Legal Aspects of Business

LEGAL ASPECTS
OF BUSINESS
ADV. R.R. RAMTIRTHKAR
MUMBAI z NEW DELHI z NAGPUR z BENGALURU z HYDERABAD z CHENNAI z PUNE z LUCKNOW z AHMEDABAD
z ERNAKULAM z BHUBANESWAR z INDORE z KOLKATA z GUWAHATI
© Author
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To,
My Daughter - ANUJA
For her help beyond appreciation
A W ord About the B ook
There is no dearth of books on Business Law, especially for the management courses. Yet this
attempt can be distinguished for its focus on explaining the relevant provisions of law from a
managerial perspective. Certain Universities including Pune University have long back changed the
nomenclature of the subject from Business Law to Legal Aspects of Business with the intent of
conveying to the students (and the faculty members dealing with the subject) that the emphasis
should be on the Business rather than law. The title Legal Aspects of Business carries this spirit
unlike the term Business Law which is more akin to terms such as Civil Law or Criminal law.
My endeavour is to make the book more student-friendly. I have explained the law in a
language as simple as possible, bearing always in mind that the readers are management students
and not the law students. This had to be done not at the expense of essential and minute discussion
of law, wherever warranted. At the same time, I have not lost sight of the fact that the book is
intended for the would-be managers. Its aim is to enable them to make effective managerial decisions
being aware of the legal environment surrounding them.
I sincerely hope that this book, thus designed, shall meet the approbation of the students and
faculty alike. I heartily welcome, nay, look forward to any suggestions for improvement. Needless
to say that I shall be grateful for the same.
Author
Introduction to Law Relating to Business
Knowledge of law, to a greater or lesser extent, is essential for every individual. Hence it is
popularly said that ignorance of law is no excuse. The need for the managers of any organization to
know the broad principles of law governing their decisions and actions need not be over-emphasised.
For example, a manager dealing with a banker or entering into contract with another on behalf of
his organization needs to know his rights and obligations more than any ordinary individual. No
manager or his organization can afford a managerial decision without any regard to its legal
repercussions.
The branch of law which controls and regulates the business related activities or commercial
activities is known as Business Law. It is obvious that there is bound to be a plethora of such
legislations. It is neither possible nor necessary to learn about all of them. What is necessary is to
study the laws that are fundamental. They are fundamental in the sense that the rules and principles
embodied in them are imported in other legislations. Therefore, a fair amount of knowledge of
these fundamental legislations would enable the managers to easily understand the requirements
under the other laws. For example, after one has become adequately familiar with the law of
contract he is certainly in a comfortable position to deal with a situation involving law of insurance.
This is so because insurance is basically a contract and hence apart from the insurance-specific
rules, the principles of law of contract are uniformly applicable.
We begin our discussion with law of contract which is to be found in the Contract Act, 1872.
C ONTENTS
1. The Indian Contract Act, 1872 1-82
• Nature of Agreement and Contract
• Offer and Acceptance
• Consideration
• Capacity of Parties
• Free Consent
• Legality of Object
• Contingent Contract
• Performance and Discharge of Contract
• Quasi-Contracts
• Remedies for Breach of Contract
• Indemnity and Guarantee
• Essentials of Agency
• Creation of Agency
• Agency of Necessity
• Nature and Extent of Agent’s Authority
• Difference between Sub-Agent and Substituted Agent
• Termination of Agency
2. Bailment and Pledge 83-94
• What is Bailment
• What is not Bailment
• Difference between Bailment and Licece
• Finder of Goods
• Pledge or Pawn
3. Partnership 95-106
• Definition and Nature of Partnership
• ‘Partners’, ‘Firm’ and ‘Firm Name’
• Difference between Partnership and Company
• Relations of Partners to one Another
• Rights of a Partner
• Duties of a Partner
• Relations of Partners to Third Parties
• Types of Partners
4. Sale of Goods Act, 1930 107-132
• Brief Introduction
• Distinction between Sale and Agreement to Sell
• Goods
• Perishing of Goods
• Price
• Conditions and Warranties
• Transfer of Property
• Performance of Contract of Sale
• Unpaid Seller and his Rights
• Buyer’s Rights Against Seller
• Auction Sale
6. Negotiable Instruments Act, 1881 133-171
• Introduction
• What is a Negotiable Instrument?
• Characteristics of a Negotiable Instrument
• Essentials Elements of a Promissory Note
• Essentials Elements of a Bill of Exchange
• Maturity of an Instrument
• Classification of Negotiable Instruments
• Parties to Negotiable Instruments
• Rights or Privileges of a Holder in due Course
• Essentials of Valid Acceptance for Honour
• Paties
4. Companies Act, 1956 172-247
• Company and its Formation
• Distinction between Partnership and Company
• Memorandum of Associations
• Prospectus
• Contents of a Prospectus
• Shares and Debentures
• Difference between for Feiture and Surrender of Shares
• Managerial Personnel – Personnel – Board of Directors – Manager
• Accounts and Audit
• Investigation, Majority Rule and Minority Interest
5. Other Laws 248-289
• Introduction
• Who is a Consumer?
• Consumer Disputes Redressal Agencies
• State Commission
• National Commission
• Procedure on Admission of Complaint
• Consumer Protection Councils
• The Patents Act, 2002
• The Trade Markets Act, 1999
• Information Technology Act, 2000
• Offences Under the Act
THE INDIAN CONTRACT ACT, 1872 1
THE INDIAN
1. CONTRACT ACT, 1872
NATURE OF AGREEMENT AND CONTRACT

The terms contract and agreement are used interchangeably in day to day language and are
treated as synonymous. However, under the Contract Act they are defined to mean different.
An agreement, in common sense, is a situation where something suggested or proposed by one
person is consented to or is approved by another to whom such suggestion is given or proposal is
made. In our daily life, we enter into innumerable such agreements with various persons. For example,
when you suggest to your friend that you two should have a cup of tea in the canteen, you are
putting forward a proposal to him. It may be accepted or rejected by him. If accepted, it becomes an
agreement. However, when one trader makes a proposal to another to buy any goods at a certain
price, the suggestion he is putting forth is different. If his proposal is accepted by the trader to whom
the proposal is made, the result is an agreement between the two as in the previous example, but
with a difference - the difference between the two types of agreements is that the former is an
agreement while the latter is a contract.
The difference essentially lies in the fact that in the former agreement there is no intention of
the parties to the agreement to create legal relations and it is purely social in nature while such
intention is there in the case of the latter agreement. Failure to honour the social agreement may
bring disrepute to the failing party, but not the legal consequences. In both the cases, there is an
element of meeting of minds or concurrence between the two individuals, but in the first case the
agreement is not backed by law. In the second example, we notice that the concurrence between
the parties is not merely a social interaction, but something more than that. The second example is
the case of contract which is also an agreement with a difference and the difference is that it is
enforceable by law.
An agreement is defined as – ‘every promise and every set of promises forming consideration
for each other is an agreement.’ Therefore, a promise is an agreement. An offer, when accepted,
becomes a promise. So we can say that an agreement is the result of an offer by one person being
2 LEGAL ASPECTS OF BUSINESS
accepted by the other (to whom the offer is made). Every such agreement may not be a contract. It
depends on whether such agreement is legally enforceable or not.
The definition of the term contract under the Contract Act is therefore –
“Contract is agreement enforceable by law.”
It can be thus noticed that a proposal by one party and its acceptance by the other give birth to
an agreement between the two. When such agreement is legally enforceable, it is called a contract.
We can therefore say that –
Offer + Acceptance = Agreement
Agreement + Legal enforceability = contract
From the above equations we can conclude that every contract is an agreement but every
agreement is not necessarily a contract. This is so because in order to be a contract, the
agreement needs legal enforceability. The question now arises as to what is it that confers upon an
agreement the legal enforceability? In other words, under what conditions an agreement becomes a
contract?
An agreement becomes contract only when it possesses certain characteristics or features.
These features are known as essential elements or ingredients of contract. If all these essential
elements are present in an agreement, then it acquires the status of contract. If any of these essential
elements is absent, the agreement remains unenforceable by law and hence does not become contract.
These essential elements are briefly discussed below and those requiring elaboration are
separately discussed in the ensuing sections.
Essential Elements of Contract
1. Offer
The terms offer and proposal mean the same thing. The Contract Act uses the term proposal.
Any agreement between two or more parties has to begin with one party putting forth a suggestion
to other so that the other person or persons can consider the same and decide whether to agree with
the same or not. For example, A may say to B that he wants to sell his car for Rs, 60000/- and
whether B is interested in buying the same. Here, A is making an offer to B. Therefore, communication
of a lawful offer by one party is the first step towards the formation of every agreement. It is
obvious that without any offer there cannot be any agreement.
(The law relating to Lawful Offer is discussed in Chapter 2)
2. Acceptance
The person to whom the offer is made has now to consider the offer and examine it from the
view-point of his benefits and decide whether to reject the offer made or accept the same.
Communication of lawful acceptance by the offeree is the next step in the formation of contract.
The moment a valid offer is accepted by the offeree in a valid manner, an agreement is born. (if
other essential elements of contract are also present, then a contract is born.) Acceptance, in a way,
makes the agreement in its complete form. In the words of Sir Anson – “Acceptance is to an offer
what a lighted match is to a train of gun powder. It produces something which cannot be recalled or
undone.” It means that the gunpowder which is lying idle or dormant explodes immediately the
moment it comes in contact with a lighted match. Similarly, an offer by itself is inactive. The moment
it is accepted it becomes active, i.e., it produces an agreement giving rise to mutual rights and
obligations. Acceptance converts an offer into a promise.
(The law relating to Acceptance is discussed in Chapter 2)
3. Intention to Create Legal Relations
The parties to the agreement must intend to create legal relations among them. Agreements
which are social or friendly in nature, for example going for a picnic together or agreement to lunch
together etc. are the agreements where there is no intention of the parties to create legal relationship
between them. As such, these agreements are not contracts.
The test to determine whether the parties have or do not have any such intention is to ask a
simple question. Do the parties intend that legal consequences should follow if any party breaks the
agreement? If the answer is positive, it shows that the agreement is intended to be a contract. On
the other hand, if the answer is negative, the agreement is not a contract.
To illustrate, take a case where one person invites his friend at his home for lunch. On failure
of the friend to turn up for the lunch, the person giving invitation cannot prosecute him for compensation
for the loss of unconsumed food. Similarly, if the person giving invitation fails to arrange for the
lunch on arrival of the friend, the invitee cannot prosecute him for the inconvenience caused.
In an interesting case (Balfour vs. Balfour), the husband agreed to pay a monthly amount to his
wife to meet the maintenance expenses. On his failure the wife prosecuted him. The court held that
such agreement is not a contract and hence not legally enforceable, because no legal relations
resulted from the agreement
It is always presumed that the intention to create legal relationship is absent in social or domestic
agreement, whereas such intention is presumed to exist in the agreements which are commercial in
nature or which are trading agreements. Thus, in an agreement to buy and sell certain property,
there is an intention to create legal relations and therefore such agreement is a contract.
4. Consideration
In simple terms, Consideration means the benefit that each party stands to receive out of the
contract. When one person buys any property from another, it is either because he wants to put the
property to use in a manner beneficial to him or he may want to sell it at a higher price in future. In
either case, he receives or stands to receive some benefit from the purchase of property. This
benefit is his consideration. Similarly, the person who sells the property receives the price of the
property and this payment of price is his benefit through the agreement of sale. It is consideration
for the seller.
Consideration is the price paid by one party for the promise of the other.
If any party to the agreement stands to gain nothing from the agreement, such agreement is not
enforceable by law as it is not a contract. Consideration being an essential element of contract, both
the parties must benefit from the agreement.
When ‘A’ agrees to give a gift to ‘B’ on his birthday, the agreement between them is not a
contract because there is no gain for A. Therefore, no legal consequences will follow if ‘A’ later
fails or refuses to give the gift to ‘B’. Gratuitous promises are not enforceable at law.
Consideration has to be lawful and may be in the form doing something for the benefit of the
other or refraining from doing something for the benefit of the other.
(The law relating to Consideration is discussed in Chapter 3)
5. Capacity of Parties or Competence of Parties
The parties entering into agreement must be competent to contract or must have legal capacity
to enter into contract, otherwise such agreement is not a contract and therefore not enforceable by
law. The term capacity should not be confused with the term ability. Any person may have the ability
to enter into an agreement, but he may not be competent to contract. For example, a minor person,
i.e., one who has not completed his age of 18 years may enter into an agreement. But the Contract
Act declares a minor to be not competent to enter into contract, except under certain circumstances.
Therefore, the agreement entered into by or with a minor cannot be a contract and therefore not
enforceable by law.
A person who is minor or a person suffering from insanity or madness is not competent to
contract. Additionally, there are other categories of persons who are declared to be incompetent to
contract.
Competence of parties is an essential element of contract and hence if any of the parties to an
agreement is not competent, such agreement is not a contract.
(The law relating to Competence to Contract is discussed in chapter 4)
6. Free Consent
Free consent of all the parties to an agreement is another essential element of contract. Mere
consent of the parties is not sufficient. Such consent has to be a free consent, in the absence of
which the agreement may not be contract. There are certain elements such as coercion, undue
influence etc. which vitiate free consent.
Two or more persons are said to consent when they agree upon the same thing in the same
sense. The consent is said to be free when it is not obtained by undue influence, coercion, fraud,
misrepresentation or mistake. If the contract is induced by any party by obtaining the consent of the
other using any of the first four factors, the contract becomes avoidable at the discretion of the party
whose consent is so obtained. In other words, such party has a choice whether to reject the contract
or accept it and insist on performance.
(The law relating to Free consent is discussed in Chapter 5)
7. Lawful Object
In order to be a contract, the purpose of the agreement or its object must be lawful. If the
object with which an agreement is entered into is unlawful, it is a case of illegal agreement, and
obviously such agreement cannot be a contract.
The object of an agreement is unlawful when –
● It is forbidden by law; or
● If permitted, it would defeat the provisions of any law; or
● It is fraudulent or involves injury to another; or
● It is immoral or opposed to public policy
An agreement where one person lends money to another on interest is enforceable by law as
it is a contract. However, if the person lending money knows that the money so lent is to be utilised
for production of illegal liquour, then it is a case of illegal agreement and therefore it is not a contract.
8. Writing and Registration
According to Contract Act, an oral contract is as good as written contract. There is no general
requirement that a contract has to be in a written form. However, in the case of certain agreements
it is the requirement of law that they shall be reduced to writing, if they are to be legally enforceable.
Further, in some cases it is also required that the agreement shall not only be in writing but it must
also be registered as per the law of registration of contracts.
For example, an oral agreement to buy or sell movable goods is perfectly enforceable by law as
it is a contract. However, an agreement to buy or sell immovable property such as land or building,
has to be in writing and also it has to be registered with the competent authorities. If it is not written
and registered, such agreement will not be a contract and therefore cannot be enforced in the court
of law.
9. Certainty
The Contract Act provides that if the meaning of any agreement is not certain or the meaning
is not capable of being made certain it is not enforceable by law. In other words, if the terms of
agreement are such that they cannot be precisely interpreted or if they are vague and ambiguous,
such agreement does not acquire the status of contract and remains unenforceable at law.
The reason for this is simple. In the event of any subsequent dispute between the parties over
the agreement, the court is expected to decide the dispute on the basis of what was actually agreed
between the parties. However, if the agreement itself is so vague that no certain meaning can be
derived from it, no court can adjudicate the dispute.
For example, A agrees with B to sell his house for a good price. The term ‘good price’ may
mean any price, because it is left to subjective interpretation of different individuals. It is impossible
for any court to ascertain the intention of the parties. It is also not possible for the courts to declare
the price in view of the prevailing market rates because the intention of the parties at the time of
entering into agreement is more important and the sole conclusive factor, and not the market rates.
10. Possibility of Performance

Agreements must be capable of performance. An agreement to do an act impossible in itself is
void, i.e., not enforceable at law.
For example, A agrees with B to make his dead relative alive by magic in consideration of
` 50,000/-. The agreement is not enforceable by law and therefore not a contract.
Two points must be noted in this context.
It must be remembered that impossibility of performance is not the same thing as difficulty in
performance. A person may undertake to do something under an agreement which may require no
special effort. However, subsequent to formation of agreement, he may realize that his perception
was wrong and the performance is more demanding or exacting or it is more expensive. Under such
circumstances, the party has to discharge his obligation under the agreement, howsoever costly the
performance is.
For example, ‘A’ agrees to supply certain steel products manufactured in his factory to ‘B’ for
certain price. Later, ‘A’ realizes that he has quoted a price which is quite below the market rate.
Here, ‘A’ has to perform his obligation even though it may mean a loss to him. He cannot claim
impossibility of performance.
The second point to be noted is that the impossibility discussed here is the impossibility existing
at the time of formation of the agreement and not the subsequent one. For example, ‘A’ agrees to
sell his house to ‘B’ for a certain price. Subsequent to the agreement, the house is destroyed in
earthquake. Now the performance has become impossible. However, it is a case of void contract.
In other words, the agreement is a contract at the time when it is entered into, but subsequently
becomes impossible. (Void contracts are separately discussed under discharge of contract.)
11. Not Expressly Declared as Void
Certain agreements are expressly declared to be void (i.e., not enforceable by law and therefore
not contracts) under the Contract Act. Agreement in restraint of marriage, or agreement in restraint
of trade, or a gambling agreement are some of the examples of agreements which can never attain
the status of contract. They are declared to be void and not enforceable at law.
Now we shall discuss the above essential elements of contract in detail one by one. However,
before doing so, it would be more pertinent and suitable to understand various ‘kinds of contracts’
first.
Kinds of Contracts
1. Void Contract
In general sense, the term ‘void’ means completely lacking something or empty. In legal sense,
the term means ‘having no legal force.’ Void contract, therefore, means a contract which has no
legal value or effect at all. According to the Contract Act – ‘A contract which ceases to be enforceable
by law becomes void, when it ceases to be enforceable.’
The term ‘ceases to be enforceable’ means a contract which was enforceable at law, but at
some subsequent point of time and due to some reasons, it has lost the legal value and is no longer
enforceable by law. Thus, a void contract is not void from the time of its birth. It was binding on the
parties when it was entered into, however, subsequent to its formation, it has become devoid of legal
value due to some reasons.
The reasons why a contract becomes void are as follows:
(a) Supervening Impossibility: After the formation of contract, its performance may become
impossible. This is known as supervening impossibility. In such case, the contract becomes void. For
example, ‘A’ contracts to marry ‘B’. After this contract, ‘B’ goes mad. The contract of marriage
becomes void.
(b) Subsequent Illegality :‘A’, a merchant from Maharashtra contracts to sell 100 quintals of
sugar to ‘B’, another merchant from Gujarat. After the contract has been entered into, the Maharashtra
Government prohibits sale of sugar outside the state of Maharashtra due to scarcity of sugar. The
contract now becomes void, because the performance of the contract would now be an illegality.
(c) Contingent Future Event Becoming Impossible: In a contract, where one party undertakes
to do or not to do something on the happening of an uncertain future event, the contract becomes
void when the event becomes impossible. For example, ‘A’ contracts to sell to ‘B’ certain raw
material which is arriving by ship, on the condition that the ship reaches safely. The ship sinks at the
sea during its journey. Thus, the contract becomes void.
2. Voidable Contract
The contract, where one party (and that party alone) has a choice whether to go ahead with the
contract or avoid or cancel it, is a voidable contract. According to Contract Act, ‘an agreement
which is enforceable by law at the option of one party, but not at the option of the other, is a voidable
contract.’ Such agreement is enforceable by law or it is a perfect contract until avoided by the party
at whose option the contract was voidable.
A contract becomes voidable when the consent of one party has been obtained by fraud, undue
influence, coercion or misrepresentation. Such contract is voidable at the option of the party whose
consent was so obtained. However, the option to cancel the contract should be exercised by the
aggrieved party within a reasonable time and before any third party interest is created.
For example, ‘A’ threatens to shoot ‘B’ if he does not sell his house to ‘A’ for ` 10 lacs. ‘B’
agrees. This contract has come into existence without free consent of ‘B’, i.e., by using coercion
and therefore such contract is voidable at the option of ‘B’.
Similarly, when a party to the contract promises to do a certain thing within a specified time, but
fails to do so, the contract becomes voidable at the option of the other party, if the time is the
essence of the contract. For example, ‘A’ agreed to sell and deliver to ‘B’ 100 quintals of sugar
within 10 days. If ‘A’ does not supply the sugar within the specified time, the contract is voidable at
the option of ‘B’.
Consequences of Rescission of Contract

If a party to a contract has a choice either to avoid/cancel the contract or to go ahead with the
contract, and if such party chooses to cancel the contract, then it is but necessary for such party to
return the benefits, if any, received from the other party, under the contract. Further, the other party
obviously is under no obligation now to perform his promise under the contract.
The Contract Act provides for the same thing. It states that when a person at whose option a
contract is voidable rescinds it, the other party need not perform any promise made by him under the
contract. If the party rescinding a voidable contract has received any benefit from another party
under the contract, he shall restore such benefit to the person from whom the benefit was received.
For example, ‘A’ contracts to sell his house to ‘B’ for a certain price. Later, ‘A’ rescinds the
contract on the ground that his consent was obtained under undue influence. If ‘A’ has received any
money from ‘B’ as part payment of the price, he must refund the same to ‘B’.
3. Illegal or Unlawful Contract
Such contract does not exist. The term illegal contract is self-contradictory. If it is illegal, it
cannot be a contract. We have already seen above that contract is agreement enforceable by law.
Thus, illegal contract would mean an illegal agreement which is enforceable by law. Obviously, such
cannot be the case since no illegal agreement can be enforced at law.
Therefore, it must be noted that there is no contract as illegal or unlawful contract. Unless it is
lawful or legal, it cannot be a contract. (There can, however, be an illegal agreement.)
Void Agreements
Another important term which is often confused with the term void contract is void agreement.
There is marked difference between void agreement and void contract. Void contract is already
discussed above.
Void agreement is an agreement which is never enforceable at law. It is called void ab-initio
i.e., void (not enforceable by law) right from its birth or inception.
For example, an agreement with a minor is a void agreement, because a minor is not competent
to enter into contract. It is never enforceable at law. On the other hand, void contract is an agreement
which is also a contract (enforceable by law) when it is entered into, but has subsequently become
not enforceable due to certain reasons. These reasons are already discussed above.
It may be noted that no contract can be void ab-initio, but an agreement can be void ab-initio
(right from inception)
At this point, it shall be relevant also to see the difference between void agreement and
illegal agreement.
Illegal agreement and void agreement are both void ab-initio or not enforceable by law right
from the beginning. Except this similarity, there are following differences between the two:
All illegal agreements are void but all void agreements are not necessarily illegal. For example,
if the terms of the agreement are not certain, it is a void agreement, but not an illegal agreement. An
agreement where one person agrees to pay certain money to another for killing a third person is a
case of illegal agreement and obviously it is void also.
Further, all the other agreements which are connected with an illegal agreement or are incidental
to it are also illegal if the parties to other agreements are aware of the illegality. So the original illegal
agreement is capable of passing the stigma of illegality to other incidental agreements also. Therefore,
in the above example, any agreement between a financer and the person who wants a third person
killed is also an illegal agreement, provided the person who lends money is aware of the purpose for
which the money is going to be used.
On the other hand, if an agreement is merely void, the incidental agreements are not void. For
example, ‘A’ borrows money from ‘B’ under an agreement for buying some goods from ‘C’, who is
a minor. The agreement between B and C is void, because it lacks the essential element of contract
i.e. competence of parties. However, the collateral agreement between A and B is not affected and
it remains a contract.
Express contracts are those contracts where the offer and acceptance constituting the contract
are made in words, spoken or written. So an agreement made over telephone or through correspondence
is an example of express contract.
Implied contract is one which is entered into by the parties not through the words, but through
their conduct or behaviour. Thus, when a porter in uniform approaches you at a railway platform and
takes up your luggage, and you show him the way to your compartment, there is an implied contract
between you and the coolie, under which you are required to pay for his services. Both offer and its
acceptance have been communicated not by the words, but by the conduct. Implied contracts have
the same force of law as the express contracts.
Quasi contract is a term used for such contractual relations between the parties which exist
as if the parties have entered into a contract, without there being any contract between the two in
the usual sense. Unlike other contracts, there is no offer or acceptance. The parties may not have
met each other ever before and yet the relations that emerge between them are such as if they have
entered into contract. In fact, the term quasi contract is not used under the Contract Act. It provides
for the ‘certain relations resembling those created by contract.’
For example, when one finds the goods lost by another, he is under obligation to return the
goods to the owner. Similarly, when one makes an overpayment to another by mistake, the person
receiving the excess money is under obligation to refund the same. The Contract Act treats these
obligations as if they are contractual obligations and therefore the term ‘quasi contract’ is used.
The Latin term quasi means – ‘as if or ‘almost’ and therefore quasi contract means – seemingly
or apparently a contract but not really a contract.
OFFER AND ACCEPTANCE

During our discussion in the last chapter on essential elements of contract, we have seen that
a lawful offer is the first step in the formation of contract. The second step is its acceptance by the
person to whom the offer is made. Once a lawful offer is made and it is lawfully accepted, the
contract comes into existence. (Provided, of course, the other essential elements are present.)
We shall now discuss the rules of lawful offer and its lawful acceptance in detail.
The Offer or Proposal
The terms Offer and Proposal are synonymous and they mean one and the same thing. We
shall use both the terms in our discussion. The Contract Act uses the term Proposal. It defines
proposal as – “when one person signifies to another his willingness to do or abstain from
doing anything, with a view to obtaining the assent of that other to such act or abstinence,
he is said to make a proposal.”
From the bare perusal of the above definition, the following points can be easily noticed.
(a) There must be expression or communication of willingness to do or refrain from doing
something;
(b) Such expression must be made to another person;
(c) It must be made with the object of getting the assent of that other person.
It follows that a general enquiry or a casual declaration of intention is not an offer. For example,
‘I may sell my house for ` 5 lacs’ or ‘I am thinking of selling my house if I get ` 5 lacs’ is not a
proposal.
On the other hand, ‘Will you buy my house for ` 5 lacs?’ or ‘I am willing to sell my house to you
for ` 5 lacs’ are the examples of proposal.
The person making the proposal is called the promisor and the person accepting the proposal
is called the promisee.
Legal Rules as to Offer
1. Offer may be Express or Implied.
An offer can be in words, spoken or written, or by conduct. An offer which is made in words
is called express offer and the offer that is gathered from the conduct of the person is called implied
offer. When ‘A’ says to ‘B’ that he wants to sell his house to him for ` 5 lacs, it is an express offer.
When a coolie approaches you at the railway platform and picks up your bags, he is making an
implied offer.
2. Offer must be Capable of Giving Rise to Legal Consequences and Creating
Legal Relation.
An offer by one person to his friend to take him to a movie is not a valid offer in the eyes of law.
Ordinary social agreements do not involve legal intentions and therefore are not binding. It is presumed
by law that offers made during the course of business are intended to create legal relations between
the parties. Parties expect that legal consequences shall follow if there is breach of contract by any
of the parties.
It may be noted that even in commercial transactions, if the offer is made and accepted with
clear understanding that there shall be no legal binding and that if the agreement is broken by either
party no legal consequences shall follow, then such agreement shall not be a contract.
3. The Terms of Offer must be Certain and Definite; the Terms must not be Vague
or Loose.
In order to create a binding obligation, it is necessary that the terms on which the parties agree
are certain. Therefore, the terms of offer must be certain. In other words, the terms must not be so
worded that different interpretations are possible for different persons.
For example, ‘A’ buys a horse from ‘B’ and promises to buy another if the first one proves to
be lucky. In this case, there is no binding obligation on ‘A’ to buy the second horse because what is
a lucky horse is not certain.
4. An Invitation to Place Offer is not an Offer.
An offer must be distinguished from mere quotation or invitation to offer. Certain communications,
either by way of advertisements or otherwise, are such that they are meant to only pass on the
information to the people who may be interested in the same. Such communication by itself is not an
offer. The person who is making such communication is in fact inviting the others to place their
offers based on the information so communicated, if they so wish.
For example, when you notice any garments displayed at the window of a garment shop with a
price tag attached, indicating that a particular garment is for the price mentioned, it is not an offer. It
is only an invitation to you to enter the shop and place your offer saying you would like to buy that
particular garment for the price. Now it is for the shopkeeper either to accept your offer or reject it.
Display of garments with price tags is merely circulation of information to others that the shopkeeper
would be interested in dealing with any one who is willing to buy the garment roughly for the stated
price.
When you enter the shop to buy the garment, it is you who is making an offer. When the
shopkeeper takes the money from you, he accepts the offer, and the contract is formed. If the
display of garments or goods with prices marked on them is considered to be an offer, then tender of
money by any person would be acceptance of the offer and the contract is formed. It would be a
binding obligation on the shopkeeper to sell the item to you, which is not the case.
Quotations, price-lists or display of goods with prices marked etc. do not constitute offer.
Similarly, an advertisement of sale of goods by action is not an offer. It is an invitation to others to
attend the auction and place their offers by making highest bids at the auction. Furthermore, it is not
even obligatory on the auctioneer to conduct the auction sale as per the advertisement and he may
withdraw the auction any time. The prospective buyers or bidders cannot complain for the loss of
time and money in coming to the place of auction.
5. An Offer may be General or Specific
An offer is either general or specific depending on to whom the offer is made. When ‘A’ makes
an offer to ‘B’ to sell his scooter for ` 10,000/-, we call it a specific offer since the person to whom
it is made is a specific person. When ‘A’ says to all his friends in his class that anyone can buy his
scooter by paying him ` 10,000/-, it is called a general offer.
When the offer is made to a certain person, it is obvious that only he can accept the offer,
whereas in the case of a general offer, any person from the world at large, (or any person from the
group if the offer is made to a group) can accept the offer. Such offer is accepted by complying with
the condition prescribed in the offer. (In the above case, by paying ` 10,000/-)
If ‘A’ has lost his book and says to ‘B’ – “if you find and return my book, I shall pay you ` 100/-.”
This is specific offer since the offeree is ascertained and specific. On the other hand, if ‘A’ declares
in the class or puts up a Notice on the Notice Board saying – “anyone who finds and returns my
book shall be paid a reward of ` 100/-”, it is a case of general offer.
Any person who finds the book and returns it to ‘A’ accepts the offer by fulfilling the requirement
mentioned in the offer. Consequently, there is a contractual obligation on ‘A’ to pay the reward to
that person.
It is worth noting here that offer must have been communicated to the offeree, i.e., offer
must have come to the knowledge of the offeree.
In other words, a person complying with the requirement under the offer without the knowledge
of the offer cannot claim to have accepted the same. In the above example, if a student from the
class of ‘A’ who is not aware of any Notice of reward, finds and returns the book to ‘A’, cannot be
said to have accepted the offer because he did not know about the offer. As such, there is no
obligation on “A’ to pay the reward to such person.
Another point worth noting is that special terms which are intended to be part of the offer
must be specially communicated at the time of acceptance or before the acceptance.
Subsequent communication of special terms will not be binding on the acceptor. Take the above
example where one student returns the lost book to ‘A’ with its cover page torn or spoiled. ‘A’
cannot refuse to pay the reward on the ground that the cover page of the book is torn or spoiled.
Such special term ought to have been communicated before the contract came into existence.
6. Offer must not Contain a Term the Non-Compliance of which would Amount
to Acceptance
If a person making an offer to other states that if the offeree does not respond or does not
reject the offer within a stipulated period, it shall be presumed that the offer has been accepted by
him. Such offer is not a valid offer. The reason is obvious. There cannot be any obligation on any
person to respond to every communication made to him. No contractual obligation can arise if he
does not reply.
7. Two Identical Cross-Offers do not Make a Contract
When two persons make identical offers to each other without being aware of each other’s
offer, one offer cannot be treated as acceptance of the other. For example, ‘A’ writes a letter to ‘B’
offering to sell his house for ` 5 lac. At the same time, ‘B’ writes a letter to ‘A’ offering to buy his
house for the same price. These are cross offers and none of them is acceptance, because there
cannot be any acceptance without the knowledge of offer. As such, no agreement results.
Lapse and Revocation of Offer

Having discussed the rules of valid offer, let us now understand the circumstances under which
an offer lapses or becomes invalid. Once an offer has lapsed or has become invalid, there cannot be
any acceptance of the same and consequently there cannot be any resultant agreement.
An offer comes to end under the following circumstances:
1. An offer lapses by rejection by the offeree

The most obvious mode by which an offer lapses is its rejection. When ‘A’ offers to sell his
scooter to ‘B’ for ` 10,000 and if ‘B’ declines or refuses to buy the scooter, the offer is rejected and
thus lapses.
It may be noted that such rejection of offer may be either an outright rejection or by any
amendments suggested by the offeree. Thus, if ‘A’ offers to sell his scooter to ‘B’ for ` 10000/-, ‘B’
may either reject the offer or may agree to buy the same at ` 8000/-. In either case, it is rejection of
the original offer. This is so because when ‘B’ suggests any change in the terms of the offer, he is,
by implication, rejecting the terms of the offer as originally proposed to him. Conditional acceptance
is nothing but rejection of offer. It may also be treated as counter-offer. In both the situations the
offer lapses.
2. An offer lapses after the time stipulated or after reasonable time.

An offer does not remain open for acceptance for ever. It lapses when the time mentioned in
1 A says to B Will you buy my scooter for Rs. This is offer by A to B

10000/-
2 B says to A I will buy it, but for Rs. 8000/- This is rejection of offer by B and also a
counter offer by B to A
3 A says to B No, I do not want to sell it for This is rejection by A of the counter offer
Rs. 8000/- made by B
4 B says to A Okay, if you insist, I will buy it This is not an acceptance of the offer made
for Rs. 10000/- at point No. 1., because no offer survives
which can be accepted. Original offer has
expired with its rejection at point No. 2.
Hence this is altogether a fresh offer by B
to A. As such, no agreement takes place
5 A says to B (1) Here then, take the scooter. (1) This is acceptance by A of the offer of B
OR made at point No. 4 OR
(2) No, I have changed my mind. (2) This is rejection by A of the offer of B
I do not want to sell the scooter. made at point No. 4
the offer for its acceptance has expired. If no such time is specified in the offer, then the offer
lapses after the expiry of reasonable time. What is reasonable time depends on the facts of the
case.
For example, an employer posts his offer of employment to a candidate after he has been
selected in the interview. If it is mentioned in the appointment letter that the candidate has to
communicate his acceptance within a period of one week, then the offer of employment lapses after
the week has expired. However, if no such time is mentioned in the appointment letter, the offer
lapses after a reasonable period. In this case, what is reasonable period would depend on the
understanding between the employer and the candidate as regards the urgency in filling the vacancy
and other factors prevailing at the time of interview.
3. An offer lapses if not accepted in the prescribed mode, or in the usual or
reasonable mode.
As the offeror is entitled to receive the acceptance within the prescribed time, (if at all the
offeree chooses to accept the offer) he is also entitled to receive the acceptance in the mode
prescribed by him in the offer itself. If no such mode is prescribed by him, the acceptor is bound to
communicate his acceptance in some usual or reasonable mode.
Let us take the same example given above. The employer posts his offer of employment to the
selected candidate stating that if the offer is acceptable, the candidate should sign the copy of
appointment letter and return the same to the employer’s office. If the candidate, instead, telephones
the employer to communicate his acceptance, the employer is entitled to insist that the offer be
accepted in the mode prescribed, failing which he can treat the offer as rejected.
However, if the employer does not so insist, he is deemed to have accepted the acceptance.
4. An offer lapses by the death or insanity of the offeror before acceptance.
If the offeror dies or becomes insane before acceptance, the offer lapses provided that this
fact comes to the knowledge of the acceptor before acceptance. The Contract Act provides that a
proposal is revoked by the death or insanity of the proposer, if the fact of his death or insanity comes
to the knowledge of the acceptor before acceptance.
It is clear from the language of the provision that if the acceptance is given by the offeree in
ignorance of the death or insanity of the offeror, it is valid acceptance since the offer does not lapse.
Similarly, if the offeree dies or if he becomes insane before acceptance, the offer lapses.
5. An offer lapses by revocation
An offer is revoked by the communication of notice of revocation by the proposer to the other
party. A person may change his mind after having made an offer and may thus withdraw or revoke
his offer. In such situation, there remains nothing to be accepted. It must, however, be noted that
such revocation is possible only till the moment the offer is not accepted. For example, ‘A’ offers to
sell his scooter to ‘B’ for ` 5000/-. He may subsequently change his mind and communicate to ‘B’
that he is revoking the offer and that he does not want to sell the scooter.
In the above example, if ‘A’ asks ‘B’ to communicate within a week, it is not necessary for ‘A’
to keep the offer open for the week and then revoke it. ‘A’ may revoke the offer on the next day
itself, provided it has not been accepted by ‘B’ by that time.
The Acceptance
Agreement comes into existence when an offer made is accepted. It is the acceptance which
gives rise to contractual obligations. The term Acceptance is defined under the Contract Act as –
”When the person to whom the proposal is made signifies his assent thereto, the proposal
is said to be accepted. A proposal, when accepted, becomes a promise.”
Thus, ‘acceptance’ is the expression by the offeree giving assent to the terms of the offer. It is
the acceptance which converts the offer into a promise and gives rise to contractual obligations.
In order that acceptance is valid, it has to be in comp,liance of certain rules. Let us discuss
these rules one by one.
Legal Rules Regarding Valid Acceptance
1. Acceptance must be given only by the person to whom the offer is made.
The definition of acceptance begins with the words – ‘when the person to whom the offer is
made’ -, meaning thereby that only the person or persons to whom the offer has been made are
competent to accept the offer. Thus, when ‘A’ makes an offer to ‘B’, it is only ‘B’ who can accept
the offer and no one else.
When an offer is made to a specified class of persons (e.g. students of a particular class) a
student from that class can accept the offer. When an offer is made to the world at large (e.g.
reward for finder of lost goods) it can be accepted by the person having knowledge of the offer.
Let us take an example of ‘A’ who is running a motor driving school under the title ‘Mr. A’s
driving school’. He sells the business to ‘B’ of which ‘C’ is not aware. He sends an offer letter to
‘A’ enrolling his name for specialized driving classes which is now accepted by ‘B’. Later, ‘C’
cancels the idea of joining the driving classes. ‘B’ cannot proceed against ‘C’ because there is no
contractual relationship between ‘B’ and ‘C’.
The logic here is that if you intend to enter into contract with ‘A’, then ‘B’ cannot put himself in
the place of ‘A’ without your consent.
2. Acceptance must be absolute and unqualified
In order to convert a proposal into a promise, the acceptance must be absolute and unqualified
i.e. unconditional. In other words, if the offeree decides to accept the offer, he has to accept the
whole of the offer as it stands and without making any changes in the same. If the offeree suggests
any change in the terms of the offer, it would amount to counter-offer or the rejection of the original
offer. But it is not a valid acceptance.
For example, If ‘A’ offers to sell his scooter to ‘B’ for ` 5000/-, ‘B’ has to either reject the offer
or accept it. If he decides to accept the offer, he has to merely give an affirmative response. If ‘B’
adds any conditions, there is no acceptance in the eyes of law. Thus, if ‘B’ accepts the offer willing
to pay ` 4000/- immediately and ` 1000/- in the next month along with interest, it is a conditional or
qualified acceptance and therefore not a valid acceptance.
3. Acceptance must be communicated in some usual or reasonable manner,
unless the manner is prescribed in the offer itself.
As already seen under our discussion on lapse of offer, the acceptance must be communicated
in the manner prescribed in the offer. If the offer of employment directs the candidate to sign his
acceptance on the copy of the appointment letter and return the same to the employer, the candidate
has to exactly do the same. Telephonic communication by the candidate that he is accepting the
employment is not a valid acceptance in the eyes of law.
When the mode of acceptance is not prescribed in the offer, the acceptance must be
communicated in some usual or reasonable mode. What is reasonable depends on the facts of the
case. In the above example, if the appointment letter issued to the candidate does not mention about
the mode of acceptance, but two copies of the offer-letters are posted to him, it is reasonable to
expect the candidate to sign the duplicate and return the same. Alternatively, telephonic confirmation
of receipt of the appointment letter along with acceptance would be reasonable mode of acceptance.
Express Acceptance is one where it is communicated through words, spoken or written.
Implied Acceptance, on the other hand, is communicated by the conduct of the acceptor. Implied
acceptance of an implied offer also gives rise to legally enforceable agreement. If a shoe polisher
approaches you at the railway platform and starts polishing your shoes, it is an implied offer. If you
allow him, it is your implied or tacit acceptance, giving rise to contractual obligation under which you
are required to pay for his services.
The Contract Act provides that if the acceptance is not communicated in the mode prescribed
by the offeror, the offeror or proposer may, within a reasonable time after the acceptance is
communicated to him, insist that his proposal shall be accepted in the prescribed manner, and not
otherwise, but if he fails to do so, he accepts the acceptance.
It may further be noted that mental acceptance is not effective. In other words, the offeree
having a mind or desire to accept the offer is not sufficient. Communication of acceptance must
reach the knowledge of the offeror. In the above example, if the candidate signs the copy of the
offer of employment, but does not post it, it cannot be called valid acceptance.
4. Acceptance must be made within reasonable time or before the offer is
terminated.
As the offeror can prescribe the mode of acceptance, he may also specify the time during
which the offer may be accepted. Acceptance made after the expiry of the said time period is
ineffective and not valid. If the time limit is not prescribed, then the offer must be accepted within a
reasonable time. Again, what is reasonable is a question of fact. If the offer of employment received
by the selected candidate mentions the time limit within which its acceptance has to be communicated,
the candidate has to abide by the same, if he wants to accept the offer. However, if no time limit is
specified in the offer letter, the offer has to be accepted within a reasonable period. In this case, if
the candidate conveys his acceptance after one year, it is not a valid acceptance.
Communication of offer, Acceptance and their Revocation

So far as the contracts which are entered into by the parties in person, i.e. when they are face
to face there is no question of withdrawing the offer or acceptance. An offer is made, acceptance
is given and the contract is born. In many cases, the contract is immediately discharged where both
the parties perform their respective obligations under the contract. For example, when you buy a
pen from a shopkeeper, every step is taken almost at the same point of time. The offer is made,
acceptance given, (or rejected and counter offer made and accepted) price paid, pen delivered and
the contract discharged.
However, when the parties are not face to face and not dealing in person, and instead when
they are transacting with each other through correspondence or by post, it is necessary to determine
at what point of time the contract has come into existence. The moment a valid acceptance is made,
a contract is born. And once a contract is born, both the parties are bound to each other under the
terms of the contract. No one can now retract. The primary purpose of Contract Act is to assure the
parties that promises once given shall be fulfilled. Hence, it is crucially important to ascertain from
plethora of correspondence at what point of time the contract has come into being.
In this behalf, the Contract Act lays down the following rules:
1. Communication of offer.
Communication of offer is complete when it comes to the knowledge of the person to whom it
is made. Thus, when an offer is made by post, the communication of offer is complete when the
letter of offer reaches the offeree.
2. Communication of acceptance.
Communication of acceptance is complete –
(a) as against the proposer, when it is put in a course of transmission to him, so as to be out of
the power of the acceptor;
(b) as against the acceptor, when it comes to the knowledge of the proposer
The Contract Act gives the following illustration to simplify the rule.
(a) ‘A’ proposes, by his letter, to sell a house to ‘B’ at a certain price.
The communication of proposal is complete when ‘B’ receives the letter.
(b) ‘B’ accepts ‘A’s proposal by a letter sent by post.
The communication of acceptance is complete –
as against ‘A’, when the letter is posted;
as against ‘B’, when the letter is received by A
Communication of revocation
The communication of revocation is complete –
As against the person who makes it, when it is put into a course of transmission to the person
to whom it is made, so as to be out of the power of the person who makes it;
As against the person to whom it is made, when it comes to his knowledge.

