescribed form.
(iii) The Regional Directors are required to confirm the Companys application and
inform it accordingly within a period of four weeks.
(iv) After getting the confirmation of the Regional Director, the company must file a
copy of the same with the Registrar of Companies within two months from the date
of the confirmation together with a copy of the altered memorandum.
(v) The Registrar is required to register the same and inform the company within one
month from the date of filing.
(vi) The Registrars certificate is a conclusive evidence of the fact of alteration and of
compliance with the requirements (Section 17-A).
(*Note: Students may kindly note that, all Sections of the Companies (Second
Amendment) Act, 2002 have not come into force. Till such time, jurisdiction of Company
Law Board will continue to remain unchanged.)
Question
XY Ltd. has its registered office at Mumbai in the State of Maharashtra. For better
administrative conveniences the company wants to shift its registered office from Mumbai
to Pune (State of Maharashtra). What formalities the company has to comply with under
the provisions of the Companies Act, 1956 for shifting its registered office as stated
above? Explain. (PE-II, Nov. 2006)
Answer
According to Section 17A read with Section 146 of the Companies Act, 1956, the following
procedure is to be followed by the company for shifting of the registered office of the
company:
(i) A special resolution is required to be passed at a general meeting of the share
holders.
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(ii) Confirmation of Regional Director is to be obtained and for this company has to
apply in the prescribed form.
(iii) The Regional Director shall convey his confirmation within four weeks from the date
of receipt of the application.
(iv) Copy of the special resolution within 30 days and certified copy of the confirmation
along with a printed copy of the altered memorandum of association must be filed
with the Registrar of companies within 2 months from the date of confirmation.
(v) Within one month of the filing, the Registrar of companies shall certify registration,
which shall be the conclusive evidence that all requirements with respect to
alteration and conformation have been complied with.
Question
VD Company Ltd. is registered in Tamil Nadu within the jurisdiction of the Registrar of
Companies, Chennai. The company proposes to shift its registered office to a place within
the jurisdiction of Registrar of Companies, Coimbatore. State the steps to be taken by the
company to give effect to the proposed shifting of its registered office. (PCE ,May 2008)
Answer
Change of registered office from the jurisdiction of one ROC to another within same
State (Section 17-A of the Companies Act, 1956) : In this case the company has to
comply with the provisions of Section 17-A of the Companies Act, 1956. The proposed
change of registered office from the jurisdiction of ROC, Chennai to ROC, Coimbatore will
be effective only after such change is confirmed by the Regional Director who shall
communicate the confirmation within 4 weeks from the date of receipt of application.
Certified copy of the confirmation along with the attested copy of the Memorandum of
Association must be filed with ROC under whose jurisdiction the Registered Office is
being shifted within 2 months from the date of confirmation. The Registrar will issue
Registration certificate within one month of filing the documents. The certificate shall be
conclusive evidence that all the requirements of the Companies Act, 1956 have been
complied with
Question
State with reason, whether the following statement is correct or incorrect, according to the
Companies Act, 1956.
Change of Registered Office of Company from one place to another within a State requires
confirmation by the Regional Director. (PE-II, May 2010)

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Answer
Correct. A company can change the place of its Registered Office from one place to another within
a State, if it s confirmed by the Regional Director. For this purpose the Company has to make an
application to the Regional Director for confirmation.
Question
The object clause of the Memorandum of Association of LSR Private Ltd, Lucknow
authorized it to do trading in fruits and vegetables. The company, however, entered into a
Partnership with Mr. J and traded in steel and incurred liabilities to Mr. J. The Company,
subsequently, refused to admit the liability to J on the ground that the deal was Ultra
Vires the company. Examine the validity of the companys refusal to admit the liability to
J. Give reasons in support of your answer. (PE-II, May 2007)
Answer
In terms of Companies Act, 1956, the powers of the company are limited to:
(i) Powers expressly given by the Memorandum (which is popularly known as express
power or conferred by the Companies Act 1956, or other statute and
(ii) powers reasonably incidental or necessary to the companys main purpose (termed
as Implied powers). The Act further provides that the acts beyond the powers of a
company are ultra vires and void and cannot be ratified even though every member
of the company may give his consent [Ashbury Railway Carriage Company Vs
Richee]
The object clause enable shareholders, creditors or others to know what its powers are
and what is the range of its activities and enterprises. The objects clause therefore is of
fundamental importance to the share holder, creditors and others.
M/s LSR Pvt. Ltd is authorised to trade directly on fruits and vegetables. It has no power
to enter into a partnership for Iron and steel with Mr. J. Such act can never be treated as
express or implied powers of the company. Mr J who entered into partnership is
deemed to be aware of the lack of powers of M/s LSR (Pvt) Ltd. In the light of the above,
Mr, J cannot enforce the agreement or liability against M/s LSR Pvt. Ltd. Mr. J should be
advised accordingly. This conclusion is supported by the decision reported in the case of
The Ganga Mata Refinery Company (Pvt) Ltd CIT.
