Company Law

TABLE OF CONTENTS CHAPTER - I Introduction to the Company……………………..

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CHAPTER –  CHAPTER –  II  II Appointment and Removal of Directors of the Company………

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CHAPTER –  CHAPTER –  III  III Position and Duties of the Directors of the Company………………

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CHAPTER –  CHAPTER –  IV  IV Liability of the Directors……………………………………………….

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CHAPTER –  CHAPTER –  V  V Conclusion……………………………………………………………….

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CHAPTER-I Introduction to the Company 1.1

Definition of Company

Pursuant to the, Companies Act of 1956, a Company in India shall be legally organized as, (i) Private Company; and (ii) Public Company. The Company can also be organized as a Company Limited by Shares or Company Limited by Guarantee or Company which is Unlimited  by Shares. In general, Company is an Association of Persons. In the Companies Act of 1956, there is no exhaustive definition provided for the definition of the Company. As per S. 3 of the said Act, Company means a company, formed and registered under this Act. It can even be an “Existing Company”, which is formed and registered in the Previous Enactments, which is prior 1

to the commencement of the Indian Companies Act of 1965 . According to Lord Justice Lindely Company is an “association of people who contribute money and money’s worth to a common  stock and employ it for a common purpose. The common stock so contributed is denoted in money and is the capital of the company. The person who contribute it, or to whom it belongs are members. The proportion of capital to which each member is entitled is his share.”

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Types of Company

There are different types of company namely (i) Private Company, (ii) Public Company, (iii) Holding Company, and (iv) Subsidiary Company. i.

Private Company is company where there should be minimum of 2 Members, and the authorized share capital of the company shall be Rs. 1,00,000/-

ii.

Public Company is a company where there should be minimum of 7 Members, and the authorized share capital of the company shall be Rs. 5,00,000/-

iii.

Holding Company is a company that which holds substantial amount of shares of another company.

iv.

Subsidiary Company is a company, where substantial amount of its shares are being held  by another company.

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 S. 3 (ii) (a)  Lord Lindely on Companies, p. 1

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1.3

Incorporation of the Company

When the process of the incorporation or the registration of the company takes place, it is important, that there need to be person Designated as Director, to carry out the daily affairs of the company. A person has to be appointed as a Directoronce the company is incorporated, and thatshould also be notified to the Registrar of Companies (RoC), by way of passing the Board Resolution, which should also be submitted to the RoC. CHAPTER - II Appointment and Removal of Directors of a Company 2.1

Limit on the Number of Directors

There has to be minimum number of Directors in a company as per S. 252 (1) of the Indian Companies Act of 1956. It states that:i.

Every Public Company, shall have at least 3 directors, whereas

ii.

Every Private Company, shall have at least 2 directors

 A Public Company must have paid-up capital of Rs. 5 crore or more and there has to be 1,000 or more small shareholders may have a director elected but such small in the manner as 3

may be prescribed  .Small shareholders mean a shareholder holding shares of nominal value of 4

 Rs. 20,000 or less in a public to which S. 252 apply . According to S. 253 of the Companies Act of 1956, only an individual can be appointed as the director of the company and not a body corporate, or partnership firm or association of persons. 2.2

Qualification of Directors

Person who is intending to be a Director of a Company has to possess Director Identification Number (DIN), which will be issued by the RoC which is under the control of Ministry of Corporate Affairs (MCA). DIN is required for a person, who is intending to be a Director, irrespective of the Educational Qualification. 3

 Added to S. 252(1), by the Companies (Amendment) Act of 2000  Explanation to S. 252

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The person, who is intending to be a Director, must produce the self-attested photocopies of the following documents:i.

PAN Card –  as a proof of his identity

ii.

Passport/ Voter Id/ Aadhaar Card/ Driving License –  as address proof

iii.

