A pre-incorporation contract is a contract entered into by promoters on behalf of a company that has NOT YET been incorporated. Since the company does not exist, it CANNOT be a party to any contract. The question is: who is bound? The promoter personally? The company after incorporation? The answer reveals a fundamental gap in corporate law.
Legal Framework
| Provision | Subject |
|---|---|
| S.15(h) Specific Relief Act | Specific performance of pre-incorporation contracts (after adoption) |
| S.19(e) Specific Relief Act | Company may enforce pre-incorporation contract if adopted |
| S.2(55) | "Member" defined |
| S.88 | Register of members |
| S.9 | Effect of registration (body corporate from date of certificate) |
Pre-incorporation Contracts
The Problem
| Issue | Rule |
|---|---|
| Company doesn't exist | A non-existent entity CANNOT contract (no legal personality before incorporation) |
| Promoter signs "on behalf of" company | The "company" has no capacity to authorise the promoter (doesn't exist yet) |
| Ratification impossible | Ratification requires the principal to have existed at the time of contract (agency law S.196 Contract Act) |
| Result | Pre-incorporation contract CANNOT bind the company automatically |
Who is Liable?
| Position | Rule | Authority |
|---|---|---|
| Promoter personally liable | If promoter signs in his own name "on behalf of [future company]" promoter is personally bound | Kelner v. Baxter (1866) |
| Company NOT automatically bound | Company cannot ratify (didn't exist at time of contract) must enter a FRESH contract after incorporation | General principle of agency |
| Company CAN adopt | After incorporation, company may enter a NEW contract on the same terms but this is a NEW contract, not ratification | S.15(h), S.19(e) Specific Relief Act |
| If promoter signs as "agent" | If contract shows promoter is merely agent (company is "principal") and company doesn't exist contract may be a NULLITY (no principal, no agent) | Newborne v. Sensolid (1954) |
Specific Relief Act Solution (Indian Position)
| Section | Effect |
|---|---|
| S.15(h) | Specific performance may be obtained by a new company of a contract entered into by promoters BEFORE incorporation, if: (a) contract was for the benefit of the company, (b) company has adopted the contract after incorporation |
| S.19(e) | Specific performance may be obtained AGAINST a new company if: (a) company has adopted the contract, (b) contract was for company's benefit |
| Effect | Once company ADOPTS the pre-incorporation contract it becomes enforceable BY and AGAINST the company |
| Adoption ≠ Ratification | Ratification relates back to original date; adoption creates a NEW obligation from the date of adoption |
Illustrations
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Pre-incorporation contract (the classic problem): Promoter P is forming "TechStart Pvt Ltd." Before incorporation, P signs a contract with Landlord L: "TechStart Pvt Ltd will lease Floor 3, Rs.50,000/month, for 3 years." TechStart doesn't exist yet.
After incorporation, the company occupies the premises but refuses to pay rent after 6 months. L sues "TechStart Pvt Ltd." Company's defence: "We never contracted with you we didn't exist when the contract was signed."
Result: (a) If company ADOPTED the contract (board resolution affirming the lease; occupied premises; paid rent for 6 months) company is bound under S.19(e) Specific Relief Act. (b) If company did NOT adopt L can only sue P personally (Kelner v. Baxter: promoter who contracts before incorporation is personally liable). The company escapes.
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Kelner v. Baxter vs Newborne v. Sensolid (the drafting distinction): Kelner: Contract reads "We, A, B, and C, agree to buy wine for [the future company]." A, B, and C signed in their OWN names. Result: A, B, C personally liable (they ARE parties to the contract).
Newborne: Contract reads "Leopold Newborne (London) Ltd" as the contracting party signed by Leopold "as agent." Company not yet incorporated. Result: the contract is a NULLITY there is no principal (company doesn't exist), so the "agent" has no one to act for. Leopold is NOT personally liable either (he didn't sign personally only as agent).
