The Term of Company's Promoter - Essay Example

Answer: In order to answer this question it is necessary to discuss the term of promoter, pre incorporation contract and s.36 of Companies Act 1985. Although the Companies Act 1985 does not define the term promoter, the judges have framed tests for determining whether a person's activities relate to the promotion of a company. The term promoter is not defined in the Companies Act and the judges have shown little inclination towards formulating an all-embracing definition. However, in Twycross v Grants1, Cockburn CJ went so far to state that a promoter is one who undertakes to form a company with reference to a given project, and to set it going, and who takes the necessary steps to accomplish their purpose2. 1) On 15th August, Bill signed a letter that stated, "For and on behalf of Cornhill Ltd, as agent only, Bill". He agreed to purchase computer equipment costing 30,000 pounds together with a servicing agreement for five years costing 120 pounds per month. Logitech was charging an exorbitant rate for the servicing agreement; hence they wished to terminate the contract. Owing to Salomon3 principle, a company is a separate legal entity different from its members and it can therefore sue and be sued in its own name. According to Salomon principle, Cornhill Ltd can claim can claim for wrong done against it. But here the company was not registered. A company does not come into existence until the promoter has completed the registration Requirements and the Registrar of the Companies issues a certificate of incorporation Prior to this time a company cannot bind by contracts entered into in its name or on its behalf. In practice, however, promoters will need to contract with the third parties for such things as a lease of premises, business equipments and connection to utilities so that once the certificate of incorporation is issued the company can begin trading4. The problem that arises in the relation to incorporation contracts is whether Bills can avoid being personally liable on such contracts notwithstanding that the company did not exist at the time the contracts were concluded on its behalf. Quite clearly, an agent (promoter) cannot bind a non-existent principal (the company) to contracts. The common law addressed the problem by applying settled principals of contracts and agency, but partial reform was implemented by s. 9(2) of the European Communities Act 1972, now found in s.36C of the CA 1985. If somebody does not exist they cannot contract [Rover International Ltd v Cannon Film Sales Ltd (No 3)]5. So if this principle applied Cornhill Ltd can deny to follow the contract with Logitech because impose high price. Further, since at the time of a pre incorporation contracts the company does not exist, upon its subsequent creation it is necessarily a stranger to it and the doctrine of privity will operate to prevent rights and the liabilities being conferred to imposed on the company. The Contracts (Rights of third Parties) Act 1999, which allows enforcement of contracts by third parties if the contract expressly so provides or a term of the contract confers a benefit on the third party, does not apply to pre incorporation contracts. The Act is based on the recommendations of the Law Commission on its report, Privity of Contract: Contracts for the benefit of the Third Parties (Law Commission report No. 242, Cm 3329 (London, HMSO (1996)). Addressing the issue of pre incorporation contracts, the Law Commission drew the distinction between a contract on behalf of the third party and a contract for the benefit of a third party. The Law Commission stated that the former category involves the third party company becoming a party to the contract, and subject to all its rights and obligations, after its incorporation. In Kelner v Baxter6 promoters of a hotel company entered into a contract on its behalf for the purchase of wine the company, when incorporated, ratified. The wine was consumed but before payment was made the company went to liquidation.7 The promoters, as agents, were sued on the contract. Erle CJ, rejecting this argument and holding the promoters personally liable. It was exemplified by Natal Land & Colonization Co v Pauline Colliery Syndicate8, which the court from enforcing a pre-incorporation contract prevented the company made on its behalf. 2) A promoter will avoid personal liability if the company, after incorporation, and the other party substitutes the original pre incorporation contract with a new contract on similar terms. Novation, as this is called, may also be inferred by the conduct of the parties such as where the terms of the original agreement are changed (Re Patent Ivory Manufacturing Co, Howard v Patent Ivory Manufacturing Co9). But novation will not be effective by the company if the company adopts the contract due to the mistaken belief that it is bound by it (Re Northumberland Avenue Hotel Co. Ltd10). Here On 10th May 2008, at the first meeting of the board of directors of Cornhill Ltd, the contract with Logitech was approved and the company took delivery of the computer equipment. Alex, Bill and Garth delivered the necessary documents to the Registrar of Companies and received a certificate of incorporation dated 1st January 2008 on 3d January 2008. So Bill will not be personally liable on a contract where he signs the agreement merely to confirm the signature of the company because in so doing he has not held himself out as either agent or principal.11 The signature, and indeed the contractual document, will be a complete nullity because the company was not in existence. However, Bill may be liable to the other party for breach of warranty of authority on the principal of Collen v Wright12, in that he misrepresented his authority by purporting to represent a director of a non existent company which, lacking legal existence, had no validly appointed officers. 