(In the illustration give above -)
A revokes his proposal by telegram.
The revocation is complete as against A when the telegram is dispatched. It is complete as
against B when B receives it.
B revokes his acceptance by telegram.
B’s revocation is complete as against B when the telegram is dispatched, and as against A
when it reaches him.
Revocation of proposal and acceptance
The Contract Act provides that –
A proposal may be revoked at any time before the communication of its acceptance is complete
as against the proposer, but not afterwards.
An acceptance may be revoked at any time before the communication of the acceptance is
complete as against the acceptor, but not afterwards.
In order to better understand the above rules, let us take an example.
A makes an offer to sell his house to B by post and he sends the letter on 1st January. The
communication of offer is complete when this letter reaches B. Now B writes back to A accepting
the offer by his letter which is posted on 4th January. The communication of acceptance is complete
as against A on 4th January when the letter is dispatched by B so as to be out of his power. The
communication of acceptance is complete as against B when the letter reaches A.
It may be remembered that once the communication of acceptance is complete as against the
proposer (i.e., 4th January), he cannot revoke the proposal. The contract has now come into existence
giving rise to legal obligations. A could have revoked his offer before the letter of acceptance was
dispatched by B, but not afterwards.
Having sent the letter of acceptance, if B now desires to revoke his acceptance, he has to
communicate his revocation to A, before the communication of acceptance is complete as against
B. In other words, B has to dispatch his revocation of acceptance in such a way that it reaches A
before the acceptance comes to the knowledge of A. In the above example, if B (having dispatched
his acceptance on 4th January, now wants to revoke his acceptance, then he has to send his revocation
so that A receives the revocation before he receives the acceptance.
To sum up the points discussed above, it can be stated that –
1. The communication of a proposal is complete when it comes to the knowledge of the person
to whom it is made.
2. The communication of an acceptance is complete, as against the proposer, when it is put in
the course of transmission to him, so as to be out of the power of the acceptor, and as
against the acceptor, when it comes to the knowledge of the proposer.
3. The communication of a revocation is complete, as against the person who makes it, when
it is put into a course of transmission to the person to whom it is made so as to be out of the
power of the person who makes it, , and as against the person to whom it is made, when it
comes to his knowledge.
4. A proposal may be revoked at any time before the communication of its acceptance is
complete as against the proposer, but not afterwards. An acceptance may be revoked at
any time before the communication of the acceptance is complete as against the acceptor,
but not afterwards.
CONSIDERATION
Consideration is an essential element of contract. When two persons enter into an agreement,
both expect some benefit out of the agreement. This benefit is called consideration under the Contract
Act. It is this benefit which distinguishes an agreement from a contract. In other words, if the
parties to the agreement do not promise some benefit to each other reciprocally, the agreement is
not a contract. Therefore, in social agreements or friendly agreements, where one person promises
another some benefit without any gain in return, there is no intention to create serious business
relations between the parties. Hence, such agreements are not contracts. Parties to such agreement
do not intend that legal consequences should follow, if the agreement is not honoured by any one of
them.
In the words of Pollock – “an act or forbearance of one party, or the promise thereof, is the
price for which the promise of the other is bought, and the promise thus given for value is enforceable.”
Thus, consideration is the term used in the sense of a quid pro quo (i.e., something in return)
and must be either a benefit to the promisor or a detriment to the promisee or both.
A promises B to deliver a letter to C personally in Mumbai if B would pay him ` 500/-. The
consideration for A’s promise is the payment of ` 500/- which is a benefit to A and detriment to B.
Looking at the contract the other way round, the consideration for B’s promise is A’s taking the
pains of going to Mumbai and delivering the letter which is a detriment to A and the benefit to B. It
must be remembered that the element of detriment is essential for consideration. Therefore,
a promise to keep an offer open is not an enforceable promise. (It is not a contract.) For example, A
makes an offer to B and says: “I will keep the offer open for a week.” B replies: “I thank you for
keeping the offer open for a week.” Here, there is an agreement between A and B under which A
has promised something to B, but it is not a contract. This is so because no consideration has passed
from B to A for A’s keeping the offer open for a week. However, if B promises to pay some amount
to A for keeping his offer open and A accepts it, there would be binding contract on A’s part to keep
the offer open for the week.
Consideration is the foundation of contract because it is the very purpose for which the parties
enter into contract with each other. In the common example of sale and purchase of an article, the
seller enters into contract because his purpose is to get the money or price from the sale of the
article and the buyer enters into contract because his purpose is to obtain the article. The ‘payment
It therefore follows that a person who is stranger to the consideration can sue for the performance
of the contract, because the consideration moves on his behalf from some other person. This is
known as ‘Doctrine of constructive consideration’ which enables a stranger to the consideration
to sue on the contract, provided he is party to the contract.
However, if a person is stranger to the contract, he cannot sue on the contract. For example, A,
who is indebted to B, sells his property to C, and C, i.e. the purchaser of the property promises to
pay the debt of B. If C fails to pay the debt of B, B has no right to file a suit against C because there
is no contract between B and C. Thus, the rule is that a stranger to contract cannot sue on the
contract.
(Trust, family settlements and agency are some of the exceptions to this rule. A transfers
property to the trustee B for the benefit of C. C can sue on the contract, though he was not a party.
At the time of partition of family property, a settlement may be made for the benefit of other
members of the family. Such members can sue on the settlement though they are not party to the
settlement. Where a contract is entered into by an agent, the principal can sue on it.)
3. Consideration may be past, present or future
The words used in the definition clearly indicate that the consideration (either in the form of
some act or abstinence) may have been given in the past, or being given in the present, or promised
now but to be given at some future time. Therefore, it is not only the act or abstinence of the past or
present (something done or not done in the past or something being done or not done in the present),
but also a promise to do or not to do certain act in the future constitutes consideration.
At the desire of B, A renders to him services for a month. After the month, B promises to pay
` 5000/- to A for his services. The consideration for B when he makes such promise is past
consideration, because he has received the services in the past.
Where A sells and delivers a pen to B and B pays ` 10/- being the price of the pen, it is a case
of present consideration. It may be noted that in this transaction, if B promises to pay the price in
future, it is yet a case of present consideration. Here, the consideration for B is the pen and
consideration for A is the promise of B to pay. It can also be said that for B it is executed consideration
while for A it is executory consideration.
A promises to supply 5 tons of steel to B every month and B promises to pay the agreed price
at the time of each delivery. This is an example of future consideration where a promise is
exchanged for promise and the promise is to do something in future. It is also known as executory
consideration because the liability of both the parties is outstanding.
4. Consideration must be ‘something of value’ in the eyes of law.
The fourth essential element of consideration is that it must be something of value in the eyes
of law. It should be noted that consideration need not be adequate, because what is
adequate is to be decided by the parties and not by the law. The law of contract insists on
presence of consideration and not its adequacy. For example, if A promises to sell his car to B for
` 500/- (which price is much below the market rate), the promise is enforceable at law.
However, it may be noted that shockingly inadequate consideration may be a good evidence to
support a claim of any party that his consent to the agreement was not a free consent.
Consideration must be real and not illusory. Similarly, it must not be physically and legally
impossible. It must also not be uncertain. Promise to make a dead man alive is not valid consideration
because it is not physically possible. A promise to do something which is prohibited by law is illegal
consideration. A promise to pay a good price for goods is vague and uncertain and hence not valid
consideration, because what is good price is not certain.
When no Consideration is Necessary
Although as a general rule there cannot be any contract without consideration, there are some
exceptions where an agreement is a contract even without consideration. These are the exceptions
to the rule – ‘No consideration – no contract.’
These exceptions are as follows.
a. Agreement made on account of natural love and affection
An agreement made without consideration is enforceable as contract, if it is,
(a) Expressed in writing,
(b) Registered under the law of registration of documents
(c) Made on account of natural love and affection, and
(d) Between the parties standing in near relation to each other
If the above four conditions are satisfied, an agreement is a contract even when there is no
consideration.
Thus, where A promises in writing to his son that he would transfer certain property to him and
registers the document, it is a contract. It must be remembered that all the four conditions have to be
independently satisfied. Where a husband, due to frequent quarrels and disputes, signs and registers
a promise to his wife that he would pay a certain sum to her per month provided she stays away
from him, is not a contract. Here, though the three conditions of near relations, writing and registration
are satisfied, the agreement is obviously not entered into out of natural love and affection.
b. Agreement to compensate for past voluntary services.
If a promise is made to a person who has already voluntarily done something for the promisor
in the past, such promise is contract and enforceable at law, though at the time of making the
promise there is no consideration moving from that person to the promisor.
For example, A finds B’s purse and returns it to him. B promises to give him ` 100/-. This is a
contract.
It can be noticed from the above example, that –
● A has rendered services to B in the past and such services were rendered voluntarily
without expecting anything in return or without being required by B,
● B is under no obligation to make any promise to A, and
● Yet B, subsequent to enjoying services of A, makes a promise to compensate for the services
When B is making a promise to A, there is no consideration moving from A to B, and as such in

the absence of consideration there is no contract. This is as good as a promise of gift. However,
such promise is a contract even without consideration. This exception is not limited to the promisor
receiving services himself. For example, A supports B’s minor and infant son which is the duty of B.
Subsequently, B promises to pay A’s expenses in so doing. This is a contract.
It may also be noted that the promisor need not be competent to contract when he receives the
services. Thus a promise made after attaining majority to pay for the foods supplied voluntarily to
the promisor during his minority is a contract.
Past consideration and compensating past voluntary services must not be confused. In
past consideration, the services are not rendered voluntarily and there is an obligation on the part
of the person receiving services to pay for the same. On the other hand, under this exception, the
services are rendered voluntarily and there is no obligation on the part of the promisor to make any
promise.
c. Agreement to pay a time-barred debt.
In every country including India there is law of limitation which prescribes the period within
which legal action can be taken against defaulting person. This law is based on the principle that
Law comes to the help of those who are diligent about their rights and not to the help of those who
are sleeping over their rights. Different periods of limitation are prescribed under the Limitation Act
for initiating different types of proceedings. This period is three years for money recovery suits.
Hence, on default by the debtor in repayment of money-dues, the creditor must proceed against him
within a period of three years from the date of default, otherwise the right of the creditor to proceed
against the debtor is lost and the debt becomes a time-barred debt. It cannot be now recovered.
Here, as the creditor no longer has any right to recover the debt, similarly the debtor has no obligation
to pay the debt. There fore, when the debtor or his agent makes any promise to the creditor to pay
the time-barred debt, such promise is without any consideration. However, such promise or agreement
is a contract even without consideration.
For example, A owes B a sum of ` 1000/- but the debt is barred by the Limitation Act. A signs
a written promise to pay B ` 500/- (or ` 1000) on account of the debt. This is a contract.
It means that now if A fails to pay the debt, B can recover the amount from B. In other words,
a fresh period of limitation would start from the date of the promise. For this exception to apply, the
following conditions must be satisfied.
● The debt must be such that the creditor cannot recover on account of law for the limitation
of suits;
● There must be an express promise to pay the time-barred debt. Mere acknowledgement of
indebtedness is not enough; and
● The promise must be in writing and signed by the debtor or his agent.
d. Completed gift
Simply stated, a gift (and not a promise or agreement to give a gift) is a contract and requires
no consideration.
We have seen that a promise of gift is not a contract because there is no consideration moving
from the promisee to the promisor. However, if such gift is actually given it is binding on the parties.
In other words, it cannot be recovered by the donor on the ground that there was no contractual
obligation to give the gift. For example, A promises to give ` 100 to B on his birthday. Such promise
or agreement is not a contract because there is no consideration for A. However, when A actually
gives the gift to B, such completed gift is binding on them.
e. Contract of agency
Section 185 of the Contract Act provides that no consideration is required to create agency.
This is to prohibit the principal to deny the contractual obligations incurred through his agent on the
ground that there was no contract between the agent and the principal as there was no consideration.
f. Contribution to charity
A promise, though gratuitous, would be enforceable, if on the faith of the promise, the promisee
has suffered some detriment or undertaken any liability. In our discussion on concept of consideration
at the beginning of this chapter, we have seen that consideration consists of some detriment to the
promisee, though it may not be of any benefit to the promisor.
Thus, if A makes a promise to a hospital to donate certain sum, and based on the promise the
hospital management undertakes construction of an operation theatre, thereby incurring liability
towards the construction-contractors, the hospital management can recover the amount from the
promisor, if he later refuses to pay the promised amount.
In a decided case of Kedar Nath V/s Gori Mohammad, the defendant had agreed to subscribe
` 100 towards the construction of a Town Hall at Howrah. The secretary of the Town Hall on the
faith of the promise called for plans and entrusted the work to contractors and had undertaken
liability to pay them. It was held that, though the promise was to subscribe to a charitable institution
and there was no benefit to the promisor, yet, it was supported by consideration because the secretary
suffered a detriment in having undertaken a liability to the contractor on the faith of the promise
made by the defendant.
Two points need to be noted in this behalf. The first is that the promisee must have incurred
some liability on the basis of the promise, in order to make the promise legally enforceable. The
second point is that such promise can be enforced only to the extent of detriment suffered or the
liability undertaken. If no liability is undertaken on the basis of such gratuitous promise, it is not
legally enforceable.
g. Remission of performance
If the promisee agrees to accept a lesser performance of the promisor in lieu of what was
agreed under the existing contract, such subsequent agreement is a valid contract, even though
without consideration.
For example, a bank may enter into agreement with a defaulting borrower whereby the bank
may permit the borrower to pay a lesser amount than what is due and finally settle the loan account.
Such agreement by which the bank agrees to accept a lesser performance than what it is entitled to
(i.e. may agree to accept a lesser amount giving up part of its claim) is an agreement without
consideration. However, it is a valid contract.
This exception is also applicable to contracts where the promisee extends the time of
performance by the promisor. Such contracts need not be supported by consideration.
CAPACITY OF PARTIES
The next essential element of a valid contract is ‘capacity of parties’ or ‘competence of parties’
to enter into contract. The Contract Act provides that “every person is competent to contract
who is of the age of majority according to the law to which is subject, and who is of sound
mind, and who is not disqualified from contracting by any law to which is subject.”
Therefore, a person in order to be competent to enter into a valid contract must satisfy the
following conditions:
(a) He must be a major, according to the law to which he is subject;
(b) He must be of sound mind; and
(c) He must not be disqualified from contracting by any law to which he is subject.
We shall now discuss these conditions one by one.
(a) Minor
According to the Indian Majority Act, a person who is under 18 years of age is a minor and a
person who has completed the age of 18 years is a major. There is one exception to this general rule.
The minors whose property is under the control of a guardian appointed by the court, attain majority
at the age of 21 years.
An agreement with a minor is absolutely void and not enforceable by law against the minor.
The law relating to agreements by or with a minor can be stated as follows.
1. Minor’s agreement is absolutely void and minor cannot bind himself by a
contract
The law relating to minor is with a view to protecting their interests rather than to debilitating
them from contracting. Therefore, there is nothing in the Contract Act which prevents a minor from
becoming a promisee. The term incapacity means the incapacity to bind oneself by any contract,
and not the incapacity to derive benefits under any contract. An agreement entered into by or with
a minor is void as against him.
An agreement with a minor is void ab-initio i.e. right from the beginning and the other party to
the agreement cannot enforce the agreement against the minor. Even if a minor has received any
benefit under the agreement, he cannot be asked to return the benefit or make compensation. Thus,
if a minor person has obtained a loan and makes a default in its repayment, the creditor cannot sue
the minor for the recovery of loan.
2. Agreements which are beneficial to minor are valid contracts
As we have noted earlier, the law relating to agreements with minor is for protection of the
rights of minors. It does not prohibit the minor from receiving any benefits through agreements.
Accordingly, any agreement under which a minor has to merely receive certain benefits without
there being any obligation imposed on him is a valid contract. Thus, if a minor lends money to
another, he can recover the money by filing a suit if there is a default in its repayment.
Hence, a minor can be admitted in a partnership firm, but only for sharing the profits of the
firm and he cannot be held liable for the losses. A minor cannot take part in the management of the
firm. His liability to third parties is limited to the extent of his share in the assets of the firm. He
cannot be held personally liable for any obligation of the firm, as is the case with other partners.
Similarly, the Apprentices Act 1961 provides for apprenticeship contract under which a
minor can be engaged as an apprentice in factories and commercial establishments. The Apprentices
Act was passed with a view to providing opportunity to young persons to learn various trade skills.
Under the apprenticeship contract the minor is required to pay the compensation amount if he
discontinues the training before the apprenticeship period.
Under The Trade Unions Act, 1926 a minor is competent to become a member of a registered
trade union and though he cannot become an office bearer of the trade union, he can enjoy all the
rights of a member, can execute instruments and give aquittances as are necessary.
3. No ratification of agreement on attaining majority
Ratification is subsequent approval or authorization of any act or agreement. An agreement
entered into by or with a minor cannot be ratified on attainment of majority by the minor. For
example, if a minor of 15 years of age agrees to sell his property after 5 years, he would have to
execute the sale at the age of 20 years, when he is major. However, the earlier agreement being a
nullity and having no existence in the eyes of law, there is in fact nothing to be ratified. In such a
situation the minor will have to enter into a fresh contract of sale of property on attainment of
majority. Ratification relates back to the time when the agreement was made and it is essential for
valid ratification that the original agreement was valid i.e. enforceable by law. Further, if a minor
borrows money during his minority and executes a promissory note in relation to the same debt on
attaining majority, the promissory note is null and void, because at the time when the promissory note
is made, it is without consideration.
4. Non-applicability of principle of estoppel
What would be the consequence if a minor has falsely represented himself as major and
induced another person to enter into agreement? How does the law deal with, especially, the benefits
received by the minor on account of such wilful misrepresentation?
The principle of law of evidence which is applicable to such representation under other cases
is known as ‘principle of estoppel.’ This principle states that, ‘where one person has, by his declaration,
act or omission, intentionally caused or permitted another person to believe a thing to be true and to
act upon such belief, neither he or his representatives shall be allowed, in any suit or proceedings
between himself and such person or his representative, to deny the truth of that thing.’
The principle of estoppel is based on the rule that no one shall be allowed to take the benefit of
his own wrong. For example, A represents himself to B as agent of C and this representation is
made by A in the presence and within the hearing of C who does not deny. The fact is that the
agency of A has been terminated by C few days ago. Here, C, by his silence (omission) induced B
to believe that A is the agent of C. If now B transacts with A on the belief of agency and incurs loss
due to negligence of A, C is liable to compensate B, as if he is the principal of A.
The principle of estoppel is not applicable to minors. Thus, a minor falsely claiming himself to
be major and obtaining a loan from a banker, cannot be compelled to repay the loan and such minor
can always plead minority in defence of non-payment of loan. In other words, a minor is not estopped
from pleading minority to avoid the contractual liability.
The rule of estoppel does not apply to a minor on the ground that if it applied it would give a
handle to dishonest traders to obtain false declaration in writing from the minor that he was a major
at the time of entering into the agreement. At the same time, it must be noted that ‘minors cannot
have a privilege to cheat people.’ Therefore, a minor may be ordered by court to return the benefit
which he has received under such false representation. For example, if a minor fraudulently overstates
his age and takes delivery of a motor car after executing a promissory note in favour of the trader
for its price, the minor is not estopped from pleading minority and can escape liability under the
promissory note. But the court on equitable considerations may order restitution i.e. compel the
minor to return to the trader the car, if it is still with the minor or can be traced.
5. Minor’s liability for necessaries of life
The Contract Act provides that if the necessaries of life are provided to a minor by any person,
such minor is liable to pay for the same out of his property, if any. Thus, if any person provides the
necessaries of life to a minor who is incapable to entering into contract, he can recover the price of
such necessaries from the property of the minor. It should be remembered that it is only the property
of the minor that is liable, and not the minor himself. If the minor who does not pay and also has no
property, then the price of the necessaries cannot be recovered from the minor. What can be called
the necessaries of life for a particular minor is a question of fact. Normally such necessaries include
food, medical treatment, shelter and education. It may also include the cost of defending the minor’s
interests in any civil and criminal proceedings. But it does not include the items of luxury.
6. Position of minor’s parents
An agreement with a minor does not give the creditor any rights against the minor’s parents,
whether the agreement is for necessaries or not. The moral obligation of a father to provide for his
child does not impose on him any liability to pay the debts incurred by the child. The only case where
a parent may be liable is when the child is contracting as an agent for the parent.
7. Other points to be noted

● Minor can be an agent, but he cannot appoint an agent. In other words, a minor cannot be
a principal.
● Minor cannot be adjudged insolvent, because he is incapable of incurring any liability.
● In the case of joint contract with minor along with an adult, it is the adult who is solely
liable for the contractual obligations. If a minor and an adult jointly contract to purchase any
property, the seller could enforce the contract against the adult.
● A minor cannot be a shareholder of any Company. However, fully paid up shares can be
transmitted to him.
● If an adult is surety for the loan taken by a minor, the adult is liable under the contract
though the minor is not, because the contract between the surety and creditor is an independent
contract. Of course, a minor can never be a surety for the loan of another.
(b) Persons of unsound mind

In order to enter into a valid contract, it is also necessary that each party must be of sound
mind. What do we mean by ‘sound mind’? Truly speaking, no definition can be given of sound mind,
or for that matter of unsound mind. However, the Contract Act gives us the definition of a person of
sound mind, but only for the limited purpose of entering into a contract. In other words, a
person who is considered to be of sound mind for the purpose of contracting may not necessarily be
of sound mind for other purposes.
The Contract Act provides: ‘A person is said to be sound mind for the purpose of making a
contract, if, at the time when he makes it, he is capable of understanding it and of forming a rational
judgment as to its effects upon his interests.’
Accordingly, the requirement of the Contract Act is that the person entering into contract must
understand the nature of the contract as a whole and must be in a position to determine whether it is
beneficial or detrimental to his interests. It must be however remembered that what the law
contemplates is the ordinary prudence of an average person. Shrewd and calculating business mind
is not the requirement. Hence, a contact which eventually turns out to be detrimental to a party
cannot be avoided by him on the ground of unsoundness of mind. What needs to be seen is whether
the contracting party stood a reasonable chance of benefiting from the contract or not. It must be
noted that burden of proving unsoundness of mind is on the person who wishes to deny the contract
on the ground of his unsound mind.
A person, who is usually of unsound mind, but occasionally of sound mind, may make a contract
when he is of sound mind. Similarly, a person who is usually of sound mind, but occasionally of
unsound mind may not make a contract when he is of unsound mind.
Unsoundness of mind may be due to Idiocy, lunacy or insanity. It may be on account of
drunkenness or extreme old age. When any party to a contract seeks to set aside the contract on
any of these grounds, he has to prove his disability.
An agreement entered into by a person of unsound mind stands on the footing as that of
minor’s and hence it is absolutely void and not enforceable by law. If such person has derived any
benefit out of the agreement, he cannot be compelled to restore the same to the other party. However,
the property of a person of unsound mind is liable for the necessaries supplied to him, as in the case
of minor.
(c) Persons disqualified to contract
The third category of persons who are not competent to contract are those who are disqualified
from contracting by any law to which they are subject.
The following persons are disqualified to enter into contract under certain circumstances as
explained below:
1. Alien enemies.
Alien is a person who is a citizen of a foreign country living in India. He is an alien enemy when
his country is at war with India. (Alien friend is a foreigner whose country is at peace with India.)
An alien living in India usually has full contractual capacity. On the declaration of war between his
country and the Union of India he becomes an alien enemy, and cannot enter into contracts during
the subsistence of the war, except by licence from Central Government. Contracts made before the
war between an alien enemy and an India citizen are suspended for the duration of war and are
revived after the war is over, provided they have not already become time-barred.
2. Foreign sovereigns and ambassadors.
Foreign sovereigns and ambassadors are not disqualified from contracting. Such persons are
fully competent to contract, however they enjoy certain privileges and therefore one has to be vary
careful while entering into contracts with them. While they cannot be prosecuted in our Courts
except with the prior permission of the Central Government, they can prosecute and enforce contracts
in our Courts.
3. Convicts
He is a person who has been found guilty by a competent court in India and sentenced to
imprisonment. During the imprisonment, convicts are not competent to contract. They cannot even
file suits on contracts made before imprisonment, when they are imprisoned. When such person
gains freedom after being released, he becomes competent to contract and also to institute suits on
earlier contracts. The period of limitation stops running against him during the period when he is in
prison.
4. Companies and other legal or artificial persons.
A Company or a Corporation is a legal or artificial person which has no physical existence.
Such legal persons exist only in the eyes of law as they are created by law. They cannot enter into
contracts the subject matter of which is beyond the scope of their constitution. For example, the
constitution of a Company is its Memorandum of Association, which lays the scope of its activities.
A Company cannot undertake any activity beyond its Memorandum of Association and therefore
cannot enter into contracts relating to such activities. For example, a Company incorporated for
manufacture of automobiles cannot enter into contract for purchasing sugarcanes from cane-
producers. Trusts or Societies are other examples legal persons. Similarly, a Trade union cannot
enter into contract beyond its Rules under the Trade unions Act.
Further, a legal person cannot enter into those personal contracts which can be entered into
only by natural persons, such as contract of personal service, contract of marriage etc.
5. Insolvent.
Insolvent is a person whose total liabilities are more than his assents and who cannot satisfy all
his creditors fully. Unless such person is discharged by the court, he cannot enter into contracts for
sale of his property which is vested in the hands of the Official Receiver appointed by the Court.
Barring contracts of sale of property, such persons are competent to contract.
FREE CONSENT
We have already seen that free consent of all the parties to agreement is essential to the idea
of contract.
The term ‘Consent’ is defined under the Contract Act as –‘two or more persons are said
to consent when they agree on the same thing in the same sense.’ In fact, when such
consent is not there, there is no agreement at all. Agreement involves meeting of minds which is
called ‘consensus ad-idem.’
For a valid contract what is necessary is free consent. The term free consent is defined under
the Contract Act as under:
“Consent is said to be free when it is not caused by –
1. coercion, or
2. undue influence, or
3. misrepresentation, or
4. fraud, or
5. mistake (subject to other provisions of the Contract Act)
Consent is said to be caused when it would not have been given but for the existence of such
coercion, undue influence, misrepresentation, fraud or mistake.”
It means that if the consent of any of the parties to the contract has been obtained by employing
any of the above means, it is not a free consent and therefore there is no contract. The party who
alleges that his consent has been caused by any of the above means must establish that he would not
have given his consent if he had known the truth or if he had not been forced to agree.
What is the consequence if the consent of one party is not free would depend on the nature of
vitiating element involved. If the consent to agreement is brought about by coercion, undue influence,
misrepresentation or fraud, it is not a free consent and the contract is voidable at the option of the
party whose consent was so obtained. On the other hand, if the consent is caused by ‘bilateral
mistake’ as to matter essential to the agreement, the agreement is void. In fact there is no agreement
at all.
Let us discuss these vitiating elements one by one in detail.
Coercion
The term coercion is defined under the Contract Act to mean –”the committing or threatening
to commit any act forbidden by the Indian Penal Code or the unlawful detaining or
threatening to detain, any property, to the prejudice of any person whatever, with the
intention of causing any person to enter into an agreement.”
Coercion thus implies unlawful application of force or pressure in order to induce a person to
give his concurrence or give his consent against his will. The person who is unwilling to enter into an
agreement is forced and pressurized to agree.
For example, during the annual internal audit of a Bank, the auditor notices that the accountant
has used the credit-documents of the Bank in favour of local traders wrongfully to gain fraudulent
benefits from the traders. Though there is no monetary loss caused to the Bank, it is a serious act
of misconduct on the part of Accountant. The Auditor agrees not to report the misconduct to the
superiors only if the accountant sells his 2 acres of land to him at half the market price. Here, the
consent of the accountant is obtained by coercion because the auditor is committing an offence of
“criminal breach trust” forbidden under the Indian Penal Code. In this case, after entering
into contract with the auditor, the accountant may set aside the contract on the ground that his
consent was not free and that it was induced by coercion.
Similarly, where A threatens to shoot B unless he sells his house to C and B agrees, the consent
of B is obtained by coercion. Here, A is threatening to commit an act forbidden by the Indian
Penal Code.
The following points may be noted in this context:
● Indian Penal Code may not be applicable at the place where coercion takes place, yet the
consent is vitiated by coercion.
● Coercion need not necessarily proceed from a party to the contract. It may proceed from
any person. Similarly, it may be directed against any person and not necessarily against a
party to the contract. What is important is that the consent of one party is obtained by use of
coercion.
● The term ‘forbidden under Indian Penal Code’ is a wider term than ‘punishable under Indian
Penal Code.’ Therefore, where the consent of a party is obtained by ‘threat of committing
suicide’, the consent is vitiated by coercion. The acts of committing suicide or threatening to
commit suicide are not punishable under the Indian Penal Code for obvious reasons, but
such acts are forbidden under the Code.
A litigant decided to replace his advocate engaged in a very important trial. The advocate
refused to return the original documents in his custody pertaining to the case unless 50% extra fees
were paid. Any such agreement between the litigant and his advocate in this case is hit by coercion
and the litigant can later set aside the contract, as it involves unlawful detaining of any property.
Effect of coercion
When consent to an agreement is obtained by coercion, the agreement is a contract voidable at
the option of the party whose consent was so caused. (For the nature of voidable contract, refer to
chapter 1) In other words, the party whose consent is induced by coercion may either set aside the
contract or may affirm the agreement and insist on the performance. Obviously, the second option
will be chosen by the party only when the contract is beneficial to him in spite of coercion. If,
however, the party chooses to rescind the contract, he must restore the benefits which he may have
received under the contract. The burden of proof to establish coercion lies on the party who wants
to set aside the contract on the ground of coercion.
Undue influence
The definition of undue influence under the Contract Act is reproduced below:
1. A contract is said to be induced by ‘undue influence’ where the relations subsisting between
the parties are such that one of the parties is in a position to dominate the will of the other
and uses that position to obtain unfair advantage over the other.
2. In particular and without prejudice to the generality of the foregoing principle, a person is
deemed to be in a position to dominate the will of another –
(a) where he holds a real or apparent authority over the other or where he stands in
fiduciary relation to the other; or
(b) where he makes a contract with a person whose mental capacity is temporarily or
permanently affected by reason of age, illness, or mental or bodily distress.
3. Where a person, who is in a position to dominate the will of another, enters into a contract
with him, and the transaction appears, on the face of it, or on the evidence adduced, to be
unconscionable, the burden of proving that such contract was not induced by undue influence
shall lie upon the person in the position to dominate the will of the other.
In order to set aside a contract on the ground of undue influence, the following two points need
to be independently established:
1. One party is in a position to dominate the will of another; and
2. He actually used that position to obtain an unfair advantage over the other
Generally, a person is considered to be in a position to dominate the will of another when –
● Where he holds a real or apparent authority over the other – for example the relationship
between master and servant, police officer and accused;
● Where he stands in a fiduciary relation to the other – for example advocate and client,
doctor and patient, trustee and beneficiary etc. (Fiduciary relation means a relation of trust
and confidence in each other)
● Where he makes a contract with a person whose mental capacity is temporarily or
permanently affected – owing to extreme old age, illness or mental or bodily distress.
Thus, undue influence is a kind of moral coercion. It negatively affects the free will of one and
compels him to do what is against his desire, which he would not have done if left to his own
judgment. The following examples may be noted:
1. A needy borrower executed a mortgage deed in favour of a moneylender to sell the mortgaged
property to the moneylender at a shockingly low price, if he made a default in repayment.
This contract may be set aside by the borrower on the ground of undue influence.
2. A’s son has forged B’s name to a promissory note. B, under threat of prosecuting A’s son,
obtains a bond from A for the amount of the forged note. If B sues on this bond, the court
may set aside the bond.
Unconscionable transactions
When a person, without being fraudulent, forces another to enter into an agreement by making
an unconscientions use of his superior power he is said to have made an ‘unconscionable bargain.’
Obviously, such a bargain is voidable. These are the transactions where one of the contracting
parties is in a dominant position and makes an exorbitant profit of the other’s distress.
However, it must be noted that the burden of proving undue influence is on the party who
alleges the same. There cannot be any presumption of undue influence in every contract where one
party gains unusually high profits.
For example, A applies to a banker for a loan at the time when there is stringency in the money
market. The banker declines to make the loan except at an unusually high rate of interest. A accepts
the loan on these terms. This is a transaction in the ordinary course of business and the contract is
not induced by undue influence.
Effect of undue influence
When consent to an agreement is caused by undue influence, the agreement is a contract
voidable at the option of the party whose consent was so caused. Any such contract may be set
aside either absolutely or, if the party who was entitled to avoid it has received any benefit thereunder,
upon such terms and conditions as the court may deem just and equitable.
Distinction between Coercion and Undue Influence.
Coercion Undue Influence

