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LEGAL ASPECTS OF BUSINESSModule II: Companies Act, 1956

• Meaning, definition and characteristics of company• Type of companies and features of various types of

companies• Formation of companies• Memorandum and articles of Association• Share Capital and Shareholders• Prospectus and Issue of Shares• Buy Back of Shares• Debentures• Company Meetings and proceedings • Powers, Duties and Liabilities of Directors• Winding up of companies.

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Companies Act 1956

“Company” “Body Corporate” or “Corporation” include a company incorporated outside India but does not include

• A Corporation sole• A Co-operative Society• Any other body corporate not being a company

notified by the Central GovernmentSalient features of a Company• The General Assembly• The Board• The Managing Director

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Companies Act 1956Definition of a “Company”• “A voluntary association of individuals formed for some

common purpose. It has capital divided into parts, known as shares. It is an artificial person created by a process of law. It has a perpetual succession and a common seal.”

“Artificial Person” means – No body or soul

• Refer N D Kapoor for Lindley’s Definition

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Companies Act 1956Salient Features of a company (characteristics)

• Legal Entity

• Limited Liability

• Separate Property (wealth)

• Perpetual succession• Common seal: (no physical existence and hence acts through authorised

officers under the seal of the company)

• Transferability of interest

• Can sue and be sued in its own name

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Companies Act 1956

Corporate Veil:Corporate Veil of Distinct Legal Entity is not applicable where the court feels

that it has to expose the ingenuous persons behind the company or to find out the purpose of incorporation. Corporate Veil is said to be lifted or pierced when the court ignores the company and deals directly with the members

Company’s Act provides the following cases where Corporate Veil is lifted • Reduction of membership• Failure to Refund the application money• Mis-description of Company name• Misrepresentation in the prospectus• Fraudulent Conduct• Holding and Subsidiary Companies

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Companies Act 1956

Corporate Veil:Judicial interpretations in lifting the corporate veil:

• Protection of Revenue (tax evasions)

• Prevention of Fraud or Improper conduct

• Determination of the character of the Company

• Where the company is used to avoid welfare legislation

• For determination of the technical competence of the company

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Companies Act 1956Types of Companies:• Limited Company -a) Limited by Shares (both public and private

companies) and b) Limited by Guarantee not having share capital; c) Limited by Guarantee having share capital also

• Unlimited Company

• Government Company

• Foreign Company

• Private Company

• Public Company

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Companies Act 1956Features of Private Companies:• Minimum Two members-Maximum Fifty Members (excluding employee

members)-Joint shareholders treated as one member. No restrictions on the number of debenture holders

• Minimum paid up capital of Rs1 lakh (Company’s amendment Act 2000)• Minimum Two directors• Consent of directors need not be filed with the Registrar• Raises capital by private arrangement—public subscription not allowed.

Raises deposits only privately from members, directors or their relatives. Debentures can be raised without any restriction

• Shares are not transferable except for the provision in the Articles (Restriction not prohibition)

• No restriction on managerial remuneration• “Private Limited” to be added the company name.• Directors are not treated as employees

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Companies Act 1956

Features of Private Companies:

• When issuing rights issues –need not be first offered to the existing shareholders

• Directors need not retire by rotation• Private company need not hold any statutory meeting or file a statutory

report• Quorum required is two persons• By virtue of restriction in public participation, a private company is

exempt from all the provisions of the Act relating to prospectus• No restrictions on commencement of business

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Companies Act 1956

Features of Public Company • Minimum 7 members—No maximum Limit• Minimum Paid up capital of Rs5 lakh• Minimum three directors• Consent of directors to be filed with the ROC or sign an undertaking for

their qualification shares.• Raises capital by inviting public subscription or by private arrangement • May raise deposits subject to regulations• Shares are freely transferable—tradeable in the market • Quorum: 5 members personally present. Articles may provide for higher

number of members.• Restrictions on total managerial remuneration (check—restrictions-total

managerial remuneration cannot exceed 11% of the net profits)• The word “Limited” is added to the company’s name.

