Chapter – 07

Formation of a Company
Introduction:
Modern business requires large amount of money. Because, increasing competition and
fast changing technological environment, the element of risk is increasing. As a result,
the company form of organisation is being preferred by more and more business firms,
particularly for setting up medium and large sized organisations.
The steps which are required from the time a business idea originates to the time, a
company is legally ready to commence business are referred to as stages in the
formation of a company.
Stages in Formation of a Company:
A company is a complex activity involving completion of a lot of legal formalities and
procedures. To fully understand the process one can divide the formalities into four
distinct stages, which are:
(i) Promotion;
(ii) Incorporation;
(iii) Subscription of capital; and
(iv) Commencement of business.
1) Promotion Stage:
Promotion is the first stage in the formation of a company. It involves conceiving a
business opportunity and taking an initiative to form a company so that practical shape
can be given to exploiting the available business opportunity. Thus, apart from
conceiving a business opportunity the promoters analyze its prospects and bring
together the men, materials, machinery, managerial abilities and financial resources and
set the organisation going.
Meaning of Promoter:
A promoter is a person who takes necessary steps to formation of a company and to
accomplish the planned objectives.
Functions of a Promoter
The important functions of promoters may be listed as below: ……
1) Identification of business opportunity:
The first and foremost activity of a promoter is to identify a business opportunity. The
opportunity may be in respect of producing a new product or service or making some
product available through a different channel or any other opportunity having an
investment potential.
 2) Feasibility studies:
It may not be feasible or profitable to convert all identified business opportunities into
real projects. The promoters, therefore, undertake detailed feasibility studies to
investigate all aspects of the business they intend to start.
Depending upon the nature of the project, the following feasibility studies may be
undertaken by the promoter: …….
(a) Technical feasibility:
Sometimes an idea may be good but technically not possible to execute. It may be so
because the required raw material or technology is not easily available.

(b) Financial feasibility:

Every business activity requires funds. The promoters have to estimate the fund
requirements for the identified business opportunity. If the required outlay for the project
is so large that it cannot easily be arranged within the available means, the project has
to be given up.

(c) Economic feasibility:

Sometimes it so happens that a project is technically viable and financially feasible but
the chance of it being profitable is very little. In such cases as well, the idea may have
to be abandoned. Promoters usually take the help of experts to conduct these studies.

3) Name approval:
Having decided to launch a company, the promoters have to select a name for it and
submit, an application to the registrar of companies of the state in which the registered
office of the company is to be situated, for its approval. The proposed name may be
approved if it is not considered undesirable. It may happen that another company exists
with the same name or a very similar name or the preferred name is misleading. In such
cases the proposed name is not accepted but some alternate name may be approved.
Therefore, three names, in order of their priority are given in the application to the
Registrar of Companies.
 4) Fixing up Signatories to the Memorandum of Association:
Promoters have to decide about the members who will be signing the MOA of the
proposed company. Usually the people signing memorandum are also the first Directors
of the Company. Their written consent to act as Directors and to take up the
qualification shares in the company is necessary.
5) Appointment of professionals:
Certain professionals such as mercantile bankers, auditors etc., are appointed by the
promoters to assist them in the preparation of necessary documents which are required
to be with the Registrar of Companies.
6) Preparation of necessary documents:
The promoter takes up steps to prepare certain legal documents, which have to be
submitted under the law, to the Registrar of the Companies for getting the company
registered. These documents are Memorandum of Association, Articles of Association
and Consent of Directors.
Documents required to be submitted:
A. Memorandum of Association:
Memorandum of Association is the most important document as it defines the objectives
of the company. No company can legally undertake activities that are not contained in
its Memorandum of Association.
The Memorandum of Association contains different clauses, which are given as follows:
a) The name clause:
This clause contains the name of the company with which the company will be known,
which has already been approved by the Registrar of Companies.
b) Registered office clause:
This clause contains the name of the state, in which the registered office of the
company is proposed to be situated.
c) Objects clause:
This is probably the most important clause of the memorandum. It defines the purpose
for which the company is formed. A company is not legally entitled to undertake an
activity, which is beyond the objects stated in this clause. It contains two types of
objects i.e. Main and Other objects.
 d) Liability clause:
This clause limits the liability of the members to the amount unpaid on the shares
owned by them. For ex: if a shareholder has purchased 1000 shares of Rs.10 each and
has already paid Rs. 6 per share, his/her liability is limited to Rs. 4 per share.
e) Capital clause:
This clause specifies the maximum capital which the company will be authorized to
raise through the issue of shares.
f) Association clause:
In this clause, the signatories to the Memorandum of Association state their intention to
be associated with the company and also give their consent to purchase qualification
shares.