1. The consent of the aggrieved party is 1. The consent is induced by dominating the
obtained by committing or threatening to will of the aggrieved party. The acts done
commit an act, which is forbidden by Indian to dominate the will of the other may not
Penal Code. be punishable under I.P.C.
2. It is mainly physical in nature in the sense 2. It is mainly emotional in nature in the sense
that physical force is used and it implies that moral force or mental pressure in used.
violence.
3. It is forceful and implies wickedness. 3. It is subtitle in character. The means
adopted are similar to immoral persuasion.
Misrepresentation
When any statement is made regarding any fact or state of affairs, it is a representation. When
such representation is false, or is not correct, it is mis-statement or misrepresentation. Such
misrepresentation may be either innocent or deliberate. In the ordinary sense, therefore, the term
misrepresentation refers to both innocent misrepresentation as well as dishonest
misrepresentation.
In law of contract, when any mis-statement made innocently it is called ‘Misrepresentation’
and when it is made deliberately or with the intention to deceive, it is called ‘Fraud’.
According to Contract Act, Misrepresentation means and includes –
(a) The positive assertion, in a manner not warranted by the information of the person making it,
of that which is not true, though he believes it to be true; or
(b) Any breach of duty which, without an intent to deceive, gains an advantage to the person
committing it, or any one claiming under him, by misleading another to his prejudice or to the
prejudice of any one claiming under him; or
(c) Causing, however innocently, a party to an agreement, to make a mistake as to the substance
of the thing which is the subject of the agreement.
Thus, misrepresentation takes place in the following three cases:
(a) There must be assertion and it must be false. When a person makes any statement
without having sufficient grounds to support the truthfulness of the statement, though he may himself
believe that it is true, it is a misrepresentation.
For example, where B intends to purchase land of A and A says to B that his land produces 50
quintals of wheat per acre. Based on the statement of A, B purchases the land and later realizes
that the land produced only 30 quintals of wheat per acre. This is misrepresentation.
It may be noted that mere expression of opinion or salesmanship talk cannot be tantamount to
misrepresentation. For example, where a person selling his horse claims that his horse is the best in
the world, it is obvious that he does not have any grounds to substantiate his statement. These are
mere words of praise and no prospective buyer with average prudence shall ever make a decision to
purchase the horse solely on the basis of such claim. Therefore, the buyer of the horse cannot set
aside the contract on the ground of misrepresentation, claiming that the horse was not the best in the
world.
(b) Breach of duty which brings an advantage to the person committing it by misleading
the other. When a true statement made by a person subsequently becomes false due to change in
circumstances, it is the duty of the person making such statement to bring the change to the notice
of the person to whom the statement was made, before he acts on such statement. If he does not
discharge this obligation, he shall be guilty of misrepresentation.
For example, A has been issued a licence to run a college canteen for a period 5 years which
business he desires to sell to B. During the negotiations A informs B about the period of licence and
his daily sale in the canteen which is about ` 30,000/-. Both the statements are true. While the
negotiations are going on, the college terminates certain courses reducing the number of students as
a result of which the daily sale is reduced to ` 10000/-. However, A fails to inform B about this
development. B is entitled to rescind the contract on the ground of misrepresentation.
(c) Causing other party to make mistake about the subject-matter of the agreement. In a
contract of cooking and selling huge quantity of pure vegetarian food for a function organised by
vegetarian families, the caterer makes a representation that no meat is ever cooked in his restaurant.
However, on certain occasions meat is cooked there. The organisers would not have ordered food
from the restaurant but for the representation. This is a misrepresentation.
From the above discussion, we notice that in order to avoid a contract on the ground
misrepresentation, it is necessary to prove that –
(a) there was a representation or assertion;
(b) such assertion induced the aggrieved party to enter into contract; and
(c) the assertion is not true.
Effects of misrepresentation
The Contract Act provides two options to the party whose consent has been obtained by
misrepresentation. Such aggrieved party may –
(a) either rescind/avoid the contract; or
(b) accept and affirm the contract and insist that he shall be placed in the position in which he
would have been, if the representation made to him had been true.
Fraud
The term ‘Fraud’ includes all acts committed by a person with the intention to deceive another
person. The definition of fraud given under the Contract Act is reproduced below.
Fraud means and includes any of the following acts committed by a party to a contract, or with
his connivance, or by his agent, with intent to deceive another thereto or his agent, or to induce him
to enter into the contract:
1. the suggestion, as a fact, of that which is not true, by one who does not believe it to be true;
2. the active concealment of a fact by one having knowledge or belief of the fact;
3. a promise made without any intention of performing it;
4. an other act fitted to deceive;
5. any such act or omission as the law specially declares to be fraudulent.
Explanation:
1. When a person makes a suggestion or representation to another regarding something and at
the time of making such suggestion he himself does not believe it to be true, it is fraud. For
example, when a coaching class for accountancy expressly states to the students desirous
of taking admission that all its teachers are chartered accountants, while none of them, in
fact, is, it is fraud.
2. When the students inform the management of the coaching class that they are taking admission
on the assumption that all its teachers are chartered accountants and the management
observes silence, it is a case of fraud, if the faculties are not chartered accountants. Here,
the management of the class has not made any claim about the qualifications of the teachers,
yet they are guilty of fraud because they have not spoken when it was their duty to speak.
It is thus fraudulent silence. The students can avoid the contract.
3. A promise made without any intention of performing it is fraud. Whether a person intends to
perform his promise or not is a question of fact. Therefore, such intention (or its absence) is
to be gathered from the prevailing circumstances. For example, when a person makes a
purchase of goods on credit, without disclosing the fact that insolvency proceedings are
pending and that he has no source of income are the circumstances sufficient to infer that
he is making a promise without any intention of performing it.
4. “Any other act fitted to deceive” is a clause which makes the list of fraudulent acts complete
and exhaustive. The other clauses refer the acts of fraud with some specificity and hence
their extent is, in a way, limited. This clause refers to an unlimited range of acts, not referred
to in other clauses, but which have a fraudulent purpose behind them. Since it is impossible
to list all the fraudulent acts, this clause covers all those left uncovered by other clauses.
5. While Contract Act speaks about the fraudulent acts generally, some other laws declare
certain acts of be fraudulent in nature. The last clause deals with them. For example, law of
insurance requires full and absolute disclosure by the person who proposes to be insured.
Any non-disclosure, whether accidental or otherwise, is considered fraudulent.
Effect of fraud
The party who has been induced to enter into a contract by fraud has the following remedies
against the party guilty of fraud:
1. He can rescind/avoid the contract;
2. He can affirm the contract and insist on the performance on the condition that he shall be
put in the position in which he would have been, if the presentation made had been true;
3. He can sue the guilty party for damages, if any. For example, if an unsound horse is sold by
fraud, the buyer can sue for damages for any injury suffered by him due to horse-riding.
Distinction between fraud and misrepresentation
We have seen earlier that the difference between fraud and misrepresentation is rather subtle.
Wilful misrepresentation is fraud. The distinction between the two is as follows:
1. Misrepresentation is innocent and without any intention to deceive the other party, while
fraud implies such intention. Fraud is deliberate and wilful.
2. The party whose consent has been obtained by misrepresentation has a right to rescind or
avoid the contract, whereas in fraud, in addition to the right to rescind the contract, the
aggrieved party has a right to claim damages, if any.
3. If the party alleging misrepresentation had the means to discover the truth by ordinary
diligence, he cannot avoid the contract. But in fraud in spite of availability of such means,
the contract is voidable at the option of the defrauded party.
Mistake
A mistake is a belief based on or resulting from a misunderstanding or faulty judgment. It is an
action or judgment that is misguided or wrong. In other words, it is an erroneous belief about something.
When a person has specific design or purpose in mind for entering into any agreement, but the
purpose stipulated in the agreement is contrary, there is no will of the party entering into agreement.
It is an error in consensus and hence there is no true agreement. The parties may formally enter into
an agreement but there is no meeting of minds. Law therefore treats such agreements as void, i.e.,
not enforceable by law.
Mistake can be of two kinds:
1. Mistake of law
2. Mistake of fact
Mistake of law
Mistake of law again can be of two kinds; (a) mistake of law of the land, or (b) mistake of
foreign law. Every one is required to know the law of the land and therefore it is said that ignorance
of law in no excuse. Thus, if a person makes a written promise to his creditor to pay a time-barred
debt being ignorant about the law of limitation, he cannot later seek to avoid the contract on the
ground that he did not know the law. He has to pay the time-bared debt now that he has promised to
pay. (though he was under no obligation to pay before making the promise.) As for the mistake of
foreign law, it stands on the same footing as mistake of fact. Mistake of fact is explained in the
ensuing discussion.
Mistake of fact
Mistake of fact can again be of two kinds:
1. Bilateral mistake
2. Unilateral mistake
Bilateral mistake
Bilateral means on the part of both the parties. When both the parties to an agreement are
under a mistake as to a matter of fact, essential to agreement, the agreement is void. It must be
noted that to make the agreement void on the ground of mistake of fact, the mistake must be on the
part of both the parties and it must be as to a matter of fact essential to the agreement. It must be a
mutual mistake so as to negate consensus ad idem.
For example, A, who has two cars x and y, offers to sell car x, and B not aware that A has two
cars and under the impression that car y is being offered, accepts the offer. Here there is no real
consent and therefore the agreement is void.
The Contract Act further lays down that in order to make the agreement void the mistake must
relate to some fact and not to judgment or opinion. Which types of bilateral mistakes affect the
validity of agreements is a question of fact. Based on judicial rulings, some of them can be stated as
follows.
(a) Mistake as to identity of the subject-matter; where the seller has different goods in
mind and the buyer has assumed otherwise.
(b) Mistake as to existence of the subject-matter; where the goods are destroyed (no
longer in existence) at the time of agreement without the knowledge of both parties.
For example, in an agreement for sale of a house, both parties are ignorant that the house is
destroyed in fire at the time of agreement.
(c) Mistake as to the quantity of the subject-matter; if both the parties are working under
a mistake as to the quantity of the subject-matter, the agreement is void.
(d) Mistake as to quality of the subject-matter; if there is a mutual mistake of both the
parties as to the quality of the subject-matter, that is, if the subject-matter is something
essentially different from what the parties believed it to be, the agreement is void.
Unilateral mistake
A unilateral mistake is one where only one of the parties to the agreement is under mistake as
to a matter of fact. As regards the effect of unilateral mistake, the Contract Act provides that – ‘a
contract is not voidable merely because it was caused by one of the parties to it being under a
mistake as to a matter of fact.’
A contracts to rent a house from B for a monthly rent of ` 10,000/- while the going rate of rent
in the same locality for a similar house is only ` 5000/- p.m. Here, A cannot avoid the contract on the
ground of mistake as it was for him to exercise due diligence and care before entering into contract.
It is a unilateral mistake on the part of A and he has to only blame himself for his own negligence.
Thus, a contract remains valid even if it is founded on unilateral mistake unless such mistake is
caused by the other party by fraud or misrepresentation. If the mistake is so caused, the contract is
voidable at the option of the aggrieved party.
As a general rule, a unilateral mistake cannot affect the validity of contract. However, there
are certain exceptional circumstances where even a unilateral mistake can make an agreement
void. Some of them are discussed below.
Mistake as to the identity of person contracted with, where such identity is the purpose
of the agreement. For example, A, who is a regular customer of certain food articles from B who
runs his business as “B and sons”, places his order without the knowledge of the fact that the
business has been sold by B to C. B is a person trusted by A for supply of wholesome food items and
known for his hygienic practices in preparation of food. Without disclosing the fact of change over
of business, C accepts the order. Subsequently, on coming to know that the goods would now be
supplied by C, and not by B, A seeks to cancel the agreement. C claims that it is unilateral mistake
on the part A. Here, A can cancel the agreement as it is based on mistake as to identity of person
contracted with and such identity is important for the contract.
Mistake as to the nature and character of a written document. The second exceptional
circumstance where even a unilateral mistake may make an agreement void is when a party puts his
signature on a formal written agreement under a mistake as to the nature and character of the
document.
For example, a Guarantor signs a suretyship-bond with banker in relation to loan taken by his
friend. The bond contains a clause that the guarantor, within a month, shall keep a term-deposit with
the bank for ` 1 lac, and on failure, shall pay to the bank a monthly charge of ` 500/-. If the
guarantor does not intend to keep such term-deposit with the bank, it is a unilateral mistake on his
part in signing the bond and as a rule he cannot now avoid the obligation. However, it is a unilateral
mistake as to the nature and character of the document and the mind of the signature- maker did not
go with the signature, and hence the agreement (as far as it relates to term-deposit) is void.
LEGALITY OF OBJECT
We have seen in the first chapter that one of the essential elements of contract is lawful object
and consideration. An agreement may have been made with perfect compliance of all the legal
formalities and yet it may not be a contract, if the object of the agreement is unlawful. As a result,
such agreement is void and not enforceable by law.
The term ‘unlawful’ does not necessarily mean ‘punishable’ under the criminal law.
What considerations and objects are unlawful?
The Contract Act provides that the consideration or object of an agreement is lawful, unless –
1. It is forbidden by law; or
2. Is of such nature that, if permitted, it would defeat the provisions of any law; or
3. Is fraudulent; or
4. Involves or implies injury to the person or property of another; or
5. The Court regards it as immoral, or opposed to public policy.
Let us discuss these clauses one by one with examples.
1. If it is forbidden by law. A promise to do an act which is punishable under the criminal law
of the country is obviously forbidden by law. Further, certain legislations may prohibit certain kinds
of transactions, with or without prescribing any punishment for the same. An agreement which
contemplates such promise is forbidden by law and therefore void.
Example:
● A promises to pay to B ` 50,000/- if B gets him employment in public service though A is
not otherwise qualified for the post. The agreement is void as it is for unlawful consideration.
● A, a drunken driver through negligent driving, causes injury to B’s son. A promises B all the
medical expenses in addition to compensation and B promises not to inform the police. The
agreement is void as the object is unlawful.
2. If it is of such a nature that, if permitted, it would defeat the provisions of any law.
This clause refers to cases where the object or consideration of an agreement is of such a nature
that, though not directly forbidden by law, it would indirectly result in violation of any law in force.
Example
● An agreement between husband and wife to live separately is void because if permitted
such agreement would defeat the provisions of law on marriage.
● An agreement between an employee who suffers from night-blindness and his employer
under which the employee accepts lesser wages than what is prescribed under law on
minimum wages, to compensate for his disability is void.
3. If it is fraudulent. An agreement whose object or consideration is to defraud others is
unlawful and therefore it is void agreement.
Example
A, a manager of an establishment, agrees to issue a service certificate to B for its submission
to another establishment so as to help B get employment there. B promises to pay ` 5000/- in return.
The purpose of the agreement is to commit fraud and therefore the agreement is void.
4. If it involves injury to the person or property of another. If the object or consideration
of an agreement is injury to the person or property of another, it is an unlawful agreement and hence
void.
Example
A agrees to pay B a sum of money for writing and publishing a defamatory article against C. A
also agrees to pay the compensation which B may have to pay to C in a suit for defamation brought
by C. The object of the agreement is unlawful as it involves injury to the person of C and therefore
it is a void agreement.
5. If the court regards it as immoral or opposed to public policy.
The terms ‘immoral’ or ‘opposed to public policy’ will always escape every attempt to define
them. No precise definition can ever be presented of these terms. At the most one can give illustrations
of immorality or acts which are opposed to public policy, that too only in a given context. This is so
because what is immoral (or moral) and what is opposed to public policy would always depend on
the value system of a society at a given point of time. These values change with the passage of time
and so do the concepts of morality and immorality. Therefore one has to be very careful in ascertaining
the validity or invalidity of an agreement on the touchstone of immorality or its being opposed to
public policy. Sending a girl-child to school was considered immoral few hundred years ago in many
parts of India. Today, not sending a girl-child to school solely due to her being a girl would be
considered immoral.
It is for this reason that the Contract Act gives discretion to judicial authorities (when it provides:
‘if the court regards…) to decide what is moral or immoral rather than providing any definition of
the terms. Such definition would straitjacket the Courts, making them helpless in discharging their
role effectively. The courts are thus expected to apply the yardstick of the prevailing social values
and adjudicate on the issues.
Again, the terms ‘opposed to public policy’ and ‘immoral’ are not mutually exclusive of each
other. What is immoral is bound to be opposed to public policy and the reverse is also true. It must be
remembered that public policy is not government policy. Government policy is always well-documented
and expressed in precise terms, which is impossible in the case of public policy. Another point worth
noting is that morality (or immorality) is a term broader than legality (or illegality). What is illegal is
also immoral in most cases but the reverse may not be true. For example, smoking in the presence
of parents may be considered immoral, but it is not illegal.
With the help of decided cases, the following agreements can be stated to be immoral or
opposed to public policy.
(a) An agreement between client and his advocate, by which the client agrees to pay certain
percentage of recovery in a recovery of suit filed by the client, is a void agreement being
against the professional code of conduct and hence opposed to public policy.
(b) An agreement between the Mukhia of a village and the management of a nearby hospital
by which the Mukhia is to get commission on the basis of number of patients admitted in
the hospital through him, is opposed to public policy and hence void.
(c) Marriage brokerage agreements whereby the pundit or purohit is promised money for
procuring wife are opposed to public policy and hence void.
(d) An agreement between an employer and his employee whereby the employee on joining his
duties, agrees to serve for a minimum number of years, failing which he would compensate
the employer, is opposed to public policy and hence not enforceable at law.
Effect of the object, which is unlawful in part
When the consideration or object of an agreement is unlawful, the agreement is void and it is
not a contract at all. However, what is the consequence if the object or consideration is partly lawful
and partly unlawful?
The Contract Act provides an answer to this question which is stated below.
● Where persons reciprocally promise firstly to do certain things which are legal and secondly
under specified circumstances, to do certain other things which are illegal, the first set of
promises is a contract, but the second is a void agreement.
Example:
A and B agree that A shall sell B a house for ` 10,000/-, but that if B uses it as a gambling
house, he shall pay A ` 50,000/-. The first set of reciprocal promises, namely, to sell the house and
to pay ` 10,000/- for it, is a contract.
The second set is for an unlawful object, namely, that B may use the house as gambling house,
and is a void agreement.
● If any part of a single consideration for one or more objects, or any one or any part of
any one of several considerations for a single object, is unlawful, the agreement is
void. (i.e. when the illegal part cannot be separated from the legal part)
Example:
A agrees to serve B as his housekeeper and also to live in adultery with him at a fixed salary.
The whole agreement is void. The part of the agreement which relates rendering services as
housekeeper and getting salary cannot be contract because it cannot be ascertained as to what was
due on account of adultery and what was due on account of housekeeping.
Effect of illegal agreements on collateral transactions
In the first chapter of the book we have discussed various kinds of contracts and agreement
wherein we have seen the difference between illegal agreements and unlawful agreements. To
repeat briefly, it may be said that all the transactions which are incidental or collateral to illegal
agreement also carry the stigma of illegality and therefore cannot be contracts. However, in the
case of void agreements, the incidental or collateral transaction do not become void and may be
valid contracts.
Void agreements are those which are not enforceable by law. We have already discussed
certain types of void agreements such as agreement with minors, agreement without consideration,
agreement made under a bilateral mistake of fact essential to the agreement etc. In addition to
these, the Contract Act expressly declares certain agreements to be void.
One of the essential elements of valid contract is that it must not be expressly declared void
under the Contract Act.
The Contract Act expressly declares the following agreement to be void.
1. Agreement in restraint of marriage
An agreement, by which one party undertakes not to marry at all or not to marry a particular
person, for consideration is a void agreement. However, an agreement to marry a particular person
and no one else is a valid contract.
2. Agreement in restraint of trade
It is the constitutional right of every citizen of India to practice any trade or profession of his
choice and therefore Contract Act declares that every agreement by which any one is restrained
from exercising a lawful profession, trade or business of any kind, is to that extent void.
It must be however noted that certain restrictions have been recognised under other statutes
and hence such restrains are valid. For example, Partners’ agreement, by which restraint is put on
the partners not to carry on similar business either during the period when they are partners or after
retirement, or within a specified locality are valid contracts. Similarly, a trader, who sells ‘Goodwill’
along with his business, can be restrained from carrying on a similar business either for a specified
period or for specified local limits.
3. Agreement in restraint of legal proceedings

An agreement by which a person is restricted absolutely from enforcing his rights under any
contract by usual legal proceedings, or an agreement, by which the time available to a person to
initiate legal proceedings under Limitation Act is shortened, is a void agreement. However, an
arbitration agreement between two or more persons to refer their disputes to arbitration is valid.
4. Agreement the meaning of which is not certain
Agreement the meaning of which is not certain, or capable of being made certain, is void. An
agreement to sell a house for a good price is void because what is a good price is not certain.
5. Agreement by way of wager
The term wager means a bet and wagering agreements are nothing but betting agreements.
Where a person stands to win or lose depending on happening or non-happening of an uncertain
event and where none of the parties are interested in the event itself, but only in the stake put in the
agreement, it is a wagering agreement and it is void. However, the Lottery and horse races authorized
by Government are exceptions.
6. Agreement contingent on impossible events
Contingent agreements to do or not to do anything, if an impossible event happens, are void
whether the impossibility of the event is known to the parties at the time of the agreement or not. A
agrees to pay ` 100/- to B if two parallel lines meet. It is a void agreement.
7. Agreement to do impossible acts
An agreement to do an act impossible in itself is void. A agrees for money to make alive the
wife of B who is dead is a void agreement.
CONTINGENT CONTRACT
In chapter 1 we have discussed various types of contracts. One such type of contract is
contingent contract. It is proposed to explain the nature of contingent contracts with little more
elaboration and hence the discussion of contingent contract is included in this separate chapter.
The Contract Act defines a contingent contract as –‘a contract to do or not do something, if
some event, collateral to such contract does or does not happen.’ Thus, it is a contract where the
promisor is required to perform his obligation under the contract, only if certain event, which is
collateral to and stipulated in the contract, takes place or does not take place.
For example, A contracts to sell 100 quintals of wheat to B for ` 50000/- if the ship by which
the wheat is being transported returns safely.
In this contract, the liability of A to sell the wheat arises only if the ship returns safely. If it does not,
there is no obligation on the part of A. If A agrees to sell 100 quintals of wheat to B for ` 50000/-, it is a
simple and ordinary contract. It is also an absolute contract, because its performance is not dependent
on any event. It is unconditional.
Similarly, where A promises to pay ` 50000/- to B, if a certain ship does not return safely, the
liability of A arises only when certain event (safe return of the ship) does not happen.
A contract may be (a) absolute or unconditional or (b) conditional or contingent. A contract is
absolute or unconditional where the promisor is bound to perform his part in any event. It is
conditional or contingent when the performance of the promisor is necessary only on happening or
non-happening of certain future event which is collateral to the contract.
Contracts of insurance, contracts of indemnity and contracts of guarantee are all
contingent contracts.
What is a collateral event?
What distinguishes a simple or absolute contract from a contingent contract is the collateral
event on which the performance of the promisor depends. A contract where performance by one
party is conditional upon the performance, or readiness and willingness to perform by the other, is
conditional, but not contingent.
A collateral event means an event which is neither a performance directly promised as part of
the contract, nor the whole of the consideration for a promise.
If A agrees to deliver 100 bags of wheat and B agrees to pay the price only after delivery, the
obligation of B to pay is conditional upon A’s delivering the wheat, but this is not a contingent
contract because the event on which B’s liability depends is a part of the promise itself (or a pre-
condition) and not a collateral event. Also, if A offers a reward for the recovery of his lost dog, it
is not a contingent contract. In fact, there is no contract at all until someone acts on the offer, finds
the dog and brings it to A. Similarly, a contract to pay a person for construction work on the condition
that he will not be paid till the whole work is done, is not a contingent contract.
Essentials of contingent contract
It can be seen from the above discussion that the following two conditions are essential for a
contingent contract.
1. The performance promised under the contract depends on the happening or non-happening
of some future event; and
2. The future uncertain event is collateral (or incidental) to the contract.
Rules regarding performance of contingent contracts
1. Contingent contracts to do or not to do anything, if an uncertain future event happens,
cannot be enforced by law unless and until that event has happened. If that event becomes
impossible, such contracts become void. For example, A contracts to pay B a sum of
money when B marries C. C dies without being married to B. The contract becomes void.
2. Contingent contracts to do or not to do anything, if an uncertain future event does not
happen, can be enforced by law when the happening of that event becomes impossible,
and not before. For example, A agrees to pay B a sum of money if a certain ship does not
return. The ship is sunk. The contract can be enforced when the ship sinks.
3. If a contract is contingent upon how a person will act at an unspecified time, the event
shall be considered to become impossible when such person does anything which renders it
impossible that he should so act within any definite time, or otherwise than under further
contingencies. For example, A agrees to ay B a sum of money if B marries C. C marries D.
The marriage of B to C must now be considered impossible, although it is possible that D
may die and that C may afterwards marry B.
4. Contingent contracts to do or not do anything, if a specified uncertain event happens
within a fixed time, becomes void, if, at the expiration of the time fixed, such event has not
happened, or if, before the time fixed, such event becomes impossible. For example, A
promises to pay B a sum of money if a certain ship returns within a year. The contract can
be enforced if the ship returns within the year, and becomes void if the ship is burnt within
the year, or if the ship does not return within the year.
5. Contingent contracts to do or not to do anything, if a specified uncertain event does not
happen within a fixed time, may enforced by law when the time fixed has expired and
such event has not happened, or, before the time fixed has expired, if it becomes certain that
such event will not happen. For example, A promises to B a sum of money if a certain ship
does not return within a year. The contract may be enforced if the ship does not return
within the year, or is burnt within the year.
Difference between contingent contract and wagering agreement
From the forgoing discussion it can be noticed that a wagering agreement is also a contingent
agreement, because the performance depends on happening or not happening of any future event.
One person promising another that he would pay ` 100/- if it rains that day, is an agreement where
the performance depends on whether it would rain or not. Similarly, an Insurance Company promising
compensation to the insured if his house is burnt is also an agreement where the performance
depends on whether the house is burnt or not. The Contract Act prevents a wagering agreement
from being a contract and therefore wagering agreement is a void agreement. The differences
between the two are as follows:
1. A contingent contract is a valid contract but a wagering agreement absolutely void and not
enforceable by law.
2. In a contingent contract the parties have real interest in the occurrence or on-occurrence of
the event e.g. insurable interest in the property insured, but in a wager the parties are not
interested in the occurrence of the event except for the winning or losing the bet amount.
3. In a contingent contract the future uncertain event is merely collateral whereas in a wagering
agreement the uncertain event is the sole determining factor of the agreement.
PERFORMANCE AND DISCHARGE OF CONTRACT

Having discussed how a contract comes into existence, we shall now see how a contract is
discharged. Every contract on coming into being imposes certain obligations and confers certain
rights on the contracting parties. When these rights and obligation come to end or when these rights
and obligations are extinguished, the contract is discharged. A contract may be terminated or discharged
in any of the following ways:
1. By performance – actual or attempted
2. By mutual consent or agreement
3. By subsequent or supervening impossibility or illegality
4. By lapse of time
5. By operation of law
6. By breach of contract
Let us now discuss these modes of discharge of contract one by one in detail.
1. Discharge by performance
The most obvious and normal way of discharge of contract is by performance. When a contract
is duly performed by both the parties to the contract, the contract comes to an end in the most
desirable and happy manner. Nothing more remains to be done by either party or their rights against
each other as also obligations towards each other under the contract are over and terminated.
Performance may be (a) actual performance, or (b) attempted performance or Tender.
Actual performance
When each party does what it undertook to do under the contract within the time and in the
manner prescribed, it is called actual performance of the contract. For example, A agrees to purchase
a car from B for ` 50000/- and promises to pay on delivery of the car. B delivers the car to A at the
specified time and A makes the payment. The contract is discharged as both A and B have discharged
their respective obligations under the contract.
The obligation may be discharged by the promisor himself, or his agent, or legal representative
(unless personal skill of the promisor is involved) or even by a third party on behalf of the promisor.
So far as the performance by a third party is concerned, once such performance is accepted by the
promisee, the promisee has no right against the promisor and the contract stands discharged as
regards the promisor. It must be remembered that the contract must be performed in the manner
and within the time prescribed under the contract. If the time and/or manner of performance is not
stipulated in the contract, then it has to be performed within a reasonable time and in a reasonable
manner. What is reasonable depends on the facts of each case.
Attempted performance
Sometimes it so happens that a person who is bound to perform a promise is willing and actually
offers to perform his promise as per the contract, but the other party does not accept the performance.
Such attempt on the part of one party to the contract is called ‘attempted performance or Tender’.
A valid tender of performance is equal to actual performance and therefore it has the effect of
discharge of contract.
For example, A agrees to paint the house of B on 15th August and B agrees to pay him for the
work. It is also agreed that A should reach B’s house in the morning with his team of workers and
necessary equipments, paints etc. and complete the paining work by the end of the day. A visits B’s
house in the morning of 15th August but finds the house locked all the day. Here, A has attempted to
perform his promise but B has failed to accept the performance. Therefore, the contract is discharged
by attempted performance by A. Now B has to pay A, though A has not painted the house.
Valid tender or offer of performance must satisfy the following conditions:
1. Offer to perform must be unconditional. The offer to perform must not be made subject
to any conditions. In the above example, if A offers to perform provided B arranges lunch
for the workers, it is not a valid tender.
2. Offer to perform must be at proper time and place. An attempt to perform either before
or after the due time for performance (or at other place) is not a valid tender. In the above
example, if A goes to B’s house immediately after midnight of 14th August and offers to
paint the house, it is not the proper time and therefore it is not a valid tender.
3. Offer to perform the whole of the obligation. Thus, if A decides to paint only two rooms
on 15th August and rest of the rooms on other day, it is not an offer to discharge the whole
of the obligation and as such it is not a valid tender.
2. Discharge by mutual consent or agreement
Contract is the result of an agreement between the parties. As one agreement gives rise to a
contract binding the parties, a subsequent agreement between the same parties can free them from
their obligations and the contract stands discharged. It must be remembered that such subsequent
agreement between the parties by which they agree to free each other from the obligations arising
out of earlier contract, is also a contract in the legal sense of the term. Such discharge of contract by
mutual consent or agreement can take place in the following forms:
a. Novation. It occurs when a new contract is substituted for an existing contract. For example,
A has to pay ` 500/- to B and B has to pay `500/- to C. By agreement, C accepts A as his debtor
thus discharging B. This is novation and now under the new contract A has to pay ` 500 to C.
b. Alteration. When a significant and materially important term of an existing contract is
changed by the parties, it may have the effect of giving birth to an altogether new contract. When
the quantum of liability is changed or when the rate of interest is changed, it is alteration.
In novation, there may be a change of parties also while in alteration only the terms of contract
are changed and the parties remain the same.
c. Rescission. To rescind means to cancel. The parties who have agreed to do something for
each other may subsequently decide to cancel the idea. In other words they agree not to bind each
other any longer on the basis of earlier contract. They consent to the non-performance of obligations
of each other. A agrees to sell his house to B by certain date. Before the date, both agree not to go
ahead with the sale and cancel the deal. By virtue of subsequent agreement, earlier contract is
discharged.
d. Remission. Remission is accepting lesser performance than what was contracted. A person,
who has been promised something under a contract, may remit or give up either wholly or in part the
performance of the promise made to him and for this purpose, no consideration is required. For
example, A is indebted to B for ` 5000/-, but agrees to accept ` 4000/- as full and final settlement of
his claim, giving up the balance amount. The promise of B to accept a lesser amount does not
require consideration and such promise a valid contract. Once a party remits or gives up what is due
to him under contract, naturally the contract is discharged.
3. Discharge by subsequent or supervening impossibility or illegality
If the agreement is to do something which is impossible at the time of agreement itself, then
such agreement is void and can never attain the status of contract. However, in certain cases the
performance may be possible at the time of formation of agreement making it a valid contract, but
later it may become impossible for some reasons. This is known as subsequent or supervening
impossibility. In such case the contract becomes void and hence is discharged.
A contract to do an act which, after the contract is made, becomes impossible, or, by reason of
some event which the promisor could not prevent, unlawful, becomes void when the act becomes
impossible or unlawful.
For example, A agrees to sell his house to B for a certain price. Before the sale is executed, the
house is destroyed in fire. The contract is discharged. Note that the subsequent impossibility is
beyond the control of the promisor and it is not self-induced. Similarly, A, a merchant in Maharashtra
agrees to supply a specified quantity of wheat to B, a trader in Gujarat. Subsequent to such contract,
the Maharashtra Government bans the sale of wheat outside Maharashtra due to its scarcity. This
subsequent change of law has rendered the contract impossible to be performed and hence it becomes
void and is discharged. It should be remembered that mere difficulty in performance which was not
known to the promisor at the time of making the contract is not to be equated with impossibility. For
example, a sudden price rise in the raw material or a strike by the workers etc, are not the reasons
for which a party can treat the contract as discharged and free himself from the obligation of
performance.
Further, personal incapacity or death of the promisor would also discharge the contract, provided
the performance of the contract depends on the personal skill or qualifications of the person. For
example, a contract to marry is discharged when one party dies or becomes insane; or a contract by
a painter to paint a picture is discharged when the painter, subsequent to making the contract, loses
his hand in an accident.
4. Discharge by lapse of time
If one party to a contract does not discharge its obligation (or breaks the contract), the other
party gets a right to initiate proceedings against him for appropriate relief. Such action has to be
taken against the guilty party within the time prescribed under the Limitation Act. Different periods
of limitation are prescribed under the Limitation Act for different types of proceedings. For simple
money recovery suits, the period of limitation prescribed is three years from the date of default in
repayment. Thus, for example, where A advances money to B repayable by 31st December, on the
non-repayment by B, A must initiate proceeding against B within a period of three years from 31st
December. If he does not do so, he loses his remedy against B and the money becomes irrecoverable.
A has now no right to recover the money and B has no obligation to repay. As such the contract is
discharged. (Note that discharge of contract is a situation where the rights and obligations of the
parties towards and against each other come to an end.)
5. Discharge by operation of law
A contract is discharged by operation of law when one of the parties to the contract becomes
insolvent. A contract is also discharged when there is any material alteration made in a written
document of contract by one party without the consent of the other. Similarly, when the corresponding
rights and obligations under the contract get consolidated or merged in the same person, the
contract is discharged. For example, where a person issues a bearer cheque to another, he has a
contractual liability to arrange for the payment of money mentioned on the cheque. The payee may
transfer the said cheque in favour of another person and such transferee may further transfer the
cheque to yet another person. During the course of circulation, the cheque may come back in the
hands of the original drawer. In such event, the obligation to pay and right to receive vest in the same
person and as such, the contract is discharged.
6. Discharge by breach of contract
When one party to the contract refuses or neglects to discharge its obligation under the contract
or conveys its unwillingness to discharge the obligation, by words or conduct, he commits breach of
contract. Breach of contract brings an end to the obligations created under the contract and the
contract as such is discharged. Of course, the other party now has the right to take action against
the party at default, but the contract is discharged.
Breach of contract may be of two kinds: (a) Actual breach; and (b) Anticipatory breach.
Actual breach of contract
Actual breach occurs when a party fails to perform his obligation at the time fixed for
performance. For example, if the contract provides for delivery of goods by a particular day and the
goods are not delivered by that day, actual breach of contract takes place. Thus, there cannot be any
‘actual breach of contract’ by non-performance, so long as the time for performance has not arrived.
It is only when the time for performance has arrived and the party required to perform does not
perform that ‘actual breach of contract’ occurs.
Anticipatory breach of contract
The Contract Act provides that –‘when a party to a contract has refused to perform, or disabled
himself from performing, his promise in its entirety, the promisee may put an end to the contract,
unless he has signified, by words or conduct, his acquiescence in its continuance.’
Thus, as the title itself suggests, anticipatory breach of contract is an anticipation that breach of
contract will invariably occur and this anticipation is made obviously before the time for performance
has arrived. When one party to the contract communicates to the other party, before the time for
performance has arrived, that he shall not perform his obligation at the appointed time; or when one
party has placed itself in such a position that it shall be impossible to perform its obligation when it
becomes due, anticipatory breach of contract takes place.
It can be in the express form where a party communicates to the other party, before the due
date of performance, his intention not to perform it. For example, A contracts to sell 100 quintals of
wheat to B on 31st December. On 1st December A informs B that he will not supply the wheat as
agreed. Implied form is by conduct of one of the parties. Here a party by his own voluntary act
disables himself from performing the contract. For example, A agrees to sell a house to B on 31st
December, but sells the same house to C on 1st December.
Effect of anticipatory breach of contract
When there is an anticipatory breach of contract by one party, the other party is excused from
performance. The other party has now an option by which:
(a) He may either treat the contract as rescinded and sue the other party for damages for
breach of contract immediately without waiting till the due date of performance, or
(b) He may treat the contract as still operative and binding and wait for the time of performance
and then hold the other party responsible for the consequences of his non-performance. In
other words, he keeps the contract alive so that if the other party, on second thought, wishes
to perform the promise, the opportunity is still available.
For example, A agrees to sell 100 quintals of wheat to B who is a trader from another state, on
31 December. On 1st December, he informs B that that he will not be able to sell the wheat. This
st
is an anticipatory breach of contract. Two courses are now open to B: (i) he may treat the contract
as rescinded and at once sue A for damages, or (ii) he may wait till 31st December and if by then
wheat is not sold and delivered, sue A for damages. (If B takes the second course, A has the
advantage of subsequent impossibility, if at all any taking place. Thus, if the Government bans the
sale of wheat on 15th December, A can take advantage of supervening impossibility and B cannot
recover any damages from A.)
QUASI-CONTRACTS
Every contract is the result of an agreement, which agreement is based on an offer made by
one person and accepted by another person. But in some cases there is no offer, no acceptance, and
in fact no agreement as such at all and yet, in the eyes of law there is exists a contract between two
parties binding them under contractual obligations. In other words, law creates a contractual relation
between two parties who never had any intention of entering into contract with each other. Such
contracts are known as ‘quasi-contracts.’
The Contract Act does not use the term ‘quasi-contract’; instead it uses the expression, ‘certain
relations resembling those created by contracts.’ Thus, the term quasi contract refers to those
contractual relations among the parties, which arise not out of an agreement, in the accepted sense
of the word, but out of a peculiar circumstance where law imposes obligations on the parties, as if
they have entered into contract with each other and have incurred obligations.
Let us take a simple example, at this juncture, to understand the nature of quasi contract. A
person finds goods on the road belonging to another. Is he entitled to keep them with himself and
enjoy the benefits of the same? The Contract Act declares such person as Bailee, i.e. the person
who has been entrusted with the goods and who is expected to return the goods at a specified time.
The law assumes that there is a contractual relation between the person who has lost the goods and
the person who has found them. The finder of the goods is under obligation to return the goods to
true owner and the owner is under obligation to pay the expenses, if any to the finder of the goods
for the maintenance of the goods. The Contract Act assumes that there is, thus, a contract between
the finder of the goods and the person who has lost the goods and this contract is called ‘quasi-
contract’. The relations existing between these two persons are the relations resembling those
created under a contract.
It may be noted that for a breach of quasi contract, the aggrieved party can sue the other
party in the same was as in the case of an ordinary, usual contract.
The obligations arising out of such quasi-contracts, as provided under the Contract Act are
discussed below one by one.
1. Claim for necessaries supplied to a person incapable of contracting or on
his account.
If a person incapable of entering into a contract (because of minority or insanity), or any one
whom he is legally bound to support, is supplied by another person with necessaries suited to his
conditions in life, the person who has furnished such supplies is entitled to be reimbursed from the
property of such incapable person. (We have already studied this in our discussion on Agreement
with minors.)
Agreement with a minor or mad or lunatic person is not a contract because such person is not
competent to contract. Therefore, if goods or services are supplied to such person, the provider
cannot sue him for the price. However, this situation is an exception to the rule. The Contract Act
lays down that if the necessaries of life are supplied to such person, then the property of such
person is liable to reimburse the supplier.
For example, A supplies B, a lunatic, with necessaries suitable to his conditions in life. A is
entitled to be reimbursed from B’s property.
Similarly, where A supplies the wife and children of B, a lunatic, with necessaries suitable to
their condition in life, A is entitled to be reimbursed from B’s property.
The following points should be noted in this context:
● There is no personal liability on such person incapable of contracting, but only his property is
liable.
● The things supplied must be ‘the necessaries’. What is necessary for a particular person
with regard to his position in the society is a question of fact.
● The necessaries should be supplied to such person or the person/s whom he is legally bound
to support, such as wife and children.
2. Reimbursement of person paying money due by another, in payment of

which he is interested.
A person, who is interested in the payment of money which another is bound by law to pay, and
who therefore pays it, is entitled to be reimbursed by the other.
For example, A is a tenant in a house property and B is the owner of the property. B fails to pay
the property tax with respect to the said property and hence the Municipal Corporation proposes to
attach the same. A, the tenant pays the tax in order to save the property. Here, law assumes a
contractual obligation on the part of B to reimburse the amount of tax to A, although there is no
contract between A and B.
It can be noticed from this example that – (a) A is interested in making the payment of tax to
protect his own interest and that the payment is not a voluntary one; (b) The payment was such that
B was bound by law to pay.
3. Obligation of person enjoying benefit of non-gratuitous act.
Where a person lawfully does anything for another person, or delivers anything to him, not
intending to do so gratuitously, and such other person enjoys the benefit thereof, the latter is bound
to make compensation to the former in respect of, or to restore, the thing so done or delivered.
In simple words, when one person does anything for another, not by way of charity but expecting
to be paid for the same and the other person does not reject the thing or service though he has an
opportunity to do so, then the latter person must pay for it.
For example, A, a tradesman, leaves goods at B’s house by mistake. B treats the goods as his
own. He is bound to pay for them. (Alternatively, B must restore or return the goods to A, charging
A for expenses, if any, in keeping custody of goods.)
But take an example where A saves B’s property from fire. A is not entitled to compensation
from B if the circumstances show that he intended to act gratuitously.
4. Responsibility of finder of goods
A person, who finds goods belonging to another and takes them into his custody, is subject to
the same responsibility as a bailee. (Broadly, Bailee is a person who has been entrusted with some
goods by another for some purpose under the condition that the goods shall be returned when the
purpose is accomplished.)
The liability of finder of goods is that he must try to find the true owner of goods and till then
has to take due care of the goods; otherwise he is guilty of criminal mis-appropriation under the
Indian Penal code. The right of finder of goods is that he is entitled to recover from the true owner
all expenses incurred by him in preserving the goods. He can refuse to return the goods till these
expenses are paid. He can sell the goods if they are perishable in nature or where the charges for
preserving the goods amount to two-third of the value of the goods.
5. Liability of person to whom money is paid or thing delivered by mistake or

under coercion.
A person to whom money has been paid, or anything delivered, by mistake or under coercion,
must repay or return it.
For example, A and B jointly owe ` 100/- to C. A alone pays the amount to C, and B, not
knowing this fact, pays ` 100/- to C. Here, C is bound to repay the amount to B. (here the payment
is made under mistake.)
A railway Company refuses to deliver up certain goods to the consignee, except upon the
payment of an illegal charge for carriage. The consignee pays the sum charged in order to obtain the
goods. He is entitled to recover so much of the charge as was illegally excessive. (here the payment
was made under coercion.)
REMEDIES FOR BREACH OF CONTRACT

When a contract is broken, the injured party is entitled to any one or more of the following
reliefs:
1. Rescission of contract
2. Suit for damages
3. Suit upon quantum meruit
4. Suit for specific performance of the contract
5. Suit for injunction.
Let us now discuss these remedies available to injured party one by one in detail.
1. Rescission of contract
To rescind means to cancel. Rescission of contract, therefore, means cancellation of the contract.
It is a remedy available to the injured party against the other party who is guilty for breach of
contract. Rescission of contract absolves the injured party from all its obligations under the contract.
As it takes two to form a contract, similarly it takes two to cancel the contract. When there is
breach of contract, the guilty party may choose to do nothing and be quiet taking no action against
the guilty party. If, however, the injured party wishes to sue the guilty party for compensation for
breach, he has to first file a suit for rescission of contract.
When the contract is rescinded at the hands of the court, the aggrieved party is free from all its
obligations under the contract; and he becomes entitled to compensation from the other party for
any loss sustained by him out of such breach of contract.
Thus, rescission of contract is a relief to the aggrieved party in the form of freedom from his
own obligation under the contract and obtaining to himself the right to claim compensation from the
guilty party for the loss suffered by him on account of breach of contract.
For example, A, a singer, contracts with B, the manager of a theatre, to sing at his theatre for
two nights in every week during the next two months, and B agrees to pay her ` 100 for each night’s
performance. On the sixth night, A wilfully remains absent from the theatre, and B, in consequence,
rescinds the contract. B is entitled to claim compensation for the damage which he has sustained
through the non-fulfilment of the contract.
2. Suit for damages
The term ‘damages’ is not the plural of the term ‘damage’. To damage means to harm or to
cause injury or to cause loss; and the term ‘damages’ means monetary compensation for the damage
or loss. Thus, suit for damages means suit for compensation for the loss sustained by the injured
party on account of breach of contract. It should be remembered that such compensation is not in
the nature of penalty. It is not a punishment awarded to the guilty party for breach of contract. The
Contract Act is a civil law and the object of civil law is to enforce the right, unlike criminal law
whose object is to punish the wrong. Therefore, the object of awarding compensation to the injured
party is not to punish the party at default, but to put the injured party in that position in which he
would have been if the breach had not been committed.
As a general rule, therefore, compensation must be commensurate with the injury or loss
sustained, arising naturally from the breach; if actual loss is not there, no damages would be awarded.
There are different kinds of damages that can be awarded by the Court to the injured party.
They are discussed below one by one.
Ordinary or General damages
When a contract is broken, the aggrieved party can always recover ordinary or general damages
from the guilty party. It is the estimated loss directly and naturally arising from the breach of contract
in the ordinary course of events. They are restricted to the proximate consequences of the breach of
contract. Remote or indirect consequences of breach are not considered.
A leading case of Hadley vs. Baxendale is very relevant here. The owner of a mill delivered a
broken shaft to the defendant, a common carrier to take to a manufacturer, copy it and make a new
one. The carrier delayed delivery of the shaft beyond a reasonable time, as a result of which the mill
was idle for a longer period than necessary. However, the plaintiff, the owner of the mill had not
made it known to the carrier that any delay would result in a loss of profits. In a suit filed by the
plaintiff for compensation, it was held by the Court that the carrier was not liable for loss of profits
during the period of delay. “when two parties have made a contract, which one of them has broken,
the damages which the other party ought to receive in respect of such breach should be either such
as may fairly be considered as arising naturally i.e. according to the usual course of things, from
such breach of contract itself, or such as may reasonably be supposed to have been in the
contemplation of both the parties at the time the contract was entered into as a probable result of the
breach.”
Let us take another example. A contracts to sell and deliver 500 bales of cotton to B on a fixed
day. A knows nothing of B’s mode of conducting his business. A breaks his promise, and B, having
no cotton, is obliged to close his mill. A is not responsible to B for the loss caused to B by the closing
of the mill. B can however claim ordinary damages for the breach of contract.
A contracts to buy B’s ship for ` 60,000/-, but breaks his promise. As a consequence of breach,
B sold the ship in the open market and he could only get ` 52,000/- for the ship. B can recover by
way of compensation ` 8000/- (60000 – 52000), the excess of the contract price over the actual sale
price.
Special damages
Special damages are those resulting from a breach of contract under some peculiar
circumstances. They arise out of a special situation. When a contract is broken, the injured party
may suffer losses which are indirect or remote in nature as compared to those which arise in the
ordinary course of events.
When a person knows, at the time of entering into a contract, about the existence of a special
situation; and that if he breaks the contract it would lead to special loss for the other party, he is
bound to make good such special loss. This is called special damages.
For example, A, a builder, contracts to erect and finish a house by the first of January in order
that B may give possession of it at that time to C, to whom B has contracted to let it. A is informed
of the contract between B and C. A builds the house so badly that, before the first of January, it
falls down, and has to be rebuilt by B, who in consequence loses the rent which he was to have
received from C, and is obliged to make compensation for breach of that contract. A must pay to B
by way of compensation, (a) for the cost of rebuilding the house, (b) for the rent lost, and (c) for the
compensation made to C.
It can be noticed from the above discussion that two conditions must be satisfied before the
injured party can claim special damages from the guilty party. The first is that there must be a
special loss caused to the injured party as a result of breach of contract and secondly, the existence
of such special circumstance must be within the knowledge of the parties at the time of entering
into contract.
Exemplary or Vindictive damages
The object of awarding compensation is not to punish the party who is responsible for breach of
contract. However, exemplary or vindictive damages are awarded with a view to punishing the
guilty party and they are not granted as a rule. In two cases, however, the court may award such
damages, namely, (a) Breach of promise to marry, and (b) Dishonour of cheque of a trader customer
by his banker when there are sufficient funds to the credit of customer to honour the cheque.
In a breach of contract to marry, the amount of damages will depend upon the extent of injury
to the party’s feelings, such as mental agony etc. and in a breach of contract by banker, the amount
of damages will depend on the extent of disrepute caused to the trader customer which in turn
depends upon the status of the party. Interestingly, the norm of measure is – ‘the smaller the cheque,
the greater the damage.’
Nominal damages
As the name suggests, these damages are nominal in nature. They are awarded only for
namesake. When, in a breach of contract by one party, the other party has not suffered any actual
damage and yet the other party wishes to place on record the fact of such breach, such damages are
awarded. These damages are a very small amount of money, say a rupee or two, claimed and
awarded only for the purpose of establishing the right of the injured party.
Liquidated damages and Penalty
Sometimes, the parties may fix, at the time of entering into contract with each other, the amount
of compensation that would be payable in case of breach. This is known as liquidated damages. It is
the requirement of law that such sum, determined by the parties in advance, must be fair and
reasonable, because the law cannot support any penal provision in a contract. In such cases, the
question that often arises is whether the amount of compensation so fixed by the parties in advance
is ‘liquidated damages’ or ‘Penalty’?
The Contract Act very clearly provides on the issue. It states that regardless of what is stipulated
by the parties as amount of compensation payable in case of breach, the Courts shall award only
reasonable compensation, but not exceeding the amount fixed by the parties.
For example, A contracts to sell certain goods worth ` 100/- to B on a specified day and also
agrees to pay ` 500/- by way of compensation if he fails to supply the goods by that day. If A
commits breach of contract, the Court is not bound by the stipulation of the parties and shall award
only those damages which the Court thinks fair and reasonable to cover the real loss suffered by the
injured party. The courts have to only ensure that such damages do not exceed the amount already
fixed by the parties. In the above example, therefore, the court shall award reasonable damages, but
not exceeding ` 500/-.
Rules regarding amount of damages
The rules applicable to the awarding of damages may be summarized as follows:
1. The damages are awarded to compensate the injured party for the loss suffered due to
breach of contract, and not to punish the guilty party.
2. The object is to place the injured party in the same position as if the contract had been
performed.
3. Ordinarily, the injured party can recover by way of compensation only the actual loss suffered
by him.
4. In calculating actual loss, the court will take into account only such loss as may be fairly and
reasonably considered as arising naturally and in usual course of things from breach of
contract.
5. Special or remote damages, i.e. damages not arising naturally from the breach would be
awarded only if they were in contemplation of both the parties at the time of entering into
contract.
6. The fact that damages are difficult to assess cannot be the ground to prevent the injured
party to recover them.
7. Nominal damages may be awarded when there is no actual or real loss arising out of breach.
8. If the parties fix up in advance the sum payable as damages in case of breach of contract,
the court will allow only reasonable compensation so as to cover the actual loss suffered,
not exceeding the amount so stipulated under the contract.
9. Vindictive damages cannot be awarded for breach of contract, except for breach of promise
to marry or against a banker for wrongful dishonour of a cheque.
10. It is the duty of the injured party to minimize the loss as much as possible.
3. Suit upon quantum meruit
The expression ‘quantum meruit’ literally means ‘as much as earned’ or ‘in proportion to the
work done.’ This third remedy is available where a contract, partly performed by one party, has
been discharged by breach of contract by the other party, or when the contract becomes void (or is
discovered to be void).
A party has a right to claim on quantum meruit either without or in addition to claiming damages
for breach of contract. The aggrieved party may claim upon quantum meruit and may claim
remuneration in proportion to work done or goods supplied in the following circumstances:
1. Where the work has been done in furtherance of a contract which is wrongfully terminated
by the other party.
For example, A engages B, a contractor, to construct a building. After a part of the building is
constructed, A terminates the contract and prevents B from constructing further. B is entitled to get
reasonable compensation on quantum meruit in addition to the damages for breach of contract.
2. Where the contract ‘becomes void’ or ‘is discovered void’ after some work has been done
or some goods or services have been supplied.
For example, A contracts to carry out some repairs in the house of B and B agrees to pay A per
repair work so carried out. After some work has been done, the house is destroyed in fire and thus
the contract becomes void and is discharged. A is entitled to compensation on quantum meruit for
the repairs carried out till the destruction of the house.
Let us take another example where a person has been appointed as an employee in a Company
by the Director of the Company. After the employee worked in the Company for some days, it is
discovered that the director had no authority to engage an employee and the appointment was
invalid. His employment was therefore terminated. The employee is now entitled to claim
compensation on quantum meruit for the days worked. This may be in addition to the damages for
breach of contract.
It may be noted that a party who is guilty of breach of contract may also recover compensation
on quantum meruit. For example, a transporter of goods fails to take the goods at the agreed destination
due to breakdown of the vehicle. Thus, it is he who has committed the breach of contract; yet he can
recover compensation on quantum meruit for the distance traveled. However, it is necessary that
the part of distance traveled can be considered as part performance of the contract. In other words,
the contract should be divisible.
4. Suit for specific performance