The DRAFTING determines liability. If promoter signs PERSONALLY (adding "on behalf of future company"): promoter is bound. If promoter signs ONLY as company's agent (company as principal): nobody is bound (nullity). Careful drafting protects the promoter.
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Adoption after incorporation (how it works): P contracts before incorporation: "Buy Plot X for Rs.50 lakhs for future ABC Ltd." ABC Ltd is incorporated. Board meeting: "Resolved: company adopts the contract dated [date] for purchase of Plot X at Rs.50 lakhs." This is ADOPTION the company NOW enters a fresh obligation on the same terms. The seller can enforce against the company (S.19(e)). The company can enforce against the seller (S.15(h)). Without adoption: the seller is stuck with P personally; company is free.
Membership in a Company
Who is a Member?
| Mode of Becoming Member | Section |
|---|---|
| Subscribers to MOA | S.2(55)(i): become members on incorporation (no separate application needed) |
| Allottees | S.2(55)(ii): persons to whom shares are ALLOTTED (after application and company's decision) |
| Transferees | Persons who acquire shares by TRANSFER from existing member (name entered in register) |
| Transmitees | Persons who acquire shares by OPERATION OF LAW (death → legal heirs; insolvency → official assignee) |
| Persons agreeing to become members | S.2(55)(iii): whose name is entered in register with their consent |
Register of Members (S.88)
| Feature | Rule |
|---|---|
| Mandatory | Every company MUST maintain register of members (S.88) |
| Content | Name, address, date of becoming member, shares held, amount paid/unpaid |
| Evidence | Register is PRIMA FACIE evidence of membership (S.91) |
| Inspection | Open for inspection by any member free; by others on payment (S.94) |
| Rectification | NCLT may order rectification if name wrongly entered/omitted (S.59) |
Member vs Shareholder
| Aspect | Member | Shareholder |
|---|---|---|
| Definition | Broader includes guarantee companies (no shares but have members) | Narrower only companies with share capital |
| Becomes by | Entry in register of members | Holding shares + entry in register |
| Rights | Voting, dividend, information, winding up surplus | Same (in share-capital companies) |
| Every shareholder is member? | Yes (if name in register) | |
| Every member is shareholder? | NO guarantee company members are not shareholders |
Illustrations
- Becoming a member (the three routes): Route 1 (Subscriber): Priya signs the MOA of "Sunrise Pvt Ltd" she becomes a member AUTOMATICALLY on incorporation (no separate allotment needed). Route 2 (Allotment): Rajesh applies for shares during a rights issue. Board allots 500 shares to Rajesh. His name is entered in register he becomes a member. Route 3 (Transfer): Rajesh sells his 500 shares to Meena. Transfer deed executed. Company registers transfer. Meena's name replaces Rajesh's in register Meena becomes member; Rajesh ceases. Route 4 (Transmission): Meena dies. Her legal heir (son Amit) applies with death certificate + succession certificate. Company enters Amit's name transmission complete.
Recall Check
- Why can a pre-incorporation contract not bind the company automatically?
- What is the difference between ratification and adoption of a pre-incorporation contract?
- How does a person become a member of a company?
Key Cases
Kelner v. Baxter (1866) Kelner-v-Baxter-1866 Issue: Whether promoters who contract before incorporation are personally liable. Rule: A person who contracts on behalf of a non-existent company is personally liable on the contract the company cannot be bound (doesn't exist). Held: Promoters who signed the contract were personally liable. The company (once formed) was not bound because it did not exist when the contract was made and could not ratify.
Newborne v. Sensolid (1954) Newborne-v-Sensolid-1954 Issue: Whether a contract signed by a promoter "as agent" of a non-existent company is enforceable. Rule: If the contract names only the non-existent company as principal (promoter signs only as agent), the contract is a nullity no principal, no agent, no contract. Held: The contract was a nullity. Leopold could not enforce it personally (he signed as agent, not personally). The company could not enforce it (didn't exist). Neither party was bound.
