Formation and Incorporation of a Company - Various Stages, Advantages and Disadvantages, Company Law Notes CBCS Pattern

[Various stages in Formation and Incorporation of a Company, Advantages of Incorporation, Disadvantages of Incorporation of a Company]

Various stages in Formation and Incorporation of a Company

Since a company is an artificial person, it has to be formed according to legal provisions. In India, these legal provisions have been provided in the Companies Act, 2013. Formation of a company involves various stages which are as follows:

1.    Promotion stage.
2.    Incorporation stage.
3.    Capital subscription stage.
4.    Commencement of business stage.

All these stages are relevant to forming a public company. For forming a private company, only the first two stages and a part of the third stage are relevant as it can commence business immediately after incorporation and receiving money from signatories to documents who have agreed to subscribe to the specified number of shares. Therefore, business commencement stage is not relevant to a private company. Further, such a company cannot invite the general public for subscribing to its shares. Therefore, a part of capital subscription stage is not relevant to it. Let us go through all these stages.

1. Promotion Stage: 

The term ‘promotion’ refers to the sum total of activities by which a business enterprise is brought into existence. At the promotion stage of a company, the promoters conceive the idea of promoting a company and the type of activities that it intends to undertake. It is discovery of business opportunities and subsequent organisation of funds, property and managerial ability into a business concern for the purpose of making profits therefrom. The people who undertake the task of promotion are called promoters.

2. Incorporation Stage: 

Incorporation or registration stage involves putting an application for registering the company before the concerned Registrar of Companies and getting it registered. Under Section 3 of the Companies Act’ 2013, 7 or more persons in case of public company, 2 or more person in case of private company and 1 person in case of OPC may form an incorporated company for a lawful purpose by subscribing their names to the memorandum of association. Steps for incorporating a company are:

a) Before submitting documents for registration, DIN (Directors Identification Number) and Digital Signatures of the Promoters has to be obtained. Both DIN and Digital Signatures will be registered with the Ministry of Corporate Affairs (MCA) portal. After registration of DIN and Digital Signatures the next steps will be taken.

b) The next step for incorporation is to find out the availability of the proposed name of the company from the registrar of companies. Sec 4 of the Companies Act provides that a company cannot be registered by a name which is undesirable in the opinion of the Central Government. Promoters are required to select at least 6 alternative names in the order of preference to the registrar of companies for approval.

c) After getting the approval of name, an application in the prescribed form along with the prescribed fee and necessary documents shall be submitted to the registrar of the state in which the registered office of the proposed company is to be situated. Memorandum of Association, Articles of Association or declaration of accepting Table A which is a model set of Articles of Association, written consent of proposed Directors, certificate of approval of the company’s name, agreement entered with the proposed Managing Director, statutory declaration that all legal require­ments for registration have been completed and documentary evidence of payment of registration fees.

d) Scrutiny of the application and documents by the Registrar of Companies.

e) Registering the company by the Registrar if all requirements are fulfilled and entering the name of the company in the relevant register.

f) Issue of Certificate of Incorporation by the Registrar of Companies. On issue of the Certificate of Incorporation, the company comes into existence as an artificial person. The certificate of incorporation is conclusive evidence that the requirements of the Act have been complied with.

3. Capital Subscription Stage: 

After a company is registered, it proceeds to get money through allotment of share capital to members. Initially, shares are allotted to persons who are signatories to documents and have agreed to subscribe to the prescribed number of shares. After this, a private company may start its business while a public company is required to get the Certificate of Commencement of Business from the concerned Registrar of Companies.The procedure for subsequent allotment of shares varies for a private company and a public company. In a private company, subsequent shares are allotted through personal contacts. In a public company, shares may be allotted through public issue of shares. The usual procedure for this is as follows:

a) Filing of prospectus with Securities and Exchange Board of India (SEBI).

b) Getting approval from SEBI.

c) Appointing managers, underwriters and registrar to the issue.

d) Appointing bankers for receiving appli­cations for shares along with money and brokers for promoting the issue.

e) Inviting the general public (including institutions) for share subscription.

f) On receiving the minimum prescribed subscription, allotting the shares in consultation with the concerned stock exchange where the shares are to be listed for trading.