Instead of or in addition to awarding damages to the injured party, Court may direct the specific
performance of the contract. Specific performance means the actual carrying out by the parties
what they had agreed to do. Thus, where A agrees to sell an ancient painting to B for ` 50,000/- and
later refuses to sell the same, in a suit for specific performance brought by B the court may order A
to specifically discharge his obligation under the contract, namely, to sell the painting to B.
To put in other words, this remedy is granted when the contracts relate to sale of land and
buildings, rare articles or certain unique goods having special value. In such cases, monetary
compensation is not an adequate relief for the injured party.
This relief is not however available for breach of every kind of contract. It is at the discretion
of the court and granted only when the court considers it just and equitable to do so.
The relief of specific performance is not granted in the following cases:
1. Where monetary compensation is an adequate relief; Thus, where a promise to sell
goods is broken and similar goods can be easily procured in the market, this relief is not
granted.
2. Where the Court cannot supervise the execution of the contract; Where a builder refuses
to carry out construction as per contract, the Court shall not grant specific performance
because the Court cannot supervise the actual carrying out of the construction work. (the
injured party may again approach the court with the grievance of inferior construction and
so on, and this will lead to multiplicity of proceedings. Instead, monetary compensation is the
most appropriate and adequate remedy.
3. Where the contract is for personal service; If a singer breaks his contract to sing at a
theatre for a specified period, the Court shall not order the singer to carry out the performance
as agreed, for obvious reasons. If a surgeon, having agreed to perform a surgical operation
on a patient, later declines to do so, it shall be risky for the patient to insist for specific
performance. He ought to be satisfied, instead, with monetary compensation.
4. When one of the parties is not competent to contract; Thus, a minor cannot succeed in an
action for specific performance since he cannot himself be sued for breach of contract.
5. Suit for injunction
Injunction is a mode of securing the specific performance of the negative terms of the contract.
‘Injunction’ is an order of a court restraining a person from doing any particular act. Thus, in a
contract where a person undertakes not to do a particular thing, and breaks the contract by engaging
himself in doing that thing, the other party can get an order of injunction from the court restraining
the guilty party from doing what he had agreed not to do.
For example, A, a singer, agrees to sing at the theatre of B for ten nights in a month and not to
sing anywhere else during that period, B can get an order from the court restraining A from singing
anywhere else during the said period. It shall be thus noticed that injunction is rather a preventive
relief. (Specific performance is not possible here because the contract is of personal nature; and
injunction is meaningless and redundant when the period is over.)
INDEMNITY AND GUARANTEE

This chapter onwards we shall discuss the nature of and the rules governing certain special
contracts. We shall begin our discussion with contracts of indemnity and guarantee. It may be borne
in mind throughout the discussion that all special contracts are primarily contracts and therefore
they are governed by the provisions of Contract Act. As such, they must have all the essential
elements of contract such as competence of parties, free consent, consideration etc.
What is contract of indemnity?
The Contract Act defines it as –‘A contract by which one party promises to save the other
from loss caused to him by the conduct of the promisor himself or by the conduct of any other
person, is called a contract of indemnity.’ The person who indemnifies or promises to make good the
loss is called the ‘Indemnifier’ and the person who has been so promised is called the ‘Indemnified’
or ‘Indemnity holder.’
Where A contracts to indemnify B against the consequences of any prosecution which C may
file against B in respect of a particular disputed matter, there is a contract of indemnity. If the Court
orders B to pay any sum to C, A shall be required to pay that amount to B under this contract of
indemnity. (A is the Indemnifier and B is the indemnity holder.)
In this example we notice that the loss to the indemnity holder is caused by a third party, namely
C. However, as per the definition, such loss may be caused by the Indemnifier or any other person,
including the Indemnified.
Therefore, all insurance contracts are contracts of indemnity.
Contracts of indemnity may be either express or implied. There is an implied contract of indemnity
between the trustee and beneficiary, principal and agent, auctioneer and client etc. The express
contracts are ordinarily entered into by the persons where one person, doing something at the
request of another or in the usual course of business for that other, wishes to save himself from any
possible losses which he may incur in so doing. Thus, where a banker, who is requested by the
widow of the deceased account holder, to release the balance amount in favour of the widow, he
may ask her to execute an indemnity bond (which is a contract of indemnity) by which the widow
undertakes to save the banker against any claims made by other relatives of the deceased.
Rights of indemnity-holder
Broadly speaking, the right of indemnity holder is to recover all the expenses and losses incurred
by him (in respect of the subject matter of indemnity) from the indemnifier.
Thus, in the above example where the banker releases the amount in favour of the widow of
the deceased account-holder, he is entitled to recover all damages which he may be required to pay
in a suit by a third person.
Secondly, he is entitled to recover all costs and expenses reasonably incurred in defending
himself in the suit.
Lastly, he is entitled to recover all amounts which he may have paid by way of compromise
with the third party, provided such compromise was done with the consent of the indemnifier i.e.
widow in this case.
When does the liability of indemnifier commence?
The Contract Act has not stated the time of the commencement of the indemnifier’s liability to
indemnify. Is the indemnity holder entitled to recover the loss from the indemnifier only after having
suffered the loss? Or can the indemnity holder require the indemnifier to step in without waiting for
the loss to actually occur?
In the above example, is the banker supposed to approach the indemnifier for repayment of
money after he has paid the amount to a third party as per the orders of the court or he can require
the indemnifier to step in the moment a suit is filed by any other claimant? The courts in India have
taken the latter view in this regard. Justice Chagla had observed – “It is true that under the English
Law no action could be maintained until actual loss has been incurred. It was very soon realized that
an indemnity might be worth very little indeed if the indemnified could not enforce his indemnity till
he had actually paid the loss.” —— “Indemnity is not necessarily given by repayment after payment.
Indemnity requires that the party to be indemnified shall never be called upon to pay.”
Contract of guarantee
We have seen that in indemnity, one person promises the other to save him from the loss
caused by the conduct of a third person. When such promise is given at the request of such third
person, it is contract of guarantee. Thus, when A promises B that he would repay the loan (given
by B to C) if C does not repay and when such promise is given by A to B at the request of C, it is a
contract of guarantee.
The Contract Act defines the contract of guarantee as – ‘A contract to perform the promise or
discharge the liability of a third person in case of his default.’
Ordinarily, a contract of guarantee is made by a person to help his friend obtain a loan or buy
goods on credit etc. The person who gives such promise is called the ‘ Surety’, the person in whose
respect the guarantee is given is called the ‘Principal debtor’ and the person to whom the guarantee
is given is called the ‘Creditor’. A contract of guarantee can be oral or written.
For example, B advances a loan to C and A promises to B that if C does not repay the loan, A
would repay the same. This is a contract of guarantee where A is the surety, B is the creditor and C
is the principal debtor.
It is worth noting here that the promise of A is given to B at the request of C. If such promise
is given by A without any request from C, it would be a contract of indemnity, and not guarantee.
Like contract of indemnity, a contract of guarantee also must possess all the essential elements
of a contract. Further, it is necessary in a contract of guarantee that there are three parties, namely,
the surety, the creditor and the principal debtor, because without principal debtor there cannot be
any guarantee. The liability of the surety is dependent on the default of the principal debtor. It must
be noted that for a contract of guarantee there must be an existing or future liability which is or will
be enforceable by law. Therefore, a guarantee given for a non-enforceable obligation such as a

time-barred debt is not a valid guarantee. However, a guarantee given in respect of a minor’s debit
stands on a different footing. A minor, being incompetent to contract, cannot incur any contractual
liability and therefore an agreement with minor which imposes any obligation on the minor is a void
agreement, not enforceable by law. But when the debt of minor is guaranteed, there is an independent
and direct contract between the surety and the creditor. In a true sense, it is not a contract of
guarantee. A surety, therefore, can be held liable for minor’s debt, though not by virtue of contract
of guarantee but on account of a separate principal contract between the surety and the creditor.
Consideration for guarantee
We have noted above that like any other contract, a contract of guarantee must also possess all
the essential elements of contract such as free consent, competence to contract. Similarly, it must
have some consideration. The consideration for the creditor and the principal debtor is obvious, but
what is the consideration for the surety? For example, where A guarantees the repayment loan
given by B to C, consideration for B (the creditor) may be the interest on loan, for C it is the
obtaining the loan itself. What is the consideration for A)?
The Contract Act answers the question when it provides that – ‘anything done, or any promise
made, for the benefit of the principal debtor, may be a sufficient consideration to the surety for
giving the guarantee.’
It is the guarantee given by the surety which induces the creditor to do something for the
principal debtor and therefore the credit given by the creditor to the principal debtor at the request of
the surety is the consideration for the surety.
Hence, it is important to note here that a guarantee given for a past debt would be invalid. For
example, A sells and delivers goods to B on credit. C afterwards, without consideration, agrees to
pay for the goods in default of B. The agreement is void and such guarantee cannot be enforced
against C.
Distinction between Indemnity and Guarantee
A contract of Indemnity can be distinguished from a contract of Guarantee on the following
points:
1. In a contract of Indemnity there are two parties – the Indemnifier and the Indemnity-
holder, whereas in a contract of guarantee there are three parties – the creditor, the
principal debtor and the surety.
2. In a contract of indemnity there is only one contract between the indemnifier and the
indemnified, while in a contract of guarantee there are three contracts – one between the
principal debtor and the creditor, the second between the surety and the creditor and the
third between the principal debtor and the surety.
3. In Indemnity, a promisor (indemnifier) is primarily and independently liable to promisee.
In a contract of guarantee, the liability of promisor (surety) is secondary or collateral, i.e.
the surety is liable only when the principal debtor makes default.
4. In the case of a contract of indemnity it is not necessary for the indemnifier to act at the
request of the debtor, whereas in the case of contract of guarantee it is necessary that
the surety should give the guarantee at the request of the debtor.
5. In a contract of guarantee, where the surety discharges the debt payable by the principal
debtor to the creditor, the surety, on such payment, is entitled to proceed against the principal
debtor in his own right, while in a contract of indemnity, the indemnifier cannot sue third
parties in his own name. He must bring the suit in the name of the indemnified. For example,
in an insurance against vehicle-accident, the insurance Company (Indemnifier), after having
paid the Indemnity holder in the event of accident and damage to the insured vehicle, cannot
proceed against the third party for recovery of compensation. If it desires to do so, it has to
prosecute through the indemnified.
6. In the case of guarantee, there is an existing debt or liability, originally with the principal
debtor and which may or may not be shifted to the surety. In Indemnity, there is no existing
obligation. It is merely a contingency.
Nature of surety’s liability
The surety is liable only on default of the principal debtor. So, unless the principal debtor has
made a default, the surety cannot be called upon to pay. The moment the principal debtor makes a
default in discharging his obligation, the surely becomes liable immediately, as if he were the principal
debtor. The surety has no right to ask the creditor to proceed against the principal debtor first. It is
not after exhausting all the remedies against the principal debtor that the creditor can proceed
against the surety, he can do so even without proceeding against the principal debtor. The surety
cannot even demand a notice from the creditor about the default of the principal debtor, because it
is primarily the duty of the surety to ensure that principal debtor discharges his obligation.
The Contract Act provides that the liability of the surety is co-extensive with that of the principal
debtor. In other words, the extent of the liability of surety is the same as that of the principal debtor.
It can be neither more nor less, unless there is a contract to the contrary. It means that by a special
term in the contract the liability can be made less, but never more.
For example, A pays a loan of ` 5000 to B and C guarantees the repayment to the extent of
` 1000/-. On default by B, C is liable only for ` 1000/-.
An important point must always be borne in mind that the contract between the surety and the
creditor is an independent contract, though the liability of the surety arises only on default of the
principal debtor. If the debt becomes time-barred against the principal debtor, the surety may still be
liable if his liability is still alive. For example, A advances a loan to B and C guarantees the repayment
of the same. B makes a default in repayment but A does not take any action against B, as a result of
which the debt has become time-barred. In the meanwhile, in response to claim-notice sent by A, C
makes a part-payment of the loan, thus keeping his liability alive and within the period of limitation.
Now though the debt against B has become time-barred and B is no longer obliged to pay anything
to A, C is still liable to repay the loan to A in entirety. Of course, C can afterwards recover from B
the amount so paid to A.
Continuing guarantee
A guarantee given for a specific transaction or a particular debt is called an ‘ordinary guarantee’
or ‘specific guarantee.’ When it is given for a series of distinct and separable transactions, it is
called ‘continuing guarantee.’ Where A takes a loan from B and C guarantees the repayment, it is a
specific guarantee. It comes to end when the debt is repaid. On the other hand, when A agrees to
supply goods to B on credit whenever required and B agrees to pay and settle his account on
monthly basis, it is a series of transactions. If C guarantees the payment for the goods so purchased
on credit, it is a continuing guarantee.
Revocation of continuing guarantee
A specific guarantee can never be revoked. However, a continuing guarantee can be revoked
at any time but only with respect to future transactions. Such revocation takes place under the
following circumstances:
1. By notice of revocation by surety
A continuing guarantee may, at any time, be revoked by the surety, as to future transactions, by
notice to the creditor. The surety continues to be responsible for the transactions that have taken
place prior to such notice.
2. By the death of the surety
The death of the surety operates, in the absence of any contract to the contrary, as a revocation
of a continuing guarantee, so far as regards future transactions. It is not necessary that the creditor
must have any notice of the death of the surety. The property of surety is not liable if the creditor
allows advances to principal debtor in ignorance of the death of surety.
3. Discharge of surety
As in the case of specific guarantee, in continuing guarantee also the surety is discharged from
his liability under certain circumstances such as variance in terms of contract, loss of security etc.
(these circumstance s are discussed under the heading ‘discharge of surety’)
Rights of surety against the creditor
1. The surety has a right, at the time of payment of debt, to claim from the creditor all the
securities in creditor’s possession which he may have obtained from the principal debtor in respect
of the same debt. These securities may have been obtained by the creditor either at the time of
contract or subsequently, but they must be in respect of the same debt. For example, if the debtor
has mortgaged any property with the creditor as a security for repayment of loan and when the
surety makes the payment on default of the debtor, the surety has a right to get the mortgage
transferred in his name. If the creditor has released any of the securities without the consent and
approval of the surety, the surety is discharged to the extent of the value of the securities so released.
For example, C advances to B, his tenant, ` 2000/- on the guarantee of A. C has also a further
security for the 2000/- rupees by a mortgage of B’s furniture. C cancels the mortgage, B becomes
insolvent, and C sues A on his guarantee. A is discharged from liability to the amount of the value of
the furniture.
2. The surety is also entitled to the benefit of any set-off or counter claim, which the principal
debtor might possess against the creditor in respect of the same transaction. Thus, where a creditor
owes any amount to the debtor in respect of the same transaction, the surety is entitled to deduct
that amount and only pay the balance.
Rights of Surety against the Principal Debtor
1. Where a surety has paid the guaranteed debt on its becoming due, or has performed the
guaranteed duty, on the default of the principal debtor, he is invested with all the rights which
the creditor had against the principal debtor. In other words, the surety steps into the shoes
of the creditor and will be able to exercise as against the principal debtor all those rights and
remedies which could be exercised by the creditor. The surety is subrogated to all
rights which the creditor had against the principal debtor.
2. The surety has a right to claim indemnity from the principal debtor. In every contract of
guarantee there is an implied promise by the principal[al debtor to indemnify the surety; and
the surety is entitled to recover from the principal debtor whatever he has rightfully
under the contract of guarantee. However, if the surety has paid any sum ‘wrongfully’ to
the creditor, the principal debtor is not liable to indemnify.
Another point worth noting here is that the surety has a right to recover only that amount from
principal debtor which he has actually paid to the creditor. Thus, if the surety pays any amount lesser
than stipulated under the guarantee by way of compromise with the creditor, he can claim only that
amount which he has actually paid.
Rights of surety against the co-sureties
Sometimes it may happen that one and the same debt has been guaranteed by two or more
sureties, either jointly or severally. They are called co-sureties and are liable to contribute towards
the payment of the guaranteed debt as per agreement among them. In the absence of any such
agreement, if one of the co-sureties has paid the entire debt, he has a right to contribution from the
other co-sureties.
All the sureties are entitled to share in the benefit of any security or indemnity which any one
of them has obtained from the principal debtor, whether they knew of it or not.
Both the rights mentioned above are subject to the condition that all the co-sureties have
guaranteed one and same debt.
Discharge of Surety
A surety is discharged from his liability under the contract of guarantee under any one of the
following circumstances.
1. Notice of revocation.
We have already seen that a specific guarantee or a guarantee for a single transaction
cannot be revoked at all. However, a continuing guarantee may be revoked at any time by the surety
by giving notice to the creditor. Such revocation operates in respect of future transactions. Of
course, even after revocation, the surety continues to be liable for the transactions prior to the notice
of revocation.
2. Death of surety
The death of surety discharges him from his liability, in case of a continuing guarantee, as
regards the future transactions. The property of the deceased surety is not liable for future transactions,
even if the creditor had no notice of the death of the surety. It must be remembered that in the case
of a specific guarantee, or a guarantee for a single transaction, surety is not discharged even after
his death, and his estate shall be liable, if the principal debtor commits default in repayment of the
debt.
3. Variance in terms of contract
Any variance, made without the surety’s consent in the terms of the contract between the
principal debtor and the creditor, discharges the surety as to transactions subsequent to the variance.
If the terms of the contract of guarantee are altered without the consent of the surety, the surety has
a right to say that the so altered contract is not the one for which he agreed to be surety and
therefore he becomes free from all the obligations.
Let us take an example to understand this often experienced situation. A advances an amount
to B, repayable in monthly installments, for which C is the surety. On request of B but without the
consent of C, A allows B not to pay installments for a consecutive period of six months. This is an
alteration made in the contract which has the effect of discharging the surety from his liability. It is
immaterial whether the alteration is innocent or harmless or even purportedly beneficial for the
surety. If the contract for which the surety is liable is no longer the same, his liability also cannot be
the same.
Let us take another example. A is appointed as Recovery officer for a specified local area on
a fixed salary in a credit cooperative society and B is the surety for the conduct of A. Later, and
without the knowledge or consent of B, A’s area of operation is increased and he is offered a
commission on the recovery amount instead of salary. A commits fraud and the society suffers a
loss. B cannot be held liable because the variance is made without his consent. The defence of the
society that change of duties and remuneration of A has nothing to do with his fraudulent behaviour,
and that he could have committed fraud even otherwise, is no good defence.
To avoid the surety being discharged on account of such alterations in the contract, many
creditors unscrupulously incorporate a clause in the contract of guarantee to the effect that the
surety shall be deemed to have always given his consent to all future variances, if any, made by the
creditor. Courts have taken a strict stand in such matters, holding that such blanket consent obtained
at the time of entering into the contract itself is no valid consent. Consent, to be genuine, must be
obtained at the relevant time, and not in advance.
4. Release or Discharge of principal debtor
The surety is discharged by any contract between the creditor and the principal debtor, by
which the principal debtor is released. Any release of the principal debtor is a release of the surety
also.
Similarly, the surety is also discharged by any act or omission of the creditor, the legal consequence
of which is the discharge of the principal debtor.
For example, A gives a guarantee to C for goods to be supplied by C to B. C supplies goods to

B and afterwards B becomes embarrassed and contracts with his creditors (including C) to assign
to them his property in consideration of their releasing him from their demands. Here B is released
from his debt by the contract with C, and A is discharged from his suretyship.
5. Arrangement by the creditor with principal debtor without surety’s consent.
Where the creditor, without the consent of the surety makes an arrangement with the principal
debtor for composition, or promises to give him time or not to sue him, the surety will be discharged.
However, where there are co-sureties, a release by the creditor of one of them does not
discharge the others; neither does it free the surety so released from his responsibility to the other
sureties.
6. Creditor’s act or omission impairing surety’s eventual remedy
If the creditor does any act which is against the rights of the surety, or omits to do any act
which his duty to the surety requires him to do, and the eventual remedy of the surety himself
against the principal debtor is thereby impaired, the surety is discharged.
For example, B, a ship builder, contracts to build a ship for C for a given sum, to be paid by
instalments as the work reaches certain stages, (the last instalment not to be paid before the completion
of the ship). A becomes surety to C for B’s due performance of the contract. C, without the knowledge
of A pays the last instalment to B. A is discharged by this payment.
Similarly, A puts M as apprentice with B, and gives a guarantee to B for M’s loyalty and
faithfulness. B promises on his part that he will, at least once month, see Minimum make up the
cash. B omits to see this done as promised and M embezzles, i.e. misappropriates cash. A is not
liable to B on his guarantee.
7. Loss of security
If the creditor loses or, without the consent of the surety, parts with the security given to him, at
the time of the contract of guarantee, the surety is discharged from his liability to the extent of the
value of security. However, if the security is lost due to act of God or under the circumstances
beyond the control of the creditor, the surety is not discharged. Thus, if the creditor inadvertently
allows the principal debtor to sell the property which was mortgaged as security for repayment of
loan, the surety is discharged to the extent of value of the property. However, if the mortgaged
property is destroyed in fire, the surety is not discharged.
8. Invalidation of the contract of guarantee
If the contract between the creditor and the surety is invalid for any reason, then the surety is
discharged from the responsibility. A contract of guarantee may become invalid for the reasons such
as misrepresentation or fraud, or when any of the essential elements of contracts is absent. Similarly,
if a surety has given the guarantee only on the condition that some other person would join as co-
surety, and when such other person does not join in, the guarantee is invalid. In a way, it is incorrect to say
that the surety is discharged from liability, because in such cases his liability never comes into effect.
AGENCY
So far we have discussed the contracts entered into by the persons themselves. In practice,
people enter into contracts, not necessarily by themselves, but through someone else. For example,
we engage a broker to buy shares for us, we engage an estate agent to sell or purchase house for us,
and so on. We engage a person to do these things on our behalf and his actions are binding on us.
This act of engaging another person to do any act on our behalf or to represent us to some third
party, by itself, is a contract. It is a contract of agency. The person appointing is called a Principal
and the person so engaged is called an Agent. We shall, in this chapter, discuss the law relating to
agency.
The Contract Act defines the terms Principal and Agent as – ‘An agent is a person employed
to do any act for another or to represent another in dealings with third persons. The person for
whom such act is done, or who is represented, is called the principal’.
The contract which creates the relationship of ‘principal’ and ‘agent’ is called a contract of
agency. For example, where A appoints B to buy some material for his factory, A is the principal, B
is the agent and the contract between the two is agency. If B buys the raw material on credit from
C, then in the eyes of law there is a contractual relationship between A and C and if there is breach
of contract on the part of either of the parties, the other can initiate appropriate proceedings against
him.
It shall be thus seen that an agent is merely a link between his principal and a third party. He
brings his principal and the third party together and establishes a contract between the two; dropping
himself out of the transaction. When you engage a person to sell your flat, he is your agent who finds
a suitable party and enters into contract on your behalf. He thereafter ceases to be any part of the
transaction and the contract binds you and the buyer of the flat, as if you have yourself made the
contract.
The Contract Act provides that – ‘contracts entered into through an agent, and obligations
arising from acts done by an agent, may be enforced in the same manner, and will have the same
legal consequences, as if the contracts had been entered into and the acts done by the principal in
person’.
A buys goods from B, knowing that he is an agent for their sale, but not knowing who the
principal is. B’s principal is the person entitled to claim from A the price of the goods and A cannot,
in a suit by the principal, set off against that claim any debt due to himself from B.
ESSENTIALS OF AGENCY
The essential feature of agency is that one person has the authority to act on behalf of the other
including entering into contract with third persons on behalf of that other. A person giving advice to
another cannot be called an agent. Similarly, a servant merely rendering services to his master is not
an agent. In both the cases, these persons do not have any authority to enter into contract on behalf
of the person by whom they are engaged. To understand the nature of agency, let us now see how
it differs from certain other relations.
Agent and servant

Both agent and servant are the persons engaged by another to do something for that other
person, yet a servant is not an agent. What distinguishes a servant from an agent is that a servant
does not have any authority to bind the master through contracts entered into by him, while the agent
has such authority. If, however, a servant is given such authority, then to that extent he is an agent
of his master. An agent therefore is not a servant, but a servant may be the agent of his master,
depending on the nature of his duties and the authority conferred on him.
Further, a master tells his servant ‘what to do’ and also ‘how to do it’. The subtle difference
therefore is that an agent has discretion as to how to do what he has been told to do, whereas the
servant has to only execute the directions and instructions of his master. Broadly, the contract
between the principal and agent is a contract for services, while the contract between a master
and his servant is a contract of services.
A person can be an agent for many persons at the same time whereas there is limit as to how
many masters a servant can serve.
Agent and contractor
If the touchstone of distinction between ‘agent’ and ‘servant’ is the discretion available to
agent in performing the required task, what then is the distinction between an agent and contractor?
Because just like an agent, a contractor also has discretion to decide ‘how to do’ what he has been
asked to do. Hence in the matter of using discretion, both agent and contractor are similarly placed.
The difference between the two is that a contractor cannot bind his employer in relation to
other persons through the contracts entered into by him, as he does not represent his employer. On
the other hand, an agent represents his principal to the third parties and can bind him in relation to
third persons through the contracts entered into by him with the others. A contractor does not
negotiate with third parties on behalf of his employer whereas the primary purpose of appointment
of an agent is that he should negotiate with third parties and enter into contracts with them on behalf
of his principal.
Who may be a Principal?
Any person who is competent to contract may appoint an agent to act on his behalf and to
represent him to third parties. A person who is minor or lunatic cannot engage an agent and thus
cannot become principal.
Who may be an Agent?
The Contract Act provides that – ‘as between the principal and third persons, any person may
become an agent’. Thus, in order to discharge the functions of an agent it is not necessary that the
person should be competent to contract. Even a person who is a minor or who is of unsound mind
can also become agent of another.
This is so because the agent acts on behalf of this Principal and it is the principal who is liable
to third parties for the acts of agent. It is immaterial whether the agent has contractual capacity or
not, as the act of the agent is the act of the principal, and the agent does not himself enter into
contract. He only brings about a contract between his principal and another person. If the principal
is willing to run the risk, he may appoint even a lunatic as his agent.
The next important question is whether the agreement between a minor agent and his principal
(who is competent to contract) a contract? Where an agent is an adult of sound mind, i.e. competent
to contract, the agreement between agent and his principal is a valid contract and enforceable by
law. As such, for any misconduct on the part of an agent, the principal can sue him for compensation.
But if the agent is a person incompetent to contract, then the principal cannot hold him liable for
misconduct or negligence.
An agent need not have capacity to contract. What he needs is the authority of contract.
Capacity is the status given by law and authority is a status given by agreement between the two
parties. Here, ‘capacity to contract’ must be distinguished from ‘authority to contract’. Capacity
means power to bind oneself, whereas authority means power to bind another. Capacity is a question
of law, whereas authority is a question of fact.
Consideration in Agency
An agency is a contract between the principal and the agent, provided both are competent to
contract. Each has a right to recover compensation from the other for any loss caused due to any
misconduct or negligence. (We have already seen that if an agent is minor, agency is not a contract).
An agent is normally paid remuneration in the form of commission which is his consideration
and the service rendered by him to the principal is the consideration for the principal. What, however,
if no commission is paid or offered? Will it still be a contract in the absence of consideration?
The Contract Act states that – ‘No consideration is necessary to create agency’. In the chapter
on Consideration we have discussed the exceptions to the rule –‘no consideration – no contract’,
i.e. the contracts without consideration. One such exception is contract of agency. Thus, even if the
agent receives no consideration, the agency is a contract. This is so because the agent is merely a
link between the principal and the third parties and the contract that is eventually entered into is
between the principal and the third person.
CREATION OF AGENCY
An agency may be created in any one of the following ways:
Creation of Agency
1) By Express 2) By Implied
3) By Ratification
Agreement Agreement
Agency by
Estoppel
1. Agency by Express Agreement

The most usual mode of creation of agency is by express agreement between the agent and the
principal. In a large number of business transactions, agencies are created by word of mouth. If
such agencies are not recognised, commerce and industry would hardly progress. Both agent and
principal negotiate the scope of agency, the authority of the agent, the consideration, if any, and the
agreement is arrived at. In certain cases, however, the appointment of agent has to be in writing and
also registered with the competent authority. For example, a power of attorney holder is an agent of
the person delegating the power and this grant of power of attorney has to be in writing on a non-
judicial stamp paper and registered as per law. Power of attorney can be either general or particular.
A general power of attorney authorizes the agent to do all the acts on behalf of the principal. On the
other hand, a particular power of attorney authorizes the agent to do a particular act only.
2. Agency by Implied Agreement
As the name suggests, implied agency is to be gathered from the conduct of the parties or is to
be inferred from the circumstances of the case. There is no express agreement between the principal
and the agent. Such agency may in the following forms:
(a) Agency by estoppel;
(b) Agency by holding out;
(c) Agency by necessity;
Let us discuss them one by one.
a. Agency by estoppel
The rule of estoppel may be briefly stated thus: Where a person, by his own words or conduct,
has wilfully led another to believe that certain set of circumstances or facts exist, and that other
person has acted on that belief, he is estopped or precluded from denying the truth of such statements,
although such a state of thing did not in fact exist.
Based on this rule, the Contract Act provides that – ‘when an agent has, without authority, done
acts or incurred obligations to third persons on behalf of his principal, the principal is bound by such
acts or obligations, if he has by his words or conduct induced such third persons to believe that such
acts and obligations were within the scope of agent’s authority’.
Thus, where A tells B in the presence and within the hearing of P that he A is P’s agent and P
does not contradict this statement, and later on B enters into a transaction with A bona fide believing
that A is P’s agent, then P is bound by this transaction, and in a suit between himself and B, he
cannot be permitted to say that A was not his agent, even though A was not, in fact, his agent.
b. Agency by holding out.
Agency by holding out is a part of agency by estoppel, yet there is a distinction between the
two. Agency by estoppel contemplates an omission on the part of the principal to dispel the wrong
belief being formed by another person about the existence of agency. In the case of agency by
holding out, some affirmative action on the part of the principal is required.
A, as a custom, regularly sends B to make credit purchases of raw material from the shop of C,
and later makes the payment on monthly basis. On one occasion, he sends B with money to make a
cash purchase. However, B makes a credit purchase pocketing the money. Here, A must pay for the
goods as the previous dealings justified C in assuming that B was making credit purchase as usual.
Thus, A became liable on the principle that having held out B as his agent on previous occasions, he
became bound by subsequent transaction entered into under similar circumstances.
But where the agent is held out as having only a limited authority to do acts of a particular
category, the principal is not bound by act outside the authority.
AGENCY BY NECESSITY
In certain emergency situations, the law confers upon a person the authority to act on behalf of
another and bind such other person for the acts done by him or hold him responsible for the
consequential obligations arising from such acts. Such situation is obviously not an ordinary situation.
The person so acting is deemed to be an agent in the eyes of law and the other person is deemed to
be the principal.
For example, A finds the house of B on fire. Without any instructions from B, A takes initiative
and sets himself to extinguish the fire. In so doing, though proper care is taken, some damage is
caused to the neighbour’s house. A is an agent of B by necessity and B is liable to compensate the
neighbour for the loss.
Agency by necessity is conferred by law in certain cases, where a person is faced with an
emergency in which the property or interests of another are in imminent danger, and it becomes
necessary in order to preserve the property or interests, to act before the instructions of the owner
can be obtained. The law assumes the consent of the owner to the creation of the relationship of
principal and agent.
To create an agency by necessity, the conditions that must be satisfied are – (a) there should be
a real necessity for acting on behalf of the principal, (b) it should be impossible to communicate with
the principal within the time available, and (c) such agent should act in good faith and in the interest
of the principal.
Such agency arises where the agent exceeds his authority in an emergency. For example,
A instructs B to take 100 kg. of fish from city X to city Y. On the way, the vehicle breaks down and
it is impossible to reach city Y in time. Since the fish is perishable in nature, B decides to sell it in the
local market for whatever price offered. The sale is binding on A because B has acted out of
necessity. Though B has exceeded his authority of agent, such excess is covered by the agency by
necessity.
Further, a wife deserted by her husband, and forced to live separate from him, can pledge
her husband’s credit to buy all necessaries of life according to the position of the husband even
against the wishes of her husband. Her dealings would be binding on the husband.
Similarly, a road carrier of goods acting as a bailee, in the event of an accident or emergency,
may sell or pledge part of the goods in order to raise money to carry out urgent repairs to the vehicle.
Such sale or pledge would be binding on the principal.
3. Agency by Ratification
To ratify means to give formal consent or approval to an act which was originally done without
authority. As a rule, no one can act as an agent of another without the consent of that other person.
The person on whose behalf the act is purportedly done has every right to disown it and deny any
liability arising out of such act. However, he may find such act beneficial to him and therefore
decide to grant approval to it. In other words, he may adopt the transaction as if it was done with his
authority. This is called ratification. The Contract Act provides that –‘where acts are done by one
person on behalf of another, but without his knowledge or authority, he may elect to ratify or to
disown such acts. If he ratifies them, the same effects will follow as if they had been performed by
his authority’.
Such ratification relates back to the date of transaction or the date on which the contract
was entered into by the agent (without authority) and not from the date of ratification itself.
To put it differently, ratification is with retrospective effect. It means that the agency is taken to
have come into existence from the moment the agent acted and from the time when the principal
ratified.
For example, L made an offer to M, the managing director of a Company. M accepted the offer
on the Company’s behalf, although he had no authority to do so. L later gave notice to the Company
that he withdrew the offer. The Company subsequently ratified M’s unauthorised acceptance. As
the ratification dated back to the time of the acceptance, the withdrawal of the offer was inoperative.
(An offer once accepted cannot be withdrawn.)
Ratification may be express or it may be implied by the conduct of the parties.
Ratification has to be of the whole transaction and must be within reasonable time. A
principal cannot ratify a transaction in part. In other words, there cannot be partial adoption and
partial rejection. The principal cannot reject the obligations and accept only the benefits. If he wants
to avail himself of the benefits of the transaction to be ratified, then he must adopt the burden
attached to it also. Further, ratification must be within a reasonable time after the contract by the
agent. Where the time for performance is fixed in the contract, ratification must be within that time.
NATURE AND EXTENT OF AGENT’S AUTHORITY

The authority of an agent is the authority to bind his principal in relation to the third parties. A
principal is bound by the dealings of his agent provided the agent acts within the scope of authority
already determined under the contract of agency and, of course, the authority which the law confers
on every agent. Such authority can be either express or implied. The Contract Act states that an
authority is said to be express when it is given by words spoken or written. An authority is said to be
implied when it is to be inferred from the circumstances of the case, or the ordinary course of
dealings.
As regards the extent of authority, the Contract Act states that an agent, having an authority
to do an act, has authority to do every lawful thing which is necessary in order to do such act. An
agent, having authority to carry on a business, has authority to do every lawful thing necessary for
the purpose, or usually done in the course of conducting such business.
For example, A is employed by B, residing in London, to recover at Mumbai a debt due to B. A
may adopt any legal process necessary for the purpose of recovering the debt, and may give a valid
discharge for the same.
Similarly, A constitutes B his agent to carry on his business of ship-builder. B may purchase
timber and other materials and hire workmen for the purpose of carrying on the business.
In other words, whatever that is done by an agent lawfully in furtherance of the object of the
agency is also covered within the authority of the agent, though for such acts there is no express
authority conferred on the agent.
As regards Agent’s authority in an emergency, the Contract Act provides that an agent
has authority, in an emergency; to do all such acts for the purpose of protecting his principal from
loss as would be done by a person of ordinary prudence, in his own case, under similar circumstances.
For example, an agent appointed for sale of certain goods, also has the authority to have the
goods repaired, if such repairs become necessary.
Delegation of authority
As we know, agency is a contract between two persons whereby one person appoints another
to certain acts on his behalf or to represent him in dealings with third parties. The reason why one
person so appoints another is because he finds the other to possess the necessary expertise and
competence to carry out the task. Obviously, therefore, it is the requirement of agency that the
person so appointed i.e. the agent must perform the obligations and duties by himself.
The Contract Act lays down that – ‘an agent cannot lawfully employ another to perform acts
which he has expressly or impliedly undertaken to perform personally, unless by the ordinary custom
of trade a sub-agent may, or from the nature of the agency, a sub-agent must be employed. Accordingly,
an agent cannot delegate his powers or duties to another without the express authority of the principal,
except in certain cases.
These exceptional cases where an agent can delegate his authority to another, or in other
words, where an agent can appoint a sub-agent are as follows:
When a sub-agent can be appointed
1. Where the principal, expressly or impliedly, consented to such delegation of authority; implied
consent is by the conduct of the principal, e.g. where the principal knows about the appointment
of sub-agent, but does not object to it.
2. Where there is a custom or practice of appointment of sub-agent; e.g. when one is engaged
for running a business, he may appoint a sub-agent for supply of raw material necessary for
the business;
3. When there is an emergency which requires an agent to appoint a sub-agent in order to
carry out the object of agency effectively;
Effect of appointment of sub-agent

A sub agent is defined under the Contract Act as – ‘a person employed by, and acting under the
control of, the original agent in the business of the agency’.
The appointment of a sub-agent is valid or proper if it is made either with the consent of the
principal or under the circumstances mentioned above which necessitate such appointment; otherwise
the appointment is improper or invalid. The effect of appointment of sub-agent and the binding
nature of dealings made by him depend on whether the appointment of sub-agent is proper or
improper.
If the appointment of a sub-agent is proper, the Contract Act provides that the acts of such sub-
agent are binding on the principal as if he was originally appointed by the principal. The agent is
responsible for the acts of the sub-agent and the sub-agent is responsible for his acts to the agent,
but not to the
principal, except in case of fraud or wilful wrong. Thus, in the case of any fraudulent act of
sub-agent, the principal may sue either the agent or the sub-agent.
However, where a sub-agent is appointed improperly i.e. without authority,
the consequences are as follows:
(a) The principal is not liable for the acts of the sub-agent.
(b) The agent is responsible to the principal and also the third parties for the acts of the sub-
agent.
(c) Sub-agent is responsible only to the agent and not to the principal. The principal has no right
to sue the sub-agent even for fraud or wilful wrong. (In the eyes of law, the relation between
the agent and sub-agent is that of principal and agent).
DIFFERENCE BETWEEN SUB-AGENT AND SUBSTITUTED AGENT

