TABLE OF CONTENTS
INTRODUCTION
CASES IN ENGLISH COMMON LAW
CASES IN MALAYSIAN COMPANY LAW
PAGE
1-2
3-9
10-11
CONCLUSION
12
REFERENCES
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INTRODUCTION
Pre-incorporation contract is the contract entered by the promoters on behalf of the company before it has been registered. Before incorporation, the company is not an artificial legal person or separate legal entity. So, it has not right to sue and be sued, may not buy and holds properties in its own name. The promoters, while entering into the contract, act as agents of the company. But when the principal, i.e. the company is itself not in existence, how can it appoint an agent to act for it? So, the promoters, themselves and not the company, become personally liable for all contracts entered into by them even though they claim to be acting for 1 the prospective company.
The legal position of pre-incorporation contracts is different in English common law and in Malaysia common law. In English common law, the legal status of pre-incorporation contracts is invalid and cannot be ratified and adopt the benefits of the contract which has been made on its 2 behalf. In Malaysia Companies Act 1965, the legal status of pre-incorporation contracts is invalid and can be ratified by virtue of Section 35(1) of the Act. “Any contract or other transaction purporting to be en tered into by a company prior to its formation or by any person on behalf of a company prior to its formation may be ratified by the company after its formation and thereupon the company shall become bound by and entitled to the benefit thereof as if it had been in existence at the at date of the contract or other transaction and had been a party thereto”.
The effects of pre-incorporation under English common law and Malaysia company law are different. Outsiders suffer total negative effects under English common law as it’s cannot be ratified and not enforceable in court. Thus, outsiders cannot claim the price of the goods or sue the promoters for personal liability. As a result, outsiders have to face a risky situation where they engage into contracts with pre-incorporated company.
However, under Malaysia company law, the outsiders are secured when they make contracts with a company in good faith. The reason is because pre-incorporation can be ratified under this law. After ratification of the Board of Directors, the compan y becomes legally bound by the contract. So, outsiders can claim the price of the goods. In case of the contract not been approved by directors, outsiders have the right to sue the promoters for personal liability for breach of the contract.
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http://legalservices.co.in/articles/article/pre-incorporation-contracts-134-1.html , Friday, 21st May 2010 2 Natal Land and Colonization Co. V Pauline Colliery and Development Syndicate[1904] AC 120 1
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There are cases where companies carry out the contract after its incorporation. The company cannot ratify the contract but it can make novation but novation needs evidences. Novation differs from ratification in that, essentially, a new contract is made on the same terms but this time between the company and the third party. However, the court will not lightly infer that there has been a novation and, for instance, expenditure by the company on the basis of a 4 mistaken belief that the contract is valid will not suffice. However, if the company agrees with 5 the other party to vary the terms of a contract made before its incorporation , regardless whatever the directors’ beliefs may be, the company will be bound by the contract as varied. The reason is the company must have had intention to enter into a contract on the original terms as 6 modified by the variations when it assented to the variations.
In this paper we will discuss the legal status of pre-incorporation under English common law and Malaysia company law with references from relevant cases.
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Re Northumberland Avenue Hotel Company [1886] 33 Ch D 16 See Company Law, Simon Gaulding at p.48 5 Howard v Patent Ivory Manufacturing Company Ltd 6 See Robert R Pennington’s Company Law at p.108 4
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CASES IN ENGLISH COMMON LAW
1) Kelner v. Baxter
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In this case the plaintiff and the defendants enter into a business contract. A, B and C known as defendants entered into contract with the plaintiff to purchase some goods on behalf of the proposed “Gravesend Royal Alexander Hotel Company”. Then the goods was already supplied and consumed in the business after it incorporation. The goods were not yet paid. After that, the company was collapsed and the plaintiff want to claim back the payment for goods that already delivered to the defendants and the plaintiff also want to sued A, B and C on the contract of price of the goods. In addition, the agreement between the plaintiff and the defendant was th happen on 27 January 1866 before the company will be incorporation and the company receives th th the certificate of incorporation on 20 February 1866. Then, on 11 April 1866, the company purported to ratify the contract. The company then collapsed and this action was brought against the defendants. The issue was whether the seller could recover the price or not. The court held that the seller could not recover the price of the goods supplied as the company could not make a valid contract with him before its incorporation. The contract is invalid. In the other word, if the Gravesend Royal Alexander Hotel Company had been an 8 existing company at that time, the contract will be valid but in this case no existing company at that time when the contract happen. Because of that, the contract is invalid. A company cannot enter into a contract before it is incorporated, because it does not exist as a legal person yet. Even though if the company already be incorporation and then collapse at the relevant time and situation, it has been the law of the registered company that a contract made on behalf of the company at a time when a company did not exist is void.
