Meaning and Definition of Promoter

A promoter is an individual, a firm, an association of persons, or a company that conceives the idea of forming a company for a specific purpose and takes all the necessary preliminary steps to bring it into existence and get it running. They are the architects of the business venture, transforming a business idea into a functional corporate entity.

The role of a promoter is crucial as they undertake various formative and procedural tasks required for the incorporation of a company. These tasks include:

• Deciding the name of the company and getting it approved by the Registrar of Companies (RoC).
• Appointing the first directors of the company.
• Getting the Memorandum of Association (MoA) and Articles of Association (AoA) drafted, printed, and registered.
• Arranging for the initial capital and finding the initial subscribers to the MoA.
• Paying the preliminary expenses such as registration fees, legal costs, and stamp duties.
• Entering into preliminary contracts on behalf of the proposed company.

Legal Definition as per The Companies Act, 2013

The term "promoter" is legally defined under Section 2(69) of the Companies Act, 2013. According to this section, a "promoter" means a person:

1. Who has been named as such in a prospectus or is identified by the company in the annual return referred to in section 92; or
2. Who has control over the affairs of the company, directly or indirectly, whether as a shareholder, director or otherwise; or
3. In accordance with whose advice, directions or instructions the Board of Directors of the company is accustomed to act.

There is an important proviso to clause (c) which clarifies that it does not apply to a person who is acting merely in a professional capacity (e.g., a lawyer, accountant, or consultant giving professional advice to the company).

Therefore, a person cannot be considered a promoter simply because they provided professional services for the incorporation of the company. The definition covers not only those who are explicitly named as promoters but also those who hold a position of control or influence over the company's management.

Position of Promoters

The legal position of a promoter is unique and has been described as sui generis (of its own kind). It is a position of significant trust and responsibility. While they are instrumental in creating the company, their legal relationship with the company they promote is not straightforward.

Not an Agent or a Trustee, but acts in a Fiduciary Capacity

Why a Promoter is Not an Agent

An agency relationship requires a principal who appoints the agent. When a promoter enters into contracts or takes actions on behalf of the company, the company (the principal) has not yet come into legal existence. A person cannot be an agent for a non-existent principal. Therefore, the principles of agency law do not apply to the promoter's relationship with the yet-to-be-formed company. The promoter is generally held personally liable for any pre-incorporation contracts.

This was famously established in the case of Kelner v. Baxter (1866), where the promoters of a future hotel company entered into a contract to purchase wine. The company, once formed, ratified the contract. However, when the company failed, the promoters were sued. The court held that the promoters were personally liable as the company did not exist at the time of the contract, and a non-existent entity cannot ratify a contract made on its behalf.

Why a Promoter is Not a Trustee

While a promoter's position has similarities to that of a trustee (as both involve trust and confidence), they are not technically trustees. A trust requires a beneficiary who is in existence. Since the company does not exist when the promoter begins their work, it cannot be considered a beneficiary in the legal sense. The promoter is not holding property for a beneficiary, but is rather creating the legal entity that will eventually own the property.

The Fiduciary Position

The most accurate description of a promoter's position is that they stand in a fiduciary capacity towards the company they promote. This means they are in a relationship of utmost trust and confidence with the company. This fiduciary duty arises because the promoter has immense power to shape the company's structure, its initial assets, and its management. The company, in its nascent stage, is entirely dependent on the promoter's integrity and is vulnerable to exploitation.

This fiduciary relationship imposes several duties on the promoter, primarily the duty to act in good faith for the benefit of the company and not to make any secret profits at the company's expense.

Duties and Liabilities of Promoters

The fiduciary position of promoters gives rise to several crucial duties and corresponding liabilities if those duties are breached. These are established through common law and codified in the Companies Act, 2013.

Duty to Disclose All Material Facts and Not Make Secret Profits

This is the cornerstone of a promoter's duties. A promoter must not make any secret profit from their dealings on behalf of the company. If a promoter enters into a transaction with the company (e.g., selling their own property to the company), they must make a full and frank disclosure of their personal interest in the transaction.

• Full Disclosure: The disclosure must be complete, revealing the nature and extent of the profit.
• To Whom: The disclosure must be made to an independent and competent Board of Directors. If the board is not independent (i.e., controlled by the promoter), the disclosure must be made to the shareholders of the company.

If a promoter fails to make such a disclosure and earns a secret profit, the company has the following remedies:

1. Rescission of Contract: The company can cancel the contract and recover the purchase price.
2. Recovery of Secret Profit: The company can affirm the contract but sue the promoter to hand over the secret profit they made.