Question
The Memorandum of Association of a company was presented to the Registrar of
Companies for registration and the Registrar issued the certificate of incorporation. After
complying with all the legal formalities a company started a business according to the
object clause, which was clearly an illegal business. The company contends that the
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nature of the business cannot be gone into as the certificate of incorporation is
conclusive. Answer the question whether companys contention is correct or not.
(PE-II, Nov. 2008)
Answer
Object clause
The subscribers to the memorandum may choose any object or objects for the purpose of
their company. However there are two restrictions on the selection of object for a
company:
(i) the object should not include anything which is illegal or contrary to law or public
policy.
(ii) the objects should not also contemplate doing anything which is prohibited by the
Companies Act.
On applying the above provision in the present problem, the companys contention is
wrong. Though a certificate of incorporation is a conclusive evidence of its registration,
that is, it is conclusive evidence as to the fact that all requirements of the Companies Act
for the incorporation of a company have been complied with, and that now company is a
legal entity but, it does not mean that all its objects are legal. In Bowman v. Secular
Society Ltd., the court held that the statute does not provide that all or any of the objects
specified in the memorandum, if otherwise illegal, would be rendered legal by the
certificate. Therefore, the contention of the company that the nature of business cannot be
gone into after the certificate of incorporation has been obtained is not tenable.
Question
What are the purposes for which objects can be altered by a company under the
Companies Act, 1956? Briefly explain the procedure to be applied to such matters.
(PE-II, May 2001& 2004)
Or
State the purposes for which the object clause of the Memorandum of Association of a
public limited company, registered under the Companies Act, 1956, can be altered.
(PE-II, May 2007)
Answer
Alteration of Objects
Section 17 of the Companies Act, 1956 permits the alteration of the objects, only so far as
is considered necessary for specified purpose. Such purposes are as under [Section
17(1)]:
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(a) to carry on business more economically.
(b) to attain the main purpose of the company by new or more improved means.
(c) to carry on some business which under the existing circumstances may
conveniently or advantageously be combined with the existing business.
(d) to change and enlarge the local areas of operations.
(e) to restrict or abandon any of the existing objects.
(f) to sell or dispose of the whole or any part of the undertaking.
(g) to amalgamate with any other object or body of persons.
Procedure
Companies are now under liberty to alter the object clause of the memorandum of
association without the confirmation from Company Law Board. However, alteration can
be made only on the grounds stated above.
Object clause can be altered simply by passing a special resolution in general meeting of
members. The special resolution should be filed with the Registrar of Companies within
one month from the date of resolution along with a printed copy of the memorandum as
altered. The Registrar will register the document and issue a certificate, which will be
conclusive evidence that all the requirements with respective alterations have been
complied with and memorandum so altered shall be the memorandum of the company.
If the documents required to be filed with the Registrar under Section 18 are not filed
within the prescribed time, the alteration shall at the expiry of such period, become void
and inoperative (Section 19).
Question
The management of Ambitious Properties Ltd., has decided to take up the business of
food processing activity because of the downward trend in real estate business. There is
no provision in the object clauses of the Memorandum of Association to enable the
company to carry on such business. State with reasons whether its object clause can be
amended. State briefly the procedure to be adopted for change in the object clause.
(PE-II, May 2005)
Answer
Section 17(1) of the Companies Act, 1956 permits a company to alter its objects for the
under mentioned purposes:
(1) to carry on business more economically;
(2) to attain the main purpose of the company by new and improved means;
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(3) to carry on some business which the existing circumstances may conveniently or
advantageously the combined with be existing business;
(4) to change and enlarge the local area of operations;
(5) to restrict or abandon any of the existing objects;
(6) to sell or dispose of the whole or any part of the undertaking;
(7) to amalgamate with any other company or body of persons.
The case of the company is covered under point No. 3 above and therefore the company
can amend its object clause to take up the business of Food Processing activity.
PROCEDURE
The company should amend the object clause by passing a special resolution in a general
meeting.
File with the Registrar of Companies, a copy of the special resolution within one month
from the date of passing of such resolution together with a printed copy of the
memorandum as altered and the Registrar shall register the same and certify the
registration under his hand written one month from the date of filing of such documents.
The certificate is a conclusive evidence that all the requirements with respect to the
alteration have been complied with and the memorandum so altered shall be the
Memorandum of Association of the company.
Question
A company was started with the object of building A mall with shops. The building was
destroyed by fire and the company wanted to alter the objects clause in the memorandum
by substituting the words A mall with shops with the words Shops, Residential buildings
and Warehouses for letting purposes. Will this alteration of the memorandum for the
purpose be permissible? Decide referring to the provisions of the Companies Act, 1956.
(PE-II, Nov. 2008)
Answer
Alteration of objects
Section 17 (1) of the Companies Act ,1956 , permits a company to alter its objects in the
memorandum to carry on some business which under the existing circumstances may
conveniently or advantageously be combined with the existing business.
Thus, in the given problem the new object of shops, residential buildings and warehouses
for letting purposes can be conveniently and advantageously combined with the existing
object of building a mall with shops which is obviously for letting purposes. Accordingly,
alteration is permissible.
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Question
Explain the steps to be taken by a company for starting a business for which there is no
provision in the objects clause of the Memorandum of Association.