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(1899) LR 2 CP 174 Kelner v. Baxter (1966) LR 2 CP 174. 3
2) Natal Land and Colonization Company Limited (Appellants) v. Pauline Colliery and Development Syndicate Limited (Respondents)
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In this case a contract entered between the appellant’s agents named Rycroft with Mrs de Carrey in terms of which she was entitle to ask for a lease of the coal mining rights on the th appellant’s property. This agreement made on 9 December 1897. In addition, Mrs de Carrey assigned to one Louch ‘in his capacity as a provisional director of the Pauline Colliery and Development Syndicate Limited about the registered.’ All his interest was under the contract. Under the contract, the appellant agreed to substitution of the respondent for Mrs de Carrey. As we know that, Rycroft and Mrs de Carrey was acting on behalf of the syndicate and the company not incorporated yet at that time the agreement was made between both of them. The company nd st was incorporated as respondent company on 22 January 1898. Then, on 31 January, the appellant’s company was stopped the agreement by a telegram and say that there was no contract between them. Because of that, the respondent company wants to claim specific performance of an agreement to lease certain coal mining rights. The court held that, the contract that are made between the Rycroft and Mrs de Carrey is clear that a company cannot be adoption or ratification obtain the benefit of a contract purporting to have been made on its behalf before the company come into existence. In addition, any contract that the company want to do, they have register their company first and they also will enjoy the benefit of the registration of the company (incorporation). If they are still make a contract before they registered their company (pre-incorporation), they have to be liable if anything happen to their company such as collapse and so on.
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Natal Land Colonization Company Limited v. Pauline Colliery and Development Syndicate Limited. 4
3) Phonogram Ltd. v. Lane
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In 1973 there was a group of “pop” artists which are included two parties called Brian Chatton and John McBurnie. They want to form a company called “Fragile Management Ltd.” Before the company was formed, negotiations took place for financing of the group. It was to be financed by one of the subsidiaries of big organization called the Hemdale Group. It was eventually arranged that money should be provided by Phonogram Ltd. The agreed amount was £6,000. The first installment was paid. But the new company was never performed. The group never performed under it and the £6,000 was due to be repaid. However, that amount never repaid. So, Phonogram Ltd tried to discover who was personally liable to repay the money. Mr. Roland Rennie had negotiated on behalf of Phonogram Ltd. And Mr. Brian Lane had negotiated on behalf of the new company which was to be formed. The latter was never registered and this 11 was an action against the defendant for recovery of the money. That was signed by Mr. Lane. The money was paid over. According to the accounts, it went into the account of Jelly Music Ltd, which was one of the subsidiaries of the Hemdale Group which Mr. Lane was a director. The issue is whether Mr. Lane personally liable or not. Based on this case, the plaintiff advanced £6,000 to a company which is Jelly Music Ltd under an agreement with the defendant to provide part of the finance for a company to form which is Fragile Management. But, the new company was never performed. According to Section 36(4) of the Companies Act 1985 , “ Where a contract purport to be made by a company, or by a person as agent for a company, at time when the company has not been formed, then subject to any agreement to the contrary the contract shall have effect as a contract entered into by person purporting act for the company or as agent for it, and he personally liable on the contract accordingly.” The Court was held and makes decision that Mr. Lane was personally liable for the repayment of the £6,000 if the contemplated contract with Fragile Management Ltd. was not in 12 the event entered into. It is due to the general principle of legal status of pre-incorporation of English common law that is invalid and not enforceable by law. It is because the company legally cannot make any contract before its incorporation. So, the outsiders cannot enforce the contact against the company and cannot legally make any contract with the company before its incorporation. According to this case, the agent which is Mr. Lane cannot sue the company to repay the payment. Hence, Mr. Lane also cannot legally make any agreement with the company before its incorporation. As a result, Mr. Lane was personally liable to that payment.
