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Yashwantrao MBA401

Chavan
Maharashtra
kmZJJmKamoKar Open University

Business Law
Unit 1 Introduction to Business Law 1
Unit 2 Indian Contract Act, 1872: Nature and Kind of Contracts 5
Unit 3 Indian Contract Act, 1872: Offer and Acceptance 15
Unit 4 Indian Contract Act, 1872: Capacity of Parties and Consideration 27
Unit 5 Indian Contract Act, 1872: Other Essential Elements of a Contract 37
Unit 6 Indian Contract Act, 1872: Performance and Discharge of Contract 55
Unit 7 Indian Contract Act, 1872: Remedies for Breach of Contract and
Quasi- Contract 73
Unit 8 Indian Contract Act, 1872: Indemnity and Guarantee 83
Unit 9 Indian Contract Act, 1872: Agency 95
Unit 10 Sales of Goods Act, 1930 109
Unit 11 The Negotiable Instruments Act, 1881 139
Unit 12 Companies Act, 2013: Types of Companies and their Characteristics 167
Unit 13 Companies Act, 2013: Memorandum, Articles of Association and
Prospectus 181
Unit 14 Companies Act, 2013: Share Capital And Transfer of Shares 203
Unit 15 Companies Act, 2013: Meeting and Power of Board 227
Unit 16 Companies Act, 2013: Management of Company 255
Unit 17 Consumer Protection Act, 2015 279
Unit 18 Limited Liability Partnership Act, 2008 295
Yashawantrao Chavan Maharashtra Open University (MBA-401)
Vice-Chancellor: Prof. E. Vayunandan
Director, School of Commerce & Management: Dr. Pandit Palande
NATIONAL ADVISORY BOARD___________________________________________________________

Dr. Pandit Palande Prof. Devanath Tirupati, Dr. Surendra Patole


Former Vice Chancellor Dean Academics, Assistant Professor,
Director, School of Commerce Indian Institute of Management School of Commerce &
& Management (IIM-Bangalore) Bangalore. Management
Yashwantrao Chavan Maharashtra Yashwantrao Chavan Maharashtra
Open University, Nashik Open University, Nashik

Prof. Sudhir .K.Jain Prof. Karuna Jain, Dr. Latika Ajitkumar Ajbani
Former Vice Chancellor, Director, Assistant Professor,
Professor and Former Head N I T I E, Vihar Lake, School of Commerce & Management,
Indian Institute of Technology Delhi, Mumbai 400087 Yashwantrao Chavan Maharashtra
Department of management Studies Open University, Nashik

Prof. Vinay .K.Nangia,


Professor and Former Head,
Department of Business Studies,
Indian Institute of Technology,
(IIT- Roorkee) Roorkee.
___________________________________________________________________________________________
Author _________ __________ _Editor____________________ ___________________
Dr. Satish kumar Dr. Divesh Kumar
Assistant Professor, Assistant Professor,
Department of Management Studies, Department of Management Studies,
Malviya National Institute of Technology, Malviya National Institute of Technology,
Jaipur Jaipur
___________________________________________________________________________________________
Instructional Technology Editing Programme Co-ordinator
___________________________________________________________________________________________
Dr. Pandit Palande Dr. Latika Ajitkumar Ajbani
Former Vice Chancellor Assistant Professor,
Director, School of Commerce School of Commerce & Management,
& Management, Yashwantrao Chavan Maharashtra Open University, Nashik
Yashwantrao Chavan Maharashtra Open University, Nashik
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Manager, Print Production Centre Y. C. M. Open University, Nashik- 422 222
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BUSINESS LAW

SYLLABUS

UNIT 1: INTRODUCTION TO BUSINESS LAW


Nature and meaning of law
Sources of business law in India

UNIT 2: INDIAN CONTRACT ACT, 1872: NATURE AND KIND OF CONTRACTS


Meaning of contract
Essential elements of a valid contract
Types of contract

UNIT 3: INDIAN CONTRACT ACT, 1872: OFFER AND ACCEPTANCE


Essential elements of an offer
Classification of offers
Lapse and revocation of offer
Acceptance and legal rules for the acceptance
Communication of offer, acceptance and revocation

UNIT 4: INDIAN CONTRACT ACT, 1872: CAPACITY OF PARTIES AND CONSIDERATION


Capacity of parties
Minor and minors agreements
Person of unsound mind and disqualified by law
Consideration and essentials of a valid consideration

UNIT 5: INDIAN CONTRACT ACT, 1872: OTHER ESSENTIAL ELEMENTS OF A CONTRACT


Meaning of consent
Free consent, Coercion, Undue Influence, Fraud, Misrepresentation, Mistake
Unlawful object
Unlawful consideration
Contingent contract

UNIT 6: INDIAN CONTRACT ACT, 1872: PERFORMANCE AND DISCHARGE OF CONTRACT


Performance of contract
Essentials of a valid tender and types of tenders
Performance of joint promise
Time and Place for performance of promise
Kinds of reciprocal promise and rules regarding performance of reciprocal promises
Assignment and discharge of contracts
UNIT 7: INDIAN CONTRACT ACT, 1872: REMEDIES FOR BREACH OF CONTRACT AND QUASI-
CONTRACT
Rescission of a contract
Suit for damages, specific performance and injunction
Suit upon quantum meruit
Quasi-contract

UNIT 8: INDIAN CONTRACT ACT, 1872: INDEMNITY AND GUARANTEE


Indemnity contract and its essential elements
Rights of an indemnity holder
Contract of guarantee and its essential elements
Kinds of guarantee
Rights and liability of Surety
Discharge of a Surety

UNIT 9: INDIAN CONTRACT ACT, 1872: AGENCY


Agency and essentials for a valid agency
Kinds of agents and creation of agency
Essentials of a valid ratification
Sub-Agent and Substituted agent
Duties and rights of an agent
Termination of an agency

UNIT 10: SALES OF GOODS ACT, 1930


Essentials of valid sales
Kinds and prices of goods
Conditions and warranties
Doctrine of caveat emptor
Transfer of ownership
Unpaid seller and rights of unpaid seller
Buyers right against the seller or remedies against seller- sections 55-61
Auction sale- section 64

UNIT 11: THE NEGOTIABLE INSTRUMENT ACT, 1881


Characteristics and presumptions as to negotiable instrument
Classification of negotiable instruments
Maturity of a negotiable instrument- Sections 22-25
Negotiation- Section 14
Endorsement and kinds of endorsements- Sections 16, 50, 52 and 60
Distinction between negotiation and assignment
Holder- Section 8
Protection to paying banker- Section 85
Liability of the paying banker and collecting banker- Section 129
Material alteration
Acceptance of bill and acceptance for honour
Discharge of a negotiable instrument and discharge of a party

UNIT 12: COMPANIES ACT, 2013: TYPES OF COMPANIES AND THEIR CHARACTERISTICS
Characteristics of company
Body corporate
Lifting of corporate veil
Types of company
Control of compensation of board
Promoter and duties of promoter
Effects of pre- incorporation contracts
Steps to obtain certificate of incorporation and certificate of commencement of business

UNIT 13: COMPANIES ACT, 2013: MEMORANDUM, ARTICLES OF ASSOCIATION AND PROSPECTUS
Memorandum of Association and its purpose
Contents of the Memorandum of Association
Doctrine of ultra vires
Articles of Association and its contents
Procedure for alteration of Association
Doctrine of constructive notice and Doctrine of indoor management
Prospectus and its contents
Shelf Prospectus and Information Memorandum Section 31

UNIT 14: COMPANIES ACT, 2013: SHARE CAPITAL AND TRANSFER OF SHARES
Share Capital and types of shares
Allotment of shares and general provisions for allotment of shares
Brokerage
Reduction of share capital
Issue of shares at premium and discount
Forfeiture of shares and legal requirements for Forfeiture of shares
Surrender and transfer of shares
Termination of partnership
Rights of member of a company and rights to the members as group
Nomination
Debentures and types of debentures
Debenture Trustees and their functions

UNIT 15: COMPANIES ACT, 2013: MEETING AND POWER OF BOARD


Kinds of company meetings and requisites of a valid meeting
Proxy and revocation of Proxy after appointment
Quorum and chairman of a General Meeting- Section 104
Poll- Section 109
Postal Ballot- Section 110
Adjournment of meeting
Kinds of resolutions
Meaning of Board of Directors and their powers
Frequency of Board Meetings and Quorum for Board meeting- Section 174
Minutes of Board meeting- Section 118

UNIT 16: COMPANIES ACT, 2013: MANAGEMENT OF COMPANY


Director and disqualification of director
Appointment of directors
Director Identification Number- Section 153- 159 and Rule 9
Minimum and maximum Number of directors- Section 149
Resignation by director- Section 168
Powers of Board of Directors
Related Party Transaction- Section 188
Managing Director- Section 2(54) and disqualification of Managing Director or Whole- Time Director or Manager
Whole-Time Director- Section 2(94)
Managerial remuneration and its methods

UNIT 17: CONSUMER PROTECTION ACT, 2015


Scope and applicability of the Act
Rights of Consumer
Consumer and Complaint
Unfair Trade Practice and Restrictive Trade Practice
Defect and Deficiency
Manufacturer and Trader
Consumer Dispute
Redressal Machinery under the Act
Powers of the Dispute Redressal Agencies

UNIT 18: LIMITED LIABILITY PARTNERSHIP ACT, 2008


Features of LLP and LLP agreement
Partner and Designated Partner
Registered office
Name of LLP- Sections 11- 21
Whistle Blowing- Section 31
Audit and Financial Disclosures- Section 34-35
Assignment and transfer of Partnership rights- Section 42
Foreign LLP- Sections 59 and Rule 34
Taxation of LLP
Conversion of Partnership Firm or Private Company or Unlisted Public Company into LLP- Sections 55- 58
Winding Up of LLP- Sections 63 and 64
Introduction to Business Law
Unit 1: Introduction to Business Law
Structure
1.0 Introduction NOTES
1.1 Unit Objectives
1.2 Nature and Meaning of Law
1.3 Sources of Business Law in India
1.4 Key Terms
1.5 Summary
1.6 Questions and Exercise

1.7 Further Readings and References

1.0 Introduction
Business law encompasses all of the laws that dictate how to form and run a business.
This includes all of the laws that govern how to start, buy, manage and close or sell
any type of business. Business laws establish the rules that all businesses should
follow. A savvy businessperson will be generally familiar with business laws and
know when to seek the advice of a licensed attorney. Business law includes state
and federal laws, as well as administrative regulations.
According to a Dictionary of Basic Legal Terms, law is [1] the regime that
orders human activities and relations through systematic application of the force of
politically organized society, or through social pressure, backed by force, in such a
society.
[2] This definition of the law, while true, is too abstract and long for our
needs. We should therefore think of the law in more basic terms as rules that govern
and guide actions and relations among and between persons, organizations, and
governments.

1.1 Unit Objectives


After completing this unit, students will be able to:
Understand the meaning of law
Explain the sources of business law in India

1.2 Nature and Meaning of Law


The word Law has been derived from the Teutonic word Lag, which means
definite. On this basis Law can be defined as a definite rule of conduct and human
relations. It also means a uniform rule of conduct which is applicable equally to all
the people of the State. Law prescribes and regulates general conditions of human
activity in the state.
A law is a rule of conduct imposed and enforced by the sovereign. Austin
Business Law : 1
Introduction to Business Law Law is the body of principles recognised and applied by the state in the
administration of justice.- Salmond
Law in its most general and comprehensive sense signifies a rule of action
NOTES and is applied indiscriminately to all kinds of actions whether animate or in-
animate, rational or irrational.- Blackstone
Law is rule of external human actions enforced by Sovereign Political au-
thority.- Holland

1.2.1 Nature of Law


1. Law is a general rule of human behaviour in the state. It applies to all people of
the state. All are equally subject to the laws of their State. Aliens living in the
territory of the State are also bound by the laws of the state.
2. Law is definite and it is the formulated will of the State. It is a rule made and
implemented by the state.
3. State always acts through Law. Laws are made and enforced by the govern-
ment of the State.
4. Law creates binding and authoritative values or decisions or rules for all the
people of state.
5. Sovereignty of State is the basis of law and its binding character.
6. Law is backed by the coercive power of the State. Violations of laws are
always punished.
7. Punishments are also prescribed by Law.
8. The courts settle all disputes among the people on the basis of law.
9. In each State, there is only one body of Law.
10. Legally, Law is a command of the sovereign. In contemporary times laws are
made by the representatives of the people who constitute the legislature of the
State. Laws are backed by on public opinion and public needs.
11. The purpose of Law is to provide peace, protection, and security to the people
and to ensure conditions for their all-round development. Law also provides
protection to the rights and freedoms of the people.
12. All disputes among the people are settled by the courts on the basis of an
interpretation and application of the laws of the State.
13. Rule of law, equality before law and equal protection of law for all without any
discrimination, are recognised as the salient features of a modern legal system
and liberal democratic state.

1.3 Sources of Business Law in India


Prior to the enactment of the various Acts constituting Business Law, business
transactions were regulated by the personal laws of the parties to the suit. The
rights of Hindus and Muslims were governed by their respective laws and usages.
Where both parties were Hindus, they were regulated by the Hindu Law and where
Business Law : 2
Introduction to Business Law
both parties were Muslims, the Mohammadan Law was applied. Where one party
was a Hindu and the other was a Muslim, the personal law of defendant was ap-
plied. In case of persons other than Hindus and Muslims, and also where laws and
usages of Hindus and Muslims were silent on any point, the courts generally applied
NOTES
the principles of English Law.
Gradually, need for the enactment of a uniform law regulating the contracts
was realised and this gave birth to the Indian Contract Act, 1872. The sources of Check your progress
business law in India are generally the English laws which, in turn, have their roots What do you mean by
in the following: Law?
Explain the necessity of
1.3.1 English Mercantile Law Law.

The English Mercantile Law constitutes the foundation on which the super-struc-
ture of the Indian Business Law has been built. Even now, despite the enactment of
various statutes relating to matters falling within the purview of the Business Law,
our courts generally take recourse to the English Law where some principles are
not expressly dealt within an Act, or where there is ambiguity.

1.3.2 The Statute Law


When a Bill is passed by the parliament and signed by the President, it becomes an
Act or a statute. The bulk of Indian Business Law is Statute Law. The Indian
Contract Act, 1872; The Negotiable Instruments Act, 1981; The Sale of Goods Act,
1930; The Indian Partnership Act, 1932; The Companies Act, 1956 are instances of
statute Law.

1.3.3 Judicial Decisions or Case Law


Judicial decisions are usually referred to as precedents and are binding on all courts
having jurisdiction lower to that of the court which gave the judgement. They are
also generally followed even by those of equal jurisdiction in deciding similar points
of law. Whenever an Act is silent on a point or there is ambiguity, the judge has to
decide the case according to the principles of justice, equity and good conscience.

1.3.4 Customs and Usages


Custom or usage of a particular trade also guides the courts in deciding disputes
arising out of mercantile transactions, but such a custom or usage must be widely
known, certain any reasonable, and must not be opposed to any legislative enact-
ment. But where a statue specifically provides that the rules of law contained therein
are subject to any well recognised custom or usage of trade, the latter may over-
ride the stature law.

1.4 Key Terms


Law: The system of rules which a particular country or community recognizes
as regulating the actions of its members and which it may enforce by the impo-
sition of penalties.
Business Law: Commercial law, also known as business law or corporate law,
is the body of law that applies to the rights, relations, and conduct of persons Business Law : 3
Introduction to Business Law and businesses engaged in commerce, merchandising, trade, and sales. It is of-
ten considered to be a branch of civil law and deals with issues of both
private law and public law.
Indian Contract Act, 1872: The law relating to contracts in India is contained
NOTES
in Indian Contract Act, 1872. The Act was passed by British India and is based
on the principles of English Common Law. It is applicable to all the states
of India except the state of Jammu and Kashmir.
Negotiable Instrument Act, 1981: The Negotiable Instruments Act, 1881.
An Act to define and Law relating to negotiable instruments which are Promis-
sory Notes, Bills of Exchange and cheques.

1.5 Summary
Business law encompasses all of the laws that dictate how to form and run a
business. This includes all of the laws that govern how to start, buy, manage and
close or sell any type of business.
The word Law has been derived from the Teutonic word Lag, which means
definite. On this basis Law can be defined as a definite rule of conduct and
human relations. It also means a uniform rule of conduct which is applicable
equally to all the people of the State.
There are various branches of law like International law, constitutional law,
criminal law, civil law, business law or mercantile law.
The main sources of business law in India are English law, Judicial decisions,
Customs and Usages and Indian statutes.

1.6 Questions and Exercise


1. Law and business are closely related disciplines. Discuss.
2. What is Law? What is the need for managers to know about law?
3. Define the term Business law. What are the main sources of business law in
India?

1.7 Further Readings and References


Books
1. Goel, P. K., Business Law for Managers, Biztantra.
2. Sheth, T., Business Law,2nded. PearsonIndia Education Services Pvt. Limited.
3. Kuchhal. M.C. & Prakash, D., 3rd ed.Business Legislation for Management,
Vikas Publishing House Pvt. Limited.

Business Law : 4
Indian Contract Act, 1872:
Unit 2: Indian Contract Act, 1872: Nature and Nature and Kind of Contracts
Kind of Contracts
Structure
NOTES
2.0 Introduction
2.1 Unit Objectives
2.2 Meaning of Contract
2.3 Essential Elements of A Valid Contract
2.4 Types of Contract
2.5 Distinguish Between Void and Voidable Contract
2.6 Key Terms
2.7 Summary
2.8 Questions and Exercise
2.9 Further Readings and References

2.0 Introduction
The Law of Contract constitutes the most important branch of Mercantile or
Commercial Law. It is the foundation upon which the superstructure of modern
business is built. It affects everybody, more so, trade, commerce and industry. It may
be said that the contract is the foundation of the civilized world.
The Indian Contract Act mostly deals with the general principles and rules
governing contracts. The Act is divisible into two parts. The first part (Section 1-75)
deals with the general principles of the law of contract, and therefore applies to all
contracts irrespective of their nature. The second part (Sections 124-238) deals with
certain special kinds of contracts, namely contracts of Indemnity and Guarantee,
Bailment, Pledge, and Agency.

2.1 Unit Objectives


After completing this unit, you will be able to:
Understand the meaning of contract and agreement
Know the essential elements of a contract
Discuss the types of contract

2.2 Contract
According to section 2 (h) of the Indian Contract Act, 1872 An agreement enforceable
by law is a contract. This definition indicates that a contract essentially consists of
two distinct parts. First, there must be an agreement. Secondly, such an agreement
must be enforceable by law. To be enforceable, an agreement must be coupled with
Business Law : 5
Indian Contract Act, 1872: an obligation. A contract therefore, is a combination of the two elements: (1) an
Nature and Kind of Contracts
agreement and (2) an obligation.

2.2.1 Agreement
NOTES As per Section 2(e): Every promise and every set of promises, forming the
consideration for each other, is an agreement. Thus it is clear from this definition
that a promise is an agreement.

2.2.2 Promise
According to Section 2(b) of the Indian Contract Act when the person to whom the
proposal is made signifies his assent thereto, the proposal is said to be accepted. A
proposal, when accepted, becomes a promise. An agreement, therefore, comes into
existence when one party makes a proposal or offer to the other party and that other
party signifies his assent thereto. In nutshell, an agreement is the sum total of offer
and acceptance.
An analysis of the definition given above reveals the following characteristics of an
agreement:
(a) Plurality of persons: There must be two or more persons to make an agreement
because one person cannot enter into an agreement with himself.
(b) Consensus ad idem: The meeting of the minds is called consensus-ad-idem.
It means both the parties to an agreement must agree about the subject matter of
the agreement in the same sense and at the same time.

2.2.3 Legal obligation


As stated above, an agreement to become a contract must give rise to a legal
obligation i.e. a duty enforceable by law.

2.3 Essential Elements of a Valid Contract


Section 10 of the Indian Contract Act, 1872 provides that all agreements are contracts
if they are made by the free consent of parties competent to contract, for a lawful
consideration and with a lawful object, and are not hereby expressly declared to be
void.
The essential elements of a valid contract are:
i. An offer or proposal by one party and acceptance of that offer by another
party resulting in an agreementconsensus-ad-idem.
ii. An intention to create legal relations or intent to have legal consequences.
iii. The agreement is supported by a lawful consideration.
iv. The parties to the contract are legally capable of contracting.
v. Genuine consent between the parties.
vi. The object and consideration of the contract is legal and is not opposed to
public policy.

Business Law : 6 vii. The terms of the contract are certain.


Indian Contract Act, 1872:
viii. The agreement is capable of being performed i.e., it is not impossible of being Nature and Kind of Contracts
performed.
Therefore, to form a valid contract there must be (i) an agreement, (ii) based on the
genuine consent of the parties, (iii) supported by a lawful consideration, (iv) made NOTES
for a lawful object, and (v) between the competent parties.

2.3.1 Offer and Acceptance


Firsty, there must be an offer and its acceptance. Such offer and acceptance should
create legal obligations between parties. This should result in a moral duty on the
person who promises or offers to do something. Similarly this should also give a
right to the promise to claim its fulfillment. Such duties and rights should be legal and
not merely moral.
Case law: In Balfour v. Balfour, a husband promised to pay maintenance allowance
every month to his wife, so long as they remain separate. When he failed to perform
this promise, she brought an action to enforce it. As it is an agreement of domestic
nature, it was held that it does not contemplate to create any legal obligation.

2.3.2 Consent
Consent means knowledge and approval of the parties concerned. A contract is
made when one person makes an offer while another person accepts the offer. This
acceptance of the offer should be made without any force or threat. It means that a
consent given should be free and genuine.
Example: A has two cars- one black and the other white. He offers to sell one of
his cars to B. A intends to sell the black one while B accepts the offer believing that
it is for the white car. Here, A and B are not thinking in the same sense of a particular
thing. In this situation, there is a mistake, so it cannot be said to be a free consent.

2.3.3 Capacity of the parties


The third element is the capacity of the parties to make a valid contract. Capacity or
incapacity of a person could be decided only after calculating various factors. Section
11 of the Indian Contract Act,1872 elaborates on the issue by providing that a person
who-
(a) has not attained the age of majority,
(b) is of unsound mind, and
(c) is disqualified from entering into a contract by any law to which he is subject,
should be considered as not competent to enter into any contract. Therefore, law
prohibits (a) Minors (b) persons of unsound mind [excluding the lucid intervals] and
(c) person who are otherwise disqualified like an alien enemy, insolvents, convicts
etc from entering into any contract.

2.3.4 Consideration
Consideration is one of the essential elements of a valid contract. Section 2(d) of the
Indian Contract Act, 1872 defines consideration thus: when at the desire of the
promisor, the promisee or any other person has done or abstained from doing, or
Business Law : 7
Indian Contract Act, 1872: does or abstains from doing, or promises to do or to abstain from doing something,
Nature and Kind of Contracts
such act or abstinence or promise is called a consideration for the promise.
In simple words Consideration would generally mean compensation for doing or
omitting to do an act or deed. It is also referred to as quid pro quo viz something in
NOTES
return for another thing. Such a consideration should be a lawful consideration.
Check your progress Example: A agrees to sell his books to B for Rs. 100, Bs promise to pay Rs. 100 is
What is contract? the consideration for As promise to sell his books and As promise to sell the books
. Define agreement. is the consideration for Bs promise to pay Rs. 100.
. What do you understand
by consideration?
2.3.5 Not expressly declared to be void
The last element to clinch a contract is that the agreement entered into for this
purpose must not be which the law declares to be either illegal or void. An illegal
agreement is an agreement expressly or impliedly prohibited by law. A void agreement
is one without any legal effects.
Example: Threat to commit murder or making/publishing defamatory statements or
entering into agreements which are opposed to public policy is illegal in nature.
Similarly, any agreement in restraint of trade, marriage and legal proceedings etc.
are classic examples of void agreements.

2.4 Types of Contract


2.4.1 Express contract
A contract would be an express contract if the terms are expressed by words or in
writing. Section 9 of the Act provides that if a proposal or acceptance of any promise
is made in words the promise is said to be express.
Example: A says to B Will you purchase my bike for Rs. 30,000? B says Yes to A.
2.4.2 Implied contract
Implied contracts in contrast come into existence by implication. Most often the
implication is by law and or by action. Section 9 of the Act contemplates such implied
contracts when it lays down that in so far as such proposal or acceptance is made
otherwise than in words, the promise is said to be implied.
Example: A stops a taxi by waving his hand and boards it. There is an implied
contract that A will pay the prescribed fare on reaching his destination.
2.4.3 Quasi contract
A quasi contract is a contract that exists by order of a court, not by agreement of the
parties. Courts create quasi contracts to avoid the unjust enrichment of a party in a
dispute over payment for a good or service.
2.4.4 E-contract
An e-contract is a contract made through the digital mode.
2.4.5 Executed contract
In an executed contract both the parties have performed their promises under a
Business Law : 8 contract. It is a contract where, under the terms of contract, nothing remains to be
done by the parties.
Example: A sells his car to B for Rs 1 lakh. A delivered the car and B paid the Indian Contract Act, 1872:
Nature and Kind of Contracts
price. This is an executed contract.
2.4.6 Executory contract
In an executory contract both the parties are yet to perform their promises. In other NOTES
words, it is a contract where parties have to still perform their obligation in the
future.
Example: A sells his car to B for Rs. 2 lakh. If A is still to deliver the car and B is
yet to pay the price, it is an executory contract.
2.4.7 Partly Executed and partly executory contract
In a partly executed and partly executory contract, one party has already performed
his promised and the other party has yet to execute his promise.
Example: A sells his car to B. Though A has delivered the car, B has yet to pay the
price. For A it is an executed contract, whereas it is an executory contract on the
part of B since the price has yet to be paid.

Types of Contract

On the Basis of the Mode On the Basis of On the Basis of validity


of Formation Performance or Enforceability

Express Executed Contract Valid Contract


ContractMoFormati

Implied Contract Executory Contract


Void Contract

Partly executed and Voidable Contract


Quasi Contract
partly executory
Formation
E-contract
Illegal agreement
Unilateral Contract
Formation

Unenforceable
Bilateral Contract
Contract

Certain Contract in
writing

Figure 2.1: Types of Contract

2.4.8 Unilateral contract


A unilateral contract is also known as a one sided contract. It is a contract where
only one party has to perform his promise. In such a contract, the promise on one
side is exchanged for an act on the other side. After the formation of a unilateral
contract, only one party remains liable to perform his obligation because the other
party has already performed his obligation.
Business Law : 9
Indian Contract Act, 1872: Example: X promises to pay Rs. 1000 to anyone who find his lost cellphone. B finds
Nature and Kind of Contracts and returns it to A. From the time B found the cellphone, the contract came into existence.
Now A has to perform his promise, i.e. the payment of Rs. 1,000.

NOTES 2.4.9 Bilateral contract


A Bilateral contract is one where the obligation or promise is outstanding on the part of
both the parties. It is also known as a two-sided contract.
Example: A promises to sell his car to B for Rs. 1 lakh and agrees to deliver the car on
the receipt of the payment by the end of the week. The contract is bilateral as both the
parties have exchanged a promise to be performed within a stipulated time.

2.4.10 Valid contract


If the contract entered into by the parties and satisfies all the elements of a valid
contract as per the act, it is said to be a valid contract.

2.4.11 Void contract


Section 2 (j) states as follows: A contract which ceases to be enforceable by law
becomes void when it ceases to be enforceable. Thus a void contract is one which
cannot be enforced by a court of law.
Example: Mr. X agrees to write a book with a publisher. After few days, X dies in an
accident. Here the contract becomes void due to the impossibility of performance of the
contract. It may be added by way of clarification here that when a contract is void, it is not
a contract at all but for the purpose of identifying it, it has to be called a [void] contract.

2.4.12 Voidable contract


Section 2(i) defines that an agreement which is enforceable by law at the option of one
or more parties but not at the option of the other or others is a voidable contract. This
infact means where one of the parties to the agreement is in a position or is legally
entitled or authorized to avoid performing his part, then the agreement is treated and
becomes voidable. Such a right might arise from the fact that the contract may have
been brought about by one of the parties by coercion, undue influence, fraud or
misrepresentation and hence the other party has a right to treat it as a voidable contract.

2.4.13 Illegal contract


Illegal contract are those that are forbidden by law. All illegal contracts are hence void
also. Because of the illegality of their nature they cannot be enforced by any court of
law. In fact even associated contracts cannot be enforced. Contracts which are opposed
to public policy or immoral are illegal. Similarly contracts to commit crime like supari
contracts are illegal contracts.

2.4.14 Unenforceable contract


A contract which satisfies all the requirements of the contract but has technical defects
is called an unenforceable contract. A contract is said to have a technical defect when
it does not fulfil the legal formalities required by some other act. When such legal
formalities are compiled are complied with later on, the act becomes enforceable.
Business Law : 10
2.4.15 Certain contract in Writing Indian Contract Act, 1872:
Nature and Kind of Contracts
The Contract Act never specifies that the contract to be valid should be writing. It
means an oral contract or a contract without any kind of writing is also valid. However,
it is difficult to prove before the courtroom when the dispute arises. NOTES
The contracts are required to be in writing only if any other act specifically Check your progress
requires it to be so. Like the hire-purchase act requires that the hire-purchase agreement Discuss the implied
should be in writing. contract.
. Differentiate between void
and voidable contract.
2.5 Distinguish Between Void and Voidable Contract
Table 2.1 presents the differences between void and voidable contract
Table 2.1: Distinguish between Void and Voidable Contract

Matter Void Contract Voidable Contract


Definition It means contract which ceases to be It means an agreement
enforceable. enforceable by law, by one or
more parties.
Nature Valid when made but subsequently It remains as voidable until
becomes unenforceable. cancelled by the party
Rights or remedy No legal remedy is available for the void Aggrieved party has a
contract. remedy to cancel the
contract.
Performance Party cannot demand the performance of If aggrieved party does not
contract. cancel it within a reason-able
time, performance can be
demanded.
Reason Contract becomes void due to change in If consent is not obtained
law or circumstances. freely then it is regarded as a
voidable contract.
Damages Party cannot claim damages. Party can demand damages
in certain cases.

2.6 Key Terms


Contract: A written or spoken agreement, especially one concerning employment,
sales, or tenancy that is intended to be enforceable by law.
Promise: In contracts, a promise is essential to a binding legal agreement and is
given in exchange for consideration, which is the inducement to enter into a promise.
A promise is illusory when the promisor does not bind herself to do anything and,
therefore, furnishes no consideration for a valid contract.
Agreement: An agreement creating obligations enforceable by law. The basic
elements of a contract are mutual assent, consideration, capacity, and legality. In
some states, the element of consideration can be satisfied by a valid substitute. Business Law : 11
Indian Contract Act, 1872: Void contract: A void contract is a formal agreement that is illegitimate and
Nature and Kind of Contracts
unenforceable from the moment it is created. There is some overlap in the
causes that can make a contract void and the causes that can make it voidable.
Valid contract: Most contracts only need to contain two elements to be legally
NOTES
valid: All parties must be in agreement (after an offer has been made by one
party and accepted by the other). Something of value must be exchanged
such as cash, services, or goods (or a promise to exchange such an item) for
something else of value.
Voidable contract: Reasons that can make a contract voidable include failure
by one or both parties to disclose a material fact; a mistake, misrepresentation
or fraud; undue influence or duress; one partys legal incapacity to enter
a contract; one or more terms that are unconscionable; or a breach of contract.
Express contract: An exchange of promises in which the terms by which the
parties agree to be bound are declared either orally or in writing, or a combination
of both, at the time it is made.
Implied contract: An implied contract is an agreement created by actions of
the parties involved, but it is not written or spoken. This is a contract assumed to
have been drawn. In this case, there is neither written record nor any actual
verbal agreement. A form of an implied contract is an implied warranty provided
automatically by law.

2.7 Summary
The Indian Contract Act mostly deals with the general principles and rules
governing contracts. The Act is divisible into two parts. The first part (Section 1-
75) deals with the general principles of the law of contract, and therefore applies
to all contracts irrespective of their nature. The second part (Sections 124-238)
deals with certain special kinds of contracts, namely contracts of Indemnity and
Guarantee, Bailment, Pledge, and Agency.
According to Section 2 (h) of the Indian Contract Act, 1872 An agreement
enforceable by law is a contract. A contract therefore, is a combination of the
two elements: (1) an agreement and (2) an obligation.
As per Section 2(e): Every promise and every set of promises, forming the
consideration for each other, is an agreement. Thus it is clear from this definition
that a promise is an agreement.
According to Section 2(b) of the Indian Contract Act when the person to whom
the proposal is made signifies his assent thereto, the proposal is said to be accepted.
A proposal, when accepted, becomes a promise. An agreement, therefore, comes
into existence when one party makes a proposal or offer to the other party and
that other party signifies his assent thereto. In nutshell, an agreement is the sum
total of offer and acceptance.
As stated above, an agreement to become a contract must give rise to a legal
obligation i.e. a duty enforceable by law.
Business Law : 12 A valid contract there must be (i) an agreement, (ii) based on the genuine consent
of the parties, (iii) supported by a lawful consideration, (iv) made for a lawful Indian Contract Act, 1872:
Nature and Kind of Contracts
object, and (v) between the competent parties.
Contract can be of different types namely, express contract, implied contract,
quasi- contract, e-contract, executed contract, executory contract, unilateral NOTES
contract, bilateral contract, valid contract, void contract, voidable contract and
illegal contract.

2.8 Questions and Exercise


1. All agreements are not contracts but all contracts are agreements. Examine
this statement.
2. Explain the essentials of a valid contract.
3. An agreement enforceable by law is a contract. Discuss the statement.
4. Discuss the different types of contract.
5. Distinguish between void and voidable contract.
6. What are the similarities between void and illegal agreements?
Practical Problems
1. A promises to deliver his watch to B and, in return, B promises to pay a sum of
Rs. 4,000. Is it an agreement or a contract?
2. A promised to pay his son B a sum of Rs 2 lakh if B passes IAS exam in the first
attempt. B passes the examination on his first attempt but A failed to pay the
amount as promised. B filed a suit for the recovery of the amount, state whether
B can recover the amount under the Indian Contract Act, 1872.

2.9 Further Readings and References


Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt.
Limited.
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.

Business Law : 13
Indian Contract Act, 1872: Offer
Unit 3: Indian Contract Act, 1872: Offer and and Acceptance
Acceptance
Structure
NOTES
3.0 Introduction
3.1 Unit Objectives
3.2 Essential Elements of an Offer
3.3 Legal Rules Regarding a Valid Offer
3.4 Classification of Offers
3.5 Lapse and Revocation of Offer
3.6 Acceptance and Legal Rules for the Acceptance
3.7 Communication of Offer, Acceptance and Revocation
3.8 Key Terms
3.9 Summary
3.10 Questions and Exercise
3.11 Further Readings and References

3.0 Introduction
It has been explained in the previous chapter that a proposal or a promise backed by
legal consideration is an agreement and such an agreement, if legally enforceable,
becomes a contract. An offer is the first step in the formation of a contract. An offer
is a proposal by one personal to another to enter into a contract. The term offer is
defined under Section 2 (a) as under:
When one person signifies to another, his willingness to do or abstain from
doing anything with a view to obtaining the assent of the offer, to such an act or
abstinence, he is said to make a proposal.

3.1 Unit Objectives


After completing this unit, students will be able to:
Understand the meaning of offer and essential elements of the offer
Know the Legal Rules regarding a valid offer
Learn the kinds of offer
Familiarise with Acceptance and Legal rules for the acceptance

3.2 Essential Elements of An Offer


From the above definition, we can understand the following elements of an offer.

Business Law : 15
Indian Contract Act, 1872: Offer 3.2.1 Two Parties
and Acceptance
For the valid offer, there must be two parties. A person cannot make an offer to
himself.

NOTES 3.2.2 Communication


The offer must be communicated to the offeree. If it is never communicated to the
offeree, it cannot be accepted and no valid contract comes in to existence.
3.2.3 Willingness
The offer must show willingness of the offeror. Simply telling or sharing a plan is not
an offer. Sharing the idea or the feelings is not willingness. If the party proposes
certain terms on which he is willing to negotiate, in such a case, he is not making an
offer because he is not expressing his willingness to enter into a contract.
3.2.4 With intention of obtaining assent
The offer must be made with a view to obtaining the assent of the offeree. The
offer made out of a prank or as a joke is not a valid offer, and therefore if accepted,
it can never make the valid contract.
3.2.5 Offer may be positive or negative
The offer may involve doing something or doing nothing- section 2 (o). The offer to
do something is a positive offer or not to do something is a negative offer.

3.3 Legal Rules as to Offer


The offer is the first step in a valid contract. If the offer itself is not valid; the
contract can never be valid. Following are the rules for a legal and valid offer.
1. The offer must be with intent to create a legal relationship. Hence if it is
accepted, it must result in a valid contract. An invitation to join a friend for
dinner is a social activity. This does not create a legal relationship or right or
obligation.
2. The offer must be certain and definite. It must not be vague. If the terms are
vague, it is not capable of being accepted as the vagueness would not create
any contractual relationship. For example, where A offers to sell 100 litres
of oil, without indicating what kind of oil would be sold, it is a vague offer and
hence cannot create any contractual relationship. If however there is a
mechanism to end the vagueness, the offer can be treated as valid. For
example, in the above example if A does not deal in any oil but only in
gingilee oil and this is known to everyone, the offer cannot be treated as vague
offer. This is for the reason that the trade in which A is, is a clear indicator
providing a mechanism to understand the terms of offer.
3. The offer must be express or implied.
4. The offer must be distinguished from an invitation to offer.
5. The offer must be either specific or general.
6. The offer must be communicated to the person to whom it is made. Otherwise
Business Law : 16 the offeree cannot accept the offer. He cannot accept the offer because he is
not aware of the existence of the offer. Such a situation does not create any Indian Contract Act, 1872: Offer
and Acceptance
legal obligation or right on any one.
7. The offer must be made with a view to obtaining the consent of the offeree.
8. An offer can be conditional but there should be no term in the offer that non- NOTES
compliance would amount to acceptance. Thus the offeror cannot say that if
non-acceptance is not communicated by a certain time the offer would be
treated as accepted.

3.4 Classification of Offers


An offer can be classified on a number of different bases. We can summarize the
kinds of offer in the following manner.
3.4.1 Express offer
The offer made by using words spoken or written is known as an express offer.
Example: A says to B Will you purchase my car for Rs. 4,00,000?

3.4.2 Implied offer


The offer which could be understood by a conduct of parties or circumstances of
case is called the implied offer.
Example: Withdrawal of the money from the card holder from the ATM. It creates
implied contract between the card holder and the bank.
3.4.3 General offer
It is an offer made to public at large with or without any time limit. In terms of
Section 8 of the Act, anyone performing the conditions of the offer can be considered
to have accepted the offer (Carlill v. Carbolic Smoke Ball). It is not necessary
that the offer should be made to a specific person. Until the general offer is retracted
or withdrawn, it can be accepted by anyone at any time as it is a continuing offer.
Example: An advertisement in a newspaper, Anyone who will find my lost dog will
be rewarded with Rs. 5,000.
3.4.4 Specific offer
Where an offer is made to a particular and specified person, it is a specific offer.
Only that person can accept such specific offer, as it is special and exclusive to him.
Example: A says to B- Will you purchase my house for Rs. 20 lakhs? It is a
specific offer as it is made to B. Only B can accept it.
3.4.5 Cross offer
As per Section2(b), when a person to whom proposal (offer) is made signifies his
assent, the proposal is said to be accepted. Thus, assent can be only to a proposal.
If there was no proposal, question of its acceptance cannot arise.
Example: If A makes a proposal to B to sell some goods at a specified price and B,
without knowing proposal of A, makes a proposal to purchase the same goods at the
price specified in the proposal of A, it is not an acceptance, as B was not aware of
proposal made by A. It is only cross proposal (cross offer). And when two persons Business Law : 17
Indian Contract Act, 1872: Offer make offer to each other, it cannot be treated as mutual acceptance. There is no
and Acceptance
binding contract in such a case [Tin v. Hoffmen & Co. 1873].
6. Continuous offer

NOTES An offer which is made to public at large and if it is kept open for public acceptance
for a certain period of time, it is known as continuing or open offer.
Check your progress
Example:Tenders that are invited for supply of materials and goods
What do you mean by an
offer? 7. Counter offer
. Write the essentials of an
offer. Upon receipt of an offer from an offeror, if the offeree instead of accepting it
. Differentiate between ex- straightway, imposes conditions which have the effect of modifying or varying the
press and implied offer. offer, he is said to have made a counter offer. Counter offers amounts to rejection of
original offer.
Example: A offered to sell his book to B for Rs 2,000. B replied, I am ready to pay
Rs 1,900. On As refusal to sell at this price, B agreed to pay Rs. 2,000. Held, there
was not contract, as the acceptance to buy it for Rs. 1900 was a counter offer, i.e.
rejection of the offer of A. The subsequent acceptance to pay Rs 2,000 is a fresh
offer from B to which A was not bound to give his acceptance.

3.5 Lapse and Revocation of Offer


Section 6 deals with various modes of lapse of an offer. An offer lapses and becomes
invalid (i.e., comes to an end) in the following circumstances:
3.5.1 An offer lapses after stipulated or reasonable time
An offer lapses if acceptance is not communicated within the time prescribed in the
offer, or if no time is prescribed, within a reasonable time [Sec. 6(2)]. What is a
reasonable time is a question of fact depending upon the circumstances of each
case. For example, an offer made by telegram suggests that a reply is required
urgently and if the offeree delays the communication of his acceptance even by a
day or two, the offer will be considered to have lapsed.
Case law: Ramsgate Victoria Hotel Co. vs Montefiore
3.5.2 An offer lapses by not being accepted in the mode
prescribed, or if no mode is prescribed, in some usual
and reasonable manner
But, according to section 7, if theofferee does not accept the offer according to the
mode prescribed, the offer does not accept the offer according to the mode
prescribed; the offer does not lapse automatically. It is for the offeror to insist that
his proposal shall be accepted only in the prescribed manner, and if he fails to do so
he is deemed to have acceptedthe acceptance.
3.5.3 An offer lapses by rejection
An offer lapses if it has been rejected by the offeree. The rejection may be express
i.e., by words spoken or written, or implied. Implied rejection is one (a) where either
the offeree makes a counter offer, or (b) where the offeree gives a conditional
acceptance. For example, A offered to sell his house to B for Rs 20 Lakhs. B
Business Law : 18
offered Rs. 18 Lakhs for which price A refused to sell. Subsequently, B offered to
purchase the house for Rs. 20 Lakhs. A, declined to adhere to his original offer. B Indian Contract Act, 1872: Offer
and Acceptance
filed a suit to obtain specific performance of the alleged contract. Dismissing the
suit, the court held that A was justified because no contract had come into existence,
as B, by offering Rs. 18 Lakhs, had rejected the original offer. Subsequent willingness
NOTES
to pay Rs 20 Lakhs could be no acceptance of As offer as there was no offer to
accept. The original offer had already come to an end on account of counter offer
(Hyde vs Wrench).

3.5.4 An offer lapses by the death or insanity of the offeror


or the offeree before acceptance
If the offeror dies or becomes insane before acceptance, the offer lapses provided
that the fact of his death or insanity comes to the knowledge of the acceptor before
acceptance [Sec. 6 (4)]. From the language of the section, it may be inferred that
an acceptance in ignorance of the death or insanity of the offeror, is a valid
acceptance, and gives rise to a contract. Thus the fact of death or insanity of the
offeror would not put an end to the offer until it comes to the notice of the acceptor
before acceptance. An offerees death or insanity before accepting the offer puts
an end to offer and his heirs cannot accept for him (Reynolds vs. Atherton).

3.5.5 An offer lapses by revocation


An offer is revoked when it is retracted back by the offeror. An offer may be
revoked, at any time before acceptance, by the communication of notice of revocation
by the offeror to the other party [Sec. 6(J). For example, at an auction sale, A
makes the highest bid. But he withdraws the bid before the fall of the hammer.
There cannot be a concluded contract because the offer has been revoked before
acceptance.

3.5.6 Revocation by non- fulfilment of a condition precedent


to acceptance
An offer stand revoked if the offeree fails to fulfil a condition precedent to acceptance
[Sec. 6 (3)]. Thus, where A, offers to sell his bike to B for Rs. 30,000, if B joins the
lions club within a week the offer stands revoked and cannot be accepted by B if B
fails to join the lions club (in default of payment of earnest money).

3.5.7 An offer lapses by subsequent illegality or destruction


of subject matter
An offer lapses if it becomes illegal after it is made, and before it is accepted. Thus,
where an offer is made to sell 10 bags of wheat for Rs. 20,000 and before it is
accepted, a law prohibiting the sale of wheat by private individuals is enacted, the
offer comes to an end. In the same manner, an offer may lapse if the thing, which
is the subject matter of the offer, is destroyed or substantially impaired before
acceptance.

3.6 Acceptance and Legal Rules For The Acceptance


In terms of Section 2(b) of the Act, When the person to whom the proposal is
Business Law : 19
made signifies his assent thereto, the proposal is said to be accepted. In short, act
Indian Contract Act, 1872: Offer of acceptance lies in signifying ones assent to the proposal. The proposal once accepted,
and Acceptance
becomes a promise.
A valid acceptance must be in conformity with the following rules.
NOTES 3.6.1 Acceptance must be given only by the person to whom
the offer is made
An offer can be accepted only by the person or persons to whom it is made and with
whom it imports an intention to contract. It cannot be accepted by another person without
the consent of the offeror. The rule of law is clear that if you propose to make a
contract with A, then B cant substitute himself for A without your consent. An offer
made to a particular person can be validly accepted by him alone. Similarly an offer
made to a class of persons(i.e., teachers) can be accepted by any member of that
class. An offer made to the world at large can be accepted by any person who has
knowledge of the existence of the offer.
Example: In Felthouse vs Bindley the nephew intended his uncle to have the horse
but had notcommunicated this to the uncle, instead he told the auctioneer not to sell the
horseas it was already sold to his uncle. It was thereby held that the communication to
a stranger like theauctioneer in this would not do. A communication to any other person
is no communication in the eyes of law. The offeror cannot say that if no answer is
received in a certain time the offer is deemed to be accepted. Mere silence is no
acceptance of the offer.

3.6.2 Acceptance must be absolute and unqualified [Sec. 7(1)]


In order to be legally effective, it must be an absolute and unqualified acceptance of all
the terms of the offer. Unqualified means unconditional. The acceptance must be for
the whole offer including all its terms and conditions if any. It may be noted that conditional
acceptance will result into a counter offer.
Example: A offered to sell his scooter to B for Rs. 30,000. B accepted the offer and
tendered Rs. 27,000 cash down, promising to pay the balance of Rs. 3,000 by the
evening. There is no contract, as the acceptance was not absolute and unqualified.
3.6.3 Acceptance must be expressed in some usual
and reasonable manner, unless the proposal prescribes
the manner in which it is to be accepted [Sec. 7(2)]
If the offeror prescribes no mode of acceptance, the acceptances must be communicated
according to some usual and reasonable mode. The usual modes of communication
are by words spoken or written or by post or telegram; it is called an express acceptance.
When acceptance is given by conduct, it is called an implied or tacit acceptance. Implied
acceptance may be given either by doing some required act, for example, tracing the lost
goods for the announced reward, or by accepting some benefit or service, for example,
stepping in a public bus by a passenger.
Example: A offers B and indicates that the acceptance be given by telegram. B sends
his acceptance by ordinary post. It is a valid acceptance unless A insists for acceptance
in the prescribed manner.

Business Law : 20
Indian Contract Act, 1872: Offer
3.6.4 Mental acceptance ineffectual and Acceptance
Mental acceptance or quiet assent not evidenced by words or conduct does not amount
to a valid acceptance, and this is so even where the offeror has said that such a mode
of acceptance will suffice. Acceptance must be communicated to the offeror, otherwise NOTES
it has no effect. If an oral acceptance is spoken into a telephone after the telephone has
gone dead, there is in effect no acceptance. This rule is based on the theory of consensus
ad idem or of identity of minds. Unless the acceptance of the offer comes to the
knowledge of the offeror, there is no identity of mind and therefore no contract.
Example: A person received an offer by letter. In reply he wrote a letter of acceptance.
Put the letter in his drawer and forgot all about it. Held, this uncommunicated acceptance
did not amount to acceptance and so did not complete the contract. (Brogden vs.
Metropolitan Rly co)

3.6.5 Acceptance must be communicated by the acceptor


For an acceptance to be valid, it must not only be made by the offeree but must also be
communicated by, or with the authority of, the offeree (or acceptor) to the offeror.
Case law:In the landmark case of Powell vs. Lee, P was a candidate for the post of
headmaster in a school. The managing committee of the school passed a resolution to
select him for the post. A member of the managing committee, acting in his
individual capacity, informed P that he had been selected, but P received no other
intimation. Subsequently, the resolution was cancelled, and P was not appointed to
the post. P filed a suit against the committee for breach of contract. The court held that
in the absence of an authorized communication form the committee there was no binding
contract.

3.6.6 Acceptance must be given within a reasonable time


and before the offer lapses and/or is revoked
To be legally effective acceptance must be given within the specified time limit, if any,
and if no time is stipulated, acceptance must be given within a reasonable time because
an offer cannot be kept open indefinitely (Shree Jaya Mahal cooperative Housing
society vs. Zenith chemical works pvt. Ltd.). Where M applied for certain shares in
a company in June but the allotment was made in November and he refused to accept
the allotted shares. It was held that the offeror M could refuse to take shares as the
offer stood withdrawn and could not be accepted because the reasonable period during
which the offer could be accepted had elapsed (Ramsgate Victoria Hotel co. vs.
Monteforte). Again, the acceptance must be given before the offer is revoked or lapses
by reason of offerees knowledge of the death or insanity of the offeror.

3.6.7 Acceptance must succeed the offer


Acceptance must be given after receiving the offer. It should not precede the offer. In
a company shares were allotted to a person who had not applied for them. Subsequently
he applied for shares being unaware of the previous allotment. It was held that the
allotment of shares previous to the application was invalid.

3.6.8 Rejected offers can be accepted only, if renewed


Offer once rejected cannot be accepted again unless a fresh offer is made (Hyde vs. Business Law : 21
Wrench).
Indian Contract Act, 1872: Offer
and Acceptance 3.7 Communication of Offer, Acceptance and
Revocation
When the contracting parties are face to face and negotiate in person, there is
NOTES instantaneous communication of offer and acceptance, and a valid contract comes
into existence the moment the offeree gives his absolute and unqualified acceptance
to the proposal made by the offeror.

3.7.1 Communication of an offer


In terms of Section 4 of the Act, the communication of offer is complete when it
comes to the knowledge of the person to whom it is made. Therefore, knowledge
of communication is of relevance. Knowledge of the offer would materialize when
the offer is given in writing or made by word of mouth or by some other conduct.
Example: Where A makes a proposal to B by post to sell his house for Rs. 20
lakhs and if the letter containing the offer is posted on 10th March and if that letter
reaches B on 12th March the offer is said to have been communicated on 12th
March when B received the letter. Thus it can be summed up that when a proposal
is made by post, its communication will be complete when the letter containing the
proposal reaches the person to whom it is made.

3.7.2 Communication of acceptance


There are two issues for discussion and understanding. They are: what are the
modes of acceptance and when is acceptance complete?
Section 3 of the Act prescribes in general terms two modes of
communication namely, (a) by any act and (b) by omission, intending thereby to, to
communicate to the other or which has the effect of communicating it to the other.
Communication by act would include any expression of words whether
written or oral. Written words will include letters, telegrams, faxes, emails and even
advertisements. Oral words will include telephone messages. Again communication
would include any conduct intended to communicate like positive acts or signs so
that the other person understands what the person acting or making signs means
to say or convey.
Communication can also be by omission to do any or something. Such
omission is conveyed by a conduct or by forbearance on the part of one person to
convey his willingness or assent. However silence would not be treated as
communication by omission. Communication of acceptance is also done by conduct.
For instance, delivery of goods at a price by a seller to a willing buyer will be
understood as a communication by conduct to convey acceptance. Similarly one
need not explain why one boards a public bus or drop a coin in a weighing machine.
The first act is a conduct of acceptance and its communication to the offer by the
public transport authority to carry any passenger. The second act is again a conduct
conveying acceptance to use the weighing machine kept by the vending company
asan offer to render that service for a consideration.
The other issue in communication of acceptance is about the effect of act
or omission or conduct. These indirect efforts must result in effectively
Business Law : 22 communicating its acceptance or non-acceptance. If it has no such effect, there is
no communication regardless of which the acceptor thinks about the offer within Indian Contract Act, 1872: Offer
and Acceptance
himself. Thus a mere mental unilateral assent in ones own mind would not amount
to communication. Where a resolution passed by a bank to sell land to A remained
uncommunicated to A, it was held that there was no communication and hence no
contract [Central Bank Yeotmal vs Vyankatesh (1949) A. Nag. 286]. NOTES

Let us now come to the issue of when communication of acceptance is Check your progress
complete. In terms of Section 4 of the Act, it is complete, What do you mean
revocation or lapse of an
(a) As against the proposer, when it is put in course of transmission to him so as to offer?
be out of the power of the acceptor to withdraw the same; . Write down the legal rules
as to proposal.
(b) As against the acceptor, when it comes to the knowledge of the proposer. . Explain the communication
of acceptance.
3.7.3 Communication of a Revocation
The communication of a revocation is complete,
(a) As against the person who makes it, when it is put into a course of transmission
to the person to whom it is made, so as to be out of the power of the person
revoking, i.e., when the letter of revocation is posted; and
(b) As against the person to whom it is made, when it comes to his knowledge, i.e.,
when the letter.

3.8 Key Terms


Offer: In contract law, an offer is a promise in exchange for performance by
another party. An offer can be revoked or terminated under certain conditions.
There are also times when an offer can be negotiated to create a counter-offer.
Acceptance: An offer is an open call to anyone wishing to accept the promise
of the offeror and generally, is used for products and services. Acceptance occurs
when an offeree agrees to be mutually bound to the terms of the contract by
giving consideration, or something of value like money, to seal the deal.
Express offer: The offer made by using words spoken or written is known as
an express offer.
Implied offer: The offer which could be understood by a conduct of parties or
circumstances of case is called the implied offer.
Cross offer: Cross-offer is a contract law term that refers to an offer made to
another in ignorance that the offeree has made the same offer to the offeror. In
a cross offer both parties state to each other the same proposal.
Lapse of an offer: Although no offer remains open indefinitely, a properly
communicated written offer is said to be open until it is revoked by the offeror
before its acceptance or lapses due to (1) non-acceptance before its expiration
date, (2) non-acceptance within a reasonable period (where no expiration date is
specified), (3) the death either of the offeror or the offeree before its acceptance,
or (4) having become illegal or impossible by the operation of law. An orally
communicated offer lapses when the conversation ends, except where the
continuation of the offer is clearly understood by both the offeror and the offeree.
Business Law : 23
Indian Contract Act, 1872: Offer Promise: In contract law, if the parties exchange promises, each promise is
and Acceptance
consideration (a valuable item) for the other promise.

NOTES 3.9 Summary


The term offer is defined under Section 2 (a) as under: When one person
signifies to another, his willingness to do or abstain from doing anything with a
view to obtaining the assent of the offer, to such an act or abstinence, he is said
to make a proposal.
From the above definition, we can understand the following elements of an
offer: two parties, communication, willingness, with intention of obtaining assent
and offer may be positive or negative.
The offer is the first step in a valid contract. If the offer itself is not valid; the
contract can never be valid. These are the rules for a legal and valid offer. The
offer must be with intent to create a legal relationship, the offer must be
certain and definite, the offer must be express or implied, the offer must be
distinguished from an invitation to offer, the offer must be either specific or
general, the offer must be communicated to the person to whom it is made, the
offer must be made with a view to obtaining the consent of the offeree and an
offer can be conditional but there should be no term in the offer that non-
compliance would amount to acceptance.
An offer can be classified on a number of different bases. E.g. Express offer,
Implied offer, General offer, Specific offer, Cross offer, Continuous offer and
Counter offer.
Section 6 deals with various modes of lapse of an offer. An offer lapses and
becomes invalid (i.e., comes to an end) in the following circumstances: An
offer lapses after stipulated or reasonable time, An offer lapses by not being
accepted in the mode prescribed, or if no mode is prescribed, in some usual and
reasonable manner, An offer lapses by rejection, An offer lapses by the death
or insanity of the offeror or the offeree before acceptance, An offer lapses by
revocation, Revocation by non- fulfilment of a condition precedent to acceptance,
An offer lapses by subsequent illegality or destruction of subject matter.
In terms of Section 2(b) of the Act, When the person to whom the proposal is
made signifies his assent thereto, the proposal is said to be accepted. In short,
act of acceptance lies in signifying ones assent to the proposal. The proposal
once accepted, becomes a promise.
When the contracting parties are face to face and negotiate in person, there is
instantaneous communication of offer and acceptance, and a valid contract
comes into existence the moment the offeree gives his absolute and unqualified
acceptance to the proposal made by the offeror.

Business Law : 24
Indian Contract Act, 1872: Offer
3.10 Questions and Exercise and Acceptance

1 What is a general offer? Illustrate.


2 Distinguish between general and specific offer. NOTES
3 A counter-offer can constitute an acceptance of an offer.
4 Discuss the role of offer and acceptance in the formation of a valid contract.
5 Explain rules regarding communication of offer and acceptance.
6 A mere mental acceptance is no acceptance. Comment on this statement.
7 Explain the role of communication, acceptance and revocation of proposals in
the formation of valid contract.
8 When does an offer come to an end?
Practical problems
1. A says to B- I offer to sell my car to you for Rs. 5 lakhs and B accepts the
offer by saying clearly I accept your offer. Is it a valid offer? If so, which
kind of offer it is?
2. A invites tenders for the supply of 20 Quintals of Cotton. B, C and D
submit their tenders. When the contract can be concluded?

3.11 Further Readings and References


Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt.
Limited.
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.
Web resources
1. Rules regarding valid acceptance are available at http://
mercantilelaws.blogspot.in/2012/05/legal-rules-regarding-valid-acceptance.html

Business Law : 25
Indian Contract Act, 1872: Offer
and Acceptance

NOTES

Business Law : 26
Indian Contract Act, 1872:
Unit 4: Indian Contract Act, 1872: Capacity of Capacity of Parties and
Parties and Consideration Consideration

Structure
NOTES
4.0 Introduction
4.1 Unit Objectives
4.2 Capacity of Parties
4.3 Minor and Minors Agreements
4.4 Different Position of a Minor
4.5 Person of Unsound Mind
4.6 Person Disqualified by Law
4.7 Consideration
4.8 Essentials of Valid Consideration
4.9 Key Terms
4.10 Summary
4.11 Questions and Exercise
4.12 Further Readings and References

4.0 Introduction
In the previous unit we have discussed important elements of contract are capacity
of parties and consideration. The capacity of parties to the contract means the
legal ability of the parties to enter into a contract. While the consideration means
something in return. It is the benefit received by a party to the contract in return of
the promise made by him. Therefore, in this unit along with the capacity of parties;
the concept of consideration and the legal requirements for consideration are
discussed.

4.1 Unit Objectives


After completing this unit, students will be able to:
Understand the meaning of capacity of parties to enter into contract
Discuss the concept of minor and effects of its agreements
Know the person disqualified to enter into contract
Explain the consideration
Learn about the essential elements of the consideration

4.2 Capacity of Parties


An essential ingredient of a valid contract is that the contracting parties must be
Business Law : 27
competent to contract (Sec. 10). Section 11 lays down that Every person is
Indian Contract Act, 1872: competent to contract who is of the age of the majority according to the law to
Capacity of Parties and
which he is subject and who is of sound mind, and is not disqualified from contracting
Consideration
by any law to which he is subject. Thus the Section declares that a person is
incompetent to contract under the following circumstances:
NOTES
a) if he is a minor, according to the law to which he is subject;
b) if he is of unsound mind; and
c) if he is disqualified from contracting by any law to which he is subject.

4.3 Minor and Effect of Minors Agreements


According to Section 3 of the Majority Act 1875, a person, domiciled in India, who is
under the age of 18 years is a minor. Accordingly every person who has completed
the age of 18 years becomes a major. However, where a guardian is appointed by a
court to protect the property of a minor and the court takes charge of the property
before the person attains 18 years, then he or she would attain majority on completion
of 21 years.
Effects of minors agreements are briefly discussed under the following heads:
4.3.1 Agreement is Void ab initio
The agreement by a minor is void ab initio. It is nullity in the eye of law. An agreement
with a minor can never be enforced by the other party. The law protests the minors
as they are not capable to understand the terms of contracts, and the rights and
liabilities under the contract. The Privy Council in Mohiri Bibi vs. Dharmodas Ghose
[1903] LR 30, Cal 539, decided that an agreement where minor is a party is altogether
void. In this case a minor executed a mortgage in favour of the husband of Mohiri
Bibi. The question for consideration is whether the mortgage is valid. Interpreting
Sections 10 &11 of the Indian Contract Act, 1872 Privy Council held that unless all
the parties to an agreement were competent to contract, the agreement would be
void. The main reason for such a view is that a minor is incapable of performing his
part of the contract imposing a legal obligation.

4.3.2 Minor can be a Promisee or Beneficiary


An agreement for the benefit of a minor is enforceable by the minor. It means if a
major borrows money from a minor and later refuses to pay it, the minor can sue
him and recover the same. A minor cannot become partner in a partnership firm.
However, he may with the consent of all the partners, be admitted to the benefits of
partnership (Section 30 of the Indian Partnership Act, 1932).

4.3.3 No ratification
Ratification by the minor is not valid. The ratification means the acceptance of a
transaction already done. However, on attaining majority, he can enter into a fresh
contract having the same terms and conditions. Again, it is worth noting that where
a minor had not completed a transaction during his minority and continues to complete
the same on majority, he will be liable for the whole transaction. Therefore, the
services are rendered at the desire of the minor during his minority (to the minor)
Business Law : 28 and are continued to be rendered at his request after his majority. If he makes a
promise to pay for the whole, the promise is enforceable.
4.3.4 No specific performance Indian Contract Act, 1872:
Capacity of Parties and
No specific performance order can be granted against a minor. A specific performance Consideration
order is the order granted by the court against the defaulting party to contract to
perform, the promise as per the terms and conditions of the contract. As a minor NOTES
cannot be a promisor, a minor cannot be forced to perform a promise.

4.3.5 Restitution Order


A restitution order can be granted against a minor. The restitution order means
restoring the things to its proper owner. The restitution order is granted subject to
the following conditions:
a) The power of the court to order restitution is discretionary
b) It is generally allowed by the court when a minor had misrepresentation to the
other party about his age
c) The court considers all the facts and circumstances
d) If money paid to the minor is in same form, the minor may be ordered to pay it
back.
e) If money is used to purchase property, property purchased by the minor shall
be sued in paying off money.

4.3.6 Contract by guardian or Parent


Though an agreement with minor is void, valid contract can be entered into with the
guardian on behalf of the minor. The guardian must be competent to make the
contract and the contract should be for the benefit of the minor. For instance a
guardian can make an enforceable marriage contract on behalf of the minor. Similarly
father of bride can enter the contract with the father of bridegroom for payment of
certain allowance to the bride. But not all contracts by guardian are valid. A guardian
cannot bind a minor in a contract to purchase immovable properties [Mir Sarwarjan
vs. Fakharuddan (1912) 39. Cal. 232]. However, a court appointed guardian can
bind a minor is respect of certain sale of property ordered by the court.

4.4 Different Position of A minor


A minor cannot be a promisor but a minor can be a promisee or a beneficiary. On
the basis of this, we can discuss the following different positions of the minor.
4.4.1 Minor Agent
A minor cannot appoint an agent because only a person competent to contract can
appoint the agent. However, the minor can be appointed as an agent.
4.4.2 Guarantee for and by a Minor
The contract of guarantee in favour of the minor is valid. However, the minor cannot be
a surety in the contract of the guarantee. This is because the surety is ultimately liable
under the contract of guarantee, whereas the minor can never be held personally liable.
4.4.3 Minor and Insolvency
The minor can never enter into a contract cannot create personal liability. Therefore,
Business Law : 29
he cannot be declared insolvent.
Indian Contract Act, 1872: 4.4.4 Minor as a Joint Promisor
Capacity of Parties and
Consideration The minor can be a joint promisor with a major but the minor cannot be held liable
under the contract as well as to his co-promisor. But the major promisor is liable.
NOTES 4.4.5 Minor shareholder
The minor cannot apply for the allotment of shares in a company as he is not competent
Check your progress
to contract. However, the minor can apply to the transfer of fully paid shares in the
Who is competent to enter
into a contract? company through his guardian.
Who is a minor? 4.4.6 Minor and Negotiable Instruments Act
Discuss the different
positions of a minor. The minor can draw, make, negotiate or endorse any negotiable instrument (i.e.
cheque, P/N and B/E) but will not be personally liable under any such instruments.
However, any negotiable instrument executed or endorsed in favour of the minor
can be enforced by him.
4.4.7 Service Contract
The minor cannot be a promise therefore the contract of personal service by the
minor is void.
4.4.8 Minor as Trade Union Member
Any person who has attained the age of 15 years may be a member for the registered
trade union, provided the rules of the trade union allow so. Such members will enjoy
all the rights of a member.
4.4.9 Liability for Tort
The minor is a liability for a tort, i.e. civil wrong committed by him.

4.5 Person of Unsound Mind


As per Section 11 of the Contract Act, for a valid contract, it is necessary that each
party to it must have a sound mind.
Section 12 of the Contract Act defines the term sound mind as follows: A
person is said to be of sound mind for the purpose for the purpose of making a
contract, if, at the time when he makes it, he is capable of understanding it and of
forming a rational judgement as to its effects upon his interests. This Section further
states that:
A person who is usually of unsound mind, but occasionally, of sound mind, may
make a contract when he is of sound mind.
A person who is usually of sound mind, but occasionally of unsound mind, may
not make a contract when he is of unsound mind.
Following are the categories of persons considered as persons of unsound mind.
1. Lunatics: A lunatics is a personal who is mentally deranged due to some mental
strain or other personal experience. He suffers from intermittent intervals of sanity and
insanity. He can enter into a contract only during the period when he is of sound mind.
2. Idiot: An idiot is a person who is congenital (by birth) unsound mind. His incapacity
is permanent, and therefore he can never understand the contract, and makes a
Business Law : 30
rational judgement as to its effects upon his interest. Consequently, the agreement Indian Contract Act, 1872:
Capacity of Parties and
of the idiot void ab initio. He is not personally liable even for the payment of Consideration
necessaries of life supplied to him.
3. Drunken Person: An agreement by the drunken person, or by a person in a NOTES
state of drunkenness, who is not capable to understand the terms and conditions of
a contract is void. An agreement made by an intoxicated person.
4. Hypnotized Persons: Hypnotism produces temporary incapacity till a person is
under the effect of artificial induced sleep.

4.6 Person Disqualified by Law


Apart from minors and persons of unsound mind, these are the others who are not
capable of entering into contract either wholly or partially. Contract by such persons
are void.
4.6.1 Body Corporate or Company or Corporation
The contractual capacity of a company is determined by the object clause of its
memorandum of association. Any act done in excess of power given is ultra-vires,
and hence void. A company cannot enter into any contract which is beyond its
memorandum or which is personal in nature as it is an artificial person.
4.6.2 Alien enemy
An alien means a person who belongs to a foreign state. An alien can be an enemy
or a friend. When he is a citizen of any country which was against India in war, he
is known as alien enemy. If any contract is entered into with the alien enemy and the
war breaks out with that country, the contract is suspended until the war is over.
4.6.3 Convict
A convict cannot enter into a contract while he is undergoing imprisonment. But he
can enter into a contract with the permission of central government while undergoing
imprisonment. However a convict can enter into a contract when is released from
jail or he has been granted bail.
4.6.4 Insolvent
When any person is declared as an insolvent his property vests in the receiver and
therefore, he cannot enter into a contract relating to his property. Again he becomes
capable to enter into a contract when he is discharges by the court.
The foreign sovereigns, diplomatic staff and representative of foreign staff enter
into valid contract.

4.7 Consideration
Presence of consideration is one of the requisites of Valid Contract. Consideration
must be of two directional nature. That means both parties should get benefited
mutually. Then only the Contract becomes capable of creating legal relations.
Consideration may be in the form of cash, goods, act or Abstinence. According to
Sec. 2 (d), When at the desire of the promisor, the promisee or any other person has Business Law : 31
Indian Contract Act, 1872: done or abstained from doing or does or abstains from doing or promise to do or abstain
Capacity of Parties and from doing something, such act or abstinence or promise is called consideration for the
Consideration
promise.

NOTES Example: A, a coolie, lifts Bs luggage and B pays him remuneration. Lifting luggage
is causing detriment to the coolie but a benefit to the passenger, i.e. promisor.

4.8 Essentials of Valid Consideration


Following are the essentials of a valid consideration.
4.8.1 Consideration should be passed at the request of offeror
Offeree should send only such consideration which is wanted by offeror. In case where
offeree sends un-wanted consideration, he has no right to claim counter consideration.
Case law: Durga Prasad Vs Baldeo. In this case there is a contract between A and B
according to which A has to provide for all requirements to B to run a market and the
profits are to be shared between them. Upon Cs request B makes 24 hours market for
a consideration from C. There after C refuses to give remuneration to B on the ground
that he (C) has no consideration from B. Afterwards B claims remuneration from A for
rendering additional work to which A refuses. Here Court decides that the additional
work done by B is not wanted by A and hence B cannot claim anything from A.

4.8.2 Consideration may move from promisee or any other


person
Consideration may move from promisee or any other person. If the consideration is
moved from the promise or any other person, it is valid.
Case law: Dutton Vs Poole. In this case A has a son called B and a daughter called C.
A wants to conduct his daughters marriage out of the sale proceeds of branches of
mango plantation which is inherited property. But B does not like it. A Contact gets
formed between A and B according to the terms of which B has to conduct Cs marriage
out of his (Bs) own savings and A should not destruct the plantation. Afterwards B
says to C that it is his (Bs) obligation to perform her marriage to which C has given her
acceptance. Thereafter A becomes no more and B does not render her (C) marriage
on the ground that he (B) has no consideration from C. Here Court decides that there
is blood relation between C and A. B had already obtained consideration from A in the
form of abstinence. There it is decided that B has to perform Cs marriage.

4.8.3 Consideration may be Past, Present or Future


Consideration may be Past, Present or Future consideration. The consideration which
is sent before formation of contract is called past consideration. The consideration
which gets passed at the time of formation of contract is called Present Consideration.
The Consideration which is to be passed in future i.e. after the contract is called Future
Consideration. As per Indian Law three types of considerations are Valid.

4.8.4 Consideration need not be adequate


Consideration of the Contract need not have equal magnitudes. In adequacy of
Business Law : 32 consideration will not infect Validity of the Contract.
Case law:Thomas Vs Thomas. In this case there is a Contract between A and B Indian Contract Act, 1872:
according to the terms of which A has to provide his house to B at a rent of one rupee. Capacity of Parties and
Consideration
Court decides that it is a Valid Contract because Consideration need not be adequate.

4.8.5 Consideration must be lawful NOTES

The consideration must be Lawful. Presence of unlawful Consideration makes the


Check your progress
Contract illegal and hence void.
Who are treated as persons
Example: There is a contract between X and Z according to which Z has to murder Y of unsound mind?
for a sonsideration of Rs. 10000 from X. Here consideration from Z to X is unlawful Who are treated as persons
and it is illegal contract. disqualified by law?
Explain consideration.

4.9 Key Terms


Minor: In law, a minor is a person under a certain age- usually the age of majority-
which legally demarcates childhood from adulthood. The age of majority depends
upon jurisdiction and application, but is generally 18. Minor may also be used in
contexts unconnected to the overall age of majority.
Unsound mind: Unsound mind is a term that denotes lunacy and insanity. Under
law, a person with an unsound mind is considered incompetent to go to trial. The
term is used in statutes. Spouse of a person with unsound mind can claim divorce
under the ground of insanity
Insolvency: Insolvency is when an organization, or individual, can no longer meet
its financial obligations with its lender or lenders as debts become due. Before an
insolvent company, or person, gets involved in insolvency proceedings, it will likely
be involved in informal arrangements with creditors, such as making alternative
payment arrangements.
Promisee: A person to whom a promise has been made.
Consideration: Consideration must be of value (at least to the parties), and is
exchanged for the performance or promise of performance by the other party
(such performance itself is consideration). In a contract, one consideration (thing
given) is exchanged for another consideration.

4.10 Summary
An essential ingredient of a valid contract is that the contracting parties must be
competent to contract (Sec. 10). Section 11 lays down that Every person is
competent to contract who is of the age of the majority according to the law to
which he is subject and who is of sound mind, and is not disqualified from contracting
by any law to which he is subject.
According to Section 3 of the Majority Act 1875, a person, domiciled in India, who
is under the age of 18 years is a minor. Accordingly every person who has completed
the age of 18 years becomes a major.
The agreement by a minor is void ab initio. It is nullity in the eye of law. An
agreement with a minor can never be enforced by the other party. The law protests Business Law : 33
Indian Contract Act, 1872: the minors as they are not capable to understand the terms of contracts, and
Capacity of Parties and
Consideration the rights and liabilities under the contract.
Section 12 of the Contract Act defines the term sound mind as follows: A
NOTES person is said to be of sound mind for the purpose for the purpose of making a
contract, if, at the time when he makes it, he is capable of understanding it and
of forming a rational judgement as to its effects upon his interests.
Apart from minors and persons of unsound mind, these are the others who are
not capable of entering into contract either wholly or partially. Contract by such
persons are void. E.g. Body Corporate or Company or Corporation, Alien
Enemy, Convict, Insolvent.
Presence of consideration is one of the requisites of valid contract. Consideration
must be of two directional nature. That means both parties should get benefited
mutually. Then only the contract becomes capable of creating legal relations.
Consideration may be in the form of cash, goods, act or abstinence.

4.11 Questions and Exercise


1 A minor can be a promisee. Comment on this statement.
2 Briefly explain competency to contract. Who is competent to contract as per
the Indian Contract Act?
3 Explain the rule no consideration, no contract. Are there any exceptions to
this rule?
4 Write a short note on Minors contract for necessities.
5 What are the essential elements of a valid consideration?
6 Insolvent person can enter into a contract. Comment.
Practical Problems
1. A minor, falsely representing himself to be of age, enters into an agreement to
sell his property to B and receives from him as price a sum of Rs. 1,00,000 in
advance. Out of this sum, the minor buys a car for Rs. 55,000 and spends the
rest on a pleasure trip to Europe. After the minor has attained majority, B sues
him for the conveyance of the property or, in the alternative, for the refund of
Rs. 1,00,000 and damages. How would you decide the case?
2. A promises to pay an existing debt punctually, if B, the creditor, gives him a
discount. Is this consideration valid?
3. Akshay, 16 years of age, fractures his leg while playing cricket. He goes to a
doctor and gets his leg plastered. The doctor demands a fee of Rs. 1000 but
Amit refuses to pay on the ground that he is a minor. The doctor files a suit
against Akshay. Will the doctor succeed? Give reason.