At this juncture, it is necessary to understand the difference between a sub-agent and a
substituted agent. We have already seen the nature and features of a sub-agent. As regards a
substituted agent, the Contract Act provides that – ‘when an agent has express or implied authority
of his principal to name another person to act for the principal and the agent names another person
accordingly, such person is not a sub-agent but a substituted agent of the principal in respect of the
business which is entrusted to him’
Thus, an agent merely names the substituted agent at the request of the principal and there is a
direct relationship of agency between the principal and the substituted agent.
For example, A directs B, his solicitor, to sell his estate by auction, and to employ an auctioneer
for the purpose. B names C, an auctioneer, to conduct the sale. C is not a sub-agent, but is A’s agent
for the conduct of the sale.
A authorises B, a merchant in Calcutta, to recover the moneys due to A from C & Co. B
instructs D, a solicitor, to take legal proceedings against C & Co., for the recovery of the money. D
is not a sub-agent but is solicitor of A, and therefore a substituted agent of A.
The Contract Act imposes responsibility on the original agent while appointing a substituted
agent. It lays down that – ‘in selecting such agent for his principal, an agent is bound to exercise the
same amount of discretion as a man of ordinary prudence would exercise in his own case; and, if he
does this, he is not responsible to the principal for the acts of negligence of the agent so selected’.
Therefore, the original agent must select the substituted agent very carefully. If he makes the
selection carelessly, he is liable to the principal for the negligence of the substituted agent.
For example, A instructs B, a merchant, to buy a ship for him. B employs a ship-surveyor of
good reputation to choose a ship for A. The surveyor makes the choice negligently and the ship turns
out to be unseaworthy and is lost. B is not, but the surveyor is, responsible to A. (However, if the ship-
surveyor so selected by the agent is a fresher with little or no experience, B would be responsible to A.)
Similarly, A consigns goods to B, a merchant, for sale. B, in due course, employs an auctioneer
in good credit to sell the goods of A, and allows the auctioneer to receive the proceeds of the sale.
The auctioneer afterwards becomes insolvent without having accounted for the proceeds. B is not
responsible to A for the proceeds. (If, however, the auctioneer selected by B were a person of
doubtful integrity with bad record, B would be responsible to A.)
Kinds of Agents
Agents are of different types. The Contract Act does not state anything about the kinds of
agents. By practice, they can be classified into different categories on the basis of their scope of
authority. The different kinds of agents are briefly explained below:
1. General agent. A general agent is one who is appointed to generally do all the things
incidental to and connected with the business for which he is engaged. For example, a manager of
a business can do all the acts which are generally included in the management of the business. The
principal is bound by all the acts of such agent, provided the acts are ordinarily relevant and necessary
for the business.
2. Special or particular agent. He is appointed for a particular or specific transaction, for
example an agent appointed for selling a house. The authority of such agent is very limited and it
relates to a particular matter only. The principal is not bound by the acts of such agent which are
outside his authority. Such agent may also be appointed for representing the principal in particular
dealings.
3. Mercantile agent. Such agent has the authority to buy and sell the goods of the principal,
or to raise money on the security of the goods in the course of business. The various types of
mercantile agents are:
(a) Factor. He is an agent having authority to sell the goods of principal in his own name. He
can pledge the goods for raising money and he has very wide authority.
(b) Commission agent. Such agent buys or sells goods in his own name on such terms and
conditions which he considers to be in the best interest of the principal. He receives agreed
commission for his services.
(c) Del credere agent. Such agent not only enters into contracts with third persons on behalf of
the principal, but also guarantees the performance of such third persons. Of course he
charges extra for undertaking that the third persons shall discharge their obligations under
the contract. In simple words, such agents act as surety as well.
(d) Broker. He is employed for the purpose of sale of goods of the principal. He does not have
the possession of goods. He simply brings the third persons into contact with the principal
for bargaining. If the deal is finalized, he becomes entitled to his commission, which is called
brokerage.
4. Non-mercantile agent. Such agents include advocates, attorneys, insurance agents, recovery
agents (in certain cases) etc.
Duties of Agent
The duties of an agent towards his principal are as follows:
1. Duty to follow principal’s instructions or customs. The first and most important duty of
every agent is to act within the framework of agency and not exceed the authority given to him. He
has to strictly adhere to the directions given to him by the principal. If, in relation to certain matter,
there are no directions, the agent has to follow the customary norms established in the same kind of
business. If the agent violates this principle and causes any loss to the principal, he must compensate
the principal for the same. At the same time, if any profit is made by the agent by exceeding the
scope of authority, he must account for it to the principal.
For example, A is engaged as agent in carrying on a business for B. It is a custom to invest the
money in hand at interest from time to time. A omits to make such investments. A must make good
to B the interest usually obtained by such investments.
B, a broker, in whose business it is not the custom to sell on credit, sells goods of A on credit to
C, whose credit at the time was very high. G, before making payment, becomes insolvent. B must
make good the loss of A.
2. Skill and diligence required from agent. An agent is bound to conduct the business of
the agency with as much skill as is generally possessed by persons engaged in similar business,
unless the principal has notice of his want of skill. The agent is always bound to act with reasonable
diligence, and to use such skill as he possesses; and to make compensation to his principal in respect
of the direct consequences of his own neglect, want of skill or misconduct, but not in respect of loss
or damage which are indirectly or remotely caused by such neglect, want of skill, or misconduct.
For example, A, an agent for the sale of goods, having authority to sell on credit, sells to B on
credit, without making proper and usual enquiries as to the solvency of B. B, at the time of such sale,
is insolvent. A must make compensation to his principal in respect of any loss thereby sustained.
Similarly, A, an insurance-broker employed by to effect an insurance on a ship, omits to see that
the usual clauses are inserted in the policy. The ship is afterwards is lost. In consequence of the
omission of the clauses, nothing can be recovered from the insurance Company. A is bound to make
good the loss to B.
3. Duty to render accounts. An agent is bound to maintain proper accounts of the principal’s
money or goods and render them to the principal whenever demanded. If he is instructed to submit
the accounts periodically, he must strictly follow the instruction.
4. Duty to communicate. It is the duty of an agent, in cases of difficulty, to use all reasonable
diligence in communicating with his principal, and I seeking to obtain his instructions.
5. Duty not to deal on his own account. The business of agency must be conducted by the
agent on behalf of and in the name of principal only. He must not deal on his own account. If the
agent deals on his own account without the consent of the principal, the principal may repudiate the
transactions, if it can be shown that the transactions have been disadvantageous to him. The principal
can also claim from the agent any benefit which he may have obtained in doing the business on his
own account.
For example, A directs B t sell A’s estate. B buys the estate for himself in the name of C. A, on
discovering that B has bought the estate for himself, may repudiate the sale, if he can show that B
has dishonestly concealed any material fact, or that the sale has been disadvantageous to him.
Similarly, A directs B, his agent, to buy a house for him. B tells A that it cannot be bought, and
buys the house for himself. A may, on discovering that B has bought the house, compel him to sell it
to A at the price he gave for it.
6. Duty to pay sums received for principal. An agent is bound to pay to his principal all
sums received on his account. He must not make any secret profits out of the business of the
agency.
7. Duty on death or insanity of principal. Agency stands terminated on death or insanity of
the principal. Upon termination of agency this way, the agent is bound to take, on behalf of the
representatives of his late principal, all reasonable steps for the protection and preservation of the
interests entrusted to him.
8. Duty not to delegate further. It is the duty of every agent not to appoint any sub-agent or
delegate his authority to another without the consent of his principal or under such circumstances
when law permits him to appoint a sub-agent. He has to carry out the work of agency himself. (This
point is already discussed under the heading ‘when can a sub-agent be appointed’).
Rights of Agent
An agent has the following rights against his principal:
1. Right to receive remuneration. An agent is entitled to receive the remuneration from his
principal, if so stipulated in the contract of agency. Such remuneration becomes due only when the
work of agency is complete. When a particular work is considered to be complete depends on the
terms of the contract. However, if an agent has committed any misconduct in the business of the
agency, he is not entitled to any remuneration in respect of that part of the business which he has
misconducted. In addition, he is liable to compensate the principal for any loss arising out of such
misconduct.
2. Right of retainer.
An agent may receive certain amounts on behalf of the principal during the course of business
of agency. If the agent has incurred any expenses for the conduct of business, or has made any
advances, or if any remuneration is due to him, he can retain the amount, out of such sums received,
to the extent of what is payable to him.
3. Right of lien. Similar to the right of retainer, an agent may also retain goods, papers and
other property, whether movable or immovable, of the principal received by him, until the amount
due to himself for commission, disbursements and services in respect of the same has been paid or
accounted for to him. However, an agent does not have this right if it is expressly waived off in the
contract of agency.
4. Indemnity against consequence of lawful acts. An agent has a right to be indemnified
against the consequences of all lawful acts done by him in the course of business of agency. The
Contract Act provides that –‘The employer of an agent is bound to indemnity him against the
consequences of all lawful acts done by such agent in exercise of the authority conferred upon him.’
For example, B, at Singapore, under instructions from A of Calcutta, contracts with C to deliver
certain goods to him. A does not send the goods and C sues B for breach of contract. B informs A
of the suit, and A authorises him to defend the suit. B defends the suit and is compelled to pay
damages and costs, and incurs expenses. A is liable to pay B for such damages, costs and expenses.
5. Indemnity against consequences of acts done in good faith. An agent has a right to be
indemnified against the consequences of an act done in good faith though it turns out to be injurious
to the rights of third persons. The Contract Act provides that – ‘Where one person employs another
to do an act, and the agent does the act in good faith, the employer is liable to indemnify the agent
against the consequences of that act, though it causes an injury to the rights of third persons’.
For example, B, at the request of A, sells the goods in the possession of A, but which A had no
right to dispose of. B does not know this, and hands over the proceeds of the sale to A. Afterwards
C, the true owner of the goods, sues B and recovers the value of the goods and costs. A is liable to
indemnify B for what he has been compelled to pay to C and for B’s own expenses.
6. Right to compensation. An agent is entitled to compensation from his principal if he
sustains any injury due to the negligence of the principal or lack of skill on the part of the principal.
For example, A employs B as bricklayer in building a house, and puts up the scaffolding himself.
The scaffolding is unskilfully put up, and B is hurt as a consequence. A must make compensation to B.
7. Other rights. The other general rights of an agent include right to appoint a sub-agent, right
to do all the lawful things which are necessary for effectively carrying out the business of agency,
right to use discretion in case of emergency, right to renounce the agency, i.e. to terminate the
agency etc.
Rights and duties of Principal

The rights and duties of an agent are reciprocally the duties and rights of his principal respectively.
The rights and duties of an agent have already been discussed in the foregoing pages. Now we shall
discuss the liability of principal to the third person for the acts done by his agent.
Principal’s liability to third persons for acts of agent
The liability of principal to third persons for the acts of his agent can be discussed under two
headings; one when the agent acts within the scope of his authority, and second when the agent
exceeds the authority conferred on him.
In the former case, i.e. when the agent acts lawfully within the scope of his authority, the
principal is liable to the third persons for the acts of his agent. It is not necessary that act of the agent
is expressly authorised by the principal. For example, when the agent acts in the event of emergency
in the interest of his principal, such acts are binding on the principal. (This has been already discussed.)
In the latter case, i.e. when the acts of agent are beyond the authority conferred on him,
the principal has a choice either to disown such unauthorised acts and repudiate the transactions (if
he finds them detrimental to his interests) or to ratify the same. If he ratifies these acts, he is bound
by those acts and becomes liable to third persons as if he had originally authorised them. If he
chooses to disown them and repudiate the transactions, he is not liable to third persons for such acts.
However, if the transaction is divisible and a part of it can be separated as authorised, the principal
is liable only for the authorised part of the transaction.
For example, A, being the owner of a ship and cargo, authorises B to procure an insurance for
` 4000 on the ship. B procures a policy for ` 4000 on the ship, and another for the like sum on the
cargo. A is bound to pay the premium for the policy on the ship, but not the premium for the policy on
the cargo.
However, where such separation is not possible, the principal may repudiate the whole transaction.
For example, A authorises B t buy sheep for him. B buys 500 sheep and 200 lambs for one sum of
` 6000/-. A may repudiate the whole transaction.
Principal’s liability for agent’s misrepresentation or fraud
The Contract Act provides that – ‘Misrepresentations made, or frauds committed by agents
acting in the course of their business for their principals, have the same effect on agreements made
by such agents as if such misrepresentations or frauds had been made, or committed by the principals;
but misrepresentations made or frauds committed by agents in matters which do not fall within their
authority, do not affect their principals.
We have already seen that an act of agent is binding on the principal, provided the agent has
acted within the scope of his authority. Therefore, if an agent, acting within his authority, has induced
a third person to enter into contract through misrepresentation, it shall be assumed that it is the
principal who is guilty of misrepresentation. For this purpose the law treats the principal and his
agent as one and hence it is immaterial who makes the misrepresentation.
However, the principal is not liable for misrepresentation made or fraud committed by the agent
in matters which do not fall within his authority.
For example, A appoints B as his agent to sell his house. B makes a statement to C, a prospective
buyer that the house was painted with a costly paint just a year ago. The statement is not based on
any valid ground and is therefore misrepresentation. It shall be construed to be the misrepresentation
by the principal himself, because the agent is acting within the scope of his authority.
However, where A appoints B as agent to raise money on his house by a second mortgage and
the agent makes a statement to the third person that the house has not been mortgaged ever before,
the agent is exceeding his authority and the principal is not liable for the fraud committed by the
agent.
Consequence of notice given to agent
Any notice given to, or information obtained by the agent, provided it be given or obtained in the
course of the business transacted by him for the principal, shall, as between the principal and third
parties, have the same legal consequences as if it had been given to or obtained by the principal.
For example, A appoints B as agent to purchase certain property. B decides to buy the property
of C and accordingly publishes a notice in the local newspaper declaring his intention to do so. D
sends a notice to B that he has certain interests in the property. B does not inform A about this and
completes the deal. If the title of C is defective, A cannot be said to be a bona fide purchaser in
good faith, because he shall be deemed to have received the notice sent by D. (though in fact he was
not aware of it.)
TERMINATION OF AGENCY
An agency may be terminated in any of the following ways:
Termination of Agency
By act of Parties By Operation of Law
1) Revocation by Principal 1) Completion of Business

2) Renunciation by Agent 2) Expiry of Time
3) By Agreement 3) Death or Insanity of
Principal or Agent
4) Insolvency of Principal
5) Destruction of the
Subject-matter
6) Dissolution of
Company
1. Termination of agency by act of parties
An agency comes to end by act of parties in the following cases:
(a) Agreement. Agency is a contract between principal and agent like any other contract. As
a contract can be terminated by a subsequent agreement between the parties, agency can
also be terminated by principal and his agent by an agreement. Both principal and agent
arrive at an agreement that the agency need not be continued any further, and thus the
agency stands terminated.
(b) Revocation by the principal. The principal can revoke the authority of his agent at any
point of time and by such act of the principal, the agency is terminated. However, the
following conditions must be satisfied:
a. The agent must not have exercised his authority so as to bind the principal; and b. the
agency must not be irrevocable. (for example, A gives authority to B to sell A’s land
and pay himself, out of the proceeds, the debts due to him from A. A cannot
revoke this authority, nor can it be terminated by his death or insanity.)
Termination of agency by revocation operates with respect to future transactions. The
principal must give reasonable notice to the agent and to third parties. Where the
agency is created for a specified period and the principal revokes the authority before
the expiry of the period, he must compensate the agent for the loss, if any, due to such
revocation
(c) Renunciation by the agent. As the principal can revoke the authority given to his agent,
similarly an agent can renounce the authority given to him and decline to continue to act as
an agent. The agent must give a reasonable notice to the principal of his intention to renounce
the authority; otherwise he shall be liable to compensate the principal for any loss resulting
from such renunciation.
If the agency is for a fixed period, and the agent renounces it without sufficient cause before
the expiry of the period, he shall have to compensate the principal for the resulting loss, if
any.
2. Termination by Operation of Law
An agency comes to end automatically by operation of law in the following circumstances:
(a) Completion of business of agency. An agency automatically comes to end when the
business, for the purpose of which it was created, is completed. When an agent is appointed
to sell a particular property, the agency is automatically terminated when the property is
sold.
(b) Expiry of time. The agency which is created for a fixed term comes to an end on the
expiry of the term, even though the business of agency has not been completed. For example,
where an agent is appointed to manage a hotel business for one year, the agency is terminated
after expiry of one year even if the hotel business continues.
(c) Death or insanity of Principal or agent. On the death of the principal or the agent, the
agency automatically comes to end. The law imposes a responsibility on the agent to take
every reasonable step for the protection of his late principal’s interests when he comes to
know about his death. The same rule is applicable in the event of insanity of the agent or the
principal. However, it may be noted that a person of unsound mind can be initially appointed
as agent.
(d) Insolvency of the principal. Agency comes to end on the insolvency of the principal. The
Contract Act is silent as regards the fete of the agency when the agent becomes insolvent.
However, going by the provisions relating to an agent of unsound mind, it can be argued that
a person who is adjudicated insolvent can function and continue to function as agent.
(e) Destruction of the subject-matter. An agency which has been created with reference to
a particular subject-matter only, shall stand terminated when the subject-matter itself is
destroyed. For example, when agency is created for the sale of a particular house and the
house is destroyed in earth-quake or fire, the agency also will come to an end with the
destruction of the house.
(f) Dissolution of company etc. We have seen above that agency comes to end with the
death of the principal or the agent. Winding up of company or dissolution of a society, etc. is
the death of such legal or artificial persons. Therefore, when the principal or the agent is a
legal person such as a company, the agency comes to end when the existence of such legal
person is terminated, i.e. on dissolution of such person.
When termination becomes effective?
The Contract Act provides that – ‘The termination of the authority of an agent does not, so far
as regards the agent, take effect before it becomes known to him, or, so far as regards third persons,
before it becomes known to them’.
In simple words it means that as between the principal and the agent, termination of agency is
effective only when it comes to the knowledge of the agent, and so fare as third parties are concerned,
it takes effect when it reaches their knowledge. Thus, if the agency is terminated by the principal by
revocation, such termination shall be effective from the time the agent comes to know of the revocation
and not before. Similarly, if the agency is automatically terminated by the death or insanity of the
principal, the termination shall be effective only from the time when the agent comes to know of the
death or insanity of the principal.
As regards the third persons, the termination of agency shall be effective only when the third
persons know of the termination, and not before. Therefore, it is not sufficient for a principal only to
give a notice of revocation to the agent, but he must also give a public notice regarding the fact of
termination of agency.
For example, A directs B to sell goods for him, and agrees to pay five per cent commission on
the price fetched by the goods. A afterwards revokes B’s authority. B after the letter is sent, but
before he receives it, sells the goods for 100 rupees. The sale is binding on A, and B is entitled to five
rupees as his commission.
Irrevocable agency
It is but logical that a person who delegates authority to another to act on his behalf or to
represent him to third persons, can always revoke the authority at his will. Similarly, a principal too
always has a right to terminate the agency at his desire. However, in certain situations this right is
curtailed and the principal cannot terminate the agency by revoking the authority given to the agent.
Such agency is called irrevocable agency. These circumstances are discussed below:
1. Where the agency is coupled with interest. Where the agent has himself an interest in
the property which forms the subject-matter of the agency, the agency cannot, in the absence of an
express contract, be terminated to the prejudice of such interest.
For example, where the debtor appoints his creditor as agent to sell certain goods the proceeds
of which are to be adjusted against the dues payable by the principal to the agent, such agency
cannot be terminated by revocation. Moreover, such agency is not terminated even on the death or
insanity of the principal.
It is so because the agency is created for the protection of interests of the agent who has his
interests in the subject matter of the agency. This principle applies only where the agency is created
for the protection of the interests of the agent. The agency does not become irrevocable if the
interest of the agent in the subject matter arises subsequent to the creation of the agency.
2. Where authority has been partly exercised. The principal cannot revoke the authority
given to his agent after the authority has been partly exercised, so far as regards such acts and
obligations as arise from acts already done in the agency.
Thus, if an agent has, in furtherance of agency, entered into contracts with third persons and
has thereby incurred liability, the principal cannot unilaterally terminate the agency to the prejudice
of the agent.
For example, A authorises B to buy certain goods on account of A and to pay for it out of A’s
money remaining in the B’s hands. B buys the goods in his own name, so as to make himself personally
liable for the price. A cannot revoke B’s authority so far as regards payment for the goods.
UUU
BAILMENT AND PLEDGE 83
2. BAILMENT AND
PLEDGE
WHAT IS BAILMENT?
A Contract of Bailment is the next class special contracts which we are going to discuss now.
The word ‘bailment’ is derived from the French word ‘bailer’ which means ‘to deliver’, but in law it
is used to mean voluntary change of possession from one person to another.
The Contract Act defines bailment as, - ‘Delivery of goods by one person to another for some
purpose, upon a contract that they shall, when the purpose is accomplished, be returned or otherwise
disposed of according to the directions of the person delivering them.’
The person delivering the goods is called the ‘bailor’. The person to whom they are delivered
is called the ‘bailee’. The transaction between them is called the bailment.
The explanation appended to the definition further states that a person already in possession of
the goods of another contracts to hold them as a bailee, he thereby becomes the bailee, and the
owner becomes the bailor of such goods, although they may not have been delivered by way of
bailment.
Some examples of bailment
Before we proceed to discuss the features of contract of bailment and the law governing such
contracts, let us understand the nature of bailment with the help of some examples. We shall thus be
in a better position to understand the relevant legal provisions.
● A’s scooter has some mechanical problem. He takes it to B, a mechanic and leaves it with
him for repairs. B has to return the scooter to A after repairs and A has to pay the services.
This is bailment. A is the bailor and B is the bailee.
● A has a golden chip. He delivers it to a goldsmith for the purpose of making an ornament of
it. The goldsmith has to hand over the ornament to A after being paid the agreed charges.
This is bailment.
● A hires a locker in a bank to keep some ancient coins which he has collected. A has to pay
the hire-charges and the bank has to safely return the coins to him whenever demanded.
This is bailment.
WHAT IS NOT BAILMENT?

● A hands over certain metal articles to his servant for polishing. The servant is directed to
keep them in a cupboard after polishing. The servant is paid a fixed amount of monthly
wages. This is not bailment, because the element of ‘transfer of possession’ is absent.
When one hands over any goods to his servant, they continue to be in his possession only. It
is just like taking out money from one pocket and keeping it in the other. You do not call it a
payment.
● A deposits some amount in a bank which, or any part of which, can be withdrawn at any
time as per the convenience of A. This is not bailment because the bank is under no obligation
to return the same currency notes and/or coins to the depositor.
Essential features of bailment
The analysis of the definition of bailment reveals the following features of bailment:
1. It is a delivery of movable goods by one person to another. Bailment can be only with
respect to movable goods and not immovable property such as land and building. Further,
there has to be a delivery of such movable goods by one person to another. Delivery of
goods by a person to his servant is not a bailment. Delivery can be either actual (handing
over physical possession) or notional, or constructive. Notional or constructive delivery is
where actual physical possession is not, but something is done which has the effect of
handing over of the goods. For example, transfer of title deeds and documents such as
lorry-receipts or railway-receipt, or bill of lading etc. where the transferee, by virtue of
possession of these documents is entitled to get possession of the goods.
2. The goods are delivered for some purpose. There must be some purpose for the transfer
of possession of goods. If there is no purpose, or if the goods are delivered by mistake, there
is obviously no bailment.
3. It is only the possession of the goods that is transferred, not the ownership. In bailment
what is transferred is the possession of goods, from one person to another. It is not the
ownership that is transferred. The bailee, i.e. the transferee does not become the owner of
the goods.
4. Goods are to be returned or disposed of. The goods are delivered by the bailor to the
bailee subject to the condition that when the purpose is fulfilled, the goods shall be returned
to the bailor or disposed of according to the directions of the bailor.
Kinds of bailment
Bailments can be classified into three main categories:
1. For the exclusive benefit of the bailor – e.g. the goods are kept in the safe custody of the
bailee without any compensation to be paid.
2. For the exclusive benefit of the bailee – e.g. a loan of some article for temporary use, such
as lending a pen for writing etc.
3. For the mutual benefit of the bailor and the bailee – This is the most common type of
bailment, e.g. hiring the goods or giving the goods for repairs etc. where the bailor receives
the services and the bailee receives the charges.
Bailments can also be classified as –
1. Gratuitous bailment – where no remuneration is payable either to the bailee or to the
bailor, e.g. where one lends a book to his friend.
2. Non-gratuitous bailment – where either the bailor or the bailee is entitled to remuneration,
e.g. a car given on hire or a scooter given for repairs.
Difference between bailment and sale
Sale of goods is a contract where the ownership of goods is transferred from seller to buyer.
Obviously, the buyer is under no obligation to return the goods. In the case of bailment, it is only the
possession of goods that is transferred from one person (bailor) to another (bailee), and the bailee is
bound to return the goods.
In the case of sale of goods, the consideration in terms of payment of price always moves from
buyer (transferee) to seller (transferor), while in the case of bailment, the consideration in terms of
payment of charges may move from bailor (transferor) to bailee (transferee).
DIFFERENCE BETWEEN BAILMENT AND LICENCE

Under a contract of licence one party is permitted to place his goods in the premises belonging
to the other party. There is no delivery of goods. Normally, the person granting licence to another to
use his premises for keeping goods is not responsible for the safety of goods, unless otherwise
agreed. The bailee is always responsible for safety of goods in his possession.
Duties of Bailee
The bailee, i.e. the person to whom the goods are delivered, has the following duties:
1. Duty to take reasonable care of goods delivered to him. The Contract Act provides
that –‘In all cases of bailment the bailee is bound to take as much care of the goods bailed
to him as a man or ordinary prudence would, under similar circumstances, take of his own
goods of the same bulk, quality and value as the goods bailed’. In other words, the bailee has
to take reasonable care of the goods as if the goods were his own goods. However, if the
goods are damaged or destroyed when they are in possession of the bailee in spite due care
taken by him, i.e. due to reasons beyond the control of the bailee, he is not responsible for
the loss, unless there is a special contract to the contrary between the parties.
2. Duty not to make unauthorised use of goods entrusted to him. The bailee is under a
duty not to use the goods in manner inconsistent with the terms of the bailment. If he does
so, the bailor can terminate the bailment; and if any loss results from the use of the goods for
a purpose other than the one agreed upon or in a manner inconsistent with the agreement,
the bailee becomes responsible for such a loss. For example, if a scooter is given to a
mechanic for repairs, he cannot ride the scooter for his personal work.
3. Duty not to mix goods bailed with his own goods. It is the duty of the bailee to keep the
goods of the bailor separate from his own. If such intermixture of goods is done without the
consent of bailor and the goods so mixed are separable or divisible (such as articles of
furniture), the parties remain the owners of their respective shares, but the cost of separation
or any damage as a result of mixture shall be borne by the bailee.
4. Duty to return the goods. It is the duty of the bailee to return the goods without demand
on the expiry of the time fixed or when the purpose is accomplished. If he does not return or
deliver as directed by the bailor, he becomes liable for any loss, destruction or deterioration
of the goods even without any negligence during the period it is detained.
As regards the return of goods bailed by two or more joint owners, the bailee may return the
goods to any one of them without the consent of other bailors, unless there is a contract that
delivery must be given to all. Further, in the absence of any contract to the contrary, the
bailee must return the profits which may have accrued from the goods. This usually happens
in the case of animals. For example, where a cow is left in the custody of bailee for taking
its care and the cow gets a calf, the bailee is bound to return the cow as well as the calf to
the bailor.
Duties of Bailor
A bailor is a person who delivers the goods. His duties are as follows:
1. Duty to disclose faults in the goods bailed. The first and foremost duty of the bailor is
to disclose the faults in the goods bailed in so far as they are known to him. If he fails to do
so and the defect causes any damage to the bailee, the bailor is liable to pay compensation
for the same. For example, A lends a horse, which he knows to be vicious, to B, without
disclosing this fact. B rides the horse and is thrown off, and is injured. A is responsible to pay
damages to B for the injury sustained.
There is a still responsibility placed on the bailor in the case of non-gratuitous bailment or
bailment for hire (i.e. where the bailor is to receive some charges from the bailee). The
bailor is responsible for any damage to bailee due to defects in the goods, even if he is not
aware of the defects. In the above example, even if the vicious nature of horse is not
known to A, and if B is injured while riding the horse because it is vicious, A is liable to pay
damages to B. Unlike gratuitous bailor, ignorance of the defects is no defence for him.
2. Duty to repay extraordinary expenses. The bailee is responsible for the ordinary and
reasonable expenses of the bailment in the case of gratuitous bailment. Thus, if a car is lent
by a person to his friend for journey, the usual maintenance expenses will be borne by the
friend. However, if there are any extraordinary expenses, the same shall be borne by the
bailor.
In the case of bailment where the goods are to be kept or carried or to have work done upon
them by the bailee for the bailor, and the bailee is to receive no remuneration, it is the duty
of the bailor to repay all the expenses (including ordinary expenses) incurred by the bailee
for the purpose of bailment.
Thus, where a horse is bailed for safe custody and the bailee is to receive ` 100/- per day as
custody charges, the bailor is not liable to repay the bailee the ordinary expenses of feeding
the horse. But if during the bailee’s custody the horse falls ill without any negligence on his
part, the bailor must repay the bailee the medical expenses incurred in connection with the
treatment of the horse, as they are extraordinary expenses.
3. Duty to indemnify bailee. The bailor is bound to indemnify the bailee for any cost or loss
which the bailee may incur because of the defective title of the bailor to the goods bailed.
For example, A and B are neighbors. A lends the horse of B, without his consent, to his
friend C for use. B sues C and C is ordered to pay compensation to B. A is bound to
indemnify C for his losses.
4. Duty to receive goods back when offered. When the purpose of bailment is accomplished
or when its period has expired and when the bailee returns the goods at the proper time, it is
the duty of the bailor to receive the goods back. If he fails to do so, he is liable for all the
expenses which are necessary and incidental to the safe custody of goods.
Rights of bailee
We have discussed above the duties of bailor which are nothing but his obligations towards the
bailee. As such, the duties of the bailor are the rights of the bailee. For example, the bailor has
a duty to disclose the defects in the goods to the bailee, and if he fails to do so thereby causing any
injury to the bailee he has to pay compensation to the bailee. The corresponding right of the bailee is
to recover compensation from the bailor if he suffers any damage due to undisclosed defects in the
goods bailed to him. Similarly, the other rights are – right to claim indemnity, right to claim
reimbursement of expenses etc. In addition to these rights, the bailee’s right of lien is discussed
below.
Bailee’s lien
Right of lien is a right to retain possession of goods belonging to another until certain claim is
settled or charges are paid with respect to the goods. When a piece of cloth is given to a tailor for
stitching a shirt, the tailor has a right to retain the possession of the shirt until the stitching charges
are paid. The right of lien (i.e. right to retain possession of goods) obviously depends on the possession
of goods and therefore this right is lost the moment the possession of goods is lost. As such it is also
called the right of ‘possessory lien.’ Lien may of two types – ‘particular lien’ and ‘general lien.’
Bailee’s particular lien
The Contract Act provides that – ‘where the bailee has, in accordance with the purpose of the
bailment, rendered any service involving the exercise of labour or skill in respect of the goods bailed,
he has, in the absence of a contract to the contrary, a right to retain such goods until he receives due
remuneration for the services he has rendered in respect of them.’
A particular lien is one which is available only against that property in respect of which the skill
and labour are used, and is subject to the following conditions:
1. The bailee must have rendered some service in relation to the thing bailed and must be
entitled to some remuneration for the same, which is not paid;
2. The service rendered by the bailee must be one involving the exercise of labour or skill in
respect of the goods bailed, so as to confer an additional value on the article. So a person
who takes an animal for feeding has no lien, but a veterinary surgeon has.
3. The services must have been rendered in full and in accordance with the instructions of
the bailor. A gives a piece of cloth to a tailor for stitching a suit of it within a week. If B
takes a fortnight to complete the suit, he has no lien.
Bailee’s general lien
A general lien is a right to detain any property belonging to the other in respect of any payment
lawfully due to the person exercising lien. It is the right to retain the property of another for a general
balance of accounts.
● A Banker has a general lien on cash, cheques, bills of exchange etc. of a customer for any
money due to him as a banker. (but if some valuables are kept in the bank’s locker for safe
custody, the banker has no lien over them).
● A Factor is an agent entrusted with the possession of goods for the purpose of sale. He can
exercise his general lien in respect of such goods belonging to the principal until his dues
such as commission etc. are paid by the principal.
● A wharfinger has a general lien on the goods as regards charges due for the use of wharf
against the owner of the goods. Wharf is a level quayside area (metal or stone platform
alongside sea water) to which a ship may be moored to load and unload and wharfinger is
the owner of such area.
So far as the advocates and solicitors are concerned, it should be noted that they do not
have any lien over the papers and documents belonging to client until the fees and other charges
are paid. It has been held in number of cases that it is professional misconduct on the part of
advocate to refuse to give the documents back to the client on the ground that his fees are unpaid.
The Supreme Court has held in the case of RD Saxena vs. Balram Prasad Sharma (AIR – 2000 –
Supreme Court – 2912) that an advocate holding the papers and documents of his client is not a
bailment. The term ‘goods’ used in the Contract Act does not include such papers and documents
because goods means the salable goods. There is no scope of converting the case file of the client
into money nor can be they sold to any third party.
Rights of Bailor
We have seen earlier that the duties of bailor are mostly the rights of bailee. Similarly, the rights
of a bailor correspond to the duties of the bailee. These rights of a bailor based on the duties of a
bailee are briefly stated as follows:
1. Right to claim damages for loss caused to the goods by negligence of the bailee;
2. Right to claim compensation for any damage due to unauthorised use of goods bailed;
3. Right to claim compensation for any loss by unauthorised intermixture of bailed goods with
that of bailee’s.
4. Right to demand the return of goods when bailment period has expired or the purpose of
bailment is accomplished;
5. Right to claim any increase or profits that may have accrued to the goods bailed.
The bailor has also the right to terminate the bailment at any time if, with respect to the goods
bailed, the bailee does any act which is inconsistent with the terms of bailment
In the case of gratuitous bailment, i.e. where the goods are lent without any remuneration, the
bailor can demand the return of the goods even before the term of bailment has not expired or the
purpose is not accomplished. He can do so even when the bailee has well discharged his obligations.
Such bailment is at the pleasure of the bailor. However, if, such premature termination of bailment
causes any loss to the bailee which is in excess of the benefits actually enjoyed by him from the use
of the goods, the bailor must indemnify the bailee for such loss.
Rights of Bailor and Bailee against third parties
Bailee is a person who is entitled to possession of goods during the period of bailment, and as
such the law empowers him with such remedies which the owner has with respect to the goods
bailed. Thus, if a third person wrongfully deprives the bailee of the use or possession of the goods
bailed, or causes any injury to the goods, the bailee can prosecute him for compensation. The bailor,
too, can sue such third party. However, once a suit is filed by one of them, the other cannot file any
suit on the same grounds, because there cannot be double prosecution for similar cause of action.
The compensation so recovered is to be distributed among the bailor and the bailee according to
their respective interests.
For example, a car is lent by a travel-agency to its customer, which is forcefully used by a third
party. Either the agency or the customer can sue the third party for compensation, but not both. If
the agency files the suit and recovers compensation from the wrong-doer, it must hand over the
amount to customer after deducting the rent of the car.
Termination of bailment
A contract of bailment stands terminated under the following circumstances:
1. When the period for which goods were bailed expires, the bailment is terminated.
2. When the purpose for which the goods were bailed is accomplished, the bailment is terminated.
3. If the bailee does any act with regard to the goods bailed which is inconsistent with the
condition of bailment e.g. wrongfully uses them, the bailment may be terminated by the
bailor even though the stipulated period has not expired or the specified purpose has not
been accomplished.
4. A gratuitous bailment can be terminated at any time by the bailor even before the stipulated
period is over or the purpose is achieved, provided if such termination causes any loss to the
bailee in excess of the benefits, the bailor has to compensate for the same.
5. A gratuitous bailment stands terminated on the death of either the bailor or the bailee.
FINDER OF GOODS
We have seen earlier in our discussion on ‘quasi contracts’ i.e. certain relations resembling
those created under a contract, that a finder of goods belonging to another has a contractual obligation
towards the owner of the goods. This contractual obligation in based on the principle that nobody
should be allowed to enrich himself wrongfully at the expense of the other. The Contract Act
provides that a finder of goods belonging to another and takes them in his custody, is subject
to the same responsibility as a bailee.
In other words, if a person finds the goods belonging to another, he has no obligation to take
them in custody. However, if he takes charge of the goods, he does not become the owner of the
goods, but he becomes responsible for the goods just like a bailee in a gratuitous bailment.
Duties of finder of goods
Every finder of goods has the same duties which are imposed on a bailee under gratuitous
bailment. The other duties are:
1. Duty to find the true owner. The finder of goods must make reasonable efforts to find the
true owner of the goods. What is a reasonable effort depends on the facts of each case, i.e.
value of the goods found. Mere shouting for the owner at the place where the goods are
found may be a sufficient search in case goods of little value, whereas an advertisement in
a local newspaper may be necessary in case of valuable goods.
2. Duty to take reasonable care of goods. A finder of goods must take such care of the
goods as a person of average prudence would take of his own goods under similar
circumstances.
Rights of finder of goods
The rights of a finder of goods are as follows:
1. Right to retain possession of the goods until the true owner is found. The ownership
of the goods found in public place vests in the finder who takes charge of them as against
the whole world, except the true owner. Thus, a person who finds a ring on a road and
takes custody of the same, can keep the same with him as if it is his own.
2. Right of lien on the goods for expenses. The finder of goods has a right to retain the
goods with him against the true owner until he receives reasonable compensation for the
trouble and expenses incurred in preserving the goods or finding the true owner.
3. Right to receive reward. If any reward has been offered by the true owner for the return
of the goods lost, the finder can retain the goods with him till the reward is paid to him.
However, it is necessary that he should have known about the reward before he was set to
return the goods.
4. Right of sale. When a thing which is commonly the subject of sale is lost, if the owner
cannot with reasonable diligence be found, or if he refuses, upon demand, to pay the lawful
charges of the finder, the finder may sell it –
● When the thing is in danger of perishing or of losing the greater part of its value; or
● When the lawful charges of the finder, in respect of the thing found, amount to two-
thirds of its value.
PLEDGE OR PAWN
Pledge or pawn is a contract by which an article is deposited with a lender or promisee as
security for the repayment of a loan or performance of promise. The Contract Act defines pledge as
– ‘the bailment of goods as security for payment of a debt or performance of a promise is called
pledge.’ The bailor is called the ‘pawnor’ and the bailee is called the ‘pawnee’.
For example, A borrows ` 1000/- from B and keeps his golden ring as security for repayment
of this borrowed amount. The bailment of ring is called a pledge.
Thus, the possession of goods is given to the Pawnee as a security for payment of debt. Pledge
is a special kind of bailment with a different design. Like bailment, only movable goods can be
pledged. Movable goods include articles, valuables, railway receipts, saving bank pass book etc.
Difference between Bailment and Pledge
Pledge is a special kind of bailment and therefore there are many similarities between the two.
For example, in the both the cases the ownership of goods does not pass from one person to another.
Both relate only to movable goods. However, the following points of difference must be noted:
1. In pledge, the possession of goods is transferred to provide security for repayment of loan
or performance of a promise. A bailment is for a purpose other than these, i.e. for safe
custody, repairs, temporary use etc.
2. The pledgee (i.e.pawnee) has a right to sell the goods pledged after giving notice to the
pledgor (i.e. pawnor), if the pledgor makes a default in repayment of money. No such right
is available to the bailee. He can retain the goods (lien) and sue the bailor for recovery of
dues.
3. The pledgee cannot make any use of the goods pledged with him. Use of goods by the
pledgee can never be the intention of parties in pledge. However, such intention can be
there in the case of bailment.
Rights of Pawnee
1. Right to retain the goods. No property or ownership in the goods passes to the pawnee
when the goods are given in his possession, yet he gets a ‘special property’ to retain the
goods until the payment of the debt, interest on the debt and any other expenses incurred in
respect of the possession or for the preservation of goods are paid to him.
2. Subsequent advances. Goods are pledged as a security at the time and in support of
promise of performance or promise of payment of some debt. The pawnee may make
certain subsequent advances to the pledgor without any further security or pledge. Unless
otherwise agreed between the pawnor and the pawnee, the security by way of pledge of
goods shall also extend to the subsequent advances made by the pawnor. For example, a
pawnee lends ` 1000/- to the pawnor and pawnor pledges his golden ring worth ` 5000/- as
security for repayment. Subsequently, the pawnee lends another ` 1000/- to the same pawnor
without any article being pledged. The pledge of ring shall be deemed to be security for both
the advances, unless there is any contract to the contrary.
3. Right to extraordinary expenses. The pawnee is entitled to receive from the pawnor
extraordinary expenses incurred by him for the preservation of the goods pledged. (He can
sue the pawnor for recovery of such expenses, but cannot retain the goods if these expenses
are not paid by the pawnor.)
4. Right to sell the goods in default by pawnor. If the pawnor makes a default in payment
of debt or performance of promise, the pawnee may –
a. Sue the pawnor for recovery of amount due to him while retaining the goods pledged
as collateral security; or
b. Sell the goods pledged after giving the pawnor a reasonable notice of the sale.
If the proceeds of the sale are not sufficient to satisfy the debt, the pawnee may file a suit
against the pawnor for the recovery of balance. If there is surplus, he must pay it to the pawnor.
Duties of pawnee
We have said that pledge is a special kind of bailment. Therefore, the duties of pawnee are
very much similar to those of a bailee. They are briefly stated as follows:
1. To take as reasonable care of the goods pledged as he would take of his own goods under
similar circumstances;
2. Not to make any use of the goods pledged;
3. Not to mix the goods pledged with his own goods;
4. Not to sell the goods on default without giving reasonable notice to the pawnee;
5. To return the goods pledged on receiving his dues in full;
6. To deliver any accretion or increase in the goods to the pawnor.
Rights of pawnor
The duties of the pawnee are the rights of the pawnor. Thus, a pawnor can enforce all the
duties of pawnee by filing a suit against him, as of right.
Besides these rights, which correspond to the duties of the pawnee, the right of defaulting
pawnor needs a little explanation. The Contract Act provides that – ‘if a time is stipulated for the
payment of the debt, or performance of the promise, for which the pledge is made, and the pawnor
makes default in payment of the debt or performance of the promise at the stipulated time, he may
redeem the goods pledged at any subsequent time before the actual sale of them; but he must, in that
case, pay in addition, any expenses which have arisen from his default.’
Duties of pawnor
The important duties of a pawnor are as follows:
1. To compensate the pawnee for any extraordinary expenses incurred by him;
2. To discharge his obligation as per the terms of the pledge.
Pledge by non-owners
So far we have discussed the provisions relating to pledge where the assumption was that
goods can be pledged only by the owner of the goods. In other words, a pledgor or a pawnor has to
be the owner of the goods pledged. However, under circumstances the law also allows pledge by a
person who is not the owner but is in possession of the goods. Let us now examine these circumstances
as follows.
1. Mercantile agents. A mercantile agent is defined under the Sale of Goods Act to mean –
‘an agent having, in the customary course of business as such agent, authority either to sell
goods, or to consign goods for the purpose of a sale, or to buy goods, or to raise money on
the security of goods.’ Therefore, a mercantile agent is a person not only having mere
possession of goods belonging to another, but is authorized to raise money on the security of
goods. A servant who has been entrusted with the goods does not have the authority to
pledge the goods though he may be in possession of the goods with the consent of the
owner. A mercantile agent, as such, may, in the ordinary course of business, pledge the
goods and such a pledge will bind the owner.
Even in the cases where such agent does not have any authority, pledges the goods, it will
be a valid pledge provided the pawnee does not have any notice that the pawnor had no
such authority and if he acts in good faith.
2. Seller in possession of goods after sale. Sale is a contract where the ownership of the
goods passes from seller to buyer. Thus, after the sale is complete, the seller is no longer the
owner of the goods, but yet he may be in possession of the goods. In such case, he cannot
pledge the goods because he is no longer the owner of the goods. But a pledge created by
him will be valid provided the pawnee acted in good faith and had no notice of the sale of
goods to the buyer.
Similarly, in an Agreement to Sell, where the ownership of goods is yet to pass from seller
to buyer (it passes when the agreement to sell becomes sale), and the buyer who is in
possession of goods, pledges them, it will be a valid pledge. It is necessary, however, that
the pawnee must have acted in good faith and without any notice of the defective title of the
pledgor.
3. Persons in possession under voidable contract. We have already seen during our
discussion on kinds of contracts that a voidable contract is one which can be avoided at the
option of one party but not at the option of the other. A voidable contract can be rescinded
or cancelled by the party at whose option the contract is voidable. If a person has obtained
possession of goods under a voidable contract, he may or may not get title to the goods
depending upon whether the other party rescinds the contract or affirms it. If the party in
possession of goods under voidable contract pledges them, the validity of the pledge will
also depend on rescission of affirmation of the contract by the other party. If the contract is
affirmed by the other party, no defect survives and the pledge shall be valid. However, if the
contract is rescinded, the pledge shall not be valid as if it is a pledge of stolen goods by a
thief.
4. Pledgor having limited interest. When the pawnor is not the owner of the goods, but has
a limited interest in the goods which he pawns, the pledge is valid only to the extent of such
interest. For example, A finds a watch on road and gets it repaired by paying ` 100 as
repairing charges, and then pledges it for ` 500/-. The true owner can recover the watch
only on paying ` 100/- to the pledgee. Here, the interest of pawnor is limited to
` 100/- and the pledge is valid to the extent of ` 10/- only.
5. Co-owner in possession. One of the joint owners in sole possession of goods can make a
valid pledge with the consent of the others.
UUU
PARTNERSHIP 95
3. PARTNERSHIP
The law relating to partnership is to be found in the Partnership Act, 1932. Contract of Partnership
is a special contract. Initially, the law of partnership was a part of Contract Act and sections 239 to
266 of the Contract Act dealt with partnerships. However, the need was felt to pass a separate
legislation on partnership and hence the Partnership Act came into being with effect from 1st October
1932 and sections 239 to 266 were repealed from the Contract Act.
Section 3 of Partnership Act provides that the provisions of the Contract Act shall apply to
every contract of partnership, unless special provisions of Partnership Act override them. In other
words, Partnership Act is a branch of general law of contracts and the provisions of Contract Act
shall continue to apply to partnerships, except so far as they are inconsistent with the express
provisions of Partnership Act.
DEFINITION AND NATURE OF PARTNERSHIP