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Companies Act 1956

Features of Public Company • Private company gets converted to a Public company by default when the

conditions alter• Petition shall be filed in such cases where conditions alter accidentally or

by inadvertence.• No time limit to inform the ROC when Public limited company gets

converted to private limited. (conversion by default)• Conversion by choice: Private to Public: Special Resolution required

providing for the change of name of the company; Articles to be changed; File a prospectus or a statement in lieu of prospectus with the ROC; raising the members to seven and raising the number of directors to three.

• Conversion of public limited to private limited company: Change in the articles should be approved by the Central Government

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Companies Act 1956Incorporation of a Company : Check whether proposed name is

available and get the same from ROC in writing.1. Type of Company: People coming together shall subscribe their names to a

Memorandum of Association and also comply with other formalities with the Registration of the company with the ROC. Company limited by shares is the most popular type.

2. Name of the Company

3. Filing of documents with ROC: M/A; A/A; Agreement with any individual for appointment as its MD or whole-time director or manager, List of Directors; Declaration(Form No 1) stating that the requirements of Companies Act have been complied with; Preparation of other documents.

4. Payment of the required fees

5. Obtaining the Certification of Incorporation.

6. Obtaining the Certificate to Commence Business.12

Companies Act 1956Incorporation of a Company : List of Documents • Particulars in favour of one of the persons named in the M/A or

any other person authorised to file documents for Registration. This will be on Non-judicial stamp paper

• Any other agreement which forms part and parcel of M/A and A/A

• Any agreement which the company to be incorporated proposes to enter into with any individual for appointment as its Managing or Whole time director or manager.

• Original true copy of the Registrar of Companies’ letter intimating about the availability of name.

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Companies Act 1956

Incorporation of a Company : List of Documents • Form No 1 (declaration)—by an advocate of the Supreme Court or High

Court, an attorney or a pleader entitled to appear before the High Court of a Secretary or a Chartered Accountant, in whole time practice in India who is engaged in the formation of a company or by a person named in the Articles as a director, manager, secretary of the company that all the requirements of the Act and the rules there under have been complied with

• Stamped and signed copy of the M/A and A/A

• Notice of the situation of the Regd office of the company in Form No 18 within 30 days of incorporation.

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Companies Act 1956

Memorandum of Association:• A fundamental document containing conditions upon which

the company is allowed to be formed.• Twin purposes- shareholders know the field in which their

money is being used and outsiders know the objects of the company

• Should be printed (laser print allowed)• Suitable paragraphs with numbers• Signed by each subscriber ( with address, description and

occupation) with minimum witness

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Companies Act 1956

Clauses in M/A• Name Clause• Regd Office clause• Objects –Main objects, Objects incidental or ancilliary and

other objects.• Powers clause• Non-trading companies when their operations extend

beyond one State, the States inwhcih they operate.• Capital Clause: Share Capital—initial capital subscribed by

the promoters.

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Companies Act 1956

Articles of Association:-

Bye laws or rules that govern the management of its internal affairs and the conduct of its business. It defines the powers of officers and the relationship between the company and its members

A/A plays a subsidiary part to the M/A

M/A and A/A are contemporaneous documents which means uncertainty or ambiguity can be understood by reference to one another.

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Companies Act 1956

Articles of Association: --A company shall have its own articles in the absence of which Provisions in

Table A given in schedule 1 of the Companies Act apply. --Shall be printed divided into paragraphs and signed by each subscriber of

the M/A with details of address, occupation along with minimum witnesses

--Contents of Articles:• Share capital—including sub-divisions• Lien on shares• Calls on Shares• Transfer/Transmission of Shares• Forfeiture/Surrender of Shares• Conversion of Shares into stock

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Companies Act 1956Articles of Association:• Share Warrants• Alteration of Share Capital• General Meetings and Proceedings• Voting rights of members• Directors—first directors, directors for life, theie appointment,

remuneration, qualification, powers and proceedings of BOD meetings• Manager• Secretary• Dividends and Reserves• Accounts and Audit• Borrowing Powers• Capitalisation of Profits• Winding up• Adoption of Preliminary Contracts.