However, it may be mentioned that it is not necessary for a public company to offer its shares to public; it has only eligibility for public issue but not a compulsion. When a public company issues its shares to the public, it is called a publicly-held company. When it does not issue its shares to the public, it is called a closely-held company.

4. Commencement of Business Stage: 

All the companies without share capital can start its business immediately after getting the certificate of incorporation. Such company is not required to get certificate of commencement of business.

As per Sec 11 of the Companies Act’ 2013, all the public and private companies having a share capital would be required to obtain certificate of commencement of business from the registrar of companies before commencing the business or exercise of borrowing powers. For this purpose, the company is required to submit the following documents:

a) A declaration that the shares to be subscribed on cash basis have been allotted.

b) A declaration that all the Directors have paid in cash for the shares subscribed by them.

c) A declaration, signed either by a Director or Secretary of the company, that the above requirements have been complied with.

The Registrar of Companies scrutinises the above documents and issues the Certificate of Commencement of Business if all requirements are as per the provisions of the Companies Act.

Advantages and Disadvantages of Incorporation

Advantages of incorporation

Incorporation offers certain advantages to a company as compared with all other kinds of business organizations. They are:

1.    Independent corporate existence: The outstanding feature of a company is its independent corporate existence. By registration under the Companies Act, a company becomes vested with corporate personality, which is independent of, and distinct from its members. A company is a legal person.

2.    Limited liability: Limitation of liability is another major advantage of incorporation. The company, being a separate entity, leading its own business life, the members are not liable for its debts. The liability of members is limited by shares; each member is bound to pay the nominal value of shares held by them and his liability ends there.

3.    Perpetual succession: An incorporated company never dies. Members may come and go, but the company will go on forever. During the war all the members of a private company, while in general meeting, were killed by a bomb. But the company survived, not even a hydrogen bomb could have destroyed it.

4.    Common seal - Since a company has no physical existence, it must act through its agents and all such contracts entered into by such agents must be under the seal of the company. The common seal acts as the official seal of the company. Now, the use of common seal has been made optional. All such documents which required affixing the common seal may now instead be signed by two directors or one director and a company secretary of the company.

5.    Transferable shares: When joint stock companies were established the great object was that the shares should be capable of being easily transferred. Sec 82 gives expression to this principle by providing that “the shares or other interest of any member shall be movable property, transferable in the manner provided by the articles of the company.”

6.    Separate property: The property of an incorporated company is vested in the corporate body. The company is capable of holding and enjoying property in its own name. No members, not even all the members, can claim ownership of any asset of company’s assets.

7.    Capacity for suits: A company can sue and be sued in its own name. The names of managerial members need not be included.

8.    Professional management: A company is capable of attracting professional managers. It is due to the fact that being attached to the management of the company gives them the status of business or executive class.

Disadvantages of incorporation

1) Lifting of corporate veil: From the juristic point of view, a company is a legal person distinct from its members [Saloman v. Saloman & Co. Ltd.]. When a company is incorporated, it has a separate legal status which is distinct from its members, shareholders, directors etc and any change is shareholding pattern or directors does not affect the existence and continuity of a company. Separate legal status of a company has led the concept of corporate veil. The effect of this principle is that there is a veil between the company and its members and company has a corporate personality which is distinct from its members.

The consequence of attributing a legal personality to a corporation is that it is distinct entity from its members and this “legal personality” is often described as an artificial person in contrast with a human being, a natural person. This clearly indicates that a corporation is completely capable of enjoying rights and of being subject to certain duties that are not same as borne by its members. Also members or directors are not personally made liable for all the acts of the company.

2) Formality and expense: Incorporation is a very expensive affair. It requires a number of formalities to be complied with both as to the formation and administration of affairs.

3) Company not a citizen: In State Trading Corporation of India v. CTO, the SC held that a company though a legal person is not a citizen neither under the provisions of the Constitution nor under the Citizenship Act.