3) Now it need to discuss Section 36C(1) of the Companies Act 1985 which provides that a contract which purports to be made by or on behalf of a company at a time when the company has not been formed has effect, subject to any agreement to the contrary, as one made with the person purporting to act for the company or as agent for it, and he is personally liable on the contract accordingly13. Section 51(1) of the Companies Act 2006 provides that a contract that purpo9rts to be made by or on behalf of a company at a time when the company has not been formed has effect, subject to any agreement to the contrary, as one made with the person purporting to act for the company or as agent for it, and he is personally liable on contract accordingly14. August 2007 Bill expressly excluded his personal ability. The CA in Phonogram Ltd v Lane15, Lord Denning MR, with whom Show LJ agreed, took the phrase 'subject to any agreement to the contrary' to mean that in order to for a promoter to avoid personal liability the contract must expressly provide for his exclusion. The Court also held that it is not necessary for the putative Company to be in the process of creation at the time the contract was entered into. In Hellmuth, Obata & Kassabaum Inc v King16 the judge accepted that for the purposes of s.36 (1) persons purporting to act on behalf of an unformed company could be liable for its quasi-contractual obligation. Further, in Braymist Ltd v Wise Finance Co Ltd17, a firm of solicitors contracted as agents on behalf of a company agreed to sell land to property developers. Subsequently, the developers changed their minds and the solicitors sought to enforce the contract. The issue before the court of appeal was whether a person acting as agent of an unformed company could enforce a pre-incorporated contract under s 36 C. In this case the CA held that although he terms of the first directive referred only to liability and not to enforcement, it did not allow that s 36 C was limited in scope so as to prevent enforcement of contracts made by persons on behalf of unformed companies. The majority found that the words in the section 'and he is personally liable on the contract accordingly' did not operative to negative this view, But rather the phrase merely serves to emphasize the abolition of the common law distinction between agent who incurred personal liability on pre incorporation contracts and those who did not. The provision is so double edged that a party who is personally liable for the contract is also able to enforce it. So Bill will liable for this situation. 4) Garth is not an agent of the Company, as someone cannot be an agent of a non-existent principal Kelner v Baxter18. He is not a trustee (Re Leads). However, a promoter can be regarded as a Fiduciary (Finn, Fiduciary obligations 1977)19. Fiduciary obligations are duties owed to a third party to act with 'loyalty and good faith in dealings which affect that person' (Penner 2006). This means that the duty to act more than just acting honestly and fairly but rather the fiduciary 'must act to secure his principal's best interests and must not follow his interests. Lord Cairns LC explained the particular position of promoters as opposed to other type of fiduciaries such as trustees and directors in Erlanger v New Sombrero Phosphate Co (1878): They stand on my opinion, undoubtedly in a fiduciary position. They has in their hands the creation and mounding of the company; they have the power of defining how, and when, and in what shape, and under what supervision, it shall start into existence and begin to act as a trading corporation. The core duty of a promoter is not to make a secret profit from his position. Garth will be personally liable if Bill and Alex can proved that he made a secret profit. In Erlanger v New Sombrero Phosphate Co, a syndicate purchased a mine for 55,000.The syndicate then formed a company an through a nominees sold the mine for it for 100,000 without disclosing their interest in the contract. The mining operations were fruitless and the shareholders removed the original Directors and the new board successfully brought an action to have the sale rescinded. In Salomon v Salomon & Co Ltd20, the House of Lords took the view that if the Board was not independent, disclosure to all material facts should be made to the original shareholder. But note that in Gluckstein v Barnes21 the House of lords refined the duty further by holding that disclosure to original shareholders will not be sufficient if they are not truly independent and the scheme as a whole is designed to defraud the investing public22. As with directors, a promoter of a company selling property to the company has a duty to disclose any interest in it and a promoter undisclosed profit is usually called a secret profit. Where there is a failure to disclose the interest of a company's p in transition with the company, it is voidable at the company's option (erlanger). The company may rescind the transition. CA 2006, s 177 is based on an equitable principle that when a company is entering into a transition, a director must disclose to it any interest, which that director has in the transition. In Gwemble Vally Development Ltd v Koshy (No. 3)23 promoter must act in good faith. Where a promoter fails to make the requisite disclosure the principal remedies available on the company are rescission and an accounting of secret profits. The effect of a promoter's breach of duty is to render the contract void able at the company's option. The company therefore has the option either to rescind the contract or affirm it. Until incorporation a company cannot be bound by contracts entered into in its name or on its behalf it simply does not exist. The purchase was made at a property auction for the price of 200,000 (about half its market value at that time) and was transferred into the sole name of Garth. On 1st February 2008, Garth sold Greenacres to Cornhill Ltd for 600,000 (its true market value at that time). With respect to accounting for a secret profit, Sealy (Cases and Materials in Company law (2001)) notes that where the contract has been affirmed, the company has nevertheless sued the promoter to account for the secret profit. The action may be either in equity on the basis of a constructive trust or at law by way of a claim for money had and achieved. Further, where a promoter has been offered by not yet received a bribe or some other benefit, the company may itself enforce his claim for payment against the promisor, on the ground that the promoter holds the claim as trustee for it (Whaley Bridge Calico Printing Co v green24). It also be noted the company may have an action against the promoter in the tort of deficit. Conclusion: so in first situation Cornhill Ltd is bound to follow the terms of the contract, however Bill cannot exclude his liability for the pre incorporation contract. Bill will not be personally liable for pre incorporation contract if it ratified by novation. Bill expressly excluded his personal ability so he will not be liable for contract according to decision of Phonogram Ltd v Lane25. In last situation Garth will be personally liable if Bill and Alex can proved that he made a secret profit. Bibliography: Company Law in Practice (Blackstone Bar Manual) by Inns of Court School of Law, (03/2006), 6th edition, Oxford University Press, [ISBN: 019928489X], Page: 41-47 J. Lowry & A. Dignam, Company Law, 4th edition, (2007) Oxford University Press, Page: 55-65 French, D (ed) Blackstone's Statutes on Company Law (2007), (Oxford University Press,) 11th Edition [ISBN: 1405707747] Gower, L.C.B. and P.L. Davies Gower and Davies, Principles of Modern Company Law, (2007) Sweet & Maxwell, 8th edition, Page 48-60 Read More