Formation of a Company: CBSE Class 11 Business Studies Chapter Notes

The Four Stages of Company Formation

1. Stage 1: Promotion —
2. Stage 2: Incorporation / Registration —
3. Stage 3: Capital Subscription —
4. Stage 4: Commencement of Business —

Key Terms in Company Formation

Promoter

A person who undertakes to form a company with reference to a given project and to set it going, and who takes the necessary steps to accomplish that purpose.

Memorandum of Association (MoA)

The principal document of the company which defines its constitution, objects, and scope of activities. It governs the company's relationship with the outside world.

Articles of Association (AoA)

A secondary document that contains the rules and regulations for the internal management of the company. It defines the relationship between the company and its members.

Certificate of Incorporation

A legal document issued by the Registrar of Companies (RoC) which serves as conclusive evidence of the company's existence and legal registration.

Prospectus

Any document described or issued as a prospectus, including any notice, circular, advertisement or other document inviting offers from the public for the subscription or purchase of any securities of a body corporate.

Minimum Subscription

The minimum amount that, in the opinion of directors, must be raised through a share issue to finance the business's needs. As per the Companies Act 2013, it is 90% of the issue size.

Preliminary Contracts

Contracts entered into by the promoters on behalf of a proposed company before its incorporation. These are not legally binding on the company after incorporation unless ratified.

Understanding MoA and AoA: The Company's Constitution

The Memorandum of Association (MoA) and Articles of Association (AoA) are the two most fundamental documents required for the incorporation of a company. The MoA is the charter of the company and is considered the supreme document. It defines the company's boundaries and objectives; the company cannot legally operate beyond the scope defined in its MoA. This is known as the doctrine of ultra vires (beyond the powers). The MoA contains several crucial clauses:

• The Name Clause: States the full name of the company.
• The Registered Office Clause: Specifies the state in which the company's registered office is situated.
• The Objects Clause: This is the most important clause, defining the purpose for which the company is formed. It is divided into main objects and other objects.
• The Liability Clause: States that the liability of the members is limited (to the amount unpaid on their shares or by guarantee).
• The Capital Clause: Specifies the maximum amount of share capital the company is authorized to raise (Authorized Capital).
• The Association/Subscription Clause: Contains a declaration by the subscribers to the MoA stating their intention to form a company.

On the other hand, the Articles of Association (AoA) contains the rules and regulations for the internal management of the company. It outlines procedures for share allotment, transfer of shares, conduct of meetings, voting rights, and appointment and powers of directors. The AoA is subordinate to both the Companies Act and the MoA. While every company must have an MoA, a public company limited by shares may adopt 'Table F' of the Companies Act, 2013 as its AoA if it does not prepare its own.

Memorandum of Association (MoA) vs. Articles of Association (AoA)

Must Remember

• A private company only needs to complete the first two stages (Promotion and Incorporation) to start its business activities.
• A public company must complete all four stages and obtain the 'Certificate of Commencement of Business' before starting operations.
• The Certificate of Incorporation is conclusive proof of the company's legal existence from the date mentioned in it, even if there were irregularities in the registration process.
• The name of a public company must end with the word 'Limited', and a private company with 'Private Limited'.
• Minimum members: 2 for a private company, 7 for a public company.
• Maximum members: 200 for a private company (excluding employee-shareholders), no limit for a public company.
• Minimum directors: 2 for a private company, 3 for a public company.
• Promoters are in a fiduciary position (position of trust) with the company they promote. They cannot make secret profits.
• If minimum subscription is not received within 120 days from the issue date, the application money must be refunded to applicants within the next 15 days.
• A 'Statement in Lieu of Prospectus' is filed by a public company that does not intend to raise capital from the general public.

Exam Traps and Scoring Tips

A common question asks to explain the 'stages of formation of a public company'. Always list and explain all four stages in the correct sequence: Promotion, Incorporation, Capital Subscription, and Commencement. If the question is about a 'private company', you must explicitly state that it only needs to complete the first two stages. When asked to differentiate between MoA and AoA, use a tabular format for clarity and to score full marks. Mentioning the 'ultra vires' doctrine for MoA and the possibility of ratification for AoA shows a deeper understanding.

Mini-Examples

• {"title":"Name Approval Application","bodyMarkdown":"An entrepreneur wants to start an e-commerce company. They propose three names to the RoC: \n1. 'ShopNow India Private Limited'\n2. 'QuickCart Private Limited'\n3. 'Bharat Bazaar Private Limited'\nThe RoC will check if these names are identical or too similar to existing company names or trademarks. If 'QuickCart' is already taken, the RoC will reject it and consider the next preference."}
• {"title":"Minimum Subscription Scenario","bodyMarkdown":"XYZ Ltd. issues 1,00,000 shares to the public at ₹10 each, aiming to raise ₹10,00,000. To meet the minimum subscription requirement (90%), it must receive applications for at least 90,000 shares (₹9,00,000). If it only receives applications for 85,000 shares, it cannot allot any shares and must refund all the application money."}

Practice Questions with Solutions

• What is the legal status of contracts entered into by promoters before the company's incorporation? These are called 'Preliminary Contracts'. They are not legally binding on the company. The company may choose to adopt them after incorporation, but it is not obligated to.
• Which document is considered the charter of a company? The Memorandum of Association (MoA) is considered the charter of the company as it defines its objectives, powers, and scope of operations.
• How many stages of formation must a private limited company complete to start its business? A private limited company needs to complete only two stages: Promotion and Incorporation. It can commence business immediately after receiving the Certificate of Incorporation.
• What is the consequence if a company acts beyond the scope of its MoA? Any act done by the company beyond the powers defined in the Objects Clause of its MoA is considered 'ultra vires' (void) and cannot be ratified by the shareholders.

Frequently Asked Questions

Frequently Asked Questions