Partnership is defined under the Partnership Act as – ‘the relation between persons who have
agreed to share the profits of a business carried on by all or any of them acting for all’.
The analysis of the definition given above reveals the following essential features of partnership:
1. Association of two or more persons
It is essential that there must be more than one person to constitute a partnership. A person
cannot be a partner of himself in the business. Such persons must be natural persons who are
competent to contract. (Special position of minor is discussed later.) The Partnership Act is silent as
regards the maximum number of partners. However, the Companies Act lays down the maximum
number at 10 for a partnership carrying on banking business and at 20 for a partnership carrying on
any other business. Therefore, a partnership is illegal if it has more than 20 persons, and, in the case
banking partnership, if it has more than 10 members. Further, if the number of partners is reduced to
one for any reason, e.g. death or insolvency of partners, it is no longer a partnership.
2. Agreement
A partnership can only arise as a result of an agreement between two or more persons, who
are known as partners. Thus, the condition precedent for a partnership is an agreement between the
persons who are desirous of forming themselves into a partnership. Partnership can never be the
result of status or by operation of law as may happen in certain other relations. For example, in the
case of quasi contract there are contractual rights and obligations on the parties though they have
entered into any agreement as such. Similarly, when a sole proprietor of a business dies, a number of
heirs may inherit his business but they cannot be called partners because there is absence of agreement
to form a partnership. Mere co-ownership cannot give rise to partnership. Before partnership can
come into existence there must be an express or implied agreement among co-owners to form a
partnership. The agreement must, of course, possess all the essential elements of contract.
3. Business
It is necessary that there is some business to carry on for a partnership. Therefore, an association
of persons who come together for some social or religious purpose cannot be termed as partnership.
The term ‘Business’, however, is used in the widest sense. It covers every type of enterprise. It is
immaterial whether it consists of a series of operations or is confined to a single venture.
4. Carried on by all or any of them Mutual agency
This is perhaps the most important ingredient of partnership. Mutual agency is the fundamental
principle of partnership. In fact the law of partnership is a branch of general law of agency. Every
partner is both an agent and principal for himself and for others. Each partner is the principal for
other partners, thus bound by the acts of the others, and in turn he is an agent for the others so as to
bind the others by his acts. Every partner who conducts the business of the firm is deemed in law to
be the agent of all the partners. It may be agreed among the partners that only one of them shall
carry on the business, nevertheless such stipulation has no effect on the existence of the partnership.
5. Profit sharing
The agreement to carry on a business must also contemplate sharing of profits by all the
partners. It is at the discretion of the partners to decide as to what shall be the profit sharing ratio of
each partner, but sharing of profits is a must. Therefore, if A carries on business with B and C on the
term that C shall have no share in the profits of the business, then C is not a partner, because his
carrying on business is not for profits. It must be noted that though sharing of profits of a business is
essential, sharing of losses is not. Hence there can be a partnership where a partner has agreed to
share profits only, and not the losses. Further, everyone who shares in the profits of a business is not
necessarily a partner. A manager of a business with a share of profits is an employee of the firm,
and not a partner. This is so because here the element of agency is absent.
‘PARTNERS’, ‘FIRM’ AND ‘FIRM NAME’

The Partnership Act lays down that – ‘persons who have entered into partnership with one
another are called individually ‘partners’ and collectively ‘a firm’, and the name under which their
business is carried on is called the ‘firm name’
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A partnership firm is not a legal entity; it is not an artificial person as is the case of a
Company. “Firm” is only a convenient phrase to refer to the association of two or more persons
who constitute the partnership. For the purposes of determining the rights and obligations, there is no
such thing as a firm known to law. The rights and obligations of a firm are in fact the rights and
obligations of the partners. The partnership firm has no existence separate from its partners.
It is only for the purposes of Income-tax Act that a firm is treated as assessee distinct from the
individual partners who constitute it. Otherwise, it is only a collective description of the partners
together. The firm cannot possess property; therefore it cannot be a debtor or a creditor. The rights
which a partner enjoys and the duties which he owes, are enjoyed against and owed to the other
partners, and not to the firm. Therefore, if a suit is filed by any of the partners against the others for
the enforcement of his rights, it is the partners who are the parties to the suit and never the firm.
A firm cannot be a partner in any partnership business, but a partner in one partnership may
become member of another partnership business.
Partners have a right to carry on their business under any name they like. It may be a combination
of initial letters of their names, or any other fictitious name. However, such name must not violate
the rules applicable to trade names or goodwill. Similarly, they should not use a name which remarkably
resembles with the name of another organization so that the public is misled. A name which, directly
or indirectly, suggests the sanction or patronage of the Government cannot be used, except with the
express permission of the Government. A partnership firm cannot use the word ‘Limited’ as part of
its name.
DIFFERENCE BETWEEN PARTNERSHIP AND COMPANY

1. A Partnership firm has no existence apart from its members. A Company is a separate legal
entity distinct from its members.
2. A member of Company does not represent other members in their dealings and cannot
contractually bind them with respect to the contracts entered into by him. In other words, a
member of a Company is not an agent of other member or members. Partnership is based
on the principle of agency and every partner is essentially an agent of all the other partners.
3. Liability of partners is unlimited, i.e. their personal property is liable for the satisfaction of
the debts of the firm. (in fact there are no debts of the firm; all debts are the debts of
partners only) In the case of Company, the personal property of the members is not liable
for the debts of the Company.
4. A partner cannot transfer his interest in the firm to a third person without the consent of the
other partners, whereas a member of a Company can transfer his financial interest in the
Company to any person without the consent of other members, subject, of course, to the
regulations laid down in the Articles of the Company.
5. A Company has perpetual succession. Death or insanity of members does not affect the
existence of the Company, while a partnership is dissolved in such events.
6. A partnership cannot be formed when the number of persons constituting it exceeds 20. In
banking business, the maximum number of partners is 50. The number of members in a
private Company cannot exceed 50 and there is no limit on the maximum number of members
in the case of a public Company.
Kinds of partnerships
On the basis of the objectives and the nature of the association of persons who carry on
business together, the partnership firms can be classified into following categories:
1. Partnership at will.
When the partnership is not for a fixed period, and the agreement of partnership does not
provide for its determination (termination) in any other way, it is called partnership at will. The
continuation of such partnership depends on the willingness of the partners to continue the business
and can be determined at the will of any of the partners by giving notice to other partners of his
intention to dissolve the firm. The continuance of such partnership is not affected by the death or
retirement of any partner. However, where it is provided that the partnership shall be dissolved by
mutual agreement, it is not a partnership at will, because it cannot be dissolved on the notice by one
partner. The consent of all the partners is necessary.
2. Partnership for a fixed term.
When the partners stipulate that they should carry on business for a definite period of time, it is
called a partnership for a fixed term. When the term is over, the partnership comes to an end. If,
however, the partners continue the business even after the expiry of the term so fixed, their rights
and liabilities continue to be the same and the partnership shall now be classified as partnership at
will.
3. Particular partnership.
Where the partnership is formed for the purpose of charring on particular adventures or
undertakings, it is called Particular partnership. Such partnership is usually dissolved when the
undertaking is completed. For example, two persons together undertake the project of construction
of housing complex. As soon as the housing complex is fully constructed, the partnership shall come
to an end. If the firm proceeds to carry out other undertakings or projects then in the absence of any
agreement to the contrary, the rights and liabilities of the partners in the new undertaking will continue
to be the same.
Registration of partnership firms
The registration of a partnership firm is not compulsory under the Partnership Act nor does the
Act provide for any penalty for non-registration of a partnership firm. However, a partnership firm
which is not registered is deprived of certain valuable rights which are otherwise available to a
partnership which is duly registered under the Act. It is therefore said that the Partnership Act
ensures the registration of partnership firms without making it mandatory. In other words, though the
registration of a partnership firm is not mandatory, it is in the interest of the partnership firm that it be
registered under the Partnership Act.
PARTNERSHIP 99
The following provisions of the Partnership Act relating to registration of partnership firms may
be noted:
1. A Registrar of partnership firms is appointed by the Government for a specified local area
having jurisdiction over that area for the purpose of granting registration under the Act.
2. A partnership firm which is carrying on a business in partnership in that area or which
proposes to carry on a business in that area and desirous of registering itself, may apply to
the Registrar for registration.
3. The application for registration must be submitted in the prescribed form with necessary
fees and a statement showing the particulars such as – (a) the name of the firm, (b) the
place of business of the firm, (c) other places where business is carried on, (d) the date on
which each partner joined the business, (e) The names in full and addresses of each partner
and (f) the duration of the firm.
The application and the statement have to be signed by all the partners or their agents who
are duly authorised in this behalf.
4. The application and the statement is verified by the Registrar and if he is satisfied, he shall
enter the name of the firm in a register called ‘Register of Firms’ and shall issue a Certificate
of Registration. Registration is effective from the date on which the Registrar enters the
name of the firm in this Register of Firms.
5. Any changes that may subsequently takes place in matters such as, alteration in the name
of the firm, place of business, closing and opening of branches, changes in the names and
addresses of partners, dissolution of partnership firm etc. have to be duly notified to the
Registrar who shall incorporate such changes in the Register of Firms.
Effects of non-registration
A partner cannot sue other partners or the firm for any right arising out of the contract of
partnership or for any right conferred on him under the Partnership Act. Thus, if a partner is not paid
his share of profits in the business, he cannot sue the firm or the other partners for the same if the
partnership firm is not registered.
Similarly, no suit can be filed on behalf of an unregistered firm against any third party for the
purpose of enforcing a right arising from the contract until the firm is registered and the name of the
person filing the suit appears in the Register of Firms.
However, the third parties have every right to file a suit against the firms and the partners.
Partnership property
It is necessary to ascertain the property of the firm and distinguish it from the property of one
or more partners. Sometimes the partners allow the use of their personal property for the business
of firm, though such property continues to be in the name of the individual partner only. The distinction
between the personal property of any partner and the firm’s property becomes crucially important at
the time of dissolution of the partnership firm because then the debts of the firm are to be paid out
of the property of the firm first.
It is open to the partners to agree among themselves as to what is to be treated as the property
of the firm and what is to be the separate property of one or more partners. Therefore, in the
absence of any agreement which provides otherwise, the property of the firm shall include –
(a) All property, rights and interests which have been brought into the common stock for the
purposes of the partnership by the individual partners, whether at the commencement of the
business or subsequently added thereto;
(b) The property which is acquired by the firm in the course of its business with the money
belonging to the firm. This will also include the property of any partner which is acquired by
him out of the secret profits made by him.
(c) The goodwill of the business.
RELATIONS OF PARTNERS TO ONE ANOTHER

We have already seen that partnership is essentially the result of an agreement between the
persons who come together for the purpose of carrying on a business. The relations of such persons
i.e. relations of partners with each other are therefore also created and governed by the same
agreement. The partners are free to agree on manner of conducting and managing the business,
share of each partner in the capital of the business, their ratio of profit-sharing etc.
However, where the partners fail to provide for any of these things, the rules laid down in the
Partnership Act shall be applicable. These rules are discussed below:
RIGHTS OF A PARTNER
1. Right to take part in the management. Every partner has a right to take part in the
conduct and management of the business of the firm. It may be noted that this rule, like most of the
other rules, is applicable only where the partnership agreement is silent on this point and does not
provide anything.
2. Right to be consulted. Every partner has a right to be heard and consulted in all matters
affecting the business of the firm. If there is a difference of opinion among the partners, the decision
of the majority shall prevail. Where the partners are equally divided, the opinion of the partners who
oppose the proposal (for which the voting is done) shall prevail. However, if the proposition put forth
touches the very nature of the business or if it is relating to alteration in the partnership constitution,
no change shall be made unless all the partners agree.
3. Right of access to accounts. Regardless of whether a partner is active or dormant, he has
a right of free access to all records, books and accounts of the business and to examine them. He
may also engage an agent for this purpose if other partners do not object to such agent.
4. Right to share profits. Every partner is entitled to share in the profits equally, unless
different proportions have been agreed upon. It is not necessary that such profit sharing has to
be in proportion to the contribution of capital. Similarly, the extent or degree of work done by
partners shall not affect the profit sharing
PARTNERSHIP 101
5. Inertest of capital. No partner is entitled to interest on the capital subscribed by him unless
there is an agreement providing for the same. Again, such interest is payable only out of profits of
the firm, unless otherwise agreed.
6. Interest on advances. A partner who has contributed more than the share of the capital
for the purposes of business is entitled to interest at a rate agreed upon, and if no rate is stipulated,
at 6% per annum.
7. Right to indemnity. A partner represents the firm and in the course of such business, may
incur liabilities. He has a right to be indemnified by the firm for all acts done by him in the course of
the partnership business. He must have, however, acted in good faith and as a person of ordinary
prudence.
8. Joint owner of partnership property. Every partner is a joint owner of the partnership
property. In the absence of any agreement to the contrary which provides differently, every partner
has equal share in the property of the partnership.
9. Powers in emergency. A partner can do all such things as may be necessary for protecting
the property of the firm, though he may not be expressly authorised to do those acts. The right of
indemnity is enhanced here in case of emergency. However, the partner must have acted in good
faith and in a manner in which a person of ordinary prudence would have acted in respect of his own
property.
10. No new partner to be introduced without his consent. Every partner has a right to
prevent a new partner being introduced into the firm without his consent.
11. No liability before joining. An incoming partner has a right not be held liable for any
debts or liabilities of the firm before he became a partner, save and except by his own consent.
12. Right to retire. Every partner has a right to retire, if the contract so provides, failing
which, with the consent of other partners, and if the partnership is a partnership at will, at any time
by giving notice to the other partners.
13. Right not be expelled. Every partner has a right to continue in the partnership and not to
be expelled from it, unless there is a stipulation in the agreement of partnership conferring powers
on the majority of partners to expel any partner. Again, such power has to be exercised judicially by
the majority bona fide.
14. Right to carry on competing business. An partner has a right to carry on similar business
in competition with the firm’s business, unless he has been restrained from doing so by virtue of the
partnership agreement. An agreement in restraint of trade is a void agreement, but in case of
partnership reasonable restrictions can be imposed on the outgoing partner not to carry on a similar
business, either for a specified time or within a specified local area or both. In the absence of any
such agreement every partner has a right to carry on a business individually which may be similar to
the business of the firm.
15. Right after retirement to share in profits or interest. Where a partner dies or otherwise
ceases to be a partner as result of retirement, expulsion, insanity or any other cause and the other
partners continue to carry on the same business with the property of the firm, without final settlement
of accounts with the outgoing partner, such outgoing partner or his representative is entitled to share
in the profits of the firm or interest at the rate of 6% per annum, at the option of the outgoing partner
or his representative.
DUTIES OF A PARTNER
The relations of partners with each other are based on mutual trust and confidence. Each
partner owes a duty towards other partners to act in good faith and for the benefits of the firm. The
law requires every partner to always place collective prosperity first, before his individual profits.
The Partnership Act lays down that – ‘Partners are bound to carry on the business for the firm to
the greatest common advantage, to be just and faithful to each other, and to render true accounts
and full information of all things affecting the firm to any other partner or his legal representative.’
The duties of a partner can be stated as follows:
1. To work for greatest common advantage. Since mutual confidence is the foundation of
partnership, it is the primary duty of every partner to carry on the business of the firm to the greatest
common advantage.
2. To be just and faithful. Every partner must be just and faithful to the other partners.
Partnership being a fiduciary relationship, it is the duty of every partner to exercise the utmost god
faith and fairness in his dealings with his co-partners.
3. To give full information. Every partner is an agent of his other partners and as such is
bound to communicate full information to them. Thus, a partner who obtains any information in the
course of the partnership must pass it on to the other partners, so that notice to one partner is taken
to be notice to all partners.
4. To render true accounts. Every partner is under obligation to keep and render true, proper
and correct accounts of the partnership. He must allow other partners to inspect the books and
submit statements or explanations as regards the monies he may have received in his hands in the
course of firm’s business.
5. To indemnify for fraud or wilful neglect. Every partner is bound to indemnify the firm for
any loss caused by his fraud in the conduct of business. Any agreement between the partners which
grants immunity to any particular partner against this obligation is null and void.
Similarly, every partner has a duty to indemnify the firm and other partners for the loss arising
out of his wilful neglect in the conduct of firm’s business. It must be however noted that wilful
neglect is something more than a mere failure to perform ordinary duties. Wilful neglect has an
attribute of culpability which is absent in failure to perform duties.
6. To share losses. Every partner is bound to share the losses equally with the other partners.
However, the partners may agree to provide for different proportions for such sharing of losses.
7. To attend diligently without remuneration. Every partner is bound to attend diligently to
the business of the firm and in the absence of any agreement to the contrary, he is not entitled to any
PARTNERSHIP 103
remuneration, whether in the form of salary, commission, or otherwise, on account of his own
contribution in the conduct of the firm’s business. A partner who takes more trouble than others in
the management of the partnership business is not entitled to any remuneration for his contribution.
However, it is a common practice to provide that a certain partner who works more than others, say,
a managing partner, will receive, in addition to his share in profits, a salary or commission on account
of his additional services.
8. To hold and use the firm’s property only for the firm. It is the duty of every partner to
hold and use the property of the firm exclusively for the firm. Such property belongs to all the
partners collectively and therefore the use of such property must be for the common benefit of all
the partners.
9. To account for private profits. The status of a partner is that of trustee with respect to the
property of the firm. If he individually receives any benefit out of the property of the firm, he must
account for it and pay it to the firm. Similarly, if he receives any benefit by virtue of his membership
of the firm or connection with the firm, he must pay it to the firm.
10. To account for profits of competing business. The Contract Act provides that an
agreement in restraint of trade is void. But Partnership Act permits an agreement between partners
that a partner shall not carry on business other than the business of the partnership as long as he is
partner. In the absence of such agreement, partners are free to be interested in private business of
their own, provided the sane does not compete with the business of the partnership.
No partner can carry on any business which is likely to compete with the business of the
partnership, except with the consent of the other partners. If a partner, without obtaining the consent
of the other partners, carries on a competing business, he must account for the profits of such
business to the firm, and must also compensate the firm for any loss sustained by the firm due to his
carrying such competing business.
11. Not assign his rights. No partner can assign his partnership interest to any other person,
so as to make him a partner in the business. But a partner can assign the profits and share in the
partnership business. Such transferee does not enjoy the status of the partner and has only limited
interest in the share of profits of the transferring partner.
RELATIONS OF PARTNERS TO THIRD PARTIES

Every partnership is founded on the principle of agency. Every partner, in respect of his dealings
with third parties, acts as an agent of other partners. At the same time, he is also the principal for
other partners and hence is bound by the acts of his co-partners. In fact the whole law of partnership
is a branch of law of agency. Since each partner is an unlimited agent of every other partner in
every matter connected with the partnership business, his acts bind the firm.
This general authority of a partner as agent of the firm is described as ‘implied authority’.
Implied authority of a partner.
A partner can do all those acts on behalf of the firm for which he has been authorised by or
under the partnership agreement. This is known as the expresses authority of partners. In addition,
a partner also has a right to do those things which the law impliedly authorises him to do, without
there being any mention in the partnership agreement. Of course, such acts must be done to carry
on the business of the firm in the usual way. This is known as the implied authority of a partner. In
other words, a partner has implied authority to bind the firm by all acts done by him in all matters
concerned wit the partnership business and which are done in the usual way and are not in their
nature beyond the scope of the partnership.
The question whether a given act has been done in carrying on a business in the way, in which
it is usually carried on, must be determined by the nature of the business, and by the practice of the
persons engaged in it. What is usual for one kind of business may be unusual for another. For
example, in the case of commercial or trading partnerships, every partner has an implied authority to
pledge or sell the partnership goods, borrow money etc, in the name of the partnership firm. However,
when the partnership is not of commercial nature, a partner has no implied authority to borrow
money or sell goods.
What is not included in Implied Authority?
In the absence of any usage or custom, the implied authority does not empower any partner to
do any of the following acts.
1. To submit a dispute relating to the business of the firm to arbitrator;
2. To open a banking account on behalf of the firm in his own name;
3. To compromise or relinquish any claim or portion of a claim by the firm;
4. To withdraw a suit or proceeding filed on behalf of the firm;
5. To admit any liability in a suit or proceeding against the firm;
6. To acquire immovable property on behalf of the firm;
7. To transfer immovable property belonging to the firm; or
8. To enter into a partnership ob behalf of the firm.
It is open to the partners by means of an express agreement to extend or limit the implied
authority, but the third parties will be bound by such limitation only when they have notice of the
same.
Liability of Partner for act of firm
Every partner is liable, jointly and severally, for all acts of the firm done while he is a partner.
What is an act of firm? The Partnership Act defines Act of firm as – ‘act of omission by all the
partners, or by any partner or agent of the firm which gives rise to a right enforceable by or against
the firm’. Therefore, when an act is done by all or any of the partners in the name of and on behalf
of the firm, all the partners are liable and are bound by such act. As we have already noted, ‘firm’ is
a collective name for all the partners together and every partner is an agent of other partners. It
therefore follows that when a partner does any act, say, enters into contract with a third party, the
contractual liability is passed to the firm i.e. all the other partners.
PARTNERSHIP 105
The only requirement is, however, that such act must have been done in the name of the firm
and on behalf of the firm. It may be noted that such act is binding on every partner irrespective of
whether he is an active partner or a dormant partner.
For example, if a partner buys the usual stock for the business of the firm, all the partners are
liable for the debt incurred. But where the partnership business is of sale and purchase of cloth and
a partner buys fruits on credit on the firm’s letter head and in the name of the firm, the transaction
is obviously not for the purpose of firm’s business and he alone shall be liable. This is so because this
partner is not an agent of other partners for buying fruits as it is not the business of partnership to
buy fruits.
Liability for the wrongful acts of a partner
The principal is bound by all the acts of his agent when such acts are done within the authority
and in the course of business of agency. This liability extends to the wrongful acts of the agent also.
Similarly, every partner is liable for the negligence and fraud of the other partners in the course of
the management of the business. In other words, the firm is liable for an loss or injury caused to a
third party by the wrongful acts or omission of a partner if they were done by him while acting in the
ordinary course of the business of the firm or with the authority of the co-partners.
A firm of solicitors would be liable for negligent act of any of its partners and a firm of taxi
drivers would be liable for negligent driving of one of its partners and so on.
Where a partner acting within his authority receives money or property from a third party and
misapplies it, or a firm in the course of its business receives money or property from a third party,
and the money or property is misapplied by any of the partners while it is in the custody of the firm,
the firm is liable to make good the loss.
TYPES OF PARTNERS
1. Actual or active or ostensible partner. He is a partner by agreement who brings in
capital and actively participates in the conduct and management of the business of partnership. He
has to issue a public notice if he intends to retire from the partnership if he wants to absolve himself
from the liability for the acts of other partners after his retirement.
2. Sleeping or dormant partner. He does not take any active part in the conduct of the
business of the firm. He may contribute to the capital of partnership business and as such he is also
known as a financing partner. His liabilities are just like any other partner though the third parties
may not know of his membership of the firm. Therefore, he is just like an undisclosed principal. He
is not liable for any act of the firm after he ceases to be partner even if he does not give any public
notice.
3. Nominal partner. As the name suggests, such person is a partner only in name. He does
not take active part in the business of the firm nor does he contribute anything in the capital of the
firm. He does not have any share in the profits. He is requested to lend his name to the firm because
of his reputation and the influence he yields in the business community or in the society as a whole.
However, as a partner, such person is liable for the acts of the firm.
4. Working partner. A partner may be entrusted with the management of the firm’s business
on account of his expertise in the field. His contribution to the conduct of firm’s business is more
than other partners. He may be paid a salary in addition to his share in the profits of the firm. Like
any other partner, he is bound by the acts of the firm and others are bound by his acts.
5. Other types of partners include partners in profits only, who do not share in the losses of
the firm and partners by estoppel (or holding out) who become partners of a firm on the principle of
estoppel on the same lines as agency by holding out. The later is not a partner in the accepted sense
of the word and is not entitled to any share in the profits of the firm.
Dissolution
Dissolution of partnership and dissolution of firm are two different things. The Partnership Act
provides that the dissolution of partnership between all the partners of a firm is called the dissolution
of the firm. Hence, if the dissolution of partnership is not between all the partners, it is not dissolution
of the firm. Thus, dissolution of firm includes dissolution of partnership but dissolution of partnership
does not necessarily lead to dissolution of the firm.
UUU
SALE OF GOODS ACT, 1930 107
4. SALE OF GOODS ACT, 1930
BRIEF INTRODUCTION
The law relating to sale of goods is to be found in the Sale of Goods Act, 1930. Just like
bailment and agency, sale of goods is also a special kind of contract and therefore the provisions of
Contract Act are applicable to it just like any other contract, except in certain matters. In these
matters, the special provisions of this Act are applicable, superceding the provisions of Contract
Act.
Save and except these matters, all the rules of Contract Act, as relate to competence of parties,
free consent, offer and acceptance etc. are also applicable to contract of sale of goods.
Contract of Sale of Goods
A contract of sale of goods is a contract whereby the seller –
(a) transfers or
(b) agrees to transfer the property (i.e. ownership) in goods, to the buyer for a price.
The term contract of sale is a generic term and it includes an actual sale as well as an agreement
to sell. When the ownership of goods is transferred from seller to buyer it is called ‘Sale’, and where
the ownership of goods is to be transferred from seller to buyer at some time in future it is called ‘an
agreement to sell’. In other words, contract of sale includes both ‘Sale’ and ‘agreement to sell.’
Essentials of contract of sale
We have seen above that contract of sale is a contract whereby the seller transfers or agrees
to transfer the property in goods to the buyer for a price. The analysis of this definition reveals the
following essential features of contract of sale of goods.
1. Two parties. The contract of sale is essentially between two parties; the seller and the
buyer, as a person cannot buy his own goods. However, a part-owner may sell his share to other
part-owner as a partner can always sell to the other partners. Similarly, a partner can sell goods to
his firm. But a club consisting of several members does not sell goods when it supplies certain items
to its members for price. The transaction is akin to sale, but not a sale. Here, the members are
virtually consuming their own property and the mode of payment is a matter of internal arrangement
regulated by the rules of the club.
2. Transfer of property. The term ‘property’ here means the ownership. There must be
transfer of property or ownership from the seller to the buyer. Mere transfer of possession of goods
from one person to another without transferring the ownership is not a sale. Thus, when the goods
are pledged as security, there is a transfer of possession but it is not a sale because the ownership
continues to be with the transferor. Same is the case with the bailment of goods.
3. Goods. The subject-matter of contract of sale must be ‘goods’. Goods means every kind of
movable property other than actionable claims and money; and includes stock and shares, growing
crops, grass, and things attached to or forming part of the land which are agreed to be severed
before sale or under the contract of sale. Accordingly, every kind movable property except money
and actionable claims are goods under the Sale of Goods Act. Money means current money i.e.
recognised currency in circulation in the country. Obviously money cannot be sold or bought. Old
and rare coins, which are not in circulation at present can be treated as goods and hence bought and
sold like any other goods.
Actionable claim means a claim which can be enforced by legal action. For example, if X has
borrowed money from Y, then Y has a claim against X which can be enforced by taking legal action
i.e. filing a suit against X. This right or claim of Y cannot be subject matter of sale of goods because
such claim is not goods.
Sale and purchase of immovable property is governed by the provisions of Transfer of Property
Act, 1882.
4. Price. The consideration in a contract of sale of goods must be money consideration which
is called ‘price’. Thus, in order to be a sale under this Act, goods must be sold or bought for money
consideration only. If the goods are sold in exchange of some other kind of goods, it is barter and not
sale of goods. However, where goods are sold partly for money and partly for goods, it is a contract
of sale of goods. If A sells a table to B in return of two chairs, it is a general contract, but not
contract of sale of goods. But if A sells his table to B for ` 500/- (or for one chair and ` 250/-), it is
a contract of sale of goods.
5. Includes both ‘sale’ and ‘agreement to sell’. ‘Contract of sale’ includes both ‘sale’ and
‘agreement to sell’. As already noted above, sale implies immediate transfer of ownership from
seller to buyer whereas agreement to sell implies such transfer at some time in future or subject to
fulfillment of some condition. Whether the parties intend to transfer the ownership of goods
immediately or at some future time has to be interpreted from the construction of the contract and
the facts of the case.
6. No formalities to be observed. The Sale of Goods Act does not lay down any special
formalities to be followed nor does it prescribe any form to constitute a contract of sale of goods. It
is a kind of general contract and therefore all the essential elements of contract, such as competence
of parties, free consent etc. must be present in contract of sale of goods also. Further, contract of
sale may be oral or written. It may even be implied from the conduct of the parties.
DISTINCTION BETWEEN SALE AND AGREEMENT TO SELL

It is necessary to understand the difference between the two as they have different legal
effects. The points of distinction can be stated as follows:
1. Transfer of property (ownership). In a sale, the property in goods passes to the buyer
immediately so that the seller is no longer the owner of goods. In other words, a sale implies immediate
conveyance of property from the seller to the buyer.
In ‘agreement to sell’, there is no transfer of property to the buyer at the time of the contract.
The transfer of property takes place later, so that the seller continues to be the owner of the goods
until the agreement to sell is converted into a sale. This conversion takes place either after the
expiry of certain time or on fulfillment of some condition.
For example, where a person purchases a golden ring from a shop by making payment for the
same, it is a contract of sale as the ownership of the ring has passed from seller to buyer at the time
of contract. On the other hand, where a buyer purchases 30 litres of oil from a shop which is to be
taken out of a barrel containing 100 litres of oil, it is ‘an agreement to sell’ because the ownership of
30 litres of oil can pass to the buyer only when 30 litres of oil is separated from the bulk, weighed and
made ready for delivery. This ‘agreement to sell’ becomes a sale on fulfillment of certain condition
i.e. separation of specified quantity from the bulk.
It must be remembered that transfer of possession has nothing to do with the transfer of
ownership of goods. One who possesses the goods may not be the owner of goods and vice versa.
2. Risk of loss. It is a general rule that unless otherwise arranged and agreed, the risk of loss
of or damage to goods is always with the owner of the goods. Therefore, in the case of sale, where
ownership has passed from seller to buyer, if the goods are destroyed the loss falls on the buyer
even if the goods have not reached him, or are still in possession of the seller. On the other hand, in
the case of agreement to sell, the seller continues to be owner of goods and hence if the goods are
destroyed the loss falls on the seller, even if the goods are in possession of the buyer.
3. Consequences of breach. In the case of sale, if the buyer refuses to pay the price of
goods, the seller can sue him for price even if the goods are in his possession. However, in the case
of agreement to sell the ownership has not passed to the buyer and hence if the buyer refuses to pay
the price, the seller can only sue for damages and not the price, even if the goods are in possession
of the buyer.
4. Right of resale. In sale, the seller cannot resell the goods even if they are in his possession
because he is no longer the owner of the goods. If he does so, the subsequent buyer having knowledge
of the previous sale cannot obtain any title to the goods. The first buyer can sue and recover the
possession of goods from the second buyer. However, in case of agreement to sell, the property in
goods remains with the seller and he can lawfully sell the goods to another person who will get a
good title to goods irrespective of his knowledge of previous sale. The original buyer can sue the
seller only for damages for breach of contract.
5. Insolvency of buyer before he pays for the goods. In a sale, if the buyer becomes
insolvent before he pays the price of goods, the seller has to deliver the goods to the Official
Receiver (appointed for the property of the buyer). The seller is then treated like other creditors of
the buyer and is entitled only to a ratable dividend for the price of the goods. But if it is an agreement
to sell, the seller may refuse to deliver the goods to the Official Receiver unless the price is paid.
6. Insolvency of seller if the buyer has already paid the price. In a sale, if the seller
becomes insolvent, the buyer is entitled to recover the goods from Official Receiver, as he has
become the owner of the goods. On the other hand, if it is an agreement to sell, and if the buyer has
already paid the price without receiving the goods, he can only claim ratable dividend and not the
goods, because he has not yet acquired ownership of the goods.
Sale and Hire-Purchase Agreement
In a hire-purchase agreement, the hirer of goods pays money to the owner of goods for using
the goods, but the ownership of goods remains with the person who gives goods on hire. Here the
owner of goods delivers the goods to a person who agrees to pay certain stipulated periodical
payments as hire charges. Though the possession of goods is with hirer, the ownership is still with
the person who allows his goods to be used by the hirer. If the payments are made without any
default for a fixed period, the hirer gets an option to buy the goods. The ownership of goods passes
to the hirer, now a buyer, once he exercises his option and purchases the goods. Till then, he is not
owner of goods.
The distinction is important from the view-point of legal effect in the event of insolvency of the
hirer of goods. In that case the owner can recover the goods let on hire, because ownership of goods
has not passed to the hirer. Again, in a hire, the hirer cannot pass on any title even to innocent and
bona fide third parties.
It must be noted that mere payment of price by instalments does not make the transaction a
hire-purchase transaction. When the price is paid in instalments, it is contract of sale where the
ownership has passed from seller to buyer; only the payment of price is deferred. In such transactions,
what is paid periodically is the part-price of goods, and not the hire charges.
GOODS
The subject matter of contract of sale is always Goods. The term ‘Goods’ has been defined
under the Act to mean – ‘every kind of movable property other than actionable claims and money;
and includes stock and shares, growing crops, grass, and things attached to or forming part of the
land which are agreed to be severed before sale or under the contract of sale’.
As we have noted earlier, actionable claim refers to the claim of any person against other for
the enforcement of which legal action can be taken. Such actionable claims are not goods; and
similarly, money, which is a medium of exchange, also cannot be goods because it is for money that
we buy and sell goods. For example, one cannot buy hundred rupees, but can buy something by
paying hundred rupees.
Stock and shares, growing crops, grass, gas, electricity, water, goodwill, furniture, garments,
books etc. are all examples of goods.
Goods may be (a) Existing, (b) Future or (c) Contingent. The existing goods may be (a) Specific,
or (b) Generic; and further, (a) Ascertained or (b) unascertained.
Existing goods
Goods which are physically in existence and which are in seller’s ownership and/or possession
at the time of entering into contract of sale are called existing goods. Instances of goods possessed
but not owned by the sellers are sale by agents and pledgees.
Existing goods may again be either specific or unascertained.
Specific goods means goods identified and agreed upon at the time of the making of contract
of sale. To be specific, goods must be actually identified or individualised, and not merely identifiable.
For example, where A agrees to purchase a TV set marked with particular manufacturing number,
it is contract of sale of specific goods or ascertained goods. In practice, on many occasions the term
specific goods is used as if it means the same thing as ascertained goods, though there is a subtle
difference between the two.
Unascertained goods are not separately identified or ascertained at the time of the making of
the contract. They are indicated or defined only by description. For example, A has ten cows. He
promises to sell one of them to B, pointing it out to B at the time of the sale. This is an example of
sale of specific goods. If, on the other hand, A merely promises to sell any one of the ten cows, the
contract is of sale of unascertained goods.
Future goods. The Act makes it possible for a person to sell or offer to sell future goods i.e.
goods which he does not own or possess at the time of contract, but which he will manufacture or
produce or acquire after the making of the contract, Future goods are not the same as unascertained
goods which form a class of existing goods. ‘A’ promises to sell to ‘B’ certain steel items after one
month which he is going to manufacture in his factory. This is a valid contract of sale though ‘A’, at
the time of contract, has no product with him for sale. It may be noted that there can be no present
sale of future goods because there is no question of passing of ownership of goods from seller to
buyer in such contract. The ownership will necessarily pass at some future time when the goods will
come into existence. Even if the parties claim to make a contract of sale of future goods, in the eyes
of law it is only ‘an agreement to sell’.
Contingent goods. In a way, the contingent goods are a kind of future goods and therefore a
contract for the sale of contingent goods also operates as ‘an agreement to sell’. As in the case of
future goods, in the case of contingent goods also the property in goods does not pass to the buyer at
the time of making the contract.
For example, A agrees to sell to B a specific rare article for an agreed price, provided he can
purchase the article from the present owner. This is a contract of sale of contingent goods. Here,
the performance of the contract depends on the contingency which may happen or may not happen.
It may be noted that if the parties stipulate that performance is subject to any contingency, no
damages shall be payable if the seller is unable to sell the goods. In fact, the performance on the part
of the seller is not due unless the contingency happens. On the other hand, if the performance is not
made subject to any such condition, the seller is liable to pay damages to the buyer for his inability to
sell, on non-happening of the contingency.
PERISHING OF GOODS
Where specific goods are the subject-matter of a contract of sale (both sale and agreement to
sell) and they, without the knowledge of the seller, perish at or before the time of the contract, the
contract is void. For example, A agrees to sell to B a particular painting which he believes to be in his
possession. Later, it turns out that the painting was stolen before the contract was made. There is no
subsisting contract based on the rule that mutual mistake of a fact essential to the contract renders
the contract void. (Refer to the discussion on void contract)
It may be noted that it is only the perishing of specific goods that affects the validity of
contract of sale. If the sale is of unascertained goods, the contract will not become void under
similar circumstances. For example, where A, a dealer of TV sets, agrees to sell to B five TV sets
of a particular brand and all the TV sets in A’s shop are destroyed by fire, the contract does not
become void. A must supply five TV sets to B after purchasing them from the market or pay
damages for breach of contract.
What would happen where the contract of sale is of specific goods and only part of the goods
are damaged or destroyed? The answer will depend on whether the contract is entire or divisible. If
the contract is one (not divisible) and part of the goods are destroyed, the contract will become void.
If the contract is divisible, it will not become void and the goods which are available in good condition
must be accepted by the buyer. Where a contract was made for a parcel containing 700 bags of
groundnuts, and only 591 bags could be delivered the remaining having been stolen, the contract was
held to be void and the buyer could not be compelled to take delivery of the 591 bags. (Barrow Ltd.
vs. Philips Ltd.)
It may be noted here that the contract was for the parcel containing 700 bags. If the contract
was for the bags, each containing the same amount of material and of the same price, the buyer
would be compelled to take the delivery of 591 bags and pay for them.
Perishing of goods before sale but after agreement to sell
Where the contract does not amount to sale, but is only agreement to sell, and the goods,
without any fault of either the seller or the buyer perish or are damaged subsequent to the agreement
but before the risk passes to the buyer (by virtue of agreement to sell becoming contract of sale), the
agreement to sell becomes void and both the parties are excused from performance.
Four conditions must be satisfied before the agreement to sell can be avoided:
1. The contract must be an agreement to sell and not an actual sale;
2. The loss must be specific;
3. The loss must not be caused by the wrongful act or default of either party; and
4. The goods must perish before the risk passes to the buyer. (because if the risk has passed
to the buyer, he must pay for the goods, though undelivered.)
PRICE
There cannot be any sale without a price. If there is no valuable consideration to support a
transfer of ownership of goods from the owner to another person, the transaction is a gift, and it is
not governed by the provisions of the Act. To constitute a contract of sale, the transfer or agreement
to transfer property in goods must be for a price. Price is defined as money consideration in contract
of sale. It may be paid in cash or by cheque or by any other mode. The mode of payment of price is
immaterial. What is necessary is the agreement to pay a price in money.
Modes of fixing the price
The price may be fixed in any of the following modes:
1. It may be expressly stated in the contract itself. The parties are free to decide any price
they like and no court can question the adequacy of the price. The price thus fixed in the contract
itself must be certain and definite.
2. To be fixed in the manner stated in the contract. The contract may provide for the
manner in which the price is to be fixed. For example, it may be agreed that the buyer would pay the
market price prevailing on a particular date or that the price would be fixed by a valuer who is
appointed by the consent of the parties.
3. It may be fixed by the course of dealings between the parties. If the buyer has been
regularly making purchases from the seller and has been paying the price prevailing on the date of
placing the order, the course of dealings suggest that in subsequent transaction also the price which
is prevailing on the date of placing the order would be paid. Further, if there is a custom to deduct
discount at a particular rate, the same would also be taken into account in determining the price.
4. Reasonable price, in other cases. If the price is not capable of being determined in
accordance with any of the above modes, the buyer is bound to pay to the seller a ‘reasonable
price’. What is reasonable price is a question of fact and would depend on the circumstances of
each case.
Agreement to sell at valuation
We have seen above that one of the modes of determining the price of goods is by valuation by
a third party appointed by the seller and buyer. If such third party does not fix the price for any
reason, the contract becomes void. In such case, if part of goods have been already delivered and
accepted, the buyer has to pay the reasonable price for the goods so accepted.
The Act provides for ‘escalation clause’ in the contract of sale. Where, after making of the
contract and fixing the price but before the delivery of the goods, a new or increased custom duty or
excise duty, or sale or purchase tax is imposed and the seller has to pay it, the seller is entitled to add
the same to the price. Similarly, if the rate of duty or tax is lowered, the buyer would be entitled to a
reduction in price.
Earnest or Deposit
Sometimes the buyer pays part of the price in advance as security for the due performance of
his part of the contract, and not as part-payment of purchase money. The money so paid as security
is called Earnest or Deposit. If the purchase is carried out, the deposit goes against the purchase
money and only the balance of the price is required to be paid. But if the sale is cancelled through
the fault of the buyer, the deposit is forfeited to the seller. If the sale goes off by the seller’s default,
he must return the earnest money.
CONDITIONS AND WARRANTIES