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[1981] 3 W.L.R.736 (C.A) See Source of Company Law at p.216-217 12 See Hahlo’s Case and Material on Company Law at p.173 11
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4) Newborne v. Sensolid (Great Britian) Ltd
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Leapold Newborne (London) Ltd is a company that purported to sell tins of ham to the defendant. The defendant refused to take any delivery. The company sued for the breach of the contract. When it was discovered that the company had been registered the day after the transaction was entered into, the plaintiff who is the promoter and director of the company, continued the action in his own name. The contract had been signed by the company itself, with the promoter’s name typed underneath. The promoter did not sign as agent or on behalf of the 14 company but only authenticate the signature of the company. The issue of this case is whether the company makes a valid contract or not. Based on this case, Mr. Newborne makes a contract on behalf of the company that was not incorporated or registered. According to Section 36(C) of the Companies Act 1985 , “ A contract which purports to be made by or on behalf of a company at a time when the company has not been formed has effect, subject to any agreement to the contrary, as one made with the person purporting to act for the company or as agent for it, and he is personally liable on the contract accordingly.” The Court held that a company cannot make valid contract before its incorporation. Moreover, a person cannot make legally binding contracts in the name of a company in anticipation of its being incorporated. The Court cannot find that the plaintiff purported to a 15 contract as agent or as principal. The company makes a contract and must do its physical acts through the directors but their relationship is not the ordinary one of principal or agent. Thus, the company contract is authenticated by the signature of one of the directors. Based on this case, the contract was purported by the company not Mr. Newborne. He purports to be selling the company‘s good not his goods and signing the agreement on behalf of the company. Mr. Newborne signature is merely confirming the company’s signature. The company was not in existence when the contract was signed. Pre-incorporation contracts cannot be legally enforced as it is invalid. As a result, outsiders who make contracts with the proposed company before its incorporation and sell certain goods or real property cannot enforce the contract against the company. In this situation defendants cannot sue the company to recover the selling price. The Court makes decision that the defendants can avail themselves of the defense which they pleaded and the appeal must be dismissed.
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[1954] 1 QB 45 See Company Law, Simon Gaulding at p.49 15 See Source of Company Law at p.218 14
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5) Black v. Smallwood
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Black had entered into a contract for the sale of a land to Western Suburbs Holding Pty Ltd. The company was not incorporated during the time of transaction of the contract. However, Black believed that it had been incorporated. Smallwood and Cooper were directors of the company. Furthermore, the contract shows that Smallwood and Cooper signed the contract as directors of the company. From the contract it seems that Black intended to make contract with the company and not with Smallwood and Cooper who purported to make the contract on behalf of the company. Hence, Smallwood and Cooper did not act as principals while making contract. They made the contract on behalf of the pre-incorporation company. Therefore, they are not personally liable for the contract. The issue of this case is whether there is a contract between promoter and third party. In this case, the company is not existence and cannot appoint the agent on its behalf. So, in this case there is no contract between Black and the directors. It is because Black is intended to make the contract with the company and not with the directors. He assumes that the company will incorporate. In English law, the company cannot approve or ratify the pre-incorporation contract. The ratification has retrospective effect and the contract is regarded as being made at the time it was entered into by the agent when the company was not existence. Thus, it could not make a 17 valid contract. Under the principle of agency law , a company should not have agent and principle relation between promoters and proposed company. At that time the principal also was not in existence. So, it could not appoint any agent to work on its behalf. Therefore, in English common law pre-incorporation contracts are invalid and it cannot be ratified by the company after its incorporation. 18
The Court held that a non-existent company was incapable of having agents and consequently neither the company nor the signatories who are Smallwood and Cooper were liable for the contract. The negative effect of English common law is that outsiders also cannot sue the promoter personally to get back the selling price or claim damages for breach of contract. The Court held that the person who purported to make pre-incorporation contract was also not personally bound by contract. It is because promoters cannot be appointed as agents by nonexistent company. Hence, they are not personally liable for the pre-incorporation company to buy goods or property. As a result, Smallwood and Cooper were not liable for the contract.