Liability for Misstatements in Prospectus (Misfeasance)

A prospectus is a document issued to the public inviting them to subscribe to the shares or debentures of a company. Promoters are responsible for the accuracy of the information provided in the prospectus. If the prospectus contains any untrue or misleading statement, the promoter can face severe liabilities.

Civil Liability (Section 35 of the Companies Act, 2013)

A promoter can be held liable to pay compensation to every person who subscribed for securities based on the prospectus and has suffered any loss or damage as a consequence of any untrue statement included in it.

Criminal Liability (Section 34 of the Companies Act, 2013)

If a prospectus, issued, circulated or distributed, includes any statement which is untrue or misleading in form or context in which it is included or where any inclusion or omission of any matter is likely to mislead, every person who authorises the issue of such prospectus shall be liable under section 447 for fraud. Punishment for fraud under section 447 can include imprisonment for a term from six months to ten years and a fine which can extend to three times the amount involved in the fraud.

Personal Liability for Pre-incorporation Contracts

As established, a company cannot be bound by a contract entered into before its incorporation. Consequently, the promoter who signs such a contract is personally liable for it. The promoter remains liable even if the company, after incorporation, takes over the work under the contract. For the promoter to be discharged from liability, there must be a 'novation' of the contract, meaning a new contract must be created between the third party and the newly formed company to replace the original one.

Rights of Promoters

While promoters have significant duties, they also possess certain rights, although these rights are not automatically guaranteed and often depend on contractual agreements with the company after its incorporation.

Right to Remuneration

A promoter does not have an automatic or legal right to claim remuneration for their services in promoting the company. They cannot sue the company for payment unless there is a valid contract for the same, which can only be entered into by the company *after* it has been incorporated.

However, in practice, promoters are almost always remunerated for their efforts and risk. The company, after its formation, may choose to remunerate the promoter in one of the following ways:

• By paying a lump sum amount.
• By allotting fully or partly paid-up shares or debentures to them.
• By giving them a commission on the shares or debentures sold.
• By granting them an option to buy a certain number of shares at a fixed price.
• By appointing them as directors or to other remunerative offices in the company.

It is important to note that any such remuneration must be disclosed in the prospectus.

Right to Recover Preliminary Expenses

Preliminary expenses are the costs incurred by the promoter in the process of setting up the company (e.g., fees for registration, legal advice, stamp duty). Similar to remuneration, a promoter has no automatic right to recover these expenses from the company. They can only claim them if the company, after incorporation, agrees to reimburse them. The Articles of Association of a company usually empower the directors to pay these expenses, and in most cases, companies do reimburse their promoters for these legitimate costs.

Right to Indemnity against Co-promoters

Often, a company is promoted by more than one person. All promoters share the same fiduciary duties towards the company. If one promoter is held liable for a breach of duty (e.g., for a secret profit or a misstatement in the prospectus), they have a right to claim a proportionate contribution from the other co-promoters who were also involved in the wrongful act. This right ensures that the burden of liability is shared fairly among all the defaulting promoters.

Meaning and Definition of Allotment

Allotment of securities is the process by which a company distributes its shares, debentures, or other securities to the applicants who subscribed to them during an issue. It is a formal act of the company accepting the offer made by an applicant through their application form. While the term "issue of shares" refers to the entire process of offering securities to the public, "allotment" is the specific step where the company creates and assigns a certain number of securities to a particular person.

The contract to take up securities is formed only upon allotment. The application for securities is considered an 'offer' from the applicant, and the company's act of allotment is the 'acceptance' of that offer. Once the allotment is communicated to the applicant, a binding contract is created, and the applicant becomes a security holder (e.g., a shareholder) of the company.

Appropriation of Unappropriated Capital

Legally, allotment is defined as the appropriation of a certain number of shares from the unappropriated capital of the company to a specific person. Let's break this down:

• Unappropriated Capital: This refers to the portion of the company's authorized share capital that has not yet been issued or assigned to anyone. It is the large pool of shares available for the company to issue.
• Appropriation: This is the act of setting aside or assigning something for a specific purpose. In this context, it is the company's decision, made by its Board of Directors, to assign a specific number of shares from its unissued capital to a particular applicant.

Therefore, when an allotment is made, the company is essentially converting a public offer (from the applicant) into a binding private contract, thereby transforming the applicant into a member of the company. Until allotment, the company has no legal relationship with the applicant other than being a recipient of their application money.

