Company Formation

Introduction

Companies cannot simply be set up in the same was as a sole trader; their existence is heavily regulated by the government. In order to be established there is a significant amount of administration that must be undertaken.

Promoters

 There is no statutory definition of a promoter. According to case law, however, a promoter is a person who 'undertakes to form a company and who takes the necessary steps to accomplish that purpose.'

The definition excludes people just acting in a professional capacity, such as accountant or solicitor.

Duties

A promoter is under a fiduciary duty to:

• disclose any interest in transactions to the company and not to make a 'secret profit'
• disclose any benefit acquired to an independent board and/or to the shareholders.

If a promoter does make a secret profit, the company may:

• Rescind the contract - this is not always possible, e.g. if a third party has acquired rights under the contract.
• Obtain damages - this requires the company to prove loss.
• Recover the profit - the company must prove that the promoter has failed to disclose his profit from a transaction.

Pre-incorporation contracts

A pre-incorporation contract is where a person enters into a contract before a company has been registered.

The position at common law is that a company, prior to its incorporation, does not have contractual capacity and after its formation it cannot ratify or formally adopt a pre-incorporation contract. The promoter is therefore personally liable under any such contract. (This is because a company does not legally exist until it is incorporated.)

S51 CA06 reinforces the common law position by providing that, subject to any agreement to the contrary, the person making the contract is personally liable. Clear and express words are needed in order to negate liability.

The promoter can protect his position by:

• including a term in the contract giving the company the right to sue under the Contracts (Rights of Third Parties) Act 1999
• postponing finalising contracts until the company is formed
• entering into an agreement of novation (this involves discharging the original contract and replacing it with a new one) or assigning (transferring) the contract. All parties must agree
• agreeing with the company that there is no personal liability for the promoter
• buying an 'off-the-shelf' company, so it is ready to contract without waiting for incorporation.

Off-the-shelf companies

An 'off-the-shelf' company is one that has already been formed. Buying off the shelf has a number of advantages as follows:

• cheap and simple
• can trade immediately
• no problem of pre-incorporation contracts.

Registration

The following must be submitted to the Registrar of Companies (the official responsible for Companies House) in order to form a company.

Memorandum of association

• Used to be a more important document under previous company legislation.
• Signed by all subscribers and stating that they wish to form a company and agree to become members of the company.
• In relation to a company limited by shares, the memorandum provides evidence of the members' agreement to take at least one share each in the company.
• Is not possible to amend or update the memorandum of a company formed under CA06.

Application for registration

S9 CA06 sets out the information that must be delivered to the Registrar when an application for registration is made. In all cases, the application form must include:

• the proposed name of the company
• whether the members will have limited liability (by shares or guarantee)
• whether the company is to be private or public
• details of the registered office.

Documents to be sent with the application

• a statement of capital and initial shareholdings or a statement of guarantee
• a statement of proposed officers
• a statement of compliance
• the registration fee

Registrar's duties

On receipt of the above documents the registrar must:

• Inspect the documents and ensure that Companies Act requirements are fulfilled.
• Issue a certificate of incorporation which is conclusive evidence that Companies Act requirements have been fulfilled. The company exists from the date on the certificate of incorporation.

Trading certificate

A plc cannot commence trading until the registrar has issued a trading certificate. In order to obtain one, an application must be made to the registrar which states:

• The nominal value of allotted share capital (greater than or equal to £50,000).
• That at least a quarter of the nominal value and all of any premium have been paid up (i.e. at least £12,500 of nominal capital).
• The amount of preliminary expenses and who has paid or is to pay them.
• Any benefits given or to be given to promoters.

If it trades before the certificate is issued:

• The company and any officers in default are liable to a fine.
• It is a criminal offence to carry on business, but any contracts are still binding on the company.
• The directors are personally liable if the company defaults within 21 days of due date.
• It is a ground for winding up if not obtained within one year: s122 IA 1986.

Name of company

The name of the company must comply with the following rules:

• It must have limited (Ltd) or public limited company (plc) at the end as applicable.
• It cannot be the same as another in the index of names.
• it cannot use certain words which are illegal or offensive.
• It must have the Secretary of State's consent to use certain words (e.g. England, Chartered, Royal, National, University, Insurance, etc.) or any name suggesting a connection with the government or any local authority.
• It must avoid the tort of passing off.

S77 CA06 allows a company to change its name by special resolution.

