Pre-Incorporation Contracts & Provisional Contracts

The company is an artificial person and is capable of entering contracts in its own legal capacity. The separate legal entity feature is awarded to most of the business structures in India, under the Companies Act 2013. As per the Act, the company under its legal entity capacity, can employ people, can purchase and sell goods and services, can own property, can enter into contracts with third parties. The existence of the company is completely on registration of the company with the Registrar of Companies. If the company is not registered, then the advantages of limited liability, perpetual succession, contractual powers etc do not come into being.

It is the duty of the promoter to bring the company in the legal existence and thereby ensuring its successful running.

Accordingly, to accomplish the obligation of creating the separate legal status for the company, the promoter may enter into some contract on behalf of prospective company.

The company or its promoters may have to enter into contracts before and after its formation, or even during the time of its formation.

The contractual features of the company can be exercised only after obtaining it legal1 features by incorporation. However, the company is required to enter into various contracts prior to its incorporation also.

Nature of contract is discussed in two heads, the Preliminary Contracts or Pre-Incorporation Contracts and the Provisional Contracts.

Preliminary Contracts or Pre-Incorporation Contracts

As the name stands, these contracts are made before the formation of a company. For the formation of the company, the promoters are required to enter into various contracts with third parties e.g. purchasing some property or hiring the services of professions like lawyers, technicians, etc.

After the incorporation of the company such contracts are not attached to the company, as the company obtains legal entity status only after its incorporation.

As per the Act, the company can neither sue nor it can be sued on the basis of such contracts because the company was not a party to such contracts. At the same time, company cannot even ratify or adopt such contracts to get the benefit of such contracts.

Highlights of Preliminary Contracts

  • Contracts entered by the promoters on behalf of the company which is yet to be incorporated.
  • Can be applicable to public limited and private limited companies.
  • Company is not bound by pre-incorporation contracts.
  • Company cannot sue or be sued on the basis of such contracts.
  • Promoters, themselves, remain personally liable on all such contracts, unless a new contract on the same terms as that of the old one is made by the company after incorporation.
  • Company, after its incorporation, cannot even ratify such contracts.
  • The liability of the promoter ceases on the adoption of such agreement by the company after incorporation
  • As per the Act, either party can rescind the agreement if the incorporation is not obtained in a specific period of time.
  • Further to the incorporation of the company, the company may adopt the preliminary agreement. In certain cases, the company can enforce a pre-incorporation contract if it is warranted by the terms of incorporation. At the same time, specific performance of such contracts can be enforced by other parties against the company if such contracts are for the purposes of the company and are warranted by the terms of incorporation of the company. This is so provided under the provisions of Specific Relief Act, 1963.

Provisional Contracts

As per the Act, the contracts made after incorporation of the company but before it is entitled to commence business are termed as Provisional Contracts.

Any contract made by a company before the date on which it is entitled to commence business shall be provisional only and binding on the company until that date, and on that date, it shall become binding.

The private companies can commence its business immediately after the incorporation of the company, however, for a public limited company, the commencement of business occurs only after obtaining certificate of commencement of business. The term Provisional Contract applies only to the companies with share capital.

Major differences between Pre-incorporation and provisional contract

Preliminary contracts are those contracts made before the formation of the company, whereas the contract entered by a company after incorporation but before it is entitled to commence business is termed as provisional contracts.

As per the provisions of the act, neither the company can sue nor can it be sued to enforce the preliminary contracts, whereas the provisional contracts can be enforced only on receiving a certificate of Commencement of Business.

Preliminary contracts are the liabilities of promoters, his liability ceases only after adoption of such contract by the company after incorporation. However, provisional contracts are the responsibilities of the company. Preliminary contracts may relate to property which the promoters desire to purchase for the company or they may be made with the persons whose know-how is vital to the success of the company.

As per the Act, both private and public company have the right to undertake these contracts, whereas only public limited companies can undertake provisional contracts.

As the provisional contracts are being entered in a period after incorporation and before obtaining business commencement certificate, it can be applied only to public limited companies.

However, no such case arises in private limited companies as private limited company obtain legal feature immediately on receipt of incorporation certificate.

Specific Relief Act 1963

Specific Relief Act 1963 is introduced to ensure a large number of remedial aspects of law so as to ensure the protection of life and property. Relief can be sought on the following grounds as per Section 15 of the Act.

  1. Where the promoters of a company have made a contract before its incorporation for the purpose of the company
  2. if the contract is “warranted by the terms of incorporation” means within the scope of the company’s objects as stated in the Memorandum.
  3. The contract should be for the purpose of the company. A person, who intended to promote a company, acquired a leasehold interest for it. 

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