Answer
Section 149 (2A) prohibits a public limited company from commencing any business other
than that covered by the main objects of the company, unless it has by a special
resolution, approved for the commencement of such business and a duly verified
declaration by one of its Directors or its Secretary in the prescribed form that such a
resolution has been passed or as the case may be the provisions of Section 149(2B) have
been complied with, has been filed with the Registrar. In the context of this prohibition, a
distinction has been made between a company existing immediately before the
commencement of the Amendment Act, 1965 and one formed after such commencement.
In the former case, the special resolution is required for commencing a new business, in
relation to any of the objects mentioned in its memorandum, which is not germane to the
business it was carrying on at the commencement of the Amendment Act. In the latter
case, the special resolution is necessary to set up a business in relation to any object
other than its main objects, or ancillary to it, on its memorandum.
Thus, for commencing the proposed new business, a special resolution of the company
would be necessary. An ordinary resolution would be sufficient if, in addition the Central
Government, on an application by the Board of Directors, allows the company to
commence such a business [Section 149(2B)].
ARTICLES OF ASSOCIATION
Question
The Articles of Association of a Limited Company provided that X shall be the Law Officer of
the company and he shall not be removed except on the ground of proved misconduct. The
company removed him even though he was not guilty of misconduct. Decide, whether
companys action is valid? (PE-II, May 2004 & Nov. 2007)
Answer
Removal of Law Officer
The Memorandum and Articles of Association of a company are binding upon company
and its members and they are bound to observe all the provisions of memorandum and
articles as if they have signed the same [Section 36(1)]. However, company and members
are not bound to outsiders in respect of anything contained in memorandum/articles. This
is based on the general rule of law that a stranger to a contract cannot acquire any right
under the contract.
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In this case, Articles conferred a right on X, the law officer that he shall not be removed
except on the ground of proved misconduct. In view of the legal position explained above,
X cannot enforce the right conferred on him by the articles against the company. Hence
the action taken by the company (i.e. removal of X even though he was not guilty of
misconduct) is valid. (Eley V Positive Govt. Security Life Assurance Co., Major General
Shanta Shamsher jung V Kamani Bros. P. Ltd.)
Question
The object clause of the Memorandum of Association of RST Limited authorises it to publish
and sell text-books for students. The company, however, entered into an agreement with Q to
supply 100 laptops of worth Rs. 5 lac for resale purposes. Subsequently, the company refused
to make payment on the ground that the transaction was ultravirus the company. Examine the
validity of the company's refusal for payment to Q under the provisions of the Companies Act,
1956. (PCE, May 2010)
Answer
In terms of Companies Act, 1956, the powers of the company are limited to:
(i) powers expressly given by the Memorandum (which is popularly known as express
power or conferred by the Companies Act 1956, or other statute and ;
(ii) powers reasonably incidental or necessary to the companys main purpose (termed as
implied powers). The Act further provides that the acts beyond the powers of a
company are ultra virus and void and cannot be ratified even though every member of
the company may given his consent. [Ashbury Railway Carriage Company vs Richee].
The object clause enables shareholders, creditors or others to know what its powers are and
what is the range of its activities and enterprises. The objects clause therefore is of
fundamental importance to the shareholder, creditors and others.
In the given problem RST Limited is authorised to publish and sell textbooks for students. It
has no power to enter into an agreement with Q to supply 100 laptops. Such act can never to
treated as express or implied power of the company. Q is deemed to be aware of the lack of
powers of RST Limited. In the light of above, Q cannot enforce the agreement or liability
against RST Limited. Hence the refusal of the company for the payment to Q is valid. It is also
supported by the Ganga Mata Refinery Company (Private) Limited CIT case.
Alteration of Articles
Question
Explain the limitations relating to alternation of Articles of Association of a company.
(PE-II, Nov. 2002)
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Answer
Limits on the Alteration of Articles:
Every company has a right to alter its articles. A company cannot divest itself of these
powers. Matters as to which the memorandum is silent can be dealt with by the alteration
of articles. Such alteration is effective by passing a special resolution. The right to alter
the article is subject to the following limitations:
(i) The alteration must not exceed the powers given by memorandum or conflict with
the provisions thereof.
(ii) It must not be inconsistent with any provisions of the Companies Act or any other
statute.
(iii) It must not be illegal.
(iv) It shall not be in fraud on minority or inflict a hardship on minority shareholders,
without any corresponding benefits to the company as a whole.
(v) It must not be inconsistent with any order of the court, under section 404 any
subsequent alteration thereof which is inconsistent with such an order can be made
by the company only with the leave of the court.
(vi) It may have retrospective effect so long as it does not affect the things already
done by the company (Allen B. Gold Reef of West Africa [1909] SC 732)
(vii) If a public company is converted into a private company, then the approval of
Central Government is necessary [Section 31(1)] In this regard an injunction cannot
be granted to prevent the adoption of new article which constituted a breach of
contract. But if the company acts on them it may be liable to damages [Shirlaw Vs
Southern Foundaries Ltd. 1940 AC 701 (760)].