Articles of association

The articles of association form the company's internal constitution. They:

• set out the manner in which the company is to be governed and
• regulate the relationship between the company, its shareholders and its directors.

Contents of Articles

The Companies Act 2006 states that the articles should be contained in a single document which is divided into consecutively numbered paragraphs.

Articles should contain rules on a number of areas, the most important of which are as follows:

• Appointment and dismissal of directors
• Powers, responsibilities and liabilities of directors
• Director's meetings
• Member's rights
• Dividends
• Communication with members
• Issue of shares
• Documents and records

Legal effect of company's constitutional documents

S33 CA06 states that the provisions of a company's constitution bind the company and its members to the same extent as if there were covenants on the part of the company and of each member to observe those provisions. This means that the articles form a statutory contract between the company and its members, and between the members themselves,even if they do not sign them.

1. The articles are enforceable by the company against the members.
2. The articles are enforceable by the members against the company.
3. The articles operate as a contract between individual members in their capacity as members.
4. The articles do not bind the company to non-members nor do they bind the members in any other capacity.

Alteration of articles

The general rule:

• The articles can usually be altered by a special resolution (75% majority).
• Copies of the amended articles must be sent to the Registrar within 15 days.

Exceptions:

Entrenchment

It is possible to entrench some of the articles. This means that a specified procedure (e.g. unanimous consent) may be required to change them.

Members increase liability

S25 CA06 prevents a member being bound by any alteration made after he becomes a member that requires him to increase his liability or contribute further to the company.

Common law restriction

Any change to the articles must be 'bona fide in interests of the company as a whole.'

• It is for the members to decide whether the change is bona fide in the interests of the company as a whole.
• The court will not interfere unless no reasonable person would consider the change to be bona fide.
• If the change is bona fide, it is immaterial that it happens to inflict hardship or has retrospective operation.
• The change will be void if actual fraud or oppression takes place.
• An alteration is not invalid merely because it causes a breach of contract - but that does not excuse breach.

Statutory books, returns and records

Registers

The registers must normally be kept at the company's registered office (although the register of members and register of directors' interests can be kept where they are made up) and must be available for public inspection by a member free of charge or by any other person for a fee.

Requests for inspection must provide details about the person seeking the information, the purpose of the request and whether the information will be disclosed to others. The company may apply to the court for an order that it need not comply with the request.

The register of directors' addresses should now contain service addresses rather than details of the directors' residential addresses. The service address can be simply 'the company's registered office'.

The company must also keep a separate register of the directors' residential addresses. Both the service and the residential addresses will need to be supplied to the Registrar of Companies.

The residential addresses will be withheld from the public register. However, they will generally remain available to the Registrar and certain specified public bodies and credit reference agencies.

Annual return

The annual return must be filed with the Registrar annually within 28 days of the return date (which is the anniversary of incorporation). The return must be signed by a director or a secretary. It must include:

• the address of the company's registered office
• the type of company
• the company's principal business activities
• details of directors and company secretary where applicable
• a statement of capital which states the total number of shares of the company, the aggregate nominal value of the shares and the amount paid up and unpaid on each share.
• for each class of shares, the right of those shares, the total number of shares in that class and their total nominal value.
• details of the members of the company as at the return date
• details of members who have cease to be members since the last return was made
• details of the number of shares of each class held by members at the return date.

Accounting records

The company must keep accounting records containing sufficient information to show and explain the company's transactions and its financial position.

At any time it should be possible:

• to disclose with reasonable accuracy the company's financial position at intervals of not more than six months
• for the directors to ensure that any accounts that needs to be prepared comply with Companies Act 2006 and International Accounting Standards.

In particular the records must show:

• daily entries of all money received and spent
• a record of assets and liabilities
• statement of stocks at end of the financial year
• statements of stocktaking to back up the above
• statements of all goods sold and purchased, showing the goods and the buyers and sellers (except in the retail trade).

Accounting records must be kept for three years in the case of a private company and six years in that of a public one. They should be kept at the company's registered office or at some other place thought fit by the directors.

Failure to keep sufficient accounting records is an offence by the officers in default.

Annual financial statements

Companies are required to produce annual financial statements for each accounting reference period. This includes a:

• balance sheet/statement of financial position and profit and loss account/statement of comprehensive income showing true and fair view
• directors' report stating the amount of any dividend and likely future developments.

The annual financial statements must be approved and signed on behalf of the board of directors and a copy filed with Registrar.

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