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[1966] 117 CLR 52 The Law of Agency(1961), p.251-255 18 See Source of Company Law at p.214 17
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6) Re Northumberland Avenue Hotel Company
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The company was registered on 25 July 1882 but before that, on 24 July, a written contract was entered into between Mr. Wallis’s agent and another person, whom described himself as the trustee of the company. The company was yet to be registered thus, not in existence during that particular time. The company seems to have considered, or rather its 20 directors seem to have considered, that the contract was a binding contract. The company then entered into transactions with Wallis in which the company acted on the terms of the contract, as entered on 24 July by Wallis and the person who said he was the trustee. There is no dispute that the contract was not bound to be executed by the company as it was having any existence during that time, nor can’t the company after being incorporated the Board of Directors ratify the contract. The main issue to be determined by the court is to hold that there was a contract entered into between the company and Wallis on the same terms as those contained in the contract of 24 July 1882. The court held that there was no contract between two of them. In this case the company carried out the contract after its incorporation due to mistaken assumption. As explained by Cotton LJ; … But why did the company do so? The company seems to have considered, or rather its directors seem to have considered, that the contract was a contract binding on the company. But the erroneous opinion that a contract entered into before the company came into existence was binding on the company and the acting on that erroneous opinion, does not make a good contract between Wallis, and all the acts which occurred subsequently to the existence of the company were acts proceeding on the erroneous assumption that the contract of 24 July was binding on the company. When it carries out part of contract made before its incorporation because its directors mistakenly believe that it is bound by the contract and acted based on the mistaken belief, the company has no intention of entering into a new contract; consequently no new contract is 21 entered into. Lopes LJ said that, “it seems to me impossible to infer such a contract, for it is clear to my mind that the company never intended to make any new contract, because they firmly believed that the contract of 24 July was in existence, and was a binding, valid contract.”
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[1886] 33 Ch D 16 See Source of Company Law at p.210 21 See Robert R Pennington’s Company Law at p.108 20
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7) Howard v. Patent Ivory Manufacturing Company Ltd.
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One Jordan entered into a contract with a company about to be formed to sell its patents, leases and various other assets. Agreed purchase price was £36,500, payable as to £6,500 in cash 23 and as to £30,000 in fully paid-up shares. The company then was registered. At a meeting with the directors of the company, at which Jordan, a director, was present, it was resolved that in consideration of Jordan accepting £3,000 in cash and £3,500 in debentures instead of £6,500 in cash originally agreed. The allotment of fully paid shares should be proceeded with. The main issue in this case is similar to Re Northumberland Avenue Hotel Company case except that the court held was slightly different due to the difference in the facts of the case which means the contract was binding on the company. In present case, the court did conclude the existence of a new contract when the Board of Directors of the newly formed company adopted the agreement in the presence of the third party 24 contractor. The case can be distinguished on its facts from previous authority, since the company agreed with the other party to modify the terms of contract made before its 25 incorporation. The judge had clearly taken a view on the case’s facts, since the company had enjoyed the benefits of the contract. Referring to Kay J: …that was a variation of the contract made by distinct agreement with Mr. Jordan after passing of a resolution…I have treated all these as assets of the company, and now I turn round and say that there never was such agreement.’ Such a course of conduct would be, as I have characterized it during the argument, the most flagrant dishonesty.
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[1888] 38 Ch D 156 See Case and Materials in Company Law, p. 211 24 See Company Law, Simon Gaulding at p.48 25 See Robert R Pennington’s, Company Law at p.108 23
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CASES IN MALAYSIA COMPANY LAW
1) Cosmic Insurance Corpn. Ltd. v. Khoo Chiang Poh
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{P.C. (Lord Edmund-Davies, Lord Fraser of Tullybelton, Load Searman, Lord Roskill & Sir Garfiel Barwick) th th July 10 & October 15 ,1980 [Privy Council Appeal No. 13 of 1979] In this case, it is different with the Kelner v. Baxter and Natal Land Colonization Company Limited v. Pauline Colliery and Development Syndicate Limited because it is under Malaysian company law. This is a Singapore case that happens between Cosmic Insurance Corporation and Khoo Chiang Poh. In this situation, before the company incorporation as a legal company, Mr. Khoo Chiang Poh was appointed as the managing director to the company on August 1971 was constituted a pre-incorporation contract between the plaintiff on the one hand and the remaining 11 persons on the other hand, as agent for the defendant. The letter reads “Mr. Khoo Chiang Poh shall be the managing director for life unless he resigns, dies, or commit an offence under the Companies Act or is prohibited to become a director under the Companies Act th for any offences.” Then, on 26 of September 1971 the company become incorporation and the ratification of the appointment of the contract slightly modify from the previous appointment which read “Resolved that Mr. Khoo Chiang Poh be appointed Managing Director and hold office for life in accordance to the Articles and Memorandum of Association and is responsible to the Board of Director.” The court held that the ratification was duly done and validated. In Malaysian company law, the ratification of appointment modified the previous terms of the appointment that already made by both parties are did not affect or invalidate the appointment of the defendant for the position of the director. In addition, under Malaysian company law, pre-incorporation contract can be ratified and it is validated even the word or term in the ratification are different from the previous term, and sometimes it add some condition in the ratification. Based on this contract also, it is give benefits to the company and the outsiders and the outsiders will fell protected.