Business Law : 34
Indian Contract Act, 1872:
4.12 Further Readings and References Capacity of Parties and
Consideration
Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. NOTES
Limited.
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.
Web resources
1. Essentials of consideration are available at http://www.lawsofbusiness.com/
2013/08/essentials-of-consideration.html

Business Law : 35
Indian Contract Act, 1872:
Capacity of Parties and
Consideration

NOTES

Business Law : 36
Indian Contract Act, 1872:
Unit 5: Indian Contract Act, 1872: Other Other Essential Elements of a
Essential Elements of a Contract Contract

Structure
NOTES
5.0 Introduction
5.1 Unit Objectives
5.2 Meaning of Consent
5.3 Free Consent
5.4 Coercion
5.5 Undue Influence
5.6 Fraud
5.7 Misrepresentation
5.8 Mistake
5.9 Unlawful Object
5.10 Unlawful Consideration
5.11 Agreement Expressly Declared As Void
5.12 Contingent Contract
5.13 Key Terms
5.14 Summary
5.15 Questions and Exercise
5.16 Further Readings and References

5.0 Introduction
In the previous units we discussed all aspects of offer, acceptance, revocation, and
consideration. In this unit we will discuss other elements, which would constitute a
contract. In terms of section 10 of the Indian Contract Act, 1872 a legally enforceable
agreement should be made with the free consent of the parties who are competent
to contract for a lawful consideration with a lawful object. Further the agreement
should not have been expressly declared as void by law. These elements would be
examined here under. First we will understand consent and thereafter free consent.

5.1 Unit Objectives


After completing this unit, students will be able to:
Understand the concept of consent and free consent
Discuss contract under coercion and undue influence
Learn misrepresentation and fraud
Explain mistake and its types
Business Law : 37
Indian Contract Act, 1872: Familiarise with the unlawful object and unlawful consideration
Other Essential Elements of a
Contract Understand the contingent contract

NOTES 5.2 Consent


According to Section 13 of the Act, Two or more persons are said to have consented
when they agree upon the same thing in the same sense. This is stated as identity
of minds or consensus-ad-idem i.e. agreeing upon the same thing in the same
manner. If, for whatever reason, there is no consensus ad-item among the contracting
parties, there is no real consent and hence no valid contract.

5.3 Free Consent


Section 14 of the Act, states that consent is said to be free when it is not caused
by:
i. Coercion- Section 15, or
ii. Undue influence- Section 16, or
iii. Fraud Section 17, or
iv. Misrepresentation Section 18, or
v. Mistake- Section 20, 21 and 22
When the consent is there but it is not free, Salmond describes it as error in causa.
In such cases, the contract is voidable at the option of one party. Now let us discuss
each of these factors, which should not influence consent.

5.4 Coercion
According to Section 15 of the Act, Coercion is the committing, or threatening to
commit any act forbidden by the Indian Penal Code 1860, or the unlawful detaining,
or threatening to detain any property, to the prejudice of any person whatever, with
the intention of causing any person to enter into an agreement.
Example 1: X says to Y I shall not return the documents of title relating to your
wifes property, unless you agree to sell your house to me for Rs 5000. Y says, All
right, I shall sell my house to you for Rs. 5000; do not detain my wifes documents of
title, X has employed coercion; he cannot therefore enforce the contract. But Y can
enforce the contract if he finds the contract to his benefit. An agreement induced by
coercion is voidable and not void. That means it can be enforced by the party coerced,
but not by the party using coercion. It is immaterial whether the Indian Penal Code,1860
is or is not in force at the place where the coercion is employed. Where husband
obtained a release deed from his wife and son under a threat of committing suicide, the
transaction was set aside on the ground of coercion, suicide being forbidden by the
Indian Penal Code. (Amiraju Vs. Seshamma (1974) 41 Mad, 33)

5.4.1 Certain Threats do not amount to coercion


Business Law : 38 Every kind of threat is not regarded or said as coercion. The only threat which is an offence
is considered as coercion. Therefore, the following threats do not amount to the coercion.
1. Threat to sue does not amount to coercion Indian Contract Act, 1872:
Other Essential Elements of a
Threat to prosecute a person or file a suit against the person is not coercion. Contract
Approaching court and seeking appropriate remedy by filing suit is the fundamental
right of every person. Refusing to renew a contract will not amount to coercion.
NOTES
Similarly, a threat not to withdraw the pending criminal proceedings, unless a bond is
executed, cannot be regarded as coercion.
2. Statutory compulsions
Where the law requires that a contract be made by the parties, the consent in such
a contract will not be deemed to be caused by the coercion, or undue influence.
Similarly, if anything is done at the instance of the order of court, it is not coercion.
3.Threat to strike
A threat to strike by the employees in support of their demands is not regarded as
coercion. This is because the threat to strike is not an offence under the IPC. It is
right under the Industrial Disputes Act.
4.Detaining property under mortgage
Detention of property by a mortgage, until the payment of the loan, does not amount
to coercion

5.5 Undue Influence


According to Section 16 of Act, A contract is said to be induced by undue influence
where the relations subsisting between the parties are such that one of the parties is
in a position to dominate the will of the other and uses that position to obtain an
unfair advantage of the other.
A person is deemed to be in a position to dominate the will of the other,
when he holds authority, real or apparent over the other, or when he stands in a
fiduciary relation to other.
The essential ingredients of undue influence are:
One of the parties dominates the will of the other and
i. he has real or apparent authority over the other;
ii. he is in a position to dominate the will of the other and
iii. the dominating party takes advantage of the relation.
Following are the instances where one person can be treated as in a position to
dominate the will of the other.
i. A solicitor can dominate the will of the client.
ii. A doctor can dominate the will of his patient having protracted illness, and
iii. A trustee can dominate the will of the beneficiary.
The burden of proof (in situations like the above) that there is no undue influence in
an agreement would be on the person who is in a position to dominate the will of the
other. For instance the father should prove that he had not unduly influenced his
son in the case of any given agreement. The stronger party must act in good faith Business Law : 39
Indian Contract Act, 1872: and see that the weaker party gets independent advice.
Other Essential Elements of a
Contract The following two decisions would enable us to understand the law.
i. Allahabad High Court set aside a gift of the whole of the property by an elderly
NOTES Hindu to his spiritual advisor.
ii. Similarly, Privy Council set aside a deed of gift executed by an old illiterate
Check your progress
Muslim lady in favour of the manager of her estate.
Who is competent to enter
into a contract?
Who is a minor? 5.5.1 Difference between Coercion and Undue Influence
Discuss the different Both coercion ad undue influence, vitiate consent and make the consent of one of
positions of a minor.
the parties to the contract unfree. But the following are the points of distinction
between the two:
1. Nature of action: Coercion involves physical force and sometimes only threat.
Undue influence involves only moral pressure.
2. Involvement of criminal action: Coercion involves committing or threatening
to commit any act prohibited or forbidden by law, or detention or threatening to
detain a person or property. In undue influence there is no such illegal act involved.
3. Relationship between parties: In coercion there need not be any relationship
between parties; whereas in undue influence, there must be some kind of
relationship between parties, which enables to exercise undue influence over
the other.
4. Exercise by whom: Coercion need not proceed from the promisor. It also
need not be directed against the promisee. Undue influence is always exercised
by one on the other, both of whom are parties to a contract.
5. Enforceability: Where there is coercion, the contract is voidable. Where there
is undue influence the contract is voidable or court may set aside or enforce it in
a modified form.
6. Position of benefits received: In case of coercion, where the contract is
rescinded by the aggrieved party any benefit received has to be restored back.
In the case of undue

5.6 Fraud
According to Section 17 of the Act, fraud means and includes any of the following
acts committed by a party to a contract or with his connivance or by his agent with
intent to deceive another party thereto or his agent or to induce him to enter into the
contract.
(i) The representation that a fact is true when it is not true by one who does not
believe it be true;
(ii) The active concealment of a fact by one, having knowledge or belief of the fact;
(iii) A promise made without any intention of performing it;
(iv) Any other act fitted to deceive; and

Business Law : 40 (v) Any such act or omission as to law specially declared to be fraudulent
It is important to note that fraud that results in a contract alone is covered by Indian Contract Act, 1872:
Other Essential Elements of a
section17 of the Act. If there is a fraud but it does not result in a contract, it would Contract
not fall within the purview of the Act. The following can be taken as illustration of
fraud:
NOTES
A director of a company issues prospectus containing misstatement knowing
Check your progress
fully well about such misstatement. It was held by any person who had
What is free consent?
purchased shares on the faith of such misstatement can repudiate the contract
Differentiate between coer-
on the ground of fraud. cion and undue influence.
B discovered an ore mine in the Estate of A He conceals the mine and the . What do you understand
information about the mine. A in ignorance agrees to sell the estate to B at by fraud in Indian Contract
Act?
a price that is grossly undervalued. The contract would be voidable of the
option of A on the ground of fraud.
Buying goods with the intention of not paying the price is an act of fraud.
It will be interesting to know that not only Contract Act, but also other Acts
have specifically declared certain acts and omission as fraud. A seller of a
property should disclose any material defect in the property. Concealing the
information would be an act of fraud. Any other act committed to deceive is
fraud.
Mere silence would amount to fraud under certain circumstances.
Although a mere silence as to facts which is likely to affect the willingness of a
person to enter into a contract is no fraud, where there is a duty to speak or where
his silence is equivalent to speech, then such silence amounts to fraud. This would
be clearly seen from the explanation to Section 17 of the Indian Contract Act,1872.
This situation often arises in Insurance contracts.
In the case of fire insurance contract between people standing in fiduciary
relationship, nondisclosure of certain information would amount to fraud as there
is a duty to make special disclosure. These are also known as UberrimaeFidei
contract.
In the case of marine insurance policy contract, where a charterer is shipping
goods of high value but fails to disclose such high value of the goods to the underwriter,
there is fraud. Similarly the insurer is not bound by the policy issued by him where
he is misinformed about insurance policy previously taken by the insured.

5.7 Misrepresentation
Misrepresentation does not involve deception but is only an assertion of something
by a person which is not true, though he believes it to be true. Misrepresentation
could arise because of innocence of the person making it or because he lacks sufficient
or reasonable ground to make it. A contract which is hit by misrepresentation can be
avoided by the person who has been misled.
Example: A makes the statement on information derived, not directly from C but
from M. B applies for shares on the faith of the statement which turns out to be
false. The statement amounts to misrepresentation, because the information received
second-hand did not warrant A to make the positive statement to B [Section 18 (1)]. Business Law : 41
Indian Contract Act, 1872: 5.7.1 Essential elements of misrepresentation
Other Essential Elements of a
Contract All elements of fraud are equally applicable to misrepresentation except the knowledge
of false facts. Following are the essential elements of misrepresentation:
NOTES 1. The party makes a representation of facts which are false.
2. The misrepresentation should be related to the material facts of contract.
3. The misrepresentation should be with an intention that the other party should act
upon it.
4. The misrepresentation should have been acted upon.
5. The misrepresentation was made innocently.
6. Other party actually acted believing misrepresentation to be true.

5.8 Mistake
It means an erroneous belief about some facts. A mistake can either be (a) mistake of
law and (b) mistake of fact.
5.8.1 Mistake of law
A mistake of law does not mean mistake in provisions of any law but it means there is
mistake in understanding the provision of any law by the party to contract.
A mistake of law can be further classified either as mistake of Indian law and mistake
of foreign law.
5.8.1.1 Mistake of Indian law
Everyone is supposed to know the law of land. In the Latin maxim it is said that
Ignoranlia juris non exusa. Ignorance of law is no excuse. Therefore, if there is a
mistake of Indian law, the contract is not void or voidable.
Example: A, a widow, was entitled to certain occupancy rights on the land of B. she
remarried and believing that she has lost her occupancy rights by reason of her second
marriage, agreed to take the land on lease from B, on an increased rent. Both A and B
honestly believed that A had lost her occupancy rights. The contract for hire rent is
valid and not voidable although they made the contract in ignorance of law.
5.8.1.2 Mistake of Foreign law
Everyone can be supposed to know the law of the foreign country. A mistake of the
foreign law is treated, as if it were a mistake of facts, because person cannot be
expected to know the law of other country.
5.8.2 Mistake of fact
A mistake of fact can be classified either as a bilateral mistake or a unilateral mistake.
5.8.2.1 Bilateral mistake
A bilateral mistake of fact occurs when both parties to the contract are operating under a
mistaken reality. Bilateral mistakes are also known as mutual mistakes or common mistakes.
A bilateral mistake would result in a contract that could be voided by both individuals.
Example: A buys a painting from B at a price of Rs. 20,000. Both A and B believed it
to be the work of a known artist by B did not make any representation or warranty
about it. Later A comes to now that it was a new one and worth only Rs 1000. A is
Business Law : 42
bound by the contract.
The bilateral mistake can be further classified as: Indian Contract Act, 1872:
Other Essential Elements of a
1. Mistake of quantity: If both the parties are under a mistake as to the quantity of Contract
the subject matter of the agreement, the agreement is void. Such a mistake may
even be caused by the negligence of a third party but the agreement would be void. NOTES
Example: A agreed to buy 100 sewing thread reels from B. Both believe that each
reel contains 500 meters of thread but, in fact, the length of thread was only 300
meters. Held, the agreement was void as there was a bilateral mistake
2. Mistake as to price: If both the parties are working under a mistake as to the
price, the agreement is void.
Example:A agreed with B to let out his house for a monthly rent of Rs 520. However,
in the lease deed it was written as Rs. 350. Held, the agreement was void.
3. Mistake as to possibility of performance
Example: A agrees to sell 100 units of a particular product. Later, it is discovered
that there was a ban on the sale of a product even at the time of the making the
contract. The contract is void.
5.8.2.2 Unilateral mistake
A mistake of fact is unilateral when only one party is mistaken. A mistake of fact that
is unilateral in nature is not normally a reason to set aside a contract or a reason that
will allow a plaintiff in a civil trial to seek damages. A unilateral mistake of fact will
result in an enforceable voidable contract.
Example: A submitted a tender to B for construction of a number of houses. A made
a mistake in calculating the cost therefore his offer was lower than other tenders. As
tender was accepted. Held, it was a binding contract although it was an erroneous
estimate based on unilateral mistake.

5.9 Unlawful Object


In terms of section 23 of the Act consideration or object is unlawful if it is forbidden
by law; or it would if permitted, defeat the provisions of any law or is fraudulent or
involves injury to the person or property of another or is immoral or opposed to public
policy. Every agreement where the object or consideration is unlawful is void. Thus
section 23 has set out the limits to contractual freedom. Following are examples of
agreement which are void because the object is unlawful.
a) Where A, B & C enter into an agreement to share equally among themselves
certain gains acquired by fraud or loss acquired by fraud. The agreement is void
because the object being commission of fraud is unlawful.
b) A promise to return the stolen property of B if B would withdraw the criminal
case filed against him, the agreement is void as its object namely withdrawing the
case would mean stifling prosecution.

5.10 Unlawful Consideration


Following circumstances make consideration and object unlawful. Business Law : 43
Indian Contract Act, 1872:
Other Essential Elements of a
5.10.1 Agreement forbidden by law
Contract Acts forbidden by law means acts that are punishable under any Statute or Rules or
Regulations made under any statute. For instance a plantation company that is
NOTES commenced, for growing, felling and selling timber cannot enter into any agreement
to grow and fell sandalwood trees as felling of sandalwood is prohibited by law viz
the Forest Act.
Example: A license to cut grass is given to X by Forest Department under the
Forest Act. The license provides for imposition of penalty in the events of X choosing
to assign his right. However, if X assigns his right, the agreement would still be
valid since there is no prohibition for such assignment as the consideration stipulating
penalty is only to regulate the matter as a matter of administrative measure.
5.10.2 Consideration defeats the provision of law
Where an agreement is entered into with the object of defeating any provision of
law then it is prohibited. Law here should mean any Statute, Law, regulation etc,
in force. This can be illustrated by the following:
a) Where a debtor agrees not to plead limitation vis--vis his creditor, it is an
agreement to defeat the Limitation Act.
b) An agreement between owner of land who has to pay land revenue in arrears
and a stranger that the stranger would purchase his estate for revenues sake
and reconveys it to the former on receipt of purchase money is void, as it would
defeat the law relating to revenue, which apparently prohibits defaulting owners
from purchasing back the same estate already sold due to his default.
c) An agreement by a Hindu to give his son in adoption in consideration of annual
allowance to natural parents would be in violation of Hindu Law and hence is
unlawful.
d) Any agreement by a Muslim with the wife before their marriage that the wife
shall be at liberty to live with her parents after marriage is void as it would
defeat the provisions of Muslim Law.

5.10.3 Consideration that would defeat any rule for the time
being in force
This is a situation not very different from point (2) discussed above. The issue covered
by this point can be explained by following two examples:
a) A will must be proved in order to be probated by a court. A mere consent of parties
by way of agreement to except this requirement of proof of genuineness or proper
execution of will is not lawful and therefore cannot be enforced under C.P.C.
b) A receiver is a court officer. Therefore his remuneration has to be fixed by the court.
Parties to certain litigations cannot add or deviate of the power of the receiver.
Similarly they cannot fix salary of a receiver without the leave of the court however
unconditional it may be. Such an act would be in contravention of law.

5.10.4 Where consideration is a fraud


Following are illustrations to prove where the object or consideration of an agreement
Business Law : 44 is unlawful on the ground of fraud:
a) A is an agent for Zamindar, the principal. He agrees for money to lease of land Indian Contract Act, 1872:
Other Essential Elements of a
for B from his principal, the Zamindar. The agreement between A and B is Contract
void as the consideration is fraudulent.
b) A & B are partners in a firm. They agree to defraud a Government department
NOTES
by submitting a tender in the individual name and not in the firm name. This
agreement is void as it is a fraud on the Government department.

5.10.5 Where object or consideration is unlawful because it


involves or causing injury to a person or loss of property
The term injury means criminal or wrongful harm. Following are the illustrations
where the object or consideration is unlawful as it involves injury either to person or
property.
a) A agrees to buy a property from B although A knows B had agreed previously
to sell the property to C. The intention of A here is to cause injury to the
property of C.
b) A agrees to print a book of B which has clearly been published by W This
agreement is void as it is not only in violation of copyright Act but also with the
intent to cause injury to the property of another.
c) A borrowed money from B. He is unable to pay either the principal or interest.
Therefore he agrees to render manual labour for certain period failing which he
agrees to pay exorbitant interest. This agreement is void as rendering labour as
consideration amounts to agreeing to be a slave. Slavery is opposed to public
policy as well. In other words consideration involves injury to A. Hence the
agreement is void.

5.10.6 Where consideration is immoral


Following are illustration where the agreement is void because the object or
consideration is unlawful being immoral.
a) Where A agrees to let his house to a prostitute on rent, where with As knowledge
she carries on her vocation. A cannot collect the rent as the agreement is void,
the object being void.
b) Where P had advanced money to D a married woman to enable her to obtain
a divorce from her husband. He also promised to marry her after divorce. It
was held that P was not entitled to recover the amount from D as the
agreement was against good morals.
5.10.7 Where consideration is opposed to public policy
Agreement, either because of their object or consideration being opposed to public
policy is void and not enforceable. Therefore the meaning of the expression public
policy is very important. It can be interpreted in a narrow sense or in a broad
sense. If it is understood in a narrow sense, it would cut into rights of people to enter
into even genuine agreements. Public policy as a concept is evolved basically to
develop an orderly society and for good of the community. But framing public policy
itself is a difficult exercise since a too restrictive approach would stifle the rights of
people and a too liberal approach would open the gate for many illegal transactions.
Business Law : 45
Indian Contract Act, 1872:
Therefore policy on public policy has to be developed with circumspection. Public
Other Essential Elements of a
Contract policy has been described as an unruly horse, which if not properly bridled, may
carry its rider he knows not where. A few agreements which have been held to be
against public policy are stated below:
NOTES
1. Trading with enemy: Any trading or business activity with a person who owes
allegiance to a Government of a country with whom India is at war without any
license from Government of India is void. This is because such a trade would be
against the interest of Government of India and people of India.
Any agreement made during peace time would be suspended automatically and
cannot be carried on further until hostilities come to an end.
2. Stifling prosecution: Any agreement to stifle or prevent illegally any prosecution
is void as it would amount to perversion or abuse of justice. The principle is that
one should not make a trade of felony. It must be understood however that
under the Code of Criminal Procedure, 1973 many offences are compoundable.
Therefore any agreement towards compounding of an offence to avoid
prosecution is not void but is very much enforceable. Thus, where A agrees to
sell certain land to B in consideration of B abstaining from taking any criminal
proceeding against A with respect to an offence which is compoundable, the
agreement is not opposed to public policy.
3. Maintenance and Champerty: Maintenance is promotion of litigation in which
the litigant has no interest. Champerty is bargain whereby one party agrees to
assist the other in recovering property with a view to sharing the profit of litigation.
These agreements for maintenance and champerty are void in England but not
in India. Hence these are not opposed to public policy. But where such advances
are made by way of gambling in litigation, the agreement to share the subject of
litigation is certainly opposed to public policy and therefore is void.
4. Interference with course of law and justice: Any agreement with the object
of inducing a judicial officer or administrative officer of the state to act corruptly
or not impartially is void. Similarly an agreement to use influence in a litigationin
a underhand manner is void. For instance through an agreement A agrees to
reward B if he abstains from being a witness in a suit against A is void. But
an agreement to pay for to a holy man for prayers for success of a suit is valid.
5. Interest against obligation: The following are examples of agreement that
are void as they tend to create an interest against obligation. The object of such
agreements is opposed to public policy.
i. An agreement by an agent to receive without his principals consent
compensation from another for the performance of his agency is invalid.
ii. A promise by a trustee to do something in violation of his duty is unlawful
iii. A, who is the manager of a firm, agrees to pass a contract to X if X pay to
A 2000 privately; the agreement is void.
6. Sale of public offices: While appointing a person to certain important and high
public office, merit alone should be the criteria. Any attempt to influence or any
agreement to influence anyone in this regard should be seen as an act opposed
Business Law : 46
to public policy. Public policy also demands that there should be no money Indian Contract Act, 1872:
Other Essential Elements of a
consideration and if it is there, it could be opposed to public policy. This is for Contract
the reason presence of money consideration would convert the situation as sale
of public office. Following are illustrations in this regard.
NOTES
i. An agreement to pay money to public servant in order to induce him to
retire from his office so that another person may secure the appointment is
void.
ii. An agreement to procure a public recognition like Padma Vibhushan for
reward is void.
iii. The sale of the office of a mutawali of wakf is opposed to public policy,
because the office of mutawali is connected with matters of public interest.
7. Agreement for the creation of monopolies: Agreements having for their
object the establishment of monopolies are opposed to public policy and therefore
void. It is also hit by the MRTP Act.
8. Agreement in restraint of marriage (Section 26): Every agreement in restraint
of marriage of any person other than a minor, is void. So if a person, being a major,
agrees for good consideration not to marry, the promise is not binding.
9. Agreement in restraint of trade (Section 27): Any agreement through
which a person is restrained from exercising a lawful profession, trade or business
of any kind is to that extent void. The object of this law is to protect trade. The
restraint, even if it is partial, will make the agreement void. Example: X, a
shop keeper, in a particular locality agrees to pay Y his rival in business certain
compensation, if Y close his business in that locality the agreement is void.
The principle of law however has a number of exceptions which are discussed
hereunder.
i. Where a person sells his business along with the goodwill to another person,
agrees not to carry on same line of business in certain reasonable local
limits, such an agreement is valid.
ii. In terms of Section 36 of the Indian Partnership Act,1932 an agreement
through which an outgoing partner will not carry on the business of the firm
for a reasonable time will be valid, though it is in restraint of trade.
iii. Again in terms of Section 54 of the Partnership Act,1932 partners among
themselves may agree that upon dissolution of the firm some of them may
not carry on the business of the firm. Such an agreement is valid.
iv. Section 55 of the Indian Partnership Act,1932 provides that where a full firm
is sold by partners along with goodwill to a buyer, there can be an agreement
that they would not carry on the business of the dissolved firm for certain
period and within certain local limits and such an agreement will be valid.
v. An agreement of service through which an employee commits not to compete
with his employer is not in restraint of trade. Example: B is a Doctor and
he employs A a junior Doctor as his assistant. A agrees not to practice as
Doctor during the period of his employment with B as a Doctor
independently. Such an agreement will be valid.
Business Law : 47
Indian Contract Act, 1872: vi. An agreement between manufacturer and a wholesale merchant that the
Other Essential Elements of a
Contract entire production during a period will be sold by the manufacturer to the
wholesale merchant is not in restraint of trade.
vii. An agreement among sellers not to sell a particular product below a particular
NOTES
price is not an agreement in restraint of trade.
Check your progress
10. Agreement in restraint of legal proceedings (Section 28): An agreement
Explain the mistake.
in restraint of legal proceedings resulting in restriction of ones right to enforce
Differentiate between fraud
legal rights is void. Similarly any agreement which abridges the usual period for
and misrepresentation.
commencing the legal proceedings is also void. Further these agreements are
Is agreement without con-
sideration void? Explain also void in view of Section 23 of the Indian Contract Act,1872 as the object of
briefly. the agreements is to defeat the provision of law. Nevertheless, a clause in a fire
insurance policy stipulating that if the claim is made and rejected and if no suit is
instituted within three months after such a rejection, all the benefits under the
policy will be forfeited is valid. However, there are certain exceptions to the
above rule:
i. A contract by which the parties agree that any dispute between them in
respect of any subject shall be referred to arbitration and that only the amount
awarded in such arbitration shall be recoverable is a valid contract. For
instance, in agreement between the holder of a fire insurance policy and the
insurance company that no suit shall be instituted until the question of the
amount of damage sustained by the assured has first been ascertained by a
reference to an arbitrator is a perfectly valid agreement.
ii. Similarly, a contract by which the parties agree to refer to arbitration any
question between them which have already arisen or which may arise in
future, is valid; but such a contract must be in writing.

5.11 Agreement Expressly Declared as Void


As we know, certain agreements are void ab initio under the Contract Act, like
agreements by incompetent persons (Section 11), agreement with unlawful object
or consideration (Section 23), agreement made under mutual mistake of fact (Section
20), agreement without consideration (Section 25), agreement in restraint of marriage,
trade orlegal proceedings etc., as they are opposed to public policy. In addition to the
above, there are also other agreements which are expressly declared as void.
5.11.1 Where consideration is unlawful in part
By virtue of Section 24 of the Indian Contract Act, If any part of a single
consideration for one or more objects, or any one or any part of any one of several
considerations for a single object is unlawful, the agreement is void. This Section is
obviously a corollary to Section 23 of the Act. Where the consideration is unlawful,
the entire agreement is void as the agreement has to be looked as a whole. The
general principle of law is where the legal part of an agreement can be separated
from the illegal part; the court will enforce the part which is legal. But where no
such separation is possible, the contract is altogether void. Example: A has business
interest in Indigo, as a manufacturer. He also has interest in illegal traffic of other
Business Law : 48 goods. Where A employs B for a salary of Rs. 2,000 to act as superintendent of
As entire business, the agreement is void as the object of As promise unlawful in Indian Contract Act, 1872:
Other Essential Elements of a
part.
Contract

5.11.2 Agreement the meaning of which is uncertain (Section 29)


Where the meaning of the terms of an agreement is uncertain or if it is not capable NOTES
of being understood with certainty, then the agreement is void. But where the meaning
is capable of being made certain, then the agreement is valid.
Example: Where A enters into an agreement to supply 100 tons of oil, the
agreement is not valid as the meaning of it is uncertain since what type of oil that is
promised to be supplied is not clear. But on the other hand if A is a dealer of
coconut oil only, then the meaning of the agreement would crystallize very easily
and then the agreement would be valid.

5.11.3 Wagering agreement


According to Sir William Anson A promise to give money or moneys worth upon
determination or ascertainment of an uncertain event.
Wagering agreement is one which involves payment of a sum of money upon the
determination of an uncertain event. Wager means gambling or betting. The essence
of wagering agreement is where there are two parties, one wins, the other loses
upon an uncertain event taking place in which neither of them has legitimate interest.
Example: A agrees to pay Rs. 500 to B if it rains and similarly B agrees to pay
A if it does not. This is a classic case of a wagering agreement. But where one of
the parties has control over the event, the agreement is valid. An agreement by way
of a wager is void. Section 30 of the Act provides that an agreement [to buy lottery
tickets] is one by way of wager and is void. However, any subscription or contribution
or agreement towards such subscription or contribution towards any plate or prize
or sum of money, of the value of Rs. 500 or more to be awarded to a winner of a
horse race is not unlawful.
a) Speculative transactions: While as clearly seen, wagering contracts are void,
speculative transactions are valid. It is often difficult to distinguish between the
two. There are two bare elements of a speculative transaction. They are (i)
mutual intention of parties to acquire or deliver goods or commodities and (ii)
undertaking of risk arising from movement of prices. In wagering contract, only
the element of risk is seen.
Example: A enters into an agreement with B to buy 100 bales of jute at Rs
150 per bale for forward delivery after six months. This is a proposed transaction
of purchase @ Rs. 150 per bale. What if the price at the time of delivery goes
up to Rs. 200/- A has the following two options:
i. to take delivery of 100 bales at the contracted rate of Rs 150 and sell it to
some other buyer and make a profit of Rs. 50/ -per bale or
ii. to simply collect the difference of Rs. 50/- per bale from B
Similarly, what if the price at the time of delivery goes down to Rs. 125/- per bale?
A has the following two options:
i. to take delivery of 100 bales at the contracted rate of Rs. 150/- (and perhaps Business Law : 49
Indian Contract Act, 1872: sell it to some buyer and incur a loss of Rs. 25 per bale) or
Other Essential Elements of a
Contract ii. to pay the difference of Rs. 25 per bale to B & close the contract.
In the above example if the original intention of the parties was only to settle the
NOTES difference in price, than it would be a wagering contract which would be void.
Thus by now it would be clear that wagering postulates only incurring of risk. It
is void because it is opposed to public policy.While gambling and wagering are
prohibited by law, speculation is not.

5.12 Contingent Contract


A contract may be absolute or contingent. As per Section 31, a contingent contract
is a contract to do or not to do something, if some event collateral to such contract,
does or does not happen. The contingent contract is defined as the contract in which
the promisor undertakes to perform the contract upon that happening or non-
happening of a specified future uncertain event, which is collateral to the contract.
Example: A contracts to sell B, 10 bales of cotton for Rs. 20,000, if the ship by
which they are coming returns safely. This is a contingent contract. Contract of
insurance and contracts of indemnity and guarantee are popular instances of
contingent contracts.
5.12.1 Rules regarding contingent contracts
The following rules are contained in Section 32-36:
a) Contracts contingent upon the happening of a future uncertain event cannot
be enforced by law unless and until that event has happened. If the event becomes
impossible, the contract becomes void - Section 32.
(i) A makes a contract to buy Bs house if A survives C. This contract cannot
be enforced by law unless and until C dies in As lifetime.
(ii) A contracts to pay B a sum of money when B marries C, C dies without
being married to B. The contract becomes void.
b) Contracts contingent upon the non-happening of an uncertain future event
can be enforced when the happening of that event becomes impossible and not
before. - Section 33.
A contracts to pay B a certain sum of money if a certain ship does not return.
The ship is sunk. The contract can be enforced when the ship sinks.
c) If a contract is contingent upon how a person will act at an unspecified
time, the event shall be considered to become impossible when such person
does anything which renders it impossible that he should so act within any definite
time or otherwise than under further contingencies - Section 34.
A agrees to pay B Rs. 1,000 if B marries C. C marries D. The marriage of B to
C must now be considered impossible although it is possible that D may die and
C may afterwards marry B.
d) Contracts contingent on the happening of an event within a fixed time
become void if, at the expiration of the time, such event has not happened, or if,
Business Law : 50
before the time fixed, such event becomes impossible - Section 35.
A promises to pay B a sum of money if a certain ship returns with in a year. The Indian Contract Act, 1872:
Other Essential Elements of a
contract may be enforced if the ship returns within the year, and becomes void Contract
if the ship is burnt within the year.
e) Contracts contingent upon the non-happening of an event within a fixed
NOTES
time may be enforced by law when the time fixed has expired and such event
has not happened or before the time fixed has expired, if it becomes certain that Check your progress
such event will not happen - Section 35 Discuss the wagering
agreement.
A promises to pay B a sum of money if a certain ship does not return within the
. What do you understand
year. The contract may be enforced if the ship does not return within the year or by contingent contract?
is burnt within the year.
f) Contingent agreements to do or not to do anything if an impossible event
happens, are void, whether the impossibility of the event is known or not known
to the parties to the agreement at the time when it is made - Section 36.
A agrees to pay Rs. 1,000 to B if two straight lines should enclose a space. The
agreement is void.

5.13 Key Terms


Consent: According to Section 13 of the Act, Two or more persons are said to
have consented when they agree upon the same thing in the same sense.
Free consent: Free consent is one of the essential elements of valid contract.
Parties to a contract may agree upon the same thing in the same sense, and
along with the same; consent received must be free from any compulsion or
pressure. Lack of free consent would render the contract voidable at the option
of the party not at fault.
Coercion: Contract coercion occurs when a contract agreement is entered into
under conditions involving harm or threats of harm.
Undue influence: Undue influence is an equitable doctrine that involves one
person taking advantage of a position of power over another person. This inequity
in power between the parties can vitiate one partys consent as they are unable
to freely exercise their independent will.
Fraud: Contract fraud occurs when one party in a contract presents information
to another that is incorrect, deceitful, or meant to confuse the other party.
Mistake: In contract law, a mistake is an erroneous belief, at contracting, that
certain facts are true. It can be argued as a defence, and if raised successfully
can lead to the agreement in question being found void ab initio or voidable, or
alternatively an equitable remedy may be provided by the courts.
Misrepresentation: A misrepresentation is a false statement of fact made by
one party to another, which, whilst not being a term of the contract, induces the
other party to enter the contract.
Unlawful consideration: Unlawful consideration is any clause in a contract
that is forbidden by law, would violate the law, is based on a fraud, or creates an
injury to another party. In the United States, this is known as an illegal agreement. Business Law : 51
Indian Contract Act, 1872:
Contingent contract: A contingent contract is a contract to do or not to do
Other Essential Elements of a
Contract something, if some event, collateral to such contract, does or does not happen.

NOTES 5.14 Summary


According to Section 13 of the Act, Two or more persons are said to have
consented when they agree upon the same thing in the same sense. This is
stated as identity of minds or consensus-ad-idem i.e. agreeing upon the same
thing in the same manner.
According to Section 15 of the Act, Coercion is the committing, or threatening
to commit any act forbidden by the Indian Penal Code 1860, or the unlawful
detaining, or threatening to detain any property, to the prejudice of any person
whatever, with the intention of causing any person to enter into an agreement.
According to Section 16 of Act, A contract is said to be induced by undue
influence where the relations subsisting between the parties are such that one
of the parties is in a position to dominate the will of the other and uses that
position to obtain an unfair advantage of the other.
The essential ingredients of undue influence are: one of the parties dominates
the will of the other and he has real or apparent authority over the other;he is in
a position to dominate the will of the other andthe dominating party takes
advantage of the relation.
According to Section 17 of the Act, fraud means and includes any of the following
acts committed by a party to a contract or with his connivance or by his agent
with intent to deceive another party thereto or his agent or to induce him to enter
into the contract.
Although a mere silence as to facts which is likely to affect the willingness of a
person to enter into a contract is no fraud, where there is a duty to speak or
where his silence is equivalent to speech, then such silence amounts to fraud.
This would be clearly seen from the explanation to Section 17 of the Indian
Contract Act, 1872. This situation often arises in Insurance contracts.
Misrepresentation does not involve deception but is only an assertion of
something by a person which is not true, though he believes it to be true.
Misrepresentation could arise because of innocence of the person making it or
because he lacks sufficient or reasonable ground to make it.
A mistake of law does not mean mistake in provisions of any law but it means
there is mistake in understanding the provision of any law by the party to contract.
In terms of section 23 of the Act consideration or object is unlawful if it is
forbidden by law; or it would if permitted, defeat the provisions of any law or is
fraudulent or involves injury to the person or property of another or is immoral
or opposed to public policy. Every agreement where the object or consideration
is unlawful is void.
A contract may be absolute or contingent. As per Section 31, a contingent contract
is a contract to do or not to do something, if some event collateral to such
Business Law : 52 contract, does or does not happen. The contingent contract is defined as the
contract in which the promisor undertakes to perform the contract upon that Indian Contract Act, 1872:
Other Essential Elements of a
happening or non-happening of a specified future uncertain event, which is Contract
collateral to the contract.

NOTES
5.15 Questions and Exercise
1 When is consent said to be given under coercion? How coercion differs from
undue influence?
2 A contract caused by unilateral mistake may be valid, voidable or void. Explain.
3 Mere silence would amount to fraud under certain circumstances.Discuss this
statement.
4 Define mistake. Differentiate between bilateral and unilateral mistake by giving
suitable examples.
5 What do you understand by the contingent contract ? Discuss the rules regarding
enforcement of contingent contracts.
6 Explain briefly:
(a) Agreement in restraint of marriage
(b) Invitation to treat does not amount to an offer
(c) Consideration must be sufficient but need not be adequate.
7 Explain the concept of misrepresentation in the matters of contract.
8 Consideration is required for every kind of contract. Comment.
9 Insufficiency of consideration is immaterial but an agreement without consideration
is void. Comment.
10 All agreements against public policy are void. Comment.

5.16 Further Readings and References


Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.

Business Law : 53
Indian Contract Act, 1872:
Other Essential Elements of a
Contract

NOTES

Business Law : 54
Indian Contract Act, 1872:
Unit 6: Indian Contract Act, 1872: Performance Performance and Discharge of
Contract
and Discharge of Contract
Structure
NOTES
6.0 Introduction
6.1 Unit Objectives
6.2 Performance of Contract
6.3 Essentials of a Valid Tender
6.4 Types of Tenders
6.5 By whom Contracts must be Performed?
6.6 Performance of Joint Promise
6.7 Time and Place for Performance of Promise
6.8 Kinds of Reciprocal Promise
6.9 Rules regarding Performance of Reciprocal Promises
6.10 Appropriation of Payments
6.11 Assignment of Contracts
6.12 Discharge of a Contract
6.13 Key Terms
6.14 Summary
6.15 Questions and Exercise
6.16 Further Readings and References

6.0 Introduction
A contract being an agreement enforceable by law, creates a legal obligation, which
subsists until discharged. Performance of the promise or promises remaining to be
performed is the principal and most usual mode of discharge. In a contract where
there are two parties, each one has to perform his part and demands the other to
perform. This obligation is the primary tenet. The parties would be treated as
having been absolved only under the provisions of any law or by the conduct of the
other party. Until such time, the performance is neither excused nor dispensed with.
Not only the promisor has a primary duty to perform, even the representative in the
event of death of a promisor, is bound by the promise to perform, unless a contrary
intention appears from the contract [Section 37]. This unit explains, who must perform
his obligation; what are the rules regarding performance of reciprocal promises etc.

6.1 Unit Objectives


After completing this unit, students will be able to:
Understand performance of a contract and its type
Business Law : 55
Explain who can perform the contracts
Indian Contract Act, 1872: Discuss rules regarding performance of a joint promise
Performance and Discharge of
Contract Know different kinds of reciprocal promise
Familiarise with the rules regarding performance of reciprocal promises
NOTES
Learn Appropriation of Payments
Understand meaning and methods of discharge of a contract

6.2 Performance of Contract


Performance of contract means fulfilling of their respective legal obligations created
under the contract by both the promisor and the promise. When a contract is duly
performed by both the parties, the contract comes to a happy ending and nothing
more remains. Performance by all the parties of the respective obligations is the
normal ad natural mode of discharging or terminating a contract.

6.3 Essentials of a Valid Tender


An attempt to perform a promise by a promisor is regarded as a valid tender, when
it fulfils all of the following conditions.
6.3.1 It must be unconditional
There must not be any condition associated with the tender. The tender should be
unconditional. In order to be legally enforceable, a tender should not only be in
accordance with the contractual terms, the promisor should also not attach any
condition to it, because it is not reasonable to compel the other party to accept a
changed or otherwise modified performance, whatsoever.
Example: Manju purchased shares of ABC & company by paying allotment money.
Manju was ready to pay for first call and final call money, if the company was ready
to issue debentures to her at par. Such is a conditional tender.

6.3.2 It must be made at a proper time and place


Sec 38(2) provides that the tender of performance should be made at an appropriate
time i.e. at a stipulated time as per the agreement or during business hours. A tender
after business hours or after the due date will not be valid tender.
Example: Raj offers to deliver the goods contracted to Mohan at 1 A.M. It is not a
valid tender since it is not during the business hours.

6.3.3 It must be for the entire obligation


There must be performance of the entire obligation and not of a part of the whole
obligation. Offer to do part performance of the contract does not amount to valid
tender. However, a minor deviation from the terms of a contract may not render the
tender as invalid.
Example: X entered into contract with Y for sale of 100 bags of wheat and delivery
of the same was to be done on 14th February. X tendered only 50 bags on the date
Business Law : 56 of performance. Such part delivery does not amount to a valid tender.
6.3.4 It must be in legal tender money Indian Contract Act, 1872:
Performance and Discharge of
In case of tender of money the exact amount should be tendered, moreover it should Contract
be legal tender money. Therefore, in case of tender of money which is not legal
tender (e.g. old coins not in circulation) or foreign currency does not constitute valid
NOTES
tender of money. The tender of money, in the form of foreign currency is not a valid
tender unless it is agreed between the parties.

6.3.5 The promisee must be given reasonable opportunity to


inspect the goods
As per sec 38(3) the promisee has a right to examine, verify and check the
goods offered. The promisor must give a reasonable opportunity to the promisee
to verify and examine the goods. If promisee is disallowed of such an
opportunity then he has a right to reject anything so promised to be delivered
as such disallowance of opportunity do not constitute a valid tender of
performance.

6.3.6 It must be made to the promise or his authorised agent


Performance must be made to the promisee or his duly authorised agent. Thus a
tender of performance made to a stranger does not constitute a valid offer of
performance. In case of several joint promisees, a tender made to one of them
has the same legal consequences. A tender of performance can be made to any of
the several joint promisees but the actual performance has to be made to all of
them.

6.4 Types of Tenders


There are two types of tenders (a) tender of goods and services and (b) tender of
money. The rules for both the tenders are given below:

6.4.1 Tender of goods and services


When a promisor offers to deliver the goods or service to the promisee and the
promisee refuses to take the delivery, it is said to be tender of goods or services.

Effect: If promisee does not accept a valid tender of goods and services, it has the
following effects:
The promisor is discharged from his obligation under the contract
The promisor need not offer the goods or services again.
The promisor may sue promisee for non-performance.

6.4.2 Tender of money


When the promisor offers to pay the amount and the promisee refuses to accept the
same it is called valid tender of money. It will have the following effects:
The offeror is not discharged from his obligation to pay the amount.
The offeror is discharged from his liability for the payment of interest from the
date of the tender of money. Business Law : 57
Indian Contract Act, 1872:
Performance and Discharge of 6.5 By Whom Contracts must be Performed
Contract
The promise under a contract can be performed by any one of the following:

NOTES 6.5.1 By the promisor himself


In the case of a contract involving personal skill, taste or credit, e.g., a contract to
paint a picture, a contract of agency or service; the promisor must himself fulfil the
contract. Section 40 states thus, if it appears from the nature of the case that it was
the intention of the parties to any contract that any promise contained in it should be
fulfill by the promisor himself, such promise must be performed by the promisor.
Example:
A promises to paint a picture for B by a certain day at a certain price. A dies
before that day. The contract cannot be enforced either by As representatives
or by B.
A promises to paint a picture for B. A must perform this perform personally.
Painting picture is a personal skill.

6.5.2 By the promisor or his agent


In the case of a contract of impersonal nature; e.g., a contract of sale of goods or a
contract to lend a sum of money; the promisor himself or his agent may perform the
contract [Section 40 Clause (2)].
Example: A promises to pay B a sum of money. A may fulfil this promise, either by
personally paying the money to B or by causing it to be paid to B by another.

6.5.3 By the legal representatives


In case of the death of the promisor before performance, the liability of performance
falls on his legal representatives, unless a contrary intention appears from the contract
[Section 37]. Thus, in the case of contracts involving personal skill, the heir or legal
representatives of a deceased promisor are not bound to perform the contract. Such
contracts come to an end on the death of the promisor. The rule of law is: a personal
cause of action comes to an end with the death of the person concerned. In the
case of contracts not involving personal considerations, the legal representatives are
bound to fulfil the contract. But their liability is limited to the estate of the deceased
which has come to their hands, in case of breach of contract. They are not personally
liable.
Example:A promises to deliver goods to B on a certain day, on payment of Rs.
1000. A dies before that day. As representatives are bound to deliver the goods to
B and B is bound to pay Rs. 1,000 to As representatives.
6.5.4 By a third person
Section 41 states that if a promisee accepts performance of the promise from a third
person, he cannot afterwards enforce it against the promisor. Thus, where a promisee
accepted lesser amount from a third party in full satisfaction of his claim, it was held
that he cannot enforce the promisee against the promisor (Lala Kapurchand vs Mir
Nawab Azamjah).
Business Law : 58
Indian Contract Act, 1872:
6.6 Performance of Joint Promise Performance and Discharge of
Contract
There may be contracts have joint promisors and joint promisees. When two or
more persons enter into a joint agreement with one or more persons, in such a case,
the promise is known as a joint promise. The rules relating to the performance of the NOTES
joint promises are contained in section 42-45 of the Contract Act, 1872, and may be Check your progress
discussed under the following heads. What do you understand
by performance of
6.6.1 Jointly perform liability contract?
. A valid tender must be
Sec 42 states, when two or more persons have jointly entered into a contract with unconditional explain it.
one or more persons then all joint promisors need to perform their promise together.
Explain the tender of goods
Example: Ramesh, Suresh and Mahesh Owe Rs. 30,000 to Dinesh. All the three and services.
need to jointly perform their obligation.

6.6.2 Joint and several liabilities of joint promisors


In case all the joint promisors do not perform their obligation voluntarily then sec 43
would come into operation. As per Sec 43(para1) the liability of joint promisors
towards the promisee is joint and several. In the absence of an express agreement
to the contrary, the promisee may compel anyone or more of such joint promisors to
perform the whole of the promise.
Example: Ramesh, Suresh and Mahesh Owe Rs. 30,000 to Dinesh. All the three
need to jointly perform their obligation. In case all the three do not voluntarily discharge
their obligation then Dinesh can compel any one of them to discharge the whole
obligation. Dinesh Compels Mahesh to pay Rs. 30,000 to him.

6.6.3 Joint promisors right to claim contribution


Sec 43 (para2) states that If one of the joint promisors has actually performed whole
of the obligation to the promisee, then such joint promisor would be entitled to recover
a contribution from the other joint promisors towards the total liability. The contribution
shall be equal or in the agreed ratio.
Example: Ramesh, Suresh and Mahesh took a joint loan from Dinesh for Rs 30,000.
They decide to share the loan amount in the ratio 5:3:2. Dinesh recovers the total
amount from Mahesh. After this payment, Mahesh is entitled to demand contribution
from Ramesh and Suresh in accordance with the ratio that they had agreed upon.
So, Ramesh has to pay Rs. 15,000 and Suresh, Rs. 9,000 to Mahesh.

6.6.4 Joint promisors duty to share loss from default in


contribution
Sec 43(para3) states that when A joint promisor fails to make his contribution as
required by the previous rule. In such a case, the other joint promisors will have to
share this loss equally even if there was a ratio to divide the main liability.
Example: Ramesh, Suresh and Mahesh took a joint loan from Dinesh for Rs. 30,000
and decided to share equally. Ramesh is unable to pay anything and Mahesh is
compelled to pay the whole sum. Mahesh is entitled to receive Rs.15,000 from
Suresh. This amount includes Rs. 10,000 as normal contribution plus equal share of
Business Law : 59
sum under default i.e., Rs 5,000.
Indian Contract Act, 1872: 6.6.5 Effect of release of one joint promisor
Performance and Discharge of
Contract Sec 44 states that a release of one of the joint promisors by the promisee, does not
discharge the other joint promisors. It only releases such discharged promisor of his
NOTES liability towards the promisee, but such discharge by the promisee does not release the
discharged joint promisor from his liability to the other joint promisors.
Example: Ramesh, Suresh and Mahesh took a joint loan from Dinesh for Rs.30,000
and decided to share equally. Dinesh releases Ramesh from his liability and sues Mahesh
and Suresh for payment. Here, neither Mahesh nor Suresh is released from their liability
to Dinesh. Also Ramesh is liable to Mahesh and Suresh for contribution. Thus Mahesh
and Suresh can claim Rs 5,000 each from Ramesh.

6.7 Time Place and Manner of Performance


Performance of contract involves certain important terms regarding the time, place and
manner of performance of the contract. The parties need to abide by such terms as
specified in the contract. The law lays down certain provisions regarding the same as
follows-
6.7.1 Time of Performance
Following are the rules regarding the time of performance of the contract:
6.7.1.1 Performance within a reasonable time (Sec. 46)
When the Contract specifies or mentions that a promisor is to perform his promise
without an application by the promisee and no time for performance is specified, then
the obligation must be performed within a reasonable time.
What is reasonable time? is a question of fact. It depends upon the circumstances of
the case, the usage of trade and the intention of the parties at the time of entering into
the contract.
Example: Supply of order for books by a bookseller to the publisher given in July
should be performed within 4-5 days, it being the time for the demand of books. The
publisher needs to perform the promise within a reasonable time.
6.7.1.2 Specified time for performance (Sec. 47)
When a promise is to be performed at a certain time and the promisor undertakes to
perform it without an application by the promisee. Under Sec. 47, it has been provided
that in such a case, the promisor may perform the promise at any time during the usual
hours of business on such day and at the place at which the promise ought to be performed.
Example: Suraj promised to deliver 10 scooters at Pankajs godown on April 1. On
that day, Suraj brought the scooters but after 10:00 p.m. The delivery was not taken as
the godown was closed. Here it was held that Suraj has performed his promise beyond
usual working hours.
6.7.1.3 Performance on a certain day (Sec. 48)
When a promise is to be performed on a certain day, the promisor undertakes to perform
it after the application by the promisee to that effect. In such a case, it is the duty of the
promisee to apply for performance at a proper place and within the usual hours of
Business Law : 60
business. Proper time and place will depend upon the circumstances of the case.
Example:Naveen entered into a contract with Prashant for sale of 100 bags of cotton. Indian Contract Act, 1872:
Performance and Discharge of
The delivery of cotton was to be made on 15th February. Naveen agreed to do so only Contract
after a request from Prashant. In such case the promisee (Prashant) must apply.

6.7.2 Place of a performance NOTES


6.7.2.1 Promise when no place is fixed (Sec.49)
When a promise is to be performed without an application by the promisee, and no
place is fixed for the performance of promise, it is the duty of the promisor to apply to
the promisee to appoint a reasonable place for the performance of the promise and to
perform the promise at such place.
Example: A cycle Company, Khan & Co., undertakes to deliver 100 cycles to Gopal
on a fixed day without a request by the promisee. Khan & Co. should ask Gopal to
appoint a reasonable place for the delivery of cycles and must deliver the cycles to
Gopal at that place.
6.7.2.2 Performance of a promise in a manner prescribed by the promise
(Sec.50)
As per Sec. 50, The performance of any promise may be made in any manner or at
any time, which the promisee prescribes. Thus the promisor needs to perform his
promise as sanctioned or prescribed by the promisee.
Example:
1. Gopal owes Teertha Rs. 10,000. Teertha accepts Gopals car valuing Rs 6,000 in
reduction of the debt. The delivery of the car will amount to a part payment of the debt.
2. Sunil Owes Rs. 1,00,000 to Anil. Anil prescribed that Sunil should make an account
transfer of the amount to his bank account. Sunil does the same and hence is discharged.
Note: If the promisor performs the promise in contravention of the instruction of the
promisee then he is not discharged of his liability towards the promisee. Thus when a
promisor makes a payment to the agent of the promise, who is not authorized to receive
payment then such payment would not discharge the promisor.

6.8 Kind of Reciprocal Promise


According Sec 2(f) Promises which form the consideration or a part of the consideration
for each other are called reciprocal promises. In other words, it is a promise in exchange
for a promise.
In case of reciprocal promises, each party to the contract is a promisor as well as a
promisee.
Example: Deepthi and Deepak promised to marry each other. These are reciprocal
promises. In this case, Deepthis promise is the consideration for Deepaks promise
and vice versa.
6.8.1 Mutual and independent
When the promises are to be performed by each party independently without waiting
for the other party to perform his promise, it is called as it mutual and independent
reciprocal promises. Business Law : 61
Indian Contract Act, 1872: Example: A agrees to deliver goods to B. B agrees to pay Rs. 1,000 for goods.
Performance and Discharge of
Here, both parties can perform their respective promises anytime.
Contract
6.8.2 Conditional and dependent
NOTES In conditional and dependent reciprocal promises, the performance of the promise
by one party depends upon the prior performance of the promise by the other party.
If the party who is bound to perform his promise first, fails to perform it, then he
cannot claim performance from the other party. Moreover, the defaulting party
becomes liable to pay the compensation to the other party for the loss suffered by
the other on account of the non-performance of the contract [Sec. 54].
Example: Lucky hired Alis ship for taking and conveying certain goods from Calcutta
to Mauritius. Lucky agreed to provide the goods at the Calcutta port, and Ali agreed
to convey them to Mauritius after receiving the freight. Lucky did not provide the
goods for the ship. In this case, Lucky cannot claim the performance of Alis promise.
He must compensate Ali for the loss, which Ali sustained due to the non-performance
of the contract.
6.8.3 Mutual and concurrent
Mutual and concurrent promises are to be performed simultaneously. Thus, the
promisor is not bound to perform his promise unless the promisee is ready and willing
to perform his part of promise [Sec. 51]. In other words, the mutual and concurrent
reciprocal promises must be performed simultaneously i.e. at the same time.
All cash sales are examples of simultaneous or concurrent promises, as the delivery
of goods and the payment of price take place simultaneously.

6.9 Rules Regarding Performance of Reciprocal


Promise
The rules regarding the performance of reciprocal promises are as follows:
6.9.1 Order of performance of reciprocal promises
Where the order in which reciprocal promises are to be performed is expressly
fixed by the contract, they shall be performed in that order; and where the order is
not expressly fixed by the contract, they shall be performed in the order in which the
nature of the transaction requires
Example: Pavan and Gagan contracted that Pavan shall construct a house for
Gagan at a fixed price. In this case, the nature of the contract requires that Pavans
promise to construct the house must be performed before Gagans promise to pay
for it. Thus, Pavan must first construct the house, only then can he claim the price
from Gagan.
6.9.2 Effect of preventing performance (Sec.53)
Sometimes, one party to a reciprocal promise prevents the other party from performing
his promise. In such cases, the contract becomes voidable at the option of the party
who is so prevented. Moreover the party so prevented may also recover compensation
from the other party for any loss suffered due to non-performance of the contract.
Business Law : 62 Example: Sumit and Shahid contract that Shahid shall execute repair work of his
Indian Contract Act, 1872:
house, for Rs. 10,000. Shahid is ready and willing to execute the work accordingly,
Performance and Discharge of
but Sumit does not direct as to which part of the house requires repairs. As Sumit is Contract
duty bound to direct Shaid in order to conduct the work. The contract is voidable at
the option of Shahid and if he rescinds the contract then he is discharged from
NOTES
performing his part of obligation to the contract. He is furthermore entitled to recover
Check your progress
compensation for any loss or inconvenience caused to him arising out of the contract.
What is joint promise?
6.9.3 Effect of default as to promise to be performed first What do you mean by
reciprocal promise?
under contract (Sec.54)
. Explain the rules regarding
If a party, who is liable to perform first, fails, he cannot demand performance from the performance of
reciprocal promises.
the other party and compensation. The person, who is at fault, cannot demand the
performance against the other party. The default party can be held liable for the
payment damage, if the other party has suffered loss as a result of his failure to
perform.
Example: A contracts with B to execute certain builders work for a fixed price, B
supplying the scaffolding and timber necessary for the work. B refuses to furnish
and scaffolding or timber, and the work cannot be executed. A need not to execute
the work, and B is bound to make compensation to A for any loss caused to him by
the non-performance of the contract.
6.9.4 Effect of promise to do legal and illegal things (Sec.57)
If one contract contains two promises, out of which one is legal and the other is
illegal, the first part is the contract while the second part is the void agreement if the
legal promise and the illegal promise are separable from each other. But if both the
promises cannot be separated from each other, the entire agreement is void.

6.10 Appropriation of Payments - Sections 59-61


Appropriation of payment means an adjustment and application of the money to a
given transaction. When there are several debts outstanding from one person to
another and certain payment is made by the debtor, and such payment is insufficient
to satisfy the whole debt, the order in which the debts are satisfied is known as
appropriation of payment.
The Indian Contract Act has laid down the following rules regarding the appropriation
of a payment made by a debtor to the creditor:
6.10.1 Debtors express instructions to be followed
Each debtor, who owes several debts to the creditor, has a right to instruct his
creditor to which particular debt, the payment is to be appropriated or adjusted.
Therefore, when the debtor expressly states that the payment is to be applied to the
discharge of a particular debt, the payment must be applied accordingly. The creditor
has to follow the debtors express instruction in this respect (Sec. 59).
Example: Nilesh owes Shahid three distinct debts of Rs 20,000, Rs 30,000 and Rs
50,000. Nilesh sends Rs 50,000 and instructs Shahid that the payment should be
appropriated against the first two debts (Rs 20,000 & Rs 30,000). He is bound to
appropriate the payment against the first two debts only. Business Law : 63
Indian Contract Act, 1872: 6.10.2 Debtors implied intention to be followed
Performance and Discharge of
Contract Sometimes, the debtor makes a payment to his creditor without any expressed
instructions as to which particular debt the payment is to be appropriated. In such a
case, the creditor must appropriate the payment towards the debt to which, under
NOTES
the implying circumstances, the debtor intended to do (Sec. 59).
Example: Fakirchand owes Amirchand, among other debts, an amount of Rs 567.
There is no similar amount pending from Fakirchand to Amirchand. Fakirchand
sends a cheque of Rs 567. His implied intention is to clear that particular debt. Such
appropriation should be done by the creditor.

6.10.3 Appropriation by the creditors


If the debtor does not give any direct or indirect indication about appropriation, the
creditor gets a chance to apply the payment at his discretion. He may appropriate
the received amount towards any of the lawful debts including a time barred debt.
But, he cannot apply the payment to unlawful or disputed claims (Sec. 60).

6.10.4 Appropriation by law


When the debtor does not signifies either expressly or impliedly nor the creditor
appropriates payment according to his discretion then Sec 61 would apply. Sec 61
lays down the method of appropriation of payment as per law. Sometimes neither
the debtor nor the creditor makes any appropriation of the payment. In such a case,
the payment by the debtor should be appropriated towards the debts in order of time,
i.e. in the order in which they were created, including a time barred debt. This
principle always applies in the context of a running loan account with a bank or any
other creditor.
When there is more than one debt pertaining to a certain date then the payment shall
be applied in discharge of each proportionately.

6.10.5 Appropriation between principal and interest


If a debt includes the principal amount and also the interest due on it and the amount
is insufficient to cover the interest as well as the principal then the ordinary rule
would be that the money paid should be appropriated first towards the interest and
then the residue if any towards the principal amount.

6.11 Assignment of Contracts


The term assignment means transfer. Assignment of contracts would mean the
transfer of rights and liabilities under a contract by a party to another person. Thus,
in the case of an assignment, the original party or parties to the contract drop out and
the others take his / their place.Assignment takes place either, by the act of parties
or by operation of Law.
Assignment of rights and liabilities by act of the parties are subject to the following
rules:
In case if the contractual rights / obligation involve personal skill or ability, then
Business Law : 64 such rights or obligations cannot be assigned.
In all other cases rights and obligations can be assigned subject to all equities Indian Contract Act, 1872:
Performance and Discharge of
between the original parties. Contract
Assignment of rights and liabilities by operation of Law are subject to the following
rules:
NOTES
In case of death of the parties the rights and obligations (other than those of
Personal nature) of the deceased party pass on to his legal representatives.
In case of insolvency of any party the rights and obligations (other than those of
personal nature) of the insolvent party pass on to the Official Receiver or Assignee
appointed by court.
Example:
1. Arun promises to marry Priya. Here, neither Arun can assign his obligation nor
Priya can assign her right because the contract is of personal nature.
2. Ram owes Rahim Rs. 10,000 and Robert owes Ram Rs. 10,000. Here Ram
cannot compel Rahim to recover the amount from Robert. However, he can
transfer his liability to Robert with the consent of Rahim and Robert. Rahim can
also transfer his right to a third party to recover the amount from Ram.

6.12 Discharge of Contract


Discharge of a contract suggests termination of contractual obligations. This is
because when the parties originally entered into the contract, the rights and duties in
terms of contractual obligations were set up. Consequently when those rights and
duties are put out then the contract is said to have been discharged. Once a contract
stands discharged, parties to it are no more liable even though the obligations under
the contract remain incomplete. The contract may be discharged in the following six
modes discussed as follows:

6.12.1 Discharge by performance


Performance of a contract is the principal and most usual mode of discharge of a
contract. Performance may be: (a) Actual Performance; or (b) Attempted
performance or tender
(a) Actual performance: It means the parties to contract have performed their
respective promises under the contract.
(b) Attempted performance or a tender: It means the promisor has made an
offer of the performance of promise but it has not been accepted by the promise.

6.12.2 Discharge by mutual consent or agreement


A contract can be discharged by mutual agreement in any of the following ways.
(a) Novation: The term novation implies the substitution of a new contract for the
original one. This arrangement may be either with the same parties or with different
parties. For a novation to be valid and effective, the consent of all the parties, including
the new one(s), if any, is essential. Moreover, the subsequent or second agreement
must be one capable of enforcement in law, the consideration for which is the
exchange of promises not to enforce the original contract. Business Law : 65
Indian Contract Act, 1872: Example: A owed Rs 100 to B, under contract. B owned Rs 100 to C. It was
Performance and Discharge of
Contract agreed among A, B and C that A would pay Rs 100 to C.
(b) Rescission: Rescission refers to cancellation of contract by one or all the parties
to contract. It may take place:
NOTES
With the mutual consent of the parties.
By a party whose consent was not freely obtained (voidable contract).
One party may rescind the contract, if a breach of contract by the other party.
The party rescinding the contract must restore the benefit received from the
other party.
No partial rescission. The party may rescind the entire contract. The rescission of
the contract in part is not possible. Just as a proposal has to be communicated, the
rescission should also be communicated. A rescission may be revoked in the same
manner as a proposal is revoked.
(c) Alteration: It refers to a change in one or more of the terms of a contract with
the consent of all the contracting parties. Alteration results in a new contract but
parties to it remain the same. Here the assumption is that both the parties are to gain
a fresh but different benefit from the new agreement.
Example: A agreed with B to supply 100 TV sets at a certain price by the end of
October. Subsequently, A and B mutually agree that the supply can be made by
the end of November. This is an alteration in the terms of the contract by consent of
both the parties.
(d) Remission: Remission means the acceptance (by the promisee) of a lesser
sum than what was contracted for, or a lesser fulfilment of the promise made. As
per Section 63, every promisee may
(i) Remit or dispense with it, wholly or in part, or
(ii) Extend the time of performance, or
(iii) Accept any other satisfaction instead of performance.
Example: A owes B Rs 5,000. A pays Rs 2,000 to B and B accepts the amount in
satisfaction of the whole debt. The whole debt is discharged.
(e) Waiver:The term waiver implies abandonment (i.e. giving up) or relinquishment
of a right. Where a party deliberately abandons its rights under the contract, the
other party is released of its obligations, otherwise binding upon it.
Example: A promises to supply goods to Y. Later on, Y exempts A from carrying
out the promise. It amount as waiver of right of performance on part of Y.
(f) Merger: The conversion of the inferior right into superior right is called as
merger. It is also called as vesting of rights and liabilities in the same person.
Example: A person holds property under lease, purchases the property. On purchase,
his lease agreement is discharged.

6.12.3 Discharge by impossibility of performance


Sometimes after a contract has been established, something might occur, though not
Business Law : 66
at the fault of either party, which can render the contract impossible to perform, or
illegal, or radically different from that originally undertaken. The impossibility of Indian Contract Act, 1872:
Performance and Discharge of
performance may be of two types, namely (a) the initial impossibility and (b) the Contract
subsequent impossibility
(a) Initial impossibility or Pre-contractual impossibility NOTES
It means impossibility exists at the time of making a contract. The initial impossibility
may be (i) Known or (ii) unknown to the parties at the time of making the agreement.
(i) Known impossibility
It means one or both the parties have a knowledge that a promise is impossible to
perform even though they enter into an agreement.
Example: A agrees with B to bring a dead man to life. It is known to the parties at
the time of making the agreement that the performance is impossible. The agreement
is void ab initio.
(ii) Unknown impossibility
It means both the parties genuinely believe that the performance of a promise is
possible but it is impossible to perform. It can also be said here that there is a
bilateral mistake of parties.
Example: A agrees to sell certain goods to B, supposed to be on their way from
Mumbai to Kolkata in a certain ship. Unknown to both the parties, the ship had
already sunk in the deep sea, and the goods ceased to exist at the time of contract.
The contract becomes void when the impossibility of performance is discovered.
(b) Supervening impossibility or Post-contractual impossibility
The contract becomes void on account of the subsequent impossibility only if the
following conditions are satisfied.
1. The act should have become impossible after the formation of the contract.
2. The impossibility should have been caused by a reason of some event which was
beyond the control of the promisor.
3. The impossibility must not be the result of some act or negligence of the promisor
himself.
Example: A and B contract to marry each other. Before the time fixed for the
marriage, A becomes mad. The contract becomes void.

6.12.4 Discharge of a contract by lapse of time


Every contract and promise under the contract should be performed within a time
limit. The contract is discharged, if it is not performed or enforced within a specified
period called as the period of limitation.
Example: The period of limitation for recovering the debt is 3 years and 12 years
for the recovery of immovable property.

6.12.5 Discharge of a contract by operation of law


In the following circumstances, the contract is discharged by the operation of law.

Business Law : 67
Indian Contract Act, 1872: (a) Unauthorized material alteration of a written document
Performance and Discharge of
Contract A party can treat a contract discharged (i.e., from his side) if the other party alters
a term (such as quantity or price) of the contract without seeking the consent of the
NOTES former.
Example: One of the parties without the consent of the other party changes the
date of payments or the place of delivery.
(b) Death
The contract that requires personal skill is discharged on the death of the promisors.
However, any benefit received before the performance shall be returned by the
legal representative of the deceased party.
(c) Merger
The conversion of the inferior right into superior right is called as merger. It is also
called as vesting of rights and liabilities in the same person.
(d) Insolvency
The insolvent is discharged from all the liabilities on all the contracts, entered into, up
to the date of insolvency.

6.12.6 Discharge by breach of contract


Breach occurs where one party to a contract fails to perform its contractual obligations,
or the performance is defective. A breach of contract does not per se bring a contract
to an end. The breach may give to the aggrieved party the right to terminate the
contract but it is for the non-breaching side to decide whether or not to exercise that
option. The aggrieved party has a right of election; that is to say, it can choose either
to affirm the contract or to terminate it. However, once that decision has been
taken, it is, in principle, irrevocable. A Breach may be anticipatory or actual.
(a) Anticipatory Breach
It is also known as breach by repudiation, anticipatory breach occurs when one
party states, before the arrival of the date fixed for performance, without justification
that it cannot or will not carry out the material part of the contractual obligations on
the agreed date or that it intends to perform in a way that is inconsistent with the
terms of the contract. This may also occur where one party by some action makes
performance impossible. For instance, A, after agreeing to sell his car to B on a
fixed date, sells it to C. This is anticipatory breach.

Effect of anticipatory breach


Where there is an anticipatory breach, the non-breaching party may either
rescind the contract, or
treat the contract in force and wait for the time of performance. In first case, it
can immediately sue for damages, i.e., it is not required to wait for the time for
performance to expire.
Example: [D agreed to employ P] as a courier for three months commencing on
June 1. Before the said date D told P that his services would not be required. This
Business Law : 68
was to be an anticipatory breach of contract and it entitled P to sue D for damages Indian Contract Act, 1872:
Performance and Discharge of
immediately. If the non-breaching party elects to treat the contract operative, it Contract
waits until the time of performance and then holds the other party liable for the non-
performance. Thus, by doing so the non-breaching party is giving an opportunity to
NOTES
the breaching party to still perform, if it can, in order to get a valid discharge.
(b) Actual Breach Check your progress
Explain the appropriation of
Actual breach refers to the failure to perform contractual obligations when payments.
performance is due. Failure to perform obligations is the most common form of
What do you mean by
breach, wherein a seller fails to deliver the goods by the appointed time, or where, assignment of contract?
although delivered, the goods are not up to the mark in respect of quality or quantity . Discuss the different
specified in the contract. modes of discharge of
contract.
Effect of actual breach
Breach is described as a method of discharge although it may not automatically
discharge the contract. Breach of contract leads to two main remedies, namely
breach of condition, and breach of warranty.
(i) Breach of a condition: This is a major term, known as material breach, which
entitles the injured party to damages, and gives it an option to treat the contract as
subsisting or discharged.
(ii) Breach of a warranty: This is a minor term, known as non-material breach,
which entitles the non-breaching party to damages. It does not have the right to
repudiate the contract, although a non-material breach can give it the right to defer
performance until the breach is made good. However, once the breach is remedied,
the non-breaching party must go ahead and render its performance, minus any
damages caused by the breach.
Thus, it is clear from the above that not every breach entitles the injured party to
treat the contract as discharged. It must be shown that the breach has affected a
vital part of the contract, and that it is a breach of condition rather than breach of
warranty.

6.13 Key Terms


Tender: A tender is an offer to do or perform an act which the party offering, is
bound to perform to the party to whom the offer is made. A tender may be of
money or of specific articles; these will be separately considered.
Performance of contract: Performance of contract means fulfilment of the
obligations by the parties. According to Sec. 37 the parties to a contract must
either perform or offer to perform, their respective promises unless
such performance is dispensed with or excused under the provisions
of contract Act, or of any other law
Reciprocal promise: According Sec 2(f) Promises which form the consideration
or a part of the consideration for each other are called reciprocal promises.
Appropriation of payment: When there are several debts outstanding from
one person to another and certain payment is made by the debtor, and
Business Law : 69
Indian Contract Act, 1872:
such payment is insufficient to satisfy the whole debt, the order in which the
Performance and Discharge of
Contract debts are satisfied is known as appropriation of payment.
Discharge of a contract: Discharge of contract means the termination of a
NOTES contractual relationship between parties. A contract is said to be discharged when
it ceases to operate, i.e. when the rights & obligation created by it come to an
end.

6.14 Summary
Performance of contract means fulfilling of their respective legal obligations
created under the contract by both the promisor and the promise.
An attempt to perform a promise by a promisor is regarded as a valid tender,
when it fulfils all of the following conditions. Such as, must be unconditional,
must be made at a proper time and place, must be for the entire obligation, must
be in legal tender money, must be given reasonable opportunity to inspect the
goods and must be made to the promise or his authorised agent.
There are two types of tenders (a) tender of goods and services and (b) tender
of money. When a promisor offers to deliver the goods or service to the promisee
and the promisee refuses to take the delivery, it is said to be tender of goods or
services. When the promisor offers to pay the amount and the promisee refuses
to accept the same it is called valid tender of money.
There may be contracts have joint promisors and joint promisees. When two or
more persons enter into a joint agreement with one or more persons, in such a
case, the promise is known as a joint promise.
When the Contract specifies or mentions that a promisor is to perform his promise
without an application by the promisee and no time for performance is specified,
then the obligation must be performed within a reasonable time.
According Sec 2(f) Promises which form the consideration or a part of the
consideration for each other are called reciprocal promises. In other words, it is
a promise in exchange for a promise. In case of reciprocal promises, each party
to the contract is a promisor as well as a promise.
Appropriation of payment means an adjustment and application of the money to
a given transaction. When there are several debts outstanding from one person
to another and certain payment is made by the debtor, and such payment is
insufficient to satisfy the whole debt, the order in which the debts are satisfied is
known as appropriation of payment.
The term assignment means transfer. Assignment of contracts would mean
the transfer of rights and liabilities under a contract by a party to another person.
Thus, in the case of an assignment, the original party or parties to the contract
drop out and the others take his / their place.Assignment takes place either, by
the act of parties or by operation of Law.
Discharge of a contract suggests termination of contractual obligations. This is
because when the parties originally entered into the contract, the rights and
duties in terms of contractual obligations were set up. Consequently when those
Business Law : 70 rights and duties are put out then the contract is said to have been discharged.
Indian Contract Act, 1872:
6.15 Questions and Exercise Performance and Discharge of
Contract
1 Write a short note on the performance of the contract.
2 What are the requisites of the valid tender of performance?
NOTES
3 Is there any difference between the tender of services and tender of money?
4 Who can perform the promise under a contract?
5 Who can demand the performance of promise?
6 Explain rules with regard to demand of promise by the joint promisors.
7 State the provisions relating to the performance of reciprocal promises.
8 Discuss the various methods of termination of contract.
9 How is the contract discharged on the performance of a promise?
10 Explain the meaning of the term remission. Write the short note on the novation
of contract.
11 Write a short note on the anticipatory breach of contract.
Practical Problems
1. A promises to paint a picture for B. A dies before painting the picture. Can B
ask legal representative of A to paint picture as per the contract? What is the
current legal position here?
2. A owes Rs. 80,000 to B. Before clearing his liability, A dies leaving behind an
estate worth Rs. 40,000. In this case, As legal representatives are liable for
what amount? Explain the rule in this regard.
3. A hires Bs ship to take in and convey from Calcutta to Mauritius, a cargo to be
provided by A, B received a certain freight for its conveyance. A does not
provide any cargo for the ship. Advise on parties right to claim damages.
4. A bill of exchange which was accepted by B, reaches Bs hands after being
negotiated and endorsed through several other parties. Is it a valid contract? Is
B required to make payment on bill?
5. A contracts with B to deliver goods to B on 10 July. A fails to deliver goods on
10 July. Is it anticipatory breach of contract? Why?

6.16 Further Readings and References


Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.

Business Law : 71
Indian Contract Act, 1872:
Performance and Discharge of
Contract

NOTES

Business Law : 72
Indian Contract Act, 1872:
Unit 7: Indian Contract Act, 1872: Remedies for Remedies for Breach of Contract
Breach of Contract and Quasi- Contract and Quasi-Contract

Structure
NOTES
7.0 Introduction
7.1 Unit Objectives
7.2 Rescission of a Contract
7.3 Suit for Damages
7.4 Suit upon Quantum Meruit
7.5 Suit for a Specific Performance
7.6 Suit for an Injunction
7.7 Quasi-Contract
7.8 Key Terms
7.9 Summary
7.10 Questions and Exercise
7.11 Further Readings and References

7.0 Introduction
A contract is an agreement or promise made between two or more parties that the
courts will enforce. In some cases, the agreements and promises made in a con-
tract are not kept by a party or more parties. Therefore, this situation called breach
of contract which means failure to keep the promises or agreements of a contract.
Breach of contract is a legal cause of action in which a binding agreement is not
honoured by one or another more of the parties. When one party to contract breaches
the control, the other party who is not at fault has certain remedy available to him.
But all the remedies are not available at the proper time. The aggrieved party has
one or more remedies available, depending upon the facts and circumstances of
each such case. These remedies are as follows:

7.1 Unit Objectives


After completing this unit, students will be able to:
Understand various remedies for breach of contract
Know the suit for damages
Discuss the quantum meruit
Get familiar with quasi-contract

Business Law : 73
Indian Contract Act, 1872:
Remedies for Breach of Contract
7.2 Rescission of a Contract
and Quasi-Contract
The rescission of a contract means the right to the party to cancel the contract. In
case of breach of contract, the other party may rescind the contract.
NOTES
Example: A promises B to supply 100 bags of rice on a certain date and B promises
to pay the price on receipt of the goods. A does not deliver the goods on the ap-
pointed day, B need not pay the price.
Party rightfully rescinding contract entitled to compensation (Section 75): A
person who rightfully rescinds the contract is entitled to compensation for any dam-
age which he has sustained through the non-fulfilment of the contract.
Example: A, a singer, contracts with B, the manager of a theatre, to sing at his
theatre for two nights in every week during the next two months, and B engages to
pay her Rs. 100 for each nights performance. On the sixth night, A wilfully absents
herself from the theatre, and B inconsequence, rescinds the contract. B is entitled to
claim compensation for the damage which he has sustained through the non-fulfilment
of the contract.