Recent Passport Sixe photo of the Applicant

The documents that are mentioned in (ii) will be taken as the permanent address of the applicant. In case, the permanent address and present address of the applicant is not the same, then in order to prove the present residential address, the applicant has to produce a self-attested  photocopy of the telephone bill/ electricity bill/ gas bill in order to get the DIN. The application need to be examined and signed by a practicing professional who could be in the field of Chartered Accountant/ Company Secretary/ Cost Accountant along with the membership number of the practicing professional. The practicing professional need to have a Digital Signature Certificate (DSC) issued by the Ministry of Corporate Affairs (MCA), that is to say that their DSC need to be registered with the MCA, in the website www.mca.gov.in 2.3

Appointment of Directors

Those who are the subscribers of the memorandum, who are individuals, shall be deemed to be directors of the company and they shall continue until the directors are duly appointed at 5

the general meeting in accordance with S. 255 . As per S. 255, directors can be appointed in the 6

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general meeting. Directors can also be appointed as Deemed reappointment  , fresh appointment  , 8

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 filling of casual vacancies , additional directors   and appointment of alternate directors . 11

 Aperson can be a Director only in 15 companies .

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 S. 254  S. 256 (4) 7  S. 257 8  S. 262 9  S. 260 10  S. 313 11  S. 275 6

2.4

Disqualification of Director

According to S. 274(1) of the Act, the director can be removed in the following cases:a) If he has been found to be of unsound mind by a court;  b) If he is an discharged insolvent; c) If he has applied to be adjudicated as an insolvent and his application is pending; d) If he has been convicted of any offence involving moral turpitude and sentenced to ar least 6 months imprisonment, and a period of 5 years has not elapsed from the date of expiry of the sentence; e) If he has failed to pay any calls in respect of shares of the company held by him for six months of the due date of the call; f) If he has been disqualified under S. 203 (restraining fraudulent persons form managing companies) for appointment as director. g) Such person is already a director of a public company whichi.

Has not filed accounts and annual returns for any continuous 3 year commencing st

on or after the 1  April, 1999, or; ii.

Has failed to repay its deposit interest thereon on due date or redeem its debentures on due date or pay dividend and such failure continues for one year or more.

2.5

Removal of Directors

According to S. 284 a company can remove the director by ordinary resolution before expiry of his term. Compensation has to be given to the removed director in this regard. CHAPTER –  III Position and Duties of the Directors of a Company 3.1

Position of the Directors of the Company

The directors are the agents of the company, and for many of its functions the company has to act through directors. Between the company and its directors, the relationship is that of

 principal and agent. As regards their duties and liabilities their position is that of the principal and agent. The various aspects of the position of the directors are as follows:-

1) Directors as Agents

For the contracts made by the directors on behalf of the company directors, like agent does not incur any liability. The company is liable to the third parties. They have the same duties as that of an agent and therefore in all the circumstances when the liability of an agent could be created, the directors are also liable. 2) Directors As Trustees They act as trustees of the company, particularly in the matters of financial affairs. They also occupy fiduciary relationship with the shareholders of the company. In Percy v. Mills 12

Co. Ltd ,  the company issued shares without any further requirement. The motive was that to allot shares in the names of the directors itself, so that they will have more voting power. The court has held that there is misuse of the fiduciary powers of the company. The director has to disclose his interest in a contract entered into or to be entered into by the company in 13

 public interest and to safeguard the interest of the shareholders . 3.2

Duties of Directors

By virtue of the position of the directors there are duties casted upon them. Some of are:A. Duty of Care

He has to take due care in the performance of his functions. He should take care as the man of ordinary prudence would take in his own case. The officers and auditors of the company would be liable for negligence, default and misfeasance, breach of duty or breach

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 (1920) 2 Ch. 77  S. 300 (1) of the Act

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of trust and any provision in the Articles or any management which exempts them from such 14

liability, or which seeks to indemnify them for such liability would be void  .