B. Articles of Association:
Articles of Association are the rules regarding internal management of a company.
These rules are subsidiary to the Memorandum of Association. A public limited company
may adopt Table A which is a model set of articles given in the Companies Act. Table A
is a document containing rules and regulations for the internal management of a
company. If a company adopts Table A, there is no need to prepare separate Articles of
Association.
C. Consent of Proposed Directors:
Apart from the Memorandum and Articles of Association, a written consent of each
person named as a director is required confirming that they agree to act in that capacity
and undertake to buy and pay for qualification shares, as mentioned in the Articles of
Association.
D. Agreement:
The agreement, if any, which the company proposes to enter with any individual for
appointment as its Managing Director or a whole time Director or Manager is another
document which is required to be submitted to the Registrar for getting the company
registered under the Act.
 E. Statutory Declaration:
A declaration stating that all the legal requirements pertaining to registration have been
complied with is to be submitted to the Registrar with the above mentioned documents
for getting the company registered under the law. This statement can be signed by an
advocate of High Court or Supreme Court or by a Chartered Accountant in full time
practice or by a person named in the articles as a director or manager or secretary of
the company.

F. Payment of fee:
Along with the above-mentioned documents, necessary fees have to be paid for the
registration of the company. The amount of such fees shall depend on the authorized
share capital of the company.
2) Incorporation stage:
After completing all the above formalities, the promoters make an application for the
incorporation of the company. The application is to be filed with the Registrar of
Companies of the state within which they plan to establish the registered office of the
company.

The application for registration must be accompanied with certain documents are as
follows: ………………
a) The Memorandum of Association duly stamped, signed and witnessed. In
case of a public company, at least 7 members must sign it. For a private
company however the signatures of two members are sufficient.
b) The Articles of Association duly stamped and witnessed as in case of the
Memorandum. However, as stated earlier, a public company may adopt
Table A, which is a model set of Articles, given in the Companies Act.
c) Written consent of the proposed directors to act as directors and an
undertaking to purchase qualification shares.
d) The agreement, if any, with the proposed Managing Director, Manager or
whole-time director.
e) A copy of the Registrar’s letter approving the name of the company.
 f) A statutory declaration affirming that all legal requirements for registration
have been complied with. This must be signed by an advocate of a high
court or Supreme Court or a signatory to the Memorandum of Association
or a Chartered Accountant or Company Secretary in whole time practice in
India.
g) A notice about the exact address of the registered office may also be
submitted along with these documents. However, if the same is not
submitted at the time of incorporation, it can be submitted within 30 days
of the receipt of the certificate of incorporation.
h) Documentary evidence of payment of registration fees.
After verifying all above documents, if the registrar of a company satisfied then he can
issue a Certificate of Incorporation.
3) Capital Subscription Stage:
A public company can raise the required funds from the public by means of issue of
shares and debentures.
The following steps are required for raising funds from the public:
a) SEBI Approval:
SEBI (Securities and Exchange Board of India) which is the regulatory authority in our
country has issued guidelines for the disclosure of information and investor protection.
This is necessary for protecting the interest of the investors. Prior approval from SEBI
is, therefore, required before going ahead with raising funds from public.
b) Filing of Prospectus:
It is an invitation to the public to apply for shares or debentures of the company or to
make deposits in the company.
c) Appointment of Bankers, Brokers, Underwriters:
Raising funds from the public is a stupendous task. The application money is to be
received by the bankers of the company. The brokers try to sell the shares by
distributing the forms and encouraging the public to apply for the shares. If the company
is not reasonably assured of a good public response to the issue, it may appoint
underwriters to the issue.
d) Minimum Subscription:
Minimum subscription refers to the minimum number of shares held by the company out
of its total issue of shares. Thus, if applications received for the shares are for an
amount less than 90 per cent of the issue size.
 e) Application to Stock Exchange:
An application is made to at least one stock exchange for permission to
deal in its shares or debentures. If such permission is not granted before
the expiry of 10 weeks from the date of closure of subscription list, the
allotment shall become void and all money received from the applicants
will have to be returned to them within 8 days.
f) Allotment of Shares:
In case the number of shares allotted is less than the number applied
for, or where no shares are allotted to the applicant, the excess
application money, if any, is to be returned to applicants or adjusted
towards allotment money due from them. Allotment letters are issued to
the successful allottees. Return of allotment, signed by a director or
secretary is filed with the Registrar of Companies within 30 days of
allotment.

4) Business commencement stage:

A public company raising funds from public has to apply to the Registrar
of Companies for the certificate of commencement of business along
with the following documents:
a) A declaration about meeting minimum subscription
requirement.
b) A declaration about details in respect of allotment to
directors.
c) A declaration about no money being payable to applicants.

After receiving the above documents, the registrar of a company, can

verified all the documents, if he satisfied definitely issue the business
commencement certificate. After receiving this document, the public
company will start its business.