7.3 Suit for Damages


Damages are the monetary compensation allowed for a loss. The purpose of dam-
ages is to compensate the aggrieved party and not to punish the party at fault. By
awarding damages the court aims to put the injured party into the position in which
he would have been, had there been performance and not breach and not to punish
the defaulter party. While determining the damages, the court takes following points
into accounts:
Inconvenience caused by the non-performance
Motive of breach
Manner of breach
7.3.1 Kinds of Damages
Following are the different kinds of damages:
1. Ordinary damages (Sec. 73)
Ordinary damages are those which naturally arose in the usual course of things and
directly as a result of the breach of contract. The measure of ordinary damages is
the difference between the contract price and the market price at the date of the
breach. If the seller retains the goods after the breach, he cannot recover from the
buyer any further loss if the market falls, nor be liable to have the damages reduced
if the market rises. It is also known as general damages.
Example:
(1) A contracts to deliver 100 bags of rice at Rs. 100 a bag on a future date. On the
due date he refuses to deliver. The price on that day is Rs. 110 per bag. The mea-
sure of damages is the difference between the market price on the date of the
breach and the contract price, viz., Rs. 1,000.
Business Law : 74
(2) A contracts to buy Bs ship for Rs. 60,000 but breaks his promise. A must pay to Indian Contract Act, 1872:
Remedies for Breach of Contract
B, by way of compensation, the excess, if any, of the contract price over the price and Quasi-Contract
which B can obtain for the ship at the time of the breach of promise.
2. Special damages NOTES
Special damages are those damages that are payable for the loss arising on account
of some special or unusual circumstances. That is, they are not due to the natural
and probable consequences of the breach of the contract. Indirect loss experienced
by the affected party out of breach of contract is treated as special damage. Special
damages can be recovered only when the other party, while signing the contract, is
informed of the special circumstances which are responsible for the special losses.
Subsequent knowledge of special circumstances will not create any special liability.
Example:
(1) A, a builder, contracts to erect and finish a house by the first of January, in order
that B may give possession of it at that time to C, to whom B has contracted to
let it. A is informed of the contract between B and C. A builds the house so
badly that, before the first of January, it falls down and has to be rebuilt by B,
who, in consequence, loses the rent which he was to have received from C, and
is obliged to make compensation to C for the breach of his contract. A must
make compensation to B for the cost of rebuilding the house, for the rent lost,
and for the compensation made to C.
(2) A delivers to B, a common carrier, a machine to be conveyed, without delay, to
As mill, informing B that his mill is stopped for want of the machine. B unrea-
sonably delays the delivery of the machine, and A in consequence, loses a prof-
itable contract with the Government. A is entitled to receive from B, by way of
compensation, the average amount of profit which would have been made by
the working of the mill during the time that delivery of it was delayed. But,
however, the loss sustained through the loss of the Government contract cannot
he claimed.
3. Exemplary or Vindictive damages
These damages are awarded against the party who has committed a breach of the
contract with the object of punishing the erring as defaulting party and to compen-
sate the aggrieved party. Generally, these damages are awarded in case of action on
lost or breach of promise. E.g., breach of contract to marry, dishonor of cheque by
the bank without any proper reason.
Such damages are awarded due to its difficulty in measuring the amount of
the mental suffering or the extent of the injury to the feelings of the aggrieved party.
The main aim of awarding such damages is to deter a person from committing a
breach of such contract.
4. Nominal damages
Nominal damages are awarded to the aggrieved party when there is only technical
violation of the legal rights. Here no substantial loss is caused. These damages are
very small in amount. They are awarded simply to recognize the right of the party to
claim damages for the breach of the contract.
Business Law : 75
Indian Contract Act, 1872: Example:A contracted to purchase a Scooter from B, a dealer. But he failed to
Remedies for Breach of Contract purchase the scooter. However, the demand for the scooters far exceeded the sup-
and Quasi-Contract
ply, and B could sell the scooter agreed to be purchased without loss of profit. B is
entitled only to nominal damages.
NOTES
5. Damages for inconvenience
If the party has suffered physical inconvenience, discomfort or mental agony as a
result of the breach of contract, the party can recover the damages for such incon-
venience.
Example: A photographer agreed to take photographs at a wedding ceremony but
failed to do so. The bride brought an action for the breach of contract. Held, she
was entitled to the damages for her injured feelings.
6. Liquidated damages and penalty
Sometimes parties themselves at the time of entering into a contract agree that a
particular sum will be payable by a party in case of breach of the contract by him.
Such a sum may either be by way of liquidated damages, or it may be by way of
penalty.
Liquidated Damages:The essence of liquidated damages is a genuine covenanted
pre-estimate of damages. Thus, the stipulated sum payable in case of breach is
to be regarded as liquidated damages, if it is found that parties to the contract
conscientiously tried to make a pre-estimate of the loss which might happen to
them in case the contract was broken by any of them.
Penalty: The essence of a penalty is a payment of money stipulated as in terorem
of the offending party. In other words, if it is found that the parties made no
attempt to estimate the loss that might happen to them on breach of the contract
but still stipulated a sum to be paid in case of a breach of it with the object of
coercing the offending party to perform the contract, it is a case of penalty.
Thus, a term in a contract amounts to a penalty where a sum of money, which is
out of all proportion to the loss, is stipulated as payable in case of its breach.
Example:
(1) A contracts with B to pay B Rs. 1,000, if he fails to pay B Rs. 500 on a given
day. A fails to pay B, Rs. 500 on that day. B is entitled to recover from A such
compensation, not exceeding Rs. 1,000, as the Court considers reasonable.
(2) A contracts with B that if A practices as a surgeon within Calcutta, he will pay
B Rs. 5,000. A practices as a surgeon in Calcutta. B is entitled to such com-
pensation, not exceeding Rs. 5,000 as the Court considers reasonable.
7. Payment of interest
It is permissible when the contract provides that the payment of money is to be
made on particular date and the failure by a party will attract the payment of a
specified percentage of interest. If the interest is in the nature of the penalty, the
court may grant relief. If no rate of interest is specified in the contract, the party
shall be liable to pay the law in force or as per the custom or usage of trade.
8. Cost of suit or decree
Business Law : 76
The court has also the discretion to award the cost of suit for damages, in addition to
Indian Contract Act, 1872:
the damages for the breach of contract. This damage or remedy is available to the Remedies for Breach of Contract
party who has won the case. and Quasi-Contract

7.4 Suit upon Quantum Meruit NOTES


Check your progress
The phrase Quantum Meruit means as much as is merited (earned). The normal
What do you mean
rule of law is that unless a party has performed his promise in its entirely, it cannot rescission of a contract?
claim performance from the other. To this rule, however, there are certain excep- Explain the different types
tions on the basis of Quantum Meruit. A right to sue on a quantum meruit arises of damages.
where a contract, partly performed by one party, has become discharged by the Differentiate between ordi-
nary damages and special
breach of the other party. damages
7.4.1 Claim on Quantum Meruit by a Party not a fault
Following are the cases in which a claim on quantum meruit may arise:
When one party prevents the other from a completion of the contract.
Where the contract has become void before the completion of the contract.
Where an agreement is discovered to be void.
7.4.2 Claim on Quantum meruit by a party at fault
Following are the cases in which a claim on quantum meruit may arise, even by the
party at fault:
If a divisible contract is partly performed and refuses to perform a part of work, in
such a case, the party in default may sue on quantum meruit, if the other party has
enjoyed the benefits of the part of performance.
Example: A agreed with B to supply 500 units of TV before a particular date. A
supplied 400 units only, before the date, and declared his intention not to deliver the
remaining units. B retained the 400 units. A, therefore, is entitled to recover the
price of 400 units on quantum meruit.

7.5 Suit for a Specific Performance


Where damages are not an adequate remedy, the court may direct the party in
breach to carry out his promise according to the terms of the contract. This is called
specific performance of the contract. Some of the instances where Court may
direct specific performance are: a contract for the sale of a particular house or
some rate article or any other thing for which monetary compensation is not enough
because the injured party will not be able to get an exact substitute in the market.
Specific performance will not be granted where:
(a) Monetary compensation is an adequate relief.
(b) The contract is of a personal nature, e.g., a contract to marry.
(c) Where it is not possible for the Court to supervise the performance of the
contract, e.g., a building contract.
(d) The contract is made by a company beyond its objects as laid down in its
Memorandum of Association. Business Law : 77
Indian Contract Act, 1872: Example: A agrees to sell B, an artist painting for Rs 30,000. Later on, he refused to
Remedies for Breach of Contract
and Quasi-Contract
sell it. Here, B can file a suit against A for the specific performance of the contract.

NOTES 7.6 Suit for Injunction


Injunction means an order of the Court. Where a party is in breach of a negative
term of contract (i.e. where he does something which he promised not to do), the
Court may, by issuing an order, prohibit him from doing so. Where there is a breach
of contract by one party and the order of a specific performance is not granted by
the court, the injunction may be granted. The injunction is granted by the granted by
the courts at their discretion.
Example: Film actress agreed to act exclusively for W for one year and for no one
else. During the year, she contracted to act for Z.

7.6 Quasi - Contract - Sections 68-72


Quasi Contracts are so-called because the obligations associated with such trans-
actions could neither be referred as tortious nor contractual, but are still recognised
as enforceable, like contracts, in Courts. According to Dr. Jenks, Quasi-contract is
a situation in which law imposes upon one person, on grounds of natural justice, an
obligation similar to that which arises from a true contract, although no contract,
express or implied, has in fact been entered into by them.The principle underlying
a quasi-contract is that no one shall be allowed unjustly to enrich himself at the
expense of another, and the claim based on a quasi-contract is generally for money.
7.6.1 Cases of Quasi-contract
Sections 68 to 72 of the Contract Act describe the cases which are to be deemed
Quasi-contracts.
1. Claim for necessaries supplied to a person incapable of Contracting or
on his account: If a person, incapable of entering into a contract, or any one
whom he is legally bound to support is supplied by another person with neces-
saries suited to his condition in life, the person who furnished such supplies is
entitled to be reimbursed from the property of such incapable person (Sec. 68).
Example:
(1) A supplies B, a lunatic, with necessaries suitable to his condition in life. A is
entitled to be reimbursed from Bs property.
(2) A, who supplies the wife and children of B, a lunatic, with necessaries
suitable to their conditions in life, is entitled to be reimbursed from Bs property.
2. Reimbursement of person paying money due by another in payment of
which he is interested: A person who is interested in the payment of money
which another is bound by law to pay, and who, therefore, pays it, is entitled to
be reimbursed by the other. (Section 69).
Example: B holds land in Bengal, on a lease granted by A, the Zamindar. The
revenue payable byA to the Government being in arrear, his land is advertised
Business Law : 78
for sale by the Government. Under the Revenue Law, the consequence of
such sale will be the annulment of Bs lease. B, to prevent the sale and the Indian Contract Act, 1872:
Remedies for Breach of Contract
consequent annulment of his own lease, pays the government, the sum due and Quasi-Contract
from A. A is bound to make good to B the amount so paid.
3. Obligation of a person enjoying benefits of non-gratuitous act: Where a NOTES
person lawfully does anything for another person, or delivers anything to him,
not intending to do so gratuitously, and such other person enjoys the benefit Check your progress
thereof, the latter is bound to make compensation to the former in respect of, or When a specific
to restore the thing so done or delivered [Section 70]. performance is not
allowed?
Example: A pizza boy delivers a pizza at your door step by mistake instead of . What do you understand
your neighbour who ordered it. You eat it having knowledge that it was ordered by Quasi- contract?
by your neighbour. You are required to pay for the same. You enjoyed some-
thing which was a non-gratuitous act.
4. Responsibility of Finder of Goods: Ordinarily speaking, a person is not
bound to take care of goods belonging to another, left on a road or other public
place by accident or inadvertence, but if he takes them into his custody, an
agreement is implied by law. Although, there is in fact no agreement between
the owner and the finder of the. goods, the finder is for certain purposes, deemed
in law to be a bailee and must take as much care of the goods as a man of
ordinary prudence would take of similar goods of his own. This obligation is
imposed on the basis of a quasi-contract. Section 71, which deals with this
subject, says: A person who finds goods belonging to another and takes them
into his custody, is subject to the same responsibility as a bailee.
5. Liability of person to whom money is paid, or thing delivered by mistake
or under coercion (Section 72): A person to whom money has been paid, or
anything delivered by mistake or under coercion, must repay or return it.
Example: A and B jointly owe Rs 100 to C. A pays the amount to C, and B, not
knowing this fact, also pays Rs 100 to C. C is bound to repay Rs 100 to B.

7.7 Key Terms


Rescission: In contract law, rescission has been defined as the unmaking of
a contract between parties. Rescission is the unwinding of a transaction.
Ordinary damages: Damages that arise in the ordinary course of events from
the breach of contract are called ordinary damages.
Special damages: Special damages awards cover losses besides the contrac-
tual losses; this may include a broad range of losses such as loss of profits or
damage to business reputation.
Quantum meruit: Quantum meruit is a Latin phrase meaning what one has
earned. In the context of contract law, it means something along the lines of
reasonable value of services.
Quasi-contract: An obligation of one party to another imposed by law inde-
pendently of an agreement between the parties.
Injunction: An injunction is a remedy that prohibits a party from a particular
act. An injunction can be temporary, preliminary or permanent. Business Law : 79
Indian Contract Act, 1872:
Remedies for Breach of Contract 7.8 Summary
and Quasi-Contract
The rescission of a contract means the right to the party to cancel the contract.
In case of breach of contract, the other party may rescind the contract.
NOTES
A person who rightfully rescinds the contract is entitled to compensation for any
damage which he has sustained through the non-fulfilment of the contract.
Ordinary damages are those which naturally arose in the usual course of things
and directly as a result of the breach of contract. The measure of ordinary
damages is the difference between the contract price and the market price at
the date of the breach.
Special damages are those damages that are payable for the loss arising on
account of some special or unusual circumstances. That is, they are not due to
the natural and probable consequences of the breach of the contract.
These damages are awarded against the party who has committed a breach of
the contract with the object of punishing the erring as defaulting party and to
compensate the aggrieved party.
Nominal damages are awarded to the aggrieved party when there is only tech-
nical violation of the legal rights. Here no substantial loss is caused. These
damages are very small in amount.
If the party has suffered physical inconvenience, discomfort or mental agony as
a result of the breach of contract, the party can recover the damages for such
inconvenience.
The phrase Quantum Meruit means as much as is merited (earned). The
normal rule of law is that unless a party has performed his promise in its entirely,
it cannot claim performance from the other.
Where damages are not an adequate remedy, the court may direct the party in
breach to carry out his promise according to the terms of the contract. This is
called specific performance of the contract.
Injunction means an order of the Court. Where a party is in breach of a negative
term of contract (i.e. where he does something which he promised not to do),
the Court may, by issuing an order, prohibit him from doing so.
Quasi Contracts are so-called because the obligations associated with such
transactions could neither be referred as tortious nor contractual, but are still
recognised as enforceable, like contracts, in Courts

7.9 Questions and Exercise


1 What are the remedies available to an aggrieved party on the breach of con-
tract?
2 What kind of damage may be awarded in case of the breach of contract under
the law of contract?
3 Explain special damages with suitable example.
Business Law : 80
4 What do you understand by vindictive damage? Explain. Indian Contract Act, 1872:
Remedies for Breach of Contract
5 When can a specific performance not be granted by the court? and Quasi-Contract

6 When can the party to contract claim on quantum meruit? Explain.


7 Write a note on quasi-contracts. NOTES

Practical Problems
1. A contracts to deliver 1000 bags of rice at Rs 150 per bag on a future date. On
the due date he refuses to deliver. Market price on that day is Rs 180 per bag.
What amount of damage can be recovered from A?
2. A, a singer, agreed with B to perform at his theatre for two months, on a
condition that during that period, he would not perform anywhere else. When A
performs somewhere else, what remedy would have available to him?
3. P supplies, the wife and children of Q, a lunatic with necessaries suitable to
their condition in life. Is A entitled to reimburse the expenses? Is so, from
whom?

7.10 Further Readings and References


Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Manage-
ment, Vikas Publishing House Pvt. Limited.

Business Law : 81
Indian Contract Act, 1872:
Remedies for Breach of Contract
and Quasi-Contract

NOTES

Business Law : 82
Indian Contract Act, 1872:
Unit 8: Indian Contract Act, 1872: Indemnity Indemnity and Gurantee
and Guarantee
Structure
NOTES
8.0 Introduction
8.1 Unit Objectives
8.2 Indemnity Contract
8.3 Essential Elements of an Indemnity Contract
8.4 Rights of an Indemnity Holder
8.5 Guarantee
8.6 Essential Elements of Contract of Guarantee
8.7 Kinds of Guarantee
8.8 Revocation of a Continuing Guarantee
8.9 Suretys Liability
8.10 Rights of Surety
8.11 Discharge of a Surety
8.12 Key Terms
8.13 Summary
8.14 Questions and Exercise
8.15 Further Readings and References

8.0 Introduction
Contract of Indemnity and Guarantee are the special types of contracts given under
sections 124 to 147 of the Indian Contract Act,1872.The term Indemnity literally
means Security against loss. In a contract of indemnity one party i.e. the indemnifier
promise to compensate the other party i.e. the indemnified against the loss suffered
by the other. A contract of guarantee is a contract to perform the promise, or
discharge the liability, of a third person in case of his default. The person who gives
the guarantee is called the surety;the person in respect of whose default the
guarantee is given is called the principal debtor, and the person to whom the
guarantee is given is called the creditor. A guarantee may be either oral or written.In
this unit, the law relating to indemnity and guarantee are discussed.

8.1 Unit Objectives


After completing this unit, students will be able to:
Understand the meaning of a contract of indemnity and contract of guarantee
Explain rights of an indemnity holder
know different types of guarantee
learn rights and liabilities of the surety Business Law : 83
Indian Contract Act, 1872:
Indemnity and Gurantee 8.2 Indemnity Contract
In terms of Section 124 of the Act, a contract by which one party promises to save
the other from loss caused to him by the conduct of the promisor himself or the
NOTES conduct of any person is called a contract of indemnity. This is also a known as
typical form of contingent contract.
There are two parties in this form of contract. The party who promises to
indemnify/ save the other party from loss is known as indemnifier (promisor),
whereas the party who is promised to be saved against the loss is known as
indemnified (promisee).
Example: A may contract to indemnify B against the consequences of any
proceedings which C may take against B in respect of a sum of Rs. 5000/- advanced
by C to B. In consequence, when B who is called upon to pay the sum of money to
C fails to do so, C would be able to recover the amount from A.

8.3 Essential Elements of an Indemnity Contract


All the essential elements of a valid contract must also be present in the contract of
indemnity. The contract of indemnity may be express or implied depending upon the
circumstances of the case. Following are the essential elements of the indemnity
contract:
8.3.1 Loss to one party
A person can indemnify another person, only if such other person incurs some loss
or is about to incur some loss. Therefore, a contract of indemnity can be performed
only when the loss has incurred to the promise or the loss to the promise has become
certain.
8.3.2 Indemnity by the promisor
The purpose of the contract of the indemnity is to protect the indemnity holder from
any loss that may be caused to the indemnity holder in future (i.e., such a loss has
not already been caused to the indemnity holder).
8.3.3 Reason for loss
The contract of indemnity may specify that the indemnity holder shall be protected
from the loss caused due to the action of the promisor, or the action of any other
person or any act, event or accident, which is not in the control of parties.

8.4 Rights of an Indemenity Holder


An indemnity holder (i.e. indemnified) acting within the scope of his authority is
entitled to the following rights:
8.4.1 Right to recover damages
The indemnity holder is entitled to recover all damages which he might have been
compelled to pay in any suit in respect of any matter covered by the contract.

Business Law : 84
8.4.2 Right to recover costs Indian Contract Act, 1872:
Indemnity and Gurantee
The indemnity holder is entitled to recover all costs incidental to the institution and
defending of the suit.

8.4.3 Right to recover sums paid under compromise NOTES

The indemnity holder is entitled to recover all amounts which he had paid under the
terms of the compromise of such suit. However, the compensation must not be
against the directions of the indemnifier. It must be prudent and authorized by the
indemnifier.

8.4.4 Right to sue for specific performance


The indemnity holder is entitled to sue for specific performance if he has incurred
absolute liability and the contract covers such liability. The promisee in a contract of
indemnity, acting within the scope of his authority, is entitled to recover from the
promisor-
All damages which he may be compelled to pay in any suit in respect of any
matter to which the promise to indemnify applies;
All costs which he may be compelled to pay in any such suit if, in bringing or
defending it, he did not contravene the orders of the promisor, and acted as it
would have been prudent for him to act in the absence of any contract of indemnity,
or if the promisor authorized him to bring or defend the suit;
All sums which he may have paid under the terms of any compromise of any
such suit, if the compromise was not.

8.5 Guarantee
A contract of guarantee is a contract to perform the promise made or discharge
liability incurred by a third person in case of his default (Section 126). There are
three parties in a contract of guarantee. Surety- person who gives the guarantee,
Principal debtor- person in respect of whose default the guarantee is given, Creditor-
person to whom the guarantee is given.
Any guarantee given may be oral or written. The contract of guarantee
may be express, or implied, and may even be inferred from the course of conduct of
the parties concerned.
Example:
(1) Where A obtains housing loan from LIC Housing and if B promises to pay
LIC Housing in the event of A failing to repay, it is a contract of guarantee.
(2) X and Y go into a car showroom where X says to the dealer to supply latest
model of Wagner to Y. In case of his failure to pay, he will be paying for it. This
is a contract of guarantee because X promises to discharge the liability of Y in
case of his defaults.
(3) Sagar requests Chetan to lend Rs 500 to Paresh and guarantees that if Paresh
fails to pay the amount, he will pay. This is a contract of guarantee. Sagar, in this
case, is the surety, Chetan, the creditor and Paresh, the principal debtor. Business Law : 85
Indian Contract Act, 1872:
Indemnity and Gurantee 8.6 Essential Elements of Contract of Guarantee
A contract of guarantee can be performed only when certain essential elements of
the contract are fulfilled. The following are the essential requirements of a contract
NOTES
of guarantee.

Check your progress 8.6.1 Valid contract


What do you mean by A contract of guarantee must have all the essentials of a valid contract like competence
indemnity contract?
of parties, free consent and consideration to make the contract valid. But there are
Explain the essential
elements of an indemnity certain exceptions:
contract. The principal debtor may not be competent to contract. If he is not competent
What do you understand
by guarantee? the surety will become the principal debtor and will be liable personally to make
the payment.
A surety that makes a promise for the benefit of the principal debtor need not be
given consideration. Any promise that a surety makes is sufficient consideration
for giving a guarantee.

8.6.2 Tripartite agreement


In a contract of guarantee there is the involvement of three contracts.
Contract 1: It is a contract between the principal debtor and the creditor on the
basis of which a guarantee for the debt arises.
Contract 2: It is an agreement between the principal debtor and the surety in
which the principal debtor accepts the responsibility to indemnify the surety if
the payment is required to be made by the surety.
Contract 3: It is a contract between the creditor and the surety in which the
surety promises to undertake the payment of the debt of the principal debtor in
case the principal debtor defaults on his payments.

8.6.3 Consent
Since the contract of guarantee involves the creditor, principal debtor and the surety,
it is necessary that all the three parties agree to the contract.

8.6.4 There should be no misrepresentation of facts


A guarantee should be obtained after disclosing all the material facts that may affect
the degree of responsibility of the surety. The surety must know all the facts of the
case because if he neglects to do his duty he is responsible for the consequences.
Any guarantee that is obtained by misrepresentation or concealment of facts by the
creditor becomes an invalid contract of guarantee.

8.6.5 Contract may be oral or in writing


A contract of guarantee may be either oral or written as given in section 126 of the
Act. The position as per English Law is different from that the Indian Law. Under
English Law the contract must be in writing but Indian Law does not specify this.
Hence in India both oral and written contracts are acceptable.

Business Law : 86
8.6.6 There should be a principal debt Indian Contract Act, 1872:
Indemnity and Gurantee
There has to be a primary liability of a person who is other than the surety to the
contract of guarantee. The surety becomes liable only if the principal debtor is
unable to discharge his obligation. If there is no principal debtor, there cannot be a
NOTES
contract of guarantee. In situations where there is a promise by one of the parties
for compensating another without involving a third party, the contract becomes a
contract of indemnity.

8.7 Kinds of Guarantee


Following are the different types of the guarantee:
8.7.1 Retrospective guarantee
When the guarantee is given for an existing obligation or debt, it is called retrospective
guarantee.
8.7.2 Prospective guarantee
When the guarantee is given for a future obligation or debt it is called prospective guarantee.
8.7.3 Specific guarantee
This type of guarantee is for a single transaction. It is extended only to a single debt.
It is also called as simple guarantee.
Example: Purva guarantees the payment for 5 computers to Ali. The computers
are to be delivered to Khan in March. Ali delivers the computers to Khan and
payment is made to him. Purvas contract of guarantee ends on the payment. He is
not liable for any further contracts because it is a specific contract pertaining to only
five computers. If Khan paid for the computers then Purva would have been liable
to make the payment to Ali.
8.7.4 Continuing guarantee
This type of guarantee extends to more number of transactions. It continues until
the guarantee is revoked.
Example: Raju was employed as a driver by Mr. Tiwari on the recommendation of
Shiv for collection of credit payments from Delhi. Shiv guaranteed Rajus honesty
and promised to pay in case of any default in payments collected by him (Raju). This
is a contract of continuing guarantee.

8.8 Revocation of a Continuing Guarantee


A continuing guarantee may be revoked as regards future transactions under the
following circumstances:
8.8.1 By notice- Section 130
The surety may cancel the continuing guarantee for further transaction at any time.
8.8.2 By death of surety- Section 131
A continuing guarantee is cancelled on the death of the surety. In such case, no
notice is required to be given to the creditor. However, the contract may provide Business Law : 87
Indian Contract Act, 1872: contrary to the above rule. On the death of the surety, the guarantee is cancelled but for
Indemnity and Gurantee the future transaction. For the past transaction which has already taken place, the
suretys estate will be liable.

NOTES 8.8.3 On discharge of surety


A continuing guarantee is revoked when the surety is discharged from the liability.
Check your progress
Discuss the essentials of 8.9 Suretys liability - Section 128
a contract of guarantee.
Differentiate between The surety has several liabilities since he has guaranteed the debt. These are as follows:
retrospective and
prospective guarantee.
8.9.1 Co-extensive
What is a continuing The nature and extent of a suretys liability is co-extensive with that of the principal
guarantee? debtor according to section 128 of the Indian Contract Act. This means that the surety
has the same liability as the principal debtor. If the principal debtor does not pay on
time, the surety will be required to pay to the creditor.
Example: Sumit has taken a loan of Rs 1,00,000 from Shamit and Sanjeev has guaranteed
it. If Sumit fails to pay the amount to Shamit on the due date, Sanjeev will have to pay
the amount to the creditor. If an interest rate has been fixed, Sanjeev is also liable to
pay the amount of interest.
8.9.2 Reduction in liability
When the principal debtors liability is reduced, the liability of the surety will also be
reduced.
8.9.3 Secondary liability
A suretys liability is secondary and comes into force only when the principal debtor
defaults in his payment. If the surety himself becomes insolvent before the principal
debtor defaults on his payment he will not be liable to pay any amount guaranteed by
him.
8.9.4 Liability restricted to valid contract
If a contract of guarantee is valid the surety will be liable. If the creditor makes a
contract with representation or fraud, then the surety has the right to treat it as a
voidable contract at his option.
8.9.5 Liability when the original contract between creditor and
principal debtor is void or voidable
The surety and the creditor have a contract that is independent from the principal
debtor. Sometimes the original contract between the creditor and the principal debtor is
not valid, but the surety is still liable for the principal debtor. In the event of the principal
debtor being a minor, the surety does not get absolved of his liability. The surety is liable
like a principal debtor.
When the contract between the creditor and the principal debtor is voidable the
surety can still be liable. Moreover the liability of the surety continues to exist in the
event of the creditor not making his claim during the period of limitation of 3 years of a
debt. The surety is not discharged if the limitation period against the surety exists. But
a surety who guarantees a time barred debt is not liable because according to the
Business Law : 88 contract of guarantee he is not liable beyond the period of the guarantee contract. If the
principal debtor is discharged from his liability or dies, the surety is discharged from his Indian Contract Act, 1872:
Indemnity and Gurantee
liability.
8.9.6 Liability for default by principal debtor
The surety becomes liable immediately on default by the principal debtor. Before the NOTES
default the surety does not have to pay as his liability only begins if the principal debtor
does not pay. At the same time, the principal debtor does not have to send any notice of
default to the surety. The creditor can sue the surety for the amount immediately on
default. Procedurally, he is not required to sue the principal debtor first. He can
immediately sue the surety for the amount owed to him.

8.10 Rights of Surety


Rights of Surety can be classified into three groups, as follows; Rights against Principal
debtor,Rights against Creditor, Rights against Co-Sureties.

8.10.1 Against the principal debtor


1. Right of subrogation: A subrogation means substitution of one person for another.
Where a guaranteed debt has become due or default of the principal debtor to
perform a guaranteed duty has taken place, the surety upon payment or performance
of all that he is liable for, is vested with all the rights which the creditor had against
the principal debtor. The right of the surety is known as the right of subrogation
namely the right to stand in the shoes of the creditor.
2. Right to securities: The surety is entitled to the benefit of all securities made
available to the creditor by the principal debtor whether the surety was aware of its
existence or not.
3. Right to indemnity:When a contract of guarantee is entered into there is an implied
promise that the principal debtor will indemnify the surety for all the payments
rightfully made by him. If he has made any payments wrongfully he will not be able
to recover any amounts. This has been stated in section 145.
Example:Rahul has to pay Rs. 2,00,000 to Mahesh. Venkat is the surety for the debt.
Mahesh demands the payment from Rahul on the due date. Rahul fails to pay the
amount. Venkat who is the surety is compelled to make the payment on behalf of
Rahul. Venkat has the right to recover the amount from Rahul with all the benefits
promised to Mahesh as he has now acquired the right of a creditor.
8.10.2 Against the creditor
The rights of the sureties against the creditor are as follows:
1. Right to claim securities: According to section 141 of the Act, the surety has the
right of subrogation after performing his duty or making a payment to the creditor.
All the rights of the creditor are passed on to the surety. Accordingly the surety gets
the right to the benefit of every security, which the creditor has against the principal
debtor even if the surety he has no knowledge of the existence of such securities. If
the creditor loses the security the surety is discharged of his responsibilities limited
to the value of his security.
Example: Sohan gives Mohan Rs 10,000 on the guarantee of Prashant. Sohan has Business Law : 89
Indian Contract Act, 1872: a further security of Mohans office table which is made of teak and is of the
Indemnity and Gurantee value of Rs.4000. Sohan cancels the security. Mohan becomes insolvent and
cannot pay his dues. Sohan sues Prashant on his guarantee. Prashant is discharged
of his responsibility for the value of the office teak table.
NOTES
2. Right of set off: If the creditor sues the surety, he can claim set-off or counter
claim, which the debtor had against the creditor.
Example: Deepak took a loan from Sohan for Rs. 8,50,000. Somu guaranteed
the loan. Somu also had a claim on Sohan for Rs. 3,00,000. In case of Deepak
defaulting in repayment of the loan, Somu is liable to pay Rs. 5,50,000 to Sohan.
Somu will also claim the benefit of this set-off although he does not have any
personal claim on Sohan.
3. Right to share reduction: If the surety has paid the amount to the creditor on
behalf of the principal debtor and the debtor becomes insolvent the amount has
to be recovered from him, then the surety can claim from the creditor a reduction
in his liability to the extent of the amount of dividend that is claimed by the
creditor from the official receiver of the debtor.

8.10.3 Against Co-sureties


When there is more than one surety to guarantee a debt they are called co-sureties.
In case of default all the sureties become liable towards the contribution of the
guarantee amount. Rights of the surety against co-sureties are as follows:
1. Right to contribution: Under Section 146 of the Indian Contract Act, wherever
there are co-sureties for the same amount, they are liable to share an equal
amount of the debt which remains unpaid by the principal debtor. If a surety pays
more than his share he has the right to ask the other sureties to participate in
contributing an equal amount towards the debt.
Example: Rohit, Monty and Shiva are sureties to Kajal for Rs. 6,00,000 that is
given as a loan to Randhir. On the date of payment Randhir defaults. Rohit,
Monty and Shiva are liable between themselves to pay Rs. 2,00,000 each to
clear the date.
2. Bound in different sums: If co-sureties are bound in different sums their liability
will be shared equally, subject to the maximum amount guaranteed by each of them.
Example: Manu, Pappu and Abhi are sureties for Dhara. They enter into a
contract that Manu will pay Rs. 1,00,000, Pappu will pay Rs. 2,00,000 and Abhi
will pay to the extent of Rs. 4,00,000 if Dhara makes a default in payment of an
amount of Rs. 6,00,000 to Prakash. Manu is liable to pay Rs. 1,00,000, Pappu Rs.
2,00,000 and Abhi Rs. 3,00,000.

8.11 Discharge of Surety


A suretys liability comes to an end under any of the following circumstances.
8.11.1 Notice of revocation
Ordinarily a guarantee cannot be revoked if the liability has already been accrued.
But Section 130 provides for revocation of continuing guarantee. For example, if A
Business Law : 90 has stood surety for a Rs 5,00,000 home loan of B from a bank, and the money has
been disbursed, A cannot revoke the guarantee, as the liability has accrued. Indian Contract Act, 1872:
Indemnity and Gurantee
Accordingly, where a guarantee is a continuing one and extends to a series of
transactions, the surety as to future transactions may revoke it, by giving notice to
the creditor. However, the surety shall remain liable for the acts already acted upon,
NOTES
i.e., prior to the notice of revocation.
8.11.2 Death of surety
In case of a continuing guarantee, the death of the surety, in the absence of any
contract to the contrary, discharges him from liability as regards future transactions
(i.e., transactions after his death). In other words, the suretys survivors or legal
representatives would not be liable unless expressly mentioned in the contract.

8.11.3 Novation
Novation, i.e., entering into a fresh contract, either between the same parties or
between other parties, constitutes another mode of discharging a surety from the
liability. If the parties to a contract (of guarantee) agree to substitute it with a new
contract, the original contract need not be performed and so the surety stands
discharged with regard to the old contract. For the surety, too, a fresh contract
would have to be drafted.

8.11.4 Variance in terms of contract


Any variance or alteration in the terms of the contract made between the principal
debtor and the creditor, without the suretys consent, discharges the surety as to the
transactions taking place subsequent to the variance.
Example:
(1) A becomes surety to C for payment of rent by B under a lease. Afterwards B
and C contract to hike the rent, without informing A. A would hence, be
discharged from his liability as a surety for accruing subsequent to the variance
in terms of the contract without his consent.
(2) C contracts to lend B Rs 5,000 on March 1. A guarantees repayment. C pays
Rs 5,000 to B on January 1, A is discharged from his liability, as the contract
has been varied for early release of loan by the creditor.

8.11.5 Release or discharge of principal debtor


The surety is discharged by any contract between the creditor and the principal
debtor, by which the principal debtor is released, or by any act or omission of the
creditor, the legal consequence of which is the discharge of the principal debtor. The
following example explains the point.
Example: A contracts with B to build a house for B for a fixed price within a
stipulated time, B supplying the necessary timber. C guarantees As performance of
the contract. B fails to supply the timber. C is thus discharged from his surety.

8.11.6 Arrangement between principal debtor and creditor


Where the creditor, without the consent of the surety arrives at a settlement with the
principal debtor, or promises to give him more time, or promises not to sue him by a
contract between the creditor and the principal debtor, the surety is absolved from Business Law : 91
Indian Contract Act, 1872: the liability, unless the surety assents to such contract.Where, however, a contract
Indemnity and Gurantee
to give time to the principal debtor is made by the creditor with a third person, and
not with the principal debtor, the surety is not discharged. For instance, C, the holder
of an overdue bill of exchange drawn by A as surety for B, and accepted by B,
NOTES
contracts with M to give time to B. A is not discharged.

8.11.7 Impairing suretys remedy


Check your progress If the creditor commits any act, which is inconsistent with the rights of the surety, or
What is the suretys fails to perform any act that his duty to the surety requires him to do, such that the
liability?
eventual remedy of the surety himself against the principal debtor is impaired; the
Discuss the rights of the surety is discharged.
surety against principal
debtor. Example:
What is the novation under (1) B contracts to build a ship for C for a given sum, to be paid in installments as
discharge of surety?
the work reaches certain stages. A becomes surety to C for Bs due performance
of the contract. C, without the knowledge of A, prepays the last two installments
to B. A is discharged by the prepayment.
(2) C lends money to B on the security of a joint and several promissory note made
in Cs favour by B, and by A as surety for B, together with a bill of sale of Bs
furniture, which gives power to C to sell the furniture. Owing to his (Cs)
misconduct and wilful negligence, only a small price is realized. A is discharged
from liability on the note.
(3) A puts N as an apprentice to B, and gives a guarantee to B for Ns fidelity. B,
on his part, promises that he will, at least once a month, see N deposit the cash
collected by him on Bs behalf. B, however, fails to check up the books as
promised, and M embezzles. A is not liable to B on his guarantee.

8.11.8 Loss of security


If the creditor loses, or without the consent of the surety, parts with such security,
the surety is discharged to the extent of the value of the security. It is immaterial
whether the surety was or is aware of such security or not. For instance, C advances
to B, his tenant, Rs 2,000 on the guarantee of A. C has also a further security for Rs
2,000 by a mortgage of Bs furniture. C, however cancels the mortgage. B becomes
insolvent and C sues A on his guarantee. A is discharged from liability to the amount
of the value of the furniture.

8.11.9 Invalidation of the contract


A surety is also discharged upon invalidation of the contract (i.e., between the creditor
and the surety). A contract of guarantee is invalid in the following circumstances.
Guarantee obtained by misrepresentation: Any guarantee, which has been
obtained by means of misrepresentation made by the creditor, or with his knowledge
or assent, concerning a material part of the transaction is invalid.
Guarantee obtained by concealment: Any guarantee, which the creditor has
obtained by means of keeping silence as to the material circumstances, is invalid.
Default on Part of co-surety: Where a person gives a guarantee upon a contract
that the creditor shall not act upon it until another person has joined in it as co-
Business Law : 92 surety, the guarantee is not valid if that other person does not join.
Indian Contract Act, 1872:
8.12 Key Terms Indemnity and Gurantee

Contract of Indemnity: Indemnity is compensation for damages or


loss. Indemnity in the legal sense may also refer to an exemption from liability
for damages. The concept of indemnity is based on a contractual agreement NOTES
made between two parties, in which one party agrees to pay for potential losses
or damages caused by the other party.
Contract of Guarantee: A Contract to perform the promise, or discharge the
liability, of a third person in case of his default is called Contract of Guarantee.
A guarantee may be either oral or written.
Specific Guarantee: A specific guarantee pertains to a single debt or a single
transaction. It is a simple guarantee or a specific guarantee when the debt is
discharged, then the duty is performed and the contract of guarantee comes to
an end.
Continuing Guarantee: A continuing guarantee is a guarantee where the
guarantor assumes liability for any past, present and future obligations.

8.13 Summary
Contract of Indemnity and Guarantee are the special types of contracts given
under sections 124 to 147 of the Indian Contract Act, 1872.
In terms of Section 124 of the Act, a contract by which one party promises to
save the other from loss caused to him by the conduct of the promisor himself or
the conduct of any person is called a contract of indemnity. This is also a
known as typical form of contingent contract.
There are two parties in this form of contract. The party who promises to
indemnify/ save the other party from loss is known as indemnifier (promisor),
whereas the party who is promised to be saved against the loss is known as
indemnified (promisee).
An indemnity holder (i.e. indemnified) acting within the scope of his authority is
entitled to the following rights Right to recover damages, Right to recover
costs, Right to recover sums paid under compromise, Right to sue for specific
performance.
A contract of guarantee is a contract to perform the promise made or discharge
liability incurred by a third person in case of his default (Section 126).
There are three parties in a contract of guarantee. Surety- person who gives the
guarantee, Principal debtor- person in respect of whose default the guarantee is
given, Creditor- person to whom the guarantee is given.
When the guarantee is given for an existing obligation or debt, it is called
retrospective guarantee.
When the guarantee is given for a future obligation or debt it is called prospective
guarantee.
A continuing guarantee is cancelled on the death of the surety. In such case, no
Business Law : 93
Indian Contract Act, 1872: notice is required to be given to the creditor.
Indemnity and Gurantee
Rights of Surety can be classified into three groups, as follows; Rights against
Principal debtor, Rights against Creditor, Rights against Co-Sureties.
NOTES According to section 141 of the Act, the surety has the right of subrogation after
performing his duty or making a payment to the creditor. All the rights of the
creditor are passed on to the surety.

8.14 Questions and Exercise


1 Explain the contract of indemnity.
2 What are the essential elements of the contract of indemnity?
3 Discuss the rights of the indemnity holder.
4 Define the contract of guarantee.
5 There is no consideration in case of the contract of guarantee. Comment.
6 The contract of guarantee may be oral or in writing. Comment.
7 What are the various kinds of guarantee?
8 What is a continuing guarantee? How it can be revokes?
9 State the nature and extent of the suretys liability.
10 Liability of the surety is primary and independent. Comment.
11 What are the rights of surety against the other co-surety?
12 What are the rights of surety against the creditor?
13 When does the creditors act discharge surety?
14 Explain the difference between the contract of indemnity and the contract of
guarantee.
Practical Problems
1. B owes C, a debt guaranteed by A. C does not sue B for a year after the debt has
become payable. In the meantime, B becomes insolvent. Is A discharged?
2. If A becomes a surety to C for the payment of rent by B under a lease, and B and
C contract, without A consent, that B will pay a higher rent. What would be
the liability of A as a surety?

8.15 Further Readings and References


Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.
Web resources
http://vle.du.ac.in/mod/book/view.php?id=8396&chapterid=10646

Business Law : 94
Indian Contract Act, 1872:
Unit 9: Indian Contract Act, 1872: Agency Agency
Structure
9.0 Introduction
NOTES
9.1 Unit Objectives
9.2 Agency
9.3 Essentials for a Valid Agency
9.4 Test of an Agency
9.5 Difference between an Agent and an Independent Contractor
9.6 Kinds of Agents
9.7 Creation of Agency
9.8 Essentials of a Valid Ratification
9.9 Extent of Agents Authority
9.10 Delegation of Authority
9.11 Sub-Agent
9.12 Substituted Agent
9.13 Duties of an Agent
9.14 Rights of an Agent
9.15 Termination of an Agency
9.16 Irrevocable Agency
9.17 Key Terms
9.18 Summary
9.19 Questions and Exercise
9.20 Further Readings and References

9.0 Introduction
In the modern world conduct of business is not possible without the help of agents.
Therefore it is necessary to know the law relating to agency. In India, as in most
other jurisdictions agency signifies a relationship, which exists where one person
has an authority to act on behalf of another (the principal) to create legal relation-
ships between the principal and third parties. The Indian Contract Act, 1872 (the
Act) contains statutory provisions that govern the rights and obligations of both the
principal and the agent. Under the statute an agent is a person employed to do
any act for another or to represent another in dealings with third persons. The
person for whom such act is done or who is so represented is called the principal.
The law of agency is contained in sections 182 to 238 of the Indian Contract Act,1872.

Business Law : 95
Indian Contract Act, 1872:
Agency
9.1 Unit Objectives
After completing this unit, students will be able to:
Understand contract of agency and essential elements for a valid agency
NOTES
Know difference between agent and independent contractor
Explain types of agents
Familiarise with the rights and duties of an agent and principal
Learn mode of creation of an agency
Describe termination of an agency

9.2 Agency
The Indian Contract Act,1872 does not define the word Agency. However the
word Agent is defined as a person employed to do any act for another or to
represent another in dealings with third persons. The third person for whom the act
is done or is so represented is called Principal (Section 182).
Thus Agency is a comprehensive word used to describe the relationship
between one person and another, where the first mentioned person brings the sec-
ond mentioned person into legal relation with others. The Rule of Agency is based
on the maxim Quit facit per alium, facit per se: i.e., he who acts through an agent
is himself acting.
Example: Mahesh appoints Sohan to buy liquor on his behlf. Mahesh is the princi-
pal and Sohan is the agent. The relationship between Mahesh and Sohan is called
an agency.
There are two important rules on which the agency is based-
1. Whatever a person can do personally, he can do through the agent.
2. He, who does an act through another, does by himself. Consequently, all the acts
of the agent are the acts of the principal.
The function of the agent is thus to bring his principal into contractual relation with
the third parties. In simple words, the agent is merely a connecting link between the
principal and the third parties.

9.3 Essentials for A Valid Agency


Essential elements for a valid agency are as follows:
9.3.1 Agreement between principal and agent
It is important that there can be an agreement as agency depends on agreement and
not necessarily on contract. A contract cannot be formed with a minor because an
agreement with a minor is void, but an agreement of agency with a minor is possible
because between the principal and the third person any person may be appointed as
an agent whether it be a minor or a person of unsound mind.
Business Law : 96
9.3.2 Intention of the agent to act on behalf of the principal Indian Contract Act, 1872:
Agency
For an agency to arise, it is important that the person (agent) intends to act on behalf
of another (principal).
NOTES
9.3.3 Whatever the principal can do personally he/she can
do through his/her Agent
The agent can perform all those activities which the principal is liable to perform.
However the agent cannot perform acts which are personal in character or are
annexed to public office such as marriage and the duty of a magistrate.

9.3.4 No consideration required for agency


According to section 185 of the Indian Contract Act, no consideration is necessary
to create an agency. The fact that the principal has agreed to be represented by the
agent is a sufficient detriment to the principal to support the contract of agency.

9.4 Test of An Agency


Agency exists whenever a person has the authority to act on behalf of the other
and to create contractual relations between that other and third person. When this
kind of power is not enjoyed the relationship is not one of agency. Thus a person is
not an agent merely because he gives another advice in matters of business. Simi-
larly, a person rendering personal service to his master or working in his factory
cannot be called an agent because in these cases he is not acting for another in
dealings with third persons. It is only when one acts as a representative of the other
in business dealings so as to create contractual relations between that other and
third person that he is an agent and there is an agency.

9.5 Difference Between an Agent and an Independent


Contractor
An independent contractor is to exercise his own discretion, as to the mode and time
of doing work, for which he is engaged. The agent, on the other hand, is one who
acts according to the instructions of the principal.
The independent contractor does not represent his employer, in dealing with
the other persons, whereas the agent represents his principal in dealings with the
third persons and can bind the principal by entering into contracts with other persons
within the scope of his authority.

9.6 Kinds of Agents


Various kinds of agents are enumerated below.
9.6.1 General agent
The general agent possesses the authority to carry out a broad range of transactions
in the name and on behalf of the principal. The general agent may be the manager of
Business Law : 97
a business or may have a more limited but nevertheless ongoing role- for example,
Indian Contract Act, 1872: as a purchasing agent or as a life insurance agent authorized to sign up customers
Agency for the home office.

9.6.2 Special agent


NOTES The special agent is one who has authority to act only in a specifically designated
instance or in a specifically designated set of transactions. For example, a real
estate broker is usually a special agent hired to find a buyer for the principals land.
Check your progress
What is the meaning of 9.6.3 Agency coupled with an interest
agency?
. Explain the essential of a An agent whose reimbursement depends on his continuing to have the authority to
valid agency. act as an agent is said to have an agency coupled with an interest if he has a
. Differentiate between an property interest in the business.
agent and an independent
contractor? 9.6.4 Del-credere agent
A del-credere agent is an agent, who guarantees to his principal that person to
whom he sells will pay for that, if he will not pay, he will be liable. It is a type of
mercantile agent.

9.6.5 Factor
A factor is an agent to whom goods are entrusted for sale.

9.6.6 Mercantile agent


A mercantile agent is the person who has authority to sell the goods or to buy goods
or to raise money on the security of goods.

9.6.7 Banker
The relationship between banker and his customer is that of debtor and creditor.

9.6.8 Auctioneer
An auctioneer is an agent who is authorized to sell goods to the highest bidder at a
public sale for commission.

9.6.9 Sub-agent
A sub-agent is a person employed by and acting under the control of the original
agent in the business of agency.
9.6.10 Broker
A broker is an agent employed for buying or selling the goods or other property. He
simply acts between the two parties.
9.6.11 Indenter
He is an agent who, buys or sells on behalf of his principal.

9.6.12 Advocate
An advocate also acts an agent. He appears on behalf of principal in the court.

Business Law : 98
Indian Contract Act, 1872:
9.7 Creation of an Agency Agency
The relationship of the principal and the agent may be created in anyone of the
following ways:
NOTES
9.7.1 Agency by express agreement- Section 186 and 187
Number of agency contract come into force under this method. It may be Oral or
documentary or through power of attorney. No particular form or words are re-
quired for the appointment of the agent.
Example: Contract of agency created by power of attorney

9.7.2 Agency by implied authority- Section 187


This type of agency comes into force by virtue of relationship between parties or by
conduct of parties. The agency by implied agreement includes the following agencies.
9.7.2.1 Agency by estoppel
Estoppel means that a person is stopped or prevented from denying the truth of the
statement, which he has made. Thus, where a person by his conduct or words
spoken or written leads wilfully to another person to believe that a certain person is
his agent, he is estopped from denying subsequently the fact of agency. Thus, agency
is created by the implication of law.
9.7.2.2 Agency by holding out
B is As servant and A has made B accustomed to bring good on credit from C. On
one occasion A has given amount to B to bring goods from C on cash basis. B has
misappropriated that amount and has brought goods on credit as usually, here is
agency by holding out and therefore A is liable to pay amount to C.
9.7.2.3 Agency of necessity
At times it may become necessary to a person to act as agent to the other. To
constitute a valid agency by necessity, the following conditions must be satisfied:
There must be an emergency
There was a necessity to act on behalf of the principal
The agent was not in a position to communicate with the principal
The agent has acted honestly and in the interest of the principal
Example: A has handed over 100 quintals of butter for transportation, to a road
transport company. Actually it is bailment contract; assume that in the transit all
vehicles have got stopped where it takes one week for further movement. So the
transport company authorities have sold away the butter in those nearby villages.
Here agency by necessity can be seen.
9.7.3 Agency by ratification Section 196 and 197
Ratification means subsequent adoption of an activity. Soon after ratification princi-
pal agent relations will come into operation. The person who has done the activity
will become agent and the person who has given ratification will become principal.
Ratification can be express or implied. In case where adoption of activity is
made by means of expression, it is called express ratification. For example: Without Business Law : 99
Indian Contract Act, 1872: As direction, B has purchased goods for the sake of A. There after A has given his support
Agency (adoption) to Bs activity, it is called Ratification. Now A is Principal and B is agent.
The ratification where there is no expression is called implied ratification. For
NOTES example: Mr. Q has Ps money with him. Without Ps direction Q has lent that money
to R. There after R has paid interest directly to P. Without any debate P has taken that
amount from R. It implies that P has given his support to Qs activity. It is implied
ratification.

9.8 Essentials of A Valid Ractification


1. The person, who is going to give ratification, must be in existence at the time of
activity. Let us consider pre-incorporation contracts made by promoters. Company
comes into existence on the date of incorporation. Therefore company is not in
existence at the time of pre-incorporation contracts. If company gives ratification to
pre incorporation contracts, it is not valid ratification. Hence to pre-incorporation
contracts, promoters are personally liable.
2. The person who is going to give ratification should have capacity to contract, at the
time of activity as well as at the time of ratification. In Armugan Vs Dorai Singh the
minor obtains loan from money lender and executes a deed. Before repayment of
debt, he becomes a major and executes another bond. Court decides that the sec-
ond bond also is not valid because the person who has given ratification has no
capacity to contract at the time of activity i.e. at the time of getting loan.
3. Ratification should be given within reasonable period after the activity the concept
of reasonable period depends upon nature of the situation.
4. Ratification must be absolute. To entire activity ratification is to be given. Partial
ratification carries no validity.
5. The fact of ratification must be communicated to all parties in connection with the
activity.
6. Ratification attains validity only when it is given with full knowledge of facts relating
to the activity.
7. The activity which is going to be ratified must be a lawful activity. Example: for the
sake of A, B has murdered C. If A gives his support to Bs activity, it is not valid
ratification.
8. The person who is going to give ratification should have right to do such activities.
Example: If company gives ratification to an Ultravires activity it is not valid.
9. Ratification relates back to date of activity. Though ratification takes place after the
date of activity, it will be assumed that ratification is given on the date of activity.
10. Ratification should not lead to breach of contract. In other words ratification should
not be harmful to third party. Example: There is a rental agreement between A and
B according to which three months notice is needed at the time of vacation of
house. On one day C, As son, has asked B to vacate the house on that day itself. A
has given his support to Cs activity. It is not valid ratification because it leads to
breach of rental agreement and at the same time it is harmful to B.
Business Law : 100
Indian Contract Act, 1872:
9.9 Extent of Agents Authority Agency
An agents authority means the capacity of the agent to bind his principal. The acts of
the agent, done within the scope of his authority, bind the principal.
NOTES
Such an authority of the agent to bind the principal may be:
Check your progress
9.9.1 Actual authority- Section 186
Discuss the difference
An actual authority means that authority which has been really delegated to the agent. between general agent and
The authority of the agent may be express or implied. An authority is said to be express special agent.
when it is given by words spoken and written. The authority is said to be implied when What do you mean by rati-
fication?
it is inferred from the circumstances of the case or the ordinary course of dealings.
Explain the essentials of a
Example: A owns a shop in Dhanbad, living himself in Calcutta and visiting the shop valid ratification.
occasionally. The shop is managed by B and he is in habit of ordering goods from in the
name of A for the purposes of the shop and of paying for them out of As funds with As
knowledge. B has an implied authority from A to order goods from C in the name of A
for the purpose of the shop.
9.9.2 Ostensible or apparent authority
When the agent is employed for a particular business, persons dealing with him can
presume that he has authority to do all such acts as are necessary for such a business.
Such an authority of the agent is called an ostensible or an apparent authority. The
ostensible or an apparent authority is the authority of the agent as it appears to others.
It often coincides with the actual authority.
9.9.3 Authority in emergency- Section 189
An agent has authority, in an emergency, to do all such acts for the purpose of protect-
ing hs principal from loss as would be done by a person of ordinary prudence in his own
case under the similar circumstances. When the agent has acted beyond the authority
in emergency, the principal is bound by the act of the agent.

9.10 Delegation of Authority by an Agent


The rule is that the agent who has obtained power from the principal to act must act
himself. He is not entitled to delegate his authority to another person without the con-
sent of his principal. The rule is expressed in latin maxim- Delegatus non-protest
delegare, i.e., a delegate cannot further delegate. In the simple words, it means that
delegated powers cannot further be delegated. One cannot delegate that which one
has himself undertaken to do. So, the agent cannot, without the permission of the prin-
cipal, delegate his authority and ask some other person to do the thing.
The agent cannot lawfully employ another to perform acts which he has ex-
pressly or impliedly undertaken to perform personally.

9.11 Sub- Agent


Sub agent refers to case where an agent appoints another agent. The appointment of
sub agent is not lawful, because the agent is a delegatee and a delegatee cannot further
delegate. This is based on the Latin principle delegatus non-protest delegare. Business Law : 101
Indian Contract Act, 1872: The appointment of a sub agent would be valid if the terms of appointment
Agency originally contemplated it. Sometimes customs of the trade may provide for appoint-
ment of sub agents. In both these cases the sub agent would be treated as the agent
of the principal.
NOTES
Position of sub agent vis a vis third parties where the sub agent is properly appointed
1. Where the sub-agent is properly appointed: Where the sub-agent is prop-
erly appointed, the principal is, so far as regards the third persons, represented
by the sub agent as is bound by and responsible for the acts as if he were the
agent originally appointed by the principal.
The agent is responsible to the principal for the acts of the sub-agent. The sub-
agent is responsible for his acts to the agent but not to the principal except in
case of fraud or wilful wrong.
2. In the case of appointment without authority: In case, where the appoint-
ment of sub agent takes place without authority, the principal is not bound by
the acts of sub agent and sub agent is not bound to the principal. It is the agent
who is the principal of sub agent. Where the sub-agent purportedly acts in the
name of first principal, that first principal may ratify the act of sub agent. How-
ever if the sub agent acts in his own name or in the name of the agent who has
without authority delegated to the sub agent the business which is in fact of the
principal, the principal cannot ratify such acts of sub agent.

9.12 Substituted Agent


Substituted agents are not sub agents. They are agents of the principal. Where the
principal appoints an agent and if that agent identifies another person to carry out
the acts ordered by principal, than the second person is not to be treated as a sub
agent but only as an agent of the original principal.
Example:
(1) A directs B his solicitor to sell his property by auction and B appoints C
an auctioneer. In this regard, C is an agent of A and not a sub agent. While
selecting a substituted agent the agent is bound to exercise same amount of
diligence as a man of ordinary prudence and if he does so he will not be respon-
sible for acts or negligence of the substituted agent.
(2) X consigns goods to Y a merchant for sale. Y in due course employs an
auctioneer in goods to sell goods of X and also allows him to receive the
proceeds of sale. The auctioneer becomes insolvent afterwards without hand-
ing over the proceeds. Here Y will not be responsible to X as he has
discharged his duties as a man of ordinary prudence and diligence.

9.13 Duties of an Agent


Duties of an agent are the rights of the principal. The duties of an agent may be
broadly classified under the following heads:

Business Law : 102 Agent should follow the instructions given by the principal.
If agent comes across any complicated situation, he has to communicate that Indian Contract Act, 1872:
situation to principal and his advice is to be obtained. Agency

Agent should behave in his capacity as agent, he should not run the transaction
in his own name.
NOTES
Agent should not make secret profits by utilizing reputation of the principal.
Agent should safe guard property of principal particularly upon happening of
events like death of principal, insolvency of principal, etc.
Agent should maintain proper accounting records to enrol the transactions run
by him. Agent has to remit amounts to principal properly.
Agent has to remit amounts to principal properly.
Agent should not carry on delegation.

9.14 Rights of an Agent


9.14.1 Right of retainer
Agent has right to deduct the amount which is due to him by principal, from amount
payable to principal.
9.14.2 Right of stoppage in transit
In case where agent is personally liable, he has right to stop the goods in transit. The
good may be moving towards customer or principal.
9.14.3 Right to claim remuneration
As per the terms of agency contract, agent has rights to claim remuneration.
9.14.4 Right of indemnity
Principle of indemnity gets operated between principal and agent where principal is
implied indemnifier and agent is implied indemnity holder. So agent can make princi-
pal answerable for all types of sufferings.
9.14.5 Right of lien
Agent can exercise right of lien but contract act has not specified whether it is
general lien or particular lien. Therefore the nature of agents lien depends upon
mutual understanding.

9.15 Termination of An Agency


Termination of agency may take place in two ways either by the operation of law or
by the act of parties.

9.15.1Termination of agency by the operation of law:


The following are the situations where the agency is terminated by the operation of law.
1.Expiry of time: At times contract of agency may get formed for a particular
period. In such a case after expiry of that agreed period, termination of agency
takes place.
Business Law : 103
Indian Contract Act, 1872: 2. Full fillment of object: At times the contract of agency may be found for a
Agency
particular objective or to do a particular venture. In such a case termination of
agency takes place after completion of that venture.

NOTES 3. Death or lunacy of either party: Whenever principal or agent come across
death or lunacy, agency contract gets terminated.
Check your progress 4. Insolvency of Principal: Principal should have capacity to contract. When
Differentiate between sub principal becomes insolvent, He foregoes capacity to contract and termination of
agent and substituted
agent. agency takes place. But the act is silent with regard to insolvency of agent. As
What do you understand
minor also can act as agent, it can be conformed that insolvent person may act as
by delegation of authority agent.
by an agent?
5.Destruction of subject matter: When subject matter of contract gets destructed,
. Explain the duties of an
agent. agency contract comes to an end.
6.Principal Alien Enemy: When principal is alien and war breaks out between
the countries, then principal becomes alien enemy and agency contract gets termi-
nated.
7. Liquidation of company: On account of legal entity company may act either as
principal or agent. Whatever the status may be, if company enters into liquidation,
termination of agency takes place.
8. Termination of Sub-agency: When ever man agency gets terminated on ac-
count of any reason, sub-agency also goes off.
9.15.2 Termination of agency by the act of Parties
The following are the situations where the agency is terminated by the act of par-
ties.
1. Termination of agency by the Principal: Principal can terminate the contract
of agency by giving notice to agent. By doing so if agent comes across any suffer-
ing. Principal has to compensate the agent.
2. Termination of agency by the Agent: Agent also can terminate the agency
contract by giving notice to principal but by doing so if principal comes across any
suffering, agent has to compensate.
3. Termination of agency by both the parties to the contract: By means of
mutual understanding between principal and agent, the contract of agency may
come to an end.

9.16 Irrevocable Agency


Where the agency cannot be terminated, it is called irrevocable agency. (a) Where
agency is coupled with interest then it is a case where the agent has interest in the
subject matter of agency. In this case, agency cannot be terminated except where
there is an express provision, to cause prejudice to the interest of the agent. For the
agency coupled with interest does not come to an end on the death, insanity, or the
insolvency of the principal. (b) Where the agent has incurred personal liability, prin-
cipal cannot revoke the agency leaving the agent to face the liability. For instance
where A appoints B as his agent and B purchases as per orders of A some
Business Law : 104
Indian Contract Act, 1872:
rice in his personal name, A cannot revoke the authority (c) Where the agent has Agency
partly exercised the authority, the authority cannot be revoked, where A appoints
B as his agent to procure 10 bags of rice and B procures in the name of A then
A cannot revoke his authority.
NOTES

9.17 Key Terms Check your progress


Explain the rights of an
Agent: A person who acts on behalf of another person or group. agent.
. What do you understand
Independent contractor: An independent contractor is a natural person, busi- irrevocable agency?
ness, or corporation that provides goods or services to another entity under
terms specified in a contract or within a verbal agreement.
Del-credere agent: A Del-credere agency is a type of principal-
agent relationship wherein the agent acts not only as a salesperson or broker
for the principal, but also as a guarantor of credit extended to the buyer.
Sub agent: A person appointed by an agent to perform some duty, or the whole
of the business relating to his agency.
Substituted agent: Substituted agents are not sub agents. They are agents of
the principal. Where the principal appoints an agent and if that agent identifies
another person to carry out the acts ordered by principal, than the second per-
son is not to be treated as a sub agent but only as an agent of the original
principal.
Irrevocable agency: Irrevocable agency means an agency which cannot be
terminated.

9.18 Summary
Agent is defined as a person employed to do any act for another or to repre-
sent another in dealings with third persons. The third person for whom the act
is done or is so represented is called Principal (Section 182).
According to section 185 of the Indian Contract Act, no consideration is neces-
sary to create an agency.
An independent contractor is to exercise his own discretion, as to the mode and
time of doing work, for which he is engaged. The agent, on the other hand, is
one who acts according to the instructions of the principal.
The general agent possesses the authority to carry out a broad range of trans-
actions in the name and on behalf of the principal.
The special agent is one who has authority to act only in a specifically desig-
nated instance or in a specifically designated set of transactions.
A del-credere agent is an agent, who guarantees to his principal that person to
whom he sells will pay for that, if he will not pay, he will be liable.
Ratification means subsequent adoption of an activity. Soon after ratification
principal agent relations will come into operation. The person who has done
Business Law : 105
Indian Contract Act, 1872: the activity will become agent and the person who has given ratification will
Agency become principal.
An actual authority means that authority which has been really delegated to the
NOTES agent. The authority of the agent may be express or implied.
Sub agent refers to case where an agent appoints another agent. The appoint-
ment of sub agent is not lawful, because the agent is a delegatee and a delegatee
cannot further delegate.
Substituted agents are not sub agents. They are agents of the principal. Where
the principal appoints an agent and if that agent identifies another person to carry
out the acts ordered by principal, than the second person is not to be treated as a
sub agent but only as an agent of the original principal.
Termination of agency may take place in two ways either by the operation of
law or by the act of parties.
Where the agency cannot be terminated, it is called irrevocable agency. (a)
Where agency is coupled with interest then it is a case where the agent has
interest in the subject matter of agency.

9.19 Questions and Exercise


1 Every person has the right to employ an agent lawfully. Comment on this statement.
2 Discuss the essentials of a valid contract of agency.
3 Differentiate between an agent and an independent contract.
4 Write a short note on different kinds of agent.
5 Explain the various modes of creation of agency.
6 What do you understand by agency by ratification? What are the essentials of a
valid ratification?
7 Write a short note on rights and duties of an agent.
8 Distinguish between a sub- agent and a substituted agent.
9 Discuss the various modes by which the authority of an agent may be termi-
nated.
10 Write a short note on an irrevocable agency.

Practical Problems
1. Q is the wife of K. She purchased some sarees on credit from P. P demanded
the amount from K. K refused. P filed a suit against K for the said amount.
Decide in the light of provisions of Indian Contract Act, 1872, whether P would
succeed?
2. Mr. Vipin of Delhi engaged Mr. Abhishek as his agent to buy a house in west
extension area. Mr. Abhishek bought a house for Rs. 20 lakhs in the name of a
nominee and then purchased it himself for Rs 35 lakhs. He then sold the same
house to Mr. Vipin for Rs 40 lakhs. Mr. Vipin later comes to know the mischief
Business Law : 106
of Mr. Abhishek and tries to recover the excess amount paid to Mr. Abhishek. Indian Contract Act, 1872:
Agency
Is he entitled to recover any amount from Mr. Abhishek? If so, how much can
he recover? Explain.

NOTES
9.20 Further Readings and References
Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Manage-
ment, Vikas Publishing House Pvt. Limited.

Business Law : 107


Indian Contract Act, 1872:
Agency

NOTES

Business Law : 108


Unit 10: Sales of Goods Act, 1930 Sales of Goods Act, 1930

Structure
10.0 Introduction
NOTES
10.1 Unit Objectives
10.2 Definitions
10.3 Essentials of Valid Sales
10.4 Difference between Sale and an Agreement to Sell
10.5 Difference between Sale and a Hire-Purchase
10.6 Difference between Sale and a Bailment
10.7 Kinds of Goods
10.8 Prices of Goods
10.9 Conditions and Warranties
10.10 Implied Conditions
10.11 Implied Warranties
10.12 Distinguish between a Condition and a Warranty
10.13 Doctrine of Caveat Emptor
10.14 Transfer of Ownership
10.15 Delivery of Goods- Sections 32-39
10.16 Unpaid Seller
10.17 Rights of Unpaid Seller
10.18 Right of Lien
10.19 Right of Stoppage in Transit
10.20 Right of Resale
10.21 Right to withhold Delivery of Goods
10.22 Delivery to Carrier
10.23 Buyers Right against the Seller or Remedies against Seller- Sections 55-61
10.24 Sale by Non-Owners or Transfer of Title by Non-owners- Sections 27-30
10.25 Auction Sale- Section 64
10.26 Key Terms
10.27 Summary
10.28 Questions and Exercise
10.29 Further Readings and References

10.0 Introduction
In trade and commerce, sales and purchase of goods are very common transactions. Business Law 109
Originally, the transactions related to sale and purchase of goods was regulated by
Sales of Goods Act, 1930 Chapter VII (Sections 76 to 123) of Indian Contract Act, 1872 which was broadly
based on English common law. A need was felt to overhaul the law due to rapid
growth of mercantile transactions and various progressive English judgments being
passed to meet the needs of the community. Thus, the provisions of Chapter VII
NOTES
were repealed, suitably amended keeping in mind the English Sales of Goods, 1893
and recent judicial decisions of the time. A separate act, the Sale of Goods Act came
into force on 1st July 1930. It extends to the whole of India except the State of
Jammu and Kashmir. It does not affect rights, interests, obligations and titles acquired
before the commencement of the Act. The Act deals with sale but not with mortgage
or pledge of the goods.

10.1 Unit Objectives


After completing this unit, students will be able to:
Describe the meaning of sale and definitions
Understand the conditions and warranties
Know the transfer of property
Familiarise with the Unpaid seller and its rights
Learn the buyers right against the seller

10.2 Definitions
10.2.1 Buyer Section 2(1)
Buyer means a person who buys or agrees to buy goods.

10.2.2 Delivery- Section 2(2)


Delivery means voluntary transfer of the possession from one person to another.

10.2.3 Deliverable state- Section 2(3)


Goods are said to be in a deliverable state when they are in such state that the
buyer would under the contract be bound to take delivery of them.

10.2.4 Document of title- Section 2 (4)


Document of title to goods includes a bill of lading, dock-warrant, warehouse keepers
certificate, wharfingers certificate, railway receipt, multimodal transport document,
warrant or order for the delivery of goods and any other document used in the
ordinary course of business as proof of the possession or control of goods, or
authorising or purporting to authorise, either by endorsement or by delivery, the
possessor of the document to transfer or receive goods thereby represented.

10.2.5 Fault Section 2(5)


Fault means wrongful act or default.
Business Law 110
10.2.6 Future goods- Section 2(6) Sales of Goods Act, 1930

Future goods mean goods to be manufactured or produced or acquired by the seller


after the making of the contract of sale.
NOTES
10.2.7 Goods- Section 2(7)
Goods means every kind of movable property other than actionable claims and
money; and includes stock and shares, growing crops, grass, and things attached to
or forming part of the land which are agreed to be severed before sale or under the
contract of sale.

10.2.8 Insolvent- Section 2(8)


A person is said to be insolvent who has ceased to pay his debts in the ordinary
course of business, or cannot pay his debts as they become due, whether he has
committed an act of insolvency or not.

10.2.9 Mercantile agent- Section 2 (9)


Mercantile agent means a mercantile agent having in the customary course of business
as such agent authority either to sell goods, or to consign goods for the purposes of
sale, or to buy goods, or to raise money on the security of goods.

10.2.10 Price Section 2(10)


Price means the money consideration for a sale of goods.

10.2.11 Property- Section 2(11)


Property means the general property in goods, and not merely a special property.

10.2.12 Seller- Section 2 (13)


Seller means a person who sells or agrees to sell goods.

10.2.13 Specific goods- Section 2(14)


Specific goods means goods identified and agreed upon at the time a contract of
sale is made.

10.3 Essentials of Valid Sales


The five essential features of a contract of sale are as discussed below:

10.3.1 Two parties


A sale has to be bilateral because the goods have to pass from one person to another.
There must be a buyer and a seller. The seller and the buyer must be different
persons. A part owner can sell to another part owner. A partner may, therefore, sell
to his firm or a firm may sell to a partner. But if joint owners distribute property
among themselves as per mutual agreement, it is not sale. A person cannot be the
seller of his own goods as well as the buyers of them. However, when a bankrupt
persons goods are sold under an execution of decree, the person may buy back his Business Law 111
own goods from his trustee.
Sales of Goods Act, 1930 10.3.2 Subject matter to be goods
The term goods is defined in Section 2(7). It states that goods means every kind
of movable property other than actionable claims and money; and includes stock
NOTES and shares, growing crops, grass and things attached to or forming part of the land
which are agreed to be severed before sale or under the contract of sale. Money
cannot be sold because money means legal tender and not the old coins which can
be sold and purchased as goods. Actionable claims are things that a person cannot
make use of, but which can be claimed by him by means of legal action such as a debt.
Sale of immovable property is not covered under this Act. As per Section 3 of the
Transfer of Property Act, 1882, immovable property does not include standing timber,
growing crops or grass. They are considered movable property and thus goods. Standing
timber is taken as movable property while trees are immovable property.
Things like goodwill, copyright, trademark, patents, water, gas, electricity are all goods.

10.3.3 Transfer of ownership of good


There must be transfer of ownership or an agreement to transfer the ownership of
goods from the seller to the buyer not the transfer of mere possession or limited
interest as in the case of pledge, lease or hire purchase agreement). If goods remain
in possession of seller after sale transaction is over, the possession is with seller,
but ownership is with buyer. The Act uses the term general property implying
that sale involves total ownership and not a specific right limited by conditions.
Delivery of goods refers to a voluntary transfer of possession of goods from one
person to another. Delivery may be constructive or actual depending upon the
circumstances of each case. A contract may provide for the immediate delivery of
the goods or immediate payment of the price or both. Alternatively, the delivery or
payment may be made by instalments or be postponed.

10.3.4 Consideration is price


The price is the consideration for the contract of sale of goods. If goods are offered
as the consideration for goods, it will not amount to sale. It will be barter. If there is
no consideration, it will be called gift. But where the goods are sold for definite sum
and the price is paid partly in kind and partly in cash, the transaction is a sale.
Consideration is an essential for a valid contract as per the Indian Contract Act,
1872. It is the duty of a buyer who has received and appropriated the goods to pay
a reasonable price.
Section 9 lays down how the price may be fixed in a contract of sale:
a) It can be fixed by the contract itself; or
b) It can be fixed in a manner provided by the contract, such as appointment of a
valuer; or
c) It can be determined by the course of dealings between the parties; or
d) If the price is not capable of being fixed in any of the ways mentioned above,
the buyer is bound to pay reasonable price.

Business Law 112


10.3.5 Essential elements of a valid contract Sales of Goods Act, 1930

All the essentials of a valid contract must be present. viz., competent parties, free
consent, legal object and so on. The transfer of possession and ownership under the
Act has to be voluntary and not be tainted with fraud or duress. NOTES

10.4 Distinguish Between a Sale and an Agreement to Sell


A contract of sale is a generic term and includes both an actual sale and an agreement
to sell. Section 4 provides that if the property in goods is transferred from the seller to
the buyer under a contract, the contract is called a sale. Where the transfer of the
property in the goods will take place at a future time or is subject to some condition
which has to be fulfilled, the contract is called an agreement to sell. Such an agreement
to sell becomes a sale when the prescribed time lapses or the conditions are fulfilled.