B. Duty to Attend Meetings

The meeting of the Board of directors shall be held at least once in every 3 months and at least four such meetings need to held per year. If the director himself form there consecutive meeting of the Board or from all the meetings of the Board for 3 months, whichever is longer, without obtaining the leave of absence from the Board, the office of the director shall  become vacant. C. Duty not to delegate powers

The position of a director is that of an agent, hence the rule delegates non potestdelegare, which means that the agent cannot further delegate. But if the Articles provide for the delegation of the work, then it is permissible, but the extent of the delegation should exceed the limit specified in the Articles. D. Duty to disclose interest

According to S. 299, every director of a company who is in any way concerned or interested in a contract or arrangement entered into or to be entered into, by or on behalf of the company, must disclose the nature of his concern or interest at the meeting of the Board of Directors. Failure to give the notice of the interest, shall attract a penalty of Rupees Fifty 15

Thousand  .  If a director enters into a contract, which is detriment to the interest of the 16

company, then such contract is not considered to be binding on the company . According to S. 302 of the Act, the abstract of the contract need to be sent to the other directors of the company. E. Duty to act honestly and in good faith

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 S. 201  S. 299 16  Raj Cylinders & Containers v. Hindustan General Industries Ltd. AIR 1998 Del 418 15

The directors need to follow the maxim utmost good faith. They should not indulge in any personal activity for their own benefit, which will affect the interest of the company. In 17

the matter of Cook v. Deeks , the directors of the company entered into a contract in their  personal name for the purpose of railway construction. They did not enter the contract in the name of the company. It was held that the directors cannot retain the benefit that is arising out of the contract; the benefit has to go to the company.

CHAPTER –  IV Liability of the Directors of the Company 4.1

Contractual Liability

Directors are bound to use fair and reasonable diligence in discharging the duties and to act honestly, and act with such care as is reasonably expected from him, having regard to his 18

knowledge and experience. In the case of R.K. Dalmia & Ors.v. The Delhi Administration

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was held that "A director will be personally liable on a company contract when he has accepted  personal liability either expressly or impliedly. Directors are the agents or the trustees of a Company."As far as fiduciary duties/obligations are concerned, any breach by any director 19

would visit them with liability. The case of Percy v. Mills Co. Ltd  , illustrates this point, also the Hon’ble Supreme Court of India has affirmed the same in the matter of Official Liquidator v. 20

 P.A. Tendulkar  . 4.2

Pre-Incorporation Liability

A Company cannot make a contract before it is incorporated because, before incorporation, it hasno legal existence. Therefore, a Company after incorporation cannot ratify a contract previously made. It must make a fresh contract. But, those who act on behalf of the unincorporated company may find themselves personally liable. Even though the company takes

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 (1916) 1 AC 554  AIR 1962 SC 1821, 1963 SCR (1) 253 19  (1920) 2 Ch. 77 20 AIR 1997 All 72 18

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benefit out pre-incorporation contract, the directors of the company cannot be held liable . This decision was first pronounced by the English Courts in the matter of Rover International Ltd. V. 22

The Cannon Film Sales Ltd  . The company cannot sue even it ratifies the pre-incorporation contracts. 4.3

Liability of the Director in Tortious Acts of the Company

Directors as such are not liable for the torts or civil wrongs of their company. To make a  person liable for a tort, e.g. for negligence, trespass, nuisance or defamation it must be shown that he was himself the wrongdoer or that he was the employer or principal of the wrongdoer in relation to the act complained of, or that the tort was committed on his instructions. 4.4

Civil Liability to the Company

The director’s liability to the company arises in certain circumstances. They are as follows:i.

The directors are guilty of negligence,

ii.

The directors committed breach of trust,

iii.

There has been misfeasance

iv.

The director has acted ultra vires and the funds of the company have been applied for

such an act. A director is required to act honestly and diligently applying his mind and discharging his duties as a man of prudence of his ability and knowledge would do. It has been explained in the duties of directors as to what is standard or due care and diligence expected from him as explained by Justice Romer in the case of Re City Aquintable Fire Insurance Company. Any willful misconduct or culpable negligence falls within the category of misfeasance. It was held in Duomatic Ltd, Re-"A director has to act in the way in which a man of affairs dealing with his own affairs with reasonable care, and circumspection could reasonably be expected to act” 4.5 21

Liability for Tax

 Re English and Colonial Produce Co. Ltd, (1906) 2 Ch. 435  (1787) 1 WLR 1597

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Under Section 179 of the Income Tax Act 1961, when any private company is wound up and the tax assessed cannot be recovered, then every person who was a director of the private company shall be jointly and severely be liable for the payment of such tax. Where the bank account of a Director was frozen for recovering income tax dues of the Company, it was held in 23

