The role of promoters in setting up a company cannot be denied. Like the famous Spiderman quote with great power comes great responsibility, the role of a promoter holds a lot of accountability. Due to the separate personality of a company, promoters may tend to misuse this in order to gain silent profits or exploit investors. In order to prevent this, there are certain judgements that highlights the dos and don’ts of a promoter’s actions.
Erlanger v New Sombrero Phosphate Co
Erlanger was a businessman who leased an island, Sombrero for phosphate mining. He later set up a company called Phosphate and sold the leased the island of Sombrero to the company through a nominee at a higher rate. Erlanger was one of the promoters for the company. The other directors were in different places and Erlanger handled most of the company’s activities. Many people invested in Phosphate due to the promotional activities undertaken by Erlanger, later when it was discovered that Erlanger was reaping a huge profit under the guise of a nominee the company sued him. The main issue was whether Erlanger could be sued for not disclosing his interest in the company.
In the given case Erlanger was a promoter for the company Phosphate and there exists a fiduciary relationship between the promoters and the company Erlanger’s act was not in good faith and was to attain individual profit which was against the nature of relationship. Therefore, the contract that was entered into could be rescinded.
A promoter, in case has any conflicting interest or makes any profit from a certain act on behalf of the company has a legal obligation to declare it. Any act in contravention to this would amount to breach of trust and would bring about liability. Then the company will have the provision to seek remedy which can be through recission of contract and recovery of profits. Any profit that the promoter has gained could be converted as ‘constructive trust’ due to the liability arising out of breach of duty.
Kelner v. Baxter
The case dealt with the issue of a company entering a contract before incorporation. The facts are as follows. There was a hotel named Gravesend Royal Alexandra Hotel Company that was going to set up. The promoters of the company for purchasing wine entered into a contract under the name of the company before registration. By the time the company was registered, the wine was consumed and the company went to liquidation. Therefore, the payment could not be completed. This is a classic example of a pre-incorporation contract. The wine company sued the promoters for recovery, however, the promoters contended that the contract was ratified and the burden of recovery lay on the company and not on the promoters.
The main issue was whether the company could be held liable for a contract it entered before incorporation? The court held that the relation of a promoter and company was that of principal and agent. Here since the company was not yet incorporated, the principal was not in existence, therefor ethe promoters were not agents and the company could not be held liable for the act of the promoters. Hence there was an individual burden on the promoters to repay the wine company-Kelner.
The main takeaway from the case was that a contract entered on behalf of a company before its incorporation was not binding on the company and the responsibility lay on the promoters for any liability that arises. The company gets its separate personality only after incorporation and therefore any contract that was entered before incorporation was not binding on the company. After incorporation, the company and promoters have a principal-agent relation therefore any contract that the promoters enter on behalf of the company is binding on the company.
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