Table 10.1: Distinction between a Sale and Agreement to Sell

Basis of distinction Sale Agreement to sell


Meaning When in a contract of sale, the When in a contract of sale the
exchange of goods for money parties to contract agree to
consideration takes place exchange the goods for a price at
immediately, it is known as Sale. a future specified date is known
as an Agreement to Sell.
Nature Absolute Conditional
Type of Contract Executed Contract Executory Contract
Transfer of risk Yes No
Title In sale, the title of goods In an agreement to sell, the title
transfers to the buyer with the of goods remains with the seller
transfer of goods. as there is no transfer of goods.
Right to sell Buyer Seller
Consequences of Responsibility of buyer Responsibility of seller
subsequent loss or
damage to the goods
Tax VAT is charged at the time of No tax is levied.
sale.
Suit for breach of The buyer can claim damages Here the buyer has the right to
contract by the seller from the seller and proprietary claim damages only.
remedy from the party to whom
the goods are sold.
Right of unpaid Right to sue for the price. Right to sue for damages.
seller

10.5 Difference Between Sale and a Hire Purchase


A Hire purchase agreement is an agreement for hire of goods where the person
who hires the goods has an option to purchase the goods at the end. The possession Business Law 113
Sales of Goods Act, 1930 of the goods is delivered to such a hirer and he has to pay via instalments. The
property in the goods passes to the hirer on the payment of the last instalments.

Table 10.2: Distinction between Sale and Hire-Purchase


NOTES
Basis of distinction Sale Hire-Purchase

Law A contract of sale is governed by They are governed by Hire


the Sale of Goods Act, 1930. Purchase Act, 1972
Nature of Contract It may be written, oral or implied. It is an agreement to hire and an
agreement to sell. It has to be in
writing.
Possession Possession may or may not Possession passes immediately
transfer immediately.
Transfer of The ownership of goods is It transferred only when the
ownership transferred immediately. option to purchase is exercised
and the last payment is made.
Buyer The buyer becomes the full owner The hirer is a bailee, and not the
of the goods owner until he pays all the
instalments of the price in full or
exercises the option to purchase.
Transfer to third The buyer can transfer a good title The hirer cannot transfer a good
parties to third parties because ownership title to a third party as ownership
of goods has been transferred. has not been transferred.
Right to repossess The seller can sue for price but he The hire vendor has a right to
cannot repossess the goods.
repossess the goods if the hirer
defaults in the payments.
Right to terminate In a sale, there is no option to the The hirer can terminate the
buyer to return the goods bought. agreement before the ownership
is transferred.
Sales tax In case of sale of taxable goods, Even if taxable goods are hired,
sales tax is levied. sales tax is not levied.

10.6 Difference Between Sale and a Bailment


Sale and Bailment are two different types of contracts. A contract of sale is a
straight forward contract where a person may buy goods, services or property
from a seller in exchange for remuneration, usually in the form of money. Essentially,
in a bailment contract, the bailor gives the goods, assets or property to the bailee
for a specific amount of time. However, the goods, assets or property still belongs
to the bailor.

Business Law 114


Table 10.3: Distinction between Sale and Bailment Sales of Goods Act, 1930
Basis of distinction Sale Bailment
Act Sale is defined under Sec. 4(3) Bailment is defined under Sec.
of the Sale of Goods Act, 1930. 148 of the Indian Contract Act, NOTES
1872.
Check your progress
Ownership of goods The buyer becomes the owner of The bailee does not become the
What do you means by term
goods. owner of goods. goods?
Use of goods In a sale, the buyer may use the In bailment, the bailee can use . Distinguish between sale
goods in any way he likes. the goods only accordingly to the and bailment.

direction of the bailor. Discuss the essentials of a


valid sale.
Consideration In a sale, the consideration is In a Bailment, the consideration
always in terms of money. need not be money as it may be
the understanding to return the
goods bailed on accomplishment
of the purpose.
Return of goods In a sale, there is no return of In a bailment, the goods are
goods from the buyer to the necessarily returned after the
seller, unless there is a breach. specified time or accomplishment
of the purpose.

10.7 Kinds of Goods


The goods are the subject matter of any contract. They can be classified as follows:

10.7.1 Existing goods


When the goods are in possession of the seller at the time the contract is entered
into, they are called existing goods. This means that the goods to be sold are in the
control of the seller (Section 6(1) has stated: The goods which form the subject
matter of a contract of sale may be either existing goods, owned or possessed by the
seller; or future goods. The existing goods are of three types.
10.7.1.1 Specific goods
As stated above the existing goods may be Specific, Ascertained or Unascertained.
According to Section 2(14) Specific goods means goods identified and agreed upon
at the time the contract of sale is made.
Example: A contract to sell a Nokia cell phone of a particular model is a contract to
sell a specific good. In this case, the sale is for a specific good, as the phone has
been identified.
10.7.1.2 Ascertained goods
An ascertained good is a part of the goods that are available in bulk are specially
meant for sale.
Example: X owns 20 Maruti Cars. Y enters into a contract with X to buy one car
out of those 20 cars. After the contract one car is given to X and this car will then be
Business Law 115
an ascertained good
Sales of Goods Act, 1930 10.7.1.3 Unascertained goods: Unascertained goods are the goods that are not
specifically agreed upon at the time of entering into the contract.
Example: 100 leather jackets are lying in the godown out of this lot of 100 jackets
NOTES 10 jackets are to be bought by X, this is a contract for sale of unascertained goods
made by the leather jacket manufacturer.

10.7.2 Future goods


Section 2(6) has defined future goods as Future Goods means goods to be
manufactured or produced or acquired by the seller after the making of the contract
of the sale. Future goods therefore are neither in existence nor in possession of the
seller at the time when the contract of sale is entered into.
Example: X agrees to sell to Y the entire crop of sugarcane to be grown at her
farm in Uttar Pradesh for an amount of Rs. 2,00,000. Such type of agreement is not
a sale but an agreement to sell future goods.

10.7.3 Contingent goods


Section 6(2) has defined contingent goods as the goods the acquisition of which
by the seller depends upon a contingency which may or may not happen. Such
goods are therefore dependent upon an event or an occurrence which may or may
not happen.
Example: X agreed to sell 100 cotton shirts he was importing from China provided
his ship arrived safely in time. In this example, the cotton shirts are contingent goods
as their sale is dependent upon the safe and timely arrival of the ship.

10.8 Prices of Goods


The price may be fixed in the following ways:
1. The price may be fixed in contract [Section 9]: this is the usual way of
fixing the price.
The way the prices fixed may have been agreed upon in the contract of sale
[Section 9 (1)].
The price may be decided by a course of dealings between the parties
[Section 9 (1)].
2. When the price is not fixed by any of the above ways. [Section 9 (2)]:
When the price is not being fixed through an agreement of both the parties then
a reasonable price is taken as the price of the contract, depending upon the
prevailing circumstances of the case.
3. Price to be fixed by a third party [Section 10 (1)]: When a third party is
brought in to fix the price and such a third party is not able to do so, then the
situation will be handled depending on the reasons for which the third party has
not been able to fix the price. The contract can be avoided when the third party
is not willing to fix the price or is unable to do so due to any other reason any
reason. However, where the third party is stopped from valuing the goods due
Business Law 116
to the fault of the buyer or the seller then the one who is in fault will be liable to Sales of Goods Act, 1930
pay damages to the other party. The party that is not at fault has the right to sue
the other for damages

NOTES
10.9 Conditions and Warranties
The Sale of Goods Act, identifies the terms, Conditions and Warranties as being
of a prime significance in a contract of sale. Both the terms imply a promise that is
made by the seller. However, the difference between Conditions and Warranties
arises due to the nature of the promise that is made in each case. In the case of
Condition the impact is on the very essence of the contract; whereas, in the case
of Warranty, the promise is in the nature of collateral to the main purpose of the
contract. The conditions and warranties may be expressed or implied.
The expressed conditions and warranties are those which the parties agree expressly,
i.e., orally or in writing. The implied conditions are those which are implied by the
law in the absence of any agreement to the contrary. The conditions and warranties
in the contract of sale constitute stipulation with the reference to goods. In the case
of a conflict between the express conditions and the implied conditions, express
conditions shall prevail.
The breach of condition in a contract of sale of goods gives right to cancel the
contract. If the party has suffered from any loss, he can also claim compensation
for the breach of condition. But the breach of warranty in a contract of sale of
goods gives the right to claim the damages only. However, the liability for the implied
conditions and warranties may be excluded by the parties in the following situations:
1. If an express agreement between the parties provides so.
2. If the course of dealings between the parties suggests so.
3. If there is a custom or usages of a particular trade.
According to the Section 13 of Sales of Goods Act, 1930, a breach of condition may
be treated as a breach of warranty in the following circumstances:
1. Where a contract of sale is subject to any condition to be fulfilled by the seller,
the buyer may waive the condition.
2. Where the buyer elects to treat the breach of condition as the breach of a warranty.
3. Where the contract of sale is non-severable and the buyer has accepted the
whole goods or any part thereof.
4. Where the fulfilment of any condition or warranty is excused by law by the
reason of impossibility or otherwise.

10.10 Implied Conditions


Following are the implied conditions which are contained in the Sales of Goods Act:

10.10.1 Implied condition as to title (Section 14 A)


In the case of sale, it is implied that the seller has the right to sell the goods as he is
Business Law 117
the rightful owner/authorized agent. In the case of an agreement to sell, the seller
Sales of Goods Act, 1930 has the right to sell the goods at the time of sale. This term ensures that the buyer
can terminate the contract if the seller does not have the rightful ownership or
authority to sell the goods.

NOTES Case law: Rowland bought a second hand car from Divall, a car dealer. After a
few months, the police took the car away as it was a stolen one. The Court observed
that it was a breach of condition as to title as Divall had no right to sell the car. It was
held that Rowland could recover full price of the car from Divall. (Rowland v.
Divall)

10.10.2 Implied condition in a sale by description (Section 15)


Where there is a contract of sale of goods by description, there is an implied condition
that the goods shall correspond with the description. When a descriptive word or
phrase is used in a contract of sale to describe the product, it creates an implied
condition that the goods will be like the description. Example, a sale of seedless
pears signifies that the fruit will have no seeds. If it turns out to be a fruit with
seeds, the buyer reserves the right to reject the contract. If later on, the buyer finds
that the goods are not as per description, he may reject the goods and claim a refund
of the price.

10.10.3 Implied condition in sale by sample (Section 17)


Where a sample of the ordered product is provided to the buyer, and the parties treat
the sample as of a standard quality for the sale, there is a condition that the goods
will conform to the sample. Such sale is termed as a sale by sample.
In the case of a contract for sale by sample, there is an implied condition:
that the major part of the product shall correspond with the sample in quality;
that the buyer shall have the opportunity of comparing the major part of the
product with the sample;
that the goods shall be free from any defect, making them unmerchantable,
which would not be apparent from reasonable examination of the samples.
Case law: Ruben agreed to buy some rubber material from Fair Bros. The sample of
the rubber was shown to Ruben. On receiving the material, Ruben found that the
measurement of the rubber material was different from that of the sample. The Court
observed that the measurement of the rubber was part of its quality. It was held that
the goods did not correspond to the sample. (E & S Ruben Ltd. V. Fair Bros.)

10.10.4 Implied condition in a sale by sample as well as by


description (Section 15)
When the sale is by sample as well as by description, it is not sufficient that the bulk
of the goods correspond with the sample only and not with the description. Thus, the
bulk of goods should correspond with both, the sample as well as the description.

10.10.5 Implied condition as to fitness or quality (Section 16)


Usually, there is no implied condition that the goods supplied by the seller should be
Business Law 118 fit for the particular purpose of the buyer. The rule Caveat emptor applies instead.
This means that while purchasing the goods, it is the responsibility of the buyer to Sales of Goods Act, 1930
check whether the goods he is buying are fit for his purpose. However, in the
following situations, the responsibility as to fitness of goods is on the seller:
the buyer makes known to the seller the particular purpose for which the goods
NOTES
are required,
Check your progress
the buyer relies on the expertise and judgment of the seller, and Differentiate between
the sellers business is to deliver and supply such goods whether he is the existing goods and future
goods.
manufacturer or producer or not.
Discuss the conditions and
It is important that the specific purpose for which the goods can or are to be used warranties under the sale of
goods Act.
should be made known to the seller.
What do you understand
by implied conditions?.
10.10.6 Implied Condition as to merchantability (Section 16)
Where goods are bought by description from a seller who deals in goods of that
description (he may or may not be the manufacturer or producer), there is an implied
condition that the goods shall be of merchantable quality.
The condition of merchantability is applicable in the following circumstances:
1. The goods are sold to the buyer by description.
2. The seller actually sells such goods.
If a buyer examines the goods before purchasing them, and the defects are evident,
then the condition of merchantability does not apply to the extent of such defects.
However, if some defects are noticed later as they were not evident but latent, then
the condition of merchantability would apply, even if the buyer had inspected the
goods properly.
Example: Raman, the owner of a stationery shop sells a house to Reena. Here, no
condition of merchantability applies because Raman is not a property dealer. Reena
should be aware that Raman could not be held liable, in case the property purchased
by her is not a valid sale.

10.10.7 Implied condition as to wholesomeness


The condition of fitness of merchantability in case of goods requires that the goods
should be wholesome, i.e., fit for the purpose of consumption. This condition is a
part of the condition as to merchantability. It is applicable in cases of eatables, i.e.,
foodstuffs and other goods, which are used for human consumption. As per this
condition, goods sold must be fit for human consumption.

10.10.8 Implied condition implied by custom [Section 16(3)]


An implied condition as to quality or fitness for a particular purpose may be attached
by the usage of trade. In commercial exchanges, evidence of custom is attached in
the case of incidences in written contracts in matters of which they are silent.

10.11 Implied Warranties


Whenever a product is sold, it is assumed that there are certain Warranties that are Business Law 119
given by the seller. It is a warranty which the law implies into the contract of sale. It
Sales of Goods Act, 1930 can be stated that it is the stipulation, which has not been included in the contract of
sale in express words. However, the law presumes that the parties have included it
into their contract. It can also be noted that an implied warranty is read into every
contract of sale unless they are expressly excluded by the express agreement of the
NOTES
parties. These may also be excluded by the course of dealings between the parties
or by usage of trade [Section 62]. It may be noted that sometimes there is conflict
between the express and the implied warranties. In such cases, the express terms
shall prevail and the implied terms shall not be considered.

10.11.1 Warranty as to quiet possession [Section 14(b)]


There is an implied warranty that the buyer shall have and enjoy, quiet possession of
the goods. The breach of this warranty gives buyer a right to claim damages from
the seller.
Case law: Burmingham sold a second hand radio to Mason, who spent Rs.100 on
the repairs of this radio. This radio was seized by the police as it was a stolen one.
Mason filed a suit against Burmingham including the cost of repairs. It was held that
Mason was entitled to recover the same. (Mason v. Burmingham)

10.11.2 Warranty as to non-existence of encumbrances [Sec-


tion 14 (c)]
There is an implied warranty that the goods are free from any charge or encumbrance
in favour of any third person, if the buyer is not aware of such charge or encumbrance.
The breach of this warranty gives the buyer a right to claim damages from the
seller.
Example: Ramesh borrowed Rs.5000 from Shankar and hypothecated his radio
with Shankar as a security. Later on, Ramesh sold his radio to Subodh who bought
the same in good faith. Here, Subodh can claim damages from Ramesh because his
possession is disturbed since the radio had been kept with Shankar.

10.11.3 Warranty as to quality or fitness for a particular purpose


which may be annexed by the usage of trade [Section 16(3)]
This relates to the quality or fitness for a particular purpose which may be attached
by the usage of trade.
Example: Mohan buys 100 shares through a share broker. Later he requests for
those shares to be registered in his name. However, the shares are received by him
without registration and are marked as bad delivery. Mohan can claim the damages
from the broker, because in accordance with the trade usage, it is the responsibility
of the broker to ensure that there is no loss caused as a result of bad deliveries of
the shares purchased through him.

10.11.4 Warranty to disclose dangerous nature of goods


In case of goods of dangerous nature the seller must disclose or warn the buyer of
the probable danger. If the seller fails to do so, the buyer may make him liable for
breach of implied warranty.
Business Law 120
10.11.5 Change of a condition into warranty Sales of Goods Act, 1930

If there is breach of a Condition by a seller, the buyer can opt to reject and return the
goods to the seller. In the case, there is a breach of Warranty by the seller, the buyer
can claim damages. When a breach of condition is treated as breach of warranty, NOTES
then the main implication is the availability of the kind remedies that the buyer can
resort to. In the following situations, breach of condition is treated as a breach of
warranty:
a) Option of the buyer: This happens when the buyer instead of putting an end
to the contract, accepts the goods in return for damages from the seller.
b) When the circumstances are such that the goods sold cannot be returned:
This takes please when the buyer has already accepted the goods. According to
Section 42 of the Act, the buyer is deemed to have accepted the goods when he
informs the seller of his acceptance, or the buyer continues to retain them for a
long time without any such indication to the seller.

10.12 Distinguish between a condition and warranty

Condition Warranty
A condition is a stipulation which is essential A warranty is a stipulation which is collateral
to the main purpose of the contract. to the main purpose of the contract.
For the breach of condition, the affected For the breach of warranty, the affected party
party can abandon the contract of sale. can claim damages only.
A breach of condition may be treated as a A breach of warranty cannot be in any way
breach of warranty. This happens if the treated as breach of condition.
affected party decides to claim damages only.

10.13 Doctrine of Caveat Emptor - Section 16


The maxim Caveat Emptor means let the buyer beware. In other words, the buyer
must take care of his own interest while purchasing the goods. While purchasing the
goods the buyer should check the goods carefully. If a buyer purchases the goods
and after it he comes to know that these are defective. In this case seller will not be
responsible for this defect. The object of this principle is to make the buyer more
careful in purchasing. It is his duty that he should check the quality and fitness of the
commodity which he needs.
This law is framed to save the buyer from the expected loss in future.
Example: Mr. Krishna went to market and purchased a bike to take a part in Bike
race competition. But he did not tell the seller that for which purpose he is buying.
When he reached home, he came to know that this bike is not suitable for bike race
competition. Due to the principal of Caveat Emptor Mr. Krishna can neither reject
the bike nor can claim for compensation.
However, in the following exceptions, the Doctrine of caveat emptor is not applicable.
a) When the seller is aware of the purpose for which the buyer requires the product Business Law 121
Sales of Goods Act, 1930 and when the buyer relies on the judgement and skill of the seller, there is an
implied condition that the product purchased serves the purpose for which it
was bought. When the goods are sold under a trade name or patent mark, this
condition does not apply.
NOTES
b) When the buyer purchases products from the seller who sells such class of
goods, there is an implied condition that the product is of merchantable quality.
c) Proof of reasonable usage or custom of trade may also establish an implied
condition with regard to quality or fitness of goods for a particular purpose.
d) The doctrine of Caveat Emptor shall not apply to all those purchases, which
have been made by a buyer under a contract where the seller obtained his
consent by fraud. A seller, who is guilty of fraud, shall have no protection of the
doctrine of caveat emptor.
e) When a buyer, having satisfied with the quality of the sample offered by the
seller, purchases in bulk, the Doctrine of Caveat Emptor will not apply when he
finds defects in the bulk or if the bulk does not correspond with the product
sample offered to him.
f) Where the seller has made a false representation relating to the goods and the
buyer has relied upon it, the doctrine of Caveat Emptor will not apply. Such a
contract being voidable at the option of the innocent party, the buyer has a right
to rescind the contract.

10.14 Transfer of Ownership


The transfer of ownership (or property in legal terminology) is important as it
determines who owns the goods at a particular point during the contract. The sole
purpose of a sale is the transfer of ownership of the goods from seller to buyer. On
passing of property from the seller to the buyer, the buyer becomes the owner of the
goods and acquires all the rights held by the seller in respect of the goods sold. The
term transfer of property implies transfer of ownership and not physical possession
of goods. The person who is the owner of goods may or may not have the possession
of goods or the person having the possession may or may not be owner of goods.

10.14.1 Transfer of ownership of specific goods- Sections 20-22


In case of the sale of specific goods, the rules relating to the transfer of ownership
are contained in Sections 20-22 of the Sales of Goods Act which may be discussed
as under:

10.14.1.1 Ownership is transferred at the time of making contract


The ownership is transferred immediately at the time of making the contract if all
the following conditions are satisfied:
a) The contract is for the specific goods.
b) The goods are in deliverable state.
c) The goods are not required to be weight or measured for determining price.
Business Law 122
Example: A sold to B, 100 bales of cotton lying in his warehouse. Before the bales
could be identified and separated, all the bales were destroyed on the fire. Here, the Sales of Goods Act, 1930
seller is liable for damage because the ownership is not transferred.
10.14.1.2 Ownership is transferred when goods are put in deliverable state
If the goods are not ready in the deliverable state at the time of making the contract NOTES
of sale, the ownership of goods is transferred after the formation of the contract of
sale when the following conditions are satisfied:
a) The contract is for the specific goods.
b) The goods are put in deliverable state by the seller.
c) The fact that the goods are put into a deliverable state has come to the knowledge
of the buyer.
Example: A certain quantity of oil was purchased by A. The oil was to be filled in
tins. B filled up some of the tins and informed A to take the delivery. In the meantime,
a fire destroyed the entire quantity of oil. Held, A will bear the loss of the oil which
was filled in the tins and the seller must bear the loss of the balance.
10.14.1.3 Ownership is transferred when goods in deliverable state put to
weighted or measured to ascertained price
If the goods are not weighted or measured at the time of making a contract of sale,
the ownership of the goods is transferred after the formation of the contract of sae
when the following conditions are satisfied:
a) The contract is for the specific goods.
b) At the time of formation, the price is not determined. It is determined later by
the weight or measurement.
c) The goods are put in deliverable state by the seller.
d) The fact that goods have been weighted or measured in order to determine the
price has come to the knowledge of the buyer.
Example: A sold 10 Kg of sugar. The sugar was to be weighted. Before the sugar
was weighted, it was carried away by the flood. Held, the ownership of the sugar
was left with the seller and it did not pass to the buyer.

10.14.2 Transfer of ownership in the case of unascertained


goods- Section 18 and 23
In the case of unascertained goods, when both the parties came to know which
particular goods shall be delivered, the ownership is transferred. Following conditions
must be satisfied to transfer the ownership:
a) Ascertainment is the first step in the transfer of ownership. It means the process
of identification and setting aside of the goods from a huge mass of goods.
b) Generally, it is made by the seller (unilateral act).
c) The contract to sell unascertained goods is not a complete sell. It is the agreement
to sell.
Example: 20 bags of sugar out of a bulk were agreed to be sold. 4 bags of sugar
were filed up and taken away by the buyer. Subsequently, the seller filled up 16 bags Business Law 123
Sales of Goods Act, 1930 and informed the buyer. The buyer replied that he will take the delivery as soon as
possible. However, before the buyer could take their delivery, the goods were lost.
Held, the buyer was responsible as the ownership has passed to the buyer.

NOTES
10.14.3 Transfer of ownership in the case of goods sale on approval
or on sale or return basis - Section 24
Check your progress The term sale on approval basis may be defined as the sale in which the buyer may
Distinguish between return the goods within a reasonable time. This is also known as sale on return
condition and warranty. basis. It means the buyer has the option either to return or retain the goods. Here,
Define the doctrine of the property in goods does not pass from the seller to the buyer:
caveat emptor.
Discuss the transfer of
ownership of specific
goods.

Example: A certain jewellery was delivered to a buyer on sale or return basis. The
buyer pledged the jewellery. Held, the buyer had adopted the transaction and as
wh
such the property has passed and the seller could not recover the jewellery from the
acc
Pawnee.
Wh
tran
10.15 Delivery of Goods Wh
a) i
Apart from the transfer of property in the goods from the seller to the buyer, a
contract of sale of goods envisages two other important events, the delivery of the
goods to the buyer and the payment of the price to the seller. The delivery of the b) i

goods and payment of the price must be done in accordance with the terms of the
contract. If there are no terms in the contract, then the delivery of goods and payment
of price are concurrent conditions, i.e. both must take place at the same time, for
instance, goods purchased for cash over a shop counter.
Delivery means voluntary transfer of possession of goods from one person to another
[sec. 2(2)]. The rules regarding the delivery of goods are contained in Sec. 33 to
Sec. 39 of the Sale of Goods Act, which may be grouped as under:
10.15.1 Modes of delivery (Section 33)
Delivery of goods may be made in any of the following three ways:
10.15.1.1 Actual delivery
The term actual delivery may be defined as the delivery where the goods are
Business Law 124 handed over by the seller to the buyer or his authorised agent. In other words, when
the goods are physically put in possession of the buyer, the delivery is said to be Sales of Goods Act, 1930
actual.
Example: Amar sold 10 tins of oil to Akbar and delivered the same to him. In this
case, there is an actual delivery of oil from Amar to Akbar.
NOTES
10.15.1.2 Constructive delivery or delivery by attornment
Where a third person (e.g., a bailee) who is in possession of the goods of the seller
at the time of the sale acknowledges to the buyer that he holds the goods on his
behalf, there takes place a delivery by attornment or constructive delivery [sec.36(3)].
This may happen in the following cases:
a) Where the seller in possession of the goods agrees to hold them on behalf of the
buyer.
b) Where the buyer is in possession of the goods and the seller agrees to the
buyers holding the goods as owner.
c) Where a third person in possession of the goods acknowledges to the buyer that
he holds them on his behalf.
Example: A sells to B 10 bags of wheat lying in Cs godown. A gives an order to C,
asking him to transfer the goods to B. C assents to such order and transfer the
goods in his books to B. this is a delivery by attornment.
10.15.1.3 Symbolic delivery
Where the goods are ponderous or bulky and incapable of actual delivery, e.g.,
haystack in a meadow, the delivery may be symbolic. Handing over of the key of a
warehouse to the buyer is symbolic delivery of the goods to the buyer and is as
effective as actual delivery, even though there is no change in the possession of the
goods.
10.15.2 Part delivery of goods - Section 34
The analysis of Sec. 34 reveals that in case of part delivery of the goods, the following
rules shall apply:
Where the part delivery is made in progress of the whole delivery, then it is
treated as a delivery of the whole. The ownership of the whole quantity is
transferred to the buyer
Where the part delivery is made with the intention of separating it from the
whole, it is not treated as a delivery of the whole. The ownership of the whole
quantity is not transferred to the buyer.

10.15.3 Apply for delivery of goods- Section 35


The buyer is bound to claim delivery. Apart from any express contract, a seller is not
bound to deliver the goods unless and until requested by the buyer. If the seller fails
to deliver the goods on the application of the buyer, the seller is guilty of breach of
contract.
10.15.4 Place for the delivery of goods- Section 36
The place for the delivery of goods may be specified in the contract itself. And
where the place is so specified, the goods must be delivered at the specified place Business Law 125
Sales of Goods Act, 1930 during the business hours and on a working day. Where there is no specific agreement
as to the place of delivery, it shall be determined as per Sec. 36(1) as:
Where there is sale of goods, the delivery must be at the place where the
NOTES goods are at the time the sale is made
In case of agreement to sell, the delivery must be at the place where the
goods are at the time the agreement to sell is made
In case of contract of sale of future goods, the delivery must take place where
the goods are manufactured or produced

10.15.5 Time for the delivery of goods- Section 36 (2)


When the time is so specified, the delivery is to be made by the seller within the
specified time. When no time is specified in the contract, the delivery of goods must
be made within a reasonable time.

10.15.6 Goods in the possession of the third party- Section


36 (3)
Sometimes, at the time of sale, the goods are in the possession of a third person. In
such cases, the effective delivery takes place only when such a person acknowledges
to the buyer, that he holds the goods on his (buyers) behalf.

10.15.7 Expenses for the delivery of the goods- Section 36 (5)


Unless otherwise agreed, the expenses incidental to putting the goods into a deliverable
state, shall be borne by the seller and the expense of receiving the goods are borne
by the buyer.

10.15.8 Delivery of wrong quantity


The rules dealing with the effect of delivery of wrong quantity may be discussed
under the following heads:
10.15.8.1 Short delivery- Section 37(1)
Sometimes, the seller delivers a lesser quantity of goods than he contracted to sell.
In such cases, the buyer may reject the goods, but if the buyer accepts it, he shall
have to pay the contract price for the goods actually delivered to him. However, in
such a case, the buyer may claim damages for short delivery of the goods.
10.15.8.2 Excess delivery- Section 37(2)
Sometimes, the seller delivers a larger (i.e., excess) quantity of goods than he
contracted to sell. In such cases, the buyer may accept the contracted quantity of
goods and reject the rest or accept the whole quantity or reject the whole quantity.
If the buyer accepts the whole of the goods delivered, he shall pay for them at the
contract price.
Note: If the goods have been rejected for short or excess delivery, the contract is
not treated as cancelled. The seller still has a right to make, within the time
limit, another delivery in accordance with the terms of the contract and the buyer is
bound to accept the same.
Business Law 126
10.15.8.3 Mixed delivery- Section 37(3) Sales of Goods Act, 1930
Sometimes, the seller delivers the goods mixed with the goods of a different description
not included in the contract. In such cases, the buyer may accept the goods which
are in accordance with the contract and reject the rest or reject the whole quantity
NOTES
of goods.

10.15.9 Delivery of goods by instalments- Section 38


As a matter of fact, the delivery of goods by instalments is not considered as a
proper delivery and the buyer is not bound to accept the goods delivered to him by
instalments, unless otherwise agreed. The pattern of delivery shall be determined by
the contract.

10.15.10 Delivery to carrier or wharfinger- Section 39


The delivery to the carrier or the wharfinger amounts as the delivery to the buyer if
the following conditions satisfy:
1. The buyer has made a reasonable contract with the carrier.
2. The seller is required to give notice to the buyer to enable him to insure the
goods.

10.16 Unpaid Seller


The seller to whom the full price of the goods sold has not been paid the price is
known as an unpaid seller. A seller of goods is deemed to be unpaid in the following
cases:
1. The price must be due but not paid
2. A negotiable instrument like cheque and bill of exchange was received but the
same has been dishonoured.
3. The seller who has obtained a decree for the price of the goods will also be an
unpaid seller if the decree has not been satisfied.
4. When the seller has been paid a large amount but small portion of the payment
remains to be paid.
5. When the price has been paid but some other expenses which were payable to
the seller has not been paid
6. The seller must have an immediate right of action for the price.
However the seller is not an unpaid seller if the buyer has tendered the price and the
seller has refused to accept it.
Example: A sells goods worth Rs 1,00,000 to B on credit of six months. After six
months, B did not pay the price. A shall be regarded as an unpaid seller.

10.17 Rights of Unpaid Seller


An unpaid seller has the right against the goods as well as against the buyer.
Business Law 127
Sales of Goods Act, 1930 10.17.1 Rights of an unpaid seller against the goods
In some cases after the sale of goods the seller continues to have possession of the
sold goods. At such times, an unpaid seller has certain rights against the goods.
NOTES These can be further studied under two heads;
10.17.1.1 Rights of unpaid seller against the goods when ownership is
transferred
When the ownership of goods is transferred to the buyer, there are three rights of an
unpaid seller. These are:
1. Right of Lien- Sections 47-49
2. Right of stoppage in transit- Sections 50-52
3. Right of Re-sale

10.17.1.2 Rights of unpaid seller against the goods when ownership is not
transferred
Where the ownership is not transferred to the buyer, the seller has the right to
withhold the delivery of goods. In case where the ownership is not transferred to the
buyer, the seller has no other right available to him.

10.17.2 Rights of unpaid seller against the buyer


An unpaid seller has the following rights against the defaulting buyer:
1. He may sue for the price- Section 55
2. He may sue for the damages for the non-acceptance of goods- Section 56
3. He may sue for the damages for the repudiation of the contract before the due
date of the delivery of goods- Section 60
4. He has the right of interest for the delayed payment- Section 61
5. He may sue the damages for the wrongful refusal to take the delivery.

10.18 Right of Lien - Sections 47-49


The Right of Lien means, the right to retain the possession of the goods until the
charges or the full price has been paid. This right is available to the unpaid seller
where the goods have been transferred to the buyer. This is because lien depends
on possession. Even if the seller has handed over the documents of title to the buyer,
the lien is not affected. According to Section 47, the unpaid seller can exercise lien,
only when the following conditions are satisfied:
Where the goods have been sold without stipulation as to credit; or
Where the goods have been sold on credit but the term of credit has expired; or
When the buyer has become insolvent.
This Section implies that the unpaid seller can exercise his lien over the goods,
even if he is in possession of such goods only as an agent for the buyer. It is to be
noted that the right of lien will be only for the price of the goods and not for any other
Business Law 128
charges.
If in such case where the unpaid seller has made only a part of the delivery of Sales of Goods Act, 1930
the goods he has the right of lien on the rest of the goods, unless such a part delivery
has been made under an agreement to waive the lien [Section 48].
NOTES
10.19 Right of Stoppage in Transit - Sections 50-52
The right of stoppage in transit is an extension of the right of lien. The right of lien is
a right to retain the possession, whereas the right of stoppage in transit is a right to
regain the possession. The right of stoppage in transit can be exercised if the goods
are in transit and the buyer has become insolvent in the meantime. The right of
stoppage in transit can be exercised by the unpaid seller where he has lost his right
of lien. The goods in transit can be stopped for the price. The unpaid seller has made
a part delivery of the goods; he may exercise his right of stoppage in transit on the
remaining part of the goods for the price.

10.19.1 Duration of transit (Section 51)


The goods are stopped to be in transit in the following situations:
1. When they are delivered to a carrier or to other agent for the purpose of
delivery to the buyer, until the buyer or his agent takes the delivery of them from
such carrier or the other bailee [Section 51(1)].
2. If the buyer rejects the goods and the carrier or the other bailee continues to
possess them, the transit continues, even if the seller has refused to receive
them back [Section 51(4)].
3. When goods are delivered to a ship chartered by the buyer, it depends on the
circumstances of the case whether the goods are in the possession of the master
as a carrier or as agent of the buyer. When the seller knows that he is delivering
the goods to someone as a carrier, who is receiving them in the character, he
delivers them with an implied right of stopping them so long as they remain in
the possession of the carrier as a mere carrier [Section 51(4)].
4. When part delivery has been made, the remainder of the goods may be stopped
in transit, unless the delivery of a part of goods shows an intention to give up the
possession of the whole of the goods [Section 51(7)].

10.20 Right of Resale


Section 54 indicates that the unpaid seller has the right of resale. When the seller
uses his right of lien or stoppage in transit, the contract continues to remain in force
and the buyer can claim delivery of goods by paying for the goods. The seller is not
expected to wait indefinitely for the buyer to make the payment. However, just
because the seller is unpaid, the property in the goods cannot pass to the unpaid
seller again. The buyer has the right to the property, and he has the option to pay the
price and take the delivery of goods at any time. Thus, under section 54, the seller
has been given a limited right to resell the goods in certain circumstances.
The seller has the right to resell the goods under the following circumstances.
Business Law 129
Sales of Goods Act, 1930 Where the goods are of perishable and will lose value in a short time:
When the goods are of perishable nature, the unpaid seller can resell the goods,
in such a situation where buyer fails to pay the price within a reasonable time. In
case of perishable goods, the unpaid seller need not give any notice of resale.
NOTES
Where the unpaid seller has used his right of lien or of stoppage in
transit and gives notice to the buyer of his decision to resell the
Check your progress
goods: Where the unpaid seller who has exercised right of lien or stoppage in
Explain the different modes
of delivery of goods. transit gives notice to the buyer of his intention to resell, the unpaid seller may, if
What do you understand
the buyer does not pay or tender the price within a reasonable time, resell the
by unpaid seller? goods.
Discuss the rights of In this case, (i.e. in the event of a resale) the unpaid seller can recover the difference
unpaid seller.
of price between the price due from the buyer and that received by the resale. Any
profit that arises on resale belongs to the seller because the resale is actually because
of a breach of contract by the buyer. The law does not permit the buyer to benefit as
a result of his own wrong. In case where no prior notice has been given, the seller
cannot claim the damages from the original buyer.

10.21 Right to withhold Delivery of Goods


The right to withhold the delivery of goods means the seller refuses to deliver the
goods to the buyer. The following conditions must be satisfied to exercise the right to
withhold the delivery of goods:
1. The seller is an unpaid seller.
2. The ownership of goods has not been passed.
The right to withhold the delivery of goods is in addition to the other remedies available
to the seller.

10.22 Delivery to Carrier


A carrier means a transporter or a bailee to whom the goods are delivered by the
seller for transportation to the buyer. When the goods are delivered to a carrier, it is
deemed delivery of goods to the buyer if the following conditions are satisfied:
1. The seller delivers exactly the same goods as per the contract.
2. The buyer has informed the carrier name, address and the goods required to be
delivered.
3. The seller delivers the goods for the purpose of delivery.

10.23 Buyers Right against the Seller or Remedies


against Seller - Sections 55-61
The buyer has the following remedies against the seller:

Business Law 130


10.23.1 Suit for damages for non-delivery Sales of Goods Act, 1930

When the seller wrongfully neglects or refuses to deliver the goods to the buyer, the
buyer may sue the seller for damages for non-delivery. This is in addition to the
buyers right to recover the price, if already paid, in case of non-delivery. NOTES

10.23.2 Suit for price


Where the buyer has paid the price and the goods are not delivered to him, he can
recover the amount paid.
10.23.3 Suit for specific performance
When the goods are specific or ascertained, a buyer may sue the seller for specific
performance of the contract and compel him to deliver the same goods. The court
orders for specific performance only when the goods are specific or ascertained
and an order for damages would not be an adequate remedy. Specific performance
is generally allowed where the goods are of special significance or value e.g. a rare
paining, a unique piece of jewellery, etc.

10.23.4 Suit for breach of warranty


Where there is a breach of warranty by the seller, or where the buyer elects or is
compelled to treat the breach of condition as breach of warranty, the buyer cannot
reject the goods. The buyer may, (a) set up the breach of warranty in extinction or
diminution of the price payable by him, or (b) sue the seller for damages for breach
of warranty.

10.23.5 Suit for damages for repudiation of contract before


due date
Where the seller repudiates the contract before the date of delivery, the buyer may
adopt any of the following two courses of action:
He may treat the contract as rescinded and sue the seller for damages. This is
also known as damages for anticipatory breach. The damages will be assessed
according to the prices prevailing on the date of breach.
He may treat the contract as subsisting and wait till the date of delivery. The contract
remains open at the risk and for the benefit of both the parties. If the seller
subsequently chooses to perform there shall be no damages otherwise he shall be
liable to damages assessed according to the prices on the day stipulated for delivery.

10.23.6 Suit for interest


The buyer may recover such interest or special damages, as may be recoverable
bylaw. He may also recover the money paid where the consideration for the payment
of it has failed.
In the absence of a contract to the contrary, the court may award interest, to the
buyer, in a suit by him for the refund of the price in a case of a breach on the part of
the seller, at such rate as it thinks fit on the amount of the price from the date on
which the payment was made.
Business Law 131
Sales of Goods Act, 1930 10.24 Sale by Non-Owners or Transfer of Title by Non-
Owners - Sections 27-30
The rule is the seller cannot transfer to the buyer of goods a better title when he
NOTES
himself has. Section 27 says where goods are sold by a person who is not the
owner thereof and who does not sell them under the authority or with the consent of
the owner, the buyer acquires no better title to goods than the seller had. The
maxim is nemo det quod non habet, which means that no one can give what he
has not got.
The general rule aims at protecting the interest of the true owner and is deemed
necessary in the larger interest of society. If a thief disposes of a stolen property, the
buyer acquire no title though he may have purchased the goods bona-fide for value,
and real owner of the goods is entitled to recover possession of goods without
paying anything to the buyer. So the buyer cannot get a good title to the goods unless
he purchases the goods from a person who is the owner thereof or who sells them
under the authority or with the consent of the owner.
The above rule as to the title is however subject to following exceptions where the
buyer gets a better title to the goods than what the seller himself possesses.

10.24.1 Sale by estoppel


When the owner of the goods, by his conduct or by his act, leads the buyer to
believe that the seller (i.e. a person who is not the owner of the goods) has the
authority to sell and induces the buyer to buy the goods, he shall be stopped from
denying the fact that the seller had no right to sell the goods.
Example: Ajay tells Vijay In the hearing and presence of Raj (the actual owner of
the goods) that he (Ajay) is the owner of certain goods. Later on, Ajay sells these
goods to Vijay. Vijay will get a good title to the goods, as Raj will be stopped from
denying the position that he projected to Vijay by his conduct of keeping silent.

10.24.2 Sale by a mercantile agent


Mercantile agent is an agent who deals in the buying and selling of the goods on
behalf of his principal. In case of sale by mercantile agent, who is in possession of
either the goods or document of title to the goods, with the consent of the owner,
sells the goods in ordinary course of business then the buyer gets the better title of
the goods, if the following conditions are satisfied:
1. The agent must be mercantile. A mercantile agent is one, who in the customary
course of business, has authority to sell goods or consign the goods for the
purpose of sale or buy goods or to raise money on the security of goods, Sec
2(9).
2. He must be in possession of the goods or documents of title to the goods with
the consent of the owner.
3. The sale is made by him in the ordinary course of business.
4. The buyer should have acted in good faith and had no notice at the time of sale,
Business Law 132 that the seller (i.e. agent) had no authority to sell.
10.24.3 Sale by one of the joint owners Sales of Goods Act, 1930

When the goods are sold by one of the several joint owners, the buyer shall get a
better title, if the following conditions are satisfied:
1. The joint owner, who makes the sale, must be in the possession of the goods NOTES
with permission of the other joint owners
2. The buyer should have acted in good faith and without the notice that the seller
had no authority to sell
Example: Ashok and Kumar jointly purchased a car. The car was in the possession
of Ashok with the consent of Kumar. Later on Ashok sold the car to an innocent
purchaser. The purchaser will get a good title.

10.24.4 Sale by person in possession under voidable contract


1. The seller must be in possession of the goods under the contract voidable.
2. The goods must have been sold before the contract is rescinded.
3. The buyer has acted in good faith.
4. The buyer has no knowledge that the seller had no authority to sell.
Example: A purchased a watch from B under fraud. A sold the watch to C who
bought it in good faith. C gets good title.

10.24.5 Sale by the seller in possession after sale


The buyer, after purchasing the goods, may leave them with the seller. In this case
a seller, after having sold the goods continues to be in the possession of the goods or
document of title to the goods re-sells these goods to new buyer, that new buyer
shall get a better title, if the buyer had acted in good faith and without the notice of
previous sale
Example: A sells certain goods to B and promises to deliver the goods the next day.
Before the delivery, A sells and delivers the goods to C, who buys them in good faith
and without the notice of the prior sale to B. C gets a good title to the goods.

10.24.6 Sale by a buyer in possession of the goods after agree-


ment to sell
Where the buyer has agreed to buy the goods and with the consent of seller, has
obtained possession of the goods or the document of title goods without being the
owner of the goods, may resell or pledge the same goods to the other party, the other
party or a pledgee shall get a valid title, free from the sellers right, if he buys them in
good faith and without any knowledge about the original sellers right over the goods.
Example: A agreed to buy some furniture from B. The payment of the price was to
be made in two instalments. The furniture was, however, delivered to A. But the
ownership of the same was to be transferred to him on the payment of the second
instalment. A sold the furniture to C who bought it in good faith. In this case, A had
the possession of the furniture under an agreement to buy and thus C got a valid title
to the furniture.
Business Law 133
Sales of Goods Act, 1930 10.24.7 Sale by a finder of goods
Sometimes, the finder of lost goods sells the goods to a buyer. In such cases, the
buyer gets a valid title to the goods if the finder sells the goods under the permitted
NOTES circumstances. It may be noted that the finder may sell the goods only in the following
circumstances:
1. When the owner cannot be found with reasonable diligence on the part of the
finder.
2. When the owner is found, but he refuses to pay the lawful charges of the finder.
3. If the goods are in danger of perishing or of losing a greater part of their value.
4. If the lawful charges of the finder, in respect of the goods amount to a minimum
of two third of their value.

10.24.8 Sale by pawnee or pledgee


Sometimes, the pawnor may make default in the repayment of the amount of loan
borrowed from the Pawnee. In such cases, the Pawnee may sell the goods after
giving a reasonable notice to the pawnor, and the buyer from such a pawnor gets a
valid title to the goods.

10.24.9 Sale by an official appointed by the court


Sometimes, the Courts may appoint a person (known as Receiver, Official Receiver,
Official Assignee or Liquidator) to take the possession of the goods and authorize
him to sell the same though he is not the owner of the goods. If any person buys
these goods from such a person (i.e. Receiver, etc.), he gets a good title.

10.25 Auction Sale - Section 64


It means public sale. The seller invites the interested parties by advertisement to
offer the price (i.e. bid). The seller may hire the service of the auctioneer. An
auctioneer is an agent of the seller. The advertisement of the auction sale is not an
offer but an invitation to make an offer and therefore if an auction sale is not held on
the appointed day, the bidder cannot sue the auctioneer.
In the case of sale by auction:
1. where goods are put up for sale in lots, each lot is prima facie deemed to be the
subject of a separate contract of sale;
2. the sale is complete when the auctioneer announces its completion by the fall of
the hammer or in other customary manner; and, until such announcement is
made, any bidder may retract his bid;
3. a right to bid may be reserved expressly by or on behalf of the seller and, where
such right is expressly so reserved, but not otherwise, the seller or any one person
on his behalf may, subject to the provisions hereinafter contained, bid at the auction;
4. where the sale is not notified to be subject to a right to bid on behalf of the seller,
it shall not be lawful for the seller to bid himself or to employ any person to bid
Business Law 134 at such sale, or for the auctioneer knowingly to take any bid from the seller or
any such person; and any sale contravening this rule may be treated as fraudulent Sales of Goods Act, 1930
by the buyer;
5. the sale may be notified to be subject to a reserved or upset price;
6. if the seller makes use of pretended bidding to raise the price, the sale is voidable NOTES
at the option of the buyer. Check your progress
Explain delivery to carrier
in brief.
10.26 Key Terms
What do you mean by
Goods: Every kind of movable property other than actionable claims and money; auction sale?
and includes stock and shares, growing crops, grass, and things attached to or
forming part of the land which are agreed to be severed before sale or under
the contract of sale.
Sale: Contract involving transfer of the possession and ownership (title) of a good
or property, or the entitlement to a service, in exchange for money or value.
Hire-purchase: Under a hire purchase contract, the buyer is leasing the goods
and does not obtain ownership until the full amount of the contract is paid.
Bailment: An act of delivering goods to a bailee for a particular purpose, without
transfer of ownership.
Condition: A condition is a stipulation essential to the main purpose of the
contract, the breach of which gives rise to a right to treat the contract as
repudiated.
Unpaid seller: A seller of goods is an unpaid seller within the meaning of the
Sale of Goods Act 1979 when the whole price has not been paid or tendered or
when a bill of exchange or other negotiable instrument has been received as
conditional payment and the condition on which it was received has not been
fulfilled by reason of the dishonour of the instrument or otherwise.
Auction sale: A sale by auction is a public sale where goods are offered to be
taken by the highest bidder.

10.27 Summary
A sale has to be bilateral because the goods have to pass from one person to
another. There must be a buyer and a seller. The seller and the buyer must be
different persons.
The price is the consideration for the contract of sale of goods. If goods are
offered as the consideration for goods, it will not amount to sale.
A Hire purchase agreement is an agreement for hire of goods where the person
who hires the goods has an option to purchase the goods at the end.
When the goods are in possession of the seller at the time the contract is entered
into, they are called existing goods.
Section 2(6) has defined future goods as Future Goods means goods to be
manufactured or produced or acquired by the seller after the making of the
Business Law 135
contract of the sale.
Sales of Goods Act, 1930 The Sale of Goods Act, identifies the terms, Conditions and Warranties as
being of a prime significance in a contract of sale. Both the terms imply a promise
that is made by the seller. However, the difference between Conditions and
Warranties arises due to the nature of the promise that is made in each case.
NOTES
Whenever a product is sold, it is assumed that there are certain Warranties that are
given by the seller. It is a warranty which the law implies into the contract of sale.
The maxim Caveat Emptor means let the buyer beware. In other words, the
buyer must take care of his own interest while purchasing the goods.
The transfer of ownership (or property in legal terminology) is important as it
determines who owns the goods at a particular point during the contract. The sole
purpose of a sale is the transfer of ownership of the goods from seller to buyer.
Apart from the transfer of property in the goods from the seller to the buyer, a
contract of sale of goods envisages two other important events, the delivery of
the goods to the buyer and the payment of the price to the seller.
The seller to whom the full price of the goods sold has not been paid the price is
known as an unpaid seller.
When the ownership of goods is transferred to the buyer, there are three rights
of an unpaid seller. These are: Right of Lien- Sections 47-49, Right of stoppage
in transit- Sections 50-52 and Right of Re-sale.
Section 54 indicates that the unpaid seller has the right of resale. When the
seller uses his right of lien or stoppage in transit, the contract continues to remain
in force and the buyer can claim delivery of goods by paying for the goods.
The right to withhold the delivery of goods means the seller refuses to deliver
the goods to the buyer.
A carrier means a transporter or a bailee to whom the goods are delivered by
the seller for transportation to the buyer.
Auction sale means public sale. The seller invites the interested parties by
advertisement to offer the price (i.e. bid).

10.28 Questions and Exercise


1 Define the goods. Explain it with suitable examples.
2 State briefly the essential elements of a contract of sale under the Sales of
Goods Act, 1930.
3 Distinguish between a sale and an agreement to sell.
4 What do you understand by the conditions and warranties of a contract of the
sales of goods?
5 What are the circumstances when a condition can be treated as a warranty?
6 What are the implied warranties in a contract of sale under the sales of goods
act, 1930?
7 What do you understand by caveat emptor under the sale of goods act, 1930?
What are the exceptions to this rule?
Business Law 136
8 In the contract of sale, when does the property in goods passes on to the buyer? Sales of Goods Act, 1930

9 What are the rules relating to the delivery of the goods in a contract of sale of
goods?
10 Write a short note on an unpaid sellers lien. NOTES
11 What type of remedies are available to the buyer against the seller?
Practical Problems
1. A, a farmer, agrees to sell B, coconuts, provided there is good rain during sea-
son. Is it sale or agreement to sell?
2. A agrees to sell his 100 bags of rice to B at a price to be fixed by C. But C failed
to fix the price. Is it valid contract now?
3. Rajesh bough a second hand car from Mahesh for Rs 1,05,000 and paid for it.
After Rajesh has used the car for six months, he was deprived of it because
Mahesh had no title to it. Can Rajesh recover the price of the car from Mahesh?
Advice Rajesh.
4. A goes to Bs shop and purchases a silk saree, thinking that it is made of Banarsi
Silk. The shopkeeper knows that As thinking is wrong. He, however, does not
correct As impression. Later on, when A discovers that the saree is not made of
Banarsi- silk he wants to avoid the contract. Would A succeed? Give reasons.
5. Ashish sells to Amit a specific horse which is to be delivered to Amit the next
week. Amit is to pay the price on delivery. In the next week, Amit was ready to
pay the price for the horse but Ashish was not in a position to deliver the horse
to Amit. Ashish asks Amit to take delivery of the horse after another week and
pay the price then. During the second week, the horse dies before it is delivered
and paid for. Who shall bear the loss? Explain.

10.29 Further Readings and References


Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Manage-
ment, Vikas Publishing House Pvt. Limited.

Business Law 137


Sales of Goods Act, 1930

NOTES

Business Law 138


The Negotiable Instruments Act,
Unit 11: The Negotiable Instruments Act, 1881 1881

Structure
11.0 Introduction NOTES
11.1 Unit Objectives
11.2 Characteristics of a Negotiable Instrument
11.3 Presumptions as to Negotiable Instrument
11.4 Promissory Note- Section 4
11.5 Bill of Exchange- Section 5
11.6 Cheque- Section 6
11.7 Distinction between a Bill of Exchange and a Cheque
11.8 Capacity of a Person to be a Party to a Negotiable Instrument
11.9 Classification of Negotiable Instruments
11.10 Incomplete Instrument or Inchoate Instrument- Section 20
11.11 Maturity of a Negotiable Instrument- Sections 22-25
11.12 Negotiation- Section 14
11.13 Endorsement- Sections 15 and 16
11.14 kinds of Endorsements- Sections 16, 50, 52 and 60
11.15 Negotiation Back
11.16 Distinction between Negotiation and Assignment
11.17 Crossing of Cheque
11.18 Bouncing or Dishonour of Cheques- Section 31 and 138
11.19 Holder- Section 8
11.20 Privileges of a Holder in Due Course
11.21 Payment in Due Course- Section 10
11.22 Protection to Paying Banker- Section 85
11.23 Liability of the Paying Banker and Collecting Banker- Section 129
11.24 When Banker must Refuse to Honour a Customers Cheque
11.25 Banker may Refuse to Honour a Customers Cheque
11.26 Material Alteration
11.27 Acceptance of Bill
11.28 Acceptance for Honour
11.29 Payment for Honour
11.30 Dishonour by Non-Payment
11.31 Discharge of a Negotiable Instrument
11.32 Discharge of a Party
Business Law 139
The Negotiable Instruments Act, 11.33 Key Terms
1881
11.34 Summary
11.35 Questions and Exercise
NOTES 11.36 Further Readings and References

11.0 Introduction
The act was originally drafted in 1866 by the Indian Law Commission and intro-
duced in December 1867 in the Council and it was referred to a Select Committee.
The draft then modified several times and was introduced in the Council and was
passed into law in 1881being the Negotiable Instruments Act, 1881. Subsequent
amendments were then implemented from time to time.The Negotiable Instruments
Act was enacted, in India, in 1881.The Act operates subject to the provisions of
Sections 31 and 32 of the Reserve Bank of India Act, 1934. Section 31 of the
Reserve Bank of India Act provides that no person in India other than the Bank or
as expressly authorised by this Act, the Central Government shall draw, accept,
make or issue any bill of exchange, hundi, promissory note or engagement for the
payment of money payable to bearer on demand. Negotiable instrument means a
promissory note or bill of exchange or cheque payable either to order or to the
bearer. An instrument, the property in which is acquired by anyone, who takes it
bonafide and for value notwithstanding any defect in the title of any prior party is
known as a negotiable instrument.

11.1 Unit Objectives


After completing this unit, students will be able to:
Understand the characteristics and presumptions of the negotiable instruments
Know the meaning of promissory note, bill of exchange and cheques
Explain the classification of negotiable instruments
Get familiar with the endorsement
Understand the meaning of crossing of bills
Discuss the discharge of a negotiable instrument

11.2 Characteristics of a Negotiable Instrument


The important characteristics of the negotiable instrument are as follows:
1. Negotiable instrument must be payable either to order or to bearer.
2. Negotiable instruments are freely transferable form one person to another.
3. It is transferable infinitum (i.e., indefinitely), it means it can be transferred for
any number of times.
4. The holder in due course gets a good title to negotiable instrument even though
Business Law 140 the title of transferor is defective.
5. The holder of the instrument is presumed to the owner of the property con- The Negotiable Instruments Act,
1881
tained in it.
6. A negotiable instrument may name more than one payee, jointly or alternatively.
NOTES
11.3 Presumptions as to Negotiable Instruments
Sections 118 and 119 of the Negotiable Instrument Act lay down certain presump-
tions which the court presumes in regard to negotiable instruments. In other words
these presumptions need not be proved as they are presumed to exist in every
negotiable instrument. Until the contrary is proved the following presumptions shall
be made in case of all negotiable instruments:
1. Of consideration: that every negotiable instrument was made or drawn for
consideration, and that every such instrument, when it has been accepted, en-
dorsed, negotiated or transferred, was accepted, endorsed, negotiated, or trans-
ferred for consideration;
2. as to date: that every negotiable instrument bearing a date was made or drawn
on such date;
3. as to time of acceptance: that every accepted bill of exchange was accepted
within a reasonable time after its date and before its maturity;
4. as to time of transfer: that every transfer of a negotiable instrument was
made before its maturity;
5. as to order of indorsements: that the indorsements appearing upon a nego-
tiable instrument were made in the order in which they appear thereon;
6. as to stamp: that a lost promissory note, bill of exchange or cheque was duly
stamped;
7. that holder is a holder in due course: that the holder of a negotiable instru-
ment is a holder in due course provided that, where the instrument has been
obtained from its lawful owner, or from any person in lawful custody thereof, by
means of an offence or fraud, or has been obtained from the maker or acceptor
thereof by means of an offence or fraud, or for unlawful consideration, the
burden of proving that the holder is a holder in due course lies upon him.

11.4 Promissory Note - Section 4


Section 4 of the Act defines, A promissory note is an instrument in writing (note
being a bank-note or a currency note) containing an unconditional undertaking, signed
by the maker, to pay a certain sum of money to or to the order of a certain person,
or to the bearer of the instruments.

11.4.1 Essential characteristics of a Promissory Note


To be a promissory note, an instrument must possess the following essentials:
1. Must be in writing: A mere verbal promise to pay is not a promissory note.
The method of writing (either in ink or pencil or printing, etc.) is unimportant, but
Business Law 141
it must be in any form that cannot be altered easily.
The Negotiable Instruments Act, 2. Must certainly an express promise or clear understanding to pay: There
1881
must be an express undertaking to pay. A mere acknowledgment is not enough.
The following are not promissory notes as there is no promise to pay.

NOTES Example: Mr. B.I.O.U Rs. 10,000. There is no promise to pay and therefore
this is not a valid promissory note.
3. Must be unconditional: A conditional undertaking destroys the negotiable
character of an otherwise negotiable instrument. Therefore, the promise to pay
must not depend upon the happening of some outside contingency or event. It
must be payable absolutely.
4. Signed by the maker: The person who promises to pay must sign the instru-
ment even though it might have not been written by the promisor himself. There
are no restrictions regarding the form or place of signatures in the instrument. It
may be in any part of the instrument. It may be in pencil or ink, a thumb mark or
initials.
5. Must be certain: The note self must show clearly who the person is agreeing
to undertake the liability to pay the amount. In case a person signs in an as-
sumed name, he is liable as a maker because a maker is taken as certain if from
his description sufficient indication follows about his identity. In case two or
more persons promise to pay, they may bind themselves jointly or jointly and
severally, but their liability cannot be in the alternative.
6. The payee must be certain: The instrument must point out with certainty the
person to whom the promise has been made. The payee may be ascertained by
name or by designation.
7. The promise should be to pay money and money only: Money means legal
tender money and not old and rare coins. A promise to deliver paddy either in
the alternative or in addition to money does not constitute a promissory note.
8. The amount should be certain: One of the important characteristics of a
promissory note is certainty- not only regarding the person to whom or by whom
payment is to be made but also regarding the amount.

11.5 Bill of Exchange - Section 5


According to the Negotiable Instruments Act, 1881, a bill of exchange is defined as
an instrument in writing containing an unconditional order, signed by the maker,
directing a certain person to pay a certain sum of money only to, or to the order of a
certain person or to the bearer of the instrument.
Examples:
1. A wrote and signed an instrument ordering B to pay Rs 500 to C this is a bill
of exchange.
2. On demand pay to A or order the sum of Rs. 500 for value received.
The following are the features of a bill of exchange:
1. It is an order to make payment.
Business Law 142
2. The order to make payment is unconditional. The Negotiable Instruments Act,
1881
3. The maker of the bill of exchange must sign it.
4. The payment to be made must be certain.
5. The date on which payment is made must also be certain. NOTES

6. The bill of exchange must be payable to a certain person.


7. The amount mentioned in the bill of exchange is payable either on demand or on
the expiry of a fixed period of time.
8. It must be stamped as per the requirement of law.
According to the Negotiable Instruments Act, A bill of exchange is generally drawn
by the creditor on his debtor. It has to be accepted by the drawee (debtor) or some-
one on his behalf. It is just a draft till it is acceptance.
The person who draws or makes the bill is known as the drawer. His liability is
secondary and conditional. The person on whom the bill is drawn is called the drawee.
On the acceptance of the bill, the drawee is called as the acceptor. He becomes
liable for the payment of the bill and his liability is primary and unconditional. The
person to whom the money is to be paid is known as the payee.

11.6 Cheque - Section 6


A cheque is a bill of exchange, drawn on a specified banker and it includes the
electronic image of truncated cheque and a cheque in electronic form. The cheque
is always payable on demand. A cheque must contain all the characteristics of a bill
of exchange. The essentials characteristics of a cheque can be summarized as
under-
1. It must be in writing.
2. It must contain an express order to pay.
3. The order to pay must be definite and unconditional.
4. It must be signed by the drawer.
5. The sum contained in the order must be certain.
6. The order must be to pay money only.
7. Drawer, drawee and payee must be certain.
8. It is always drawn upon a specified banker.
9. It is always payable on demand.
A cheque does not require stamping or acceptance. The person, who draws or
makes the cheque is called as drawer. His liability is primary and conditional. The
bank on whom, the cheque is drawn is called as drawee. The bank makes the
payment of the cheque. The person to whom money is to be paid is called as payee.
The payee may be the drawer him-self or a third party. A cheque is usually valid for
6 months. However, it is not invalid if it is post-dated or antedated.

Business Law 143


The Negotiable Instruments Act, 11.6.1 Truncated Cheque
1881
A truncated cheque means a cheque which is truncated during the course of a
clearing cycle either by the clearing house or bank whether paying or receiving
payment immediately on generation of an electronic image for transmission, substi-
NOTES
tuting the further physical movement of the cheque in writing.

11.6.2 Cheque in electronic form


A cheque in electronic form means a cheque which contains the exact mirror image
of paper cheque and is generated, written and signed in secure system, ensuring the
minimum safety standards with the use of digital signature (with or without biomet-
ric signature) and asymmetric crypto system.

11.6.3 Presentment of truncated cheque


In case of and reasonable suspicion about the genuineness of the electronic image
of a truncated cheque (e.g., suspicion as to fraud, forgery, tampering or destruction
of the instrument), the paying banker is entitled to demand any further information
regarding the truncated cheque. The payee banker can also demand the present-
ment of truncated cheque itself for verification.

11.7 Distinction Between Bill of Exchange and Cheque

Basis for Distinction Bill of Exchange Cheque

Meaning A written document that shows the A document used to make easy
indebtedness of the debtor towards the payments on demand and can
creditor. be transferred through hand
delivery is known as cheque.
Defined in Section 5 of The Negotiable Section 6 of The Negotiable
Instrument Act, 1881 Instrument Act, 1881
Validity Period Not Applicable 3 months
Payable to bearer on Cannot be made payable on demand Always
demand as per RBI Act, 1934
Grace Days 3 days of grace are allowed. Not Applicable, as it is always
payable at the time of
presentment.
Acceptance Bill of exchange needs to be accepted. A cheque does not require
acceptance.
Stamping Must be stamped. No such requirement.
Crossing No Yes
Drawee Person or Bank Bank
Noting or Protesting If a bill of exchange is dishonoured it If the cheque is dishonoured it
can be noted or protested. cannot be noted or protested

Business Law 144


The Negotiable Instruments Act,
11.8 Capacity of a Person to be a Party to Negetioble 1881
Instrument
Every person capable of contracting, according to the law to which he is subject,
NOTES
may bind himself and be bound by the making, drawing, acceptance, endorsement,
Check your progress
delivery and negotiation of a promissory note, bill of exchange or cheque.
Discuss the salient features
A minor may draw, endorse, deliver and negotiate such instruments so as to bind all of negotiable instruments.
parties except himself. Nothing herein contained shall be deemed to empower a What do you understand
corporation to make, indorse or accept such instruments except in cases in which, by the promissory notes?
under the law for the time being in force, they are so empowered. Distinguish between bill of
exchange and cheque.
An agent who signs in his name on a promissory note, bill of exchange or cheque
without indicating thereon that he signs as an agent will be personally liable on
instrument.

11.9 Classification of Negotiable Instruments


Negotiable instruments may be classified as follows:

11.9.1 Order instrument Section 13


The negotiable instrument is payable to order-
1. Which is payable to a particular person.
2. Which is payable to a particular person or his order.
3. Which is payable to the order of a particular person.

11.9.2 Bearer instrument


The negotiable instrument is payable to bearer when-
1. It is expressed to be payable to bearer.
2. The last endorsement is in blank.
A promissory note cannot be payable to bearer. The bill of exchange cannot be
made payable to bearer on demand.

11.9.3 Demand instrument- Sections 19-21


The negotiable instrument, on which time for payment is not specified, is an instru-
ment payable on demand. The negotiable instrument which is expressed to be pay-
able on demand is also demand instrument.
A cheque is always payable on demand. A demand instrument may be presented for
payment at any-time. The demand instrument is not entitled to any days of grace.

11.9.4 Time instrument


An instrument in which the time for payment is specified is known as time instru-
ment. The time instrument may be payable-
1. On a specified day or
Business Law 145
The Negotiable Instruments Act, 2. After a specified period or
1881
3. Certain period after sight or
4. On the happening of an event which is certain to happen.
NOTES
11.9.5 Inland instrument- Section 11
A negotiable instrument is an inland instrument if it is-
1. Drawn or made in India.
2. Payable in India or is drawn on a person resident in India.
Example: A bill drawn in India payable in Japan, upon a person in India is an inland
instrument.

11.9.6 Foreign instrument- Section 12


The negotiable instrument which is not an inland instrument is called as foreign
instrument. The foreign instrument must be drawn outside India and made payable
outside or inside India.

11.9.7 Ambiguous instrument- Section 17


An ambiguous instrument means an instrument which can be constructed either as
a promissory note or bill of exchange. Once the option is exercised, the instrument
shall be treated accordingly.

11.9.8 Accommodation bill


An accommodation bill means a bill which is drawn accepted without consideration.
The person who becomes the holder of such a bill of good faith and for consider-
ation after maturity may recover the amount from anyparty.

11.9.9 Fictitious bill


A factitious bill is a bill in which the name of the drawer or the payee or both is
fictitious.

11.9.10 Documentary bill


A documentary bill means a bill to which the documents of title of the goods are
attached.

11.9.11 Clean bill


A clean bill means a bill to which no document relating to the goods, is attached.

11.10 Incomplete Instruments or Inchoate Instruments


- Section 20
Where one person signs and delivers to another a paper stamped in accordance
with the law relating to negotiable instruments then in force in 1[India], and either
wholly blank or having written thereon an incomplete negotiable instrument, he thereby
Business Law 146
gives prima facie authority to the holder thereof to make or complete, as the case The Negotiable Instruments Act,
1881
may be, upon it a negotiable instrument, for any amount specified therein and not
exceeding the amount covered by the stamp. Such instrument is called as inchoate
instrument.
NOTES
The person so signing shall be liable upon such instrument, in the capacity in which
he signed the same, to any holder in due course for such amount; provided that no
person other than a holder in due course shall recover from the person delivering the
instrument anything in excess of the amount intended by him to be paid thereunder.

11.11 Maturity of a Negotiable Instrument - Sections 22-25


Cheques are always payable on demand but other instruments like bills and notes,
may be made payable on specified date or after specified time. Maturity of a nego-
tiable instrument means the date on which the negotiable instrument falls due for
payment. The negotiable instrument which is payable otherwise than on demand is
entitled to three days of grace.

11.11.1 Calculation of days

Type of instrument Date of Maturity

Negotiable instrument payable on a specified Specified day + third day.


day.

Negotiable instrument payable on a stated Date on which negotiable instrument is


number of days after date. drawn+ stated number of days+ third day.

Negotiable instrument payable on stated Date on which negotiable instrument is


number of days after sight. presented for sight+ stated number of days+
third day

Negotiable instrument payable on stated Date on which such event happens+ stated
number of days after happening of a certain number of days + third day
event.

Negotiable instrument payable on stated Corresponding day of the relevant month*


number of months after date. (i.e. date on which negotiable instrument is
drawn+ stated number of months)+ third day.

Negotiable instrument payable in instalment. Each instalment entitled to three days of


grace.

If the day of maturity of the negotiable instrument is a public holiday instrument is


payable immediately preceding business day. But if the day of maturity of the nego-
tiable instrument is an emergency or unforeseen public holiday, the instrument is
payable immediately on the succeeding business day.
Example:
1. A negotiable instrument, dated 29th January, 1878, is made payable at one month
after date. The instrument is at maturity on the 3rd day after the 28th February,
1878. Business Law 147
The Negotiable Instruments Act, 2. A negotiable instrument, dated 30th August, 1878, is made payable three months
1881
after date. The instrument is at maturity on the 3rd December, 1878.
3. A promissory note or bill of exchange, dated 31st August, 1878, is made payable
three months after date. The instrument is at maturity on the 3rd December,
NOTES
1878.

11.12 Negotiation - Section 14


Negotiation of an instrument is the process by which the ownership of an instrument
is transferred from one person to another. According to Section 14 of the Act, when
a note, bill or cheque is transferred to any person, so as to constitute that person the
holder thereof, the instrument is said to be negotiated.A negotiable instrument can
also be transferred (by a separate deed of assignment); but in that case, the privi-
leges of negotiation will not be available to the assignee, i.e., he will not enjoy the
rights of a holder in due course. Two methods of the negotiation of instrument are
follows:

11.12.1 Negotiation by delivery


A bearer instrument may be negotiated by delivery. The delivery must be voluntary.
Exception: A promissory note, bill of exchange or cheque delivered on condition
that it is not to take effect except in a certain event is not negotiable (except in the
hands of a holder for value without notice of the condition) unless such event hap-
pens.

11.12.2 Negotiation by endorsement and delivery


An order instrument can be negotiated only by way of endorsement and delivery.

11.13 Endorsement - Section 15 and 16


The word endorsement in its literal sense means, writing on the back of an instru-
ment. But under the Negotiable Instruments Act it means, the writing of ones name
on the back of the instrument or any paper attached to it with the intention of trans-
ferring the rights therein. Thus, endorsement is signing a negotiable instrument for
the purpose of negotiation. The person who effects an endorsement is called an
endorser, and the person to whom negotiable instrument is transferred by en-
dorsement is called the endorsee.
The payee of an instrument is the rightful person to make the first endorsement.
Thereafter the instrument may be endorsed by any person who has become the
holder of the instrument. The maker or the drawer cannot endorse the instrument
but if any of them has become the holder thereof he may endorse the instrument.
(Sec. 51). The maker or drawer cannot endorse or negotiate an instrument unless
he is in lawful possession of instrument or is the holder there of. A payee or en-
dorsee cannot endorse or negotiate unless he is the holder thereof.

Business Law 148


The Negotiable Instruments Act,
11.14 Kinds of Endorsement - Sections 16, 50, 52 and 56 1881

Different kinds of possible endorsements are following:

11.14.1 Blank or general endorsement NOTES


Check your progress
It is an endorsement when the endorser merely signs on the instrument without
mentioning the name of the person in whose favour the endorsement is made. En- Write the different types of
negotiable instrument.
dorsement in blank specifies no endorsee. It simply consists of the signature of the
What do you mean by in-
endorser on the endorsement. A negotiable instrument even though payable to order complete instruments?
becomes a bearer instrument if endorsed in blank. Then it is transferable by mere Define the negotiation and
delivery. An endorsement in blank may be followed by an endorsement in full. its methods.
Example: A bill is payable to X. X endorses the bill by simply affixing his signature.
This is an endorsement in blank by X. In this case the bill becomes payable to
bearer.
There is no difference between a bill or note endorsed in blank and one payable to
bearer. They can both be negotiated by delivery.

11.14.2 Special or full endorsement (Section 16)


When the endorsement contains not only the signature of the endorser but also the
name of the person in whose favour the endorsement is made, then it is an endorse-
ment in full. Thus, when endorsement is made by writing the words Pay to A or As
order, followed by the signature of the endorser, it is an endorsement in full. In such
an endorsement, it is only the endorsee who can transfer the instrument.
Example: A is the holder of a bill endorsed by B in blank. A writes over Bs signa-
ture the words Pay to C or order. A is not liable as endorser but the writing
operates as an endorsement in full from B to C.

11.14.3 Partial endorsement (Section 56)


A partial endorsement is one which purports to transfer to the endorsee a part only
of the amount payable on the instrument. Such an endorsement does not operate as
a negotiation of the instrument.
Example: A is the holder of a bill for Rs.1000. He endorses it pay to B or order
Rs.500. This is a partial endorsement and invalid for the purpose of negotiation.

11.14.4 Restrictive endorsement (Section 50)


The endorsement of an instrument may contain terms making it restrictive. Restric-
tive endorsement is one which either by express words restricts or prohibits the
further negotiation of a bill or which expresses that it is not a complete and uncondi-
tional transfer of the instrument but is a mere authority to the endorsee to deal with
bill as directed by such endorsement.
Example: Pay C, Pay C for my use, Pay C for the account of B are in-
stances of restrictive endorsement. The endorsee under a restrictive endorsement
acquires all the rights of the endorser except the right of negotiation.

Business Law 149


The Negotiable Instruments Act, 11.14.5 Conditional or qualified endorsement
1881
It is open to the endorser to annex some condition to his owner liability on the
endorsement. An endorsement where the endorsee limits or negatives his liability by
NOTES putting some condition in the instrument is called a conditional endorsement. A con-
dition imposed by the endorser may be a condition precedent or a condition subse-
quent. An endorsement which says that the amount will become payable if the
endorsee attains majority embodies a condition precedent. A conditional endorse-
ment unlike the restrictive endorsement does not affect the negotiability of the in-
strument. It is also sometimes called qualified endorsement. An endorsement may
be made conditional or qualified in any of the following forms:
11.14.5.1 Sans recourse
The endorser relieves himself from the liability to all subsequent endorsees. It is a
type of endorsement on a negotiable instrument by which the endorser absolves
himself or declines to accept any liability on the instrument of any subsequent party.
The endorser signs the endorsement, putting his signature along with the words,
SANS RECOURSE.
11.14.5.2 Facultative
The endorser waives any of his rights.
11.14.5.3 Contingent
The endorser makes his liability dependent upon happening of some event.
Example:The holder of bill endorse it- pay A or order on his marrying B. In such
case, the endorser will not be liable until A marry to B.

11.15 Negotiable Back


Negotiation back is a process under which an endorsee comes again into posses-
sion of the instrument in his own right. Where a bill is re-endorsed to a previous
endorser, he has no remedy against the intermediate parties to whom he was previ-
ously liable though he may further negotiate the bill.
Example: A, holder of bill endorses it to B, B endorses it to C and C to D and D
endorses it again to A.

11.16 Distinction Between Negotiation and Assignment


The differences between negotiation and assignment are given as follows:

Business Law 150


Basis for Negotiation Assignment The Negotiable Instruments Act,
1881
distinction
Applicable If a negotiable instrument is transfer Where any right is transfereed by
Act by way of negotiation, Negotiable way of assignment, the Transfer of
NOTES
Instrument Act, 1881 applies. Property Act applies.
Meaning Negotiation means transfer of a Transfer of a right to receive the
negotiable instrument to any other payment of a debt by one person
person so as to constitute that person (viz., assignee) to another person
the holder of such negotiable (viz., assignee) by way of a written
instrument. document is called as assignment.
Scope Negotiation can be made for Assignment can be made of any
transferring negotiable instrument right.
only.
Method or A bearer instrument can be negotiated Assignment is valid only if it is
manner merely by deliver, and an order made in writing and is signed by
instrument can be negotiated by the assignor.
endorsement and delivery.
Notice Notice of negotiation is not required to Notice of assignment must be
be given to any party. given by the assignee to the
debtor.
Consideration It is presumed that every negotiable There is no such presumption in
instrument was negotiated for case of assignment.
consideration.
Burden of The other party has to prove that The assignee has to prove that
proof negotiation was without any there some consideration.
consideration.
Better title The transferee of a negotiable The assignee does not acquire a
instrument acquires a title better than title better than that of the
that of the transferor, i.e; he becomes a assignor.
holder in due course.
Stamp duty Negotiation does not require payment Assignment requires payment of
of stamp duty. stamp duty.