General Principles of Allotment

For an allotment of securities to be valid, it must adhere to the principles of contract law as laid down in the Indian Contract Act, 1872, in addition to the provisions of the Companies Act, 2013. This is because allotment is essentially an acceptance of an offer. The key general principles are:

1. Allotment by Proper Authority

The power to allot securities is vested with the Board of Directors of the company. The allotment must be made by a resolution of the Board at a duly convened and constituted Board Meeting. The Board may delegate this power to a smaller committee of directors (an 'Allotment Committee'), but such delegation must be authorized by the company's Articles of Association (AoA). An allotment made by an authority that is not empowered to do so (e.g., a single director or a company secretary without board delegation) is invalid and can be voided.

2. Within a Reasonable Time

The allotment must be made within a reasonable time after the receipt of the application. If there is an undue delay, the applicant is entitled to revoke their offer and demand a refund of the application money. What constitutes a "reasonable time" depends on the facts and circumstances of each case. However, the Companies Act and SEBI regulations provide specific timelines, effectively defining what is reasonable. For instance, according to SEBI regulations, allotment must be finalized within a few days from the closure of the public issue.

3. Must be Communicated

The allotment, being an acceptance of an offer, must be properly communicated to the applicant. The contract is complete only when the applicant receives the notice of allotment. The communication is usually done by sending a formal 'Letter of Allotment'. If the application is rejected, a 'Letter of Regret' along with the refunded application money is sent. A mental decision to allot without any outward communication is not sufficient.

4. Must be Absolute and Unconditional

The allotment must be made on the same terms and conditions as stated in the prospectus and the application form. It cannot be conditional or deviate from the original terms. If the company imposes a new condition in the allotment letter, it is not a valid acceptance but a counter-offer. In such a case, no binding contract is formed unless the applicant accepts the new condition. For example, if a person applies for 100 shares and the company allots only 50 shares (in case of oversubscription), it is a valid allotment. But if the company allots 100 shares with a new condition that the applicant must also take a loan from the company, it is a counter-offer.

Statutory Provisions (Companies Act, 2013)

The Companies Act, 2013, lays down several mandatory statutory conditions for the allotment of securities. These provisions are designed to protect the interests of investors and ensure transparency. Failure to comply with these provisions renders the allotment irregular or void.

Minimum Subscription (Section 39)

This is a crucial investor protection mechanism. Minimum Subscription refers to the minimum amount of capital that a company must raise from its public issue to proceed with the allotment. This amount is stated in the prospectus and represents the funds required for the projects or purposes mentioned therein (e.g., purchasing machinery, working capital).

• Requirement: As per Section 39(1), no allotment of any securities of a company offered to the public for subscription shall be made unless the amount of minimum subscription has been subscribed and the sums payable on application for such amount have been paid to and received by the company.
• SEBI Guideline: For listed companies, the Securities and Exchange Board of India (SEBI) has mandated that the minimum subscription shall be 90% of the offer. If the company fails to receive 90% subscription, the issue is considered failed.
• Time Limit: The company must receive the minimum subscription within 30 days from the date of issue of the prospectus (or such other period as may be specified by SEBI).
• Consequence of Failure: If the minimum subscription is not received within the specified time, the company must refund all application money received within 15 days from the closure of the issue.

Filing of Return of Allotment (Section 39(4))

Whenever a company having a share capital makes any allotment of securities, it has a statutory obligation to report this to the Registrar of Companies (RoC). This ensures that the RoC has an updated record of the company's shareholders and its issued capital.

• Form: The company must file a 'Return of Allotment' with the RoC in e-Form PAS-3.
• Timeline: This form must be filed within 30 days of the date of allotment.
• Contents: Form PAS-3 must contain a complete list of allottees, including their names, addresses, the number of securities allotted to each, the amount paid on each security, and other prescribed particulars. It must be accompanied by the resolution authorizing the allotment.

Penalty for Default

The Companies Act imposes penalties for non-compliance with the provisions related to allotment to ensure strict adherence.

Penalty for not refunding application money

If a company fails to receive the minimum subscription and does not refund the application money within the prescribed time, the company and its officers who are in default shall be jointly and severally liable to repay that money with interest at the rate of 15% per annum for the period of delay.

Penalty for not filing Return of Allotment

As per Section 39(5), if a company defaults in filing the Return of Allotment (Form PAS-3) within the prescribed 30-day period, the company and its officer who is in default shall be liable to a penalty of one thousand rupees (₹1,000) for each day during which such default continues or one lakh rupees (₹1,00,000), whichever is less.