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Companies Act 1956

Doctrine of Ultra Vires:Activity beyond the powers of the company even though ratified by all

members will be ineffective.Powers should be within the scope of M/A, sometimes implied.Following powers should be explicit• Acquiring any business similar to that of the company• Entering into Pp, JVs or other arrangements• Investing shares of other company having similar objectives• Promoting other companies and helping them financially• Using funds for political purpose• Giving gifts, donations or contributions for charities not relating to the

objects stated in the M/A/

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Companies Act 1956

Consequences of Ultra Vires:• Shareholder may obtain an injunction • Directors are personally liable for diversion of funds• Shareholder can bring action against directors who are also personally

liable for breach of warranty of authority• In case company’s money is spent on acquiring some property, the

company’s right over that property must be held secure though the company was not authorised to acquire the property

• The doctrine is used for protecting the company’s interest and cannot be used against the company’s interests.

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Companies Act 1956

Doctrine of Indoor Management

• M/A and A/A provides proper rules and an outsider is entitled to assume that the provisions have been observed by the officers of the company.

• M/A and A/A are public documents and hence any outsider who enters into a contract with the company has the means of ascertaining the propriety of the contract entered into by a company –This is called Doctrine of Constructive Notice.

• Exceptions to the rule of Doctrine of Indoor Management– Knowledge of irregularity; No knowledge of articles; Negligence; Forgery; Non-existent authority of the company.

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Companies Act 1956

PROSPECTUS: Raising the Capital from Public: Public issues:Private companies need not issue prospectus. Public Companies

shall issue Prospectus.• Prospectus include any notice, circular, advertisement or other

document inviting deposits, shares or debentures from the public• Prospectus should be dated –date appearing in the prospectus is the

date of publication and date of issue is the date on which prospectus first appears as an advertisement. It should be signed.

• Matters to be stated in the prospectus: 1) General Information; 2) Capital structure; 3) Terms of present issue; 4) Management and project and 5) Management perception of risk factors

• Prospectus cannot be issued unless a copy of which is registered with the Registrar

• The document issued by the Issue House will be treated as a Deemed Prospectus

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Companies Act 1956Information Memorandum: (Sec 60 B as inserted by Companies

Amendment Act 2000)

• A public company may circulate an information memorandum to the public before filing of prospectus. If subscriptions are invited through this information memorandum, the company is bound to file a prospectus prior to the opening of subscription lists and the offer as RED HERRING PROSPECTUS.

• RED HERRING PROSPECTUS means a prospectus which does not have complete particulars on the price of the shares and the quantum of the issue.

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Companies Act 1956Contents of Prospectus• General Information –Name and address of the regd office, consent

of the central government, Names of stock exchange where listing appn is done, declaration about refund for under subscription etc….

• Capital Structure –authorised, subscribed and paid up capital, size of the present issue, Paid up capital after the present issue, after conversion of debenture

• Terms of the present issue• Particulars of the present issue• Company Management and projects• Particulars re: related managements • Outstanding litigations• Management perception of risk factors

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Companies Act 1956

Contents of Prospectus (contd..)• Consent of Directors, Auditors, Advocates, Managers to the

issue, Registrar of issue, Bankers to the Company, Bankers to the issue and experts

• Names and address of the company secretary, legal advisors, lead managers, auditors, bankers, bankers to the issue, brokers to the issue

• Financial Information—accountants report, auditors report, terms and conditions of secured loans

• Statutory and other information• Statement by experts

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Companies Act 1956

Raising the Capital from Public: Public issues:

Golden Rule for framing of Prospectus: Every fact must be stated with strict and scrupulous accuracy.