Distinctions
| Aspect | Pre-incorporation Contract | Post-incorporation Contract |
|---|---|---|
| Company exists? | NO not yet incorporated | YES already registered |
| Binding on company? | NOT automatically (must adopt) | YES company has capacity to contract |
| Promoter liability | Personally liable (if signed personally) | Directors/company liable (not personally unless guarantee) |
| Ratification | Impossible (principal didn't exist) | Possible (company existed at time of act) |
| Specific Relief | S.15(h)/S.19(e) (if adopted) | Normal contractual enforcement |
| Risk | High may result in nullity or promoter stuck with liability | Low standard corporate contracting |
Flashcards
Q: What is a pre-incorporation contract? A: A contract entered into by promoters on behalf of a company BEFORE the company is incorporated. The company (non-existent) cannot be a party.
Q: Is a company automatically bound by pre-incorporation contracts? A: No the company does not exist at the time of contract and cannot ratify (agency law requires principal to exist at time of act). Company must ADOPT the contract after incorporation.
Q: What is the promoter's personal liability for pre-incorporation contracts? A: If the promoter signs PERSONALLY (even adding "on behalf of future company"), the promoter is personally liable (Kelner v. Baxter). If promoter signs ONLY as agent of the non-existent company contract may be a nullity (Newborne v. Sensolid).
Q: How does the Specific Relief Act address pre-incorporation contracts? A: S.15(h): company can enforce if it adopted the contract. S.19(e): contract can be enforced AGAINST the company if it adopted. Adoption = fresh obligation on same terms (not backdated ratification).
Q: How does a person become a member of a company? A: (1) Subscribing to MOA (automatic on incorporation), (2) Allotment of shares, (3) Transfer from existing member, (4) Transmission by operation of law (death/insolvency).
Q: What is the register of members? A: Mandatory register (S.88) containing names, addresses, shares held, and amounts paid by each member. Prima facie evidence of membership. Can be rectified by NCLT (S.59).
Exam Scenario
P, while forming "GreenTech Pvt Ltd," signs a contract with V (vendor): "GreenTech Pvt Ltd agrees to purchase machinery for Rs.20 lakhs." P signs as "Director, GreenTech Pvt Ltd." The company is incorporated 2 months later. The board decides NOT to adopt the contract (machinery is now available cheaper elsewhere). V sues GreenTech for specific performance. Alternatively, V sues P personally. Advise.
Claim against GreenTech: The company was NOT in existence when the contract was signed. Under general law, the company CANNOT be bound by a pre-incorporation contract unless it ADOPTS it after incorporation. Here, the board explicitly decided NOT to adopt. Under S.19(e) Specific Relief Act: specific performance against the company requires the company to have ADOPTED the contract. No adoption → no liability on the company. V's claim against GreenTech FAILS.
Claim against P personally: P signed as "Director, GreenTech Pvt Ltd." Under Newborne v. Sensolid: if P signed ONLY in the capacity of company representative (company as principal), and the company doesn't exist the contract may be a NULLITY. Under Kelner v. Baxter: if the substance shows P personally undertook the obligation (signing "for and on behalf of"), P is personally liable.
The distinction turns on CONSTRUCTION of the contract: (a) If P signed as "Director" (implying company is the principal): Newborne applies nullity; V cannot sue P either. (b) If P signed adding personal undertaking: Kelner applies P personally liable for Rs.20 lakhs.
Practical resolution: Courts examine substance. Since P was a promoter (not actually a "director" company didn't exist), signing as "Director" is misleading. If V can show P held himself out as personally undertaking the obligation (which signing before incorporation implies), P may be personally liable under Kelner.
Advice to V: Pursue P personally. To avoid this issue in future: require promoters to sign PERSONALLY and include a clause: "Promoter shall procure the company's adoption of this contract within 30 days of incorporation."