11.17 Crossing of Cheque


The bank allows a customer to withdraw his money from his account on demand.
However, the customer has to give his order in writing through a printed cheque
issued by the bank. Cheques may be open cheques or crossed cheques. The banker
is obliged to pay depending on the type of cheque. Certain cheques can be handed
over at the counter, and money can be received immediately. Other cheques can be
more complex in nature. A cheque must be in writing with an express order to pay
another party. It should be definite and unconditional order. It consists of three
parties. The person, who makes the cheque, is called the drawer. The cheque is
drawn on the banker, who is called is the drawee, and the third party is the payee, in
whose favour the cheque is drawn. Business Law 151
The Negotiable Instruments Act, A cheque is either open or crossed. An open or uncrossed cheque is the
1881
one for which the banker has to pay cash across the counter, when it is presented by
the customer. An open cheque is risky because, if the holder of the cheque loses it,
any person, who is in possession of it, can take the payment from the bank. The
NOTES payment of such cheques can be stopped by the drawer by writing a letter to the
banker regarding loss of cheque. To make cheques secure and useful, crossing of
cheques was adopted.
A crossed cheque cannot be paid across the counter. Crossing means a direction
given by the drawer of the cheque to the drawee bank, not to pay the cheque at the
counter of the bank but to pay it to a person who presents it through a banker.

11.17.1 Types of Crossing- Section 123-131 (A)


Crossing of cheques may be general, special or restrictive.
11.17.1.1 General crossing
According to Section 123 of the Banking Regulation Act, 1949, a general crossing
on a cheque can be made by inserting two parallel lines on the left hand top corner
of a cheque. The two lines themselves show that the cheque has to be treated in a
special way because something, in addition to an uncrossed cheque, has been in-
serted. Between the two parallel transverse lines the options are to add certain
words like - and company, & company or not negotiable.
The holder of such a cheque has the right to the cheque through his own account.
He can deposit the cheque, and when it is cleared, he will receive the money.
Example:

11.17.1.2 Special crossing


A special crossing was introduced to provide greater protection to the drawer of the
cheque. According to Section 124, a cheque is deemed to be specially crossed
when in the parallel transverse lines in a cheque the name of the banker is written
with or without the words not negotiable. Even two parallel transverse lines are
not necessary for a special crossing. When a cheque is specially crossed, cash can
be received only from the banker, whose name appears on the face of the cheque
with or without the parallel lines (Section 126). The banker, collecting the cheque
can authorize an agent bank to collect the funds on his behalf.
Example:

Business Law 152


11.17.1.3 Restrictive crossing The Negotiable Instruments Act,
1881
Restrictive crossing involves the crossing of a cheque through two parallel lines on
the left corner of a cheque. The words A/c payee are inserted inside the parallel
lines. This restriction can be made through general or special crossing. It provides a NOTES
higher protection to the drawer of the cheque, in case; a cheque is misplaced or lost.
According to this crossing, the cheque can be collected by the bank only for the Check your progress
person, whose name is written on the cheque. This crossing restricts the negotiabil- Write the different types of
ity of the cheque because the banker cannot collect cheques on behalf of any per- endorsement.
son who is not named in the cheque. If the banker makes the mistake of collecting Distinguish between nego-
tiation and assignment.
the cheque on behalf of a person whose name is not written on the cheque, he will
What is the difference be-
not be provided with any statutory protection under section 131 of the Banking tween general crossing and
Regulation Act. special crossing ?

11.18 Boucing of Dishonour of Cheques - Section 31


and 138
A cheque is said to be bounced or dishonoured by non-payment when the drawee of
cheque makes a default in payment in when cheque is presented to him for pay-
ment.

11.18.1 Liability of drawee on dishonour


In case of default by the drawee (i.e. Banker), the drawee shall compensate the
drawer for loss caused to him. The liability of a drawee arises by non-payment, if
the following three conditions are fulfilled on the dishonour of cheque:
1. The drawer has sufficient funds in the account;
2. Such funds are properly applicable to payment of the cheque; and
3. The drawee is duly required to pay the cheque.

11.18.2 Liability of drawer on dishonour


On the dishonour of the cheque, the drawer is punishable with imprisonment up to
two years or fine not exceeding twice the amount of cheque or both if the following
conditions are satisfied:
1. The cheque was issued to discharge a legally enforceable debt.
2. The cheque was returned or dishonoured for insufficiency of funds.
3. The cheque was presented within six months from which it was drawn or valid-
ity period of cheque.
4. The payee or the holder in due course has made a demand from the drawer
within 30 days of dishonour.
5. The drawer of cheque has failed to make a payment within 30 days of demand made.
6. A complaint can be made only by the payee or the holder within one month of
expiry of 30 days of the receipt of notice by the drawer.

Business Law 153


The Negotiable Instruments Act,
1881 11.19 Holder
According to Section 8 of Negotiable Instruments Act, holder of a promis-
sory note, bill of exchange or cheque means any person entitled in his own
NOTES name to the possession thereof and to receive or recover the amount due
thereon from the parties thereto. Where the note, bill or cheque is lost or
destroyed, its holder is the person so entitled at the time of such loss or de-
struction.
According to Section 9 of Negotiable Instruments Act, Holder in due course
means any person who for consideration became the possessor of a promis-
sory note, bill of exchange or cheque if payable to bearer, or the payee or
endorsee thereof, if 1[payable to order], before the amount mentioned in it
became payable, and without having sufficient cause to believe that any de-
fect existed in the title of the person from whom he derived his title.

11.20 Privileges of a Holder in Due Course


Privileges granted to a holder in due course under the Negotiable Instruments are
given below:
1. The holder in due course of an instrument is entitled to maintain an action thereon
in his own name against all the prior parties to the instrument (Section 36).
2. A holder who derives the title from a holder in due course, has the same rights
as that of a holder in due course (Section 53).
3. No prior party can set up a defence that the negotiable instrument was drawn,
made or endorsed by him without any consideration (Section 43).
4. No prior party can set up a defence that the negotiable instrument was lost or
was obtained from him by an offence or fraud or for an unlawful consideration.
Thus, a holder in due course gets a valid title to the negotiable instrument, even
though the title of the transferor was defective (Section 58).
5. No prior party can allege that the negotiable instrument was delivered condi-
tionally or for a special purpose only (Section 46).
A holder in due course can claim full amount of the negotiable instrument (but not
exceeding the amount covered by the stamp) even though such amount is in excess
of the amount authorised by the person delivering an inchoate negotiable instrument
(Section 20).

11.21 Payment in Due Course - Section 10


Payment in due course means payment in accordance with the apparent tenor of
the instrument in good faith and without negligence to any person in possession
thereof under circumstances which do not afford a reasonable ground for believing
that he is not entitled to receive payment of the amount therein mentioned.

Business Law 154


The Negotiable Instruments Act,
11.22 Protection to Paying Banker - Section 85 1881
A paying banker is one who makes the payment of cheque on behalf of customer:

NOTES

11.23 Liability of the Paying Banker - Section 129


Where a cheque is crossed generally, the banker on whom it is drawn shall not pay
it otherwise than to a banker. And where a cheque is crossed specially, the banker
on whom it is drawn shall not pay it otherwise than to the banker to whom it is
N a t u crossed
r e o f c h or
e q his
u e agent
C o nfor
d i t icollection.
o n s s u b j e c t t o w h ic h p r o t e c t i o n i s a v a i l a b l e
to p a y in g b a n k e r.
Any banker paying a cheque crossed generally, otherwise than to a banker, or a
C h e q u e p a y a b le P a y m e n t i s m a d e i n d u e c o u r s e . T h e p r o te c t i o n s h a l l
t o o r dcheque
er crossed specially,
b e a v a i l aotherwise
b l e n o t w ithan
t h s t ato
n dthe
i n gbanker
, t h a t to
a n whom
y e n d othe
r s esame
m e n tis crossed,
su b s e q u e n tly tu rn s o u t to b e a fo rg e r y .
or his agent for collection being banker, shall be liable to the true owner of the
C h e qcheque
ue P a he
for any loss y mmay
e n t sustain
i s m a d owing
e i n d utoe the c o ucheque
r s e . P having
a y m e n been
t i s msoa dpaid
e t o[Sec.129].
o rig in a lly th e b e a re r o f th e c h e q u e .
p a y a b1.l e tLiability
o b e a r e rto the True Owner of the cheque
T h e p ro te c tio n s h a ll b e a v a ila b le n o tw ith s ta n d in g
2. Liability to the t h a Drawer
t an y end o rsem en t ap pears o n ch eq u e.

C h e q u e s c ro s se d P a y m e n t is m a d e in d u e c o u rs e .
g e n e ra lly
11.24 WhenP a Banker y m e n t is m a d e to a n y b a n k e r.
must Refuse to Honour a
C h e q u e s c ro s se d P a y m e n t is m a d e in d u e c o u rs e .
s p e c iCustomers
a lly Cheque
P a y m e n t is m a d e to th e b a n k e r to w h o m th e c h e q u e
The authority ofi sthe
c ro s se d
banker to honour the customers cheque comes to an end he
must refuse to honour issued by the customer is in the following cases:
1. When customer countermands payment i.e. stop payment.
2. When an order garnishee of court prohibits payment.
3. When the banker receives notice of death of the customer.
4. When the customer has been adjudged as insolvent.
5. When bank receives notice of customers insanity.
6. When the customer has given notice of assignment of funds.
Business Law 155
The Negotiable Instruments Act, 7. When the holders title is defective and the banker comes to know about it.
1881
8. When the customer has given a notice for closing of account.
9. When there is a loss of cheque and the customer has informed the bank.
NOTES 10. Materially altered cheque, cheque of doubtful validity and incomplete cheque.
11. When there is signatures mismatch.
12. When the banker has received an application for closure of account.
13. When there is irregular endorsement.

11.25 Banker may Refuse the Honour a Customers


Cheque
The banker may refuse to pay customers cheque in the following cases:
1. Insufficient funds.
2. Funds not applicable.
3. Presentment at different branch.
4. Presentment after banking hours.
5. Stale cheque i.e., outdated cheque.
6. Post-dated cheque.
7. Undated cheque.

11.26 Material Alteration - Sections 87-89


The term material alteration indicates alteration or change in the material parts of
the instrument. It may be defined as any change, which alters the very nature of the
instrument. Thus, it is the alteration, which changes and destroys the legal identity of
the original instrument and causes it to speak a different language in legal effect
from that which it originally spoke.
A material alteration makes the instrument void, i.e., inoperative and affects the
rights and obligations of the parties to the instrument. It, however, does not affect
one who becomes a party to an instrument subsequent to its material alteration, if
any.
The following are considered as material alteration.
1. Alteration of the date of the instrument
2. Alteration of the amount payable
3. Alteration in time of payment
4. Alteration of the place of payment
5. Alteration of rate of interest or any change of party thereto, if any
6. Tearing of the material part of the instrument
Business Law 156 7. Where a bill is accepted generally, the insertion of a place of payment
8. Addition of a new party to the instrument The Negotiable Instruments Act,
1881
9. Addition of words to a bill of exchange endorsed in blank so as to convert the
same into special endorsement.
NOTES
11.26.1 Effect of material alteration
The main effect of a material alteration is that it makes the instrument void, i.e., it
discharges the instrument itself as against any person who was a party to such
instrument at the time of material alteration and did not give his approval to it. All the
prior parties to a negotiable instrument, which was altered subsequently without
their consent thereto, shall not be liable even to holder-in-due-course, having no
notice or knowledge of the material alteration.
It makes no discrimination whether the alteration was for the benefit or
detrimental to any party to the instrument. Moreover, it is also immaterial whether
the holder himself altered the instrument or any stranger altered it while the instru-
ment was in the custody of the holder because a party, who is in custody of an
instrument, is bound to preserve it in its original state. It is, however, worth noting
that a materially altered instrument is not absolutely void, i.e., not unenforceable
against all the parties thereto.
It is void only against those who did not give their approval to the alteration,
and can be enforced against those who consented to the alteration or effected the
alteration. Such an instrument is also operative against those who become parties to
the instrument subsequent to the alteration. There is, however, an exception to this
rule.An acceptor or endorser of a negotiable instrument is bound by his acceptance
or endorsement notwithstanding any previous alterations of the instrument.
On the other hand, Section 89 of the Negotiable Instrument Act provides
protection to a party who pays a materially altered bill of exchange or promissory
note or cheque provided that the alteration does not appear on the face of the
instrument in question and pays so in good faith and without negligence on its part.
Such a party shall stand discharged if it makes payment to a person in the posses-
sion of the instrument under the circumstances, which do not afford a reasonable
ground for believing that it is dis entitled to such payment. Besides, the payer under
the above circumstances is also entitled to debit the party on whose account the
payment was made with the amount paid.

11.27 Acceptance of Bill


The acceptance of a bill is the indication of courtesy extended by the drawee or his/
her agent towards the order of the drawer. A bill is said to have been accepted when
its drawee signs across the face of the bill with or without writing the word ac-
cepted and delivering it back to the holder or separately giving him a note of his
acceptance. The drawee of a bill incurs no liability on any bill addressed to him for
payment until gives his/her acceptance and thereby becomes the acceptor thereof.
A refusal to accept gives the holder (payee) no right against the drawee. However,
the holder in such a situation can give notice of dishonour and sue the drawer or
endorser straight away, i.e., without waiting for the date of maturity of the bill. Business Law 157
The Negotiable Instruments Act,
1881
11.27.1 Essentials of a valid acceptance
The acceptance on the bill should be in written. Writing may be either on the face or
back of the bill. Valid acceptance is said when the drawee sign the instrument.
NOTES Writing the word Acceptance is not necessary. It means, if the bill is signed with or
without the word accepted it is valid. After the signature delivery or intimation to
the holder is given that the bill has been accepted.
Check your progress
What do you understand 11.27.2 Types of acceptance
by the dishonour of
cheque? The acceptance may be either general or qualified. A general acceptance is abso-
State the liability of the lute. It is an acceptance of bill without any qualification. A qualified acceptance of
paying banker. bill means acceptance of a bill subject with some qualification (e.g., accepting the
Discuss the material alter- bill subject to the condition that the payment of bill shall be made only on happening
ation.
of an event specified therein).

11.27.3 Effect of qualified acceptance


The holder may object to the qualified acceptance. In such a case, it shall be treated
that the bill is dishonoured due to non-acceptance.
He may give his consent to the qualified acceptance. In such a case, all the prior
parties not consenting to it are discharged.

11.28 Acceptance for Honour


When a bill of exchange has been protested for dishonour by non-acceptance or
protested for better security and is not overdue, any person not being a party already
liable thereon may, with the consent of the holder, intervene and accept the bill supra
protest for the honour of any party liable thereon or for the honour of the person for
whose account the bill is drawn. The acceptance for honour may be for part only of
the sum for which the bill is drawn; and where there has been an acceptance for
honour for one party, there may be a further acceptance by a different person for
the honour of another party.
An acceptance for honour supra protest must be in writing and indicate that it is an
acceptance for honour and must be signed by the acceptor for honour.

11.28.1 Liability of the acceptor for honour


The acceptor for honour is liable to the holder and to all parties to the bill subsequent
to the party for whose honour he has accepted.

11.28.2 Agreement of acceptor for honour


The acceptor for honour, by such acceptance, engages that he will, on due present-
ment, pay the bill according to the terms of his acceptance provided it shall not have
been paid by the drawee and provided also that is shall have been duly presented for
payment and protested for non-payment and notice of dishonour given to him.

Business Law 158


The Negotiable Instruments Act,
11.29 Payment for Honour 1881
Where a bill has been protested for non-payment, any person may intervene and
pay it supra protest for the honour of any person liable thereon or for the honour of
the person for whose account it was drawn.The payment for honour supra protest, NOTES
in order to operate as such and not as a mere voluntary payment, must be attested
by a notarial act of honour which may be appended to the protest or form an exten-
sion to it.

11.29.1 Declaration before payment for honour (Sec. 173)


The notarial act of honour must be founded on a declaration made by the payer for
honour or by his agent in that behalf declaring his intention to pay the bill for honour
and for whose honour he pays.

11.29.2 Preference of parties offering to pay for honour


(Sec.174)
Where two or more persons offer to pay a bill for the honour of different parties, the
person whose payment will discharge most parties to the bill is to be given the
preference.

11.29.3 Effect on subsequent parties where bill is paid for


honour (Sec.175)
Where a bill has been paid for honour, all parties subsequent to the party for whose
honour it is paid are discharged but the payer for honour is subrogated for, and
succeeds to, both the rights and duties of the holder as regards the party for whose
honour he pays and all parties liable to the latter.

11.29.4 Where holder refuses to receive payment supra pro-


test (Sec. 176)
Where the holder of a bill refuses to receive payment supra protest, he loses his
right of recourse against any party who would have been discharged by such pay-
ment.

11.29.5 Rights of payer for honour (Sec. 177)


The payer for honour, on paying to the holder the amount of the bill and the notarial
expenses incidental to its dishonour, is entitled to receive both the bill itself and the
protest.

11.30 Dishonour by Non-Payment


A negotiable instrument shall be dishonoured by non-payment if default in payment
is made by the maker of a promissory note or acceptance of bill.
A bill which does not require acceptance shall be dishonoured by non-payment if
default in payment is made by the drawer. A cheque shall be dishonoured by non-
payment by the drawee. Business Law 159
The Negotiable Instruments Act,
1881 11.31 Discharge of a Negotiable Instrument
Discharging of a negotiable instrument means that all the rights of action under it are
completely extinguished and it ceases to be negotiated anymore.
NOTES
11.31.1 Modes of discharge of liability in negotiable Instrument
Under following modes the maker, acceptor and endorser of a negotiable instrument
is discharged from liability-
11.31.1.1 By cancellation
Under this scheme, a holder who cancels acceptors or endorsers name apparently
or with intention to discharge him from the negotiable instrument, the latter is said to
have discharged.
11.31.1.2 By release
A holder thereof who, by means other than cancellation, discharges maker, acceptor
or endorser, and to all parties deriving title under such holder after notice of such
discharge.
11.31.1.3 By Payment in the due course
When the payment on an instrument, at its maturity, is made by the party liable then
all the parties stand discharged from the liability of negotiable instrument.
11.31.1.4 By allowing drawee
In this case, if a person holding the negotiable instrument allows the drawee for over
48 hours to consider whether he will accept the same then all the previous who
didnt consent to the said allowance stand discharged.
11.31.1.5 Material alteration
In case a material alteration brought in the instrument, all the parties who do not
consent to the said alternation stand discharged from the liability.
11.31.1.6 Notice of dishonor
In case the holder of negotiable instrument fails to issue notice of dishonor to all the
previous parties, they stand discharged.
11.31.1.7 By operation of aaw
Liability against the negotiable instrument also stand discharged in case of legal
operations like; Insolvency of debtor, Loss of remedy on expiry of the limitation,
Merger of note into judgement debt, Merger of lesser security into higher security.

11.32 Discharge of Party


11.32.1 Discharge by cancellation [Sec. 82(a)]
This point has already been discussed while discussing discharge of an instrument.

11.32.2 Discharge by release [Sec. 82(b)]


Where the holder of the instrument releases any indorser or otherwise discharges
Business Law 160
him, then that indorser and subsequent parties are discharged from the liabilities.
11.32.3 Discharge by payment [Sec. 82(c)] The Negotiable Instruments Act,
1881
Where the party primarily liable on the instrument makes the payment, the instru-
ments as well as all the parties to the instrument are discharged. For essential rules
regarding payment, please refer to discharge of instrument discussed earlier. NOTES

11.32.4 Discharge by allowing more than 48 hours to the


drawee to accept the bill [Sec. 83]
If the holder allows more than 48 hours to the drawee to consider whether or not he
will accept the bill, all previous parties not consenting to such allowance, are dis-
charged from their liability to such holder.

11.32.5 Discharge by delay in presenting cheques [Sec. 48]


A cheque must be presented for payment within a reasonable time. When a cheque
is not presented for payment within a reasonable time of its issue and the drawer
suffers actual damage through the delay, he is to that extent discharged from his
liability. However, the holder shall become the creditor of the bank to that extent.
Example:A issued a cheque for Rs. 500 to B. When the cheque should have been
presented, there was enough balance in his account. But the cheque is delayed
beyond reasonable time and the bank fails in the meantime. A is discharged from his
liability. However, B can claim Rs. 500 from the liquidator of the bank, i.e. whatever
dividend is paid to the other creditors.
If in the above example, before A could present the cheque in the ordinary course,
the bank fails. A will not be discharged because A has not suffered any loss due to
the presentment of the cheque which was in time.

11.32.6 Discharge by qualified acceptance


As a rule, acceptance must be absolute or unqualified. A holder is entitled to object
to a qualified acceptance. However, if he does not object to such qualified accep-
tance, all other parties who do not consent to such qualified acceptance are dis-
charged to such holder and those claiming under him, unless, on notice given by the
holder, they agree to such acceptance.

11.32.7 Discharge by material alteration [Sec. 87]


Any material alteration of a negotiable instrument renders the same void as against
anyone who is party thereto at the time of making such alteration. However, if the
party consents to such alteration or it was made to carry out the common intention
of the parties, the alteration does not discharge the party concerned.

11.32.8 Alteration by endorsee


Any alteration made by the endorsee, discharges his endorser from all liability to
him. However, it should be noted that an acceptor or endorser of a negotiable instru-
ment is bound by his acceptance or indorsement if the alteration was made before
he accepted or indorsed the instrument. The reason is simple. In such a case, he has
in a way consented to such alteration. An alteration is void only if it is made subse-
quent to acceptance or indorsement. Business Law 161
The Negotiable Instruments Act,
1881
11.32.9 Discharge by payment of instrument on which alter-
ation is not apparent
When an instrument has been materially altered but does not look like that or where
NOTES cheque has been crossed but does not appear to have been crossed, e.g. crossing
Check your progress clearly erased, the person paying or the banker is discharged from all liabilities
thereon.
What do you understand
by acceptance of bill?
11.32.10 Discharge by debtor becoming its holder, i.e. when
Discuss the different
modes of discharge of ne- the acceptor of a bill again becomes its holder [Sec. 90]
gotiable instrument.
We have already made reference to negotiation back which discharges all the par-
ties to the bill. A debtor (acceptor) who again becomes the holder of a bill, dis-
charges all other parties on the same principle.

11.32.11 Discharge by operation of law


Liability of party to a negotiable instrument is discharged by operation of law. It may
be by:
1. Insolvency: An insolvent is discharged from his liability.
2. Merger: When merger takes place, the liability is discharged, i.e., merging of
debt under the instrument into the judgement debt.
3. Law of limitation: Further, the liability may be discharged by the debt becom-
ing time- barred by the law of limitation.

11.33 Key Terms


Negotiable Instruments:A negotiable instrument is a document guarantee-
ing the payment of a specific amount of money, either on demand, or at a set
time, with the payer named on the document. Examples of negotiable
instruments include promissory notes, bills of exchange, banknotes, demand draft
and cheques.
Promissory notes:A signed document containing a written promise to pay a
stated sum to a specified person or the bearer at a specified date or on demand.
Bill of exchange:Bills of exchange are similar to checks and promissory notes.
They can be drawn by individuals or banks and are generally transferable
by endorsements.
Cheques:An order to a bank to pay a stated sum from the drawers account,
written on a specially printed form.
Negotiation: Negotiation is a method by which people settle differences. It is
a process by which compromise or agreement is reached while avoiding argu-
ment and dispute.
Endorsement: An endorsement can be a legal term that refers to the signing of a
document that allows for the legal transfer of a negotiable from one party to another;
it can also refer to an attachment to a document that amends or adds to it.
Business Law 162
Crossing of cheques: A crossed cheque is a cheque that is payable only through The Negotiable Instruments Act,
1881
a collecting banker and not directly at the counter of the bank. When two paral-
lel transverse lines, with or without any words, are drawn generally, on the left
hand top corner of the cheque.
NOTES

11.34 Summary
The Negotiable Instruments Act was enacted, in India, in 1881. The Act oper-
ates subject to the provisions of Sections 31 and 32 of the Reserve Bank of
India Act, 1934.
Section 4 of the Act defines, A promissory note is an instrument in writing
(note being a bank-note or a currency note) containing an unconditional under-
taking, signed by the maker, to pay a certain sum of money to or to the order of
a certain person, or to the bearer of the instruments.
According to the Negotiable Instruments Act 1881, a bill of exchange is defined
as an instrument in writing containing an unconditional order, signed by the maker,
directing a certain person to pay a certain sum of money only to, or to the order
of a certain person or to the bearer of the instrument.
A cheque is a bill of exchange, drawn on a specified banker and it includes the
electronic image of truncated cheque and a cheque in electronic form. The
cheque is always payable on demand.
Every person capable of contracting, according to the law to which he is sub-
ject, may bind himself and be bound by the making, drawing, acceptance, en-
dorsement, delivery and negotiation of a promissory note, bill of exchange or
cheque.
The negotiable instrument, on which time for payment is not specified, is an
instrument payable on demand. The negotiable instrument which is expressed
to be payable on demand is also demand instrument.
Cheques are always payable on demand but other instruments like bills and
notes, may be made payable on specified date or after specified time.
Negotiation of an instrument is the process by which the ownership of an instru-
ment is transferred from one person to another.
The word endorsement in its literal sense means, writing on the back of an
instrument. But under the Negotiable Instruments Act it means, the writing of
ones name on the back of the instrument or any paper attached to it with the
intention of transferring the rights therein.
Negotiation back is a process under which an endorsee comes again into
possession of the instrument in his own right.
A cheque is said to be bounced or dishonoured by non-payment when the drawee
of cheque makes a default in payment in when cheque is presented to him for
payment.
According to Section 8 of Negotiable Instruments Act, holder of a promissory
note, bill of exchange or cheque means any person entitled in his own name to Business Law 163
The Negotiable Instruments Act, the possession thereof and to receive or recover the amount due thereon from
1881
the parties thereto.
The term material alteration indicates alteration or change in the material parts
of the instrument. It may be defined as any change, which alters the very nature
NOTES
of the instrument.
The acceptance of a bill is the indication of courtesy extended by the drawee or
his/her agent towards the order of the drawer.
Discharging of a negotiable instrument means that all the rights of action under
it are completely extinguished and it ceases to be negotiated anymore.

11.35 Questions and Exercise


1 What are the presumptions applicable to all the negotiable instruments, as pro-
vided under the negotiable instruments Act, 1881?
2 Define the bill of exchange and explain its salient features.
3 State the difference between promissory notes and bill of exchange.
4 How can negotiable instrument be classified?
5 What is demand instrument?
6 What are the differences between an ambiguous instrument and inchoate in-
strument?
7 Can a negotiable instrument be drawn without consideration?
8 Write a short note on the endorsement and different kind of endorsement.
9 What do you understand by negotiation?
10 Write a short note on crossing of cheques.
11 A paying banker is always protected. Comment.
12 When is an alteration of an instrument as material alteration under act?
13 Explain the meaning of acceptance for honour under the negotiable instrument
Act,1881.
14 When the negotiable instrument is discharged?
Practical Problems
1. I promise to pay Ajay Rs. 10,000 after deducting there from any money which
he owes me. Is it valid promissory note? Why?
2. An acceptor accepts a Bill of exchange but write on it Accepted but pay-
ment will be made when goods delivered to me is sold. Decide the validity.
3. X, a major and M, a minor, executed a promissory note in favour of P. Examine
with reference to the provisions of the negotiable instruments act, the validity of
promissory note and whether it is binding on X and M.
4. A found a negotiable instrument lying on the road and transferred it to B who
received it in good faith and for consideration. Can B recover the amount due
Business Law 164 on the instrument?
The Negotiable Instruments Act,
11.36 Further Readings and References 1881
Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
NOTES
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Manage-
ment, Vikas Publishing House Pvt. Limited.
Web resources
http://www.incometaxindia.gov.in/Acts/Negotiable% 20Instruments%
20Act,%201881/102120000000006758.htm
https://indiankanoon.org/doc/148539/
https://indiankanoon.org/doc/1081676/

Business Law 165


The Negotiable Instruments Act,
1881

NOTES

Business Law 166


Companies Act, 2013: Types of
Unit 12: Companies Act, 2013: Types of Companies and their
Companies and their Characteristics Characteristics

Structure
NOTES
12.0 Introduction
12.1 Unit Objectives
12.2 Main Activities of Business
12.3 Characteristics of Company
12.4 Body Corporate
12.5 Lifting of Corporate Veil
12.6 Corporate Veil under Judicial Interpretations
12.7 Illegal Association
12.8 Advantage of Incorporation
12.9 Public Company
12.10 Private Company
12.11 Difference between Public and Private Company
12.12 Limited Liability Company
12.13 Unlimited Liability Company
12.14 Conversion of Private Company into Public Company
12.15 Government Companies
12.16 Foreign Company
12.17 Holding and Subsidiary Company
12.12 Control of Compensation of Board
12.19 Promoter
12.20 Legal Position of Promoter
12.21 Duties of Promoter
12.22 Effects of Pre- Incorporation Contracts
12.23 Steps to Obtain Certificate of Incorporation
12.24 Certificate of Commencement of Business
12.25 One Person Company
12.26 Features of One Person Company
12.27 Key Terms
12.28 Summary
12.29 Questions and Exercise
12.30 Further Readings and References

Business Law: 167


Companies Act, 2013: Types of
Companies and their 12.0 Introduction
Characteristics
According to Prof. L.H. Haney, Company is an artificial person created by law
having separate entity created by law with perpetual succession and common seal.
NOTES An association of several persons where decisions are made according to the view
of majority is known as Company. Meeting of a Company takes place between
members and directors in which various matters are discussed and decided.
Companies Act, 2013, contains several provisions for such meetings which has to be
followed. For a meeting there must be at least two persons. One member cannot
constitute a company meeting even if he holds proxies for others.

12.1 Unit Objectives


After completing this unit, students will be able to
Understand company and corporate veil
Explain the classes of companies under the Companies Act, 2013
Know registration and incorporation of companies
Understand contract entered at the time of incorporation
Discuss promoters and their duties

12.2 Main Activities of Business


1. Merchandising Activities: This involves activities deal with goods ready to sell
condition.
2. Manufacturing Activities: This involves from purchase of raw material and put
labour and factory overhead on the raw material and produces a product.
3. Service activities: This involves banking, education, insurance and training
activities.

12.3 Characteristics of A Company


1. Separate Legal Entity: A company is a separate legal entity from its members.
It can hold, purchase and sell properties in its name. As an artificial legal person
it can sue and be sued. Owners of a company are shareholders who elect a
board which runs the company.
2. Limited Liability: The liability of any Shareholder of a company is limited to
the nominal value of the shares held by them.
3. Transferability of Shares: The shares of a listed company can be sold or
purchased on stock exchange and hence ownership can be transferred.
4. Perpetual: The Company generally have a continuous existence irrespective
of changes in ownership.
5. Common Seal: It is the official signature of the company which is binding.
Business Law: 168
Companies Act, 2013: Types of
12.4 Body Corporate Companies and their
Characteristics
A corporate body which is having legal existence as defined in Section 2(11) of the
Companies Act, 2013. This includes private company, public company, one personal
company, Small Company, Limited Liability Company, Partnership etc. This includes NOTES
a company incorporated outside India but it does not include
1. A co-operative society registered under any law relating to co-operative societies.
2. A corporation sole
3. Any other body corporate (not defined in Companies Act 2013), which the
central Government may, by a notification in the Gazette, specify in this behalf.

12.5 Lifting of Coporate VEIL


Term corporate veil means the company has a corporate personality which is distinct
from its members hence members of the company are shielded from liability connected
to that companys actions. Example: if the company breaks laws, the corporate veil
concept dictates that shareholders should not be held liable for those errors.
Whereas lifting of corporate veil means that the law will not allow the corporate
form to be misused or abused. In case if law feels that the corporate form is being
misused it will rip through the corporate veil and expose its true character.
The circumstances under which the courts may lift the corporate veil are grouped
as
1. Under statutory provisions
2. Under judicial interpretations
Under statutory provisions
12.5.1 Misrepresentation in prospectus Section 34 and 35
In case of misinterpretation in prospectus, every director, promoter and every other
person, who authorizes issue of prospectus which contains misstatement, incurs
liability towards those who subscribed for shares on the faith of untrue statement.
12.5.2 Failure to return application money Section 39
In case of issue of security to the public, if minimum subscription as stated in the
prospectus has not been received within 30 days from issue, the company must
return the application money within 15 days of closure of issue. If not so than the
directors shall be personally liable to return the money with interest @15% per
annum.
12.5.3 Mis-description of name Section 12
As officer of a company signs on behalf of the company, any contract, bill of
exchange, hundi, promissory note, cheque or order of money, such person shall be
personally liable to the holder if the name of the company is improperly mentioned
or not mentioned.

Business Law: 169


Companies Act, 2013: Types of
Companies and their 12.5.4 For investigation of ownership of a company Section 216
Characteristics
The central government may appoint one or more inspectors to investigate and
report on the membership of a company for determining the true persons who are
NOTES financially interested in company and who control policy.

12.5.5 Fraudulent conduct Section 339


In the case of winding up of a company it appears that any business of the company
has been carried out with intent to defraud creditors of the company or any other
person for a fraudulent purpose, those who are knowingly parties to such conduct
business may, if the tribunal think it proper to do so, be made personally liable without
any limitation as to liability for all or any other liabilities of the company.

12.5.6 Liability of ultra vires acts


People who ultra vires the company will be personally liable for all those cats which
have been done on the behalf of the company.

12.5.7 Liability under other statutes


Besides companies act, director and other officers of the company may be held
personally liable under the provisions other statutes.

12.6 Lifting of Corporate Veil Under Judicial Interpretation


12.6.1 Prevention of fraud or improper conduct
Where companies has been used as the medium of committing fraud or improper
conduct, courts have lifted the veil and looked at the realities of the situation.
12.6.2 Determination of the enemy character of a company
Company being an artificial person cannot be an enemy of friend but as its affairs
are essentially run by individuals. So during a war it may become necessary to lift
the corporate veil and see persons behind as to whether they are enemies or friends.
12.6.3 Formation of subsidiaries to act as an agent
In merchandise transport limited v. British transport commission, a transport company
wanted to obtain license for its vehicles , but it couldnt do so if it made the application
in its own name. it, therefore, formed a subsidiary company and the application for
license was made in the name of subsidiary. The vehicles were transferred to the
subsidiary. Held, the parent and the subsidiary company were one commercial unit
and the application for license was rejected.

12.7 Illegal Association


Section 464 of the Companies Act, 2013 provides that no company, association or
partnership consisting of more than 50 persons for the purpose of carrying on any
business can be formed unless it is registered under the Companies Act or is formed
in pursuance of some other Indian laws. Thus, if such association is formed and not
registered under the Companies Act or any other laws, it will be regarded as an
Business Law: 170 illegal association.
12.7.1 Section 464 is not applicable on Companies Act, 2013: Types of
Companies and their
1. A HUF carrying on any business Characteristics

2. An association or partnership, formed by professionals who are governed by


special acts. If 2 or more HUF carry business in partnership, than minor member NOTES
should be ignored while calculating the number of members involved as they Check your progress
cannot be considered as partner.
To whom property of a
12.7.2 Effects of an Illegal Association company belongs to?
Which types of companys
Every member is personally liable for all liabilities incurred in the business. They are shares are freely
punishable along with fine. Such associations cannot enter into any contract. Such transferable?
an association cannot sue or be sued by a member or an outsider for any debt due to
it, because it cannot contract for any debt. It can be wound up even under the
provisions relating to winding up of unregistered companies because law does not
recognize its existence. The profits made by illegal association are, however, liable
in assessment of income tax.

12.8 Advantages of Incorporation


12.8.1 Raising capital
Corporations have the option of raising capital by selling shares to the investors.

12.8.2 Independent legal entity


Unlike a partnership firm which has no existence apart from its members, a company
is a distinct legal person independent of its members.

12.8.3 Limited liability


In case of limited companies, no member is bound to contribute anything more, than
the nominal value of shares held by them.

12.8.4 Perpetual succession


An incorporated company has perpetual succession. With any change in its members,
the company will be the same entity with the same privileges and immunities, estate
and possessions.

12.8.5 Transferability of shares


Section 44 of the Companies Act, 2013 of the act provides that the shares of any
member in a company shall be movable property, transferable in the manner provided
by the articles of the company.

12.8.6 Infinite membership


There is no limit to the maximum membership in a public company.

12.8.7 Separate property


The property of the company is not the property of the shareholders; it is the property
of the company. No member or director can claim himself to be the owner of such
a companys property. Business Law: 171
Behavioural Issues in Strategy 12.8.8 Control and management
Implementation
The company law provides for all the management of the companies through the elected
representatives of the members, known as director and therefore, no shareholder is to
NOTES worry about the management of the company.

12.9 Definition of Public Company


Section 2(71) of the Companies Act, 2013, defines a public company which:
1. Is not a private company
2. Has a minimum paid-up capital of Rs. 5 lakh or such higher paid-up capital, as may
be prescribed.
3. Is a private company, which is subsidiary of a company, and not a private company.

12.10 Private Company


As per Section 2(68) of the Companies Act, 2013, private company means a company
which has minimum paid-up capital of Rs. 1 lakh or such higher paid up capital, as may
be prescribed, and by its articles:
1. Restricts the rights to transfer its shares;
2. Limits the number of its members to 200, not including;
2.1 Persons who are in the employment of the company, and
2.2 Persons been formerly in the employment of the company, were members of
the company while in employment and have continued to be members after
the employment ceased. It means joint holders of the shares are treated as
single members.
3. Prohibits any invitation to the public to subscribe for any securities of the company.

12.11 Distinction Between Private and Public


1. In case of a private company, minimum 2 persons can form a company while it is 7
in the case of a public company. In case of private company, the maximum number
must not exceed two hundred, whereas there is no such restriction on the maximum
number of members in public company.
2. In private company the Right to transfer shares is restricted, whereas in case of
public company the shares are freely transferable.
3. A private company cannot issue a prospectus, while a public company may invite
the general public to subscribe for its shares or debentures through prospectus.
4. A private company must have at least two directors, whereas a public company
must have at least three directors.
5. A private company cannot accept deposits from public. There is no such restriction
Accounting & Finance
for a public company.
for Managers : 172
Behavioural Issues in Strategy
12.12 Limited Liability Companies Implementation
Limited liability companies can be divided into three heads
1. Companies limited by shares
NOTES
2. Companies limited by guarantee
Check your progress
3. Companies limited by guarantee, having share capital
What is maximum number
12.12.1 Companies limited by shares of members in case of
private company?
A company having the liability of its members limited by the memorandum, to the amount . Liability of a person in case
if any, unpaid on shares, respectively, held by them is termed as a company limited by of private company is
shares. A company of this type is commonly called, Limited Liability Company. The limited or unlimited?
liabilities of a company are never limited, but its members are limited. The liabilities of
the members can be enforced at any point of time during the existence and also during
the winding- up of a company.
12.12.2 Companies limited by guarantee
A company having liability of its members limited by the memorandum to such an
amount that its members may respectively undertake by the memorandum to contribute
to the assets of the company in the event of its being wound-up.
12.12.3 Companies limited by guarantee having share capital
The liability of a member of a guarantee company having share capital is not merely
limited to the amount guaranteed. He may be called upon to also contribute to the
extent of any sums remaining unpaid on the shares held by him

12.13 Unlimited Liability Company


A company having no limit on liability of its members is an unlimited company. Thus, the
liability of each member extends to the whole amount of the companys debt and
liabilities. An unlimited company may or may not have share capital. The article of
association of an unlimited company must state the number of members with which the
company is to be registered and, if the company has share capital, the amount of share
capital with which the company is to be registered. As the capital if any , is stated in the
articles and not in the memorandum, it may be varied, increased or reduced, by passing
a special resolution.

12.14 Conversion of Private Company into Public Company


Conversion of a private company into a public company can be grouped as
1. Conversion by default
2. Conversion by choice
12.14.1 Conversion by default
Where a private company default in compliance with the statutory requirements as laid
down in section 2(68) of the Companies Act, 2013 i.e. if members of a company exceeds
200 or it public to subscribe to security of a company, it automatically becomes a public Accounting & Finance
for Managers : 173
Companies Act, 2013: Types of company. However central government on being satisfied that the failure to comply
Companies and their
Characteristics the conditions was accidental or due to inadvertence or to some other sufficient
reason, may grant relief from such consequences as said above. The relief granted
on grounds which the central government feels is just and equitable.
NOTES
12.14.2 Conversion by choice Section 14
12.14.2.1 Special Resolution: A private company desiring to become a public
company must pass a special resolution deleting from its articles the requirements of
Section 2(68). Application in Form No. INC27 shall be made. A copy of special
resolution so passed must be filed with the registrar of companies within 30 days
thereof in Form No. MGT14.
12.14.2.2 Increase in membership: If the number of members is less than 7, it
must be raised to not less than seven.
12.14.2.3 Increase in number of directors: If the number of directors is less
than 3, it must be raised to not less than three.
12.14.2.4 Raising of Paid-up capital: Where necessary, the paid-up capital must
be raised to the minimum limit prescribed for public companies.
12.14.2.5 Filing of copy of prospectus or statement in lieu of prospectus:
Within 30 days of passing of the special resolution, a prospectus or a statement in
lieu of prospectus in the prescribed form must be filed with the registrar.

12.15 Goverment Companies


Section2(45) defines Government company to mean any company in which not less
than 51% of the paid-up share capital is held by:
1. The Central Government, or
2. Any State Government or Governments, or
3. Partly by Central Government and Partly by one or more State Governments,
4. A subsidiary of a Government Company shall also be treated as a Government
company.

12.16 Foreign Company


Section 2(42) A company or a body corporate incorporated outside India and having
a place of business in India is a Foreign Company. Having a share transfer office or
share registration office will constitute a place of business.

12.17 Holding and Subsidiary Companies


Holding and Subsidiary companies are relative terms. A company is holding company
of another if the other is its subsidiary. According to Section 2(87) of the Companies
Act, 2013, a company shall be deemed to be a subsidiary of another, in the following
cases:
Business Law: 174
1. The other company controls the composition of its Board of Directors, Companies Act, 2013: Types of
Companies and their
2. The other company holds more than half of total share capital or control in other Characteristics
company either by itself or by its subsidiary companies.
NOTES
12.18 Control of Composition of Board
The composition of the Board of Directors of a company shall be deemed to be
controlled by the other if the latter has the power, without the consent or concurrence
of the other persons to appoint or remove all or majority of the directors.

12.19 Promoter
A person who conceives the idea of forming a company, and actually put it into
existence, can be termed as promoter. As per Section 2(69) of the companies Act,
2013, promoter means the person:
1. Who has been named as such in a prospectus or is identified by the company in
the annual return referred to in Section 92; or
2. Who has control over the affairs of the company, directly or indirectly whether
as a shareholder, director or otherwise; or
3. In accordance with whose advice, directions or instructions the Board of Directors
of the company is accustomed to act.

12.20 Legal Positions of Promotors


A promoter is neither the agent nor the trustee of the company he promotes, but he
stands in fiduciary relationship with the company. This fiduciary relationship imposes
an obligation on the promoter that he must act honestly and must make a complete
disclosure of all material facts relating to the formation of the company.

12.21 Duties of Promoter


12.21.1 To disclose secret profits
A promoter must not make any secret profit at the expense of the company that he
promotes. If he has made some secret profit, it is his duty to disclose all the money
secretly obtained by way of profit. If he fails to do so the company may recover
such profits from him.
12.21.2 To disclose all material facts
A promoter should make full discloser of all the material facts regarding the formation
of a company. The promoter is not allowed to derive a profit from the sale of his
own property to the company unless all material fat s are disclosed. As per Section
102 of Companies Act, 2013, action can be taken against them if due to non-disclosure
or insufficient disclosure; he has obtained any profit or gain.

Business Law: 175


Companies Act, 2013: Types of 12.21.3 Promoter must make good to the company what he
Companies and their
Characteristics has obtained as a trustee
A promoter stands in a fiduciary position towards the company. Promoter must not
make an unfair use of his position. The promoters must make a fair and reasonable
NOTES
use of his powers and position and must act honestly.
12.21.4 To act diligently
The promoter is under an obligation to discharge his duties diligently. He must disclose
all the private arrangements resulting in profit by the formation of the company.
12.21.5 To use public issue money for object for which it
was raised
As per Section 13(8), a company cannot change its object without passing special
resolution when it has unutilised amount of public issue.

12.22 Preliminary Contracts or Pre-incorporation


Contract
Contracts made by promoters with parties to acquire some property or right for and
on behalf of a company yet to be formed are known as Preliminary or Pre-
Incorporation contracts. Such contracts are not legally binding on the company even
after its incorporation, because two consenting parties are necessary to a contract
whereas the company is a non-entity before its incorporation.

12.22.1 Effects of Pre-Incorporation Contracts


12.22.1.1 Not binding on company
A company, when registered is not bound by pre-incorporation contracts, because at
the time of making the contract the company was not into existence. Company is
not liable even if it has taken some advantage from contract.
12.22.1.2 Cannot ratify the agreement
A company when registered cannot ratify or adopt the pre-incorporation agreements,
because a contract can be ratified only when it is made by an agent for principal
who is in existence and is competent to contract at the time when contract is made.
Since company was not in existence, therefore, ratification is not possible.
12.22.1.3 Promoter personal liability
Promoters would be personally liable for any liability undertaken or aroused out of
contract.
12.22.1.4 Company cannot sue
The Company cannot enforce the preliminary agreements nor has any right under it.

12.23 Steps of Obtain Certificate of Incorporation


After deciding the form of company whether private or public following steps are
required to be taken:
Business Law: 176
1. The promoters should ascertain from the Registrar of Companies whether the Companies Act, 2013: Types of
Companies and their
name by which the company is to be formed is available or not. Characteristics
2. Promoters should decide at least three suitable names in the order of preference
to afford flexibility to the Registrar. The application should be made to the NOTES
Registrar of the State in prescribed Form No. e-INC-1 along with fee. Name of
the company should not be identical or resemble to any existing company.
3. The Memorandum of Association and Articles of Association should be prepared.
The Memorandum should be signed by seven subscribers in case of a public
company and two subscribers in case of Private Company. Similarly the Articles
of Association which contains the rules and regulations for the internal
management of a company should be signed by subscribers.
4. An application in the prescribed form has to be filled Online(www.mca.gov.in)
accompanied by the following documents:
4.1 Memorandum and Articles of Association duly stamped, signed and
witnessed. The letter from the Registrar regarding the availability of the
name should be attached.
4.2 As per Section 7 read along with rule 14 of the Companies (Incorporation)
Rules 2014 declaration should be given by an Advocate, A Chartered
Accountant, Cost accountant or Company Secretary in practice shall be in
Form no.INC-8. Declaration is given to effect that all rules and provisions
of Companies Act,2013 have been complied with for registration of
company.
4.3 The affidavit shall e submitted by each of the subscribers to the memorandum
and each of the directors named in the articles in form no. INC-9 providing
that he is not convicted of any offence in connection with the promotion,
formation or management of the company, or that he has not been found
guilty of any fraud or breach of duty to any company under this act or any
previous company law during the preceding five years and that all the
documents filed with the registrar for registration of the company contain
information that is correct and complete and true to the best of his knowledge
and belief.
4.4 The agreement if any, which the company proposes to enter into with any
individual for appointment as its managing or whole time director or manager.
4.5 The particulars of each person mentioned in the articles as first director of
the company and his interest in other firms or bodies corporate along with
his consent to act as director of the company shall be filed in Form No.
DIR-12 as provided in the companies Rules, 2014.
4.6 Where the location of the registered office is finalised prior to the
incorporation of a company by promoters, the promoters can also file along
with the memorandum and Articles, the verification of its registered office
in Form No. INC22.
5. Once the required document have been filed and prescribed amount of fee is
paid, the registrar will scrutinize the documents and if satisfied that all the
Business Law: 177
formalities have duly complied with, he will issue a Certificate of Incorporation.
Companies Act, 2013: Types of The certificate of incorporation is issued in Form no. INC-11 on receiving this
Companies and their
Characteristics certificate, the company becomes a body corporate. The Registrar shall allot to
the company, corporate identity number (CIN) which distinguishes one company
from another.
NOTES

12.24 Certificate of Commencement of Business


After receipt of certificate of incorporation, every company having share capital is
required to obtain another certificate known as the Certificate to Commence business
before it can start its business or exercise borrowing power.
The following documents are filed with registrar to obtain certificate to commence
business:
1. The declaration by the director in Form No. INC 21 that the subscriber to the
memorandum has paid for shares for which he has agreed to purchase and
paid-up capital of company is not less than Rs. 5 lac and paid-up capital is not
less than Rs. 1 lac in case of private company.
2. A declaration in Form No. INC21 should be verified by a company secretary in
practice or a chartered accountant or a cost accountant in practice.
3. A verification of its registered office.
On receipt of these documents, the Registrar of Companies will examine them
and on being satisfied, he will issue the certificate to commence business. If the
company or its promoters fail to submit the above declaration within 120 days of
incorporation, the Registrar may remove the name of company from the records.

12.25 One Person Company


A new form of business, introduced by the Companies Act,2013, thereby enabling
the entrepreneurs carrying on the business in the sole-proprietor form of business to
enter into a corporate framework. It is hybrid of Sole-Proprietor and Company Form
of Business.

12.26 The Features of One Person Company


12.26.1 Only one shareholder
Only a natural person, who is an Indian Citizen and Resident of India, shall be eligible
to incorporate a One Person Company.
12.26.2 Nominee for the shareholder
The shareholder shall nominate another person who shall become the shareholder in
case of death/incapacity of the original shareholder. Such nominee shall give his
consent for being appointed as the nominee for the sole shareholder. Only a natural
person, who is an Indian Citizen and Resident of India, shall be nominee for the sole
member of One Person Company.

Business Law: 178


12.26.3 Director Companies Act, 2013: Types of
Companies and their
One Person Company must have a minimum of one director, the sole shareholder can Characteristics
himself be the solo director. The company may have a maximum number of 15 directors.
NOTES
12.27 Key Terms
Ultra vires: Invalid excess of authority or power exercised by an entity. Since
the powers exercised by any officer of an organization are limited by the constituting
or vesting instrument (such as a memorandum of association), any act outside
those limitations is ultra vires and may be challenged in the courts. This rule is
applicable to all powers, express or implied, created by a contract or statute.
Charter of company: The creation of corporate charters is basically the start
of a new building a new corporation. Corporate charters signal the birth of a
new company. Once filed and approved, a corporation becomes legitimate and
legal. The document must be created and filed before the corporation starts
business transactions.
Sole proprietor: A person who is the exclusive owner of a business, entitled to
keep all profits after tax has been paid but liable for all losses; a sole trader.

12.28 Summary
Companies Act 2013 explains about the whole procedure of the how to form a
company, its fees procedure, name, constitution, its members, and the motive
behind the company, its share capital, about its general board meetings,
management and administration of the company including an important part
which is the directors as they are the decision makers and they take all the
important decisions for the company their main responsibility and liabilities about
the company matter the most. The Act explains about the winding of the business
as well and what happens in detail during liquidation period.The basic objectives
underlying the law are:
A minimum standard of good behaviour and business honesty in company
promotion and management.
Due recognition of the legitimate interest of shareholders and creditors and of
the duty of managements not to prejudice to jeopardize those interests.
Provision for greater and effective control over and voice in the management
for shareholders.
A fair and true disclosure of the affairs of companies in their annual published
balance sheet and profit and loss accounts.
Proper standard of accounting and auditing.
Recognition of the rights of shareholders to receive reasonable information and
facilities for exercising an intelligent judgment with reference to the management.
A ceiling on the share of profits payable to managements as remuneration for
services rendered. Business Law: 179
Companies Act, 2013: Types of A check on their transactions where there was a possibility of conflict of duty
Companies and their
Characteristics and interest.
A provision for investigation into the affairs of any company managed in a
manner oppressive to minority of the shareholders or prejudicial to the interest
NOTES
of the company as a whole.

12.29 Questions and Exercise


1 Define Company and explain its characteristics as regard to perpetual secession.
2 What is a Company limited by shares and Limited by guarantee?
3 Write a short note on misstatement in prospectus.
4 Write a short note on Pre-incorporation contract.
5 Define Holding company.
6 Define Public Company. How does it differ from Private Company?
7 Define Perpetual Succession and Common Seal.

Practical Problems
1. Shiva is a director who has 20 years of professional experience. On the basis, A
Ltd has employed him as a director. Can A Ltd say that the director As experience
is companys experience?
2. English Company was formed for selling tyres in England produced by French
Company. The majority of English companys shares were held by the French
company. The overwhelming majority of shareholders and all directors were
French nationals residing in France. The English company filed suit during world-
War 1 to recover trade debts. Could the company be allowed to proceed with
the action.
3. Mr. Ramesh and his 50 friends carry on business under the name of Ramesh
Ltd., but it was not registered under the companies act, 2013. Is Mr Ramesh
liable under the Act.
4. Q Pvt Co. is s subsidiary of P Co., which is a public company? What is type of
company Y Pvt Co. is?
5. 50% of the paid-up share capital of company A is held by the Central Government
and 11% by Public institutions like the life insurance corporation of India and
the Unit trust of India. Is A Ltd a government Company.

12.30 Further Readings and References


Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.

Business Law: 180


Companies Act, 2013:
Unit 13: Companies Act, 2013: Memorandum, Memorandum, Articles of
Articles of Association and Prospectus Association and Prospectus

Structure
NOTES
13.0 Introduction
13.1 Unit Objectives
13.2 Defining Memorandum of Association
13.3 Purpose of Memorandum of Association
13.4 Provision related to Printing and Signature of Memorandum
13.5 Contents of the Memorandum of Association
13.6 Provisions for Change in Name Clause of Memorandum
13.7 Procedure to Change Registered Office With in City
13.8 Procedure to Change Registered Office From One City to Another
13.9 Procedure to Change Registered Office From One ROC to Another ROC
Jurisdiction
13.10 Procedure to Change Office From One State to Another
13.11 Procedure for Changing Object Clause of Memorandum
13.12 Alteration of Liability Clause
13.13 Doctrine of Ultra Vires
13.14 Effect of Ultra Vires Transaction
13.15 Articles of Association
13.16 Distinguish Between Memorandum and Articles of Association
13.17 Provisions Related to Printing and Signature of Articles
13.18 Contents of Articles of Association
13.19 Procedure for Alteration of Association
13.20 Limitation to Alteration of Articles
13.21 Binding effect of Memorandum of Articles
13.22 Doctrine of Constructive Notice
13.23 Doctrine of indoor Management
13.24 Exception to Doctrine of Indoor Management
13.25 Prospectus
13.26 Circumstances when the Prospectus is Not Required
13.27 Abridged Prospectus
13.28 Contents of Prospectus
13.29 The reports with Prospectus
13.30 Refusal to Register Prospectus by Registrar
Business Law : 181
Companies Act, 2013: 13.31 Shelf Prospectusand Information Memorandum Section 31
Memorandum, Articles of
Association and Prospectus 13.32 Key Terms
13.33 Summary
NOTES 13.34 Questions and Exercise
13.35 Readings and References

13.0 Introduction
Memorandum is a document in relation to the proposed company containing all the
fundamentals on which the company will be incorporated. It is the charter of the
company. Memorandum of Association and Article of Association serve as the con-
stitution of the company. Memorandum, Articles and Prospectus are the documents
prepared while formation and registration of the company and for raising funds from
the public. These are publicly accessible documents.

13.1 Unit Objectives


After completing this unit, students will be able to:
Understand the Memorandum of Association
Know purpose, Format and the contents of the Memorandum and the Articles
of Association
Lern various Clauses of the Memorandum and Its alteration Procedures
Discribe doctrine of Ultra-Vires, Indoor Management and constructive notice
Understand prospectus, its requirements, contents, and various offer documents
Get familiriase with mis- statement in the prospectus and its consequences on
the part of a company, promoter, and the directors of company

13.2 Defining Memorandum of Association


According to Sec 2(56) of the Companies Act, 2013, Memorandum means the
memorandum of Association of the company as originally framed or as altered from
time to time.
It regulates the relationship of the company with the outside world.
Memorandum of Association lays down the powers and objects of a company and
the scope of operations of the company beyond which its actions cannot go. Any
action outside the scope of the memorandum of Association, will be ultra vires the
company and so void.
In Ashbury Carriage Co. vs Riche, it was observed that the Memorandum of associa-
tion of a company is its charter and define the limitations and powers of a company.
It is a public document open for inspection to any member of the public. A Memo-
randum shall not be altered except in the manner and to the extent provided in the
Business Law : 182 act.
Companies Act, 2013:
13.3 Purpose of Memorandum of Association Memorandum, Articles of
Association and Prospectus
The purpose of memorandum is to enable the shareholders, creditors, and those
who deal with the company to know its permitted range of enterprise. It enables
shareholders to know for what purpose their money is being utilized. NOTES

13.4 Provisional Relating to Printing and Signature of


Memorandum
The Memorandum of Association must be printed, divided into paragraphs, num-
bered consecutively, and signed by each subscriber in the presence of at least one
witness who shall attest the signature Section 7.

13.5 Contents of the Memorandum of Association -


Section 4
Memorandum of Association of every company shall contain the following clause:
1. The Name Clause
2. The Registered Office Clause
3. The Objects Clause
4. The Liability Clause
5. The Capital Clause
6. The Association Clause

13.5.1 The name clause


The memorandum must state the name of the company with Limited as the last
word in case of a public limited company and with Private limited in case of a
private limited company.

13.5.2 Legal requirements as to the registered office clause


The memorandum of Association must mention the name of the state in which the
registered office of the company is to be situated. All communication and notices
should be sent to its registered office. The situation of companys registered office
determines the domicile of the company and it is important to determine the jurisdic-
tion of the courts in which the legal action can be taken by or against the company.

13.5.3 Legal requirements as to the objects clause


This clause defines the sphere of the companys activities, the specific objectives
for the formation of company. The company cannot do anything which is not there
in the object clause.
All companies under the Companies Act, 2013 must divide the objects clause into
two parts:
1. Main objects this sub-clause contains the main objects of the company to be
pursued on its corporation. Business Law : 183
Companies Act, 2013: 2. Objects incidental to achieve the main objective it covers the objects which
Memorandum, Articles of
Association and Prospectus are incidental or ancillary to the attainment of the main objective.

13.5.4 Legal requirements as to the liability clause


NOTES
This clause states the nature of liability of the members of the company. In case of
a company limited by shares, the liability of a member is limited to the nominal value
of shares held by him. If the shares are fully paid up his liability is nil. But in case of
partly paid up shares, the liability is limited to the amount which is unpaid.
In case of a company limited by guarantee, the liability clause must state the amount
which every member undertakes to contribute to the assets of the company in the
event of its winding-up.

13.5.5 Capital clause


This clause states that amount with which the company is to be registered. This
clause should also state the number and face value of shares into which the com-
pany is divided.

13.5.6 Association or subscription clause


In this clause, the subscriber declares that they desire to be formed into a company
and agree to take shares stated against their names. The name, address, occupation
of the subscriber must be given. Each subscriber must sign in the presence of at
least one witness who shall attest his signature. Every subscriber must take at least
one share. In case of public company the memorandum must be signed by at least
seven subscribers, while in case of private company, two subscribers must sign.
After the registration, no subscriber to the memorandum can withdraw his subscrip-
tion on any ground whatsoever.

13.6 Provisions for change in Name Clause of


Memorandum of Company or Alteration of Name
Clause
Company can change its name by own or on the order of central government.
Central government will issue order to change name of the company when the
name of the company if found to similar to that of other companys name or regis-
tered trade name.

13.6.1 Change of name on own Section 13


A company may, pass a special resolution and with the approval of the central
government signified in writing, change its name.
But no such approval is required in case of addition or deletion of the word Private
consequent on the conversion of a public company into a private company and vice
versa.

Business Law : 184


13.6.2 Rectification of name on own or on central Companies Act, 2013:
Memorandum, Articles of
governments order Section 16 Association and Prospectus

If, for any reason a company has been registered with a name which is identical
with or too closely resembles with the name of an existing company. Company shall NOTES
change its name within three months from the receipt of direction from the Central
Government by passing an ordinary resolution. Change of name shall not affect any
rights or obligations of the company or render defective any legal proceedings by or
against it.

13.7 Procedure to Change Registered Office from


One Place to Another within the Same City
A company can change its registered office from one place to another within the
local limits of the same town, village or city. The board of directors are simply
required to pass a resolution that effect. Further, a notice of the change in form INC
22 should be given to the registrar of companies within 15 days.
Necessary changes must be made in all records, letterheads, sign boards etc., and
all concerned parties should be informed.

13.8 Procedure to Change Registered office From one


City to Another City (Within Jurisdication of the Same
ROC within the Same State)
A meeting of the Board of Directors is to be called where in the draft special
resolution is to be passed and general meeting of the company should be called for
this purpose and special resolution to this effect must be passed in general meeting.
If the shares of the company are listed on stock exchange a copy of the resolution
certifying the change must be sent to the concerned stock exchange.
A notice of the change in Form INC 22 should be filled to the registrar of companies
within 15 days.
The company also required to file a certified true copy of the resolution along with
Form MGT 14 to the registrar within 15 days of passing of resolution.

13.9 Procedure to Change the Registered office from


the Juridiction of one ROC to the Jurisdiction of Another
ROC within the Same State - Section 12
No company shall change the place of its registered office from one place to an-
other within a state unless the change is confirmed by the Regional Director. The
company shall make an application in Form INC 23 form to the Regional Director to
shift its registered office from one ROC to another ROC within same state. If the
change is approved by the Regional Director than, the company shall file, with the
Registrar a certified copy of the confirmation by the RD, for change of its registered Business Law : 185
Companies Act, 2013:
office under this section, within 60 days from the date of confirmation, together with
Memorandum, Articles of
Association and Prospectus a printed copy of the memorandum as altered and the Registrar shall register the
same.

NOTES
13.10 Procedure to Change the Registered Office
from One State to Another
If the registered office is to be shifted from one state to another, it can be done by
exercising the following procedures
1. A special resolution should be passed and a copy thereof filed with the registrar
within 15 days in form MGT 14.
2. Application is made to the central government with a copy of the resolution and
the other documents after passing a resolution. The list of creditors is also at-
tached to the application.
3. After making an application to central government, advertise the application in
Form INC 26 in a English newspaper and another advertisement in a regional
daily newspaper should be published at least 14 days prior to the hearing.
4. Send notice to creditors and deposit holders who have the right to raise objec-
tion. If no objection is raised by any person, the central government may order
confirming change in the registered office without a hearing.
5. Confirmation order of the Central Government shall be filed with the Registrar
of companies within 30 days in Form INC 28.

13.11 Procedure for Changing the Objects Clause of


the Memorandum - Section 13
This clause can be altered by passing a special resolution. Section 13 lays down that
a company, which has raised money from public through prospectus and has any
unutilized amount out of the money so raised, shall not change its objects for which
it raised the money through prospectus unless a special resolution is passed by the
company. .
After passing resolution Form MGT 14 should be filled with Registrar of
Companies the Registrar shall certify the same within period of 30 days.

13.12 Alteration of Liability Clause


A company may, if authorized by its articles, alter its memorandum to make the
liability of its directors, managing director or manager unlimited, by passing a special
resolution. This rule applies to future appointees only. This alteration shall be valid
only if the officer concerned has given his consent in writing.

Business Law : 186


Companies Act, 2013:
13.13 Doctrine of Ultra Vires Memorandum, Articles of
Association and Prospectus
In the case of a company whatever is not stated in the memorandum as the objects
or powers is prohibited by the doctrine of ultra vires. As a result, an act which is
ultra vires is void, and does not bind the company. NOTES

Any activity done contrary to or in excess of the scope of activity of Directors,


Articles, and Memorandum of Companies will be Ultra Vires. Check your progress
In MOA there are 6 clauses.
The Ultra Vires can be divided into following categories: We can alter all clauses
1. An act Ultra Vires the directors except one clause, which
one is that clause?
2. An Act Ultra Vires the Articles of association. . Address of the registered
3. An act Ultra Vires the Memorandum of Association office is included in?

4. An act Ultra Vires the Companies Act.

13.13.1 Ultra vires to the directors


Act Ultra Vires to directors means any act beyond the power or authorities granted
to the directors by the shareholders of the company. If the act is ultra Vires the
directors, it is not altogether void, because this act can be ratified by the general
body of shareholders and on such ratification the act becomes binding on the com-
pany.

13.13.2 Ultra vires to the article of association


It means any act outperformed or done by the directors beyond the power granted
or procedure prescribed under the articles of a company. This can be ratified by
altering the articles of association of the company.

13.13.3 Ultra vires the memorandum of association


A company cannot do anything which is beyond the purview of the object clause. If
company does anything which is contrary to the objects clause of the Memorandum,
it shall be termed as Ultra Vires the Memorandum and it shall be wholly void or
inoperative. This cannot be subsequently ratified or validated even by a unanimous
resolution of all the shareholders.

13.13.4 Ultra vires the companies Act


Any act, which is contrary to or in excess of the scope of activity of the Company
act, shall be Ultra Vires the company. Such act is void and cannot be ratified by a
unanimous resolution of the all shareholders.

13.14 Effects of Ultra Vires Transaction


13.14.1 Act null and void
A contract which is ultra vires the company is wholly void ab initio and of no legal
effect. It cannot even be ratified by the whole body of shareholders.
Business Law : 187
Companies Act, 2013: 13.14.2 Company cannot sue or be sued
Memorandum, Articles of
Association and Prospectus Not only that outsider cannot enforce Ultra Vires transaction against the company, but
being void, the company can also not enforce such transactions against outsiders.
NOTES
13.14.3 Injunction
The members of the company are entitled to hold a company to its registered ob-
jects. Hence, whenever an ultra Vires act has been committed or is likely to be
committed, any member of the company can restrain it by getting an injunction
against it.

13.14.4 Personal liability of directors


It is duty of the directors to see that funds of the company are used only for legiti-
mate business of the company.

13.14.5 Personal liability of directors to third parties


The directors are the agents of the company and should act within its powers. If
director have directed the third party to make a new contract for which the com-
pany has no power, the directors shall be liable to third party.

13.14.6 Ultra vires acquired property


If companys funds were used in acquiring some Ultra Vires property, the company
has the right to hold the property and protect it against damage by other persons.

13.14.7 Ultra vires torts


A company shall not be liable for torts committed outside its objects. The company
can be made liable for torts or crimes of its employees, if
1. The torts were committed in the course of an activity which is in purview of
companys memorandum
2. It was committed by the employees within the course of his employment

13.15 Articles of Association


Section 2 (6) of the Companies Act, 2013 defines Articles of Association as the rules
and regulations or the bye-laws which governs the internal management of the
company.it is the second most important document to be filed with registrar at the
time of registration of the company. It states the powers of directors, officers and of
shareholders as to voting etc., the mode and form in which business is to be carried
out and the mode, and the form in which changes in the internal regulations can be
made.
Thus, Articles of Association are subordinate to the Memorandum of Association of
the company. The Memorandum lays down what is to be done and the articles lays
down it is to be done.
It is not obligatory for public companies limited by shares to have their own Articles
Business Law : 188 (Section 5). A public company limited by shares, may either frame its Articles or
adopt the rules and regulations contained in Table F of schedule 1 of the Companies Companies Act, 2013:
Memorandum, Articles of
act, 2013 (Section 5). Association and Prospectus

13.16 Distinguish between Memorandum and Articles NOTES


of Association
The Memorandum is the charter of the company which defines its objects and pow-
ers. The Articles are the bye laws of the company, for the internal management of
the affairs, for achieving the objects set out in the Memorandum.
Memorandum is the supreme document of the company, while the Articles are sub-
ordinates to the Memorandum. If there is any conflict between the memorandum
and Articles, the Memorandum shall prevail.
The Memorandum defines the relationship between the company and the outsiders,
while the articles define the relationship between the company and its members and
among the members themselves.
A new company must prepare its Memorandum and file it with the Registrar before
the registration of the company becomes effective. But Articles are not required to
be filed for the purpose of registration. A company can adopt Table F if it does not
prepare its own articles.
Any act of the company which is Ultra Vires the Memorandum is wholly void and
cannot be ratified even by the whole body of shareholders. But, any act which is
Ultra Vires the Article, but Intra Vires the Memorandum, can be ratified by the
shareholders by passing a special resolution.
The Memorandum cannot be altered easily. But alteration of Articles is not difficult.
Articles can be passed by passing a special resolution and the approval from the
Central Government is not necessary.

13.17 Provisions related to Printing and Signature of


Articles
Articles shall be printed, divided into paragraphs, numbered consecutively and signed
by each subscriber of the Memorandum of Association in the presence of at least
one witness who shall attest the signature and shall likewise, add his address and
occupation.

13.18 Contents of the Articles of Association


It contains-
1. The exclusion, whole or in part, of Table F
2. Share Capital
3. Rights of Different classes of shareholders
4. Allotment of shares
Business Law : 189
Companies Act, 2013: 5. Calls on shares
Memorandum, Articles of
Association and Prospectus 6. Lien on shares
7. Forfeiture of shares
NOTES 8. Transfer of shares
9. Surrender of shares
10. Share certificate
11. Issue of share warrants
12. Increase or decrease of share capital
13. Conversion of shares into stock
14. Consolidation and sub-division of shares
15. Borrowing powers
16. General meetings, proceedings, thereof and votes, proxies and polls
17. Appointment of managerial personnel
18. Appointment and remuneration of auditors
19. Dividends and reserves
20. Accounts and audit
21. Adoption or execution of preliminary contracts
22. Capitalization of profits
23. Notices
24. Common seal
25. Winding up

13.19 Procedures for the Alteration of Articles of


Association - Section 14
Section 8, Companies Act, 2013 states that a company cannot alter the Articles of
Association without obtaining a prior permission from the central government. It
should be noted that a company can never place the existing articles. It can only
change the regulation contained in the Articles. The changes must not increase the
liability of any member and must not provide for the expulsion of a member by the
company.
A notice calling general meeting should be sent to every member at least 21 days
prior to the meeting wherein the proposed special resolution and the explanation
relating to the implication of the proposed change be given.
In case of listed company, notice shall be send to the respective stock exchange.
After the Articles have been altered, copy of amended articles should be filed with
the stock exchange. A copy of the special resolution along with explanatory state-
ment in form MGT 14 must be filed with the registrar.

Business Law : 190


Companies Act, 2013:
13.20 Limitations on Alteration of Articles Memorandum, Articles of
Association and Prospectus
A company can alter or add to the Articles of association at any time by passing a
special resolution. However the right to alter the Articles is subject to the following
limitations or restrictions: NOTES

13.20.1 Not inconsistent with provisions of any act


The alteration must not be inconsistent with any provisions of the Companies Act or
any other statute. However, Articles may impose on the company conditions stricter
than those provided under the law. If the alteration in Article will be Ultra vires the
memorandum, then it would be void and inoperative.

13.20.2 Not illegal or against public policy


The alteration must not contain anything illegal or against public policy.

13.20.3 Not inconsistent with the order of a government or


a court
The alteration must not be inconsistent with an order of the Central Government or
a tribunal as the case may be.

13.20.4 Must be bonafide


The alteration must be bonafide for the benefit of the company as a whole. The
alteration made shall be valid even if it is likely to affect adversely the interest of
some of the members.

13.20.5 Must not be fraudulent


If the alteration is for the benefit of majority and it constitutes a fraud on the minority
or inflicts hardship on the minority without any corresponding benefit to the com-
pany as a whole, it shall be invalid.

13.20.6 Must not result in breach of contract


The alteration must not cause a breach of contract with an outsider. Such an alter-
ation shall be void and the company shall be liable to pay damages to the other party.

13.20.7 Must not increase liability of the members


An alteration which has the effect of increasing the liability of the members to
contribute to share capital, is not binding on the present members, unless he has
given his consent in writing.
An alteration in the articles which has the effect of converting a public company into
a private company shall not be effective unless such an alteration has been ap-
proved by tribunal.

Business Law : 191


Companies Act, 2013:
Memorandum, Articles of 13.21 Binding effect of Memorandum and Articles of
Association and Prospectus Association
Section 10, Companies Act, 2013, the Memorandum and Articles of a company, when
NOTES
registered, bind the company and its members as if they, respectively, had been signed
by the company and each member. The Memorandum and Articles of Association
constitute a binding contract between the company and its each member.

13.21.1 Members of the company


Every member of the company is bound to observe the provisions of the Memoran-
dum and the Articles, as if each member had signed the same. A company can sue
its members for the enforcement of these provisions and the members may also be
restrained by court from committing the breach of provisions of these documents.
Shareholders cannot among themselves enter into an agreement which is contrary
to or inconsistent with the Articles of Association of the Company.

13.21.2 Company to the members


The company is also bound to its members by the provisions of the Articles of
Association. Any member is entitled to issue the company or obtain an injunction
restraining the company from committing any breach of the Articles or from doing
an illegal act. The company is bound to each member in respect of their rights as
members. The Articles of Association empowered the company to declare a divi-
dend to be paid to the shareholders with the sanction of the company at general
meeting. These documents bind the company to members in respect of their mem-
bership rights and not contractual rights of other kinds.

13.21.3 The Members inter Se


As between the members themselves, they are bound by the provisions of the ar-
ticles. The Memorandum and Articles of Association do not constitute express agree-
ment between the members of the company, but each member is bound by these
documents on the basis of the implied contract. The Articles regulate their right
Inter Se. but it can enforce only through the company. A shareholder may, however,
sue in his own name to restrain another, or others from doing fraudulent or Ultra
Vires act.

13.21.4 Company to outsiders


Outsiders mean a person who is not a member of the company. But even a member
may be an outsider. Section 10 creates an obligation binding on the company in its
dealings with members in their capacity as members.
Articles of Association create no contract between the company and outsiders,
even though outsiders are named in the articles in some capacity other than of a
member. An outsider is not entitled to enforce the articles against the company for
any breach of right that is conferred on him by the Articles.

Business Law : 192


Companies Act, 2013:
13.22 Doctrine of Constructive Notice Memorandum, Articles of
Association and Prospectus
The Memorandum and Articles of Association of every company are required to be
registered with the Registrar of Companies. On Registration documents become
public document. These documents are availed for public inspection either in the NOTES
office of the company or Registrar of companies on payment of fee.
Every person dealing with company is presumed to have read these documents and
understood them in their true perspective.
Every person dealing with the company must inspect these documents and make
sure that his contract is in conformity with their provisions. Whether he actually
reads them or not, he is presumed to have read and understood them.

13.23 Doctrine of Indoor Management


This is an exception to the rule of constructive notice.
Persons dealing with the company should read these documents and satisfy them-
selves that the company has the power to enter into the contract, and are required to
do no more. He is not required to examine whether the internal proceedings have
been compiled with or not. The details of internal procedure are not open for public
inspection as the Memorandum and Articles are. Thus, every person dealing with
the company is entitled to assume that everything has been done regularly so far as
the internal proceedings of the company are concerned.

13.24 Exceptions to the Doctrine of Indoor Management


It has following limitations-

13.24.1 Knowledge of irregularity


The protection under the rule of indoor management cannot be claimed by a person
who has the knowledge of the irregularity or constructive notice of irregularity.

13.24.2 Negligence on the part of the outsider


Where the circumstances are of a suspicious nature as to invite further inquiry and
the person has failed to enquire into it, he shall not be entitled to protection under this
rule.