(viii) An alteration should not increase the liability of a member unless he has agreed
thereto in writing (Section 38)
(ix) A reserve capital once created cannot be unreserved but may be cancelled on a
reduction of capital (Midland Railway Carriage Wagon Co. 1907) Section 99.
(x) Any irregular alteration which have been acted on for many years are binding.
DOCTRINE OF INDOOR MANAGEMENT
Question
Explain clearly the doctrine of Indoor Management as applicable in cases of companies
registered under the Companies Act, 1956. Explain the circumstances in which an
outsider dealing with the company cannot claim any relief on the ground of Indoor
Management (PE-II, Nov. 2001)
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Answer
Doctrine of indoor Management & Exceptions:
One limitation to the doctrine of constructive notice of the memorandum and articles of a
company is the doctrine of indoor management. According to the doctrine of indoor
management, the outsider, dealing with the company are entitled to assume that as far as
the internal proceedings of the company arc concerned, everything has been regularly
done. They are bound to lend the registered documents and to see that the proposed
dealing is not inconsistent therewith, but they are not bound to do more, they need not
inquire into the regularity of the internal proceedings as required by the memorandum and
Articles. This limitation of the doctrine of constructive notice is known as the Doctrine of
Indoor Management, popularly known as rule in Royal British Bank v. Turquand. Thus the
doctrine of indoor management aims to protect outsiders against the company.
Exceptions:
In the following circumstances an outsider dealing with the company cannot claim any
relief on the ground of indoor Management
1. Knowledge of irregularly: Where a person dealing with a company has actual or
constructive notice of the irregularity as regards internal management, he cannot
claim the benefit under the rule of indoor management. (T.R. PRATT (Bombay) Ltd.
v. E.D. Sassoon & Co. Ltd.).
2. Negligence: Where a person dealing with a company could discover the irregularity
if he had made proper inquiries, he cannot claim the benefit of the rule of indoor
management. The protection of the rule is also not available where the
circumstances surrounding the contract- are so suspicious as to invite inquiry, and
the outsider dealing with the company does not make proper inquiry (Anand Bihari
Lel v. Dinshaw & Co.) Also the case of (Under-Wood v. Bank of Liver Pool).
3. Act void ab initio and forgery: Where the acts done in the name of a company are
void ab initio, the doctrine of indoor management does not apply. The doctrine
applies only to irregularities that otherwise might affect a genuine transaction. It
does not apply to a forgery. A Company can never he held liable for forgeries
committed by its officers. (Ruben v. Great Fingall Consolidated Co.).
4. Acts outside the scope of apparent authority : If an officer of a company enters into
a contract with a third party and if the act of the officer is beyond the scope of his
authority, the company is not bound. (Kreditbank Cassel v. Schenkers Ltd.).
5. A person having no knowledge of Articles cannot seek protection under Indoor
Management.

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Question
Briefly explain the doctrine of Constructive Notice under the Companies Act, 1956. Are
there any exceptions to the said doctrine? (PE-II, May 2003)
Answer
Doctrine of Constructive Notice
In consequences of the registration of the memorandum and articles of association of the
company with the Registrar of Companies, a person dealing with the company is deemed
to have constructive notice of their contents (T.R. Pratt (Bombay) Ltd. v. E.D. Sassoon &
Co. Ltd.). This is because these documents are construed as public documents under
Section 610 of the Companies Act, 1956. Accordingly if a person deals with a company in
a manner incompatible with the provisions of the aforesaid documents or enters into
transaction which is ultra vires these documents, he must do so at his peril.
The doctrine of constructive notice is not a positive one but a negative one like that of
estoppels of which it forms parts. It operates only against the person who has been
dealing with the company but not against the company itself; consequently he is
prevented from alleging that he did not know that the constitution of the company
rendered a particular act or a particular delegation of authority ultra vires.
There is one limitation to the doctrine of constructive notice of the Memorandum and the
Articles of a company. The outsiders dealing with the company are entitled to assume that
as far as the internal proceedings of the company are concerned, everything has been
regularly done. They are bound to read the registered documents and to see that the
proposed dealing is not inconsistent therewith, but they are not bound to do more; they
need not inquire into the regularity of the internal proceedings as required by the
Memorandum and the Articles. This limitation of the doctrine of constructive notice is
known as the doctrine of indoor management or the rule in Royal British Bank v.
Turquand. Thus whereas the doctrine of constructive notice protects the company against
outsiders, the doctrine of indoor management seeks to protect outsiders against the
company.
Question
Under the Articles of Association of Sunshine Ltd. Company, directors had power to
borrow up to Rs.10,000 without the consent of the general meeting. The Directors
themselves lent Rs.35,000 to the company without such consent and took debentures of
the Company. Decide under the provisions of the Companies Act, 1956, whether the
company is liable? If so, what is the extent of liability of the company in this case?
(PE-II, May 2008)

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Answer
Directors Power to Borrow under the Companies Act, 1956
An outsider is presumed to know the constitution of company, but not what may or may
not have taken place within the doors that are closed to him. However, where a person
dealing with a company has actual or constructive notice of the irregularity as regards
internal management, he cannot claim the benefit under the rule of indoor management.