Civil Liability for misstatement in Prospectus available against• Any director at the time of issue • Any person who authorised himself to be put in the prospectus as a

director—immediately or after an interval of time• A promoter of the company• Every person (including an expert) who has authorised the issue of

prospectus.Affected person can rescind the contract of purchase of shares or claim

damages

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Buy Back of Shares

SEBI (Buy back of Securities) (Amendment) Regulations 2012• Company can come out with a buyback through open market

and tender offer. • In open market offer companies can buyback shares from

shareholders without knowing the buyer. • Under tender offer the company has to write to every

shareholder saying it is willing to buyback shares in proportion to the issue.

• "The guideline is more theoretical. Companies are likely to execute buyback through the open market route," he said.

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Buy Back of SharesSEBI (Buy back of Securities) (Amendment) Regulations 2012: • "15 per cent of the number of securities which the company proposes to

buy back (through tender offer)... shall be reserved for small shareholders• Small shareholder refers to a shareholder who holds shares not exceeding

Rs two lakh of a listed company• The buyback process through the tender offer route can be completed

within 41 days of the board approval.• A company should publish advertisement in newspapers within 2 days

after securing board approval for the buyback and after 5 days it has to file the offer document with the SEBI.

• "The offer for buyback shall remain open for 10 working days” and the company would have to pay the buyback amount to the shareholders within 7 days

• According to the latest proposals, a company would have to purchase at least 50 per cent of the shares it planned to buy back. At present, there is no restriction on quantity. THIS IS YET TO BE APPROVED.

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Indian Companies Act 1956Meetings: • General Meetings:- a) Statutory Meetingsb) Annual General Meetingsc) Extraordinary Meetings• Class Meetings:a) Meetings of different classes of shareholders and debenture

holders—during the lifetime of the company and at the time of winding up of the company

• Meetings of Directors

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Indian Companies Act 1956Statutory Meetings:• General Meeting of Members shall be held one month after the

commencement of business but within six months from the date on which the company is entitled to commence business.

• This is the first meeting of a shareholders of a public company and is held only once in the lifetime of the company

• Board of Directors shall forward a report (called statutory report) to all the members 21 before the meeting date.

• Notice of the meeting shall state that the meeting is a statutory meeting.• Contents of statutory meeting: a) total shares allotted—fully paid, partly

paid; b) cash received on shares; c) receipts and payments abstract; d)Directors and Auditors; e) Contracts; f) Underwriting contracts, g)Calls in arrears; h)Commission and Brokerage

• Statutory Report shall be certified by at least two directors, one of whom shall be the MD (if there in one)

• A copy of the report to be sent to ROC

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Indian Companies Act 1956Annual General Meetings• AGM shall be held every year with intervals not exceeding 15 months• ROC may permit extension of 3 months—not applicable to the first AGM• Notice shall specify that the meeting is an AGM• First AGM can be held within 18 months. • 21 days’ notice in writing (electronic mode welcome) duly indicating all

particulars like date, time, venue, agenda etc• AGM shall be held during business hours on a working day at the Regd

office or any other location in the town/city where the regd office is located.

• Shareholders can vote and exercise control over the affairs of the company. Confront the directors, discuss and review the working of the company. Audited accounts are presented for consideration of shareholders. Dividends are declared. Auditors are appointed.

• If a meeting is not held, any member can write to the Company Law Board and cause the meeting to be held.

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Indian Companies Act 1956

Extra Ordinary General meetings• Statutory meetings and AGMs are called ordinary meetings. A

meeting other than these is called Extra Ordinary General meeting

• Extra ordinary General Meeting is called to transact some special or urgent business which cannot be postponed till the next AGM.

• Directors on their own or at the request of members can call Extra Ordinary General Meeting

• Requisitionists themselves can call the meeting when the Directors fail to call the meeting

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Indian Companies Act 1956• Directors on their own call for EGM for: a)transacting any

special business; b)Issue of Right Shares or c)Increase in the remuneration of MD, whole time director

• When the Directors call the EGM on the requisition such Requisition shall set out the matters for consideration

• On members’ requisition: Purpose of EGM a)Shareholders’ right to requisition the meeting; b)It shall be deposited with the Regd office of the company; c) Member need not disclose the reasons for the resolutions to be proposed at the meeting.

