Topic: Liability of Promoters During Pre-incorporation contracts Table of Contents
Chapter 1: Promoters and Pre-incorporation Contracts
Chapter 2: Fiduciary duty of the promoter
Chapter 3: Breach of the pre-incorporation contract and the Liability of Promoters
A company is an entity which is recognized and created by the law. It can only contract when the law deems it to come into existence. This is the time when the company receives whatever powers the law and its constitution accords to it. Until a company is registered it has no existence of any kind. Many a times, promoters wish to enter into contracts which are intended to be for the benefit of the company. To get the things going in a normal way, when the public is asked to subscribe for shares immediately after the company is formed, it is necessary that the contracts are entered into for the public to know that the Company is more than the empty shell. A company cannot be held liable on a pre-incorporation contract and that the promoters were personally liable on a contract made before the incorporation of the company. There is no reasoning within the realm of agency and jurisprudence, which can justify this decision. Two consenting parties are necessary to contract, whereas the company before incorporation is a non-entity. Historically, the difficulty of faulty pre- incorporation has been handled by the common law principle of de facto corporation and corporation by estoppels. The de facto set of guidelines is the more significant of these two and permits the title-holder of the company to have the safeguard of limited liability generally provided by a corporation. De facto corporation cases usually list three requirements:
I. The existence of a statute permitting incorporation;
II. The existence of a statute permitting business organizers to undertake business in the corporate name; and III. A promoter’s good faith belief that the business was incorporated and the promoter’s colorable conformity with incorporation requirements”.
Reform of corporate law statutes, beginning in the late 1960s, clarified and simplified the common law position on pre-incorporation contracts. The Lawrence Committee, reviewing the Ontario Business Corporation Act, recommended that a corporation should have the option to adopt pre-incorporation contracts, and that until the corporation adopts the contract, the promoter should be liable. Section 20 of the O.B.C.A., enacted in 1970, and reflected these recommendations. The Dickerson Committee, which drafted the 1975 amendments to the C.B.C.A., improved upon the 1970 amendments to the O.B.C.A. It noted the "unsatisfactory state of the common law" of pre-incorporation contracts, and endorsed the recommendation of the Lawrence Committee that the promoter should be held liable until the corporation adopts the contract, but added that the promoter should be able to contract for an express waiver of liability, and that a court should have the power to order that the promoter be relieved of liability. The rationale provided by the Dickerson Committee for promoter liability prior to adoption by the corporation was that "as a matter of business reality, the promoter is usually in control of the pre-incorporation and immediate post-incorporation process and is able to protect himself." The Committee also recommended that a corporation should be able to validly adopt only written contracts because "this seems the only way of ensuring full disclosure of the terms of the contract, which is an essential protection for the corporation.” This study has been done to provide a guideline as to the liability of the promoter who acquires rights, obligations, and benefits for the company which has not been incorporated. They may protect themselves from the personal liability and the consequences thereon....
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