13.24.3 Forgery
The protection under this doctrine shall not be available where the outsiders have
relied upon a forged document, because nothing can validate. A company is not
liable for forgeries committed by its officer. But a company may be held liable for
fraudulent acts of its officers acting under their ostensible authority on its behalf.

Business Law : 193


Companies Act, 2013:
Memorandum, Articles of 13.24.4 No knowledge of the articles
Association and Prospectus
The Doctrine of indoor management cannot be invoked in favour of a person of a
person who had no knowledge of the Articles of Association of the company. If the
NOTES contract is within the ostensible authority to bind the company, a company shall be
Check your progress liable for contracts made by him even if he had no knowledge of the articles of the
Signature on company.
Memorandum and
Association should be 13.24.5 Acts outside apparent authority
done by how many
persons in case of Public An outsider will not be protected if the act of an officer of a company is one which
company? would not ordinarily e within his powers simply, because under the articles, power to
What do you mean by do the act could have been delegated to him
Ultra-vires means?
Can a minor be a sub- 13.24.6 Void or illegal transactions
scriber to the memoran-
dum? The doctrine of indoor management shall not apply to those transactions, which are
void or illegal ab initio.

13.25 Prospectus
As per Section 2(70), means any document described or issued as prospectus and
includes a red herring prospectus or any notice, circular, advertisement or other
document inviting offers from the public for the subscription or purchase of any
securities of a body corporate.
A document shall be called a Prospectus if it satisfies two conditions:
1. It invites subscription to securities
2. The aforesaid invitation is made to the public.
As per the Companies Act, 2013 prospectus is required to be issued by a public
company when it makes an offer to public to subscribe for securities while public
company do not make public offer, it is not required to prepare prospectus.

13.26 Circumstances with the Prospectus is not


required to be Issued
Prospectus is required to be issued only when the public company makes an offer to
public to subscribe its shares or debentures. Issue of prospectus by a company is not
compulsory in the following cases:
1. It is private company
2. Public company need not issue a prospectus, if it is going for private placement.
3. Where the application form is issued to person to enter into an underwriting
agreement with respect to the shares of debentures.
4. Where the application form is issued in relation to shares or debentures not
offered to the public.
5. Where the shares or debentures are offered to the existing holders of shares or
Business Law : 194
Companies Act, 2013:
debentures by way of rights with or without the right of renunciation in favour of Memorandum, Articles of
other persons. Association and Prospectus

6. Where the issue relates to shares or debentures, which are, or to be, uniform in
all respects with shares or debentures previously issued and dealt in or quoted on NOTES
a recognized stock exchange.

13.27 Abridged Prospectus - Section 33


Section 33, Companies Act,2013, requires that no one shall issue any form of appli-
cation of shares or debentures of a company unless the same is accompanies by a
memorandum containing salient features of prospectus as may be prescribed.
It is further required that the abridged prospectus and the share application form
should bear the same printed number and then two should be separated by a perfo-
rated line. Accordingly, the investor may detach the form before submitting the
application to the company or designated banker.
When company issue abridged prospectus, it is duly bound to furnish prospectus on
demand.

13.28 Contents of a Prospectus - (Section 26[1]) and


Rule 3, 5 of Companies (Prospectus and Allotment of
Securieties Rules, 2014)
For obtaining a prospectus, a company has to comply with Section 26(1) read with
Rule 3 of the Companies Rules, 2014. The information must be included in prospec-
tus.
1. Name and address of the registered office of the company, company secretary,
chief financial officer, auditors, legal advisers, bankers, trustees, if any, under-
writer and such other persons may be prescribed.
2. A statement by the Board of Directors and a separate bank account where all
money material out of the issue are to be transferred and disclosures of details
of all money including utilized or unutilized money out of the previous issue in the
prescribed manner.
3. Dates of opening and closing of the issue and declaration about the issue of the
allotment letters and refunds within the prescribed time.
4. Details about underwriting of the issue.
5. Consent of the directors, auditors, bankers to the issue, experts opinion if any
as may be prescribed.
6. The authority for the issue and the details of the resolution passed therefore.
7. Procedure and time schedule for allotment and issue of securities.
8. Capital structure of the company in the prescribed manner.
9. Main objects and present business of the company and its location, schedule of
implementation of the project. Business Law : 195
Companies Act, 2013: 10. Particulars relating to:
Memorandum, Articles of
Association and Prospectus Management perception of risk factors specific to the projects
Gestation period of the project
NOTES
Extent of progress made in project
Deadlines for completion of the project
Any litigation or legal action pending or taken by government department or
statutory body during the last five years immediately preceding the year of
the issue of prospectus against the promoter of the company.
11. Minimum subscription, amount payable by way of premium, issue of shares
otherwise than on cash.

13.29 Reports with Prospectus


Every prospectus shall set out the following reports for the purpose of financial
information:
1. Reports by the auditors of the company with respect to its profit and losses
and assets and liabilities etc.
2. Reports related to profits and losses for each of the five financial years imme-
diately proceeding the financial year of the issue of prospectus including re-
ports of subsidiaries. If company has not completed five years than such report
for all financial years is required.
3. Reports made in prescribed manner by the auditors upon the profits and losses
of the business of the five financial years immediately preceding the issue and
assets and liabilities of its business on the last date to which the accounts of the
business were made up, being a date not more than one hundred and eighty
days before the issue of the prospectus.
4. Reports about the business or transaction to which the proceeds of the securi-
ties are to be applied directly or indirectly.

13.29.1 Declaration of the compliance


Every prospectus shall make a declaration about the compliance of the provisions of
this act and statement to the effect that nothing in the prospectus is contrary to the
provisions of this act, the Securities Contracts (Regulation) act, and 1956 and the
Securities and Exchange Board of India Act, 1992.

13.30 Refusal to Registrar Prospectus by the Registrar


of the Companies
Section 26 provides that the registrar shall not register a prospectus, if:
1. It is not dated.
2. It does not comply with the requirements of section 26 as to the matters and
Business Law : 196 reports to be set out in it.
3. It contains statements or reports of experts engaged or interested in the forma- Companies Act, 2013:
Memorandum, Articles of
tion or promotion or management of the company. Association and Prospectus
4. It is not signed by every person who is named therein as a director or proposed
director of the company or by his agent authorized in writing. NOTES
5. It is not accompanied by the consent in writing of the auditor, legal advisor,
attorney, banker, broker of the company to act in that capacity.

13.31 Shelf Prospectus and Information Memorandum


- Section 31
Shelf prospectus is a prospectus in respect of which the securities or class of secu-
rities included there in are issued for subscription in one or more issues over a
certain period without issue of further prospectus.
A company filing shelf prospectus with the registrar shall not be required to file
prospects every stage of offer of securities by it within a period of validity of pro-
spectus.
A company filing a shelf prospectus shall be required to file information memoran-
dum containing all material facts relating to new charges created, changes in the
financial position of the company as have occurred between the first offer of secu-
rities or the previous offer of securities and the succeeding offer of securities and
such other changes as may be prescribed, with the Registrar within the prescribed
time, prior to the issue of a second or subsequent offer of securities under the shelf
prospectus.
Information shall be issued to the public along with the shelf prospectus filed at the
stage of the first offer of securities and such prospectus shall be valid for a period of
one year from the date of opening of the first issue of securities under that prospec-
tus.
Any variation or changes between the dates of two public issues is highlighted by
issuing an Information memorandum.

13.31.1 Misstatement in prospectus


Misstatement in prospectus means a statement included in a prospectus shall be
demand to be untrue, if the statement is misleading in the form and context in which
it is included.

13.31.2 Liability for misstatement in prospectus section


34-35
It can be divided into 2 categories
13.31.2.1 Civil liability Section 35
When a person has subscribed for securities of a company acting on any statement
included in the prospectus which is misleading and has sustained any loss or damage
as a consequences thereof, the company and every person who:
1. Is a director of the company at time of issue of prospectus Business Law : 197
Companies Act, 2013: 2. Has authorized himself to be named and is named in the prospectus
Memorandum, Articles of
Association and Prospectus 3. Is a promoter of a company
4. Has authorized issue of prospectus
NOTES 5. Is an expert
6. Shall be liable to pay compensation to every person who has sustained such loss
or damage.
13.31.2.2 Criminal liability - Section 34
Where any prospectus is issue or circulated, which includes any statement which is
untrue or misleading in form or context in which it is included or where any inclusion
or omission of any matter is likely to mislead, then every person who authorizes the
issue of such prospectus shall be liable under section 447 for fraud.
13.31.2.3 Class Action -Section 37
Complain may be filed under Section 34 or 35 by group of persons or association of
persons who are affected by misleading statement in public issue. When a group of
affected parties jointly file a complaint, it is known as class action.

13.31.3 Defences available to directors in case of misleading


prospectus
The person made liable may escape his liability, if he proves:

13.31.3.1 Withdrawal of consent


That he withdraws his consent to become a director before the issue of the prospec-
tus, and that it was issue without his consent or authority.

13.31.3.2 Issue without Knowledge


The prospectus was issued without his knowledge or consent and that on becoming
aware of its issue, he forthwith gave public notice that it was issued without his
knowledge.

13.31.3.3 Ignorance of untrue nature of the statement


That he believed, on reasonable grounds, that the statement was true.

13.31.3.4 Statement of expert


A director may escape from his liabilities where he proves that the statement was
made on the authority of an expert who was competent to make it and that person
has given his consent and had not withdrawn it.

13.32 Key Terms


Void ab initio: means to be treated as invalid from the outset,
Constructive notice: thelegal fiction that signifies that a person or entity should
have known, as a reasonable person would have, of a legal action taken or to be
Business Law : 198 taken, even if they have no actual knowledge of it.
Intra-vires: It means something which is within the legal power or authority of Companies Act, 2013:
Memorandum, Articles of
a person or official body etc. Association and Prospectus
Shelf prospectus: It means a prospectus in respect of which the securities or
class of securities included therein is used for subscription in one or more issues NOTES
over a certain period without the issue of a further prospectus.
Red herring prospectus: It is a prospectus, which does not have details of
either price or number of shares being offered, or the amount of issue. This
means that in case price is not disclosed, the number of shares and the upper
and lower price bands are disclosed.

13.33 Summary
Prospectus, memorandum and articles are the legal documents required by a
company. Prospectus provides details about the investment offering for sale to
the public. It is filed with the stock exchange and Securities and Exchange
Board of India (SEBI).
Articles along with Memorandum form the companys constitution which de-
fines the responsibilities of the directors, the kind of business to be undertaken,
and means by which shareholders can exert control over the Board of Direc-
tors.
The memorandum confirms that the subscribers wish to form a company under
the Companies Act and agree to become members of the company. In the case
of a company that is to have a share capital, they undertake to receive at least
one share each.
The articles of association set out how the company is run, governed and owned.
The articles can put restrictions on the companys powers which may be use-
ful if shareholders want comfort that the directors will not pursue certain courses
of action, at least without shareholder approval. There are exceptions to the
unlimited powers given to companies.
Charitable companies must state the charitable objects that the company is re-
stricted to and community interest companies must restrict the company to objects
that benefit the community. The articles can be amended. If a company changes
its articles other than to the model articles a copy of the articles should be sent to
Companies House within 15 days of the change for review. A copy of the amend-
ing resolution must also be send within 15 days of being passed. You do not need to
tell Companies House why you are changing the articles of association. Its also
sensible for the board to review the articles on a regular basis.
As the company and its circumstances change, some existing clauses may no
longer be useful or new provisions may be desirable. By reviewing and, where
appropriate, updating the articles of association the company can achieve the
most appropriate balance between the needs of the directors and shareholders,
giving the former the right powers to run the company while protecting the
interests of its members.
Business Law : 199
Companies Act, 2013:
Memorandum, Articles of 13.34 Questions and Exercise
Association and Prospectus
1 Write a short note on the form of the memorandum of association.
2 What are the requirements of the association clause?
NOTES
3 Any act which is ultra-vires to the directors is void comment.
4 What are the content of the article of association?
5 Can a Company alter article of association? If so then how?
6 What are the legal requirements as to the Liability Claus? Can liability of a
member be increased?
7 The power to alter article is wide yet it is subject to large number of limitations
Comment.
8 State the procedure to be followed by a company for change in registered office
from one place to another within same state.
9 What are the legal requirements as to the liability clause? Can liability of a
member be increased?
10 Any act which isultra- vires to the directors is void comment.
11 State the procedure to be followed by a company to shift its registered office
from one state to another state.
12 When registrar of company shall refuse to register the prospectus?

Practical Problems
1. An offer was made by Co. Shree to the members of Co. JK and ACC to
acquire all their shares in these companies in exchange of allotment of shares of
Co. Shree. Whether it could be considered as invitation to public?
2. Newspaper advertisement stated some shares are still available for sale ac-
cording to terms of prospectus of a co., which may be obtained on application.
Whether newspaper can be held as prospectus?
3. The secretary of a company issued a share certificate to A under the companys
seal with his own signature and the signature of a director forged by him. A
borrowed money from B on the strength of this certificate. B wanted to realise
the security and requested the company to register him as a holder of the shares.
Explain, whether B will succeed in getting the share registered in his name.
4. RD Company Ltd. Is registered in Telangana within the jurisdiction of the Reg-
istrar of Companies, Hyderabad. The company proposes to shift its registered
office to a place within the jurisdiction of the Registrar of Companies, Chennai.
State the steps to be taken by the company to give effect to the proposed
shifting of its registered office.
5. The Articles of a public company clearly stated that Mr Anil will be the solicitor
of the company. The company in its general meeting of the shareholders, re-
solved unanimously to appoint Sunil in place of Anil as the solicitor of the com-
pany by altering the Articles of Association. Examine whether company can do
Business Law : 200 so? State the reasons clearly.
Companies Act, 2013:
13.35 Further Readings and References Memorandum, Articles of
Association and Prospectus
Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
NOTES
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Manage-
ment, Vikas Publishing House Pvt. Limited.

Business Law : 201


Companies Act, 2013:
Memorandum, Articles of
Association and Prospectus

NOTES

Business Law : 202


Companies Act, 2013: Share
Unit 14: Companies Act, 2013: Share Capital and Capital and Transfer of Shares
Transfer of Shares
Structure
NOTES
14.0 Introduction
14.1 Unit Objectives
14.2 Share Capital
14.3 Types of Shares
14.4 Kinds of Preference Shares
14.5 Redemption of Redeemable Preference Shares
14.6 Equity Shares with Differential Rights
14.7 Voting Rights to Shareholders
14.8 Allotment of Shares
14.9 General Provisions for Allotment of Shares
14.10 Mode of Issue of Security
14.11 Legal Rules for Allotment
14.14 Return of Allotment
14.13 Underwriting Agreement
14.14 Brokerage
14.15 Reduction of Share Capital
14.16 Issue of Shares at Premium
14.17 Utilisation of Securities Premium Amount
14.18 Conditions for the Issue of Shares at Discount
14.19 Forfeiture of Shares
14.20 Legal Requirements for Forfeiture of Shares
14.21 Effect of Forfeiture of Shares
14.22 Surrender of Shares
14.23 Bonus Shares
14.24 Procedure for Bonus Shares
14.25 Right Shares
14.26 Call on Shares
14.27 Calls in Arrear
14.28 Calls in Advance
14.29 Buy back of Shares
14.30 Member
14.31 Who can become a Member of Company?
Business Law: 203
Companies Act, 2013: Share 14.32 Termination of Partnership
Capital and Transfer of Shares
14.33 Rights of Member of a Company
14.34 Rights to the Members as Group
NOTES 14.35 Transfer of Shares
14.36 Procedure of Transfer
14.37 Nomination
14.38 Certificate of Security
14.39 Distinction between Share and Share Certificate
14.40 Debentures
14.41 Types of Debentures
14.42 Rights of Debenture Holders
14.43 Debenture Trustee
14.44 Functions of Debenture Trustees
14.46 Key Terms
14.47 Summary
14.48 Questions and Exercise
14.49 Further Readings and References

14.0 Introduction
Share capital is the most common way of determining the ownership of a company.
In relation to a company limited by share capital, the share capital will be issued to
the shareholders when the company is first set up. However, further share capital
can be issued at a later date if necessary.
Authorized share capital can be defined as the largest amount of share capital that
a company can issue. This amount will be agreed on when the company is being
incorporated.
It should also be noted that the authorized share capital can be divided into different
share classes such as preferable or redeemable, each of which are subject to different
rights.
Shares were developed as a means of allowing a group of people to invest in a
business project by buying shares of it. To be an attractive investment, the shares
had to be transferable, so that the investor could sell the shares to retrieve their
value. So shares are presumed to be capable of transfer, even in a private company,
unless the company has restricted the right to transfer them by a provision in its
articles, or the shareholder has entered into a contract, such as a shareholders
agreement, not to transfer the shares.

Business Law: 204


Companies Act, 2013: Share
14.1 Unit Objectives Capital and Transfer of Shares

After completing this unit students will be able to:


Understand share capital and types of shares
NOTES
Know the allotment of shares and rules for allotment
Learn voting rights of shareholders
Discuss underwriting and Brokerage
Understanding alteration of share capital and reduction of share capital
Forfeiture, Surrender and lien on shares
Know bonus and Rights issue
Explain Calls on share, calls in arrear and calls in advance
Learn Buy-back of shares
Understand Termination of membership
Familirise with Procedure for transfer of shares
Know Transmission and nomination of shares

14.2 Share Capital


Share Capital means the capital raised by the company through the issue of shares.
The shares issued by company can be equity shares or preference shares.

14.2.1 Authorized capital Section 2(8)


It is the sum stated in the Memorandum of Association as the capital of the company
with which it is to be registered. It is also known as nominal or registered capital.

14.2.2 Issued capital Section 2(50)


A company may not issue the entire authorised capital at once, i.e. only a part of the
authorised capital which the company needs for the time being may be issued thus
issued capital is the part of authorized capital.

14.2.3 Subscribed capital Section 2 (86)


It is that part of the issued capital for which applications have been received from the public.

14.2.4 Called up capital Section 2 (15)


Called up capital is that part of the subscribed capital which has been called up or
demanded by the company. Usually the company does not demand the entire amount
due on the share at a time, but calls the amount in two or three instalments.

14.2.5 Paid up capital Section 2(64)


When subscribers for shares may fail to pay the full amount called up from them.
The portion of the called up capital which is actually paid by shareholders is termed
as paid-up capital. Business Law: 205
Companies Act, 2013: Share 14.2.6 Uncalled capital
Capital and Transfer of Shares
It is the total amount not called up on shares issued. However, the subscribers
continue to remain liable for this amount and have to pay it when they are called
NOTES upon to do so.

14.2.7 Reserve capital


It is that part of the uncalled capital which cannot be called by the company and can
be drawn in case of need.

14.3 Types of Shares


The shares which can be issued by a company are of two types:
1. Equity shares
2. Preference shares

14.3.1 Equity shares


Shares which are not preference shares and comes under section 85 (2). These
shares carry the right to receive the residual profit after the preference shares.
The dividend on equity is not fixed and hence may vary from year to year depending
upon the amount of profit available.
Equity shareholders have a right to vote on every resolution placed in the meeting
and the voting rights shall be in proportion to the paid up equity. Equity shares are
also known as ordinary shares.

14.3.2 Preference shares


Preference shares are those shares which have a preferential right in respect of the
payment of dividend and with respect to the payment of the capital. The dividend
amount is calculated at a fixed rate. A company can issue preference shares by
passing a special resolution.

14.4 Kinds of Preference shares


Preference shares can be of following types:

14.4.1 Cumulative and non-cumulative preference shares


Cumulative preference shares are those which are assured of dividends every year.
In case of cumulative preference shares, if in a particular year there are no profits
to pay the dividends, the preference dividend shall accumulate and must be paid out
of the profits of succeeding years.
All preference shares are assumed to be cumulative unless stated to the contrary in
the Articles of the company.
Non-cumulative preference shares are those on which unpaid dividend does not
accumulate but lapse i.e. the unpaid dividend is not carried forward.
Business Law: 206
Companies Act, 2013: Share
14.4.2 Participating and non- participating preference shares Capital and Transfer of Shares
Participating preference shares are those which, , in addition to their preferential
dividend, are also entitled to participate in the surplus profits which remain after
paying dividend to equity shareholders. NOTES
Non participating preference shares are those which are not entitled to participate
in the surplus profits or surplus assets.

14.4.3 Redeemable and irredeemable preference shares


Redeemable preference shares are those, the amount of which can be paid back to
the holders of such shares. The repayment duration of such shares cannot exceed
years.
Irredeemable preference shares are not redeemable except on the winding up of
the company.

14.4.4 Convertible and non-Convertible preference shares


Convertible preference shares are those which can be converted into equity shares
after a certain period. Holders have the right to convert these shares into equity.
Non convertible are those which cannot be converted into equity.

14.5 Redemption of Redeemable Preference Shares


Preference shares, the amount of which can be refunded to holders of such shares
are called redeemable preference shares. The paying back of capital is called
redemption.
Such shares can be redeemed only out of the following amounts:
1. The profits of the company which are available for dividend
2. The proceeds of fresh issue of shares which are issued for the purpose of
redemptions.
The redemption of the preference shares must be notified to registrar of companies
within 30 days of the date of redemption.

14.6 Equity Shares with Differential Rights or Non-


Voting Shares - Rules 4 of Companys Rules
Equity shares with differential rights are also known as differential equity or non-
voting shares. The following conditions shall be fulfilled to issue differential equity
shares:
1. The company must have distributable profits for the last three years.
2. Company must not been defaulted in filing of financial statement and annual
returns for the last three years.
3. Articles of the company must authorize issue of such shares.
4. Company must not have failed to pay dividend after its declaration. Business Law: 207
Companies Act, 2013: Share
Capital and Transfer of Shares 5. Company must not have defaulted in investors grievances
6. Company should not have been penalised by court or tribunal during the last 3
years.
NOTES 7. Company must not have defaulted in repayment of debt.

14.6.1 Procedure
If the company fulfils the conditions as above, it is required to convey general meeting
and pass an ordinary resolution approving the issue of differential equity. In case of
listed company the resolution must be approved by a postal ballot.

14.7 Voting right to Share Holders - Section 47


Equity shareholders enjoy voting rights for every subject matter while preference
shareholders do not have voting right under usual circumstances.

14.8 Allotment of Securities


When a public limited company issue a prospectus inviting the public to subscribe to
its securities and people apply for them, when this application is an offer to buy the
securities and when such application are accepted by company is called as
Allotment.
Allotment results in binding contract between the company and the prospective
security holder. Allotment is done by resolution of the Board of Directors, as per the
Articles of company. Thus, allotment is a fresh issue of shares. The re-issue of
forfeited shares cannot be called allotment.

14.9 General Provisions for Allotment of Securities


14.9.1 By proper authority
The allotment of securities must be made by proper authority that is Board of
Directors. The authority may be delegated by the Board as per provisions of Articles
of company.
Any allotment of authority made by an improper authority will be void.

14.9.2 Within a reasonable time


As per Contract law, the offer must be accepted within a reasonable time. If the
application for securities is not accepted within a reasonable time, then the applicant
may refuses to take the securities.

14.9.3 Must be communicated


The allotment, to be legally effective and binding must be communicated to the
applicant. Posting a properly address and stamped letter of allotment is a sufficient
communication even if the letter is delayed or lost in transit.
Business Law: 208
Companies Act, 2013: Share
14.9.4 Absolute and unconditional Capital and Transfer of Shares
The allotment of Securities should be absolute and unconditional and must confirm
to the terms and conditions of the application; otherwise the applicant shall not be
bound to accept them. NOTES

Check your progress


14.10 Mode of Issue of Securities - Section 23 Which capital is also
known as nominal capital?
A public company may issue securities by the following methods: Which types of
1. To the public through prospectus (public offer) shareholders have voting
rights?
2. Through private placement
3. Through a right issue or bonus issue.
A private company may issue securities by the following method
1. By way of right issue or bonus issue
2. Through private placement
As per Section 42(2), Private Placement means any offer of securities or invitation
to subscribe securities to a select group of persons by a company through issue of
private placement offer latter in Form PAS 4.

14.11 Legal Rules for Allotment - Sections 39-40


Legal rules for allotment of securities issue mentioned under Section 39 and 40 of
the Companies Act, 2013. These provisions are
1. Prospectus should be filed with registrar.
2. The application money received on application should be at least 5% of the
nominal value of shares. As per SEBI guidelines, the company should collect
25% of application money at the time of application. The company can collect
more than 25%.
3. If the minimum subscription amount is not received, the application money should
be refunded within 15 days from the closure of issue. If money is not repaid in
this duration than all the directors are jointly liable to repay money with 15%interest
per annum.
4. The company should apply to one or more stock exchanges for listing of securities
and obtain listing permission. If failed than
Fine of Rs. 5-50 lakh to the company
Officer in default is liable to imprisonment up to 1 year or fine of Rs. 50,000
1, 00,000 or both.
5. The application money received should be kept in different bank account known
as Escrow account.
6. The Board of Directors then passes a resolution making the allotment of securities
and authorizing the company the company secretary to issue the letter of
allotment. Business Law: 209
Companies Act, 2013: Share
Capital and Transfer of Shares 14.12 Return of Allotment - Section 39
Under Section 39 of the Companies Act, a company after allotment of its securities
must file with the Registrar of companies, a statement known as Return of Allotment
NOTES in the prescribed Form No. Pas-3 within 30 days of the allotment.
The return of allotment must contain the following particulars:
1. The number and nominal amount of shares allotted.
2. The names, addresses and occupations of the allottees.
3. The amount paid or due and payable on each share.
The details should be certified as correct by signatories to return.

14.13 Underwriting Agreement - Section 40(6) Read


with Rule 13 of Companies (Prospectus and
allotment of Securities) Rules, 2014
An underwriting agreement is an agreement between the company and an individual,
firm or organisation, known as underwriter, whereby the latter agrees to take up the
whole or part of the securities which may not be subscribed by the public.
This is a kind of insurance covering the shortfall in public response to its securities
offered for subscription.
As per Companies Act, 2013 section 40, a company may pay a commission to any
person in consideration of his subscribing, or agreeing to subscribe, for any securities
of the company, or his procuring or agreeing to procure subscription for any securities
of a company subject to the following conditions
1. The payment of underwriting commission should be authorized by the Articles
of the Company.
2. The commission may be paid out of proceeds of the issue or profit of the company or both.
3. The rate of commission must not exceed 5% of the price at which shares are
issued, and in case of debentures 2.5% of the price of debenture. Articles of the
company may provide less percentage of underwriting commission.
The prospectus should disclose the names of underwriters, the rate of commission
payable to the underwriter, and the number of securities which is agreed to be
underwritten.

14.14 Brokerage
A commission payable to broker who induce their clients to subscribe for the shares
or debentures is termed as brokerage. A broker does not undertake to subscribe for
shares if the shares are not taken up by the public.
Brokerage payable must be stated in the prospectus. All sums paid on account of
commission or brokerage must be disclosed in the balance sheet.
Business Law: 210
Companies Act, 2013: Share
14.15 Reduction of Share Capital Section 66 Capital and Transfer of Shares

According to Section 66 of Companies Act, 2013, a company limited by shares or


guarantee and having a share capital may, may, if so authorised by its Articles,
reduce its share capital by one of the following ways: NOTES

1. By extinguishing or reducing the liability on any of its shares in respect of share


capital or paid up capital.
2. By cancelling any part of the paid up capital which is lost as un-represented by
available assets.
3. By paying off any part of the paid-up capital which is in excess of the need of
the company
4. By any other method approved by the tribunal.

14.16 Issue of Shares at Premium


Company can issue shares either at par, premium or at discount. The issue of shares
at a premium means the issue of shares at a price higher than the nominal value of
the shares. The Companies Act, 2013, does not contain any provision for issue of
securities at premium. An offer of shares made to the public at a premium by way of
prospectus shall be made in accordance with SEBI guideline.

14.17 Utilisation of Securities Premium Amount -


Section 52
The amount of securities premium account can be utilised for the following purposes
specified under Section 52 of the Companies Act, 2013:
1. To issue fully paid bonus shares to the members of the company.
2. To write off the preliminary expenses of the company.
3. To write off the expenses of, or the commission paid or the discount allowed on
any issue of dates or debentures of the company.
4. For buy-back of shares
5. To provide the premium payable on the redemption of preference shares or
debentures of the company.

14.18 Conditions for the Issue of Shares at Discount


Company cannot issue any share at discount. However, it can issue sweat equity
shares at discount, if a company issue shares at discount, allotment shall be void and
company is liable to pay fine.

14.19 Forfeiture of Shares


If any member of the company fails to pay a valid call within the stipulated time, the
company has two options: Business Law: 211
Companies Act, 2013: Share
Capital and Transfer of Shares 1. It may either sue him for the amount
2. Forfeit the shares for non-payment of the call.
Suing the shareholder to recover the amount is a tedious process and therefore
NOTES almost all companies prefer to forfeit the shares. A company can forfeit the shares
only if it is authorised by the Articles of Association.

14.20 Legal Requirement for Forfeiture of Shares


14.20.1 In accordance with Articles
The Articles of association must empower the company to forfeit the shares. As per
Regulation 28 of Table F, shares can be forfeited only for non-payment of calls.

14.20.2 Proper notice


A notice requiring payment of the amount due together with any interest accrued
must be served mentioning a further day (not less than 14 days from the date of
service of the notice) on or before which the payments is to be made. The notice
must also mention that on non-payment, the shares are liable to be forfeited.

14.20.3 Bona fide and good faith


Power of forfeiture must be exercised bona fide and good faith. The power cannot
be used as a request to the shareholder to relieve him of liability such a forfeiture
amounts fraud on other shareholders. If shares are forfeited for this reason, the
forfeiture is void and the shareholder continues to be responsible for the unpaid part
of the issue price.

14.21 Effect of Forfeiture of Shares


On the valid forfeiture of shares, the original shareholder ceases to be a member of
the company and the name must be removed from the register of shareholders.
The original shareholder is free from all liability for past calls. The Articles of the
company may, however, make him liable for moneys which were actually due from
him. The payment of such amount cannot be enforced as call but, may be sued for
a debt. The suit must be filed within three years from the date on which the shares
were forfeited.

14.22 Surrender of Shares


Surrender of shares means voluntary return of shares to company for cancellation.
There is no provision for the surrender of shares either in the Companies Act, 2013
or in Table F, but the articles of some companies may allow it as a short- cut to the
long procedure of forfeiture.
Surrender of shares shall be valid only when there is provision to this effect in the
Articles of the Association of company. Surrender of shares shall be valid only
Business Law: 212
where the forfeiture is otherwise justified. In any other circumstances, surrender of Companies Act, 2013: Share
Capital and Transfer of Shares
shares cannot be accepted without the sanction of the court, as this would amount to
reduction of capital.

NOTES
14.23 Bonus Shares - Section 63
When large amount of reserves are accumulated with the company and the company
decides to distribute these past undistributed profits among the shareholders, it may
decide to issue shares free of cost to existing shareholders. such issue of shares is
known as bonus share. Bonus shares are issued to the members in proportion to
their existing shareholding.
Bonus shares can be issued only where there is a provision to this effect in the
Articles of the company. If the articles do not contain such provisions, the company
must pass a special resolution in the general meeting of the shareholders and make
such a provision.

14.24 Procedure for Bonus Shares


Discuss the proposal of bonus shares with Board of Directors along with the
proportion in which they are to be issued. Intimate the stock exchange the outcome
of the Boards meeting. Bonus issue is made within six months from the date of the
board meeting. hold a general meeting and get the resolution for issue of bonus
shares passed and forward copy to the concerned stock exchange.
If bonus shares are to be issued to non-resident members, obtain consent of Reserve
Bank of India. Fix the date of closure with the regional stock exchange.
Issue a public notice, at least seven days before, in respect of closure of register.
Also intimate the concerned stock exchange 21 days before the closure of register
or record date.
Send the letter of allotment to those members whose names appear in the register of
members on a record date. Within 30 days of the allotment, file a return of allotment
with the registrar.
Forward a certificate to SEBI duly signed by the issuer company and countersigned
by the statutory auditors or by the company secretary in practice that the bonus has
been made in terms of SEBI guidelines.

14.25 Pre-emptive Right or Right Shares - Section 62


Companies do not issue the whole of its authorised capital at once. When directors
need more funds for expansion or moderation, they may issue further shares.
However the directors cannot issue the new shares at their discretion.
The further shares shall be offered to existing shareholders. The right to get offer of
further shares is known as pre-emptive right.
If the company wants to issue further shares after the expiry of two years from its
formation or one year from the first allotment, whichever is earlier than the new Business Law: 213
Companies Act, 2013: Share shares must be offered to the existing equity shareholders in proportion to the paid-
Capital and Transfer of Shares
up capital on the shares held by them.
The shareholders must be informed with notice specifying the number of shares
offered and the time within which this offer is to be accepted. The time must not be
NOTES
less than 15 days and not more than 30 days to decide whether to accept the offer or
not.

14.25.1 When further shares are not required to be offered


to existing shareholders
A company may offer new shares to the outsiders without offering them to existing
shareholders in following cases:
1. If a special resolution is passed in the general meeting that the new shares will
be offered to the outsiders.
2. If a special resolution is not passed, but the vote cast in favour of the resolution
are more than the votes cast against the resolution, and approval of the central
government is obtained. The central government will give its approval, if it is
satisfied that the proposal is most beneficial to the company.
3. If the existing shareholders to whom the shares are offered decline to accept
the shares.
4. If it is a private company.
5. Where debentures or loans are converted into shares as per terms of issue of
debentures or loan agreement.

14.26 Call on Shares


Calls of shares mean demand by a company on its shareholders to pay the whole or
part of the balance remaining unpaid on each share.
When shares are issued to the public, a part of the amount is paid with the application
and the remaining as part on the allotment of the shares. The amount paid on
application and allotment is not considered as calls unless the Articles expressly
recognize them a call.
The unpaid amount on each share is called by the company in one or two instalments.
These instalments are known as calls.

14.27 Calls in Arrear


When members fail to pay the call money in time, the amount unpaid on calls is
known as Calls in Arrear. If calls are in arrear interest at 10% P.A. or such lower
rate as decided by Board is paid, the board has right to waive interest in part or in
whole as per regulation 16 of Table F.

Business Law: 214


14.27.1 Effects of non-payment of calls Companies Act, 2013: Share
Capital and Transfer of Shares
If a shareholder fails to pay calls within a specified time, the board may forfeit the
shares. The member shall not exercise voting rights.
NOTES
14.28 Calls in Advance
Members may apply the call amounts in advance, i.e. even before amount is called.
Section 50 provides that a company can accept such advance amount if articles so
provide.

14.29 Buy Back of Shares Section 68


The purchase by a company of its own shares.

14.29.1 Sources of buy-back


The company can purchase its own shares out of
1. Its free reserves,
2. The securities premium account
3. The proceeds of any shares or other securities.

14.29.2 Passing of resolution


Companies Act authorised the buy- back by passing a resolution at a meeting of the
Board of Directors provided the buy-back does not exceed 10%of the total paid-up
equity capital and free reserves of the company. However there cannot be more
than one buyback in period in one year, although buy-back more than 10% but less
than 25% of the total paid-up capital and free reserves is allowed with passing of
special resolution.
Buy back of shares in any financial year must not exceed 25% of its paid-up equity
capital in that financial year.

14.29.3 Post debt-equity ratio


The post debt capital ratio of the company is not more than twice the capital and its
free reserves. All the shares or other specified securities are fully paid- up.

14.29.4 Notice
The notice of meeting where special resolution is proposed to be passed shall be
accompanied by a explanatory statement stating and containing the following details:
1. A full and complete disclosure of all material facts.
2. The necessity of the buy -back
3. The class of security intended to be purchased under the buy-back.
4. The time limit for completion of buy-back.
5. The price at which buy back of shares shall be made.
Business Law: 215
Companies Act, 2013: Share
Capital and Transfer of Shares
14.29.5 Time limit
Every buy-back shall be completed within one year of the date of passing the special
resolution as above.
NOTES
14.29.6 Buy-back shall be permissible
The company can buy back shares from the existing shareholders on a proportionate
basis through a tender offer or from open market through book-building process.
The company may buy-back shares from odd-lot holders or securities issued to
employees of the company pursuant to a scheme of stock option or sweat equity.

14.29.7 Buy- back of securities prohibited


No company shall, directly or indirectly, purchase its own shares or other specified
securities:
1. Through any subsidiary company including its own subsidiary companies
2. Through any investment company or investment of group companies
3. If at default in repayment of interest or dividend to bank and debenture and
preference shareholders.
4. In case it has not complied with provisions of Section 92, Section127 and
Section129.
However, the company is not taken to have purchased its shares in the following
cases when it has:
1. Redeemed its redeemable preference shares
2. Forfeit its shares for non- payment of calls
3. Accepted a valid surrender of shares.

14.30 Member
Section 2(27) states that a member is the subscriber to the memorandum of the
company who shall be deemed to have agreed to become the member of the
company; and on its registration; shall be entered as member in its register.

14.30.1 Subscriber to memorandum


The subscribers to memorandum are deemed to have agreed to become members.
Their names must be entered into the register of members. They also agree to
subscribe to certain shares of the company, while subscribing to the memorandum
and hence are also shareholders.
Thus, if the subscribers later do not subscribe to the shares to which they have
agreed, they will not be members and will be responsible for payment in respect of
shares which they have agreed to subscribe. They will not get voting rights if they
do not pay for subscription.

Business Law: 216


14.30.2 By application in writing Companies Act, 2013: Share
Capital and Transfer of Shares
Every person who has agreed in writing to become a member of the company, and
whose name is entered into register is a member of the company. Thus, a shareholder
is not a member unless his name is entered in the register of the members of the NOTES
company.
Check your progress
14.30.3 By agreeing to take qualification shares of a public In which form return on
company- Director equity is paid?

When a director agrees to take qualification shares, such director is in the same If shares are issued by
position as if he has signed the memorandum of company for those shares of that the company to its exist-
number of value. Thus, he become a member of the company and will be liable in ing shareholders free of
respect of those qualifications shares. cost is known as?

14.30.4 Other methods


On surrender of share warrant, the name of the person is entered again into the
register of members and he is considered as member of the company.

14.31 Who can become a Member of a Company ?


14.31.1 Individual
The individual or group of individuals in their joint names can be a member. As per
government guidelines only 3 persons can be joint members.

14.31.2 Body corporate


Any incorporated body which has a separate legal personality can be member.

14.31.3 Government
The Government of India can become a member and shares are held in name of the
President of India. Similarly, a state government can hold in the name of Governor.

14.31.4 Partnership firm


A partnership firm cannot be a member of company. Individual partners can hold
shares in their joint names for the benefit of the partnership firm.

14.31.5 Other
A Hindu undivided family (HUF) cannot be a member of a company. A trust is not
a Legal person and therefore cannot be member of a company. A trade union can
be member of a company.

14.32 Termination of Partnership


A partnership can be terminated as
1. Transfer of shares to another person
2. Death of member and his heir representative Business Law: 217
Companies Act, 2013: Share
Capital and Transfer of Shares 3. Company exercising lien on shares and selling them.
4. Surrender of shares, which is accepted by company as short-cut to forfeiture.
5. Forfeiture of shares
NOTES 6. Buy back of shares by company.
7. Redemption of preference shares.
8. Compulsory sale of ordinary shares, if ordered by tribunal.
9. Expulsion of member, if permitted by articles.

14.33 Rights of a Member of the company


The Companies act, 2013, confers a number of rights on the member of a company
as:
1. To receive the share certificates, on allotment or transfer as the case may be
2. To have his name entered in the register of members
3. To sell/transfer/gift shares if he desires, subject to articles
4. To receive copies of annual report, financial statement, and auditors report
5. To vote in postal ballot
6. To obtain copies of memorandum and articles
7. To receive notice of general meetings with explanatory statement
8. To contest for the post of director of the company of the company or to nominate
another person for the post of director.
9. To receive corporate benefits like rights, bonus etc.
10. To receive dividend in prescribed time once approved in general meeting
11. To apply to SEBI regarding any grievance
12. To apply to the tribunal to call or direct the Annual General Meeting
13. To receive residual proceeds after completion of winding up

14.34 Rights to Members as a Group


Following are the rights that can be exercised by members of a group
1. To requisition an extraordinary general meeting (EOGM)
2. The appoint and remove director or auditors
3. To restrict powers of directors by altering articles
4. To demand a poll on any resolution
5. To apply to the central government to investigate the affairs of the company.

14.35 Transfer of Shares - Section 56 and 58


Section 56 provides that a company shall not register a transfer of shares of the
company unless a proper transfer deed in form SH 4 as given in Rule 11 of Companies
Act, 2013.
Business Law: 218
14.35.1 The time period of deposit of instrument for transfer Companies Act, 2013: Share
Capital and Transfer of Shares
An instrument of transfer of shares, i.e. Form SH 4 with the date of its execution
specified hereon shall be delivered to the company within sixty days from the date
of such execution by or on behalf of the transferor and by or on behalf of the NOTES
transferee.

14.35.2 Value of share transfer stamps to be affixed on the


transfer deed
Stamp duty for transfer of shares is 25 paise for every Rs. 100 or part thereof of the
value of shares as per notification by the Ministry of Finance, Department of Revenue.

14.35.3 Time limit for issue of certificate on transfer Sec-


tion 56(4)
Every company shall deliver the certificates of all shares within one month unless
prohibited by any provision of law or any court order.

14.35.4 Private company shall restrict right to transfer its


shares
The entire shareholding of a private company may be owned by a family or other
private groups. Section 2(58) of the Companies Act, 2013, provides that the articles
of a private company shall restrict the right to transfer the companys shares.

14.35.5 Restriction on transfer in private company not ap-


plicable in certain cases
Restriction upon transfer of shares in a private company is not applicable in the
following cases:
1. The right of member to transfer his/her shares cannot be applicable in case
where the shares are to be transferred to his representative.
2. In the event of death of a shareholder, the legal representatives may require the
registration of share in the names of heirs, on whom the shares have been
developed.

14.35.6 Time limit for refusal of registration of transfer


Provisions related to refusal of registration and appeal against refusal is given in
Section58 of the Companies act, 2013. Power of refusal to register transfer of
shares is to be exercised by the company within 30 days from the date on which the
instrument or transfer or the intimation of transfer, as the case may be, is delivered
to the company.

14.36 Procedure of Transfer - Section 56


14.36.1 Procedure for transfer of share in a private company
The following steps shall be followed by a private company to transfer of shares: Business Law: 219
Companies Act, 2013: Share 1. Transferor should give a notice in writing for his intention to transfer his share to
Capital and Transfer of Shares
the company.
2. The company, in turn, should notify other members as regard the availability of
shares and the price at which such shares would be available to them.
NOTES
Check your progress 3. Such price is generally determined by the directors or the auditors of the company.
Can a company buyback its 4. The company should also intimate to the members, the time limit within which
shares out of reserves?
they should communicate their option to purchase shares on transfer.
Utilization of securities
premium amount comes 5. The none of the members comes forward to purchase shares, then the shares
under which section? can be transferred to an outsider and the company will have no option, other
Pre-emptive right is also than to accept the transfer.
known as what?
6. Get the share transfer deed in Form SH-4 duly executed both by the transferor
and the transferee.

14.36.2 Basic procedure for transfer of share in a public


company
Section 58(2) provides that the shares or debentures and any interest therein of a
public company shall be freely transferable.
The following steps shall be followed by a public company to give effect to the
transfer of shares:
1. Get the share transfer deed inform SH-4 duly executed both by the transferor
and the transferee.
2. The transfer deed should bear stamps according to the Indian stamp act. The
stamps affixed should be cancelled at the time or before signing of the transfer
deed.
3. The signatures of the transferor and the transferee in the share transfer deed
must be witnessed by a person giving his signature, name and address.
4. The relevant share certificate or allotment letter should be attached with the
share transfer deed and delivered to the company. The share transfer deed
should be deposited with the company within 60 days from the date of such
execution by or on behalf of the transferor and by or on behalf of the
transferee
5. The board shall consider the received share transfer deed.

14.37 Nomination - Section 72


Section 72 of Companies Act, 2013, provide for nomination of the security holder
the effect of nomination is that on the death of a security holder, the nominee becomes
entitled to the security belonging to the security holder.
Nomination is optional and it is made in Form No. SH.13 and company should register
it in the register of security holder within 2 months.

Business Law: 220


Companies Act, 2013: Share
Capital and Transfer of Shares
14.38 Certificate of Security - Section 56
A security certificate is a document which specifies the number of the security held
by a person. It is issued by the company under the common seal. This document is NOTES
the prima facie evidence of the title of the person to the security mentioned therein.
Share certificate issued in Form No. SH-1. It has the following contents:
1. Name of the company
2. Serial number of the certificate
3. Name and address of the shareholder
4. Number of security held by him
5. Distinctive number of securities
6. Types or class of security
7. Revenue stamp
8. Common seal of company
9. Signature of two directors and secretary.

14.39 Distinction between Share and Share Certificate


A share certificate is the prima facie evidence of the shares held by a person. Loss
of share certificate does not mean loss of share as a duplicate can always be obtained.
The share is considered as goods and chose in action but share certificate is
neither goods nor chose in action.

14.40 Debentures
Section 2 (30) of the Companies Act, 2013 define inclusively debenture as
debenture includes debenture stock, bonds or any other instrument of a company
evidencing a debt, whether constituting a charge on the assets of the company or
not.
Debenture does not become share capital it is not a stock.

14.41 Types of Debentures


14.41.1 Secured and unsecured debentures
Secured debentures refer to those debentures where a charge is created on the
assets of the company for the purpose of payment in case of default. The secured
debenture holders have greater protection. Holders of secured debentures remain
convinced about the payment of interest and payment of principal in the event of
redemption.
These debentures are also known as naked debentures. These debentures are not
Business Law: 221
Companies Act, 2013: Share secured by way of charge on the companys assets. Interest rate payable on
Capital and Transfer of Shares
unsecured debentures is generally higher than that which is payable on secured
debentures.

NOTES 14.41.2 Redeemable and irredeemable debentures


Redeemable debentures are those which are payable on the expiry of the specific
period (Maximum period 10 years from the date of issue) either in lump sum or in
Installments during the life time of the company. Debentures can be redeemed
either at par or at premium.
Irredeemable debentures are also known as Perpetual Debentures because the
company does not give any undertaking for the repayment of money borrowed by
issuing such debentures. These debentures are repayable on the winding-up of a
company or on the expiry of a long period.

14.41.3 Convertible and non-convertible


Convertible debentures are those debentures are converted into equity shares of the
company on the expiry of a specified period.
Partly convertible debentures are divided into two portions, viz., convertible and
non-convertible portion. The convertible portion is converted into equity shares of
the company at the expiry of specified period. The non-convertible portion is redeemed
at the expiry of the specified period in terms of the issue.

14.42 Rights of Debentures Holders


Rights which debenture holders have are follows:
1. To receive interest or redemption when due
2. To receive a copy of trust deed on request
3. To apply for winding up, if the company fails to pay its debt on maturity
4. To approach a debenture trustee with grievance, if any.

14.43 Debenture Trustee Section 71


A debenture trustee is appointed to protect the interest of debenture holders as the
letter may hold a nomination number of debentures and they do not have the time to
look after their interest in properties charged.
Under the trust deed, a charge on the companys property is created in favour of the
trustee who acts as supervisory of property charged for the benefit of debenture
holders.
The person cannot be appointed as trustee if:
1. He beneficially holds shares in the company.
2. He is beneficially entitled to money which is to be paid by the company to the
debenture trustees.
Business Law: 222 3. He has entered into any guarantee in respect of principal debts secured y the
debenture or interest thereon. Companies Act, 2013: Share
Capital and Transfer of Shares
If a company issues secured debentures, it is not possible to create charge in favour
of each individual debenture holder, hence the charge is created in favour of debenture
trustees.
NOTES

14.44 Functions of Debenture Trustees - Section 71


read with Rule 18 of Companies (Share Capital and
Debentures Rules, 2014)
The function of trustees is to protect the interest of debenture holders and to redress
the grievances of the debenture holders effectively.
1. To ensure that the assets of the company are sufficient to discharge the principal
amount at all times.
2. To ascertain that the prospectus or letter of offer does not contain any matter
which is inconsistent with terms debentures or the trust deed?
3. To ensure that a company does not commit any breach of covenants and
provisions of the trust deed.
4. Arrange a meeting of debenture holders as and when required.
5. To sell or lease the property and to renew the lease.
6. Take a mortgage so that title deeds are transferred to the trustees.
7. To obtain periodic report or information from company.
8. To appoint a nominee director on the board of the company in the event of:
a. Two consecutive defaults in payment of interest to the debenture holders
b. Default in creation of security for debenture
c. Default in redemption of debenture

14.45 Key Terms


Transferor: Someone who transfers something to somebody.
Transferee: Someone who receives something.
Ordinary resolution: An ordinary resolution is a resolution passed by the
shareholders of a company by a simple or bare majority (for example more than
50% of the vote) either at a convened meeting of shareholders or by circulating
a resolution for signature.
Un- called capital: Uncalled share capital is that part of subscribed share
capital which has not been called for payment by a company.
Sweat equity: Extra percentage of a firms common stock (ordinary shares)
allocated to the senior executives (over and above their current shareholdings)
as an additional motivation for continuing hard work for the firms success.
Blank transfer: A shareholder may transfer shares without filling in the name
Business Law: 223
of the transferee on the instrument. This type of transfer is called a blank transfer.
Companies Act, 2013: Share
Capital and Transfer of Shares
14.46 Summary
Share capital consists of all funds raised by a company in exchange for shares
NOTES of either common or preferred shares of stock. The amount of share capital or
equity financing a company has can change over time. A company that wishes
to raise more equity can obtain authorization to issue and sell additional shares,
thereby increasing its share capital.
The amount of share capital a company reports on its balance sheet only accounts
for the total amount initial paid by shareholders. If those shareholders later
resell their shares on the secondary market, any difference between the initial
and subsequent sales prices does not impact the companys share capital.
Before a company can raise equity capital, it must obtain permission to execute
the sale of stock. The company must specify the total amount of equity it wants
to raise and the base value of its shares, called the par value. The total par value
of all the shares a company is permitted to sell is called its authorized share
capital. While a company may elect not to sell all its shares of stock during its
initial public offering (IPO), it cannot generate more than its authorized amount.
Transferability is an important feature of a share in a company registered under
the Companies Act, from which emanates another feature of a company- perpetual
succession. It endows a company with perpetual and uninterrupted existence.
Upon incorporation, a company acquires its own independent legal personality
and legal entity in the company.
Section 82 states that the share shall be a movable property and transferable in
a manner provided by the articles of the company. It has, however, been
consistently held by the courts that subject to restrictions imposed by the articles,
a shareholder is free to transfer shares to a person of his own choice and that
the articles cannot put a complete ban or unreasonable restriction on the transfer.
While shares in a private company are not freely transferable and are subject to
the restrictions imposed by the articles of the company, shares in a public company
are freely transferable. There are different types of transfer such as transfer of
share by gifts, in case of joint holdings and transfer in private companies.

14.47 Questions and Exercise


1 Write down five rights available to a group of members.
2 Issue of further share capital should be should first be made to existing
shareholders.Comment.
3 What is return of allotment? When a company is required to file return of allotment?
4 What are the conditions required to be complied with by public company before
allotment of shares?
5 Explain the procedure for reduction of capital.
6 On redemption of preference shares, a person ceases to be a member of a
Business Law: 224
company. Comment. Companies Act, 2013: Share
Capital and Transfer of Shares
7 What are the different kinds of shares which a company can issue under
Companies Act, 2013?
8 Out of which sources can a company redeem preference shares? NOTES
9 What is the difference between called up capital and uncalled capital.
10 When can a company issue redeemable preference shares?
11 Explain the various terms used in reference of capital under Companies Act,
2013. A Company can exercise lien any time. Comment.
12 Define Underwriting. As per the Companies Act, what is maximum percentage
of underwriting paid by a company?

Practical Problems
1. A private limited company issued a certain number of shares as fully paid to a
subscriber to the memorandum on the basis of a promissory note executed by
him as consideration towards the shares. Since no money was paid towards the
allotment, the company after five years from the date of allotment wants to
forfeit those shares and re-issue. Can the company do so?
2. ABC Company goes for public issue of each share of face value Rs. 10. The application
money is Rs. 2, allotment Rs. 3, first call Rs. 4, final call Rs. 1. Is this valid?
3. XYZ Company goes for a public issue application called for on 1st April 2013.
The allotment was made on 1st may 2013, the first call was on 1st June 2013, and
2nd call on 15th June 2013. Can the company do so?
4. ACC Company Ltd. Desirous of buying back of all its equity shares from the
existing shareholders of the Company, seeks your advice. Examining the
provisions of the Companies Act, 2013, advice whether the above buy-back of
equity shares by the company is possible. Also state the sources out of which
buy-back of shares can be financed.
5. Are the following grounds reasonable for refusal to transfer shares in a private
company?
1. Where transferee is a person whose activities are against the interest of
the company.
2. The transferee had applied in the past for winding up of the company.
3. The transferee belongs to a rival concern.
4. Where the transferor is indebted to the company and the article gives
authority to the board to refuse the transfers made by an indebted member
5. The proposed transfer was done without any consideration

14.48 Further Readings and References


Books:
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
Business Law: 225
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.
Companies Act, 2013: Share
Capital and Transfer of Shares

NOTES

Business Law: 226


Companies Act, 2013: Meeting
Unit 15: Companies Act, 2013: Meeting and and Power of Board
Power of Board
Structure
NOTES
15.0 Introduction
15.1 Unit Objectives
15.2 Kinds of Company Meetings
15.3 Requisites of a Valid Meeting
15.4 Different Manner of Serving Notice to Members
15.5 Provisions Regarding Notice of General Meeting
15.6 Annual General Meeting (AGM) - Section 96
15.7 Report on AGM Section 121
15.8 Notice of Annual General Meeting
15.9 Usual Business at an Annual General Meeting- Section 102
15.10 Extraordinary General Meeting- EGM- Section 100
15.11 Extraordinary General Meeting on Requisition
15.12 Proxy- Section 105
15.13 Revocation of Proxy after Appointment
15.14 Quorum for General Meeting- Section 103
15.15 Chairman of a General Meeting- Section 104
15.16 Powers of the Chairman of a General Meeting
15.17 Poll- Section 109
15.18 Postal Ballot- Section 110
15.19 Procedure for Passing Resolution by Postal Ballot
15.20 Business Passing Resolution through Postal Ballot
15.21 Adjournment of Meeting
15.22 Meeting of Debenture Holders
15.23 Meeting of Creditors
15.24 Kinds of Resolutions
15.25 Resolution Requiring Special Notice- Section 115
15.26 Minutes of Proceedings of General Meeting- Section 118-119
15.27 Meaning of Board of Directors
15.28 Powers of the Board of Directors Which can be exercised at their Meeting
15.29 Powers of the Board to make Contribution to National Defence Fund- Section
183
15.30 Restriction on Powers of Board
Business Law : 227
Companies Act, 2013: Meeting
and Power of Board 15.31 Prohibition and Restriction regarding Charitable fund by Directors- Section
181
15.32 Restriction on non-cash Transaction involving Directors- Section 192
NOTES 15.33 Prohibition on Forward Dealings in Securities of Company- Section 194
15.34 Prohibition on Insider Trading- Section 195
15.35 Frequency of Board Meetings
15.36 Notice of Board Meeting
15.37 Quorum for Board Meeting- Section 174
15.38 Matters which cannot be dealt at Board Meeting through Video Conferencing
15.39 Chairman at Board Meeting
15.40 Voting at Board Meeting
15.41 Minutes of Board Meeting- Section 118
15.42 Key Terms
15.43 Summary
15.44 Questions and Exercise
15.45 Further Readings and References

15.0 Introduction
A meeting may be generally defined as a gathering or assembly or getting together
of a number of persons for transacting any lawful business. There must be at least
two persons to constitute a meeting. Therefore, one shareholder usually cannot
constitute a company meeting even if he holds proxies for other shareholders.
However, in certain exceptional circumstances, even one person may constitute a
meeting.
It is to be noted that every gathering or assembly does not constitute a meeting.
Company meetings must be convened and held in perfect compliance with the various
provisions of the Companies Act, 2013 and the rules framed thereunder. A Company
is composed of members, though it has its own entity distinct from members. The
members of a company are the persons who, for the time being, constitute the
company, as a corporate entity. However, a company, being an artificial person,
cannot act on its own. It, therefore, expresses its will or takes its decisions through
resolutions passed at validly held meetings. The primary purpose of a meeting is to
ensure that a company gives reasonable and fair opportunity to those entitled to
participate in the meeting to take decisions as per the prescribed procedures.

15.1 Unit Objctives


After completing this unit students will be able to:
Understand the types of meetings and its purpose
Business Law : 228 Get familiar with extra- ordinary general meeting
Know the proxy and quorum Companies Act, 2013: Meeting
and Power of Board
Discuss about the board of directors and their power
Learn the adjournment of meeting
NOTES

15.2 Kinds of Company Meetings


Broadly, meetings in a company are of the following types-
1. Meeting of the members:
Statutory general meeting.
Annual general meeting.
Extra ordinary general meeting.

2. Board meetings: It also includes meetings of the committees of the board.

3. Meetings of creditors:
For purpose other than winding up, and
For winding up.

4. Class meeting: Meetings of a particular class of shares.

15.3 Requisites of a Valid Meeting


The following conditions must be satisfied for a meeting to be called a valid meeting:

15.3.1 By proper authority


A meeting must be properly convened. The persons calling the meeting must be
authorised to do so. If the meeting is called by the person who does not have
authority, meeting is said to be invalid.

15.3.2 Proper notice


Proper and adequate notice must have been given to all those entitled to attend the
meeting. The notice of meeting should have been given well in advance. The
provisions regarding serving notice to the members for general meetings are discussed
in detail in next section.

15.3.3 Chairman
The meeting must be legally constituted. There must be a chairperson. It is not
possible to convene a meeting if the chairperson is not present at the time of meeting.

15.3.4 Quorum
Quorum stands for the minimum number of members to be present at the meeting
to discuss the subject matter at the meeting. The rule of quorum must be maintained
and the provisions of the companies act, 2013 and the articles must be complied
with. If the meeting is convened without quorum, the meeting will be invalid.

Business Law : 229


Companies Act, 2013: Meeting 15.3.5 Other rules
and Power of Board
The business at the meeting must be validly transacted. The meeting must be
conducted in accordance with the regulations governing the meetings. The rules of
NOTES article of the association in this regard should be followed.

15.4 Different Manner of Serving Notice to Members


Notice of general meeting canbe given in any manner prescribed in Section 20:
1. By handing over the notice to the member personally, or
2. By post under a certificate of postingor by registered post or speed post.
3. By electronic means.
Notice is deemed to have been served on a person to whom the notice is addressed,
if the notice is posted to him, by affixing stamps of requisite value at his address
registered in India (Col. Kuldip Singh Dhillon v. Paragon Utility Financiers P
Ltd.
In case of notice by post, notice of meeting is deemed to be served 48 hours after
the time of posting irrespective of actual date of receipt of notice by the member.
This is so even when the day after 48 hours happens to be a Sunday or holiday.

15.4.1 Notice in case of joint holders


In case of joint holding, notice is necessary only to the first joint holder in the register
of members, i.e., whose name appears first in the register.

15.4.2 Notice by registered post or by UPC


As per Section 20, a member can inform the company in advance that notice should
be sent to him under a postal certificate or by registered post or courier with
acknowledgement. A member may request the company for delivery of document
through a particular mode. He should deposit a sum sufficient to defray the expenses
in doing so. If he has done that, and if the notice is not served the way the member
wanted it to be served, the notice will not be deemed to have been given.

15.5 Provisions Regarding Notice of General meeting


A notice calling a General meeting has to be in writing and to be given at least
21 Clear Days before the meeting date.
A shorter notice of less than 21 Clear Days is valid for calling a General Meeting if
consent is given by not less than 95% of the members entitled to vote at such meeting
and such consent can be either in writing or by electronic mode. Sec.101 (1)
Section 101(2) provides that every valid notice calling the meeting shall specify
the place, date, day and time and it should contain a statement of the business to
be transacted at such meeting.
Where notice is sent by post, service is affected by properly addressing, pre-
Business Law : 230 paying and posting the notice.
A notice may be given to joint holders by giving it to the joint holder first name Companies Act, 2013: Meeting
and Power of Board
din the register of members.
A notice convening an AGM must be accompanied by the annual accounts of
the company, the directors report and the auditors report.
NOTES
As per Section 101 (3), notice of general meeting must be in writing and should
Check your progress
be given to-
Discuss the different kinds
1. All members as per the address available in register of members of company meetings.
Explain the requisites for
2. In case of insolvent members, to their assignee by post or if his is not known, the valid general meeting
to the earlier known address of the insolvent member
3. In case of deceased member, to his representatives, and is his address is not
known, to earlier address of the deceased member/ members.
4. To auditors
5. To preference shareholders
6. In case of joint holding, noticed is necessary only to first joint holder in the
register of members, i.e., to the one whose name appears first in the register.

15.6 Annual General Meeting (AGM) - Section 96


Annual general meeting (AGM) is an important annual event where members get
an opportunity to discuss the activities of the company. Section 96 provides that
every company, other than a one person company isrequired to hold an annual general
meeting every year. Following are the key provisions regarding the holding of an
annual general meeting:

15.6.1 Holding of annual general meeting


1. Annual general meeting should be held once every year.
2. First annual general meeting of the company should be held within 9 months
from the closing of the first financial year. Hence it shall not be necessary for
the company to hold any annual general meeting in the year of its incorporation.
3. Subsequent annual general meeting of the company should be held within 6
months from the closing of the financial year.
4. The gap between two annual general meetings should not exceed 15 months.

15.6.2 Extension of validity period of AGM


In case, it is not possible for a company to hold an annual general meeting within the
prescribed time, the registrar may, for any special reason, extend the time within
which any annual general meeting shall be held. Such extension can be for a period
not exceeding 3 months. No such extension of time can be granted by the registrar
for the holding of the first annual general meeting.

15.6.3 Time and place for holding an annual general meeting


An annual general meeting can be called during business hours, that is, between 9
a.m. and 6 p.m. on any day that is not a National Holiday. It should be held either at Business Law : 231
Companies Act, 2013: Meeting the registered office of the company or at some other place within the city, town or
and Power of Board
village in which the registered office of the company is situate. The Central
Government is empowered to exempt any company from these provisions, subject
to such conditions as it may impose.
NOTES
National Holiday for this purpose means and includes a day declared as National
Holiday by the Central Government.

15.7 Report on AGM Section 121


In terms of section 121(1) every listed public company required to prepare a report
on each annual general meeting including the confirmation to the effect that the
meeting was convened, held and conducted as per the provisions of the Act and the
rules made thereunder. A copy of the report is to be filed with the Registrar in Form
No. MGT-15 within thirty days of the conclusion of annual general meeting along
with the prescribed fee.
According to Rule 31, the report shall be prepared in the following manner:
1. A report under this section shall be prepared in addition to the minutes of the
general meeting.
2. The report shall be signed and dated by the chairman of the meeting or in case
of his inability to sign, by any two directors of the company, one of whom shall
be the managing director, if there is one.
3. Such report shall contain the details in respect of the following:
The day, date, hour and venue of the annual general meeting.
Confirmation with respect to appointment of chairman of the meeting.
Number of members attending the meeting.
Confirmation of quorum.
Confirmation with respect to compliance of the Act and the Rules, secretarial
standards made there under with respect to calling, convening and conducting
the meeting.
Business transacted at the meeting and result thereof.
Particulars with respect to any adjournment, postponement of meeting, change
in venue.
Any other points relevant for inclusion in the Report.
4. Such Report shall contain fair and correct summary of the proceedings of the
meeting.

15.8 Notice of Annual General Meeting


A general meeting of a company may be called by giving not less than 21 clear days
notice either in writing or through electronic mode. Notice through electronic mode
shall be given in such manner as may be prescribed. The day and date of the meeting
Business Law : 232 should be clearly stated in the notice. Every notice calling a meeting of a company
which has a share capital, or the articles of which provide for voting by proxy at the Companies Act, 2013: Meeting
and Power of Board
meeting, should carry with reasonable prominence, a statement that a member entitled
to attend and vote is entitled to appoint a proxy, or, where that is allowed, one or
more proxies, to attend and vote instead of himself, and that a proxy need not be a
NOTES
member.

15.9 Usual Business at An Annual General Meeting -


Section 102
Sub-section (2) of Section 102 provides that all other businesses transacted at an
Annual General Meeting except the following are special business:
1. the consideration of financial statements and the reports of the Board of Directors
and auditors;
2. the declaration of any dividend;
3. the appointment of directors in place of those retiring;
4. the appointment of, and the fixing of the remuneration of, the auditors.
In case of any other meeting all business shall be deemed to be special.

15.10 Extraordinary General Meeting (EGM)- Section 100


All general meetings other than annual general meetings are called extraordinary
general meetings. Such meeting is usually called by the board of directors for some
urgent business which cannot wait to be decided until the next AGM. Every business
transacted at such a meeting is special business.
An explanatory statement of the special business must also be accompany the notice
calling the meeting. The notice must also give the nature and extent of the interest of
the directors or managers in the special business, as also the extent of the shareholding
interest in the company of every such person. In case approval of any document has
to be done by the members at the meeting, the notice must also state that the document
would be available for inspection at the registered office of the company during the
specified dates and timings.

15.11 Extraordinary General Meeting on Requisition


The Board must call an extraordinary general meeting on receipt of the requisition
from the following number of members:
1. in the case of a company having a share capital: members who hold, on the
date of the receipt of the requisition, not less than one-tenth of such of the paid-
up share capital of the company as on that date carries the right of voting;
2. in the case of a company not having a share capital: members who have, on the
date of receipt of the requisition, not less than one-tenth of the total voting
power of all the members having on the said date a right to vote.
The requisition should set out the matters to be considered at the proposed meeting Business Law : 233
Companies Act, 2013: Meeting and the same should be signed by the requisitionists and sent to the registered office
and Power of Board
of the company.

NOTES 15.12 Proxy - Section 105


Appointment of a proxy is an important right of a member of the company. The Act
contains elaborate provisions regarding exercise of this right by a member.
Any member of a company entitled to attend and vote at a meeting of the company
shall be entitled to appoint another person as a proxy to attend and vote at the
meeting on his behalf.
Every notice calling a meeting of a company which has a share capital, or the
articles of which provide forvoting by proxy at the meeting, should carry with
reasonable prominence, a statement that a member entitled to attend and vote is
entitled to appoint a proxy, or, where that is allowed, one or more proxies, to attend
and vote instead of himself, and that a proxy need not be a member. Hence a
company not having a share capital can abstain from complying with this provision
by incorporating necessary clause in its articles of association.
A proxy shall not have the right to speak at the meeting. A proxy shall be entitled to
vote only on a poll.
A member of a company registered under section 8 shall not be entitled to appoint
any other person as his proxy unless such other person is also a member of such
company.
A person appointed as proxy shall not act as proxy on behalf of more than fifty
members and members holding in the aggregate more than ten percent of the total
share capital of the company carrying voting rights.
The instrument appointing the proxy must be deposited with the company, 48 hours
before the meeting. Any provision contained in the articles, requiring a longer period
than 48 hours shall have effect as if a period of 48 hours had been specified.
The instrument appointing a proxy must be in Form No. MGT- 11. It needs to be in
writing and signed by the appointer or his attorney duly authorised in writing. If the
appointer is a body corporate, the instrument should be under its seal or be signed by
an officer or an attorney duly authorised by the body corporate. For execution of
proxy, the Articles of Association of a company can not specify any special
requirement to be complied with.
Every member entitled to vote at a meeting of the company, or on any resolution to be
moved thereat, is entitled to inspect the proxies lodged with the company, if at least 3
days notice is given to the company. Such inspection can be taken during the period
beginning 24 hours before the time fixed for the commencement of the meeting, during
the business hours of the company, and ending with the conclusion of the meeting.

15.13 Revocation on of Proxy after Appointment


The proxy can be revoked by the member at any time, and is automatically revoked
Business Law : 234 by the death or insolvency of the member.
The member may revoke the proxy by voting himself before the proxy has voted, Companies Act, 2013: Meeting
and Power of Board
but once the proxy has exercised the vote, the member cannot recast his vote.
Where two proxy forms by the same shareholders are lodged in respect of the same
votes, the last proxy form will be treated as the correct proxy form.
NOTES
Check your progress
15.14 Quorum for General Meeting - Section 103
What do you understand
Quorum refers to the minimum number of members required to constitute a valid by AGM?
meeting. Following are the minimum numbers provided in section 103, for various Distinguish between
general meeting and
categories of companies. However the Articles of Association of the company may extraordinary general
provide for a higher number. meeting.
What is proxy?
1. Public company
5 members personally present if the number of members as on the date of
meeting is not more than 1000;
15 members personally present if the number of members as on the date of
meeting is more than 1000 but up to 5000;
30 members personally present if the number of members as on the date of
the meeting exceeds 5000.
2. Private company
2 members personally present, shall be the quorum for a meeting of the
company.
Absence of quorum
If the quorum is not present within half-an-hour from the time appointed for holding
a meeting of the company:
the meeting shall stand adjourned to the same day in the next week at the same
time and place, or to such other date and such other time and place as the Board
may determine; or
the meeting, if called by requisitionists, shall stand cancelled.
Adjourned meeting
In case of an adjourned meeting or of a change of day, time or place of meeting, the
company shall give not less than 3 days notice to the members either individually or
by publishing an advertisement in the newspapers (one in English and one in vernacular
language) which is in circulation at the place where the registered office of the
company is situated.
If at the adjourned meeting also, a quorum is not present within half-an-hour from
the time appointed for holding meeting, the members present shall be the quorum.

15.15 Chairman of a General Meeting - Section 104


For fair conduct of a meeting, a person is required to chair the meeting. The chairman
of the board of directors generally chairs all the meetings. The articles of the
association of the company regulate the appointment of chairman of the board. Business Law : 235
Companies Act, 2013: Meeting If there is no chairman or he is not present within 15 minutes after the appointed
and Power of Board
time of the meeting or is unwilling to act as chairman of the meeting, the directors
present may elect one among themselves to be the chairman of the meeting.
If, however no director is willing to act as chairman or if no director is present within
NOTES
15 minutes after the appointed time of the meeting, the members present should
choose one among themselves to be chairman of the meeting. If, after the election
of a chairman on a show of hands, poll is demanded and taken and a different
person is elected as chairman, then that person will be the chairman for the rest of
the meeting.

15.16 Powers of the Chairman of a General Meeting


The Act and the articles of the company provide various powers and the duties of
the chairman of a company, some of which are given below:
1. Section 107 of the Act empowers the chairman to declare the result of voting by
show of hands.
2. As per Section 109 of the Act, a poll may be ordered by the chairman of meeting
and shall be ordered to be taken by him when demanded by members as specified
in the said section.
3. Section 109 of the Act empowers the chairman of the meeting to appoint
scrutinisers to scrutinise the votes given on the poll and to report to him.
4. The chairman has the power under Section 109 to remove any scrutiniser from
office any time before the result of the poll is declared and to fill the vacancy
caused by the removal.
5. As per Section 109 of the Act, the chairman of the meeting shall have the power
to regulate the manner in which a poll shall be taken.
6. As per Section 118 of the Act, the chairman has the power to exclude certain
matters from the minutes of the meeting if he is of the opinion that (i) it is or
would be reasonably be regarded as defamatory of any person (ii) is irrelevant
or immaterial to the processing or is detrimental to the interest of the company.
7. The chairman has to regulate the proceedings at the meeting, allow speakers to
speak at the meeting and fix their time, check pandemonium at the meeting, and
pull out personal reference and irrelevant approaches.
8. The chairman has to see that the provisions of the Companies Act, 2013, articles
of the company and any other law are complied with.
9. The chairman has to ensure that proper and correct minutes are prepared and
signed within the time specified in the Act.

15.17 Poll - Section 109


Before or on the declaration of the result of the voting on any resolution on show of
hands, a poll may be ordered to be taken by the chairman of the meeting on his own
Business Law : 236
motion, and shall be ordered to be taken by him on a demand made in that behalf by
the following person(s): Companies Act, 2013: Meeting
and Power of Board
in the case a company having a share capital: by the members present in person
or by proxy, where allowed, and having not less than one-tenth of the total
voting power or holding shares on which an aggregate sum of not less than
NOTES
Rs.5,00,000/- or such higher amount as may be prescribed, has been paid-up;
and
in the case of any other company: by any member or members present in person
or by proxy, where allowed, and having not less than one-tenth of the total
voting power.
The demand for a poll may be withdrawn at any time by the persons who made the
demand.
Time for taking poll and declaring the result
A poll shall be taken forthwith, if it is demanded for adjournment of the meeting
or appointment of Chairman of the meeting.
A poll shall be taken at such time, not being later than 48 hours from the time
when the demand was made on any other question.
Where a poll is to be taken, the Chairman of the meeting shall appoint such
number of persons, as he deems necessary, to scrutinise the poll process and
votes given on the poll and to report thereon to him in the manner as may be
prescribed.
The result of the poll shall be deemed to be the decision of the meeting on the
resolution on which the poll was taken.

15.18 Postal Ballot - Section 110


As per section 2(65) postal ballot means voting by post or through any electronic
mode instead of voting personally by presenting for transacting businesses in a general
meeting of the company.

15.19 Procedure for Passing Resolution by Postal Ballot


1. Where a company is required or decides to pass any resolution by way of postal
ballot, it shall send a notice to all the shareholders, along with a draft resolution
explaining the reasons therefor and requesting them to send their assent or
dissent in writing on a postal ballot or by electronic means within a period of
thirty days from the date of dispatch of the notice.
2. The notice shall be sent either (a) by Registered Post or speed post, or (b)
through electronic means like registered e-mail id or (c) through courier service
for facilitating the communication of the assent or dissent of the shareholder to
the resolution within the said period of thirty days.
3. An advertisement shall be published at least once in a vernacular newspaper in
the principal vernacular language of the district in which the registered office of
the company is situated, and having a wide circulation in that district, and at Business Law : 237
Companies Act, 2013: Meeting least once in English language in an English newspaper having a wide circulation
and Power of Board
in that district, about having dispatched the ballot papers and specifying therein,
inter alia, the following matters:

NOTES a statement to the effect that the business is to be transacted by postal


ballot which includes voting by electronic means;
the date of completion of dispatch of notices;
the date of commencement of voting;
the date of end of voting;
the statement that any postal ballot received from the member beyond
the said date will not be valid and voting whether by post or by electronic
means shall not be allowed beyond the said date;
a statement to the effect that members, who have not received postal ballot
forms may apply to the company and obtain a duplicate thereof; and
contact details of the person responsible to address the grievances connected
with the voting by postal ballot including voting by electronic means.
4. The notice of the postal ballot shall also be placed on the website of the company
forthwith after the notice is sent to the members and such notice shall
remain on such website till the last date for receipt of the postal ballots from the
members.
5. The Board of directors shall appoint one scrutinizer, who is not in employment
of the company and who, in the opinion of the Board can conduct the postal
ballot voting process in a fair and transparent manner.
6. The scrutinizer shall be willing to be appointed and be available for the purpose
of ascertaining the requisite majority.
7. If a resolution is assented to by the requisite majority of the shareholders by
means of postal ballot including voting by electronic means, it shall be deemed to
have been duly passed at a general meeting convened in that behalf.
8. Postal ballot received back from the shareholders shall be kept in the safe custody
of the scrutinizer. After the receipt of assent or dissent of the shareholder in
writing on a postal ballot, no person shall deface or destroy the ballot paper or
declare the identity of the shareholder.
9. The scrutinizer shall submit his report as soon as possible after the last date of
receipt of postal ballots but not later than seven days thereof;
10. The scrutinizer shall maintain a register either manually or electronically to record
their assent or dissent received, mentioning the particulars of name, address,
folio number or client ID of the shareholder, number of shares held by them,
nominal value of such shares, whether the shares have differential voting rights,
if any, details of postal ballots which are received in defaced or mutilated form
and postal ballot forms which are invalid;
11. The postal ballot and all other papers relating to postal ballot including voting by
electronic means, shall be under the safe custody of the scrutinizer till the
Business Law : 238 chairman considers, approves and signs the minutes. Thereafter, the scrutinizer
shall return the ballot papers and other related papers/register to the company Companies Act, 2013: Meeting
and Power of Board
who shall preserve such ballot papers and other related papers/register safely;
12. The assent or dissent received after thirty days from the date of issue of notice
shall be treated as if reply from the member has not been received; NOTES
13. The results shall be declared by placing it, along with the scrutinizers report, on
the website of the company;
14. The resolution shall be deemed to be passed on the date of declaration of its
result;
15. The provisions regarding voting by electronic means shall apply, as far as
applicable, mutatis mutandis in respect of the voting by electronic means.
If a resolution is assented to by the requisite majority of the shareholders by means of
postal ballot, it shall be deemed to have been duly passed at a general meeting convened
in that behalf. In case of One Person Company and other companies having members
upto fifty are not required to transact any business through postal ballot.