The parties are at liberty to enter into a contract with any terms they please. These terms or
stipulations may be regarding the quality of goods, the price and mode of payment, the delivery
schedule of goods and so on and so forth. Some of these stipulations are very important as they
relate to the very purpose for which the buyer is purchasing the goods. If such terms are broken by
the seller, the very purpose of purchase is defeated and frustrated. In such case, the buyer may
claim that the seller has committed breach of contract. These vital and important terms of contract
of sale are called ‘conditions’.
As against these terms, there may be other stipulations in the contract which are not so important.
If any of these terms is broken by the seller, it may not result in frustration of the purpose for which
the buyer is purchasing the goods, though it is a failure in compliance on the part of the seller. Such
minor or not so important terms of the contract are called ‘warranties’.
Definition of Condition
A condition is a stipulation essential to the main purpose of contract, the breach of
which gives the aggrieved party a right to repudiate the contract itself. In addition, he may
maintain an action for damages for loss suffered, if any, on the ground that the whole contract is
broken and the seller is guilty of non-delivery.
Definition of Warranty
A warranty is a stipulation collateral to the main purpose of the contract, the breach of
which gives the aggrieved party a right to sue for damages only, and not to avoid the contract
itself. It is thus a subsidiary promise.
It is clear from the above definitions that condition is a stipulation in a contract of sale which is
so important that breach of which entitles the buyer to repudiate the contract itself and file a suit for
compensation for breach of contract. Warranty is a stipulation which is not so vital to the contract
and therefore if warranty is broken by the seller, the buyer can only sue the seller for damages, but
he cannot avoid the contract as such.
What terms in a contract of sale are conditions and what terms are warranties is a question of
fact and it depends on the particulars of each case. Further, the terminology used by the parties is
not the conclusive test to determine whether a particular term is a condition or a warranty. The
intention of the parties and the other relevant surrounding circumstances are to be taken into account
for this purpose. If the stipulation is such that its breach would be fatal to the rights of the aggrieved
party, it is a condition and where it is not so, it is a warranty.
Whether a stipulation in a contract of sale is a condition or a warranty depends in each case on
the construction of the contract. A stipulation may be a condition though called a warranty in the
contract.
For example, a man buys a particular horse which is described to be quiet. If the horse turns
out to be vicious, the buyer’s remedy is only to claim damages, as it is breach of warranty. But if
instead of buying a particular horse, the buyer asks the dealer to supply a quiet horse and the horse
turns out to be vicious, the buyer can reject the horse and also ask for damages, as it is a breach of
condition.
Difference between condition and warranty
The points of distinction between condition and warranty can be stated as follows:
1. As to value and importance. A condition is a stipulation which is essential to the main
purpose of the contract, whereas a warranty is a stipulation which is collateral to the main
purpose of the contract.
2. As to breach. The breach of condition gives the aggrieved party the right to repudiate the
contract and also to claim damages, whereas the breach of warranty gives the aggrieved
party the right to claim damages only.
3. As to treatment. A breach of condition may be treated as a breach of warranty, but a
breach of warranty cannot be treated as a breach of condition.
When breach of condition may be treated as breach of warranty
In certain cases, the breach of condition is to be treated as breach of warranty, as a consequence
of which the buyer loses the right to repudiate or rescind the contract and has to be satisfied with
compensation only. These cases are as follows:
1. Voluntary waiver by the buyer. When there is breach of condition by the seller, the buyer
is vested with the right to reject the goods and treat the contract as repudiated. However, he may
choose not to exercise this right. He may instead waive this right and treat the breach of condition as
breach of warranty, thereby not repudiating the contract, but only claiming compensation from the
seller.
For example, where the seller supplies the agreed quantity of garments of white colour when
the condition was to supply the garments of red colour, it is a breach of condition and the buyer has
a right to reject the goods treating the contract as broken by the seller. However, the buyer may
elect to accept the delivery of garments treating the breach of condition as breach of warranty. In
such case the buyer has the right only to claim damages from the seller for breach of warranty.
2. Acceptance of goods by buyer. When the buyer has accepted the delivery of goods, he
cannot subsequently reject them on the ground that there had been a breach of condition. The right
is lost once he accepts the goods. He can now only claim damages, treating the breach of condition
as breach of warranty.
If only part of the goods are accepted by the buyer and if the contract is divisible, he can reject
the remaining goods which he has not accepted. If the contract is indivisible, that is to say, when the
goods are priced for the whole lot and not per unit or per piece etc., acceptance of goods in part
amounts to acceptance of goods in the whole and the buyer is compelled to treat the breach of
condition as breach of warranty.
‘Acceptance of goods’ does not mean merely taking the physical delivery of goods. The buyer
shall be deemed to have accepted the goods when –(a) he has communicated to the seller that he
has accepted the goods, or (b) when he does some act in relation to goods which is inconsistent with
the ownership of the seller. (e.g. he consumes the goods, or sells them, or puts his mark on them
etc.), or (c) even after lapse of reasonable time, he retains the goods without communicating to the
seller that he has rejected the goods for breach of condition. It is not necessary that the buyer, in
such case, should physically return the goods to the seller. It is sufficient if he unequivocally intimates
to the seller about his rejection of goods.
Express and Implied conditions and warranties
We have noted earlier that both conditions and warranties are the terms in contract of sale of
goods. Express conditions and warranties are those terms which are specifically incorporated in
the contract at the desire of the parties. Implied conditions and warranties are those terms which the
law assumes to be included in every contract of sale, even if they are not inserted in express words.
Therefore, implied conditions and warranties are those terms in every contract of sale of goods
which the law assumes to be present unless they are expressly negated by the parties.
Implied conditions
Unless otherwise agreed by the parties, the following conditions are always assumed by law to
be present in every contract of sale of goods:
1. Condition as to title. The first implied condition on the part of the seller in every contract
of sale is that in the case of actual sale, the seller has the right to sell the goods, and in the case of
agreement to sell, the seller will have the right to sell the goods at the time when the property in
goods is to pass. Thus if the seller’s title is discovered to be defective, the buyer is entitled to recover
the price. Where the buyer is dispossessed of the car bought by him because the seller did not have
title to it, the buyer is entitled to recover the full price even though he has used the car for several
months. In the case of breach of this condition, the buyer has no option but to treat it as breach of
warranty because he has to invariably return the goods to the true owner. He can claim damages
from the seller and also recover the price paid in full.
2. Condition in a sale by description. Where there is a contract of sale of goods by
description, there is an implied condition that the goods shall correspond with the description. Where
sale was made of a second-hand reaping machine which the buyer had never seen, but which the
seller had stated to be almost new and used very little, this was a sale by description and, when the
machine was found to be old and repaired, there was a breach of condition, and the buyer could
return the machine. This condition applies to both specific and unascertained goods.
The description may be in terms of characteristics of the goods or by mentioning their trade
mark or brand name such as Basmati rice, Solapur cotton etc.
3. Condition in a sale by sample. Where the goods are sold as per sample, the implied
conditions are, (a) that the bulk shall correspond with the sample in quality, (b) that the buyer shall
have a reasonable opportunity of comparing the bulk with the sample, and (c) that the goods shall be
free from any defect, rendering them unmerchantable, which would not be apparent on reasonable
examination of goods.
4. Condition in a sale by description and sample. When the goods are sold by sample as
well as by description, there is an implied condition that the bulk of the goods shall correspond both
with the sample and with the description. If the goods supplied correspond only with the sample and
not with the description or vice versa, the buyer is entitled to reject the goods.
5. Condition as to fitness or quality. The general rule of law is ‘caveat emptor’, that is, let
the buyer be aware. Therefore, ordinarily, in a contract of sale, there is no implied condition or
warranty as to the quality or fitness for any particular purpose of goods supplied. But where the
buyer makes known to the seller the purpose for which he is purchasing the goods and the seller
happens to be a person whose course of business is to sell goods of that description, then there is an
implied condition that the goods shall be reasonably fit for such purpose. Thus, in order that a buyer
can claim breach of condition, he must have made known to the seller the purpose for which he is
buying the goods, relying on the skill and judgment of the seller and the seller must be dealing with
such goods in the ordinary course of his business.
6. Condition as to merchantability. This condition is implied only where the sale is by
description. In such case even when the goods answer to the description, still they have to meet
another condition of merchantable quality. The merchantable quality means that the goods are of
such quality and are un such condition that a reasonable man, acting reasonably would accept them
under the circumstances of the case in performance of his offer to buy those goods, whether he
buys them for his own use or to sell again. It should be noted that merchantable quality does not
mean that the goods are quickly re-salable. Again, if the buyer had an opportunity of making the
examination but he avoids examining the goods, there is no implied condition as to merchantability as
regards defects which such examination ought to have revealed. Therefore, this condition is applicable
only when the defects in the goods are not noticeable through ordinary examination and the seller is
a dealer in the goods of that description, whether he is the manufacturer or not.
Condition as to wholesomeness. This condition is implied only in a contract of sale of
eatables and provisions. In such cases the goods supplied must not only answer to description and be
merchantable but also must be wholesome, i.e. free from any defect which renders them unfit for
human consumption.
Implied Warranties
Certain terms of contract of sale of goods which are warranties, are always assumed to be
present in every such contract unless otherwise agreed by the parties and they are called implied
warranties. They are as follows:
1. Warranty of quiet possession. The first warranty on the part of seller in every contract
of sale is that the buyer shall have and enjoy quiet possession of the goods. In a way, the rights
accruing to the buyer under this warranty are included in the condition as to title. Under this condition
as well as the warranty as to quiet possession, if the buyer suffers on any count owing to defect in
the title of the seller, he has to return the goods to the true owner and can claim damages from the
seller. This warranty differs from the condition in that even if the buyer is not compelled to return the
goods, yet he can claim damages from the seller for the disturbance and inconvenience caused to
him by any temporary defect in the title of the seller.
For example, where one joint owner of goods sells the goods without the consent of the other,
the buyer will not get a good title to the goods. The seller may subsequently pay off the joint owner
and pass on a clear title to the buyer. Here, there is no breach of condition but breach of warranty
because the buyer’s right of peaceful and quiet possession is violated. Hence, the buyer, though
does not return the goods, yet can claim damages from the seller for the disturbance in his quiet
possession.
2. Warranty of freedom from encumbrances. When goods have encumbrances, it means
that they are charged for payment of some outstanding dues. Ownership of such goods is subject to
payment of such charges. The seller of such goods may be in possession of the goods but his
ownership is subject to the condition that he pays the dues for which a charge was created on the
goods. When such goods are sold without making them free of encumbrances, the buyer does not
get a good title to the goods.
The implied warranty on the part of the seller is that ‘the goods shall be free from any charge
or encumbrance in favour of any third party, not declared or not known to the buyer before or at the
time when the contract is made.’ If the goods are afterwards found to be subject to a charge and the
buyer has to discharge the same, there is breach of this warranty and the buyer is entitled to
damages.
Doctrine of Caveat Emptor
The expression ‘caveat emptor’ means ‘let the buyer be aware’. It is the duty of the buyer to
be careful while purchasing goods of his requirement and, in the absence of any enquiry from the
buyer, the seller is not bound to disclose every defect in goods of which he may be cognisant. It is
the duty of the buyer to thoroughly examine the goods and ensure that they are suitable for the
purpose for which he is buying them. If the goods turn out to be defective or if they do not suit his
requirement, the buyer cannot hold the seller liable for the same as there is no implied undertaking
by the seller that he shall supply such goods as will suit the buyer’s requirement. Thus, if the buyer
depends on his own skill and judgment and makes a faulty choice, he must thank himself for his loss,
unless there was a misrepresentation or fraud by the seller.
For example, A wanted to purchase 50 pens for the clerks working in his office whose job was
to prepare handwritten reports with two copies. Fountain-pens supplied by the seller were useless
because carbon copies could not be made with such pens. A has to suffer the loss because as per
this doctrine, it was his responsibility to ensure that the pens he was buying were suitable for the
purpose.
Similarly, certain pigs were sold in auction ‘with all faults.’ The pigs were suffering from typhoid
fever and all of them but one died. They also infected a few of the buyer’s own pigs. It was held that
the seller was not bound to disclose that the pigs were unhealthy. Caveat emptor being the rule, the
buyer could not claim damages from the seller.
The doctrine of caveat emptor is subject to certain exceptions which are as follows:
Exceptions to caveat emptor
1. Where the seller makes a mis-representation and the buyer relies on it, the doctrine of
caveat emptor does not apply. Such contract is without the free consent of the buyer and
hence it is voidable at the option of the buyer who has a right to rescind the contract.
2. When the seller obtains the consent of the buyer by fraud or where the seller actively
conceals the defects in the goods so that such defects cannot be discovered on a reasonable
examination, the doctrine of caveat emptor does not apply. Such a contract is also voidable
at the option of the buyer, who can, in addition to rescission of contract, can claim damages
from the seller.
3. Where the buyer makes known to the seller the purpose for which he requires the goods
and relies upon the seller’s skill and judgment but the goods supplied are unfit for the specified
purpose, the principle of caveat emptor does not protect the seller and he is liable for
damages.
4. Where the custom or practice has established a norm as to quality of fitness of goods and
seller does not comply with such norm, the doctrine of caveat emptor does not apply.
5. In case of sale by description by the seller who deals in such class of goods, there is an
implied condition as to goods being of merchantable quality. If they are not, the rule of
caveat emptor will not protect the seller. (The doctrine will apply if the buyer has examined
the goods.)
TRANSFER OF PROPERTY
At the beginning of our discussion on this Act we have seen that sale is a contract where there
is a transfer of property in goods from seller to buyer. The expression ‘property’ here means
‘ownership’ and transfer of property means transfer of ownership of goods from seller to buyer. We
have also seen that it is different from possession of goods. Thus, it is possible that seller is still in
possession of goods sold though the ownership has passed to the buyer; and the goods are in
possession of the buyer though the ownership is still with the seller.
When is the property in goods transferred from seller to buyer? It is important to know the
answer to this question because the precise moment of time at which property in goods passes from
the seller the buyer is of great significance from the view point of its legal effects. They are as
follows:
1. Risk passes with ownership. If the goods are lost or damaged, it is the owner who has to
bear the loss. Hence it is necessary to know whether the ownership of goods is with the
seller or the buyer at the time when the goods are lost or damaged.
2. It is necessary also for taking action against a third party who may be responsible for
causing damage to the goods, because it is only the owner who can take such action.
3. In the event of insolvency of either seller or buyer, whether the official receiver or assignee
can claim the goods or not would depend on whether the ownership of goods is with the
seller or the buyer.
Rules regarding transfer of property in goods
We shall now discuss the rules regarding transfer of property in goods under the following two
heads:
● Transfer of property in specific or ascertained goods,
● Transfer of property in unascertained and future goods.
Transfer of property in specific or ascertained goods
Where there is a contract for the sale of specific or ascertained goods, the property in them is
transferred to the buyer at such time as the parties to the contract intend it to be transferred. For the
purpose of ascertaining the intention of the parties regard shall be had to the terms of the contract,
the conduct of the parties and the circumstances of the case.
It is only when the intention of the parties cannot be judged from the terms of contract or their
conduct or other circumstances that the following rules shall apply regarding transfer of property.
1. When goods are in deliverable state. Where there is an unconditional contract for the
sale of specific goods in a deliverable state, the property in goods passes to the buyer as soon as the
contract is made, and it is immaterial whether the time of payment of the price or the time of
delivery of the goods or both are postponed.
For example, ‘A’ buys some books from a bookshop for ` 1000 on credit for one week and the
shopkeeper agrees to send the books to the house of ‘A’. The property in books passes to the buyer
immediately irrespective of non-payment of price and non-delivery of goods. Therefore, if in the
meanwhile, the shop catches fire and books are destroyed, the loss has to be borne by the buyer and
he is bound to pay the price.
The goods are said to be in ‘deliverable state’ when they are in such a state that the buyer
would, under the contract, be bound to take delivery of them. In the above example, if the shopkeeper
has to put any stamps on the books or to pack them in a box or make a consolidated list of the books
or do anything with respect to the books, they shall not be considered to be in a deliverable state until
such things are done, and the buyer does not get ownership of them till then.
2. When the goods are not in a deliverable state. Where there is a contract for the sale of
specific goods and the seller is bound to do something to the goods in order to put them in a deliverable
state, the property in goods passes to the buyer only when such thing is done and the buyer is
accordingly notified. It shall be thus seen that merely putting the goods in a deliverable state is not
enough for passing of property. It is further necessary that the seller notifies to the buyer about the
goods now being in a deliverable state.
3. When the goods have to be measured or weighed for determining price. Where
there is a contract for the sale of specific goods in a deliverable state, but the seller is bound to
weigh, measure, test or do some other act or thing with reference to the goods for the purpose of
ascertaining the price, the property does not pass to the buyer until such act or thing is done and the
buyer has notice of it.
4. When goods are delivered on approval. When goods are delivered to the buyer on
approval or ‘on sale or return’, the property in goods passes to the buyer
● When he signifies his approval or acceptance to the seller, or does any other act adopting
the transaction, for example, re-sells them or consumes them,
● If he retains the goods without giving notice of rejection beyond the time fixed for the return
of goods, or if no time is fixed, beyond a reasonable time.
For example, A book publisher delivered 100 text books to a college library on approval i.e. on
sale or return basis, within 10 days. On the third day, there was a fire in the college library without
any fault on the part of college management destroying all books. The book publisher has to bear the
loss as the property in books was still with him.
However, if the college management retains the books beyond 10 days without communicating
anything to the publisher and the books are destroyed in fire, the loss has to be borne by the management
since the property in books has now passed to the management and publisher is no longer the owner
of the books.
Transfer of property in unascertained and future goods
The Sale of goods Act provides that where the goods contracted to be sold are not ascertained
or where they are future goods, ownership will not pass to the buyer, unless ad until the goods are
ascertained. Till then it is not a sale, but an agreement to sell. The goods have to be unconditionally
appropriated to the contract so as to bring them in a deliverable state, either by the seller with the
assent of the buyer or by the buyer with the assent of the seller. Such assent may be express or
implied and may be given either before after the appropriation is made.
Thus, in a sale of 100 litres of oil from a tank containing large quantity of oil, the ownership of
100 litres of oil does not pass to the buyer until 100 litres of oil is separated from the tank and
appropriated to the contract. Till then it is an agreement to sell.
The process of ascertainment or appropriation consists in earmarking or setting apart goods as
subject matter of the contract. It is separating the goods, under contract, from the bulk by some
method such as weighing, measuring or counting with the intention that such separated quantity of
goods can be delivered to the buyer.
Valid Appropriation
The ascertainment of the goods or their appropriation may be made –
1. by the buyer with the seller’s assent. Where the goods are in the possession of the
buyer, as for example, where the buyer is a warehouseman for the seller in respect of 60
bales of cotton and agrees to buy 25 bales out of them, the buyer i.e. the warehouseman
may, with the seller’s assent select 25 bales out 60, and when he has done so, the goods (25
bales) become appropriated and the ownership in them passes to the buyer.
2. by the seller with the buyer’s assent. The more common thing is for the seller to
appropriate the goods, but such appropriation must be with the buyer’s consent. In the
above example, if the bales were lying with the seller and he selected 25 bales out of the lot
with the buyer’s consent, the ownership of those 25 bales would pass to the buyer as soon
as this is done. Selection of goods by one party and the adoption of that act by the other,
converts the ‘agreement to sell’ into an ‘actual sale’.
As regards delivery to carrier, a seller us deemed to have unconditionally appropriated the
goods to the contract where he delivers the goods to a carrier or other bailee for the purpose of
transmission to the buyer, and does not reserve the right with respect to the goods. Reservation of
the right over the goods means reserving a right to dispose of the goods until certain conditions like
payment of the price, are fulfilled. When seller reserves such a right, the ownership of goods does
not pass to the buyer until those conditions are satisfied. Thus, where the goods are put in the course
of transmission to the buyer and the seller has reserved the right of disposal till payment of price, the
buyer shall not become the owner of the goods until the price is paid.
Transfer of Title
The general rule is that only the owner of goods can sell them. If a person transfers goods not
belonging to him, the transferee gets no title. The Act provides that ‘where goods are sold by a
person who is not the owner thereof and who does not sell them under the authority or with the
consent of the owner, the buyer acquires no better title to the goods than the seller had.’ This rule is
expressed by the maxim – ‘nemo det quod non habet,’ which means that no one can give what he
has not got. This rule is meant for the purpose of protecting the true owner of goods against the sale
of his goods by the non-owners. The buyer of such goods will not get any title to the goods because
the seller had not right to them. Therefore, if a thief sells any stolen property, the buyer will not get
any title even if he has purchased the goods bona fide and in innocence. Such buyer, according to
this rule, will have to return the goods to the true owner, though he may have paid the price for the
same. Similarly, if A, the hirer of goods under a hire-purchase agreement, sells them to B, the buyer
B does not acquire ownership of goods as against the true owner even if he has purchased the goods
in good faith and on payment of price. At the most he may acquire the rights of a hirer of goods, as
these were the only rights which could be legally transferred to the buyer. The buyer does not get
any better title than that of the seller.
However, there are certain exceptions to the rule that a seller cannot give to buyer a better title
than he himself has. These exceptions are discussed below:
Transfer of title by non-owners

1. An unauthorised sale by mercantile agent. Mercantile agent is an agent having, in the
customary course of business as such agent, authority either to sell goods or to consign goods for the
purposes of sale, or to buy goods or to raise money on the security of goods. If such agent, who is
generally assumed to be authorised to sell the goods, sells them without authority, he can pass a good
title to the goods to the buyer. In order that the buyer gets a good title to the goods through an
unauthorised sale by a mercantile agent, three conditions must be satisfied.
(a) The agent must be in possession of goods or documents of title with the consent of the
owner;
(b) He should sell the goods in the ordinary course of business; and
(c) The buyer must should act in good faith without having an notice that the agent has not
authority to sell the goods.
2. Sale by joint owner. If one of several joint owners of goods has the sole possession of
them by permission of the co-owners, the property in the goods is transferred to any person who
buys them from such joint owner in good faith without notice of the fact that the seller has no
authority to sell.
Thus, one joint owner of goods can sell and give a good title to the buyer even if he is acting
without any authority from the other joint owners.
A, B and C are joint owners of 100 bags of wheat which bags are in the custody of A. A sells
them to D who purchases them without notice of absence of authority of A. D gets a better title to
goods than the title of A.
In the absence of this provision, D could have at the most become a joint owner of goods and
would be entitled to only that share in the goods which A had before the sale.
1. Sale by a person in possession under voidable contract. When, in a contract, the
consent of one party is obtained by undue influence, misrepresentation or fraud, the contract is
voidable at the option of the party whose consent is so obtained. In other words, such party can
avoid the contract and when he exercises such choice, the effects of contract are nullified.
When a person is induced to sell his goods under misrepresentation etc. he has a right to
rescind the contract and recover the goods from the buyer who is responsible for misrepresentation.
However, if such buyer sells the goods to a third innocent party before the contract is rescinded,
such third party would get a good title to the goods even though the title of the seller is defective.
This is so because the right to avoid a voidable contract exists only so long as the interests of the
third person have not intervened.
For example, if A induces B to sell his horse for a very low price by misrepresentation or fraud.
The contract is voidable at the option of B. If A sells the horse to C before B rescinds the contract,
C would get a good title to horse even if the title of A is defective.
It must be noted that in such cases the buyer must be acting in good faith and without having
any notice of the defective title of the seller.
2. Sale by seller in possession after sale. In a sale, ownership of goods immediately passes
from seller to buyer. If a seller, who happens to be possession of goods after sale, again sells the
goods to a third person such sale is without authority since the seller is no longer the owner of goods.
However, he conveys a good title to the subsequent buyer provided the buyer acts in good faith and
without notice of the previous sale. This rule is also applicable if the seller pledges the goods either
himself or through his mercantile agent.
3. Sale by buyer in possession after agreement to buy. A buyer does not acquire title to
goods under agreement to buy. He simply gets a promise that the goods will be sold to him at some
future time. However, where a buyer has agreed to buy the goods and has obtained possession of
the same or the documents of title to them with the consent of the seller, resells or pledges the goods
either himself or through a mercantile agent, he will convey a good title to the buyer or the pledgee
provided the person receiving the goods acts in good faith and without notice of any lien or other
right of the original seller in respect of those goods.
This is not applicable to a person who has obtained possession of goods under a hire-purchase
agreement, because under such agreement, the hirer merely gets an option to buy.
4. Resale by an unpaid seller. Where an unpaid seller has retained or regained the possession
of goods by exercising his right of lien or stoppage of goods in transit, and he resells the goods to a
third person, such subsequent buyer acquires a good title to the goods as against the original buyer,
even though the resale may not be in compliance of the rules laid down for resale, e.g. notice to the
first buyer.
5. Exceptions under other Acts. Some other Acts also make provisions under which a non-
owner of goods can make a valid sale conveying a good title to the buyer, such as –
(a) Sale by finder of lost goods under certain circumstances;
(b) Sale by pawnee or pledgee under certain circumstances;
(c) Sale by Official Receiver of Assignee in case of insolvency of an individual and Liquidators
of Companies;
(d) Under the Negotiable Instruments Act, a holder in due course gets a better title than what
his endorser had. In other words, a person who takes a cheque in good faith and for value
becomes entitled to the amount even if a takes the cheque from a person who has found the
cheque on road.
PERFORMANCE OF CONTRACT OF SALE

Duties of buyer and seller
How are the parties to the contract of sale required to perform their respective obligations
under the contract? The simple answer is, according to the terms of the contract. The Sale of Goods
provides that it is the duty of seller to deliver the goods and it is the duty of the buyer to accept them
and pay for them. Therefore, performance of contract of sale of goods means delivery of goods by
the seller and acceptance of delivery of goods and payment of price by the buyer, in accordance
with the terms of the contract. The parties are at liberty to stipulate any terms of their choice as
regards the time, place and manner of delivery of goods by the seller and its acceptance and payment
of price by the buyer.
It is only when the parties do not provide anything in the contract regarding these matters that
the rules incorporated in the Act are made applicable. These rules are discussed below.
Delivery and modes of delivery
Delivery means voluntary transfer of possession of goods from one person to another.
Delivery of goods can take place in any of the following modes:
1. Actual delivery. Actual or physical delivery takes place where the goods are handed over
by the seller to the buyer or his agent authorised to take possession of the goods.
2. Symbolic delivery. It is made by indicating or giving a symbol. Here the goods themselves
are not delivered, but the “means of obtaining possession” the goods are is delivered to the
buyer, e.g. by delivering the key to the warehouse where the goods are stored or the bill of
lading which will entitle the holder to receive the goods on the arrival of the ship.
3. Constructive delivery or delivery by attornment. Such delivery takes place when the
person in possession of the goods acknowledges that he holds the goods on behalf of and at
the disposal of the buyer. For example, the seller may agree, after the sale, to hold the goods
in his possession as bailee, as per the instructions of the buyer. This is constructive delivery.
Such bailee may be either the seller himself or any third person. For example, the seller may
hand over the delivery order to the buyer and also to the warehouseman in possession of the
goods. The warehouseman who was till then holding the goods as bailee for the seller may
agree to now hold the goods as a bailee of the buyer.
Rules regarding delivery
1. Buyer to be put in possession. Delivery should have the effect of putting the buyer in
possession of goods. In order to constitute delivery the buyer or his authorised agent must have
possession of the goods, i.e. the buyer must be in a position to exercise some control over the goods
either directly or through an agent. Such delivery may be actual, symbolic or constructive.
2. Delivery and payment to be simultaneous. Unless otherwise agreed, delivery of the
goods and payment of the price are concurrent conditions. A contract of sale always involves
reciprocal promises; the seller promising to deliver the goods sold and the buyer to accept and pay
for them. In the absence of any contract to the contrary, they are to be performed simultaneously.
Therefore, unless the sale in on credit, the seller need not be ready to deliver the goods before the
price is paid.
3. Buyer to apply for delivery. Though the seller is bound to deliver the goods according to
the contract, yet he need not deliver them until the buyer applies for delivery. The rule is applicable
even to the transactions where the seller is yet to acquire the goods and notify the buyer about the
arrival of goods. In such cases also, upon notification by the seller, the buyer has to apply for
delivery.
4. Effect of part delivery. A delivery of part of the goods as an instalment of delivery of the
whole has the effect of passing of ownership to the buyer of the whole goods. In other words, when
a delivery of part of the goods has been made with the intention of delivering the rest also, the
property in the whole of the goods is deemed to pass to the buyer as soon as some portion is
delivered. For example, where hundred litres of oil is sold in the pack of ten litres each, delivery of
5 packs would amount to passing of ownership of the whole of the goods i.e. 100 litres of oil.
However, where the part is intended to be severed from the whole, part delivery does not
amount to be delivery of the whole.
5. Time of delivery. The goods must be delivered as per the terms of the contract. Where
the contract uses words like ‘immediately’, ‘forthwith’ etc., it means that quick delivery is intended.
When no time is fixed for delivery of the goods, the seller must deliver them within a reasonable time
and at a reasonable hour. What is reasonable is a question of fact and depends on the particulars of
each case.
6. Place of delivery. It is the duty of the seller to deliver the goods at the place where it has
been agreed, under the contract during the business hours on a working day. If the contract does not
stipulate any place of delivery -
(a) goods are to be delivered at the place at which they are at the time of making the ‘contract
of sale’;
(b) goods are to be delivered at the place where they are at the time of ‘agreement to sell’;
(c) goods are to be delivered at the place where they are manufactured or produced, if it is an
agreement to sell future goods.
In all the cases, the expenses of delivery are to be borne by the seller unless otherwise agreed
between the parties.
7. Delivery of different quantity or quality. If the delivery of goods is defective, in the
sense that it of a less or more quantity than what was agreed, or of goods mixed with the goods of
a different description not included in the contract, the buyer may reject the whole lot, or accept the
whole lot, or accept the quantity and quality he ordered and reject the rest of the goods so delivered.
In the case of rejection of goods, the buyer need not return them to the seller, but it is sufficient
if he notifies to the seller the fact of his rejection. If the buyer accepts short delivery or rejects the
whole lot, he is entitled to damages from the seller.
8. Delivery to carrier or wharfinger. The delivery of goods by the seller to a carrier for
transmission to buyer or to wharfinger for safe custody is prima facie deemed to be a delivery of the
goods to the buyer unless the right of disposal has been retained by the seller.
Unless the buyer requires to dispatch the goods at owner’s risk, it is the duty of the seller, when
he delivers the goods to carrier or wharfinger, to enter into a reasonable contract on behalf of the
buyer for the safety of the goods, and if he fails to do so, and the goods are lost or damaged, the
buyer may decline to treat the delivery to the carrier or wharfinger as a delivery to himself or may
hold the seller responsible for damages.
UNPAID SELLER AND HIS RIGHTS

Who is an unpaid seller?
The seller of goods is deemed to be an unpaid seller –
● When the whole of the price has not been paid or tendered; or
● When a conditional payment was made by a bill of exchange or other negotiable instrument,
and the instrument has been dishonoured.
In other words, an unpaid seller is one who has sold goods on cash terms and has not received
any part of the price. It does not include a seller who has sold goods on credit. The term seller
includes his agent. The seller is an unpaid seller even if a part of the price remains unpaid.
Rights of Unpaid seller
An unpaid seller has two-fold rights:
● Rights of unpaid seller against the goods; and
● Rights of unpaid seller against the buyer personally.
Rights of unpaid seller against goods
An unpaid seller has the following rights against the goods. It must be noted that the importance
of these rights lies in the fact that these rights are available to an unpaid seller even though the
ownership of goods, i.e. property in goods has already passed to the buyer. Thus, in a way, these
rights can be exercised by an unpaid seller in respect to the goods not belonging to him.
These rights are –
1. Right of lien;
2. Right of stoppage of goods in transit; and
3. Right of resale.
1. Right of lien.
It is a right to retain the possession of goods and refuse to deliver them to the buyer until the
price is paid or tendered. An unpaid seller in possession of goods sold is entitled to exercise his lien
on the goods in cases where –
(a) the goods have been sold without any stipulation as to credit;
(b) the goods have been sold on credit, but the term of credit has expired;
(c) the buyer becomes insolvent.
The seller’s lien is a possessory lien and hence it can be exercised only so long as the seller is
in possession of the goods. It can be exercised only for non-payment of price, and not for any other
charges such as godown charges or packing charges etc. When the seller has made part delivery of
the goods, he can exercise lien on the balance of the goods not delivered.
It may be remembered that this right of the seller is regardless of transfer of property to the
seller. In other words, the unpaid seller can exercise this right even if he is no longer the owner of
the goods and the property in the goods has passed to the buyer. Correctly speaking, the right of lien
is available only when the ownership of goods has passed to the buyer. When the property in goods
has not passed to the buyer, it is meaningless to say that the seller has a right of lien on goods until
the price is paid. Lien presupposes the right to retain the possession of goods belonging to another
until the price is paid. Therefore, it is only when the property in goods has passed to the buyer that
the seller can exercise the right of lien on the goods which may continue to be in his possession.
If the property in goods has not passed to the buyer, the seller has the right of withholding the
delivery of goods. The Act provides that where the property in goods has not passed to the buyer,
the unpaid seller has, in addition to his other remedies, a right of withholding delivery similar to and
coextensive with his rights of lien and stoppage in transit where the property has passed to the
buyer.
Termination of lien
Lien on goods by the seller depends on physical possession of goods by him. Once the possession
is lost, the right of lien is also lost. Accordingly, the right of lien is lost or is terminated, -
(a) When the seller delivers the goods to a carrier or other bailee for the purpose of transmission
to the buyer without reserving the right of disposal of the goods; or
(b) When the buyer or his agent lawfully obtains possession of the goods; or
(c) When the seller expressly or impliedly waives his right of lien.
2. Right of stoppage of goods in transit
The right of stoppage in transit is a right of stopping the goods while they are in transit, resuming
possession of them and retaining possession until payment of the price. Thus, in a way this right is an
extension of the right of lien. The right to retain the goods is lost when the possession of goods is
lost. Thereafter, the seller has a right to regain the possession of goods which is the right of
stopping further delivery or transit of goods while they with a carrier for the purpose of transmission
to the buyer.
This right is available to the unpaid seller when –
1. The buyer becomes insolvent – when the buyer has ceased to pay his debts in the ordinary
course of business, whether he is declared insolvent or not.
2. The goods are in transit – the goods are neither with the seller nor with the buyer, but are in
the custody of a carrier as an independent middleman. (If the carrier is an agent of the
buyer, the transit comes to end the moment the carrier receives the goods on behalf of the
buyer. If the carrier is an agent of the seller, the transit has not begun, because in the eyes
of law they are still in possession of the seller.)
Duration of transit
The right of stoppage of goods in transit is available to unpaid seller only during the period when
the goods are in transit. It is therefore important to know when such transit begins and when it ends.
In other words, duration of transit is significant because when the transit comes to an end, the right
of stoppage of goods also comes to end.
Goods are deemed to be in course of transit from the time when they are delivered to a carrier
or other bailee for the purpose of transmission to the buyer, until the buyer or his agent takes delivery
of them. The goods are still deemed to be in transit if they are rejected by the buyer.
The transit comes to an end in the following cases:
1. If the buyer obtains delivery before the arrival of the goods at their destination.
2. If, after the arrival of the goods at their destination, the carrier acknowledges to the buyer
that he holds the goods on his behalf, even if a further destination of the goods is indicated
by the buyer.
3. If the carrier wrongfully refuses to deliver the goods to the buyer.
How stoppage in transit effected?
The unpaid seller may exercise his right of stoppage in transit in the following ways:
(a) By taking actual possession of goods
(b) By giving notice of his claim to the carrier or other bailee in whose possession the goods
are.
It is the duty of the carrier not to deliver the goods to the buyer once he receives the notice
from the seller. If he makes a default, he is liable for conversion.
Lien and stoppage in transit distinguished
The points of difference between right of lien and right of stoppage of goods in transit are as
follows:
1. The right of stoppage of goods in transit arises only when the buyer is insolvent, but a right
to lien can be exercised even when the buyer is able to pay, but does not pay.
2. Lien is available only when the goods are in actual possession of the seller, but goods can be
stopped in transit when the seller has parted with the possession and the buyer has not
obtained the possession of goods.
3. When the possession is surrendered by the seller, his lien is terminated, but his right of
stoppage commences and remains as long as the goods are in transit and before they go into
possession of the buyer.
4. The right of lien is to retain possession while the right of stoppage in to regain possession.
Effect of sub-sale or Pledge by buyer
What would happen to these rights of the seller if the buyer sells or pledges the goods before
these rights are exercised by the seller? The answer is that these rights of the seller are not affected
by buyer selling or pledging the goods or making any disposition of them, unless A consents. For
example, A sells certain goods to B and delivers them to a carrier for transmission to B. Before the
goods are delivered to B, A comes to know that B becomes insolvent. In the meanwhile, B sells the
goods to C. In this case, sale between B and C will not affect the right of A to stop the goods in
transit, unless A has assented to such sale.
However, while the goods are transit, if the buyer transfers the documents of title or pledges
them to a person in good faith and for consideration, then, if the transaction is sale, the seller’s right
of lien or stoppage is defeated. If the transaction is a pledge, the seller’s right of stoppage is subject
to the pledge, i.e. subject to the rights of pledgee. But in such case, the unpaid seller can require the
pledgee to satisfy his claim against the buyer first out of any other securities of the buyer in the
hands of the pledgee.
3. Right of resale
The third right available to an unpaid seller is the right of resale, the first two being the right of
lien and right of stoppage of goods in transit. It is called resale because there has been already a
sale by which the ownership has passed to the buyer.
This is a very valuable right because in the absence of this right, the other two rights would be
meaningless. A regular businessman would not be content with retaining or regaining the possession
of goods once sold, unless he has a right to resell them to another person and complete the transaction.
An unpaid seller can resell the goods in the following cases:
(a) Where the goods are perishable
(b) Where the right is expressly reserved in the contract
(c) Where the seller has given a notice to the buyer of his intention to resell and the buyer does
not pay with a reasonable time.
If, on a resale, there is a deficiency between the price due and the amount realized, the seller
can recover it from the buyer. But if there is a surplus on resale, the seller need not hand over the
surplus to the buyer. The profit arising out of resale belongs to the seller because the resale is the
result of breach of contract on the part of the buyer and such a buyer cannot take advantage of his
own wrong. However, if no notice is given by the seller to the buyer of his intention to resell (notice
is required when the goods are not perishable and right of resale is not expressly reserved in the
contract of sale), the seller cannot recover any loss that he may incur on resale. Additionally, if he
makes any surplus on the resale, he has to share it with the buyer.
Rights of Unpaid Seller against the Buyer personally
In addition to the rights against the goods which we have discussed above, the unpaid seller has
the following rights against the buyer personally:
1. Suit for price. Where the property in the goods has passed to the buyer, the seller is
entitled to sue for price, whether the possession is with the buyer or the seller. Similarly, where the
price is payable on a certain day irrespective of delivery, the seller may sue for the price, if it is not
paid on that day, although the property in goods has not passed.
2. Suit for damages for non-acceptance. Where the buyer wrongfully neglects or refuses
to accept and pay for the goods, the seller has a right to sue the buyer for damages for non-
acceptance. Here, the buyer seeks to recover the loss sustained by him due to breach of contract by
the seller rather than the price of the goods.
The Act lays down the rules for calculating the damages payable to seller in such case.
Accordingly, where there is a ready market for the goods, the damages would be equal to the
difference between the contract-price and the market-price. Where there is no available or ready
market for the goods, the measure of damages would depend on the facts of each case. Such
damages may be equal to the full price of the goods plus reasonable charge for the care and custody
of the goods.
BUYER’S RIGHTS AGAINST SELLER

The Buyer has the following rights to sue the seller for breach of contract:
1. Suit for damages for non-delivery. Where the seller wrongfully neglects or refuses to
deliver the goods to the buyer, the buyer may sue him for damages for non-delivery. The
measure of damages, as in the case of non-acceptance, would be the difference between
the contract-price and the market-price.
2. Suit for specific performance. A buyer can get his contract specifically performed, i.e.
obtain an order of the Court compelling the seller to deliver the goods he has sold, only when
the goods are specific or ascertained. This remedy is discretionary and will be granted only
when damages would not be an adequate remedy, for example, when the goods are very
rate or unique such as a rare book or a painting of a dead painter etc.
3. Suit for breach of warranty. Where there is a breach of warranty by the seller, the buyer
is entitled to damages if the price has already been paid. If not, he can ask for reasonable
reduction in the price of the goods.
4. Suit for breach of condition. The breach of condition entitles the buyer to treat the contract
as repudiated. He can file a suit for rescission of contract and also claim damages on the
ground that the whole contract is broken by the seller.
5. Suit for recovery of price with interest. If the buyer has already paid the price of the
goods, he can sue the seller for the refund of the price along with interest on the price-
amount from the date of payment of price till the date of such refund.
AUCTION SALE
A sale by auction is a public sale where goods are offered to be taken by the highest bidder. It
is a proceeding at which people are invited to compete with each other for the purchase of property
by successive offer of advancing sums.
The advertisement of an auction sale is merely an ‘invitation to offer’ and the bidders, at the
time when the auction is conducted, put forth their respective offers. When the auctioneer accepts
any of the offers, the contract is formed and the ownership of goods is passed to the buyer, making
him liable to pay the price of the goods.
The manner of expressing the offer is normally by shouting the amount of price which the
intending buyer is ready to pay for the goods. The manner of expressing acceptance is normally the
fall of hammer by the auctioneer for three times in succession. The offer stands accepted at the
third fall of the hammer.
The rules laid down under the Sale of Goods Act regulating the sale by auction are as follows:
1. where goods are put for sale in lots, each lot is prima facie deemed to be the subject of a
separate contract of sale;
2. the sale is complete when auctioneer announces its completion by the fall of the hammer or
in other customary manner, and, until such announcement is made, any bidder may retract
his bid;
3. the seller himself or any one person on his behalf may bid at the auction, provided such right
is expressly reserved by the by the seller. If such right is not expressly reserved, any bidding
by or on behalf of the seller is deemed to be fraudulent. This is to prevent pretended bidding
so as to raise the price of the goods.
4. The sale may be notified to be subject to a reserved price. It means that the goods shall not
be sold below a particular price which is the minimum price the goods are expected to fetch.
Even if the auctioneer, by mistake, accepts any bid below such price, no valid contract
comes into existence and he can refuse to deliver the goods to the bidder, though he may be
the highest bidder.
5. If the seller makes use of pretended bidding to raise the price, the sale is voidable at the
option of the buyer.
UUU
NEGOTIABLE INSTRUMENTS ACT, 1881 133
5. NEGOTIABLE INSTRUMENTS
ACT, 1881
INTRODUCTION
The law relating to negotiable instruments is contained in the Negotiable Instruments Act,
1881. The Act is based upon the English Common Law relating to promissory notes, bills of exchange
and cheques. The Act came into force on 1st March 1882. This Act was enacted with an object to
define and amend the law relating to promissory notes, bills of exchange and cheques. The Act
extends to the whole of India. It does not affect any local usage relating to any instruments in an
oriental language, for example, a hundi. Local usage applies to instruments in oriental language.
However, such usages may be excluded by contract to the contrary, including that the legal relations
of the parties shall be governed by this Act (Sec.1). It must be noted that only when the local usage
is contrary to the provisions of this Act, then the local usage would override the Act.
WHAT IS A NEGOTIABLE INSTRUMENT?