GurudasHazra v. P.K.Chowdhury  that it was for the Director to show that the default on the  part of the company was not attributable to any breach of duty on his part. The case of Peter J R 24

 Prabhu v. Asstt Commissioner of Commercial Taxes  stated that apart from any provisions of the taxing statute, arrears of the tax amount are not to be recovered from the directors personally. 4.6

Unlimited Liability of the Directors

The liability of the directors like the shareholders is limited to the extent of the shares held by them remaining unpaid. A limited liability can make the liability of any or all of its directors unlimited. A provision to this effect has to be contained in the Memorandum that a  person who becomes director after incorporation of such a clause will have unlimited liability. 4.7

Misleading Prospectus

A director is liable to compensate a person who has subscribed shares on the faith of a  prospectus, which contained untrue statement. The Director should compensate every such subscriber for any loss or damage he may have sustained by reason of such untrue statement in an action in tort and also under section 62 of the Act to pay compensate. If the Director discovers a mistake in the prospectus, it is his duty to specifically point it out. The Director may also have to face criminal prosecution for untrue statement in the prospectus. He may be imprisoned for two years and fined Rs.5000. 4.8

Inducement to Invest

The Directors are liable to criminal prosecution for inducing or attempting to induce a  person by statement or even forecast which is false or misleading to enter into or to offer to enter into any agreement to buy shares of the company. They shall be punishable with imprisonment

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2002 109 Comp. Cas. 530 Cal  ILR 2001 KAR 1045

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for a term which may extend to five years, or with fine which may extend to Rs.10,000, or with  both. 4.9

Maintenance of Improper books of accounts

Where directors manage a company then each director shall be responsible (if there is no managing director) that the company should maintain and keep proper books of account. Default or non-compliance will make the Director punishable with imprisonment for a term not exceeding six months or fine of Rs.100 or both. In the event of winding up, failing to keep  proper accounts will make him punishable with one-year imprisonment and for falsification of  book imprisonment for eight years. 4.10

Annual General Meeting

Directors must hold the meeting even though the accounts are not ready or the company is not functioning or the management of the business is vested in the Central Government. The holding of the meeting must be within the period of 15 months after the preceding annual general meeting (AGM). The Board of Directors shall at the meeting lay a balance sheet and a profit and loss account for the financial year. For default, the Directors are liable to be punished with imprisonment for a term of six months and fine of Rs.1, 000/-. 4.11

Liability on Winding up of the Company

A Director of a company in liquidation must co-operate with the liquidator in realizing the assets of the company and distributing them among the creditors and contributors of the company. If they fail to do so they are liable to imprisonment, which may extend to five years and fine. Therefore, Directors are liable for theft of the company’s property or for false accounting. 4.12

Special Statutory Protection against Liability

The Act extends special protection against a liability that may have been incurred in good 25

faith. A good illustration here will be to cite an early case of Claridge’s Patent Ashphalt Co, Re

where the Court said that the Directors were acting for the benefit of the company and took the 25

 [1921] 1 Ch 543: 125 LT 255

 best advice from the company’s solicitor and thus were not held liable. The Bombay High Court 26

in the caseof GautamKanoria v. Assistant Registrar Of Companies also granted relief to the Directors where the AGMs could not be held and annual returns could not be filed due to the takeover of the company by the Government and the matters being beyond their control. The totality of the circumstances has to be examined for considering whether relief is to be allowed 27

or not. It was also observed in Om PrakashKhaitan v. Shree Keshariya Investment Ltd   that it would be proper to relieve directors of consequences of defaults and the breaches unless they are directly involved in the acts or omission. 4.13