15.20 Business Passing Resolution through Postal Ballot


Rule 22 provides as under with regard to conducting business through postal ballot.
1. Alteration of the objects clause of the memorandum and in the case of the
company in existence immediately before the commencement of the Act,
alteration of the main objects of the memorandum;
2. Alteration of articles of association in relation to insertion or removal of provisions
which, under sub-section (68) of section 2, are required to be included in the
articles of a company in order to constitute it a private company;
3. Change in place of registered office outside the local limits of any city, town or
village as specified in sub-section (5) of section 12;
4. Change in objects for which a company has raised money from public through
prospectus and still has any unutilized amount out of the money so raised under
sub-section (8) of section 13;
5. Issue of shares with differential rights as to voting or dividend or otherwise
under sub-clause (ii) of clause (a) of section 43;
6. Variation in the rights attached to a class of shares or debentures or other
securities as specified under section 48;
7. Buy-back of shares by a company under sub-section (1) of section 68;
8. Election of a director under section 151 of the Act;
9. Sale of the whole or substantially the whole of an undertaking of a company
as specified
10. Giving loans or extending guarantee or providing security in excess of the
limit prescribed under sub-section (3) of section 186.
Section 110 (1) (b) further provides that a company may pass any item of business,
other than ordinary business and any business in respect of which director or auditors
Business Law : 239
have a right to be heard.
Companies Act, 2013: Meeting
and Power of Board 15.21 Adjournment of Meeting
Adjournment means suspending the proceeding of a meeting for the time being so
that the meeting may be continued at a later date and time fixed in that meeting itself
NOTES at the time of such adjournment or decided later on.
On the business not finished at the original meeting can be transacted at the adjourned
meeting. The majority of members at a meeting may move an adjournment motion
at a meeting. If the chairman adjourns the meeting, ignoring the views of the majority,
the remaining members can continue the meeting.
The chairman cannot adjourn the meeting at his own discretion without there being
a good cause for such an adjournment. Where the chairman, acting bona fide within
his powers, adjourns the meeting as per the view of the majority, the minority members
cannot to continue with such meeting and, if they do the proceedings there will be
null and void.
Despite provisions in the articles that chairman can adjourn meeting only with the
consent of members, in the following cases, he may adjourn the meeting on his own:
1. If there is no quorum within half-an-hour
2. Short adjournment for unruly behaviour
An adjourned meeting is merely the continuation of the original meeting and therefore,
a fresh notice is not necessary, if the time, date and place for holding the adjourned
meeting are decided and declared at the time of adjourning it.
If a meeting is adjourned without stipulation as to when it will be continued, fresh
notice of the adjourned meeting must be given. If the article of the company provides,
a fresh notice is required to be given for the adjourned meeting. Time for poll is not
adjournment; it is only recess. If meeting is stopped for holding a poll, it is not
adjourned but a recess. Poll is part of meeting and meeting is said to be continuing
when poll is being held.

15.22 Meeting of Debenture Holders


A company issuing debentures may provide for the holding of meetings of the
debenture holders. At such meetings, generally matters pertaining to the variation in
terms of security or to alteration of their rights are discussed. All matters connected
with the holding, conduct and proceedings of the meetings of the debentures holders
are normally specified in the Debenture Trust Deed. The decisions at the meeting
made by the prescribed majority are valid and lawful and binding upon the minority.

15.23 Meeting of Creditors


Sometimes, a company, either as a running concern or in the event of winding up,
has to make certain arrangements with its creditors. Meetings of creditors may be
called for this purpose. A company may enter into arrangements with creditors with
the sanction of the court for reconstruction or for any other arrangement.
Business Law : 240
The court/tribunal, on application, may order the holding of a creditors meeting. If Companies Act, 2013: Meeting
and Power of Board
the scheme of arrangement is agreed to by majority in number of holding debts to a
value of three- fourth of the total value of the debts, the court may sanction the
scheme. A certified copy of the courts order is then filed with the registrar. The
NOTES
court order is binding on all the creditors and the company only after it is filed with
registrar. Check your progress
Similarity, in case of winding up of a company, a meeting of creditors and of Discuss the quorum of
general meeting.
contributories is held to ascertain the total amount due by the company and also to
appoint a liquidator to wind up the affairs of the company. Define the tem Postal
ballot.
What do you mean by
adjournment of meeting?
15.24 Kinds of Resolutions
Section 114 provides with regard to Ordinary and Special Resolution.

15.24.1 Ordinary resolution


A resolution shall be an ordinary resolution if the notice has been duly given and it is
required to be passed by the votes cast, in favour of the resolution, including the
casting vote, if any, of the Chairman, exceed the votes, if any, cast against the
resolution.

15.24.2 Special resolution


A resolution shall be a special resolution when:
the intention to propose the resolution as a special resolution has been duly
specified in the notice calling the general meeting or other intimation given to the
members of the resolution;
the notice required under this Act has been duly given; and
the votes cast in favour of the resolution, are required to be not less than 3 times
the number of the votes, if any, cast against the resolution.

15.25 Resolution requiring Special Notice -Section 115


Section 115 provides that where, by any provision contained in this Act or in the
articles of a company, special notice is required of any resolution, notice of the
intention to move such resolution shall be given to the company by such number of
members holding not less than 1% of total voting power or holding shares on which
such aggregate sum not exceeding Rs.5,00,000/- as may be prescribed has been
paid-up and the company shall give its members notice of the resolution in the following
manner as prescribed in Rules.

15.25.1 Procedure for special notice


1. A special notice required to be given to the company shall be signed, either
individually or collectively by such number of members holding not less than one
percent of total voting power or holding shares on which an aggregate sum of
not less than five lakh rupees has been paid up on the date of the notice.
Business Law : 241
Companies Act, 2013: Meeting 2. Such notice shall be sent by members to the company not earlier than three
and Power of Board
months but at least 14 days before the date of the meeting at which the resolution
is to be moved, exclusive of the day on which the notice is given and the day of
the meeting.
NOTES
3. The company shall immediately after receipt of the notice, give its members
notice of the resolution at least seven days before the meeting, exclusive of the
day of dispatch of notice and day of the meeting, in the same manner as it gives
notice of any general meetings.
4. Where it is not practicable to give the notice in the same manner as it gives
notice of any general meetings, the notice shall be published in English language
in English newspaper and in vernacular language in a vernacular newspaper,
both having wide circulation in the State where the registered office of the
Company is situated. Such notice shall also be posted on the website, if any, of
the Company. Such notice shall be published at least seven days before the
meeting, exclusive of the day of publication of the notice and day of the meeting.

15.26 Minutes of Proceedings of General Meeting -


Sections 118-119
Section 118 provides that every company shall prepare, sign and keep minutes of
proceedings of every general meeting, including the meeting called by the
requisitionists and all proceedings of meeting of any class of shareholders or creditors
or Board of Directors or committee of the Board and also resolution passed by
postal ballot within thirty days of the conclusion of every such meeting concerned.
In case of meeting of Board of Directors or of a committee of Board, the minutes
shall contain name of the directors present and also name of dissenting director or a
director who has not concurred the resolution. The chairman shall exercise his absolute
discretion in respect of inclusion or non-inclusion of the matters which is regarded
as defamatory of any person, irrelevant or detrimental to companys interest in the
minutes. Minutes kept shall be evidence of the proceedings recorded in a meeting.
As per section 118(10) every company shall observe Secretarial Standards with
respect to General and Board Meetings specified by the Institute of Company
Secretaries of India constituted under section 3 of the Company Secretaries Act,
1980, and approved as such by the Central Government.
Rule 25 contains provisions with regards to minutes of meetings. A distinct minute
book shall be maintained for each type of meeting namely:
general meetings of the members;
meetings of the creditors;
meetings of the Board; and
meetings of the committees of the Board.
It may be noted that resolutions passed by postal ballot shall be recorded in the
minute book of general meetings as if it has been deemed to be passed in the general
meeting. In no case the minutes of proceedings of a meeting or a resolution passed
Business Law : 242
by postal ballot shall be pasted to any such book.
In case of every resolution passed by postal ballot, a brief report on the postal ballot Companies Act, 2013: Meeting
and Power of Board
conducted including the resolution proposed, the result of the voting thereon and the
summary of the scrutinizers report shall be entered in the minutes book of general
meetings along with the date of such entry within thirty days from the date of passing
NOTES
of resolution.
Minutes of proceedings of each meeting shall be entered in the books maintained for
that purpose along with the date of such entry within thirty days of the conclusion of
the meeting.
Each page of every such book shall be initialled or signed and the last page of the
record of proceedings of each meeting or each report in such books shall be dated
and signed by:
in the case of minutes of proceedings of a meeting of the Board or of a committee
thereof, by the chairman of the said meeting or the chairman of the next
succeeding meeting;
in the case of minutes of proceedings of a general meeting, by the chairman of
the same meeting within the aforesaid period of thirty days or in the event of the
death or inability of that chairman within that period, by a director duly authorized
by the board for the purpose;
in case of every resolution passed by postal ballot, by the chairman of the Board
within the aforesaid period of thirty days or in the event of there being no chairman
of the Board or the death or inability of that chairman within that period, by a
director duly authorized by the Board for the purpose.
Minute books of general meetings shall be kept at the registered office of the company.
Minutes of the Board and committee meetings shall be kept at the registered Office
or at such other place as may be approved by the Board.
Minutes books shall be preserved permanently and kept in the custody of the company
secretary of the company or any director duly authorized by the Board for the
purpose and shall be kept in the registered office or such place as the members may
decide by passing special resolution pursuant to requirement of section 88 read with
section 94 of the Act.
In terms of Section 119, the minutes book of general meetings shall be kept at the
registered office of a company and shall be open for inspection to members during
business hours without any charge subject to such restrictions as the company may
impose. A member shall be entitled for a copy of any minutes subject to payment of
fees as may be specified in the Articles of Association of the company, but not
exceeding a sum of ten rupees for each page or part of any page. The copy should
be made available to him within seven days of his making request.
Any member shall be entitled to be furnished, within seven working days after he
has made a request in that behalf to the company, with a copy of any minutes of any
general meeting, on payment of such sum as may be specified in the articles of the
company but not exceeding a sum of ten rupees for each page or part of any page.
A member who has made a request for provision of soft copy in respect of minutes
of any previous general meetings held during a period of immediately preceding
three financial years shall be entitled to be furnished, with the same free of cost. Business Law : 243
Companies Act, 2013: Meeting Where the company refuses inspection or fails to furnish a copy of minutes within
and Power of Board
specified time, the Tribunal is empowered to direct immediate inspection or sending
a copy of minutes in the matter and the company and every officer of the company
shall be punishable with fine.
NOTES

15.27 Meaning of Board of Directors


Company being an artificial entity, has to act through natural persons and they are
named as directors and collectively as board of directors. The management of the
affairs of the company is vested in the board of directors and thus they become the
working organ of the company.
The board of director of a company is entitled to exercise all such powers and to do
all such acts and things as the company is authorised to exercise to do.

15.28 Powers of the Board of Directors which can be


exercised at their Meeting - Section 179
Section 179 of the Act deals with the powers of the board; all powers to do such
acts and things for which the company is authorised is vested with board of directors.
But the board can act or do the things for which powers are vested with them and
not with general meeting.
The following (Section 179 (3) and Rule 8) powers of the Board of directors shall be
exercised only by means of resolutions passed at meetings of the Board, namely-
1. to make calls on shareholders in respect of money unpaid on their shares;
2. to authorise buy-back of securities under section 68;
3. to issue securities, including debentures, whether in or outside India;
4. to borrow money;
5. to invest the funds of the company;
6. to grant loans or give guarantee or provide security in respect of loans;
7. to approve financial statement and the Boards report;
8. to diversify the business of the company;
9. to approve amalgamation, merger or reconstruction;
10. to take over a company or acquire a controlling or substantial stake in another
company;
11. to make political contributions;
12. to appoint or remove key managerial personnel (KMP);
13. to take note of appointment(s) or removal(s) of one level below the Key
Management Personnel;
14. to appoint internal auditors and secretarial auditor;
15. to take note of the disclosure of director s interest and shareholding;
Business Law : 244
16. to buy, sell investments held by the company (other than trade investments), Companies Act, 2013: Meeting
and Power of Board
constituting five percent or more of the paidup share capital and free reserves
of the investee company;
17. to invite or accept or renew public deposits and related matters; NOTES
18. to review or change the terms and conditions of public deposit;
19. to approve quarterly, half yearly and annual financial statements or financial
results as the case may be.
The Board may, by a resolution passed at a meeting, delegate to any committee of
directors, the managing director, the manager or any other principal officer of the
company or in the case of a branch office of the company, the principal officer of
the branch office, the powers specified in (4) to (6) above on such conditions as it
may specify. The banking company is not covered under the purview of this section.
The company may impose restriction and conditions on the powers of the Board.

15.29 Powers of the Board to make Contribution to


National Defence Fund - Section 183
The Board is authorised to contribute such amount as it thinks fit to the National
Defence Fund or any other fund approved by the Government for the purpose of
national defence.
The company is required to disclose in its profit and loss account the total amount or
amounts contributed by it during the financial year.

15.30 Restriction on Powers of Board


The board can exercise the following powers only with the consent of the company
by special resolution, namely -
1. to sell, lease or otherwise dispose of the whole or substantially the whole of the
undertaking of the company or where the company owns more than one
undertaking, of the whole or substantially the whole of any of such undertakings.
2. to invest otherwise in trust securities the amount of compensation received by it
as a result of any merger or amalgamation;
3. to borrow money, where the money to be borrowed, together with the money
already borrowed by the company will exceed aggregate of its paid-up share
capital and free reserves, apart from temporary loans obtained from the
companys bankers in the ordinary course of business;
4. to remit, or give time for the repayment of, any debt due from a director.
The special resolution relating to borrowing money exceeding paid up capital and
free reserves specify the total amount up to which the money may be borrowed by
Board.
The title of buyer or the person who takes on lease any property, investment or
undertaking on good faith cannot be affected and also in case if such sale or lease
Business Law : 245
covered in the ordinary business of such company. The resolution may also stipulate
Companies Act, 2013: Meeting the conditions of such sale and lease, but this doesnt authorise the company to
and Power of Board
reduce its capital except the provisions contained in this Act.
The debt incurred by the company exceeding the paid up capital and free reserves
NOTES is not valid and effectual, unless the lender proves that the loan was advanced on
good faith and also having no knowledge of limit imposed had been exceeded.

15.31Prohibition and Restriction regarding Charitable


fund by Directors - Section 181
The power of making contribution to bona fide charitable and other funds is available
to the board subject to certain limits.
Further, the permission of company in general meeting is required if such contribution
exceeds five percent of its average net profits for the three immediately preceding
previous years.

15.32 Restriction on Non-Cash transaction involving


Directors - Section 192
A company cant enter into an agreement by which
1. a director of the company or its holding, subsidiary or associate company or a
person connected with him acquires or is to acquire assets for consideration
other than cash, from the company; or
2. the company acquires or is to acquire assets for consideration other than cash,
from such director or person so connected.
A company can enter into an arrangement only with the prior approval for such
arrangement is accorded by a resolution of the company in general meeting and if
the director or connected person is a director of its holding company, approval shall
also be required to be obtained by passing a resolution in general meeting of the
holding company.
The notice for approval of the resolution by the company or holding company in
general meeting shall include the particulars of the arrangement along with the value
of the assets involved in such arrangement duly calculated by a registered valuer.
Any arrangement entered into by a company or its holding company in contravention
of the provisions of this section shall be voidable at the instance of the company.
The arrangement will be valid if the restitution of any money or other consideration
which is the subject matter of the arrangement is no longer possible and the company
has been indemnified by any other person for any loss or damage caused to it; or
any rights are acquired bona fide for value and without notice of the contravention
of the provisions of this section by any other person.

Business Law : 246


Companies Act, 2013: Meeting
15.33 Prohibition on Forward Dealings in Securities of and Power of Board
Company - Section 194
The director or key managerial personnel (KMP) should not buy in the company or
NOTES
its holding company or subsidiary or associate company:
1. a right to call for delivery or a right to make delivery at a specified price and
within a specified time, of a specified number of relevant shares or a specific
amount of relevant debentures; or
2. a right, as he may elect, to call for delivery, or to make delivery at a specified
price and within a specified time, of a specified number of relevant shares or a
specified amount of relevant debentures.
The director or any other KMP of company is punishable with imprisonment for a
term which may extend to 2 years or with fine of not less than Rs. 1 lakh but not
more than Rs. 5 lakh or with both if he contravenes the above provisions. Securities
acquired in contravention are required to be surrendered to the company.

15.34 Prohibition on Insider Trading - Section 195


Insider trading is totally prohibited in the Act, including any trading by director or key
managerial personnel. Any communication required in the ordinary course of busi-
ness or profession or employment or under any law is not amounting to insider
trading.

15.34.1 Meaning of insider trading


An act of subscribing, buying, selling, dealing or agreeing to subscribe, buy, sell or
deal in any securities by any director or key managerial personnel or any other
officer of a company either as principal or agent if such director or key managerial
personnel or any other officer of the company is reasonably expected to have access
to any non-public price sensitive information in respect of securities of company; or
An act of counselling about procuring or communicating directly or indirectly any
non-public price-sensitive information to any person.

15.34.2 Contravention and penalty


If any person contravenes the provisions of this section, he shall be punishable with
imprisonment for a term which may extend to five years or with fine which shall not
be less than five lakh rupees but which may extend to twenty-five crore rupees or
three times the amount of profits made out of insider trading, whichever is higher, or
with both.

15.35 Frequency of Board Meeting


Section 173 of the Act deals with Meetings of the Board.
1. The Act provides that the first Board meeting should be held within thirty days
of the date of incorporation. Business Law : 247
Companies Act, 2013: Meeting 2. In addition to the first meeting to be held within thirty days of the date of
and Power of Board
incorporation, there shall be minimum of four Board meetings every year and
not more one hundred and twenty days shall intervene between two consecutive
Board meetings.
NOTES
3. In case of One Person Company (OPC), small company and dormant company,
at least one Board meeting should be conducted in each half of the calendar
year and the gap between two meetings should not be less than Ninety days.

15.36 Notice of Board Meeting


1. The Act requires that not less than seven days notice in writing shall be given to
every director at the registered address as available with the company. The
notice can be given by hand delivery or by post or by electronic means.
2. In case the Board meeting is called at shorter notice, at least one independent
director shall be present at the meeting. If he is not present, then decision of the
meeting shall be circulated to all directors and it shall be final only after ratification
of decision by at least one Independent Director.

15.37 Quorum for Board Meeting - Section 174


One third of total strength or two directors, whichever is higher, shall be the quorum
for a meeting.
If due to resignations or removal of director(s), the number of directors of the company
is reduced below the quorum as fixed by the Articles of Association of the company,
then, the continuing directors may act for the purpose of increasing the number of
directors to that required for the quorum or for summoning a general meeting of the
Company. It shall not act for any other purpose.
For the purpose of determining the quorum, the participation by a director through
Video Conferencing or other audio visual means shall also be counted.
If at any time the number of interested directors exceeds or is equal to two-thirds of
the total strength of the Board of directors, the number of directors who are not
interested and present at the meeting, being not less than two shall be the quorum
during such time.
The meeting shall be adjourned due to want of quorum, unless the articles provide
shall be held to the same day at the same time and place in the next week or if the
day is National Holiday, the next working day at the same time and place.
It can thus be observed that the provisions of the Companies Act, 2013 relating to
board meetings have been made more realistic and in line with the current expectations
of the corporate sector.

Business Law : 248


Companies Act, 2013: Meeting
15.38 Matters which cannot be dealt at Board Meeting and Power of Board
through Video Conferencing
The following matters cannot be dealt at a board meeting held through video
NOTES
conferencing:
1. approval of the annual financial statement;
2. approval of the boards report;
3. approval of the prospectus;
4. audit committee meetings for consideration of accounts; and
5. approval of the matter relating to amalgamation, merger, demerger, acquisition
and takeover.

15.39 Chairman at Board Meeting


For a valid board meeting, a proper person should be in the chair. Article of association
will normally provide for election of chairman and the period up to which he is to
hold office. Regulation 70 of table F of Companies Act, 2013, prescribes the provisions
of appointment of chairman of a board meeting.
The board may elect a chairman of its meeting an determine the period of his office.
If no chairman is elected or if, at any meeting, the chairman is not present within 5
minutes after the time appointed for holding the meeting. The directors present may
select any one of them to be chairman of the meeting. Chairman of board and
chairman of meeting are different. Chairman of meeting is the chairman only for
one meeting.
In case of equality of votes, the chairman of the board has second or casting voting.
Casting vote is available to the chairman of board either on show of hand or on poll.
The chairman of meeting also has a casting vote on equality if the article of the
company doesnt restrict it specifically. The chairman has absolute discretion in
using casting votes. He may refuse casting second votes on equality. Only a director
can be the chairman of a board meeting.

15.40 Voting at Board Meeting


Matters at a board meeting are decided by a majority of board. There are 3 exceptions
to the majority role. In the following matter, unanimous approval of board is required:
Appointment of managing director, if the person is already a managing director
or manager (Section 203 of companies Act, 2013).
Appointment of manager, if the person is already a manager (section 203 of
companies Act, 2013).
Intercorporate loan (Section 186).
A director cannot participate or vote on the resolution in which he is interested.
Voting at board meeting is by show of hands only. Poll method is not available as
each director is entitled for one vote. Business Law : 249
Companies Act, 2013: Meeting
and Power of Board 15.41 Minutes of Board Meeting - Section 118
Minute means the official record of the proceeding of the meeting. It should be
recorded within 30 days from the conclusion of the meeting.However, it is not required
NOTES to be signed within 30 days. Separate minute books should be prepared for board,
Check your progress general and committee meetings.
Differentiate between Each page of minute book should number consecutively. Each page of minute book
ordinary resolution and should be initialled or signed end the last page of the minute shall be dated and
special resolution.
signed by the chairman of the said meeting or the chairman of the next meeting. It is
Discuss the power of the
board of directors which not necessary that the chairman of subsequent meeting should have attended meeting.
can be exercised at their No attachment shall be made to the minutes book by passing or otherwise. The
meeting. chairman has the power of inclusion or non-inclusion of any matter in the minutes, if
What do you mean by he is off the opinion that such matter is defamatory of any person or it is irrelevant
insider trading?
or immaterial or it is detrimental to the interest of the company.
The minutes book must be a bound book. However, maintaining minute book in
loose leaf is permitted but in such circumstances, the company must get it bounded
within a reasonable interval of time (not more than 6 months).
The companies Act 2013, doesnt contain any provision regarding inspection or
supply for copy of minute to shareholders. Unless the article of association provides
to the contrary, a shareholder has no rights of inspection or of obtaining copies of the
minutes of its board meeting (MCA View).
A statutory auditor, as part of discharge of his duty, is required to verify the minutes
and is entitled to demand extract and preserve them as audit paper. Similarly, a cost
auditor or a company secretary in practice, for the purpose of secretarial audit, has
the right to verify the minutes of board meeting and the demand extracts thereof.
MCA has clarified the minutes book shall be kept at the registered office and it can
be moved only when the board meeting takes place outside the registered office of
the company for that purpose. The company shall observe secretarial standard with
respect to board meeting.
Where the minutes of the proceeding of the board or a committee thereof have been
kept in accordance with Section 118, then until the contrary is proved.
1. The meeting shall be deemed to have been duly called and held
2. All proceedings thereat shall bedeemed to have been duly taken place and
3. All appointment of directors/ resignation at the meeting shall be deemed to be
valid.

15.42 Key Terms


Annual General Meeting: A yearly meeting of the members or shareholders
of a club, company, or other organization, especially for holding elections and
reporting on the years events.
Dividend: A sum of money paid regularly (typically annually) by a company to
its shareholders out of its profits (or reserves).
Business Law : 250
Private company: A company whose shares may not be offered to the public Companies Act, 2013: Meeting
and Power of Board
for sale and which operates under legal requirements less strict than those for a
public company.
Public company: A company whose shares are traded freely on a stock NOTES
exchange
Debentures: A long-term security yielding a fixed rate of interest, issued by a
company and secured against assets.
Creditors: A person or company to whom money is owing.
Ordinary resolution: In business or commercial law in certain common law
jurisdictions, an ordinary resolution is a resolution passed by the shareholders of
a company by a simple or bare majority (for example more than 50% of the
vote) either at a convened meeting of shareholders or by circulating
a resolution for signature.

15.43 Summary
A meeting must be properly convened. The persons calling the meeting must be
authorised to do so. If the meeting is called by the person who does not have
authority, meeting is said to be invalid.
A notice calling a General meeting has to be in writing and to be given at least
21 Clear Days before the meeting date.
Section 96 provides that every company, other than a one person company
isrequired to hold an annual general meeting every year.
In terms of section 121(1) every listed public company required to prepare a
report on each annual general meeting including the confirmation to the effect
that the meeting was convened, held and conducted as per the provisions of the
Act and the rules made thereunder.
Appointment of a proxy is an important right of a member of the company. The
Act contains elaborate provisions regarding exercise of this right by a member.
The proxy can be revoked by the member at any time, and is automatically
revoked by the death or insolvency of the member.
In the Private Company, 2 members personally present, shall be the quorum for
a meeting of the company.
For fair conduct of a meeting, a person is required to chair the meeting. The
chairman of the board of directors generally chairs all the meetings.
The chairman has to ensure that proper and correct minutes are prepared and
signed within the time specified in the Act.
A company issuing debentures may provide for the holding of meetings of the
debenture holders. At such meetings, generally matters pertaining to the variation
in terms of security or to alteration of their rights are discussed.
Adjournment means suspending the proceeding of a meeting for the time being
so that the meeting may be continued at a later date and time fixed in that Business Law : 251
Companies Act, 2013: Meeting meeting itself at the time of such adjournment or decided later on.
and Power of Board
Company being an artificial entity, has to act through natural persons and they
are named as directors and collectively as board of directors.
NOTES The Act requires that not less than seven days notice in writing shall be given to
every director at the registered address as available with the company. The
notice can be given by hand delivery or by post or by electronic means.

15.44 Questions and Exercise


1 Every general meeting, in order to be valid, must be duly conveyed, properly
constituted and conducted comment.
2 Explain the provisions regarding notice of a general meeting.
3 What is the significance of annual general meeting?
4 What is extraordinary general meeting? When it is called?
5 What is the meaning of quorum? What are the provisions of quorum under
Companies Act?
6 When should the chairman order for poll?
7 State the procedure for postal ballot.
8 Adjourned meetings do not require fresh notice. Comment.
9 Write short note on meeting of creditors.
10 Write short note on minutes of general meeting.
11 What is the quorum for a board meeting? How is it calculated?
12 How is voting is carried out at a board meeting?
13 Explain the powers available to the board of directors only with consent of
shareholders.

Practical Problems
1. ABC co., incorporated on 1st January 2014. The AGM should be held on 1st July
2015. The ROC extended that time to 1st September 2015. Is the AGM valid?
2. ABC is a company conducting an AGM. There are three members personally
present and one member present in his individual capacity and as a representative
of a body corporate. State whether the AGM is valid.
3. In case alteration of AOA to deletion or insertion of provisions defining private
company is passed by resolution through postal ballot, is it as per the provisions
of Companies Act, 2013?
4. The board of directors of ABC Ltd met three times in the year 2015 and the
fourth meeting, though called, could not be held for want of quorum. Examine
reference to the relevant provisions of the Companies Act, 2013, whether any
provisions of the Companies Act, 2013 have been contravened.

Business Law : 252


Companies Act, 2013: Meeting
15.45 Further Readings and References and Power of Board

Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited. NOTES
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.

Business Law : 253


Companies Act, 2013: Meeting
and Power of Board

NOTES

Business Law : 254


Companies Act, 2013:
Unit 16: Companies Act, 2013: Management of Management of Company
Company
Structure
NOTES
16.0 Introduction
16.1 Unit Objectives
16.2 Definition of Director
16.3 Disqualification of Director- Section 164
16.4 Legal Position of Director
16.5 Duties of a Director- Section 166
16.6 Appointment of Directors
16.7 Consent of Director with ROC and Company- Section 152
16.8 Director Identification Number- Section 153- 159 and Rule 9
16.9 Appointment of Director by Board of Directors- Section 161
16.10 Independent Director- Section 149(6)
16.11 Provisions Relating to Independent Director- Section 149
16.12 Minimum and Maximum Number of Directors- Section 149
16.13 Small Shareholders Directors- Section 151
16.14 Number of Directorship Section 165
16.15 Vacation of Office of Director
16.16 Removal of Director by Shareholder- Section 169
16.17 Compensation for Loss of Office- Section 202
16.18 Resignation by Director- Section 168
16.19 Powers of Board of Directors
16.20 Related Party Transaction- Section 188
16.21 Disclosure of Directors Interest- Section 184
16.22 Loan of Directors- Section 185
16.23 Managing Director- Section 2(54)
16.24 Disqualification of Managing Director or Whole- Time Director or Manager
16.25 Whole-Time Director- Section 2(94)
16.26 Manager- Section 2(53)
16.27 Managerial Remuneration
16.28 Methods of Determination of Remuneration
16.29 Overall Limits on Managerial Remuneration
16.30 Key Terms
16.31 Summary
16.32 Questions and Exercise
16.33 Further Readings and References
Business Law: 255
Companies Act, 2013:
Management of Company
16.0 Introduction
The executive management of a company is responsible for the day to day
management of a company.With all the strapping of a legal person, a company is
NOTES unlike a living human being. It has no physical existence. It has no eyes to see, no
ears to hear, no hands to sign and execute documents, no brain to think and no
nerves to communicate among its various limbs. In order to enable a company to
live and to achieve its objects as enshrined in the objects clause of its memorandum
of Association, it has necessarily to depend upon some agency, known as Board of
directors. The directors formulate policies and establish organisational set up for
implementing those policies and to achieve the objectives as contained in the
memorandum, muster resources for achieving the company objectives and control,
guide, direct and manage the affairs of the company.

16.1 Unit Objectives


After studying this unit students will be able to:
Understand the directors and disqualification of directors
Know how director are appointed
Get familiarise with resignation and removal of directors
Explain the remuneration of the directors

16.2 Definition of Director


Section 2 (34) of the Companies Act, 2013, defines a director as a person appointed
to the board of a company. It means that the person cannot be considered as director
unless he is appointed by any method (i.e., either by the board or by shareholders) to
the board of company.

16.3 Disqualification of Director - Section 164


A person shall not be eligible for appointment as a director of a company, if -
1. he is of unsound mind and stands so declared by a competent court;
2. he is an undischarged insolvent;
3. he has applied to be adjudicated as an insolvent and his application is pending;
4. a person who has been convicted by a court of any offence, whether involving
moral turpitude or otherwise, and sentenced in respect thereof to imprisonment
for not less than six months and a period of five years has not elapsed from the
date of expiry of the sentence;
5. if a person has been convicted of any offence and sentenced in respect thereof
to imprisonment for a period of seven years or more, he shall not be eligible to
be appointed as a director in any company;
Business Law: 256 6. an order disqualifying him for appointment as a director has been passed by a
court or Tribunal and the order is in force; Companies Act, 2013:
Management of Company
7. a person who has not paid any calls in respect of any shares of the company
held by him, whether alone or jointly with others, and six months have elapsed
from the last day fixed for the payment of the call;
NOTES
8. a person who has been convicted of the offence dealing with related party
transactions under section 188 at any time during the last preceding five years;
or
9. a person who has not obtained director identification number.
An additional disqualification is provided in sub section (2) of Section 164 relating to
consequences of non-filing of financial statements or annual returns. Any person
who is or has been director of any company which has not filed any financial
statements and Annual Return for 3 continuous financial year or has defaulted in
payment of debentures/deposit/dividend etc., shall also not be eligible for appointment
as director of any public company and for re- appointment in the same company for
a period of five years from the date on which the said company fails to do so.

16.4 Legal Position of Director


Companies Act does not mention anything on legal position of directors. They have,
at various times, been described by judges as agents, trustees or managing partners.

16.4.1 Directors as agents


Directors may correctly be described as agents of the company. The ordinary rules
of agency will, therefore, apply to nay contract or transaction made by them on
behalf of the company. Thus, where the directors contract in the name and on
behalf of the company, it is the company which is liable on it and not the directors.
However, directors incur a personal liability in the following circumstances:
1. Where they contract in their own names. Where the chief executive of the
company executed a promissory note and borrowed an amount for the companys
sake, it could not be said that amount was borrowed by him, in his personal
capacity.
2. Where they use the companys name incorrectly, e.g., by omitting the word
Limited.
3. Where the contract is signed in such a way that it is not clear whether it is the
principle (the company) or the agent who is signing.
4. Where they exceed their authority- Weeks vs Propert (1873)

16.4.2 Directors as trustees


Directors are regarded as trustees of the companys assets and of the powers that
vest in them because they administer those assets and perform duties in the interest
of the company and not for their own personal advantage.

Business Law: 257


Companies Act, 2013: 16.4.3 Directors as employees of the company
Management of Company
Where a director accepts employment under the company under a separate contract
of service, in addition to the directorship, he is also treated as an employee or servant
NOTES of the company.

16.5 Duties of a Director - Section 166


Section 166 of the Companies Act, 2013 prescribes the duties of a director. The
duties provided under Section 166 are applicable to all type of companies and to all
directors. It includes:
1. To act in accordance with the articles of the company.
2. To act in good faith in order to promote the objects of the company for the
benefit of its members as a whole, and in the best interests of the company, its
employees, the shareholders, the community and for the protection of
environment.
3. To exercise his duties with due and reasonable care, skill and diligence and shall
exercise independent judgment.
4. Not to involve in a situation in which he may have a direct or indirect interest
that conflicts, or possibly may conflict, with the interest of the company.
5. Not to achieve or attempt to achieve any undue gain or advantage either to
himself or to his relatives, partners, or associates and if such director is found
guilty of making any undue gain, he shall be liable to pay an amount equal to that
gain to the company.
6. Not to assign his office and any assignment so made shall be void.
If a director of the company contravenes the provisions of this section such director
shall be punishable with fine which shall not be less than Rs. 1,00,000 but which
may extend to Rs. 5,00,000.

16.6 Appointment of Directors


The director of a company may be appointed by any one of the following methods:

16.6.1 Appointment of first directors- Section 152


The first directors of most of the companies are named in their articles. If they are
not so named in the articles of a company, then subscribers to the memorandum
who are individuals shall be deemed to be the first directors of the company until the
directors are duly appointed.
In the case of a One Person Company, an individual being a member shall be deemed
to be its first director until the director(s) are duly appointed by the member in
accordance with the provisions of Section 152.
General provisions relating to appointment of directors
1. Except as provided in the Act, every director shall be appointed by the company
Business Law: 258
in general meeting.
2. Director Identification Number is compulsory for appointment of director of a Companies Act, 2013:
Management of Company
company.
3. Every person proposed to be appointed as a director shall furnish his Director
Identification Number and a declaration that he is not disqualified to become a NOTES
director under the Act.
4. A person appointed as a director shall on or before the appointment give his
consent to hold the office of director in physical form DIR-2 i.e. Consent to act
as a director of a company. Company shall file Form DIR-12 (particulars of
appointment of directors and KMP along with the form DIR-2 as an attachment
within 30 days of the appointment of a director, necessary fee. [Rule8]
5. Articles of the Company may provide the provisions relating to retirement of the
all directors. If there is no provision in the article, then not less than two-thirds of
the total number of directors of a public company shall be persons whose period
of office is liable to determination by retirement by rotation and eligible to be
reappointed at annual general meeting. Further independent directors shall not
be included for the computation of total number of directors. At the annual
general meeting of a public company one-third of such of the directors for the
time being as are liable to retire by rotation, or if their number is neither three nor
a multiple of three, then, the number nearest to one third, shall retire from office.
The directors to retire by rotation at every annual general meeting shall be those
who have been longest in office since their last appointment.
At the annual general meeting at which a director retires as aforesaid, the company
may fill up the vacancy by appointing the retiring director or some other person thereto.
If the vacancy of the retiring director is not so filled-up and the meeting has not expressly
resolved not to fill the vacancy, the meeting shall stand adjourned till the same day in
the next week, at the same time and place, or if that day is a national holiday, till the
next succeeding day which is not a holiday, at the same time and place.
If at the adjourned meeting also, the vacancy of the retiring director is not filled up
and that meeting also has not expressly resolved not to fill the vacancy, the retiring
director shall be deemed to have been re-appointed at the adjourned meeting, unless-
i. a resolution for the re-appointment of such director has been put to the meeting
and lost;
ii. the retiring director has expressed his unwillingness to be so re-appointed;
iii. he is not qualified or is disqualified for appointment;
iv. a resolution, whether special or ordinary, is required for his appointment or re-
appointment by virtue of any provisions of this Act; or
v. Section 162 i.e. appointment of directors to be voted individually is applicable to
the case.

16.7 Consent of Director with ROC and Company -


Section 152
The consent at act as director is given by the proposed director to the company
before he is appointed as director. A person proposed to be appointed as director Business Law: 259
Companies Act, 2013: should file his consent to act as director in Form DIR-2 to company. On receipt of
Management of Company
consent to act as director, the company, in turn, is required to file such consent tin
Form DIR-12 with the registrar within 30 days of appointment of director.
Provisions of consent of director are applicable in all companies and to all types of
NOTES
directors. A person whose name is included as first director in article is also required
Check your progress to file consent of the registrar shall not be required to be filed of:
Define the director.
1. A director is re-appointed after retirement by rotation or immediately on the
Discuss the different meth-
expiry of his term of office.
ods for appointment of di-
rector. 2. A director appointed by the tribunal.
What are the disqualifica-
tions of directors?
16.8 Director Indentification Number - Sections 153-
159 and Rule 9
16.8.1 Procedure for application for allotment of DIN -
Section 153 & Rule 9
1. Every individual, who is to be appointed as director of a company shall make an
application electronically in Form DIR-3 (Application for allotment of Director
Identification Number) to the Central Government for the allotment of a Director
Identification Number (DIN).
2. The Central Government shall provide an electronic system to facilitate
submission of application for the allotment of DIN through the portal on the
website of the Ministry of Corporate Affairs.
3. (a) The applicant shall download Form DIR-3 from the portal, fill in the required
particulars and attaching photograph; proof of identity; proof of residence; and
verification by the applicant in Form DIR-4, specimen signature duly verified
and sign the form digitally.
(b) Form DIR-3 shall be signed and submitted electronically by the applicant using
his or her own Digital Signature Certificate and shall be verified digitally by -
a chartered accountant in practice or a company secretary in practice
or a cost accountant in practice; or
a company secretary in full time employment of the company or by the
managing director or director of the company in which the applicant is to
be appointed a director;

16.8.2 Procedure for allotment of DIN- Section 154 and Rule 10


The Central Government shall, within one month from the receipt of the application
under section 153, allot a Director Identification Number to an applicant in such
manner as mentioned below:
1. On the submission of the Form DIR-3 on the portal and payment of the requisite
amount of fees through online mode the provisional DIN shall be generated by
the system automatically which shall not be utilized till the DIN is confirmed by
Business Law: 260 the Central Government.
2. After generation of the provisional DIN, the Central Government shall process Companies Act, 2013:
Management of Company
the application. It may approve or reject the application and communicate the
same to the applicant within a period of one month from the receipt of application.
Such communication may be sent by post or electronically or in any other mode.
NOTES
3. If the Central Government, on examination, finds such application to be defective
or incomplete in any respect, it shall give intimation of such defect or
incompleteness, by placing it on the website and by email to the applicant who
has filed such application, directing the applicant to rectify such defects or
incompleteness by resubmitting the application within a period of fifteen days of
such placing on the website and email:
Provided that Central Government shall -
a. reject the application and direct the applicant to file fresh application with complete
and correct information, where the defect has been rectified partially or the
information given is still found to be defective;
b. treat and label such application as invalid in the electronic record in case the
defects are not removed within the given time; and
c. Inform the applicant either by way of letter by post or electronically or in any
other mode.
4. In case of rejection or invalidation of application, the provisional DIN so allotted
by the system shall get lapsed automatically and the fee so paid with the application
shall neither be refunded nor adjusted with any other application.
5. All Director Identification Numbers allotted to individual(s) by the Central
Government before the commencement of these rules shall be deemed to have
been allotted to them under these rules.
6. The Director Identification Number so allotted under these rules is valid for the
life-time of the applicant and shall not be allotted to any other person.

16.9 Appointment of Director by Board of Directors -


Section 161
The board of a company may appoint:
16.9.1 Appointment of additional director - Section 161 (1)
The board of directors can appoint additional directors, if such power is conferred
on them by the articles of association. Such additional directors hold office only upto
the date of next annual general meeting or the last date on which the annual general
meeting should have been held, whichever is earlier. A person who fails to get
appointed as a director in a general meeting cannot be appointed as Additional Director.

16.9.2 Appointment of alternate director - Section 161 (2)


Section 161(2) of the Act allowed the followings:
1. The Board of Directors of a company must be authorised by its articles or by a
resolution passed by the company in general meeting for appointment of alternate
Business Law: 261
director.
Companies Act, 2013: 2. The person in whose place the alternate director is being appointed should be
Management of Company
absent for a period of not less than 3 months from India.
3. The person to be appointed as the alternate director shall be the person other
than the person holding any alternate directorship for any other Director in the
NOTES
Company.
4. If it is proposed to appoint an alternate director to an independent director, it
must be ensured that the proposed appointee also satisfies the criteria for
independent directors.
5. An alternate director shall not hold office for a period longer than that permissible
to the director in whose place he has been appointed and shall vacate the office
if and when the director in whose place he has been appointed returns to India.
6. If the term of office of the original director is determined before he so returns to
India, any provision for the automatic re- appointment of retiring directors in
default of another appointment shall apply to the original, and not to the alternate
director.
7. If it is proposed to appoint an alternate director to an independent director, it
must be ensured that the proposed appointee also satisfies the criteria for
independent directors.
8. An alternate director shall not hold office for a period longer than that permissible
to the director in whose place he has been appointed and shall vacate the office
if and when the director in whose place he has been appointed returns to India.
9. If the term of office of the original director is determined before he so returns to
India, any provision for the automatic re-appointment of retiring directors in default
of another appointment shall apply to the original, and not to the alternate director.

16.9.3 Appointment of directors by nomination - Section


161(3)
This new sub-section now provides for appointment of nominee directors. It states
that subject to the articles of a company, the Board may appoint any person as a
director nominated by any institution in pursuance of the provisions of any law for
the time being in force or of any agreement or by the central government or the
state government by virtue of its shareholding in a government company.

16.9.4 Appointment of directors in causal vacancy- Section


161 (4)
If any vacancy is caused by death or resignation of a director appointed by the
shareholders in general meeting, before expiry of his term, the Board of directors
can appoint a director to fill up such vacancy. The appointed director shall hold
office only up to the term of the director in whose place he is appointed.

16.10 Independent Director - Section 149 (6)


Section 149 (6) gives the definition of independent director, in relation to a company,
means a director other than a managing director or a whole time director or a
Business Law: 262
nominee director -
1. who, in the opinion of the Board, is a person of integrity and possesses relevant Companies Act, 2013:
expertise and experience; Management of Company

2. a) who is or was not a promoter of the company or its holding, subsidiary or


associate company;
NOTES
b) who is not related to promoters or directors in the company, its holding,
subsidiary or associate company;
3. who has or had no pecuniary relationship with the company, its holding, subsidiary
or associate company, or their promoters, or directors, during the two immediately
preceding financial years or during the current financial year.
4. none of whose relatives has or had pecuniary relationship or transaction with
the company, its holding, subsidiary or associate company, or their promoters, or
directors, amounting to two per cent. or more of its gross turnover or total
income or fifty lakh rupees or such higher amount as may be prescribed,
whichever is lower, during the two immediately preceding financial years or
during the current financial year;
5. who, neither himself nor any of his relatives
a) holds or has held the position of a key managerial personnel or is or has
been employee of the company or its holding, subsidiary or associate company
in any of the three financial years immediately preceding the financial year
in which he is proposed to be appointed;
b) is or has been an employee or proprietor or a partner, in any of the three
financial years immediately preceding the financial year in which he is
proposed to be appointed, of
A firm of auditors or company secretaries in practice or cost auditors of
the company or its holding, subsidiary or associate company; or
Any legal or a consulting firm that has or had any transaction with the
company, its holding, subsidiary or associate company amounting to ten
per cent. or more of the gross turnover of such firm;
c) holds together with his relatives two per cent. or more of the total voting
power of the company; or
d) is a chief executive or director, by whatever name called, of any non-profit
organisation that receives twenty-five per cent or more of its receipts from
the company, any of its promoters, directors or its holding, subsidiary or
associate company or that holds two per cent. or more of the total voting
power of the company; or
6. who possesses such other qualifications as may be prescribed.

16.11 Provisions relating to Indepedent director -


Section 149
16.11.1 Number of independent director - Section 149 (4)
Section 149(4) provides that every listed public company shall have at least one-
third of the total number of directors as independent directors and the central
government may prescribe the minimum number of independent directors in case of Business Law: 263
Companies Act, 2013: any class or classes of public companies.Rule 4 of Companies (Appointment and
Management of Company
qualification of directors) rules 2014, provides that the following class or classes of
companies shall have at least two directors as independent directors -
i. the Public Companies having paid up share capital of ten crore rupees or more;
NOTES
or
ii. the Public Companies having turnover of one hundred crore rupees or more; or
iii. the Public Companies which have, in aggregate, outstanding loans, debentures
and deposits, exceeding fifty crore rupees.

16.11.2 Qualification of independent directors


Rule 5 of Companies( Appointment and Qualification of Directors) Rules, 2014
made under Chapter XII provides that an independent director shall possess
appropriate skills, experience and knowledge in one or more fields of finance, law,
management, sales, marketing, administration, research, corporate governance,
technical operations or other disciplines related to the companys business.

16.11.3 Tenure
Section 149(10) provides that subject to the provisions of section 152(Appointment
of Directors), an independent director shall hold office for a term up to five consecutive
years on the board of a company, but shall be eligible for reappointment on passing
of a special resolution by the company and disclosure of such appointment in the
boards report. Section 149(11) states that without contravening the section 149(10),
no independent director shall hold office for more than two consecutive terms, but
such independent director shall be eligible for appointment after the expiration of
three years of ceasing to become an independent director. Proviso to Section 149(11)
that an independent director shall not, during the said period of three years, be
appointed in or be associated with the company in any other capacity, either directly
or indirectly.

16.12 Minimum and Maximum Number of Directors -


Section 149
Section 149(1) of the Companies Act, 2013 requires that every company shall have
a minimum number of 3 directors in the case of a public company, two directors in
the case of a private company, and one director in the case of a One Person Company.
A company can appoint maximum 15 directors. A company may appoint more than
fifteen directors after passing a special resolution in general meeting and approval
of Central Government is not required. A period of one year has been provided to
enable the companys existing on or before the commencement of Companies Act,
2013 to comply with this requirement.

16.13 Small Shareholders Directors - Section 151


According to section 151 of the Act every listed company may have one director
Business Law: 264 elected by such small shareholders. For the purpose of this section, small shareholder
means a shareholder holding shares of nominal value of not more than twenty thousand Companies Act, 2013:
Management of Company
rupees or such other sum as may be prescribed.

16.13.1 Terms & conditions for small shareholders director


NOTES
Rule 7, Companies (Appointment and Qualifications of Directors) Rules, 2014 laid
down the following terms and conditions for appointment of small shareholders Check your progress
director, which are as follows: What do you mean by
director identification
1. A listed company, may upon notice of not less than 1000 or one-tenth of the total number?
number of small shareholders, whichever is lower, have a small shareholders Discuss the minimum and
director elected by the small shareholders. A listed company may suo moto opt maximum number of
directors in a public
to have a director representing small shareholders. company
2. The small shareholders intending to propose a person as a candidate for the post Define the independent
of small shareholders director shall leave a signed notice of their intention with director.
the company at least 14 days before the meeting specifying the their details and
proposed directors details. The details include name, address, shares held and
folio number etc. If the proposer does not hold any shares in the company, the
details of shares held and folio number need not be specified in the notice.
3. The notice shall be accompanied by a statement signed by the proposed director
for the post of small shareholders director stating
a. his Director Identification Number;
b. that he is not disqualified to become a director under the Act; and
c. his consent to act as a director of the company.
4. If proposed director is qualified u/s 149 (6) for appointment as an independent
director and has given declaration for his independence u/s 149 (7) then such
director shall be considered as an independent director.
5. The directors tenure as small shareholders director shall not exceed a period
of 3 consecutive years and he shall not be liable to retire by rotation. Further he
shall not be eligible for reappointment after the expiry of his tenure.
6. If the person is not eligible for appointment according to section 164, then he
cant be appointed as small shareholders director.
7. Small shareholders director shall vacate the office if -
a. he ceases to be a small shareholder, on and from the date of cessation;
b. he incurs any of the disqualifications specified in section 164;
c. the office of the director becomes vacant in pursuance of section 167;
d. he ceases to meet the criteria of independence as provided section 149 (6).
8. Simultaneously he shall not hold the office of small shareholders director in
more than two companies. If second company is in competitive business or is in
conflict with business of the first company the he shall not be appointed in
second company.
9. He shall directly or indirectly not be appointed or associated in any other capacity
with the company for a period of 3 years from the date of cessation as a small
shareholders director. Business Law: 265
Companies Act, 2013:
Management of Company
16.14 Number of Directorship - Section 165
Maximum number of directorships, including any alternate directorship a person can
hold is 20. It has come with a rider that number of directorships in public companies/
NOTES private companies that is either holding or subsidiary company of a public company
shall be limited to 10. Further the members of a company may restrict abovementioned
limit by passing a special resolution.
Any person holding office as director in more than 20 or 10 companies as the case
may be before the commencement of this Act shall, within a period of one year from
such commencement, have to choose companies where he wishes to continue/
resign as director. There after he shall intimate about his choice to concerned
companies as well as concerned Registrar. Such person shall not act as director in
more than the specified number of companies after despatching the resignation or
after the expiry of one year from the commencement of this Act, whichever is
earlier.
If a person accepts an appointment as a director in contravention of above mentioned
provisions, he shall be punishable with fine which shall not be less than Rs. 5,000 but
which may extend to Rs. 25,000 for every day after the first day during which the
contravention continues.

16.15 Vacation of Office of Director


The office of a director shall become vacant in case-
1. He incurs any of the disqualifications specified in section 164;
2. He absents himself from all the meetings of the Board of Directors held during
a period of twelve months with or without seeking leave of absence of the
Board;
3. He acts in contravention of the provisions of section 184 relating to entering into
contracts or arrangements in which he is directly or indirectly interested;
4. He fails to disclose his interest in any contract or arrangement in which he is
directly or indirectly interested
5. He becomes disqualified by an order of a court or the Tribunal;
6. He is convicted by a court of any offence, whether involving moral turpitude or otherwise
and sentenced in respect thereof to imprisonment for not less than 6 months;
Provided that the office shall be vacated by the director even if he has filed an
appeal against the order of such court;
7. He is removed in pursuance of the provisions of this Act;
8. He, having been appointed a director by virtue of his holding any office or other
employment in the holding, subsidiary or associate company, ceases to hold
such office or other employment in that company.
If a person, functions as a director even when he knows that the office of director
held by him has become vacant on account of any of the disqualifications specified
Business Law: 266 above, he shall be punishable with imprisonment for a term which may extend to 1
year or with fine which shall not be less than Rs. 1,00,000 but which may extend to
Companies Act, 2013:
Rs. 5,00,000 or with both. Where all the directors of a company vacate their offices Management of Company
under any of the disqualifications specified above the promoter or, in his absence,
the central government shall appoint the required number of directors who shall hold
office till the directors are appointed by the company in the general meeting. NOTES

16.16 Removal of Director by Shareholders - Section 169


Section 169 empowers shareholders to move proposal for removal of director. To
remove a director, it is not necessary to prove any kind of breach of trust or miscon-
duct on part of the director. Article of association cannot take away the right of
shareholders to remove directors. Right to remove director is a statutory right of
shareholders. To remove a director under Section 169, an ordinary resolution should
be passed at the general meeting. The following steps should be taken:
1. Special notice must be given by member(s) holding not less than 1% of total
voting power or holding shares on which an aggregate sum of not less than Rs.
5,00,000 has been paid as on date of notice.
2. Notice must be given at least 14 days before meeting. The notice must disclose
the grounds on which the director is proposed to be removed, and it should be
signed by the members.
3. The company should notify to its members about the notice at least 7 days
before the meeting and intimate to the concerned director immediately.
4. The director concerned is entitled to make a representation in writing against his
removal at the meeting. The company is bound to send a copy of the
representation to every member. If the representation is received too late or
could not be sent, the concerned director may request the company to read in
the general meeting.
5. The representation made by the concerned director is neither required to be
sent to members nor need to be read out at a meeting, if on application, the
tribunal has permitted waiver. An application for this purpose can be made
either by the company or by any other aggrieved party. The tribunal may grant
permission if it is satisfied that if right of representation is availed, it can create
needless publicity or become defamatory to the company.
6. At the general meeting, the proposal is discussed and an ordinary resolution is
passed.

16.17 Compensation for Loss of Office - Section 202


Compensation for loss of office can be paid to the managing director, whole-time
director or manager. An ordinary director is not entitled to get compensation under
this section. However, in the following situation no compensation is payable to the
managing director or whole-time director or manager.
1. Where a director resigns the office due to reconstruction or amalgamation of
the company with another company and he is appointed as manger or managing
director or whole time director of the other office in the resulting company. Business Law: 267
Companies Act, 2013:
Management of Company 2. Where a director resigns otherwise than on reconstruction or amalgamation.
3. Where a director vacates office under Section 203 of Companies Act, 2013, or
283 of Companies Act, 1956.
NOTES 4. Where winding up of the company is due to negligence or default of the director
in question.
5. Where a director has been guilty of any fraud or breach of trust or gross
negligence or mismanagement of the affairs of company.
6. Where a director has taken part in bringing about the termination of his office.
No payment shall be made to the managing director or whole time director or manager
of the company by way of compensation for the loss of office or as consideration
for retirement from office (Rule 17 [3]) (other than notice pay and statutory payments
in accordance with the terms of appointment of such director or manager, as
applicable) or in connection with such loss or retirement if:
1. the company is in default in repayment of public deposits or payment of interest
thereon;
2. the company is in default in redemption of debentures or payment of interest
thereon;
3. the company is in default in repayment of any liability, secured or unsecured,
payable to any bank, public financial institution or any other financial institution;
4. the company is in default in payment of any dues towards income tax, VAT,
excise duty, service tax or any other tax or duty, by whatever name called,
payable to the central government or any state government, statutory authority
or local authority (other than in cases where the company has disputed the
liability to pay such dues);
5. there are outstanding statutory dues to the employees or workmen of the
company which have not been paid by the company (other than in cases where
the company has disputed the liability to pay such dues); and
6. the company has not paid dividend on preference shares or not redeemed
preference shares on due date.

16.18 Resignation by Director - Section 168


A director may resign from his office by giving notice in writing. The Board shall, on
receipt of such notice within 30 days intimate the Registrar in Form DIR-12 and also
place the fact of such resignation in the Directors Report of subsequent general
meeting of the company and post the information on its website. The director shall
also forward a copy of resignation along with detailed reasons for the resignation to
the Registrar in Form DIR-11 within 30 days from the date of resignation. The
notice shall become effective from the date on which the notice is received by the
company or the date, if any, specified by the director in the notice, whichever is
later. Provided that the director who has resigned shall be liable, even after his
resignation, for the offences which occurred during his tenure.
If all the directors of a company resign from their office or vacate their office, the
Business Law: 268
promoter or in his absence the central government shall appoint the required number
of directors to hold office till the directors are appointed by the company in general Companies Act, 2013:
Management of Company
meeting.

16.19 Powers of Board of Directors


NOTES
Companies Act, 2013, provides for general powers of the board of directors. The
board of directors of a company shall be entitled to exercise all such powers, and to Check your progress
do all such acts things, as the company is authorised to exercise and do. Who can remove a
director?
Shareholders, by amending the articles, may restrict the powers of the board. State the circumstances in
However, such amendment cannot be made retrospectively and a meeting of which a director can resign
shareholders cannot therefore invalidate any act validly done by the board. from his office.

16.19.1 Exception
In the following cases, however, the general meeting of shareholders is competent
to intervene and act in respect of a matter delegated to the board of directors.

16.19.2 Directors acting Mala fide


Where the directors act for their own personal interests in complete disregard to the
interests of the company or where the personal interest of the directors clashes with
their duties towards the company.

16.19.3 Directors themselves wrong doers


Where the directors themselves the wrong doers and have acted mala fide.

16.19.4 Incompetency of the board


When the board has become incompetent to act, e.g., where all the directors
constituting he board are interested in dealing or where none of the directors was
validly appointed, the majority of shareholders may exercise powers in a general
meeting of the company.

16.19.5 Deadlock in management


When there is a deadlock in the management such that the directors cannot exercise
some of their powers. It is the collective wisdom of the directors which has been
conferred the privilege of managing the affairs of the company. Individual directors
donot have any general powers.

16.20 Related Party Transaction - Section 188


Section 188 requires a company to obtain approval of the board and of the members
in certain situation, prior to any transaction or entering into an agreement with a
related party. Section 188 is applicable to all companies.

16.20.1 Who is a related party?


Section 2(76), read with rule 3 of Companies (specification of definitions details)
Rules, 2014, defines a related party as under:
Business Law: 269
Companies Act, 2013: Related party, with reference to a company, means:
Management of Company
1. a director or his relative,
2. KMP or their relative,
NOTES 3. a firm in which a director, manager or his relative is a partner,
4. a private company in which a director or manger is a director or members,
5. a public company in which a director or Manager is a director or holds along
with his relatives more than 2% of its paid up share capital,
6. a person on whose advice, directions or instruction (except given in professional
capacity) a director or manager is a accustomed to act,
7. a holding/ subsidiary or associate company, subsidiary s subsidiary, and such
person as would be prescribed

16.20.2 Related party transactions


The following transactions between a company and its related party are known as
related party transactions:
1. sale, purchase or supply of any goods or materials;
2. selling or otherwise disposing of, or buying, property of any kind;
3. leasing of property of any kind;
4. availing or rendering of any services;
5. appointment of any agent for purchase or sale of goods, materials, services or
property;
6. such related partys appointment to any office or place of profit in the company,
its subsidiary company or associate company; and
7. Underwriting the subscription of any securities or derivatives thereof, of the
company.

16.21 Disclosure of Directors Interest - Section 184


The Act provides for the disclosure by directors relating his concern or interest in
any company or companies or body corporate (including shareholding interest), firms
or other association of individuals by giving a notice in writing in form MBP 1 (Rule
9(1)) at the first meeting of board after being appointed as director and at first
meeting of board of every financial year, in addition to this, any change required to
be disclosed in next board meeting.
Every director is required to disclose the nature of his concern or interest at
the meeting of board in which the contract or arrangement is discussed and he has
not to participate in such meeting. The abovementioned interest may be direct or
indirect and relating to some contract or arrangement or proposed contract or
arrangement entered into or to be entered into with a body corporate in which such
director or such director in association with other director holds more than two
percent shareholding or is a promoter, manager, Chief Executive Officer of that
body corporate or with a firm or other entity in which such director is a partner,
Business Law: 270 owner or member as the case maybe.
It shall be the duty of the director giving notice of interest to cause it to be Companies Act, 2013:
Management of Company
disclosed at the meeting held immediately after the date of the notice. (Rule 9(2)) If
a director is not concerned or interested at the time of contract but, subsequently
becomes concerned or interested is required to disclose his interest or concern at
NOTES
the first meeting of the board.
All notices shall be kept at the registered office and such notices shall be
preserved for a period of eight years from the end of the financial year to which it
relates and shall be kept in the custody of the company secretary of the company or
any other person authorized by the Board for the purpose. (Rule 9(3))
If a contract or arrangement entered into by the company without disclosure
of interest by director or with participation by a director who is concerned or interested
in any way, directly or indirectly, in the contract or arrangement, shall be voidable at
the option of the company.
The contravention of the provisions leads to punishment for a term which
may extend to one year or with fine which shall not be less than fifty thousand
rupees but which may extend to one lakh rupees or both. Any contract or arrangement
entered into or to be entered into between two companies, where any director of
any company holds more than two percent of the paid up capital in other company,
the provisions of this section shall not apply.

16.22 Loan to Directors - Section 185


No company shall directly or indirectly advance any loan to any of its directors or to
any person in whom director is interested or give any guarantee or provide any
security in connection with any loan taken by him or such other person.
But a company may advance loan to managing or whole-time director as
part of the conditions of service extended by the company to all its employees or
pursuant to any scheme approved by the members by a special resolution or the
company provides loans or gives guarantee or securities for the due repayment of
any loan in due course of its business.
Rule 10 provides that any loan made by a holding company to its wholly
owned subsidiary company or any guarantee given or security provided by a holding
company in respect of any loan made to its wholly owned subsidiary company is
exempted from the requirements under this section and any guarantee given or
security provided by a holding company in respect of loan made by any bank or
financial institution to its subsidiary company is exempted from the requirements
under this section; provided that such loans are utilised by the subsidiary company
for its principle business activities.

16.22.1 Penalty
The contravention of provisions of Section 185 leads to punishment with fine which
shall not be less than five lakh rupees but which may extend to twenty five lakh
rupees. The director or to whom loan or advance is given or guarantee or security is
given or provided shall be imprisonment which may extend to six months or with fine
mentioned above or with both. Business Law: 271
Companies Act, 2013:
Management of Company 16.23 Managing Director - Section 2 (54)
Section 2(54) of the Companies Act, 2013, defines managing director. It stipulates
that a managing director means a director who, by virtue of the articles of a
NOTES company or an agreement with the company or a resolution passed in its general
meeting, or by its Board of Directors, is entrusted with substantial powers of
management of the affairs of the company and includes a director occupying the
position of managing director, by whatever name called.
The explanation to section 2(54) excludes administrative acts of a routine
nature when so authorised by the Board such as the power to affix the common seal
of the company to any document or to draw and endorse any cheque on the account
of the company in any bank or to draw and endorse any negotiable instrument or to
sign any certificate of share or to direct registration of transfer of any share, from
the substantial powers of management.

16.24 Disqualification of Managing Director or Whole


- Time Director or Manager
Section 196(3) of the Act makes a specific prohibitory provision with regard to the
appointment of managing director, whole time director or manager. The section lays
down that no company shall appoint or continue the employment of any person as its
managing director, whole time director or manager who-
1. is below the age of twenty-one years or has attained the age of seventy years:
2. is an undischarged insolvent or has at any time been adjudged as an insolvent;
3. has at any time suspended payment to his creditors, or makes, or has at any time
made, a composition with them; or
4. has at any time been, convicted by a court of an offence and sentenced for a
period of more than six months
A person who has attained the age of seventy years can be appointed as managing
director, whole-time director or manager by passing a special resolution in which an
explanatory statement that includes justification for appointing such person. A person
who is disqualified to be appointed as a director under Section 164 of Companies
Act, 2013, cannot be appointed as managing director or whole time director. Section
196 is applicable to all the companies.

16.25 Whole Time Director - Section 2(94)


Section 2 (94) of the Companies Act, 2013 defines whole-time director as a director
in the whole-time employment of the company. He is required to be director first. A
person cannot act as whole time director in more than one company. Additional
director can be appointed as whole-time director.

16.26 Manager - Section 2 (53)


Business Law: 272 Section 2(53) of the Companies Act, 2013 defines manager as an individual who,
subject to the superintendence, control and direction of the Board of Directors, has
the management of the whole, or substantially the whole, of the affairs of a company, Companies Act, 2013:
Management of Company
and includes a director or any other person occupying the position of a manager, by
whatever name called, whether under a contract of service or not.

NOTES
16.27 Managerial Remuneration
The term managerial remuneration is not defined under Companies Act, 2013. It
means remuneration paid to the person holding managerial position. Managing
directors, whole-time directors, directors and managers hold managerial positions.
Managerial remuneration includes any form of payment made or expenditure incurred
by the company. It may be paid in any of following forms:
1. Monthly payments (salary)
2. Specified percentage of net profits
3. Commission
Remuneration includes any expenditure incurred by company:
1. in providing any rent- free accommodation, or any other benefit in respect of
accommodation free of charge.
2. In providing any other benefit or amenity free of charge or at a concessional
rate.
3. To effect any insurance on the life of, or to provide any pension, annuity and
gratuity.
If sitting fees is paid to the whole-time director or managing director, then it is also
included in the managerial remuneration.

16.27.1 Schedule V- Part II- Section IV- perquisite not in-


cluded in managerial remuneration
Besides the aforementioned remuneration, managerial personnel of a company having
no profits or having inadequate profits shall also be eligible to the following perquisites:
1. Contributions to provident fund, superannuation fund or annuity fund to the extent
these, either singly or put together, are not taxable under the Income Tax Act, 1961.
2. Gratuity payable at a rate not exceeding half- a month salary for each completed
year of service.
3. Encashment of leave at the end of the tenure.
In addition to the aforesaid perquisites, an expatriate managerial person (including a
non-resident Indian) shall also be eligible to the following perquisites:
1. In case of children studying in or outside India, an allowance limited to a maximum
of Rs 12,000 per month perchild or actual expenses incurred, whichever is less.
Such allowance is admissible up to a maximum of two children.
2. Return holiday passage once in a year by economy class or once in two years by
first class to children and to the members of the family from the place of their study
or stay abroad to India if they are not residing in India with the managerial person.
3. Return passage for self and family in accordance with the rules specified by the Business Law: 273
Companies Act, 2013: company where it is proposed that the leave be spent in home country instead of
Management of Company
anywhere in India.

NOTES
16.28 Methods of Determination of Remuneration
The company may determine managerial remuneration payable to its managing
director or whole- time director or manager in any of the following ways:
1. By article of association of company
2. By passing an ordinary resolution
3. By passing special resolution, if the article provides so.
The board has no power to fix the remuneration unless authorised by shareholders
at a general meeting or as per the provisions of the article.

16.29 Overall Limits on Managerial Remuneration


Managerial remuneration which a company can pay to its managerial personal can
be discussed under the following two heads:

16.29.1 Managerial remuneration where the company has


profit
A public company and its subsidiary company cannot pay remuneration exceeding
11% net profits to its managerial personnel in any financial year. Net profit is calculated
as per Section 198. Net profit is arrived at after charging depreciation.
A director who is neither in the whole time employment of the company or a
managerial director may be paid remuneration subject to the following:
1. 1% of the net profits of the company, if the company has a managing, or a
whole-time director or a manager.
2. 3% of the net profits of the company in any other case.
However, the company may, in a general meeting, with the approval of the central
government authorise the payment of such remuneration at a rate exceeding 1% or,
as the case may be, 3% of its net profits.
If the company has one managing director or whole-time director or manager, the
remuneration payable shall not exceed 5% pf net profit. However, if the company
has more than one executive director, the overall remuneration limit is 10% of net
profit.
A company can pay managerial remuneration in excess of limit with the permission
of central government. There is no restriction relating to managerial remuneration
for a private company.

16.29.2 Managerial remuneration where company has no


profit or inadequate profit
If a company has no profit or inadequate profit for any financial year, it may pay
Business Law: 274 managerial remuneration as per schedule V of Companies Act, 2013.
Every public company and its subsidiary company shall follow schedule V of Companies Act, 2013:
Companies Act, 2013. If company can pay managerial remuneration beyond that Management of Company
stipulated in schedule V, it can do so with the permission of central government.

NOTES
16.30 Key Terms
Insolvent: Insolvency is when an organization, or individual, can no longer Check your progress
meet its financial obligations with its lender or lenders as debts become due. What do you mean by
related party transactions?
Shareholders: A shareholder is any person, company or other institution that Define the managing
owns at least one share of a companys stock. Because shareholders are a director.
companys owners, they reap the benefits of the companys successes in the Discuss the methods to
form of increased stock valuation. determine the managerial
remuneration.
Additional directors: The articles of a company may confer on its Board of
Directors the power to appoint any person, other than a person who fails to get
appointed as a director in a general meeting, as an additional director at any time
who shall hold office up to the date of the next annual general meeting or the last
date on which the annual general meeting should have been held, whichever is
earlier.
One Person Company: One Person Company means a company which has
only one member. It shall also be important to note that Section 3 classifies
OPC as a Private Company for all the legal purposes with only one member.
All the provisions related to the private company are applicable to an OPC,
unless otherwise expressly excluded.
Ordinary resolution: In business or commercial law in certain common law
jurisdictions, an ordinary resolution is a resolution passed by the shareholders of
a company by a simple or bare majority (for example more than 50% of the
vote) either at a convened meeting of shareholders or by circulating
a resolution for signature.
Value Added Tax: A tax on the amount by which the value of an article has
been increased at each stage of its production or distribution.
Service tax: Service tax is a tax levied by the government on service providers on
certain service transactions, but is actually borne by the customers. It is categorized
under Indirect Tax and came into existence under the Finance Act, 1994.
Preference shares: A share which entitles the holder to a fixed dividend, whose
payment takes priority over that of ordinary share dividends.

16.31 Summary
To attain the objectives prescribed in Memorandum of Association of the
company, company depends on Board of Directors. Directors of a company are
its eyes, ears, brain, hands and other essential limbs.
Every public company shall have at least 3 directors and every private company
shall have at least 2 directors and every one person company shall have atleast
1 director under section 149. Business Law: 275
Companies Act, 2013:
Directors are trustees for the company i.e. the directors are persons selected to
Management of Company
manage the affairs of the company for the benefit of the shareholders.
Section 164 lays down disqualifications of directors. Also individually only can
NOTES be a director under section 152 of the Act.
Maximum Number of Director is 15, which can be increased by passing a
special Resolution.
Certain prescribed class or classes of companies is required to have at least one
woman director. This is a mandatory provision.
Every company including one person company shall have at least on director who
stays in India for a period of not less than 180 days in the previous calendar year.
Maximum limit on total number of directorship has been fixed at 20 companies
including sub limit of 10 for public companies.
The members of a company may, by special resolution, specify any lesser number
of companies in which a director of the company may act as director.
A director may be removed from the office by giving a special notice.
A director may resign his office in the manner provided by the articles.
Any officer or employee of a company shall be punishable with the fine on the
complaint of the company or any creditor or contributory thereof, if he wrongfully
obtains possession or withholds any property of the company.
The overall limit on managerial remuneration shall not exceed 11% of the net
profits.
The remuneration payable to any one managing director or whole-time director
or manager shall not exceed 5% of the net profits.
If there is more than one such director, remuneration shall not exceed 10% of
the net profits of the company.

16.32 Questions and Exercise


1 What are the qualifications of a director?
2 When is a person disqualified for appointment as a director of the company?
3 Who may be appointed as director of a company?
4 Explain the law relating to number of directors.
5 How can the small shareholders director be appointed?
6 How can the directors be removed from the office before the expiry of their
term?
7 Under what circumstances is a director deemed to have vacated the office of
directorship?
8 Distinguish between managing director and managing director and manager.
9 State the provisions relating to making loans to directors.
Business Law: 276 10 What are the disqualifications for managing directors?
Companies Act, 2013:
16.33 Further Readings and References Management of Company

Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
NOTES
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.

Business Law: 277


Companies Act, 2013:
Management of Company

NOTES

Business Law: 278


Consumer Protection Act, 2015
Unit 17: Consumer Protection Act, 2015
Structure
17.0 Introduction
NOTES
17.1 Unit Objectives
17.2 Scope and Applicability of the Act
17.3 Rights of Consumer
17.4 Consumer
17.5 Complaint
17.6 Unfair Trade Practice
17.7 Restrictive Trade Practice
17.8 Defect
17.9 Deficiency
17.10 Manufacturer
17.11 Trader
17.12 Consumer Dispute
17.13 Redressal Machinery under the Act
17.14 Powers of the Dispute Redressal Agencies
17.15 Key Terms
17.16 Summary
17.17 Questions and Exercise
17.18 Further Readings and References

17.0 Introduction
In regulatory jurisdictions that provide for this consumer protection is a group of
laws and organizations designed to ensure the rights of consumers, as well as fair
trade, competition, and accurate information in the marketplace. The laws are
designed to prevent the businesses that engage in fraud or specified unfair practices
from gaining an advantage over competitors. They may also provide additional
protection for those most vulnerable in society. Consumer protection laws are a
form of government regulation that aim to protect the rights of consumers. Consumer
protection is linked to the idea of consumer rights, and to the formation of consumer
organizations, which help consumers make better choices in the market place and
get help with consumer complaints. In order to protect the consumers from exploitation
and to save them from adulterated and substandard goods and deficient services the
Consumer Protection Act came into force on 15th April, 1986.
The new Consumer Protection Bill, 2015 (Bill) replaces The Consumer
Protection Act, 1986 (Consumer Protection Act), which was introduced on the
floors of the Lok Sabha in 2015 by the Minister of Consumer Affairs, Food and
Business Law : 279
Public Distribution, Mr. Ram Vilas Paswan.The three decades old Consumer
Consumer Protection Act, 2015
Protection Act (in its present form) is an inefficient piece of legislation not keeping
pace with the new market dynamics, multi-layered delivery chains, innovative (and
many times misleading) advertising and marketing machinery. It was in this backdrop
that the new Bill has been introduced to equip the consumers to protect their rights
NOTES
against unfair trade practices. The new Bill intends to narrow some of the gaps with
regard to protection of consumer rights including the time taken in settling disputes,
an ability to reach to the manufactures for product liability (to cover situations such
as the recent Maggi fiasco), curbing misleading advertisements etc.