In this case, the directors of a company could borrow any amount up to Rs. 10,000/-
without the resolution of the company in a general meeting. But for any amount beyond
Rs. 10,000/- they had to obtain the consent of the shareholders in a general meeting. The
directors themselves lent Rs. 35,000/- to the company without such consent and took
debentures. The directors had the notice of the internal irregularity and hence the
company was liable to them only for Rs. 10,000/-
Question
Explain the doctrine of Indoor management in brief.
The Secretary of a Company issued a share certificate to A under the Companys seal
with his own signature and the signature of a Director forged by him. A borrowed money
from B on the strength of this certificate. B wanted to realise the security and requested
the company to register him as a holder of the shares. Explain whether B will succeed in
getting the share registered in his name. (PCE, May2007)
Answer
The doctrine of Indoor Management as discussed in the Royal British Bank vs. Turquand
(1956) 6E&B 327. In this case the directors of RBB also gave a bond to T. The Article
empowered the directors to issue such bonds under the authority of a proper resolution. In
fact no such resolution was passed. Notwithstanding that, it was held that T could sue on
the bonds on the ground that he was entitled to assume that the resolution had been duly
passed. Thus the persons dealing with the company are entitled to assume that the acts
of the directors or the officers of the company are validly performed, if they are within the
scope of their apparent authority. But this doctrine is not applicable where the person
dealing with the company has notice of irregularity or where the person dealing with the
company is put upon on inquiry or when an instrument purporting to be enacted on behalf
of the company is a forgery.
In the instant problem the doctrine of indoor management can apply only in case of
irregularities which might otherwise affect the transaction, but it cannot apply to forgery
which must be regarded as nullity. Hence B will not succeed in getting the share
registered in his name.
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Question
A Managing Director of a company borrowed a sum of money by executing a document in
which he forged the signature of two other directors who are required to sign as per
requirements of articles. Can the company deny liability to creditors?
Answer
In Ruben v. Great Fingall Consolidated, it was held that Doctrine of Indoor Management
could not be extended to cases of forgery. Transaction effected by forgery is void ab
initio. However, in Sri Krishan v. Mondal Bros. & Co. it was held that a company may be
held liable for any fraudulent Acts of its officers acting under ostensible authority.
Therefore, in the instant case, company will not be allowed to deny liability in order to
defeat bona fide claims of the creditor.
Pre-Liminary/Pre-Incorporation Contracts and Provisional Contracts
Question
Explain the legal validity of Preliminary Contracts entered into by a company?
Answer
Pre-Incorporation Contracts or those contract which are entered into by agents or trustees
or and on behalf of a prospective company before it has come into existence. It is very
likely the intention of the promoters that the company should on its formation acquire
some property or take over the existing business and for this purpose a preliminary
contract may be entered into by them. But as the company is non-existent before
incorporation it cannot be bound by any purported rectification [Kelner v. Baxter (1862)].
The legal position of pre-incorporation contracts may be discussed under two heads (a)
before passing of Specific Relief Act, 1963 and (b) position after passing of the Specific
Relief Act.
Position before 1963:
(a) A Pre-incorporation contract never binds a company.
(b) Even if there is a rectification of such contract, the company cannot be bound by
such act.
(c) The third party cannot sue or be sued by the company thereof after its
incorporations.
Positions since 1963: After passing the Specific Relief Act, 1963, the company may
enforce pre-in-corporation Act provided such a contract is warranted by the terms of
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incorporation. Where a person intend to promote a company acquired a lease hold
interest for some time for partnership firm which got converted into a company which
adopted the lease, the lesser is bound to the company under the lease. [V.P. Rao v. Sri
Ramanuja Ginning and Rice Factory (P) Ltd. 1986].
Question
Pick out the correct answer from the following and give reasons:
(i) Contracts entered into by a company after its incorporation and before it is entitled to
commence business are called:
1. provisional contracts
2. pre-incorporation contracts
3. both 1 and 2
4. None of the above.
(ii) The underwriting commission on shares must not exceed:
1. 2.0 percent of the issued price of shares
2. 2.5 percent of the issued price of shares
3. 5.0. percent of the issued price of shares
4. 5.5 percent of the issued price of shares (PCE, May 2010)
(iii) Which one of the following required ordinary resolution ?
1. to change the name of the company
2. to alter the articles of association
3. to reduce the share capital
4. to declare dividends.
Answer
(i) Provisional Contracts: Reason: As per Section 149 (4) of the Companies Act, 1956,
contracts entered into by a company after its incorporation and before it is entitled to
commence business are provisional only and are not binding on the company until the
trading certificate is issued.
(ii) 5.0 percent of the issued price of shares: Reason: As per Section 76 of the companies
Act, 1956, the amount of commission should not exceed, in the case of shares, 5
percent of the price at which the shares have been issued or the amount or rate
authorised by the articles, whichever is less.

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(iii) To declare dividends; Reason: The Companies Act, 1956 requires that the following
matters, inter alia, have to be resolved by the company by a special resolution: (i) to
change the name of the company (Section 21) (ii) to alter the articles of association
(Section 31) and (iii) to reduce the share capital (Section 100). While for declaration of
dividends ordinary resolution is sufficient.