• Company Law Board (by its powers)where it is impracticable to hold the meetings, CLB can call an EGM on its own, or on the directors’ application or on any member’s application

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Indian Companies Act 1956Requisites of a valid meeting:• Proper Authority• Notice of the meeting—sufficient time period and contents• Ordinary business:-a) Considering accounts and audit; b) Dividend declaration;

c) appointment of directors in place of those retiring; and d) appointment of auditors and fixing their remuneration

• Special Business:- a)Removal of a director; b) Issue of Rights/Bonus Shares; and c) Election of a person (other than a retiring director) as a director

• Quorum: generally fixed by Articles: a) 5 members in a public company and 2 in a private company; b)Meeting can be adjourned if quorum not there; c) adjourned meeting can be held without quorum; d) Quorum need not be there throughout but shall be there at the time of transacting the business.

• Presiding officer (chairman) shall be elected from among the members present

• Minutes of proceedings (minutes book with proper numbering of pages)—evidentiary value

• Voting can be by show of hands, taking a poll and/or through proxy

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Indian Companies Act 1956Resolutions:• Ordinary Resolution: passed at the General Meeting by a

simple majority• Unless the Companies Act or M/A expressly require a special

resolution, any matter can be taken up through an ordinary resolution.

• a) Rectification of name or adoption of a new name of the company; b) issue of shares at a discount; c) Alteration of share capital; d)Reissue of redeemed debentures; e) adoption of statutory report ; f) passing annual accounts and Bal sheet; g) appointment of auditors and fixing remuneration; h) appointment of first directors; i) appointment of whole time MD; k)appointment of sole selling agents etc

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Indian Companies Act 1956Resolutions:Special Resolution:----Intention to be specified --Notice --Subject matter of the

special resolution, nature & concern /or interest of every director/manager--A copy of the resolution to be filed with ROC within 30days--Voting by ¾ to protect the minority interests

Purpose of Special Resolution: a) Alteration of M/A re; change of the regd office from one State to another b) Alteration of A/A; c) Reduction of Share Capital; and many other items where it cannot wait till the AGM or certain activities requiring Special Resolution as per Law. ( Refer Text for more points)

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Indian Companies Act 1956Directors appointment, powers, duties and liabilities, Accounts and

Audit Appointment of Directors:• First Directors: --Articles usually mention the First Directors, their

number, their names; If Articles are silent, then subscribers to the M/A shall in writing determine the names --If both the above are not carried out, then subscribers to the M/A who are individuals become the First directors

• Appointment of Directors by the company: Shareholders in the AGM. At least 2/3rds retire by rotation every year. Vacancies caused by retiring directors will be filled by the same retiring directors or other persons. However, 1/3 of the rotational directors shall retire. Director who has been longest in office since last appointment shall be the first to retire. Vacancy may remain unfilled by a resolution. In the absence of such resolution, retiring director is deemed to have been re-appointed.

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Indian Companies Act 1956Appointment of Directors:• Appointment of Directors by directors: Existing directors may

appoint directors as additional directors or in a casual vacancy ( a director vacating his office before his term) or as alternate director ( appointment by the board where an existing director is absent for at least 3 months)

• Appointment of Directors by Third Parties: Articles may allow Debenture holders or other creditors (bankers/financiers). The number shall not exceed 1/3 of the total number. These directors are not liable to retire by rotation

• Appointment of Directors by proportional representation: Articles may prescribe appointment of 2/3rds on proportional representation basis for 3 years and casual vacancies being filled up.

• Appointment of Directors by Central Government: Central Government appoints Directors for a period of 3 years on the advice of Company Law Board ( larger interests)

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Indian Companies Act 1956POWERS OF DIRECTORS:• General Powers-co-extensive with those of the company.—Shall

not do any act which is to be done in a General meeting—General powers are subject to the Companies Act or in the M/A or A/A or in any regulations made in the General meeting. However, Regulations made in a General Meeting have prospective effect ( not retrospective). –will not affect directors actions taken earlier to the passing of regulations in the General meeting.