Criminal Liability of the Directors 28

According to S. 138 of the Negotiable Instruments Act of 1881 , Cheque Bounce will attract criminal liability. Dishonour of cheque for insufficiency, etc., of funds in the account  Where any cheque drawn by a person on an account maintained by him with a banker for  payment of any amount of money to another person from out of that account for the discharge, in whole or in part, of any debt or other liability, is returned by the bank unpaid. either because of the amount of money standing to the credit of that account is insufficient to honour the cheque or that it exceeds the amount arranged to be paid from that account by an agreement made with that  bank, such person shall be deemed to have committed an offence and shall, without prejudice to any other provision of this Act, be punished with imprisonment for a term which may extend to one year, or with fine which may extend to twice the amount of the cheque, or with both: Provided that nothing contained in this section shall apply unless(a)thecheque has been, presented to the bank within a period of six months from the date on which it is drawn orwithin the period of its validity, whichever is earlier; (b)the payee or the holder in due course. of the cheque as the case may be, makes a demand for the payment of the said amount of money by giving a notice, in writing, to the drawer of the cheque, within fifteen days of the receipt of information by him from the bank regarding the return of the cheque as unpaid; and

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2002 108 Comp. Cas. 260 Bom 1978 48 Comp. Cas. 85 Delhi, 28  Explanation: Debt or liability refers to the legally enforceable amount 27

(c)the drawer of such cheque fails to make the payment of the said amount of money to the payee or, as the case may be, to the holder in due course of the cheque, within fifteen days of the receipt of the said notice. There are instances of cheque bounces involving companies as well. If this offence is committed  by the company, then who can be held liable? This question can be answered with the help of S. 141 of the Negotiable Instrument Act of 1881. It states that:Offences by companies  - If the person committing an offence under section 138 is a company,

every person who, at the time the offence was committed, was in charge of, and was responsible to, the company for the conduct of the business of the company, as well as the company, shall be deemed to be guilty of the offence and shall be liable to be proceeded against and punished accordingly: Provided that nothing contained in this sub-section shall render any person liable to punishment if he proves that the offence was committed without his knowledge, or that he had exercised all due diligence to prevent the commission of such offence. (2)Notwithstanding anything contained in sub-section (1), where any offence under this Act has  been committed by a company and it is proved that the offence has been committed with the consent or connivance of, or is attributable to, any neglect on the part of, any director, manager, secretary or other officer of the company, such director, manager, secretary or other officer shall also be deemed to be guilty of that offence and shall be liable to be proceeded against and  punished accordingly, Explanation.-For the purposes of this section,(a)"company" means any body corporate and includes a firm or other association of individuals; and (b) "director", in relation to a firm, means a partner in the firm. 29

In the case of Urban Co-operative Credit Society v. State of Gujarat    it was held; “Person incharge of any responsible to company for conduct of business of company shall b 29

 2004 (2) SC 24 Gujarat

deemed to have committed offence and liable to be proceeded against and punished.” In Pankaj 30

 Jain v. Gyanendrapal Singh , it was held that, “one director of the company cannot escape liability on the ground that the dishonouredcheque has been signed not by him but signed by 31

another director.” In ManjuPodar v. Ashwant Kumar  , it was held that, “the question whether only certain directors of a company and not always all the directors, could be prosecuted u/s. 138, would be conditioned by the sole and conduct of each of the directors in the management.”

These are some of the instances, by which there can be liability of the directors of the company. CHAPTER –  V Conclusion to the topic

Accountability is an important element of Board effectiveness. There should be some mechanism for evaluating the performance of the directors. The extent of liability of a director would depend on the nature of his directorship. In applying the general equitable principles to company directors, four separate rules have emerged. They are (1) that directors must act in good faith in what they believe to be the in the best interest of the company (2) they must not exercise powers conferred upon them for purposes different from those for which they are conferred. (3) that they must not fetter their discretion as to how they shall act and (4) that without theinformed consent of the company, they must not place themselves in a position in which their personal interests or duty to other persons are liable to conflict with the duties to the company. Three propositions in regard to the duties and responsibilities of directors: (1) a director need not exhibit, in the performance of his duties, a greater degree of skill than may reasonably be expected from a person of his knowledge and experience (2) a director is not bound to give continuous attention to the affairs of his company, his duties  being of an intermittent nature to be performed at periodical board meetings or committee meetings. (3) in respect of such duties as may be properly left to some other official having regard to the exigencies of business or the articles of association of the company, a director is, in the absence of grounds for suspicion, justified in trusting that official to perform such duties honestly.

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(1995) 82 Com. Cas. 578  (1996) 86 Com. Cas. 631

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