Question
XYZ Co. Ltd. was in the process of incorporation. Promoters of the company signed an
agreement for the purchase of certain furniture for the company and payment was to be
made to the suppliers of furniture by the company after incorporation. The company was
incorporated and the furniture was used by it. Shortly after incorporation, the company
went into liquidation and the debt could not be paid by the company for the purchase of
above furniture. As a result suppliers sued the promoters of the company for the recovery
of money.
Examine whether promoters can he held liable for payment under the following situations:
(i) When the company has already adopted the contract after incorporation?
(ii) When the company makes a fresh contract with the suppliers in terms of
preincorporation contract? (PE-II, Nov. 2001)
Answer
The promoters remain personally liable on a contract made on behalf of a company which
is not yet in existence. Such a contract is deemed to have been entered into personally by
the promoters and they are liable to pay damages for failure to perform the promises
made in the companys name (Scot v. Lord Ebury), even though the contract expressly
provided that only the company shall be answerable for performance.
In Kelner v. Baxter also it was held that the persons signing the contracts viz. Promoters
were personally liable for the contract.
Further, a company cannot ratify a contract entered into by the promoters on its behalf
before its incorporation. Therefore, it cannot by adoption or ratification obtain the benefit
of the contract purported to have been made on its behalf before it came into existence as
ratification by the company when formed is legally impossible. The doctrine of ratification
applies only if an agent contracts for a principal who is in existence and who is competent
to contract at the time of contract by the agent.
The company can, if it desires, enter into a new contract, after its incorporation with the
other party. The contract may be on the same basis and terms as given in the pre-
incorporation contract made by the promoters. The adoption of the pre-incorporation
contract by the company will not create a contract between the company and the other
parties even though the option of the contract is made as one of the objects of the
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company in its Memorandum of Association. It is, therefore, safer for the promoters acting
on behalf of the company about to be formed to provide in the contract that: (a) if the
company makes a fresh contract in terms of the pre-incorporation contract, the liability of
the promoters shall come to an end; and (b) if the company does not make a fresh
contract within a limited time, either of the parties may rescind the contract.
Thus applying the above principles, the answers to the questions as asked in the paper
can be answered as under:
(i) the promoters in the first case will be liable to the suppliers of furniture. There was
no fresh contract entered into with the suppliers by the company. Therefore,
promoters continue to be held liable in this case for the reasons given above.
(ii) in the second case obviously the liability of promoters comes to an end provided
the fresh contract was entered into on the same terms as that of pre-incorporation
contract.
Question
What do you understand by Pre-incorporation contracts? Distinguish between Pre-
incorporation contracts and Provisional contracts. (PE-II, May 2004)
Answer
Pre-Incorporation Contracts
The promoters of a company usually enter into contracts to acquire some property or right
for the company to be incorporated. Such contracts are called pre-incorporation contracts
or preliminary contracts. Since a company comes into existence from the date of its
incorporation, it follows that any act purporting to be performed by it prior to that date is of
no effect so far as the company is concerned. After incorporation, the company may adopt
the preliminary contract and it must be by novation. Further a company may enforce a
pre-incorporation contract if it is warranted by the terms of incorporation of the company.
Following are the differences between Pre-incorporation and Provisional Contracts:
(i) Contracts, which are made before the company comes into existence, are called
pre-incorporation contracts, while contracts which are entered into by a public
company after obtaining the certificate of incorporation but before getting the
certificate to commence business are known as provisional contracts.
(ii) The company is not bound by the pre-incorporation contract unless the company
adopts the same after incorporation. But provisional contracts shall be binding on
the company from the date on which the company is entitled to commence
business.
(iii) Pre-incorporation contracts can be enforced against the company if it is warranted
by the terms of incorporation of the company and for the purposes of the company,
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while the provisional contracts cannot be enforced and the company should go into
liquidation without commencing business.
Question
Sunrise Limited submitted the documents for incorporation on 5th October, 2006. It was
incorporated and certificate of incorporation of the company was issued by the Registrar
on 20th October, 2006. The company on 14th October, 2006 entered into a contract which
created its contractual liabilities. The company denies the said liability on the ground that
company is not bound by the contract entered into prior to issuing of certificate of
incorporation. Decide under the provisions of the Companies Act, 1956, whether the
company can be exempted from the said contractual liability. (PE-II, Nov. 2007)
Answer
Sometimes contracts are made on behalf of a company even before it is incorporated. But
no contracts can bind a company before it becomes capable of contracting by
incorporation. Two consenting parties are necessary to a contract, whereas the company
before incorporation is a non-entity [Kelner v. Baxter 1866].
Pre-incorporation contracts in general are void ab initio and hence not binding on the
company. However, under section 19 (e) of the Specific Relief Act, 1963 the party to the
contract can enforce the contracts against the company if the company had adopted the
same after incorporation and the contract is warranted by the terms of incorporation. Thus
unless the company adopts the contract, the other party cannot enforce the same against
the company. However, promoters can be-held personally liable. The problem is based on
above case i.e. [Kelner v. Baxter]. After application of above provisions it is clear that the
company can be exempted from the said contractual liability.