• Powers at the Board Meeting: Through Board Resolutions, the following powers available:--make calls on shareholders; issue debentures; borrow money other than debentures; invest the company funds; make loans. Powers to borrow, invest the funds and make loans can be delegated to a committee or to manager or principal officers of the company.

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POWERS OF DIRECTORS:• Powers with the approval of the company in General meeting:--Sell,

Lease, dispose of whole or substantially whole of the undertaking (amalgamation scheme)—Remit or give time for repayment of any debt due to the company by a director (excepting renewal or continuance of a bank loan to a director)—investing the compensation received in case of compulsory acquisition of any undertaking or property of the company—to borrow moneys subject to certain conditions—to contribute to charitable and other funds

• Powers to make political contributions:--Out of profits only—Max 5% of the Net Profits—board resolution necessary—These power is not available to the directors of government companies and companies which are less than 3 years in existence.

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Indian Companies Act 1956Duties of Directors:

• Fiduciary Duties--Honest, bona fide duties for the company as a whole—Not to place themselves in situations conflicting the company interests and their personal interests—(fiduciary duties owed to the company not to the shareholders)

• Duties of Care, Skill and Diligence—Setting up standards, Delegation of powers between directors/other officers—general usages and practices –whether directors work gratuitously or for remuneration

• Other duties: --to attend board meetings—not to delegate his functions except to the extent authorised by the Act or the constitution of the company and to disclose his interest.

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Indian Companies Act 1956Liabilities of directors: Liability to Third parties: a) Issue of prospectus, particulars required by

the Companies Act missing in prospectus, or material misrepresentation; b) Personal liability in case of –failure to repay the application money-- irregular allotment--faiilure to repay application money if no application to the stock exchange is made or stock exchange refuses to list the securities –failure of the company to pay a Bill of Exchange, hundi or Promissory Note or cheque

However, directors are not personally liable on contracts entered into on behalf of the company (as agents in normal course of business). Major exception to this rule—if a director signs a negotiable instruments without company seal, it is deemed to attract a personal liability

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Liability to the Companya)Personally –jointly and severally liable for ultra vires acts ( not

necessary to prove fraud) eg dividends paid out of capital or involve funds in ultra vires transactions;

b)Personally liable for NEGLIGENCE.(not exercising proper care and diligence in duties

c) Breach of Trustd) Misfeasance (wilful misconduct)

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Indian companies Act 1956Liability for breach of statutory duties: Maintenance of proper

accounts; filing of returns or observing certain statutory formalities

Liability for acts of co-directors: Not liable for the acts of co-directors unless he himself is a party or has knowledge of the acts of co-directors

Validity of acts of directors: Acts of Directors are valid even if at a later date his appointment is discovered to be invalid.

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WINDING UP OF COMPANIES:• Winding up or Liquidation of a Company means the company

is dissolved.• Assets are disposed off and the debts are paid off out of the

realised assets or from contributions and the surplus, if any distributed among the members.

• The priority in which the claims are disposed off is important• The property is administered in the hands of and

administrator called the liquidator who will undertake the process of liquidation

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Indian Companies ActModes of Winding Up:• Compulsory winding up by the Court• Voluntary Winding up; a) by members; b) by creditors• Winding up subject to supervision of the court

Court Winding up:• Special Resolution of the company. Voluntary winding up is cheaper

than this• Default in delivering the statutory report to the Registrar or in

holding the meeting—ROC or a contributory may move a petition after 14 days from the date of the statutory meeting date. Court may give one more opportunity by directing the company to submit all the pending statements and comply with all the pending activities and directing the persons concerned to bear all the costs. In such cases, winding up does not happen.

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Court Winding up: Grounds on which such petition can be filed:• Illegal or ultra vires acts• Frauds on the minority, oppression of the minority• Company’s act inconsistent with the Articles• Ordinary resolution passed where special resolution is

required• Infringement of rights of individual members• Breach of duty• Mismanagement of the company

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