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[1981] MLJ 61 10
2) Ahmad bin Salleh & Ors v. Rawang Hills Resort Sdn Bhd
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HIGH COURT (SHAH ALAM) – SUIT NO 22-140-94 JAMES FOONG J RD AUGUST 3 , 1995
The case was about the plaintiffs entered into a contract to sell a piece of land to defendants. Part of the purchase price has been received by the plaintiff. The plaintiffs also granted irrevocable powers of attorney to the defendants for the purpose of partitioning the said land representing the ownership between plaintiffs’ and defendants’. The agreement mentioned that the process will be settled within six months from the date of the contract or the date the issuance of related document for partitioning process. There were quite a number of issues being brought up on the plaintiffs’ side. One of the main issue concerning pre-incorporation contract was the plaintiffs alleged that the defendants had breached the agreement by, inter alia not being incorporated when the sale and purchase agreement was entered into. The court held to dismiss the plaintiffs’ claim and allowing the defendants counterclaims which includes: …when the first sale and purchase agreement was executed, the defendants were not in existence. However, the agreements were subsequently ratified under s 35 of Compani es Acts . Also, the plaintiffs were estopped from raising this issue they had until just before the trial, 1965 accepted the defendants as a legal entity in the first sale and purchase agreement.
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[1995] 3 MLJ 211 11
CONCLUSION
From this paper, it has been clearly explained the legal status of pre-incorporation contracts. With reference from relevant significant cases and related sections, we are able to distinguish its legal status with regard of English Common Law as well as Malaysian Company Law as governed by Companies Acts 1965. Legal status of pre-incorporation contracts under English Common Law is invalid or illegal. It is not enforceable by law. The reason is because there is no company in existence before its incorporation. The rule is that the company only exists when it is registered. The effects of this type of contract under common law are totally negative effects for outsiders of the said company. This is because the contract cannot be ratified. So, outsiders cannot claim for the price as well as cannot sue the promoters who acted as the company’s agent for personal liability. There is a slight different for prep-incorporation contracts which governed by Malaysian Company law. The legal status is still invalid and not enforceable by law. However, Board of Directors of the said company is allowed to ratify the contract and turns it into an approved, valid and binding contract. This will be referring to s35 of Companies Acts 1965. In case the Board of Directors not ratifying the contract, outsiders may sue the promoters personally. The effects of this contract under Companies Acts 1965 are good for outsiders as it may provide protections to the outsiders. Thus, outsiders may enter into such contracts with much more secured feelings. While dealing with such contracts, companies may intend to carry out the preincorporation contracts after been incorporated. They can do so through novation but not ratification. However, court might pay more attention to those facts in case there is any dispute among the contractors and contractees. The reason is because the company acts that way due to mistaken belief that the pre-incorporation contract is binding on them when it actually not. In case of variation on the terms of contract, the court definitely held that the contract is binding regardless of what the company believed.
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REFERENCES
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Harry Rajak, Sourcebook of Company Law, 2 Edition(1995), Jordans rd H.R. Hahlo and J.H.Farrar, Hahlo’s Case and Materials on C ompany Law, 3 Edition(1987), London Sweet and Maxwell th LS Sealy, Case and Materials in Company Law, 7 Edition(2001), Butterworths th Robert R Pennington’s, Company Law, 7 Edition (1995), Butterworths London Dublin and Edinburgh nd Simon Gaulding, Company Law,2 Edition(1999), Cavedish Publishing Ltd London,Sydney http://legalservices.co.in/articles/article/pre-incorporation-contracts-134-1.html
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