Question
Before the incorporation of the company, the promoters of the company entered into an
agreement with Mr. Jainson to buy an immovable property on behalf of the company. After
incorporation, the company refused to buy the said property. Advise Mr. Jainson whether
he has any remedy under the provisions of the Companies Act, 1956? (PE-II, May 2008)
Answer
Pre-Incorporation Contracts in the Companies Act,1956
The present case is related to the pre-incorporation contract. The promoters of the
company usually enter into contracts to acquire some property or right for the company
which is yet to be incorporated. As such contracts are a nullity and the company cannot
sue or be sued on such contract when company comes into existence. So in such case A
has remedy against the promoters only. They are liable personally for those contracts that
are made on behalf of the company before it comes into existence. Even the company
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cannot ratify such contracts after its registration. Such contracts are deemed to have been
entered into personally by the promoters.
Question
What is meant by 'Pre-Incorporation Contracts'? Can these contracts be enforced by the
prospective company after its incorporation against the third parties with whom the
promoters had entered into certain contracts? Explain. (PCE, Nov. 2007)
Answer
Pre-incorporation Contracts and its Enforcement: Pre-incorporation contracts are
those contracts which are entered into, by the promoters on behalf of a prospective
company, before it has come into existence e.g. with the proprietor of business to sell it to
the prospective company. Since a company comes into existence from the date of its
incorporation, it follows that any act purporting to be performed by it prior to that date is of
no effect so far as the company is concerned. Hence the vendor cannot sue or be sued by
the company thereof, after its incorporation.
After incorporation, the company may adopt the preliminary agreement. But this must be,
by novation. However, in order to facilitate companies to adopt pre-incorporation
contracts, .special provisions are made in sections 15 and 19 of Specific Relief Act, 1963.
Accordingly, pre-incorporation contracts can be enforced by the company, if the contract
is for the purposes of the company, the contract is warranted by the terms of its
incorporation is within the scope of the company's objects as given in the Memorandum of
Association and the company has accepted the contract and has communicated such
acceptance to the other party.
Promoters
Question
Mars Ltd. was in the process of incorporation. Promoters of the company signed an agreement
for the purchase of certain furniture for the company and payment was to be made to the
suppliers of furniture by the company after incorporation. The company was incorporated and
the furniture was used by it. Shortly after incorporation, the company went into liquidation and
the debt could not he paid by the company for the purchase of above furniture. As a result
suppliers sued the promoters of the company for the recovery of money.
Examine whether promoters can he held liable for payment under the following situations:
(i) When the company has already adopted the contract after incorporation?
(ii) When the company makes a fresh contract with the suppliers in terms of pre
incorporation contract?

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Answer
The promoters remain personally liable on a contract made on behalf of a company which
is not yet in existence. Such a contract is deemed to have been entered into personally by
the promoters and they are liable to pay damages for failure to perform the promises
made in the companys name (Scot v. Lord Ebury), even though the contract expressly
provided that only the company shall be answerable for performance.
In Kelner v. Baxter also it was held that the persons signing the contracts viz. Promoters
were personally liable for the contract.
Further, a company cannot ratify a contract entered into by the promoters on its behalf
before its incorporation. Therefore, it cannot by adoption or ratification obtain the benefit
of the contract purported to have been made on its behalf before it came into existence as
ratification by the company when formed is legally impossible. The doctrine of ratification
applies only if an agent contracts for a principal who is in existence and who is competent
to contract at the time of contract by the agent.
The company can, if it desires, enter into a new contract, after its incorporation with the
other party. The contract may be on the same basis and terms as given in the pre-
incorporation contract made by the promoters. The adoption of the pre-incorporation
contract by the company will not create a contract between the company and the other
parties even though the option of the contract is made as one of the objects of the
company in its Memorandum of Association. It is, therefore, safer for the promoters acting
on behalf of the company about to be formed to provide in the contract that: (a) if the
company makes a fresh contract in terms of the pre-incorporation contract, the liability of
the promoters shall come to an end; and (b) if the company does not make a fresh
contract within a limited time, either of the parties may rescind the contract.
Thus applying the above principles, the answers to the questions as asked in the paper
can be answered as under:
(i) the promoters in the first case will be liable to the suppliers of furniture. There was
no fresh contract entered into with the suppliers by the company. Therefore,
promoters continue to be held liable in this case for the reasons given above.
(ii) in the second case obviously the liability of promoters comes to an end provided
the fresh contract was entered into on the same terms as that of pre-incorporation
contract.
National Company Law Tribunal and National Company Law Appellate Tribunal
Question
Briefly discuss the provisions relating to constitution of National Company Law Tribunal
and National Company Law Appellate Tribunal. (PCE, May 2007)
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Answer
Part VI-A has been introduced into the Companies Act, 1956 by the Companies (Second
Amendment Act, 2002). Its enforcement will mean repeal of the Sick Industrial Companies
(Special provisions) Act, 1985 and also abolition of the Board of Industrial and Financial
Reconstruction (BIFR). Such cases will go before the National Company Law Tribunal.