17.1 Unit Objectives


After completing this unit, students will be able to:
Understand the applicability of the act
Know the rights of the consumers
Explain the definitions under consumer protection act
Know the Redressal Machinery under the Act
Discuss the powers of the Dispute Redressal Agencies

17.2 Scope and Applicability of the Act


1. The act applies to all goods and services unless specifically exempted by the
central government.
2. It covers all the sectors whether private, public or corporative.
3. The provisions of the act are compensatory in nature.
4. It enshrines the following rights of consumers.
5. The act envisages the establishment of the consumer protection councils at the
central and state levels, whose main objects will be to promote and protect the
rights of consumers.
6. The CPA extends to the whole of India except the State of Jammu and Kashmir
and applies to all the goods and services unless otherwise notified by the central
government.
7. The provisions of this act ate in addition to and not in derogation of the provisions
of any other law for the time being in force.

17.3 Rights of Consumer


Government of India provided following rights to all the consumers under the
Consumer Protection Act:

17.3.1 Right to safety


According to this right the consumers have the right to be protected against the
marketing of goods and services which are hazardous to life and property, this right
is important for safe and secure life. This right includes concern for consumers
Business Law : 280
Consumer Protection Act, 2015
long term interest as well as for their present requirement.Sometimes the
manufacturing defects in pressure cookers, gas cylinders and other electrical
appliances may cause loss to life, health and property of customers. This right to
safety protects the consumer from sale of such hazardous goods or services. NOTES
17.3.2 Right to information
According to this right the consumer has the right to get information about the quality,
quantity, purity, standard and price of goods or service so as to protect himself against
the abusive and unfair practices. The producer must supply all the relevant information
at a suitable place.

17.3.3 Right to choice


According to this right every consumer has the right to choose the goods or services
of his or her likings. The right to choose means an assurance of availability, ability
and access to a variety of products and services at competitive price and competitive
price means just or fair price. The producer or supplier or retailer should not force
the customer to buy a particular brand only. Consumer should be free to choose the
most suitable product from his point of view.

17.3.4 Right to be heard or right to representation


According to this right the consumer has the right to represent him or to be heard or
right to advocate his interest. In case a consumer has been exploited or has any complaint
against the product or service then he has the right to be heard and be assured that his/
her interest would receive due consideration.This right includes the right to representation
in the government and in other policy making bodies. Under this right the companies
must have complaint cells to attend the complaints of customers.

17.3.5 Right to seek redressal


The consumer has the right to get compensation or seek redressal against unfair
trade practices or any other exploitation. This right assures justice to consumer
against exploitation.The right to redressal includes compensation in the form of money
or replacement of goods or repair of defect in the goods as per the satisfaction of
consumer. Various redressal forums are set up by the government at national level
and state level.

17.3.6 Right to consumer education


It is the right of consumer to acquire the knowledge and skills to be informed to
customers. It is easier for literate consumers to know their rights and take actions
but this right assures that illiterate consumer can seek information about the existing
acts and agencies are set up for their protection. The government of India has
included consumer education in the school curriculum and in various university
courses. Government is also making use of media to make the consumers aware of
their rights and make wise use of their money.

Business Law : 281


Consumer Protection Act, 2015
17.4 Consumer
Consumer means any person who
i. buys any goods for a consideration which has been paid or promised or partly
NOTES
paid and partly promised, or under any system of deferred payment and includes
any user of such goods other than the person who buys such goods for
consideration paid or promised or partly paid or partly promised, or under any
system of deferred payment when such use is made with the approval of such
person, but does not include a person who obtains such goods for resale or for
any commercial purpose; or
ii. hires or avails of any services for a consideration which has been paid or promised
or partly paid and partly promised, or under any system of deferred payment
and includes any beneficiary of such services other than the person who hires
or avails of the services for consideration paid or promised, or partly paid and
partly promised, or under any system of deferred payment, when such services
are availed of with the approval of the first mentioned person (but doesnot
include a person who avails of such services of any commercial purpose).
However, (a) the expression commercial purpose does not include use by a
consumer of goods bought and used by him exclusively for the purpose of earning
his livelihood, by means of self-employment;
(b) the expression buys any goods and hires or avails any services include
the transactions made through any mode, inclusive of but not limited to, offline,
online through electronic means, teleshopping or direct selling or multi-level
marketing.
Examples:
1. Mr. Rajat purchased car for his personal use. He is consumer. But if he lets
out his car as taxi he will not be regarded as consumer.
2. An applicant for ration card is not a consumer.

17.5 Complaint
Complaint means any allegation in writing made by a complainant that:
1. an unfair trade practice or a restrictive trade practice has been adopted by any
trader or service provider;
2. the goods bought by him or agreed to be bought by him suffer from one or more
defects;
3. the services hired or availed of or agreed to be hired or availed of by him suffer
from deficiency in any respect;
4. a trader or the service provider, as the case may be, has charged for the goods
or for the services mentioned in the complaint, a price in excess of the price-
a. fixed by or under any law for the time being in force;
b. displayed on the goods or any package containing such goods;
Business Law : 282
c. displayed on the price list exhibited by him by or under any law for the time Consumer Protection Act, 2015
being in force;
d. agreed between the parties;
5. goods, which will be hazardous to life and safety when used, are being offered NOTES
for sale to the public-
a. in contravention of any standard relating to safety of such goods as required
to be complied with, by or under any law for the time being in force;
b. if the trader could have known with due diligence that the goods so offered
are unsafe to the public;
6. services which are hazardous or likely to be hazardous to life and safety of the
public when used, are being offered by the service provider which such person
could have known with due diligence to be injurious to life and safety;
7. he has suffered a loss due to an unfair contract entered into by him,with a view
to obtaining any relief provided by or under this Act.

17.6 Unfair Trade Practice


Unfair trade practice means a trade practice which, for the purpose of promoting
the sale, use or supply of any goods or for the provision of any service, adopts any
unfair method or unfair or deceptive practice including any of the following practices,
namely:
1. falsely represents that the goods are of a particular standard, quality, quantity,
grade, composition, style or model;
2. falsely represents that the services are of a particular standard, quality or grade;
3. falsely represents any re-built, second-hand, renovated, reconditioned or old
goods as new goods;
4. represents that the goods or services have sponsorship, approval, performance,
characteristics, accessories, uses or benefits which such goods or services do
not have;
5. represents that the seller or the supplier has a sponsorship or approval or affiliation
which such seller or supplier does not have;
6. makes a false or misleading representation concerning the need for, or the
usefulness of, any goods or services;
7. gives to the public any warranty or guarantee of the performance, efficacy or
length of life of a product or of any goods that is not based on an adequate or
proper test thereof: Provided that where a defence is raised to the effect that
such warranty or guarantee is based on adequate or proper test, the burden of
proof of such defence shall lie on the person raising such defence;
8. makes to the public a representation in a form that purports to be- a warranty or
guarantee of a product or of any goods or services; or a promise to replace,
maintain or repair an article or any part thereof or to repeat or continue a service
until it has achieved a specified result, if such purported warranty or guarantee Business Law : 283
Consumer Protection Act, 2015 or promise is materially misleading or ifthere is no reasonable prospect that such
warranty, guarantee or promise will be carried out;
9. materially misleads the public concerning the price at which a product or like
products or goods or services, have been or are ordinarily sold or provided, and,
NOTES
for this purpose, a representation as to price shall be deemed to refer to the
Check your progress price at which the product or goods or services has or have been sold by sellers
. Define consumer. or provided by suppliers generally in the relevant market unless it is clearly
. Discuss the rights of the specified to be the price at which the product has been sold or services have
consumers under been provided by the person by whom or on whose behalf the representation is
consumer protection act.
made;
. What do you mean by
unfair trade practices? 10. gives false or misleading facts disparaging the goods, services or trade of another
person.

17.7 Restrictive Trade Practice


Restrictive trade practice means a trade practice which tends to bring about
manipulation of price or its conditions of delivery or to affect flow of supplies in the
market relating to goods or services in such a manner as to impose on the consumers
unjustified costs or restrictions and includes-
1. delay beyond the period agreed to by a trader in supply of such goods or in
providing the services which has led or is likely to lead to rise in the price;
2. any trade practice which requires a consumer to buy, hire or avail of any goods
or, as the case may be, services as condition precedent to buying, hiring or
availing of other goods or services.

17.8 Defect
Defect means any fault, imperfection or shortcoming in the quality, quantity, potency,
purity or standard which is required to be maintained by or under any law for the
time being in force or under any contract, express or implied or as is claimed by the
trader in any manner whatsoever in relation to any goods and the expression
defective shall be construed accordingly.

17.9 Deficiency
Deficiency means-
1. any fault, imperfection, shortcoming or inadequacy in the quality, nature and
manner of performance which is required to be maintained by or under any law
for the time being in force or has been undertaken to be performed by a person
in pursuance of a contract or otherwise in relation to any service;
2. any act of omission or commission which causes any damage to the consumer
on account of negligence or consciously withholding of relevant information by
any person to the consumer, and the expression deficient shall be construed
accordingly;
Business Law : 284
Consumer Protection Act, 2015
17.10 Manufacturer
Manufacturer means a person who
1. makes or manufactures any goods or parts thereof; or
NOTES
2. does not make or manufacture any goods but assembles parts thereof made or
manufactured by others; or
3. puts or causes to be put his own mark on any goods made or manufactured by
any other manufacturer; or
4. in the course of business conducted for that purpose, sells, distributes, leases,
installs, prepares, packages, labels, markets, repairs, maintains, or otherwise is
involved in placing a product for commercial purposes; but does not include-
a. any person who is engaged in a business to design, produce, make, fabricate,
construct, or re-manufacture any product (or component part of a product); or
b. any product seller holding itself out as a manufacturer to the user of the product;
except that any product seller who acts primarily as a wholesaler, distributor, or
retailer of products may be a manufacturer with respect to a given product to
the extent that such seller designs, produces, makes, fabricates, constructs, or
re-manufactures the product before its sale.

17.11 Trader
Trader, in relation to any goods, means a person who sells or distributes any goods
for sale and includes the manufacturer thereof, and where such goods are sold or
distributed in package form, includes the packer thereof.

17.12 Consumer Dispute


Consumer dispute means a dispute where the person against whom a complaint
has been made, denies or disputes the allegations contained in the complaint.

17.13 Redressal Machinery Under the Act


According to Section 9, there shall be established for the purposes of this Act, the
following agencies, namely:
A District Consumer Grievance Redressal Commission to be known as the
District Commission established by the State Government in each district of
the State by notification: Provided that the State Government may, if it deems
fit, establish more than one District Commission in a district.
A State Consumer Disputes Redressal Commission to be known as the State
Commission established by the State Government in the State by notification;
and
A National Consumer Disputes Redressal Commission to be known as the
National Commission established by the Central Government by notification.
Business Law : 285
Consumer Protection Act, 2015
17.13.1 District Commission
17.13.1.1 Composition of district commission
Each District Commission shall consist of-
NOTES
a. A person who is, or has been, or is qualified to be a District Judge or an officer
not below the rank of a District Magistrate in the State or equivalent, who shall
be its President;
b. not less than two and not more than such number of members, as may be
prescribed, at least one of whom shall be a woman, who shall-
be not less than thirty-five years of age;
possess a bachelors degree from a recognised university; and
be a person of ability, integrity and standing, and have adequate
c. knowledge and experience of at least ten years in dealing with problems relating
to economics, law, commerce, accountancy, industry, consumer affairs
oradministration.
17.13.1.2 Disqualification of members
A person shall be disqualified for appointment as a member of the District Commission
if he-
a. has been convicted and sentenced to imprisonment for an offence which, inthe
opinion of the State Government, involves moral turpitude; or
b. is an undischarged insolvent; or
c. is of unsound mind and stands so declared by a competent court; or
d. has been removed or dismissed from the service of the Government or a
bodycorporate owned or controlled by the Government; or
e. has, in the opinion of the State Government, such financial or other interest as is
likely to affect prejudicially the discharge by him of his functions as a member.
17.13.1.3 Appointment of members of district commission
1. The President and Members of the District Commission shall be appointed by
the State Government on the recommendation of the State Public Service
Commission insuch manner as may be prescribed.
2. Every member of the District Commission shall hold office for a term of five
years or up to the age of sixty-five years, whichever is earlier. However, he shall
be eligible for re-appointment subject to similar conditions as stated here-in-
before.
17.13.1.4 Jurisdiction of district commission
1. Subject to the other provisions of this Act, the District Commission shall have
jurisdiction to entertain complaints where the billed value of the goods or services
claimed does not exceed rupees fifty lakhs, or up to thrice the limits of such
value as may be prescribed.
2. A complaint shall be instituted in a District Commission within the local limits of
whose jurisdiction,-
Business Law : 286
Consumer Protection Act, 2015
the opposite party or each of the opposite parties, where there are more
thanone, at the time of the institution of the complaint, actually and voluntarily
resides orcarries on business or has a branch office or personally works for
gain; or NOTES
any of the opposite parties, where there are more than one, at the time of
theinstitution of the complaint, actually and voluntarily resides, or carries on
business orhas a branch office, or personally works for gain, provided that in
such case thepermission of the District Commission is given; or
the cause of action, wholly or in part, arises; or
the complainant resides or personally works for gain.
3. The District Commission shall ordinarily function in the district headquarters
andmay perform its functions at such other place in the district, as the State
Government may, inconsultation with the State Commission, notify in the Official
Gazette from time to time.
17.13.1.5 Manner in which complaint shall be made
1. A complaint, in relation to any goods sold or delivered or agreed to be sold or
delivered or any service provided or agreed to be provided may be filed, with a
District Commission by-
a. the consumer to whom such goods are sold or delivered or agreed to be
soldor delivered or such service provided or agreed to be provided or in
respect of which unfair trade practice is alleged;
b. any recognised consumer association whether the consumer to whom the
goods sold or delivered or agreed to be sold or delivered or service provided
or agreed to be provided or in respect of which an unfair trade practice is all
eged, is a member of such association or not;
c. one or more consumers, where there are numerous consumers having the
same interest, with the permission of the District Commission, on behalf of,
or for the benefit of, all consumers so interested; or
d. the Central Government or the State Government, as the case may be,
either in its individual capacity or as a representative of interests of the
consumers in general: Provided that the complaint under this sub-section
may be filed electronically in such manner as may be prescribed.
2. Every complaint filed under sub-section (1) shall be accompanied with such
amount of fee and payable in such manner, including electronic form, as may be
prescribed.
3. On receipt of a complaint made under sub-section (1), the District Commission
may, by order, allow the complaint to be proceeded with or rejected:
Provided that a complaint shall not be rejected under this section unless an
opportunityof being heard has been given to the complainant:
Provided further that the admissibility of the complaint shall ordinarily be
decided within twenty-one days from the date on which the complaint was
filed. Business Law : 287
Consumer Protection Act, 2015 4. Where the District Commission does not decide the issue of admissibility of the
complaint within the period specified in the second proviso to sub-section (3), it
shall be deemed to have been admitted except in the case where the complainant
has failed to appear before the District Commission on the day of hearing for
NOTES
admissibility fixed within twenty one days from the date of filing of the complaint,
without any reasonable ground:
Provided that if another date of hearing for admissibility is fixed within the
next twenty one days from the date of last hearing for admissibility and the
complainant fails to appear without any reasonable ground, the admissibility
of the complaint shall be decided on merit, or if no date of hearing for
admissibility is fixed within twenty one days from the last date of hearing
for admissibility, the complaint shall be deemed to have been admitted on
the expiry of such twenty-one days:
Provided further that in case of complaint filed electronically no physical
appearance of the complainant will be necessary for deciding admissibility
of the case and unless admissibility of such matter is decided within twenty-
one days, the complaint shall be deemed to be admitted after twenty-one
days of filing of the complaint.
5. Where a complaint is allowed to be proceeded with under sub-section (3) or
sub-section (4), the District Commission may proceed with the complaint in the
manner provided under this Act:
Provided that where a complaint has been admitted by the District Commission,
it shall not be transferred to any other court or tribunal or any authority set up by
or under any otherlaw for the time being in force.

17.13.2 State Commission


17.13.2.1 Composition of state commission
Each State Commission shall consist of
1. a person who is or has been a Judge of a High Court, appointed by the State
Government, who shall be its President:Provided that no appointment under this
clause shall be made except after consultation with the Chief Justice of the
High Court;
2. not less than four, and not more than such number of members, as may be
prescribed, and one of whom shall be a woman, who shall have the following
qualifications, namely-
be not less than forty years of age;
possess a bachelors degree from a recognised university;
be persons of ability, integrity and standing, and have adequate knowledge and
experience of at least ten years in dealing with problems relating to economics,
law, commerce, accountancy, industry, consumer affairs or administration.
17.13.2.2 Officers and employees of state commission
1. The State Government shall determine the nature and categories of the officers
and other employees required to assist the State Commission in the discharge of
Business Law : 288
its functions and provide the Commission with such officers and other employees Consumer Protection Act, 2015
as it may think fit.
2. The officers and other employees of the State Commission shall discharge their
functions under the general superintendence of the President.
NOTES
3. The salaries and allowances payable to and the other terms and conditions of
service of, the officers and other employees of the State Commission shall be
such as may be prescribed by the State Government.
17.13.2.3 Jurisdiction of state commission
1. Subject to the other provisions of this Act, the State Commission shall have
jurisdiction-
a. to entertain-
complaints where the billed value of the goods or services, exceeds
rupees fifty lakhs but does not exceed rupees ten crores or up to thrice
the limits of the said value as may be prescribed; and
appeals against the orders of any District Commission within the State;
and
b. to call for the records and pass appropriate orders in any consumer dispute
which is pending before or has been decided by any District Commission
within the State, where it appears to the State Commission that such District
Commission has exercised a jurisdiction not vested in it by law, or has failed
to exercise a jurisdiction so vested or has acted in exercise of its jurisdiction
illegally or with material irregularity.
2. A complaint shall be instituted in a State Commission within the limits of whose
jurisdiction,-
a. the opposite party or each of the opposite parties, where there are more
than one, at the time of the institution of the complaint, actually and voluntarily
resides or carries on business or has a branch office or personally works
for gain; or
b. any of the opposite parties, where there are more than one, at the time of
the institution of the complaint, actually and voluntarily resides, or carries on
business or has a branch office or personally works for gain, provided that
in such case the permission of the State Commission is given; or
c. the cause of action, wholly or in part, arises; or
d. the complainant resides or personally works for gain.

17.13.2.4 Appeal to national commission


1. Any person aggrieved by an order made by the State Commission in exercise of
its powers conferred by sub-clause (i) of clause (a) of sub-section (1) of section
40 may prefer an appeal against such order to the National Commission within
a period of thirty days from the date of the order in such form and manner as
may be prescribed:
Provided that the National Commission shall not entertain the appeal after
the expiry of the said period of thirty days unless it is satisfied that there
was sufficient cause for not filingit within that period: Business Law : 289
Consumer Protection Act, 2015 Provided further that no appeal by a person, who is required to pay any
amount interms of an order of the State Commission, shall be entertained by
the National Commission unless the appellant has deposited in the prescribed
manner fifty per cent of that amount.
NOTES
2. Save as otherwise expressly provided under this Act or by any other law for the
time being in force, an appeal shall lie to the National Commission from any
order passed inappeal by any State Commission, if the National Commission is
satisfied that the case involvesa substantial question of law.
3. An appeal may lie to the National Commission under this section from an order
passed ex parte by the State Commission.
4. In an appeal under this section, the memorandum of appeal shall precisely state
the substantial question of law involved in the appeal.
5. Where the National Commission is satisfied that a substantial question of law is
involved in any case, it shall formulate that question.
6. The appeal shall be heard on the question so formulated and the respondent
shall, after hearing of the appeal, be allowed to argue that the case does not
involve such question:
Provided that nothing in this sub-section shall be deemed to take away or abridge the
power of the National Commission to hear, for reasons to be recorded in writing, the
appeal on any other substantial question of law, if it is satisfied that the case involves
such questionof law.
17.13.2.5 Hearing of appeal
An appeal filed before the State Commission or the National Commission shall be
heard as expeditiously as possible and an endeavour shall be made to finally dispose
of the appeal within a period of ninety days from the date of its admission:
Provided that no adjournment shall be ordinarily granted by the State Commission
or the National Commission, as the case may be, unless sufficient cause is shown
and the reasons for grant of adjournment have been recorded in writing by such
Commission:
Provided further that the state commission or the national commission, as the
case may be, shall make such orders as to the costs occasioned by the adjournment,
as may be provided in the regulations made under this Act:
Provided also that in the event of an appeal being disposed of after the period so
specified, the State Commission or the National Commission, as the case may
be, shall record in writing the reasons for the same at the time of disposing of the
said appeal.

17.13.3 National Commission


17.13.3.1 Composition of national commission
The National Commission shall consist of-
1. a person who is or has been a Judge of the Supreme Court, to be appointed by
the Central Government, who shall be its President:
Business Law : 290
Provided that no appointment under this clause shall be made except after consultation Consumer Protection Act, 2015
with the Chief Justice of India;
2. not less than fifteen, and not more than such number of members, as may be
prescribed out of which one member shall be a woman and one each shall be NOTES
from Scheduled Caste, Scheduled Tribes, Other Backward Class and minority
communities, who shall have the following qualifications, namely-
a. be not less than forty-five years of age;
b. possess a bachelors degree from a recognised university; and
c. be persons of ability, integrity and standing and having adequate knowledge
and experience of at least twenty years in dealing with problems relating to
economics, law or, commerce or accountancy or industry or consumer affairs
or administration or has held the post of not less than secretary or of equivalent
in the central government or state government or persons having judicial
experience for at least a period of ten years as a presiding officer at the
district court or at any tribunal at equivalent level.
17.13.3.2 Jurisdiction of national commission
1. Subject to the other provisions of this Act, the National Commission shall have
jurisdiction-
a. to entertain-
complaints where the billed value of the goods or services claimed
exceeds rupees ten crore or up to thrice the limits of the said value as
may be prescribed; and
appeals against the orders of any State Commission; and
b. to call for the records and pass appropriate orders in any consumer dispute
which is pending before or has been decided by any State Commission
where it appears to the National Commission that such State Commission
has exercised a jurisdiction not vested in it by law, or has failed to exercise
a jurisdiction so vested, or has acted in the exercise of its jurisdiction illegally
or with material irregularity.
2. The jurisdiction, powers and Central Authority of the National Commission may
be exercised by Benches thereof-
a Bench may be constituted by the President with one or more members
as the President deems fit:
Provided that the senior most member of the Bench shall preside over the
Bench.
if the Members of a Bench differ in opinion on any point, the points shall be
decided according to the opinion of the majority, if there is a majority, but if
the members are equally divided, they shall state the point or points on
which they differ,and make a reference to the President who shall either
hear the point or points himself or refer the case for hearing on such point
or points by one or more or the other Members and such point or points
shall be decided according to the opinion of the majority of the Members
who have heard the case, including those who first heard it:
Business Law : 291
Consumer Protection Act, 2015 Provided that the President or the Members, as the case may be, shall give his or
their opinion on the point or points referred to him or them within a period of two
months from the date of such reference.

NOTES 17.13.3.3 Power and procedure applicable to national commission


1. The provisions relating to the disposal of complaints by the District Commission
Check your progress under sections 32, 33, 34 and 35 shall, with such modifications as may be
Define deficiency. considered necessary by the Commission, be applicable to the disposal of disputes
Distinguish between by the National Commission.
manufacturer and trader.
2. Without prejudice to the provisions contained in sub-section (1), the National
What do you mean by
consumer dispute? Commission shall have the power to review any order made by it, when there is
an error apparent on the face of record.

17.14 Powers of the Dispute Redressal Agencies


The District Forum, State Commission and the National Commission are vested
with the powers of a civil court under the Code of Civil Procedure while trying a suit
in respect of the following matters-
1. the summoning and enforcing attendance of any defendant or witness examining
the witness on oath;
2. the discovery and production of any document or other material producible as
evidence;
3. the reception of evidence on affidavits:
4. the requisitioning of the report of the concerned analysis or test from the
appropriate laboratory or from any other relevant source;
5. issuing of any commission for the examination of any witness;
6. any other matter which may be prescribed; and
7. to issue remedial orders against the opposite party.

17.15 Key Terms


Manufacturer: A person or company that makes goods for sale.
Trader: Trader, in relation to any goods, means a person who sells or distributes
any goods for sale and includes the manufacturer thereof, and where such
goods are sold or distributed in package form, includes the packer thereof.
Consumer dispute: Consumer dispute means a dispute where the person
against whom a complaint has been made, denies or disputes the allegations
contained in the complaint.

17.16 Summary
According to this right to safety the consumers have the right to be protected
against the marketing of goods and services which are hazardous to life and
property, this right is important for safe and secure life.
Business Law : 292
Unfair trade practice means a trade practice which, for the purpose of Consumer Protection Act, 2015
promoting the sale, use or supply of any goods or for the provision of any service,
adopts any unfair method or unfair or deceptive practice.
Restrictive trade practice means a trade practice which tends to bring about
NOTES
manipulation of price or its conditions of delivery or to affect flow of supplies in
the market relating to goods or services in such a manner as to impose on the
consumers unjustified costs or restrictions.
Trader, in relation to any goods, means a person who sells or distributes any
goods for sale and includes the manufacturer thereof, and where such goods
are sold or distributed in package form, includes the packer thereof.
Consumer dispute means a dispute where the person against whom a complaint
has been made, denies or disputes the allegations contained in the complaint.
According to Section 9, there shall be established for the purposes of this Act,
the following agencies, namely:
A District Consumer Grievance Redressal Commission to be known as the
District Commission established by the State Government in each district of
the State by notification: Provided that the State Government may, if it deems
fit, establish more than one District Commission in a district.
A State Consumer Disputes Redressal Commission to be known as the State
Commission established by the State Government in the State by notification;
and
A National Consumer Disputes Redressal Commission to be known as the
National Commission established by the Central Government by notification.
The President and Members of the District Commission shall be appointed by
the State Government on the recommendation of the State Public Service
Commission in such manner as may be prescribed.

17.17 Questions and Exercise


1 Discuss the scope and applicability of Consumer Protection Act.
2 What are the basic rights available to consumers?
3 Write a short note on deficiency in services.
4 Explain the term consumer under Consumer Protection Act with suitable
examples.
5 Who can file a complaint? Can a parent or guardian of minor file complaint on
his behalf?
6 Write short note on district forum and state commission.
7 Explain reliefs available under the consumer protection act, 2015.
8 What are the powers available by the dispute redressal agencies under Act?

Business Law : 293


Consumer Protection Act, 2015
17.18 Further Readings and References
Books
NOTES 1.Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt. Limited.
2.Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.
Web resources
Consumer Protection Bill, 2015 available at: http://www.prsindia.org/uploads/media/
Consumer/Consumer% 20Protection% 20bill,% 202015 .pdf

Business Law : 294


Unit 18: Limited Liability Partnership Act, 2008 Limited Liability Partnership
Act, 2008
Structure
18.0 Introduction
NOTES
18.1 Unit Objectives
18.2 Features of LLP
18.3 Difference between Partnership and LLP
18.4 Difference between Company and LLP
18.5 LLP Agreement
18.6 Incorporation Document
18.7 Partner- Section 5-6
18.8 Designated Partner- Section 7-9
18.9 Registered Office
18.10 Name of LLP- Sections 11- 21
18.11 Name Guidelines- Rule 18 of LLP Rules, 2009
18.12 Partners and their Relations and Extent of Liability
18.13 Whistle Blowing- Section 31
18.14 Contribution by Partner- Section 32- 33
18.15 Audit and Financial Disclosures- Section 34-35
18.16 Assignment and Transfer of Partnership Rights- Section 42
18.17 Investigation- Section 43
18.18 Foreign LLP- Sections 59 and Rule 34
18.19 Taxation of LLP
18.20 Conversion of Partnership Firm or Private Company or Unlisted Public
Company into LLP- Sections 55- 58
18.21 Steps for Conversion of Partnership into LLP
18.22 Conversion of Private Company into LLP
18.23 Winding Up of LLP- Sections 63 and 64
18.24 Advantages and Disadvantages of LLP
18.25 Key Terms
18.26 Summary
18.27 Questions and Exercise
18.28 Further Readings and References

18.0 Introduction
Limited Liability Partnership (LLP) is an incorporated partnership formed and
Business Law : 295
registered under the Limited Liability Partnership Act 2008 with limited liability and
Limited Liability Partnership perpetual succession. The Act came into force, for most part, on 31st March 2009
Act, 2008 followed by its Rules on 1st April 2009 and the registration of the first LLP on 2nd
April 2009. LLP is viewed as an alternative corporate business vehicle that provides
the benefits of limited liability but allows its partners the flexibility of organizing their
NOTES internal structure as a partnership based on a mutually arrived agreement. The LLP
form would enable entrepreneurs, professionals and enterprises providing services
of any kind or engaged in scientific and technical disciplines, to form commercially
efficient vehicles suited to their requirements. Owing to flexibility in its structure and
operation, the LLP would also be a suitable vehicle for small and medium enterprises
and for investment by venture capitalists.

18.1 Unit Objectives


After studying this unit students will be able to:
Understand salient features of LLP
Know the difference between LLP and other form of business
Get familiarise with partners, designated partner
Learn the Audit and Financial Disclosures of LLP
Explain the conversion of firm or private company to LLP
Discuss the winding up and dissolution of LLP

18.2 Features of LLP


The salient features of the Limited Liability Partnership are as follows:
1. The LLP is a body corporate and a legal entity separate from its partners. Any
two or more persons, associated for carrying on a lawful business with a view
to profit, may by subscribing their names to an incorporation document and filing
the same with the Registrar, form a Limited Liability Partnership.
2. The mutual rights and duties of partners of an LLP inter se and those of the LLP
and its partners shall be governed by an agreement between partners or between
the LLP and the partners subject to the provisions of the proposed legislation.
3. A LLP is a separate legal entity, liable to the full extent of its assets, with the
liability of the partners being limited to their agreed contribution in the LLP
which may be tangible or intangible in nature or both tangible and intangible in
nature. No partner would be liable on account of the independent or un-authorized
acts of other partners or their misconduct.
4. Every LLP shall have at least two partners and shall also have at least two
individuals as Designated Partners, of whom at least one shall be resident in India.
5. A LLP shall maintain annual accounts reflecting true and fair view of its state of
affairs. A statement of accounts and solvency shall be filed by every LLP with
the Registrar every year. The accounts of LLPs shall also be audited, subject to
any class of LLPs being exempted from this requirement by the Central
Business Law : 296 Government.
6. The Central Government has power to investigate the affairs of an LLP, if Limited Liability Partnership
required, by appointment of competent inspector for the purpose. Act, 2008
7. The Indian Partnership Act, 1932 shall not be applicable to LLPs. A partnership
firm, a private company and an unlisted public company may convert themselves
NOTES
to LLP in accordance with provisions of the proposed legislation.
8. The Central Government has made rules for carrying out the provisions of the
LLP Act.

18.3 Difference Between Partnership And LLP


Following are the differences between partnership firm and LLP.
Category Partnership LLP
Governing Law The Indian Partnership Act, 1932 The Limited Liability
and various Rules made Partnership Act, 2008 and
thereunder. various Rules made thereunder.
Registration Optional Compulsory
Creation Created by contract Created by law
Separate Legal It is not separate legal entity from It is separate legal entity,
Entity partners. Partners are collectively separate from its partners\
referred as firm. designated partners.
Perpetual It does not have perpetual It has perpetual succession.
succession succession.
Purchase of Partnership firm cannot purchase LLP can also purchase movable
Property movable / immoveable property in / immovable property in its
its name. The same must be name
purchased in the name of partners.
Common Seal Not required It denotes the signature of the
Company and LLP may have its
own common seal, if it besides
to have one.
Formalities of Partnership deed along with form/ Various documents /
Incorporation affidavit required to be filed with declarations executed in
Registrar of firms along with prescribed formats pre-filled in
requisite filing fees. designated e-forms are required
to be filed with ROC along with
filing fee.
Time line It will take approx. 7 days to It will take approx. 20 days to
incorporate. incorporate ( inclusive of time
taken to obtain DPIN)
Expenses for Minimum Statutory Fee does not Minimum Statutory fee for
formation exceed to Rs. 500/- and Maximum incorporation of LLP is Rs.
Statutory Fee is Rs. 5000/- 1500/- and Maximum fee for
incorporation of LLP is Rs.
7000/- (approx.) Business Law : 297
Limited Liability Partnership Category Partnership LLP
Act, 2008
Legal Proceeding Only registered partnership can LLP can also sue and be sued
sue.
NOTES Taxation It is a separate taxable entity Its status in unclear, pending
changes in income tax act.
Name No such requirement. Suffix LLP or Limited
Liability Partnership has to be
added to the name.
Change of name The name of the Partnership firm The name of the LLP can be
can be changed changed with the prior approval
of Central Government.
Ownership of Partners have joint ownership of The LLP has ownership of assets
Assets all the assets and Partners only have capital
contribution in the LLP
Liability Liability of partners is unlimited Liability of partners is limited
upto their capital contribution
however in case a partners acts
with an intension to conduct
fraud, they are personally liable.
Agency Partners are agents of the firm and Partners are agents of LLP
Relationship each other
Contracts / A partner cannot enter into A partner can enter into contract
Business contract with the firm with the LLP
transaction by
Member/
Directors/ Partners
Power of Member\ All the partners have say in the day The power of partners/
Partner\ Director to day management of the firm or designated partners to conduct
as specified in the partnership deed the day to day affairs is specified
if there is any by LLP agreement / LLP act.
Dissolution by an Partnership contract can be put to Continuance of LLP is not
act of partners / an end by anyone of the members \ affected by the acts of its
members / on happening of event specified in Partners.
directors partnership act, 1932

Share Certificate There are no provisions for issuing There are no provisions for
of Share Certificate. Rights/ issuing of Share Certificate.
Interest of the Partners in the firm Rights/ Interest of the Partners in
are evidenced by Partnership deed, the LLP are evidenced by
if any. Partnership agreement.
Jurisdiction of CLB has no jurisdiction CLB has jurisdiction over the
Company Law affairs of the LLP
Board (CLB)
Nature Partnership is a relation between A LLP is a body corporate
Business Law : 298
Category Partnership LLP Limited Liability Partnership
Board (CLB) Act, 2008
Nature Partnership is a relation between A LLP is a body corporate
persons who have agreed to share formed and incorporated under
NOTES
the profits of business carried on this act and which has legal
by all or any of them acting for all entity separate from that of its
with unlimited liability. partners, having perpetual
succession and liability of its
partner shall be limited.

Compromise \ There is no provision for Provisions exist for Compromise


arrangements \ Compromise \ arrangements \ \ arrangements \ merger \
merger \ merger \ amalgamation in the amalgamation for LLP in the
amalgamation Partnership firm. act.
Books of Accounts Not applicable Books of accounts must be
prepared as specified in the LLP
Act.
Filing of Annual Not applicable Statement of accounts and
Accounts solvency are required to be filed
with ROC annually in the
prescribed format.
Audit of Accounts The Audit of accounts is as per the As per the provisions of LLP
provisions of income tax act. act, accounts to be audited
annually except for LLPs
having turnover less than Rs. 40
lacs or Rs. 25 lacs contribution
in any financial year.
Applicability of Accounting standard are not Its status in unclear, pending
Accounting applicable. changes in income tax act.
standards
Mode of Service Service of documents cannot be Documents to be served on LLP
documents served through electronic means / designated partners may be Business Law : 299
served through electronic means
Annual Return Not applicable Annual Return is required to be
filed with the ROC annually in
Limited Liability Partnership 18.4 Difference Between Company and LLP
Act, 2008
Differences between company and LLP are as follows:
Category Company LLP
NOTES
Applicable law Companies Act, 2013, is LLP is governed by The
applicable. Limited Liability Partnership
Check your progress
Act, 2008 and LLP Rules,
What do you understand
by the LLP? 2009.
What are the basic Registration Compulsory registration required
differences between with the ROC. Certificate of Compulsory registration
partnership and LLP ?
Incorporation is conclusive required with the ROC
Distinguish between
company and LLP. evidence.

Name Name of a public company to end


with the word limited and a Name to end with LLP
private company with the words Limited Liability Partnership
private limited

Perpetual
It has perpetual succession. It has perpetual succession.
succession

Formalities of Various documents / declarations Various documents /


Incorporation executed in prescribed formats declarations executed in
pre-filled in designated e-forms prescribed formats pre-filled in
are required to be filed with ROC designated e-forms are required
along with filing fee. to be filed with LLP along with
filing fee.

Time line It will take approx. 15 days to It will take approx. 20 days to
incorporate ( inclusive of time incorporate ( inclusive of time
taken to obtain DIN) taken to obtain DPIN)

Number of In case of private company, 2 to There should be a minimum of


members 200 members and minimum 7 2 partners. There is no limit to
members in case of public the maximum number of
company. partners.
Rights and duties Rights / Duties / obligation of Rights / Duties / obligation of
of the partners or directors are governed by AOA directors are governed by
directors and resolution passed by Partnership Agreement
shareholders or directors.

Filing of Annual Balance Sheet and Profit and loss Statement of accounts and
Accounts account are required to be filed solvency are required to be filed
with the ROC annually in the with registrar of LLP annually
Business Law : 300
prescribed format in the prescribed format.
Limited Liability Partnership
Category Company LLP
Act, 2008
Audit of Accounts As per the provisions of As per the provisions of LLP
companies Act, 2013 accounts act, accounts to be audited NOTES
have to be audited annually annually except for LLPs
having turnover less than Rs. 40
lacs or Rs. 25 lacs contribution
in any financial year.

Cessation as A member/shareholder can cease A person can cease to be a


partners / member to be a member by selling his partner as per the LLP
shares. agreement or in absence of the
same by giving 30 days prior
notice to the LLP.

18.5 LLP Agreement


No provision has been made for directors or a board structure on the lines of Company
Law. The LLP agreement determines the mutual rights and duties of the partners
and their rights and duties in relation to limited liability partnership. This LLP agreement
is required to be filed with the Registrar. It has been provided under Section 23
Save as otherwise provided by this Act, the mutual rights and duties of the partners
of a limited liability partnership, and the mutual rights and duties of a limited liability
partnership and its partners, shall be governed by the limited liability partnership
agreement between the partners, or between the limited liability partnership and its
partners.
Limited liability partnership agreement should be filed with the Registrar within 30
days of incorporation in form 3. A person becomes a Partner by virtue of LLP
agreement. This means that the LLP agreement is a must and it serves as a basic
document and, to a certain extent, takes the place of MOA and AOA applicable in
the case of a company registered under the Companies Act, 1956. Any change in
the LLP agreement is also required to be notified to the Registrar of Companies.
The importance of the said document lies in the fact that it is a public document and
it is open to public inspection being on the records of the Registrar.

18.6 Incorporation Document


According to section 11 (1) of the Limited Liability Partnership Act, 2008, for a
limited liability partnership to be incorporated-
1. two or more persons associated for carrying on a lawful business with a view to
profit shall subscribe their names to an incorporation document;
2. the incorporation document shall be filed in such manner and with such fees, as

Business Law : 301


Limited Liability Partnership may be prescribed with the registrar of the state in which the registered office
Act, 2008 of the limited liability partnership is to be situated; and
3. a statement in the prescribed form shall be filed along with the incorporation
NOTES document, made by either an advocate, or a Company Secretary or a Chartered
Accountant or a Cost Accountant, who is engaged in the formation of the limited
liability partnership and by anyone who subscribed his name to the incorporation
document, that all the requirements of this Act and the rules made thereunder
have been complied with, in respect of incorporation and matters precedent and
incidental thereto.
The incorporation document shall be in form 2 as per rule 11
1. state the name of the LLP;
2. state the proposed business of the LLP;
3. state the address of the registered office of the LLP;
4. state the name and address of each of the persons who are to be partners of the
LLP on incorporation;
5. state the name and address of the persons who are to be designated partners of
the LLP on incorporation;
6. contain such other information concerning the proposed LLP as may be
prescribed.
If a person makes a statement under clause (c) of Sub-Section (1) which he-
1. knows to be false; or
2. does not believe to be true,
Shall be punishable with imprisonment for a term which may extend to two years
and with fine which shall not be less than ten thousand rupees but which may extend
to five lakh rupees.
Subject to prior compliance with the requirements of section 11(1) of the Act, section
12 (1) mandates the Registrar to register the incorporation document and issue a
certificate of incorporation within 14 days. The certificate of incorporation shall be
conclusive evidence that the limited liability partnership is incorporated by the name
specified in the incorporation document.

18.7 Partner - Section 5-6


Any person can be a partner in the limited liability partnership in accordance with
the LLP agreement. Every LLP shall have at least two designated partners who
are individuals and at least one of them shall be a resident in India.
Section 5 provides that any individual or body corporate may be a partner in limited
liability partnership. However, an individual shall not be capable of becoming a partner
of a limited liability partnership, if-
He has been found to be of unsound mind by a Court of competent jurisdiction
and the finding is in force;
Business Law : 302
he is an undischarged insolvent; or Limited Liability Partnership
he has applied to be adjudicated as an insolvent and his application is pending. Act, 2008

18.8 Designated Partner - Sections 7-9 NOTES

Section 7 provides that every limited liability partnership shall have at least two
designated partners who are individuals and at least one of them shall be a resident
in India. Provided that in case of a limited liability partnership in which all the partners
are body corporates, at least two partners shall nominate their respective individuals
who are to act as designated partners and one of the nominees shall be a resident
of India.
Every designated partner of a limited liability partnership shall obtain a Designated
Partner Identification Number (DPIN) from the Central Government and the
provisions of Sections 266A to 266G (both inclusive) of the Companies Act, 1956
shall apply mutatis mutandis for the said purpose.
The Central Government, vide Notification No. GSR 506(E) dated 5th July, 2011,
notified Limited Liability Partnership (amendment) Rules, 2011 whereby it has
integrated the Directors Identification Number (DIN) issued under Companies Act,
1956 with Designated Partnership Identification Number (DPIN) issued under
Limited Liability Partnership (LLP) Act, 2008 with effect from 9.7.2011.
Pursuant to aforesaid notification
With effect from 9.7.2011, no fresh DPIN will be issued. Any person, who
desires to become a designated partner in a Limited Liability Partnership, has
to obtain DIN by filing e-form DIN-1.
If a person has been allotted DIN, the said DIN shall also be used as DPIN for
all purposes under Limited Liability Partnership Act, 2008.
If a person has been allotted DPIN, the said DPIN will also be used as DIN for
all the purposes under Companies Act, 1956.
If a person has been allotted both DIN and DPIN, his DPIN will stand cancelled
and his DIN will be used as DIN as well as DPIN for all purposes under
Limited Liability Partnership Act, 2008 and Companies Act, 1956. Every
designated partner, shall intimate his consent to become a designated partner to
the limited liability partnership and DPIN, in Form 9 and the LLP shall intimate
such DPIN to Registrar in Form 4.

18.9 Registered Office


Every limited liability partnership shall have a registered office to which all
communications and notices may be addressed and where they shall be received.
[Section 13(1)]
Rule 17 (1) of the Limited Liability Partnership Rules, 2009 provides that the limited
liability partnership may change its registered office from one place to another by
following the procedure as laid down in the limited liability partnership agreement.
Where the limited liability partnership agreement does not provide for such procedure, Business Law : 303
Limited Liability Partnership consent of all partners shall be required for changing the place of registered office
Act, 2008 of limited liability partnership to another place:
Provided that where the change in place of registered office is from one state to
NOTES another state, the limited liability partnership having secured creditors shall also
obtain consent of such secured creditors.

18.10 Name of LLP- Sections 11- 21


According to section 15(1), every limited liability partnership shall have either the
words limited liability partnership or the acronym LLP as the last words of its
name. Section 15 (2) prohibits registration of a LLP with a name that is either
undesirable in the opinion of the Central Government or that is identical with or that
which too nearly resembles to the name of any existing partnership firm or a LLP or
a body corporate or a trade mark registered or pending registration under the Trade
Marks Act, 1999.
Rule 18 (1) of the LLP Rules, 2009 provides that the name of the limited liability
partnership shall not be one prohibited under the Emblems and Names (Prevention
of Improper Use) Act, 1950. Further, Rule 20 (1) provides that the limited liability
partnership may change its name by following the procedure as laid down in the
limited liability partnership agreement. Where the limited liability partnership
agreement does not provide such procedure, consent of all partners shall be required
for changing the name of the limited liability partnership.

18.11 Name Guidelines - Rules 18 of LLP Rules, 2009


Rule 18 of the Limited Liability Partnership Rules, 2009, prescribed the guidelines to
be kept in mind, while deciding for the name of the LLP.
The name of the limited liability partnership shall not be one prohibited under the
Emblems and Names (Prevention of Improper Use) Act, 1950.
A name shall not generally be reserved, if -
i. It includes any word or words which are offensive to any section of the
people;
ii. The proposed name is the exact Hindi or English translation of the name of
an existing limited liability partnership in English or Hindi, as the case may
be;
iii. The proposed name has a close phonetic resemblance to the name of a
LLP in existence, for example, J.K. LLP, Jay Kay LLP;
iv. It includes the word Co-operative, Sahakari or the equivalent of word co-
operative in the regional languages of the country;
v. It connotes the participation or patronage of the Central or State Government,
unless circumstances justify to, e.g., a name may be deemed undesirable in
certain context if it includes any of the words such as National, Union,
Central, Federal, Republic, President, Rashtrapati, etc;
Business Law : 304
vi. The proposed name contains the words British India; Limited Liability Partnership
Act, 2008
vii. The proposed name implies association or connection with any Embassy or
Consulate or of a foreign government which suggests connection with local
authorities such as Municipal, Panchayat, ZilaParishad or any other body NOTES
connected with the Union or State Government; Check your progress
viii. The proposed name is vague like D.I.M.O. Limited liability partnership or What do you mean by
I.V.N.R. Limited liability partnership or S.S.R.P Limited liability partnership; partner?
What are the requirements
ix. Provided the name shall be reserved, in case No Objection Certificate is of the incorporation office?
granted by the registered Limited Liability Partnership or the Company as
the case may be;
x. It includes name of registered Trade mark, unless the consent of the owner
of the trade mark has been produced;
xi. The proposed name is identical with or too nearly resembles the name of a
firm or LLP or company incorporated outside India and reserved by such
firm, LLP or company with the registrar in accordance with these rules;
xii. It is identical with or too nearly resembles the name of the limited liability
partnership or a company in liquidation or it is identical with or too nearly
resembles names of the LLP or a company which is struck off, up to the
period of 5 years;
xiii. It includes words like Bank, Insurance and Banking, Venture capital
or mutual fund or such similar names without the approval of the regulatory
authority;
xiv. It is intended or likely to produce a misleading impression regarding the
scope or scale of its activities which would be beyond the resources at its
disposal;
xv. The proposed name includes words like French, British, German etc., unless
the partners satisfy that there is some form of collaboration and connection
with the foreigners of that particular country or place, the name of which is
incorporated in the name;
xvi. The proposed name of limited liability partnership includes the words company
secretary, chartered accountant, advocates or such similar words as
indicative of a profession, as part of the proposed name, the same shall be
allowed only after obtaining approval from the Council governing such
profession or such authority as may be nominated by the Central Government,
in this behalf.

18.12 Partners and Their Relations and Extent of


Liability
Mutual rights and duties of partners of an LLP inter se and those of the LLP and its
partners shall be governed by an agreement between the partners, or agreement
between the LLP and its partners. In absence of any such agreements, the mutual
rights and duties shall be governed by the LLP Act. Business Law : 305
Limited Liability Partnership Every partner of an LLP is an agent of LLP for the purpose of the business of LLP
Act, 2008 but the partner is not an agent of other partner of LLP. LLP being a separate legal
entity shall be liable to the full extent of its assets whereas the liability of the partners
of LLP shall be limited to their agreed contribution in the LLP. LLP is not bound by
NOTES the act of a partner in dealing with a person if-
The partner, in fact, has no authority to act for the LLP in doing a particular act;
and
The person knows that he has no authority or does not know or believe him to
be a partner of the LLP.
The LLP is liable if a partner of the LLP is liable to any person for wrongful act or
omission on his part in the course of business of LLP if the said act is within his
authority. Obligation of LLP, whether arising in contract or otherwise, shall solely be
the obligation of LLP. Liabilities of the LLP shall be met out of properties of LLP. A
partner is not personally liable for the obligations of LLP solely by reason of being a
partner of LLP.
No partner is liable for the wrongful act or omission of any other partner of LLP, but
the partner will be personally liable for his own wrongful act or omission. The liability
of the LLP and partners who are found to have acted with intent to defraud creditors
or for any fraudulent purpose shall be unlimited for all or any of the debts or other
liabilities of the LLP.

18.13 Whistle Blowing - Section 31


The phrase whistle blower means a person who informs people in authority or the
public that the company or firm they work for is doing something wrong or illegal. In
the present context, it means that partners or employees of the LLP shall be enabled
to report to the management about actual or suspected dishonesty, fraud or unethical
practice. Consequently, the LLP Act has given adequate protection to the whistle
blower. Section 31 provides that the court or Tribunal may reduce or waive penalty
leviable against any partner or employee of an LLP in case such partner or employee
has provided useful information during investigation of such LLP for finding out the
offence. No such partner or employee shall be discharged, demoted, suspended,
threaded, harassed or in any other manner discriminated against the terms and
conditions of his LLP or employment merely because of his providing information to
the court or Tribunal. A whistle blower who helps in the conviction of the guilty will
thus be protected.

18.14 Contribution by Partner - Sections 32- 33


A contribution of a partner may consist of -
tangible, movable or immovable or intangible property or
other benefit to the limited liability partnership, including money, promissory notes,
other agreements to contribute cash or property, and contracts for services
performed or to be performed.
Business Law : 306
The obligation of a partner to contribute money or other property or other benefit or Limited Liability Partnership
to perform services for a limited liability partnership shall be as per the limited Act, 2008
liability partnership agreement. A creditor of a limited liability partnership, which
extends credit or otherwise acts in reliance on an obligation described in that
NOTES
agreement, without notice of any compromise between partners, may enforce the
original obligation against such partner.

18.15 Audit and Financial Disclosures


The limited liability partnership shall maintain such proper books of account as
may be prescribed relating to its affairs for each year of its existence on cash
basis or accrual basis and according to double entry system of accounting and
shall maintain the same at its registered office for such period as may be
prescribed.
Every limited liability partnership shall, within a period of six months from the
end of each financial year, prepare a Statement of Account and Solvency for
the said financial year as at the last day of the said financial year in such form
as may be prescribed, and such statement shall be signed by the designated
partners of the limited liability partnership.
Every limited liability partnership shall file within the prescribed time, the Statement
of Account and Solvency prepared pursuant to sub-section (2) with the Registrar
every year in such form and manner and accompanied by such fees as may be
prescribed.
The accounts of limited liability partnerships shall be audited in accordance
with such rules as may be prescribed: Provided that the Central Government
may, by notification in the Official Gazette, exempt any class or classes of
limited liability partnerships from the requirements of this sub-section.
Any limited liability partnership which fails to comply with the provisions of this
section shall be punishable with fine which shall not be less than twenty-five
thousand rupees but which may extend to five lakh rupees and every designated
partner of such limited liability partnership shall be punishable with fine which
shall not be less than ten thousand rupees but which may extend to one lakh
rupees.

18.16 Assignment and Transfer of Partnership rights -


Section 42
The limited liability partnership and to receive distributions in accordance with the
limited liability partnership agreement are transferable either wholly or in part.The
transfer of any right by any partner pursuant to sub-section (1) does not by itself
cause the disassociation of the partner or a dissolution and winding up of the limited
liability partnership.The transfer of right pursuant to this section does not, by itself,
entitle the transferee or assignee to participate in the management or conduct of the
activities of the limited liability partnership, or access information concerning the
transactions of the limited liability partnership. Business Law : 307
Limited Liability Partnership
Act, 2008
18.17 Investigation - Section 43
As per Section 43 the Central Government may appoint one or more competent
persons as inspectors to investigate the affairs of a limited liability partnership and to
NOTES
report on them in such manner as it may direct.
1. if not less than one-fifth of the total number of partners of the limited liability
partnership make an application along with supporting evidence and security
amount as may be prescribed; or
2. if the limited liability partnership makes an application that the affairs of the
limited liability partnership ought to be investigated; or
3. if, in the opinion of the Central Government, there are circumstances suggesting-
that the business of the limited liability partnership is being or has been
conducted with an intent to defraud its creditors, partners or any other person,
or otherwise for a fraudulent or unlawful purpose, or in a manner oppressive
or unfairly prejudicial to some or any of its partners, or that the limited liability
partnership was formed for any fraudulent or unlawful purpose; or
that the affairs of the limited liability partnership are not being conducted in
accordance with the provisions of this Act; or that, on receipt of a report of
the Registrar or any other investigating or regulatory agency, there are sufficient
reasons that the affairs of the limited liability partnership ought to be
investigated.

18.18 Foreign LLP - Section 59 and Rule 34


As per rule 34(1) of the LLP Rules, a foreign limited liability partnership shall, within
thirty days of establishing a place of business in India, file with the Registrar in Form 27-
1. a copy of the certificate of incorporation or registration and other instrument(s)
constituting or defining the constitution of the limited liability partnership;
2. the full address of the registered or principal office of the limited liability
partnership in the country of its incorporation;
3. the full address of the office of the limited liability partnership in India which is
to be deemed as its principal place of business in India; and
4. list of partners and designated partners, if any, and the names and addresses of
two or more persons resident in India, authorized to accept on behalf of the
limited liability partnership, service of process and any notices or other documents
required to be served on the limited liability partnership.

18.19 Taxation of LLP


The Limited Liability Partnership Act, 2008 does not contain any provisions regarding
tax regime of a limited liability partnership (LLP). Hence, the taxation scheme of an
LLP is governed by the provisions of the Income Tax Act, 1961. The Income Tax
Act, as amended by the Finance Act, 2009, introduced the tax provisions regarding
Business Law : 308
an LLP. The amendments are made effective from April, 2010.
18.19.1 LLPs treated at par with general partnership firm Limited Liability Partnership
Act, 2008
The tax provisions treat an LLP more similar to a partnership firm than to a company
for tax purposes. An LLP and a general partnership firm are being accorded the
same tax treatment by Act. NOTES
The Budget 2009-10 has amended the definition of Firm and Partners in the following
manner:
a) Firms shall have the meaning assigned to it in the India Partnership Act, 1932
and shall include a limited liability Partnership as defined in the Limited Liability
Partnership Act 2008.
b) Partner shall have the meaning assigned to it in the Indian Partnership Act 1932
and shall include:
Any person, being a minor, has been admitted to the benefits of partnership;
and
A partner of a limited liability partnership as defined in the Limited Liability
Partnership Act, 2008.
c) Partnership shall have the meaning assigned to it in the India Partnership Act,
1932 and shall include a limited liability partnership as defined in the Limited
Liability Partnership Act 2008.

18.19.2 Conditions for being taxed as partnership firm


In order for Limited Liability Partnership to be assessed as firm as Income Tax Act,
it has to satisfy the following criteria:
a) The LLP is evidenced by an instrument i.e. there is a written LLP Agreement.
b) The individual shares of the partners are very clearly specified in the deed.
c) A certified copy of LLP Agreement must accompany the return of income of
the LLP of the previous year in which the partnership was formed.
d) If during a previous year, a change takes place in the constitution of the LLP or
in the profit sharing ratio of the partners, a certified copy of the revised LLP
Agreement shall be submitted along with the return of income of the previous
years in question.
There should not be any failure on the part of the LLP while attending to notices
given by the Income Tax Officer for completion of the assessment of the LLP.

18.20 Conversion of Partnership firm of Private


Company or Unlisted Public Company Into LLP-
Sections 55- 58
The following forms of businesses can be converted into LLP by complying with the
provision of conversion under LLP Act.
a partnership firm into LLP.
a private limited company into LLP. Business Law : 309
Limited Liability Partnership an unlisted public company into LLP.
Act, 2008
The second, third and fourth schedules in the LLP Act contain provisions relating to
conversion of a partnership firm into LLP, a private limited company into LLP and
NOTES unlisted company into LLP respectively.

Check your progress 18.20.1 Eligibility for conversion


Explain the whistle blowing Firm into LLP: A firm can be converted into LLP if all the partners of the firm
. Is the partners interest in become partner of the LLP and no one else.
the LLP transferable?
Can foreigners incorporate
Company into LLP: Private limited company and unlisted public company can be
LLP? converted if and only if:
there is no security interest in its assets subsisting or in force at the tie of
application for conversion; and
all shareholders of the company become partners of LLP and no one else.

18.20.2 Procedures and effect of conversion


For conversion of firm or private limited company or unlisted public company into
LLP, the partners of the firm or shareholders of the company are required to file a
statements and incorporation documents in the prescribed form with the ROC.
On receiving the documents for the conversion, the ROC shall register the documents
and issue a certificate of registration specifying the date of registration as LLP.
Upon registration by ROC, the LLP shall intimate Registrar of Firm or Registrar of
Companies, as the case may be, about conversion within 15 days of registration.
On and from the date specified in the certificate of registration issued by ROC:
All property (tangible, intangible, moveable and immoveable property), liabilities,
interest, obligations etc, relating to the firm or private limited company or unlisted
public company and the whole of the undertaking of the firm or the private
limited company or unlisted public company, shall be transferred to and shall
best in the LLP without furthers assurance act deed.
The firm or private limited company or unlisted public company shall be deemed
to be dissolve and removed from the records of the registrar of firm or registrar
companies as the case may be.
If any property or rights etc. of the partnership firm and private limited companies or
unlisted public company is registered with any authority, the LLP shall take steps to
notify the authority or the conversion.Upon conversion, following things/ events in
favour of or against the firm or private limited company or unlisted public company
on the date of registration may be continued, completed and in force by or against
the LLP.
All proceedings, conviction, ruling, order or judgment of any court, tribunal or
other authority pending in any court or tribunal or before any authority on date
of registration.
Every agreement irrespective of whether or not the rights and reliabilities there
under could be assigned.
Business Law : 310
Deeds, contracts, schemes, bonds, agreements, applications, instruments and Limited Liability Partnership
arrangements. Act, 2008

Every contract of employment.


Appointment in any role or capacity. NOTES

Any approval, permit or license issued under any other Act. etc.
In case of firm, every partner of a firm which is converted into an LLP shall continue
to be personally liable (jointly and severally with the LLP), for the liabilities and
obligation of the firm incurred prior to the conversion or which arose from any
contract entered into prior to the conversion. In case any such partner discharges
any such liability or obligation he shall be entitled (subject to any agreement with the
LLP through the contrary) to the fully indemnified by the LLP in respective of such
liability or obligation.
For a period of 12 months commencing on or before 14 days from the date of
registration, the LLP shall insured that every official correspondence of the LLP
bears the following:
A statement that it was, as from the date of registration. converted from a firm
or private limited company or unlisted public company into a LLP; and
the name and registration number. If applicable, of the firm or private limited
company or unlisted public company from which it was converted.

18.21 Steps for Conversion of Partnership into LLP


To convert an existing partnership in to LLP, the following steps should be taken:

18.21.1 Step I- Deciding the partners and designated partners


A Partnership which desires to convert its status to LLP Form shall foremost decide
the designated Partners of the proposed LLP, as only the partners of the partnership
firm can be the Partners of the converted LLP and no one else and of these partners
of the partnership Firm at least two Partners would be the Designated Partners.
Parameters for deciding the Partners and Designated Partners:
1. At least Two Partners; Individuals or Body Corporate through individual
nominees.
2. Minimum of Two Individuals as Designated Partners, of total no. of Partners.
3. At least One Designated Partner to be Resident Indian.
A person Resident in India means a person who has stayed in India for a period of
not less than one hundred and eighty two days during the immediately preceding one
year. (Explanation to Section-7) Designated Partner means a partner who is
designated as such in the incorporation documents or who become a designated
partner by and in accordance with the Limited Liability Partnership Agreement.

Business Law : 311


Limited Liability Partnership 18.21.2 Step II- Obtaining DPIN No. & Digital Signature
Act, 2008
Designated Partner Identification Number (DPIN): Section 7 (6) of LLP Act
2008, provides for every Designated Partner to obtain a DPIN from the Central
NOTES Government. DPIN is an eight digit numeric number allotted by the Central
Government in order to identify a particular partner and can be obtained by making
an online application in e-Form 7 to Central Government applying with prescribed
fees.
Digital Signature Certificate: All the forms like e-Form 7,e-Form 1, e-Form 2, e-
Form 3 etc. which are required for the purpose of incorporating the LLP are filed
electronically through the medium of Internet, it is not possible to sign them manually.
Moreover the DPIN Form is to be signed by the concerned Designated Partner
himself. Therefore, for the purpose of signing these forms, all the Designated Partner
of the proposed LLP needs to obtain a Digital Signature Certificate (DSC) from
government recognized DSAs.The signatures shall also be required for signing and
filing of all relevant forms and documents to be filed, annually or event based after
incorporation of the LLP, asking for approvals or as intimation.
Likewise the manual signatures, digital signature certificates are individual specific
and no partner to obtain more than one.

18.21.3 Step III- Checking the name availability


The next step is to make an application in e-Form 1 of Rule 18 (5) of the Limited
Liability Partnership Act 2008, for reservation of the desired name of the LLP on
payment of the prescribed fees.
A Board resolution passed by the Company approving the conversion into LLP shall
be attached with the aforesaid form.

18.21.4 Step IV- Drafting of LLP agreement


The next pertinent step is drafting of Limited Liability Partnership Agreement governing
the mutual rights and duties among the partners and among the LLP and its partners.
The basic contents of Agreement are:
Name of LLP
Name of Partners & Designated Partners
Form of contribution
Profit Sharing ratio
Rights & Duties of Partners
Proposed Business
Rules for governing the LLP
It is not necessary to have the LLP Agreement signed at the time of incorporation,
as the details of the same needs to field in e-form 3 within 30 days of incorporation
but in order to avoid any dispute between the partners as to the terms & conditions
of the agreement after the conversion into LLP, it is always beneficial to have the
Business Law : 312 LLP Agreement drafted and executed before the incorporation of the LLP.
18.21.5 Step V- Filing of incorporation documents Limited Liability Partnership
Act, 2008
Next is the filing of Incorporation documents, and declaration electronically through
the medium of e-forms prescribed with the Registrar of LLP for incorporation of
the LLP on payment of prescribed fees based on the total monetary value of NOTES
contribution of partners in the proposed LLP.
Incorporation Document (i.e., e-Form NO. 2) is an informative document setting
down the details of LLP, its Partners including designated partners along with their
amount of contribution and consent for forming a Limited Liability Partnership to
carry on a lawful business with profit motive along with declaration stating that all
the requirements of Limited Liability Partnership Act, 2008 regarding incorporation
of LLP in India have been complied with.
The partners are required to subscribe their names along with signatures to the
subscription sheet, which shall be witnessed by any chartered Accountant/Company
Secretary/Advocate in practice. In case the subscription sheet is executed outside
India, than it must be notarized and consularised.

18.21.6 Step VI - Filing of conversion application


Application for conversion in e-Form 17 to be submitted by the partners of the
partnership name covering name, details of address & registration (if any), consent
of all partners of the Firm along with following details:
Whether up to date Income-tax return is filed under the Income-tax Act, 1961.
Whether any proceeding by or against the company is pending in any Court or
Tribunal or any other Authority.
Whether any conviction, ruling, order, judgment of any Court, Tribunal or other
authority in favour of or against the company is subsisting.
Whether any clearance, approval or permission for conversion of the company
into limited liability partnership is required from anybody/ authority etc.
All the e-forms will be digitally signed by any designated partner and shall be certified
by an advocate/company secretary/chartered accountant/cost accountant in practice
engaged in the formation of LLP.

18.21.7 Step VII - Certificate of registration


On all formalities and filings been complied with by the applicants and approved by
the Ministry, Registrar of LLP to issue a certificate of registration as to conversion
of the LLP. The certificate of registration issued shall be the conclusive evidence of
conversion of the LLP.
In the event, Registrar has refused the registration, the applicant company, may
apply to the Tribunal within sixty days from the date of receipt of such intimation of
refusal.
18.21.8 Step VIII - Information to registrar of firm
In case the partnership firm is registered, than the converted Limited liability
partnership shall within fifteen days of the date of conversion, inform to the concerned
Registrar of Firm with which it was registered under the provisions of the Indian Business Law : 313
Limited Liability Partnership Partnership Act 1932 about the conversion and of the particulars of the limited liability
Act, 2008 partnership in e-form 14.

List of documents required


NOTES
eForm 1-Name Availability Application
eForm 7-Application for Designated Partners Identification Number
eForm 2-Incorporation Document
eForm 17-Application for Conversion
eForm 3- Details of LLP Agreement
eForm 4-Consent of Partners
eForm 14- Intimation of conversion to Registrar of Firms
Subscription Sheet
LLP Agreement duly stamped as per relevant Stamp Act of the State.
Proof of Address of Registered Office
Consent of partners
Statement of partners
Statement of Assets and Liabilities of the company duly certified as true and correct
by the auditor
List of all the unsecured creditors along with their consent.
Approval from any other body/authority, if any required

18.22 Coversion of Private Company Into LLP


18.22.1 Step I - Deciding the partners and designated
Partners
A Private Company desires to convert its status to LLP Form shall foremost decide
the designated Partners of the proposed LLP, as only the members can be the Partners
of the converted LLP and of these members of the company at least two Partners
would be the Designated Partners.. In case of Body Corporate who was the member
of the Company, desires to act as designated partner of LLP, in that case their
nominee can be appointed as the designated Partners.
Parameters for deciding Designated Partners:
Minimum of Two Individuals as Designated Partners, of total no. of Partners.
Atleast One Designated Partner to be Resident Indian.
In case of conversion of Private Limited Company into LLP, all the shareholders
of the Company to be partners in the LLP and no one else and also there will be
no security interest subsisting or in force at the time of application in the assets
of the Company.

18.22.2 Step II- Obtaining DPIN No. & Digital Signature


Every Designated Partner is required to obtain a DIN from the Central Government.
Business Law : 314 If a person already has a DIN, the same can be used for forming LLP.
18.22.3 Step III - Checking the name availability Limited Liability Partnership
Act, 2008
The next step is to make an application in e-Form 1 of Rule 18(5) of the Limited
Liability Partnership Act 2008, for reservation of the desired name of the LLP on
payment of the prescribed fees. NOTES
A Board resolution passed by the Company approving the conversion into LLP shall
be attached with the aforesaid form. It is not necessary to file the LLP Agreement
at the time of incorporation; it can also be filed within 30 days of the incorporation

18.22.4 Step IV- Drafting of LLP agreement


On availability of the desired name the LLP agreement should be drafted. The same
provisions as individuals in step IV for conversion of partnership into LLP are applicable
here.

18.22.5 Step V- Filing of incorporation documents


Incorporation documents are prepared and filled online. The same provisions as
indicated at step V for conversion of partnership into LLP are applicable here.

18.22.6 Step VI - Filing of Conversion Application


Application for conversion in e-Form 18 to be submitted by the Shareholder of the
Company covering name, registration number and date of Incorporation of the
Company, consent of all shareholders of the Company along with following details:
Whether any security interest in the assets of the company is subsisting or in
force
Whether up to date Income-tax return is filed under the Income-tax Act, 1961.
Whether any prosecution initiated against or show cause notice received by the
company for alleged offences under the Companies Act, 1956.
Whether any proceeding by or against the company is pending in any Court or
Tribunal or any other Authority.
Whether any conviction, ruling, order, judgment of any Court, Tribunal or other
authority in favour of or against the company is subsisting.
Whether any clearance, approval or permission for conversion of the company
into limited liability partnership is required from anybody/ authority etc.
All the e-forms will be digitally signed by any designated partner and shall be certified
by an advocate/company secretary/chartered accountant/cost accountant in practice
engaged in the formation of LLP.

18.22.7 Step VII - Certificate of registration


On all formalities and filings been complied with by the applicants and approved by
the Ministry, Registrar of LLP to issue a Certificate of Registration as to conversion
of the LLP. The Certificate of Registration issued shall be the conclusive evidence
of conversion of the LLP.

Business Law : 315


Limited Liability Partnership In the event, Registrar has refused the registration, the applicant company, may
Act, 2008 apply to the Tribunal within sixty days from the date of receipt of such intimation of
refusal.

NOTES e- Form 3 (Details of LLP Agreement: This form provides for the necessary
information in respect to the LLP agreement entered into between the partners.
e- Form 4 (Consent of Partners):Consent of each partner to become a partner
of Limited Liability Partnership to be filed with the Registrar of LLP.

18.22.8 Step VIII - Information to registrar of companies


Converted Limited liability partnership to file within fifteen days of the date of
registration, information to the concerned Registrar of Companies with which it was
registered under the provisions of the Companies Act, 1956 (1 of 1956) about the
conversion and of the particulars of the limited liability partnership in e-Form 14 within
15 days of conversion into LLP.

18.23 Winding - Up of LLP- Sections 63 and 64


The winding up of a limited liability partnership may be either voluntary or by the
Tribunal. Limited liability partnership, so wound up may be dissolved (Section 63).
Circumstances in which limited liability partnership may be wound up by Tribunal
(Section 64)
A limited liability partnership may be wound up by the Tribunal-
1. if the limited liability partnership decides that limited liability partnership be wound
up by the Tribunal;
2. if, for a period of more than six months, the number of partners of the limited
liability partnership is reduced below two;
3. if the limited liability partnership is unable to pay its debts;
4. if the limited liability partnership has acted against the interests of the sovereignty
and integrity of India, the security of the State or public order;
5. if the limited liability partnership has made a default in filing with the Registrar
the Statement of Account and Solvency or annual return for any five consecutive
financial years; or
6. if the Tribunal is of the opinion that it is just and equitable that the limited liability
partnership be wound up.
Limited Liability Partnership (Winding up and Dissolution) Rules, 2012
The Limited Liability Partnership (Winding up and Dissolution) Rules, 2012 prescribes
the details provisions relating to winding up. Any LLP may be wound-up voluntarily
if the LLP passes a resolution to wind up the LLP with approval of at least three-
fourths of the total number of its partners. Provided that where the LLP has creditors,
whether secured or unsecured, the winding up shall not take place unless approval
of such creditors takes place. A copy of the resolution shall be filed with the Registrar
within thirty days of passing of such resolution in Form No. 1. For details, please
Business Law : 316 visit www.mca.gov.in/LLP.
18.24 Advantages and Disadvantages of LLP Limited Liability Partnership
Act, 2008
18.24.1 The advantages of a LLP include
1. Separate legal entity: A limited liability partnership is a body corporate formed NOTES
and incorporated under this Act and is a legal entity separate from that of its
Check your progress
partners.
What is the tax treatment
2. Perpetual Succession: A limited liability partnership shall have perpetual being provided for LLPs?
succession. In other words, partners may come and partners may go but a LLP Discuss the winding up of
will go on till the winding up of its affairs. LLP by tribunal.

3. Limited Liability: Reduced risk to personal wealth from creditors claims.


4. Internal flexibility: Allows for participation in management and maintenance
of ethos of partnership.

18.24.2 The disadvantages include


1. Lack of privacy: Disclosure of financial information required under Section 34.
2. Requirement of a LLP agreement: A LLP agreement is a necessity so as to
avoid the application of default provisions (First Schedule) and to provide for
matters not covered in the default provisions.
3. Legal uncertainty: This being a newly introduced concept in the corporate
world, it is yet to prove itself as a commercial entity

18.25 Key Terms


Designated partner: In case of a LLP in which all the partners are bodies
corporate or in which one or more partners are individuals and bodies corporate,
at least two individuals who are partners of such LLP or nominees of such
bodies corporate shall act as designated partners.
Unsound mind: Unsound mind is a term that denotes lunacy and insanity.
Under law, a person with an unsound mind is considered incompetent to go to
trial. The term is used in statutes. Spouse of a person with unsound mind can
claim divorce under the ground of insanity.
Promissory notes: A signed document containing a written promise to pay a
stated sum to a specified person or the bearer at a specified date or on demand.
Partnership firm: Partnership Firms in India are governed by the
Indian Partnership Act, 1932. As per Section 4 of the Indian Partnership Act
Partnership is the relation between persons who have agreed to share the
profits of a business carried on by all or any of them acting for all
Registrar of Companies: The Registrar of Companies (ROC) is an office
under the Indian Ministry of Corporate Affairs that deals with administration of
the Companies Act 1956 and Companies Act, 2013. There are currently
22 Registrars of Companies (ROC) operating from offices in all major states
of India.
Business Law : 317
Limited Liability Partnership
18.26 Summary
Act, 2008
Any two or more persons associated for carrying on a lawful business with a
view to earn profit may form a limited liability partnership by subscribing their
NOTES
names to an incorporation document and registration with the registrar of
companies.
The LLP is a body corporate and a legal entity separate from its partners.
The LLP agreement determines the mutual rights and duties of the partners and
their rights and duties in relation to limited liability partnership. This LLP agreement
is required to be filed with the Registrar.
Any person can be a partner in the limited liability partnership in accordance
with the LLP agreement. Every LLP shall have at least two designated partners
who are individuals and at least one of them shall be a resident in India.
Section 7 provides that every limited liability partnership shall have at least two
designated partners who are individuals and at least one of them shall be a
resident in India.
Every limited liability partnership shall have a registered office to which all
communications and notices may be addressed and where they shall be received.
[(Section 13(1)]
According to section 15(1), every limited liability partnership shall have either
the words limited liability partnership or the acronym LLP as the last words
of its name.
Every partner of an LLP is an agent of LLP for the purpose of the business of
LLP but the partner is not an agent of other partner of LLP.
The phrase whistle blower means a person who informs people in authority or the
public that the company or firm they work for is doing something wrong or illegal.
The limited liability partnership and to receive distributions in accordance with
the limited liability partnership agreement are transferable either wholly or in
part.
The winding up of a limited liability partnership may be either voluntary or by the
Tribunal. Limited liability partnership, so wound up may be dissolved (Section 63).

18.27 Questions and Exercise


1 What do you mean by Limited Liability Partnership ? State the salient features
of Limited Liability Partnerships.
2 A limited liability partnership is a body corporate. Comment.
3 Provisions of Indian Partnership Act, 1932, are applicable to LLPs and body
corporate may be partner of LLP. Comment.
4 There is no shareholders in a limited liability partnership; instead, there are
partners. Comment

Business Law : 318 5 Can a LLP has less than two partners?
6 What are the major duties of a designated partner? Limited Liability Partnership
7 Write short note on whistle blowing. Act, 2008

8 Explain whether audit of all LLPs is mandatory.


9 Is the partner, on cessation of the partnership, entitled to receive anything from NOTES
the LLP?
10 How is the profit of a limited liability partnership treated for the purpose of Tax
Acts?
11 Discuss the advantages and disadvantages of LLP.

Practical Problems
1. Five persons who are willing to incorporate excel LLP have prepared its LLP
agreement which suggest that each partner will be designated partner. Is it as
per LLP Act?
2. Oasis water products LLP is an already registered LLP. Can businessmen with
intent to start a distilled water business, register LLP with the name Oasis
water India LLP?
3. Mr. P, Mr. Q, Mr. R and Mr. S are partners of an LLP. Mr. P and Mr. Q are
designated partners. The LLP agreement provides that Mr. P has double the
voting right as compared to Mr. Q and Mr. R while Mr. S has no voting right.
Decide the validity of the agreement.

18.28 Further Readings and References


Books
1. Sheth, T., Business Law, 2nd ed. Pearson India Education Services Pvt.
Limited.
2. Kuchhal. M.C. & Prakash, D., 3rd ed. Business Legislation for Management,
Vikas Publishing House Pvt. Limited.

Business Law : 319

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