Section 424A provides for such reference. The Board of Directors of a sick industrial
company have to make a reference to the Tribunal. They have to prepare a scheme for its
revival and rehabilitation and submit to the tribunal along with an application containing
such particulars as may be prescribed. The Tribunal thereafter has to enquire with
working of sick industrial companies. The Tribunal is empowered to make suitable orders
on completion of the Enquiry (see Section 424-B and 424-C).
The National Company Law Appellate Tribunals have been constituted by central
Government by notification with official gazette. Any person aggrieved by an order of the
Tribunal, can within 45 days file an appeal before the National Company Law Appellate
Tribunal, which will pass orders after giving opportunity of hearing to the aggrieved party.
Question
Explain the composition and powers of National Company Law Tribunal?
Answer
Composition of NCLT
The Central Government is empowered, under Section 10FB of the Companies Act, 1956,
to constitute a National Company Law Tribunal to exercise and discharge such powers
and functions as may be conferred on it by or under the Companies Act or any other law
for the time being in force.
According to Section 10FC, the Tribunal shall be headed by the President who has been,
or is qualified to be a judge of a High Court and consists such number of Judicial and
Technical Members not exceeding 62, as the Central Government deems fit, to be
appointed by the Government by notification in the official gazette.
Eligibility for Members: As per Section 10FC, the Tribunal will consist of Judicial and
Technical members. Persons who have been working as Judiciary, Advocate, Member of
the Indian Company Law Service and Member of Indian Legal Service shall be considered
for the appointment as Judicial Member, and the members of Indian Company Law
Service (Accounts Branch), Chartered Accountant, Cost Accountant, Company Secretary
shall be considered for the post of Technical Members. In addition to this, length of
service in their particular nature of work will also taken into consideration.

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Powers of Tribunal
Tribunal shall have power to review its own order (Section 10 FO).
The Tribunal, as per section 10 FM, after giving reasonable opportunity of being
heard is empowered to pass such an order as it thinks fit. It can also, within a
period of two years from the date of order, rectify any mistake and shall make
amendment in the order passed by it and shall make such amendment if the
mistake is brought to its notice by the parties.
Tribunal may delegate its powers and duties subject to specified conditions and
limitations to any member or officer or other employee of the Tribunal to manage
any industrial company or industrial undertaking or any operating agency under this
Act as it may deem necessary.
The Tribunal/any operating agency, on being directed by the Tribunal may seek an
assistance of Chief Metropolitan Magistrate and District Magistrate within whose
jurisdiction, any property, books of accent or any other document of Sick Industrial
Company be situate or be found, to take into custody or to take possession thereof.
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EXCERCISE
Question 1
XYZ (P)Ltd. was incorporated on January 20, 2009. A similar company with identical name
and similar objects was inadvertently incorporated on September 20, 2009. On account of
similarity in name and objects, XYZ (P) Ltd filed a petition on January 25, 2010 that the
Central Government should direct the company incorporated at a latter date to change its
name so that its business interest are protected. State in this connection whether the
company incorporated at a latter date can be directed by the Central Government to
change its name.
[Hints: Yes, as per the provision given under Section 22(1) of the Companies Act,1956]
Question 2
The existing number of members in a public limited company is below the requirement as
per the Companies Act, 1956. However, the company is continuing its business
operations. State the legal consequences arising out of such continuance business.
[Hints: Members are personally and severally liable for the whole of the debts contracted,
as per provision given under the Section 45 of the Companies Act,1956]
Question 3
XYZ Ltd., intends to start a new additional business which has no relation to the existing
business. State whether it can do so under the provision of Companies Act, 1956.
[Hints: Yes, as per the provision laid down in Section 17(1) of the Companies Act,1956]
Question 4
M/s ABC Ltd. a company registered in the State of West Bengal desires to shift its
registered office to some other place in the same State..
Would it make a difference, if the Registered Office is transferred from the Jurisdiction of
one Registrar of Companies to the jurisdiction of another Registrar of Companies within
the same State?
[Hints: Yes, as per the Sections 17 and 17A of the Companies Act,1956]
Question 5
The Directors of a Company borrowed Rs.50,000/- from A on a transaction which is ultra
vires the Company. Discuss the rights of A against the Company and its Directors.
[Hints: A does not have any right against the company]
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Question 6
Under the Articles, the Directors of a Company had power to borrow upto Rs.1,00,000
without the consent of the General Meeting. The Directors themselves lent Rs.2,00,000 to
the Company without such consent and took Debentures. Is the Company liable for
Rs.2,00,000
[Hints: Company is not liable]
Question7
The management of Kamna Real Estate Ltd. has decided to take up the business of food
processing activity because of the downward trend in real estate business. There is no
provision in the object clauses of the memorandum of association to enable the company
to carry on such business. State whether its object clause can be amended.
[Hints: No, as per Section 17 of the Companies Act,1956 ]

Question 8
A Managing Director of a Company borrowed a sum of money by executing a document in
which he forged the signature of two other directors who are required to sign as per
requirements of the articles. Can the Company deny liability to creditors?
[Hints: No, as per the decision given in Sri Kishan v. Mondal Bros. & Co. where it was
held that a Company may be held liable for any fraudulent acts of its officers acting under
ostensible authority.]





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