Section 13 of the Negotiable Instruments Act, 1881, defines a negotiable instrument as: “A
negotiable instrument means a promissory note, bill of exchange or cheque payable either to order or
to bearer.” [Sec. 13(1)].
‘Negotiable’ literally means ‘transferable.’ ‘Instrument’ means a ‘document.’ Therefore,
negotiable instrument means ‘a transferable document.’ However, it does not mean that an instrument
in order to be valid must be negotiable. Instruments may be marked ‘not negotiable’ yet they are
valid instruments and governed by the provisions of the Act.
The Act narrows down the meaning of an instrument. It regulates only three types of instruments,
viz., Promissory Notes, Bills of Exchange and Cheques. Bills of Exchange drawn in vernacular
language (called hundis) are covered by the Act. It does not cover Bills of Lading, Dividend Warrants,
Banker’s Drafts, etc. Hundis are generally governed by local usages and customs. These instruments
have become important by custom or usage of trade. In the absence of any local usage or custom
the Act applies to hundis. If the usage or custom is inconsistent with the Act, such usage or custom
will prevail and not the provisions of the Act. Scope of the Act is, therefore, very limited. The Act
does not affect any local usage relating to any instrument in an oriental language.
It may be noted that though the Act mentions only three kinds of negotiable instruments, namely,
bills of exchange, promissory notes and cheques, yet instruments by usage or custom may possess
the characteristics of negotiability. In the absence of any custom or usage governing such instruments,
provisions of the Act will be extended to such other instruments, for example, hundis, bills of lading,
railway receipts, etc.
In India, the Act merely regulates the issue and negotiation of bills, promissory notes and
cheques, but does not provide for the transmission of rights in such instruments by operation of law
or by transfer inter vivos. The Act does not affect the transfer of instruments under ordinary law
otherwise than by negotiation, for example by assignment. The Act is, therefore, not exhaustive.
All negotiable instruments are chose-in-action or actionable claims and are transferable under
the Transfer of Property Act by assignment.
Ordinarily, the transferor cannot give a better title than he himself has. ‘Nemo dat quod non
habet’, for example, the transferee obtains the document with the same privileges, obligations and
liabilities of the transferor. Therefore, if the transferor’s title is defective, transferee’s title will also
be defective. However, negotiable instrument forms an exception to the above general rule. A
bonafide transferee of a negotiable instrument for value, without notice of any defect acquires the
instrument free of any defects, for example, he acquires a better title than that of the transferor
irrespective of the transferor’s title being defective.
A negotiable instrument is one which entitles the holder to the receipt of money. It gives him the
right to transfer the same by mere delivery or endorsement thereon. The negotiability of the instrument
continues till its maturity.
CHARACTERISTICS OF A NEGOTIABLE INSTRUMENT

A negotiable instrument has the following characteristics:
1. Property: The possessor of the instrument is the holder and owner thereof. A negotiable
instrument does not merely give possession of the instrument, but right to property. Whosoever gets
possession of the instrument becomes its owner and is entitled to the sum mentioned therein as the
holder. The complete right of ownership in a negotiable instrument passes by mere delivery where
instrument is payable to ‘bearer.’ Where instrument is payable to ‘order’, right of ownership passes
by indorsement and delivery.
2. Defects in title: The holder in good faith and for value called the ‘holder in due course’
gets the instrument free from all defects of any previous holder.
3. Remedy: The holder can sue upon the negotiable instrument in his own name. All prior
parties are liable to him. A holder in due course can recover the full amount on the instrument.
4. Rights: The holder in due course is not affected by certain defences which might be available
against previous holder, for example, fraud, to which he is not a party.
5. Payable to order: A promissory note, bill of exchange or cheque is payable to order which
is expressed to be so payable, or which is expressed to be payable to a particular person. An
instrument which does not restrict its transferability expressly or impliedly is negotiable whether the
word ‘order’ is mentioned or not. The word ‘order’ or ‘bearer’ is no longer necessary to render an
instrument negotiable. Where the instrument prohibits transfer or indicates that it shall not be
transferable is nevertheless valid as between the parties thereto, but it is not a negotiable instrument.
It must be noted that where a promissory note, bill of exchange or cheque, either originally or
by indorsement, is expressed to be payable to the order of a specified person, and not to him or his
order, it is nevertheless payable to him or his order at his option.
6. Payable to bearer: A promissory note, bill of exchange or cheque is payable to bearer
which is expressed to be so payable or on which the only or last indorsement is an endorsement in
blank [Expln. (ii) Sec. 13]. It specifies t hat the person in possession of the bill or note is a bearer
of the instrument which is so expressed payable to bearer.
7. Payment: A negotiable instrument may be made payable to two or more payees jointly, or it
may be made payable in the alternative to one or two, or some of several payees [Sec. 13(2)].
8. Consideration: Consideration in the case of a negotiable instrument is presumed.
9. Presumptions: Certain presumptions apply to all negotiable instruments. (This topic is
discussed in Chapter 7 below).
1PROMISSORY NOTE (SEC. 4)
Definition
A ‘promissory note’ is an instrument in writing (not being a banknote or a currency-note)
containing an unconditional undertaking signed by the maker, to pay a certain sum of money only to,
or to the order of, a certain person, or to the bearer of the instrument. The person who promises to
pay is called the “maker.” The person who is promised the payment is called the “payee.”
ESSENTIAL ELEMENTS OF A PROMISSORY NOTE

1. Writing: The promissory note must be in writing. Oral engagement or promise is excluded.
No particular form of words is necessary. It may be written in ink or pencil or may even be printed
or cyclostyled. It may be in any form but the words shall be visible. Intention to make a note must be
clear.
2. Undertaking to pay: It is not necessary to use the word “promise” but the intention must
clearly show an ‘unconditional undertaking’ to pay the amount. In Bal Mukund v. Munna Lal
Ramji Lal (A.I.R. 1970 Punj. 516), it was held that absence of the word ‘promise’ does not mean
that a document is not a promissory note, provided it fulfils the requirements of this section and there
is clear intention on the part of the parties to treat the document as a promissory note.
Illustrations:
(a) “I acknowledge to pay on demand ` 1,000 for value received.” This is a promissory note.
But — “I acknowledge receipt of ` 1,000” is not a promissory note.
(b) “I promise to pay B ` 1,000 on demand.” It is a promissory note.
(c) “I promise to pay B or order ` 1,000” is a promissory note.
(d) “I owe you ` 1,000.” This is not a promissory note.
(e) “I acknowledge myself to be indebted to B in ` 1,000 to be paid on demand, for value
received” is a promissory note.
(f) “Mr. B, IOU ` 1,000” is not a promissory note [Gay v. Rooke 21 AM St. Rep. 434].
(g) “Received from X ` 1,000, which I promise to pay on demand with interest” is a valid
promissory note.
A document which is a receipt for money paid by cheque and which incidentally contains a
promise to repay the amount is not a promissory note, as there is no intention of creating a negotiable
instrument at all.
3. Unconditional: It must contain definite and an unconditional undertaking to pay. Promise to
pay should be unconditional. A conditional instrument is invalid. It must be certain of payment.
Illustrations:
Conditional promissory notes:
(i) “I promise to pay B ` 1,000 7 days after C’s marriage.”
(ii) “I promise to pay B ` 1,000 after deducting a sum due to him.”
(iii) “We promise to pay B £ 116.11s on D’s death, provided D leaves us enough to pay that
sum.”
Now these writings are conditional. Payment is subject to a certain event happening or not
happening. Such writings are not promissory notes.
Conditional notes are invalid because it is not certain whether or not they will ever be paid.
Unconditional promissory notes:
The following promises, however, are “not conditional.”
(i) At a particular place or at a specified time.
(ii) A promise dependant on the happening of an event which must happen, though the time of
its happening may be uncertain. Death is a certain event. Promissory note, therefore, drawn
payable after death of a certain person is a valid note.
(iii) A promise given for an executed consideration.
(iv) Any promise to pay an instrument on lapse of certain period, after a specified event which
is certain to happen.
Valid conditional promissory notes:

1. “I promise to pay B ` 500, three days after the death of X.
This is a valid promissory note as death is a certain event to happen; though time of death is
uncertain.
2. “I promise to pay B ` 500 at Bombay.”
3. “I promise to pay B ` 500 on 31st December 1977.”
The writings are promissory notes, though conditional as regards place and time of payment,
respectively.
4. Signed: The instrument must be signed by the maker thereof. The sign or a mark would
constitute signature, if the maker intended to subscribe to the document. Person must sign with his
free consent. It should not only be a physical act but also a mental act with an intention to sign.
5. Certain persons: The maker and payee of the instrument must be certain and definite
persons. A note may be made by several persons jointly to bind themselves jointly or severally. A
promissory note cannot be made by two persons payable by either in the alternative.
Two distinct persons should fill in the role of a maker and payee. A note cannot be made
payable to the maker himself. However, if the maker endorses the note, it is then valid. A note may
be made payable to two or more persons jointly. Payee must be a certain person. If he is capable of
being ascertained where he is misnamed or wrongly described, he will be a certain person.
For example — A promissory note payable to “my only niece living in England” ... is a valid
promissory note.
6. Specific sum: The sum promised to be paid must be certain and specific.
Illustration:
“ I promise to pay B ` 300 and all other sums due to him.”
This is not a payment of specific sum and, therefore, not a promissory note. However, payment
of a note with interest does not invalidate a promissory note. Interest rate may or may not be
specified. Where rate of interest is not indicated, interest rate of 18 per cent per annum shall be
applicable (Sec. 80). Similarly, payment by instalments does not make a promissory note invalid.
Payment at an indicated rate of exchange is also valid.
7. Promise to pay must be money only: The promise to pay must be money only. Promise
to pay anything other than legal tender, in full or in part, is not a promissory note.
Illustrations:
(i) “I promise to pay B ` 100 in cash and ` 100 worth of cosmetics.”
(ii) “I promise to pay B ` 500 and to deliver him my black horse.”
(iii) “I promise to pay B ` 500 in Government Bonds.”
These are all invalid promissory notes.
8. Stamping: Promissory notes are chargeable with stamp duty. It is advisable to cancel the
stamps with maker’s signature or initials. An unstamped or improperly or insufficiently stamped
promissory note is not admissible in evidence. No suit can be maintained upon an unstamped or
improperly stamped promissory note.
All the above ingredients must be present to make a promissory note a valid one.
Specimens of Promissory Notes
(1)
` 5,000.00
On demand I promise to pay ABC, the sum of ` 5,000 (Rupees five thousand) only with interest at 9
per cent per annum for the value received.
Place: Bombay.Date: 1st March, 2007 XYZ
(2)
Mumbai
` 5,000.00 1st March, 2007.
On demand I promise to pay ABC the sum of five thousand rupees only.
(3) Mumbai,
` 2,000.00 1st March, 2007.
Three months after date, I promise to pay ABC the sum of two thousand rupees.
(4) Mumbai,
` 1,000.00 1st March, 2007.
On demand I promise to pay ABC, or order the sum of one thousand rupees with interest @ 12 per cent per
annum until payment.
XYZ
In Smt. Pullura Vajaramma v. More Agaiah (AIR 1979 AP 2), it was held that where the
document was containing a promise to pay certain amount to a certain person and fulfilled all the
requirements of a promissory note as contemplated by Section 4 but did not contain the expression
‘or his order’ even then the document would be a promissory note.
BILL OF EXCHANGE (Sec. 5)
Definition
A bill of exchange is an instrument in writing containing an unconditional order, signed by the
maker, directing a certain person to pay a certain sum of money only to, or to the order of, a certain
person or to the bearer of the instrument.
ESSENTIAL ELEMENTS OF A BILL OF EXCHANGE

1. Writing: It must be in writing and may be in any language, and in any form. The provisions
of promissory note discussed above as regards writing are applicable to a bill of exchange.
2. Parties: There must be three parties to the bill of exchange, for example, Drawer, Drawee
and Payee. The person who draws a bill is called a ‘Drawer’ or ‘Maker.’ The person on whom the
bill is drawn is called a ‘Drawee’ and the person to whom the money is to be paid is called a
‘Payee.’
Payee: Section 7 of the Act defines ‘Payee’ as the person named in the instrument, to whom
or to whose order the money is, by the instrument directed to be paid. It is not necessary that the
three parties should be three distinct persons. One person can play the role of two, for example, one
person may be the drawer and payee or drawee and payee acting in two different capacities.
However, drawer and drawee cannot be the same person as the person cannot order himself the
payment. There should, therefore, be at least two distinct persons. In any case, three parties must
be pointed out in the bill with reasonable certainty. There may be joint drawers or joint payees, but
the bill cannot be addressed to two or more drawees in the alternative.
3. Order to pay: The bill of exchange must contain an ‘order by the drawer to the drawee to
pay’ under any circumstance. The order must be imperative and not in the form of excessive
request. Therefore, in Little v. Slackford (1826 M & W 171), where the bill of exchange was
drawn with the words: “Please let the bearer have seven pounds... and you will oblige”, it was held
that this is not a bill of exchange because it is a request and not an order. Simple request will,
however, not invalidate the instrument. Only excessive politeness will not construe an order to pay
and the instrument would not be a bill of exchange.
4. Unconditional: The order in the bill must be unconditional, for example, payable under all
events and circumstances. A promise or order to pay is not ‘conditional’ simply because the time for
payment of the amount or any instalment thereof being expressed to be payable on the lapse of a
certain period after the happening of a specified event which, according to the ordinary expectation
of mankind, is certain to happen although the time of its happening may be uncertain. Conditional bill
is invalid.
5. Signed: The bill must be signed by the drawer.
6. Person directed, for example, the drawee must be certain: The order to pay must be
directed to a certain person. Certainty of the drawee helps the payee to present the bill for acceptance
or payment to a certain person and also helps the drawee to know whether it is addressed to him or
not. Drawee must be designated with reasonable certainty.
7. Money: The order must be to pay money only.
8. Payee must be certain: It must be payable to a definite person or his order. The payee
must be certain. Bill may be made payable to two or more payees jointly or in the alternative.
9. Certain sum: The sum payable must be certain. The sum payable may be ‘certain’ although
it includes future interest or is payable at an indicated rate of exchange, or is according to the course
of exchange. What the section indicates is that the principal sum payable must be certain.
10. Stamping: Bill of exchange is chargeable with stamp duty.
Specimens of Bills of Exchange
(1) Mumbai,
` 5,000.00 Date: 1st March, 2007.
Sixty days after date pay to ABC or Order the sum of five thousand rupees only for value received.
To
PQR, Lentin Road, Mumbai. Signed
XYZ
Here XYZ is the “drawer” PQR is the “drawee” and ABC is the “payee.”
(2) Mumbai,
` 5,000.00 Date: 1st March, 2007.
Three months after date pay to ABC, or Order the sum of five thousand rupees for value received.
To
XYZ
(3) Mumbai
` 5,000 Date: 1st March, 2007.
Thirty days after date pay to ABC, or bearer the sum of five thousand rupees only.
To
XYZ
(4) Mumbai,
` 5,000.00 Date: 1st March, 2007
One month after date pay to my order, the sum of five thousand rupees for value received.
To
XYZ
‘PROMISSORY NOTE’ AND ‘BILL OF EXCHANGE’ DISTINGUISHED

Promissory Note Bill of Exchange
(i) Parties: There are two parties — maker or promisor There are three parties — drawer, drawee and payee.
and payee or promisee.
(ii) Nature of payment: It contains an unconditional It contains an unconditional order to pay.
promise to pay.
(iii) Acceptance: It is payable by a person who makes it. It is payable by the other person directed. Therefore, it
Therefore, no acceptance is necessary. should be presented to the drawee for acceptance. It may
be accepted conditionally.
(iv) Liability: The maker of the promissory note is Maker of bill of exchange is secondarily and conditionally
primarily and absolutely liable to payee. Promisor liable to payee.
stands in the immediate relation to the payee. He becomes liable only when the drawee refuses to honour
the bill.
Drawer stands in immediate relation to the drawee or
acceptor and not the payee.
(v) Notice: In case the note is dishonoured, no notice of Notice of dishonour must be given to all the parties liable
dishonour is necessary to the maker. on the bill.
(vi) Maker as payee: A note cannot be made payable to The drawer and the payee may be one and the same person.
the maker.
(vii) Protest: No protest is required. A foreign bill must be protested for dishonour when such
protest is required by the law of the place where it is
drawn.
(viii) Payable to bearer: Cannot be made payable to bearer. Can be made payable to bearer, though it cannot be made
[Sec. 31(2) of the Reserve Bank of India Act, 1934]. payable to bearer on demand [Sec. 31 (1) of the Reserve
Bank of India Act, 1934].
(ix) Exemption: Provisions relating to presentment for These provisions apply.
acceptance, acceptance for supra protest do not
apply.
When a promissory note becomes a bill of exchange?

An instrument which is a promissory note, may become a bill of exchange if acceptance is
endorsed thereon by a third party.
BILLS IN SETS (SECS. 132 & 133)
Bill of exchange may be drawn in parts, each part being numbered and containing a provision
that it shall continue payable so long as the other parts remain unpaid. All the parts together make a
set, but the whole set constitutes only one bill, and is extinguished when one of the parts, if a
separate bill, would be extinguished (Sec. 132).
Bills are sometimes drawn in several parts. All the parts so drawn are referred as bill ‘drawn in
sets.’ All parts form one set and whole set constitutes one bill. Each part is numbered and contains
reference to the other parts with a provision that it shall continue to be payable so long as the other
parts remain unpaid. Only one part requires to be stamped. If one part of set omits reference to the
rest that part becomes a separate bill in the hands of a holder in due course. The drawer of the ‘bills
in sets” has to sign all the parts and deliver all the parts but the acceptance should be written only on
one part. If the drawee accepts more than one part and if such separate accepted parts get into the
hands of different holders in due course, he and the subsequent endorsers of each part are liable on
every such part as if it were a separate bill. As between the holders in due course of different parts
of the same set, he who first acquires title to his part is entitled to other parts and the money
represented by the bill (Sec. 133). Such a person who first acquires title is deemed to be the owner
of the bill, and is therefore, entitled to all other parts of the bill and the money represented thereon.
Foreign bills are usually drawn in sets. The advantages of drawing bill in sets are:
(i) to facilitate prompt and easy presentment for acceptance and payment; and
(ii) to reduce the risk of loss in course of transit.
SPECIMEN OF A BILL IN SET
` 5,000.00 Mumbai
Date: 1st March, 2007.
Three months after sight of the first of exchange (second and third of the same tenor and date being
unpaid) pay to ABC, or order, the sum of five thousand rupees for value received.
To
PQR, London Signed
XYZ
CHEQUE (Sec. 6)
Definition
A ‘cheque’ is a ‘bill of exchange’ drawn on a specified banker and not expressed to be payable
otherwise than on demand. It includes the electronic image of a truncated cheque and a cheque in
the electronic form.
A cheque in the electronic form means a cheque which contains the exact mirror image of a
paper cheque, and is generated, written and signed in a secure system ensuring the minimum safety
standards with the use of digital signature (with or without biometric signatures) and asymmetric
crypto systems.
A truncated cheque means a cheque which is truncated during the course of a clearing cycle,
either by the clearing house or by the Bank whether paying or receiving payment immediately on
generation of an electronic image for transmission substituting the further physical movement of the
cheque in writing.
Clearing house means the clearing house managed or recognised by the Reserve Bank of
India.
A cheque is drawn on a banker only, while a bill of exchange can be drawn on any one. Like bill
of exchange, cheque has three parties, viz., drawer, drawee and payee. A drawee in case of cheque
is always a banker. A cheque is an unconditional order on the specified banker to pay on demand, a
certain sum of money to the bearer of the cheque or to his order. A bill of exchange is wider than a
cheque. Therefore, all cheques are bills of exchange but all bills of exchange are not cheques.
However, a cheque does not require acceptance. If the cheque is dishonored, the holder has no
remedy against the banker, because cheque does not amount to assignment of drawer’s funds in the
hands of the banker in favour of the holder. Further, there is no privity of contract between the
payee and the banker. The banker is liable only to the drawer. Drawing of a cheque is simply a
direction to pay. A cheque is not invalid because it is post-dated or ante-dated. A cheque is payable
only on demand and on presentation. Usually, a cheque is valid for a period of six months. It may be
drawn on a Sunday or a holiday.
A cheque must satisfy the essential requirements of a bill of exchange. The signature of the
drawer must be the same as his specimen signature with his banker. A cheque must be dated. Unlike
a promissory note and a bill of exchange, cheque may be drawn payable to bearer on demand.
Specimen of a Cheque
PAY A B C . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .
. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . .OR BEARER
RUPEES Five Thousand Only ` 5000.00
A/c No.
THE BANK OF INDIA
MUMBAI
Sd./-
XYZ
“340218” 400013020 11
‘CHEQUE’ AND ‘BILL OF EXCHANGE’ DISTINGUISHED

Cheque Bill of Exchange
(i) Drawee: Only a banker can be a drawee. Any one can be a drawee, including a banker.
(ii) Acceptance: A cheque requires no acceptance. It must be presented for acceptance. Drawee is liable only
after his acceptance.
(iii) Payment: Payable on demand without any days of A bill is normally entitled to three days of grace after
grace. maturity, unless payable on demand.
(iv) Presentment: If not presented to the banker for Drawer is discharged, if bill is not presented for payment
payment, it does not discharge the drawer unless he to the acceptor.
suffers injury or damages.
(v) Notice: In case of dishonour no notice of dishonour Notice of dishonour is to be given to all the parties liable to
is necessary. pay.
(vi) Crossing: A cheque may be crossed. Bill of exchange can never be crossed.
(vii) Stamp: Cheque requires no stamp. Bill must be properly stamped.
(viii) Countermanding payment: Payment of cheque may Payment of the bill cannot be countermanded by the drawer.
be countermanded by the drawer.
(ix) Noting and protesting: A cheque is not required to A bill may be noted or protested for dishonour.
be noted or protested for dishonour.
(x) Payable to bearer on demand: It can be drawn so. It cannot be drawn so.
Types of Cheques:
Popularly cheques are of two types —
(i) Those which are uncrossed are popularly known as “bearer” or open cheques; and
(ii) Crossed cheques.
Bearer or Open Cheques:
Bearer or open cheques are payable at the counter of drawee banker on presentment. As the
bearer cheques carry risk of being lost or stolen and the finder may be able to get it encashed,
crossing of cheques avoids such a contingency and secures payment.
Crossed Cheques:
Crossing of cheques is of different types:
1. Cheques crossed generally: (Secs. 123 & 126)
A cheque is crossed generally when;
(i) it has two transverse parallel lines marked across its face; or
(ii) it bears an abbreviation “& Co.” between the transverse parallel lines; or
(iii) it bears the words “not negotiable” between the two parallel lines (Sec. 123).
A cheque crossed generally will be paid to the banker through which it is presented. It is a
direction to the drawee banker to pay the sum only through a banker. Where a cheque is crossed
generally, the banker on whom it is drawn shall not pay it otherwise than to a banker (Sec. 126).
Crossing of cheques generally does not affect negotiability of instrument except, when the
words ‘not negotiable’ are added to the crossing, as given in the specimen (iii) below. However, this
does not restrict transferability of a cheque.
Specimens of General Crossing
E
BL
TIA
o.
O
&C
EG
TN
NO
(i) (ii) (iii)

2. Cheques crossed specially: (Secs. 124 & 126)
Where a cheque is crossed by two parallel transverse lines and the name of the banker is
written between the two parallel lines, with or without the words, ‘not negotiable’ it is called “Special
Crossing” (Sec. 124). It may be noted that two transverse parallel lines are not necessary in special
crossing. The banker on whom it is drawn shall not pay it otherwise than to the banker to whom it is
crossed, or his agent for collection (Sec. 126). It will be paid only when presented by the banker.
Any cheque issued in two names (i) banker and (ii ) the party to whom it is to be credited will
not fall in the category of cheque which must be issued in name of one party only. The name of the
party to whom it is to be credited is the payee and the banker whose name appears on the cheque is
the collecting banker only [Credential Finance Ltd. v. State of Maharashtra 2000 (5) BOM C.R.
527].
Specimens of Special Crossing
IA
IND
P a y NDIA E
E
I A IA
A / c OF I I A B L
BL
E G IND
OF
OT
OT
ee
T N OF
NK
BA N E G
BA
N O ANK
NK
T
B
NO
(i) (ii) (iii)

Payment of cheque crossed specially more than once: (Sec. 127)
A cheque cannot be crossed more than once specially, except the banker on whom it is crossed
specially can cross it again to his agent for purpose of collection only. If the cheque is crossed
specially more than once, the banker has a right to refuse payment thereof.
3. Cheques crossed ‘A/c. Payee’:
Often cheques are crossed with two parallel transverse lines and in between the two parallel
lines the words “a/c payee” or “a/c payee only” are written. This means that the proceeds of the
cheque are to be credited to the account of the payee only. This type of crossing is also called
“Restrictive crossing.” Insertion of words “A/c. Payee” do not restrict its negotiability. It serves a
good protection to drawer from loss or theft.
Specimens of Cheques Crossed A/c Payee
or Restrictive Crossing
ee
Pay
ego only
le
tiab
A/c
e
No Paye
tN
A/c
(i) (ii)
Cheque bearing ‘Not Negotiable’: (Sec. 130)

A cheque crossed generally or specially may bear additional words “not negotiable.” A person
taking a cheque crossed generally or specially bearing in either case the words ‘not negotiable’ shall
not have and shall not be capable of giving a better title to the transferee than that which the person
from whom he took it had.
A cheque bearing “not negotiable” is deprived of the main feature of ‘negotiability.’ It, however,
does not render the instrument non-transferable. Such a cheque can be transferred but the transferee
does not acquire the rights of a holder in due course. The holder of such a cheque gets no better title
than that of the transferor. The transferee takes such a cheque at his own risk. The object of “not
negotiable” crossing is to afford protection to the drawer against dishonesty, loss or theft in the
course of transit.
It will be observed that writing the words “not negotiable” is a type of special crossing or
general crossing. Cheques crossed generally or specially, can be added with the words “not
negotiable.” The words “not negotiable” is not the same thing as special crossing, because in a
special crossing, the banker on whom it is drawn shall not pay it otherwise than to the banker on
whom it is crossed, or his agent for collection. When the cheque is marked with the words “not
negotiable” in addition to the special crossing, it deprives the cheque of its main feature of negotiability.
Crossing after issue: (Sec. 125)
Crossing of cheques other than that authorised by the act is unlawful. The following crossings
are permissible:
(i) Where a cheque is uncrossed, the holder may cross it generally or specially.
(ii) Where a cheque is crossed generally, the holder may cross it specially.
(iii) Where a cheque is crossed generally or specially, the holder may add the words “not
negotiable.”
(iv) Where a cheque is crossed specially, the banker to whom it is crossed may again cross it
specially to another banker or his agent, for collection.
The cheque un-crossed bears loss of risk both to the drawer and the banker because any one
in possession of the cheque can present it to the banker and obtain the payment. However, in case
of crossed cheques, greater safety is afforded both to the drawer and to the banker. The holder of
uncrossed cheque may, therefore, cross the cheque. A crossed bearer cheque can be negotiated by
delivery and, therefore, this is not absolutely safe. The crossed order cheque can be negotiated by
endorsement and delivery only, which affords greater safety than a crossed bearer cheque. A cheque
cannot be crossed specially more than once. There is only one exception to this rule, for example,
only special crossing may require second crossing and that too only in one case, for example, where
such a crossing is made, a banker may once again cross it in favour of his agent for collection. The
banker has a right to refuse payment where a cheque is crossed more than once.
MATURITY OF AN INSTRUMENT
‘On presentment’ — ‘At sight’ — ‘After sight’: (Secs. 21-25) The maturity of a promissory
note or bill of exchange is the date on which it falls due (Sec. 22). Instrument marked ‘at sight’ and
‘on presentment’ means payable on demand.
Though instruments marked ‘at sight’ and ‘on presentment’ means payable on demand, yet
they differ as regards calculation of limitation period under the Limitation Act, 1963. In case of
instrument payable at sight, the period of limitation is three years from the date when the bill is
presented for payment. In the case of instrument payable on demand, the period of limitation is three
years from the date of the bill or note.
Instrument marked ‘after sight’ or ‘after date’ in a promissory note means after presentment
for sight, and in a bill of exchange means after acceptance, or noting for non-acceptance, or protest
for non-acceptance (Sec. 21).
As discussed above, promissory notes and bills of exchange cannot be drawn conditional.
Mere mention of the words ‘after sight’ or ‘after date’ will make the instrument conditional on
account of uncertainty of its maturity and therefore a bad instrument. Words ‘after sight’, or ‘after
date’ have to be specified with exact period ‘sixty days after sight’ or ‘three months after date.’
In a promissory note, the words ‘after sight’ mean ‘after presentment for sight, for example,
the payment on a note can be demanded only after it has been exhibited to the maker of the note, as
no acceptance is required in a note. However, a bill which requires acceptance, the words ‘after
sight’ mean that no payment can be demanded on the bill till the bill is exhibited for acceptance, or
having been dishonoured after noting for non-acceptance or after protest for non-acceptance.
Days of grace: Every promissory note and bill of exchange which is not expressed to be
payable on demand or at sight or on presentment is at maturity on the third day, for example, it is
entitled to three days grace after the day on which it is expressed to be payable. A cheque is always
payable on demand. It is not entitled to any days of grace. Similarly, instruments payable on demand
or at sight or on presentment are also entitled to three days of grace. Thus, only following instruments
are entitled to days of grace:
(i) bills and notes payable on a specified day;
(ii) bills and notes payable at a certain period after date or after sight;
(iii) bills and notes payable at a certain period after the happening of a certain event.
In case of bills and notes payable in instalments three days of grace is allowed on each instalment.
In Wiffen v. Roberts (1795 1 ESP. 262), it has been held that where days of grace are allowed,
instrument must be presented for payment only on the last day of grace.
Illustrations:
(a) A bill dated 30th November is made payable three months after date. It falls due on 3rd
March.
(b) A note dated 1st January is payable one month after sight. It falls due on 4th February.
Calculating maturity of a bill or note
(i) Payable so many months after date or sight:
In calculating maturity of a bill or note made payable at a stated number of months after date or
after sight, or after a certain event, the period stated shall be held to terminate on the day of the
month which corresponds with the day on which the instrument is dated, or presented for acceptance
or sight or noted for non-acceptance, or protested for non-acceptance, or when the event happens
(Sec. 23). If the month in which the period would terminate has no corresponding days, the period
shall be held to terminate on the last day of such month.
Illustrations:
(a) A negotiable instrument, dated 19th January, 1878, is made payable at one month after date.
The instrument is at maturity on the third day after 28th February, 1878.
(b) A negotiable instrument, dated 30th August, 1878, is made payable three months after date.
The instrument is at maturity on the 3rd December, 1878.
(c) A promissory note or bill of exchange, dated 31st August, 1878, is made payable three
months after date. The instrument is at maturity on the 3rd December, 1878.
(ii) Payable so many days after date or sight:
In calculating the maturity of a bill or note payable, a certain number of days after date or after
sight, or after a certain event, the day of the date, or presentment for acceptance or sight shall be
excluded (Sec. 24). In other words, the day from which the time is to run is to be excluded.
When day of maturity is a holiday: When the day on which a promissory note or bill of
exchange is at maturity is a public holiday, the instrument shall be deemed to be due on the next day
preceding business day (Sec. 25).
CLASSIFICATION OF NEGOTIABLE INSTRUMENTS

1. Accommodation bill: (Expln. 1 to Sec. 43)
An accommodation bill is one which has been signed by a person, as a drawer, against acceptor
or endorser without any consideration or for a consideration which fails with a view to oblige
some other person to provide him with funds. It is done to accommodate friends who are not in an
immediate position to pay consideration. The various parties lend their names to oblige their friends.
The person who signs, accepts or indorses a bill without receiving any consideration is said to have
lent his name to an ‘Accommodation Bill.” The person who so draws, accepts, endorses or
accommodates is called “Accommodation Party.” An accommodation party therefore draws, accepts
or endorses without receiving value therefor, with a view to lend his name.
Accommodation party is not liable to the accommodated party. But the accommodation party is
liable to pay money due on the instrument to any subsequent holder for value and the accommodation
party can recover from the accommodated party whatever he pays on the bill. In Mills v. Barber
(1836 1. M & W. 425), it has been held that a party which has accommodated the drawer of the bill
shall be liable to the holder in due course. The accommodated party agrees to provide the
accommodation party with funds or to indemnify the accommodation party against the consequences
of non-acceptance. Therefore, an accommodation party stands in the position of a surety for the
party accommodated. The accommodated party cannot, after he has paid the amount of the bill,
recover the amount from any person who becomes a party to the bill, for his accommodation, for
example, from the accommodation party. An accommodation bill can be negotiated after maturity
provided the person to whom it is negotiated takes it in good faith and for consideration. Therefore,
an accommodation bill is drawn, accepted or indorsed without any consideration to render financial
help to another person. Want of consideration will not avail against a holder for value. Non-presentment
of an accommodation bill to the acceptor for payment will not discharge the drawer. Failure to give
notice of dishonour of an accommodation bill will not discharge the prior parties from liability.
Illustration:
A who is in need of ` 5,000 approaches his friend B to borrow the money. B suggests that A
may draw a bill on him which he would accept. A may now get the bill discounted with the banker
and realise the amount to meet his immediate requirement of money. On the due date, A would pay
` 5,000 to B, who would then honour the bill, when presented to him for payment on due date. B has
accommodated A. This is an ‘Accommodation Bill.’
Rights of a holder of an accommodation note or bill: (Proviso to Sec. 59). Any person,
who, in good faith and for consideration becomes the holder, after maturity, of a promissory note or
a bill of exchange, made, drawn or accepted without consideration, for the purpose of enabling some
party thereto to raise money thereon, may recover the amount of the note or bill from any prior
party. As a rule, a negotiable instrument which is disohonoured or has become overdue, can be
negotiated, but the holder obtains it subject to the rights thereon of the transferor. He, therefore,
takes the instrument subject to the equities attached to the instrument. However, in case of a holder
of an accommodation bill, the rule does not apply. When an accommodation bill, or note is negotiated
after maturity, the holder for value and in good faith can recover the amount due thereon from any
prior party.
Illustration:
The acceptor of a bill of exchange, when he accepted it, deposited with the drawer certain
goods as a collateral security for the payment of the bill, with power to the drawer to sell the goods
and apply the proceeds in discharge of the bill if it were not paid at maturity. The bill not having been
paid at maturity, the drawer sold the goods and retained the proceeds, but endorsed the bill to A. A’s
title is subject to the same objection as the drawer’s title.
2.Fictitious bill: (Sec. 42)
A bill is fictitious when both the drawer and payee are fictitious persons. Where the drawer is
also the payee on the bill, without any intention that payment shall be made in conformity with the
instrument, the instrument is fictitious. Also when payee is non-existing, the instrument is fictitious.
A fictitious bill in the hands of a holder in due course becomes a good bill. The acceptor is liable
to a holder in due course, if the holder in due course can show that the signature of the supposed
drawer and that of the first endorser or payee are under the same hand. The liability of the holder in
case of a fictitious bill is only towards the holder in due course.
3.Escrow:
A bill delivered conditionally is called an “Escrow.” Where a bill or note is delivered conditionally,
the liability of the party delivering does not commence till the happening of the event or the fulfillment
of the condition. The rights of a holder in due course are not affected. Such a bill may also be
delivered for a special purpose as a collateral security. The purpose should be fulfilled before such
a bill can be made payable. It is to be noticed that though a conditional delivery is valid, the condition
attaches exclusively to the delivery and this does not affect the rule that the bill or note must be
made unconditional.
Illustration:
A makes a note in favour of his servant and hands it to his Solicitor telling to retain the note till
his death and then to hand it to the servant if he should still continue in service. If these conditions
are complied with and the Solicitor hands over the instrument to the servant, the servant can claim
the amount of the note from the administrators of his master’s estate [Re. Richards 1887 36 Ch. D.
541].
4.Instrument payable on demand: (Sec. 19)
A promissory note, a bill of exchange in which no time for payment is specified and a cheque
are payable on demand. Therefore, following are instruments payable on demand:
(i) bills and promissory notes expressed to be payable ‘on demand’ or ‘at sight’ or ‘on
presentment’;
(ii) bills and notes where no time for payment is specified; and
(iii) cheques are always payable on demand.
5.Bearer and Order instruments:
An instrument is a bearer instrument when the amount payable thereon is payable to the bearer
and he as a holder and in lawful possession thereof is entitled to enforce payment due on it.
An instrument is an order instrument when it is payable to the payee named in the instrument or
to his order at his option, for example “Pay to A or order.” When an instrument is payable only to a
particular person without restricting its negotiability, it is also an order instrument, for example,
“Pay to A ` 1000.”
6. Inchoate stamped instruments: (Sec. 20)
Inchoate instrument is an incomplete instrument. When one person signs and delivers to another
a paper stamped in accordance with the law relating to the negotiable instrument then in force in
India, and either wholly blank or having written thereon, he thereby gives prima facie authority to
the holder thereof to make or complete, as the case may be, upon it a negotiable instrument, for any
amount specified therein, and not exceeding the amount covered by the stamp. The person so
signing shall be liable upon such instrument, in the capacity in which he signed the same to any
holder in due course for such amount. However, no person other than a holder, in due course, shall
recover from the person delivering the instrument anything in excess of the amount intended by him
to be paid thereunder.
A person signs a stamped paper either wholly blank or leaves it incomplete. The person giving
blank instrument gives authority to the holder to complete it with appropriate amount upto the stamp
value of the instrument. The holder is authorised to complete the instrument. If the first holder does
not fill it up, any subsequent holder may do so. The holder cannot recover the amount in excess of
the amount intended to be paid by such signatory. The holder in due course can, however, recover
any amount on such instrument. The principle is one of estoppel. The person who so signs a blank or
incomplete instrument gives the other authority to fill it up, for which the person so signing is liable.
Instrument may be incomplete as regards date, amount, drawer, payee, etc. The holder may fill
in any of the particulars to make it a negotiable instrument. As long as the instrument is blank or
incomplete, it is not a valid negotiable instrument. The liability of a person signing a blank instrument,
therefore, arises only when the instrument is complete.
In order to make the signatory of inchoate instrument liable to the holder, following conditions
must be fulfilled:
(i) The inchoate instrument must be signed and delivered to another person by the signor.
(ii) Such an instrument must be adequately stamped in accordance with law in force, at the
time of delivering the same.
(iii) The instrument must be filled in before the signatory could be held liable.
(iv) The amount to be filled in by the holder must not exceed the stamp value on the instrument,
or what was intended to or agreed upon by the signatory to be paid. This however, does not
apply to a holder in due course, who is entitled to recover any amount filled in by him on the
instrument, even though it exceeds what was intended to or agreed upon by the signatory of
inchoate instrument.
7. Ambiguous instruments: (Secs. 17 & 18)
An instrument which is vague and cannot be clearly identified either as a promissory note or as
a bill of exchange, is an ambiguous instrument. Where an instrument may be construed either as a
promissory note or a bill of exchange, the holder may at his option treat it as either, and the instrument
shall thenceforward be treated accordingly (Sec. 17). If the amount undertaken or ordered to be
paid is stated differently in figures and in words, the amount stated in words shall be the amount
undertaken or ordered to be paid (Sec. 18).
When sections 4 or 5 relating to essentials of promissory notes or bills of exchange, as the case
may be, have not been complied with, controversy may arise whether an instrument is a promissory
note or a bill of exchange. The holder in such an event may treat it either as a promissory note or a
bill of exchange. Once an election is made by the holder, he cannot afterwards choose to treat the
instrument otherwise.
The common form of ambiguity which arises is the difference in the amount mentioned in
words and figures. In such a case, the amount in words is to prevail. In Saunderson v. Piper (1839
5 Bing. N.C. 425), it has been held that no extrinsic evidence can be adduced to explain such an
ambiguity in the amount mentioned in words and figures, as the amount mentioned in words shall
prevail.
8. Inland and foreign instruments: (Secs. 11, 12, 104 & 134)
A promissory note, bill of exchange or cheque drawn or made in India and made payable in, or
drawn upon any person resident in India shall be deemed to be an inland instrument (Sec. 11). Any
such instrument not so drawn, made or made payable shall be deemed to be a foreign instrument
(Sec. 12).
Thus, following instruments are inland instruments:
(i) An instrument drawn and made payable in India;
(ii) An instrument drawn in India, upon some person resident in India, though payable in a
foreign country;
The following instruments are foreign instruments:
(i) Instruments drawn and made payable outside India.
(ii) Instruments drawn in India, upon persons resident outside India and payable outside India.
Foreign bills of exchange must be protested for dishonour when such protest is required by the
law of the place where they are drawn (Sec. 104). However, a foreign bill drawn in India need not
be so protested. Protest in case of inland bills is optional. In case of foreign bills, it is absolutely
essential.
In the absence of a contract to the contrary, the liability of the maker or drawer of a foreign
promissory note, bill of exchange or cheque is regulated in all essential matters by the law of the
place where he made the instrument, and the respective liabilities of the acceptor and endorser by
the law of the place where the instrument is made payable (Sec. 134).
Illustration:
A bill of exchange was drawn by A in California, where the rate of interest is 25% and accepted
by B, payable in Washington, where the rate of interest is 6%. The bill is endorsed in India and is
dishonoured. An action on the bill is brought against B in India. He is liable to pay interest at the rate
of 18% only, but if A is charged as drawer, A is liable to pay interest at the rate of 25%.
The essential distinction between the two is that an inland bill need not be protested for dishonour
while a foreign bill must be protested for dishonour if the law of the place where it is made requires
so. No evidence of dishonour except the evidence of protest shall be allowed in case of foreign bills.
9. Forged instruments:
An instrument is a forged one when it is drawn, made or altered in writing to prejudice another
man’s rights. The most common form of forgery is signing another person’s signature, signing the
name of fictitious or non-existing person. Fraudulently writing the name of an existing person is also
forgery.
Forgery is nullity and, therefore, it passes no title. No holder of a forged instrument acquires
any right on the instrument. Even a holder in due course gets no title if he comes into the possession
of a forged instrument. A person who has paid money on a forged instrument by mistake, can
recover it from the person to whom he has paid it.
PAYMENT IN DUE COURSE (Sec. 10)

When the payment of the instrument is made by the person who is to honour the instrument in
accordance with the apparent tenor or what appears on the face of the instrument, in good faith and
without negligence, to any person in possession thereof, the payment is said to be made in due
course. Payment of the instrument in due course discharges the parties to the instrument.
Essentials: Following essentials should be noted in order to make a payment in due course:
1. Payment should be in accordance with the apparent tenor of the instrument, for example,
if the payment is to be made of ` 5,000 on a particular date, in accordance with the instrument, and
if ` 5,000 are paid at or after maturity, the payment is said to be made in due course in accordance
with the apparent tenor of the instrument. A payment before maturity is not a payment according
to the apparent tenor of the instrument, and is thus not a payment in due course.
2. Payment of the instrument must be made by or on behalf of the drawee or acceptor.
3. Payment must be made in money only unless agreed to by the parties to receive payment by
cheque or another bill.
4. The person to whom payment is made should be entitled to receive payment on it and be
able to give a valid discharge.
5. Payment may be made by any party to the instrument. Such a person making the payment
becomes the holder of the instrument against all the prior parties. On payment, instrument must be
cancelled.
6. Payment should be made in good faith and without negligence. Payment should be made to
a person in possession of the instrument under a reasonable belief and without any doubt that he is
entitled to receive the amount. If the payment is made negligently, drawee continues to be liable on
the bill.
The payment in due course discharges all the parties liable to pay. In Brone v. Morris 1834 2
Cr. Q.M. 579, it was held that the true owner can recover the money from the person who obtained
the payment. Payment of bearer cheque by bank to the manager of the company is payment in due
course within the meaning of section 10 of the Act [Bhutoria Trading Co. Ltd. v. Allahabad Bank
Ltd. & Ors. AIR 1977 Cal. 363].
In Union Bank of India v. Sales Tax Officer, Enforcement Branch Greater Bombay &
Ors. (1979 49 Comp. Cas. 615), it was held that in order the payment of a cheque can be held to
have been made in due course, it should be firstly, in accordance with the apparent tenor of the
instrument; secondly, it must be made in good faith and without negligence; thirdly, payment must be
made to a person in possession of the instrument; and fourthly, while making payment, care should
be taken to see that no circumstances exist, which afford a reasonable ground for believing that the
instrument holder is not entitled to receive payment of the amount mentioned in the instrument.
What is “good faith” is not defined in the Negotiable Instruments Act. One can therefore, turn
to section 3 (22) of the General Clauses Act, 1897, which in defining “good faith” states that a thing
shall be deemed to be done in “good faith” where it is in fact done honestly, whether it is done
negligently or not. The legislature has taken care to add the words “without negligence” in section
10 of the Negotiable Instruments Act, because, otherwise, the words “good faith” would only require
an act, to be done honestly, whether it was done negligently or not. By using the words “without
negligence”, the legislature intended that payment in due course will be considered valid if made in
good faith and without negligence and not if made in good faith alone. Therefore, what is required is
that there should not only be a sense of honesty in making the payment but there must also be the
absence of negligence.
[Payment in due course of crossed cheques (Sec. 128) and payment of crossed cheque
out of due course (Sec. 129) are discussed above under ‘Protection to paying banker’].
PARTIES TO NEGOTIABLE INSTRUMENTS

Holder (Sec. 8)
The ‘holder’ of a promissory note, bill of exchange or cheque means any person entitled in his
own name to the possession thereof and to receive or recover the amount due thereon from the
parties thereto. Where the note, bill or cheque is lost, or destroyed, its holder is the person so entitled
at the time of such loss or destruction.
Therefore, a person is the holder of the instrument if he:
(i) is entitled in his own name to the possession of the negotiable instrument; and
(ii) is entitled to receive or recover the amount due thereon from the parties thereto.
In order to constitute the person a holder of the instrument, it is not necessary that he should be
in possession of the instrument. The word ‘entitled’ used in the section suggests that he must be
entitled in his own name to the possession of the instrument. The legal representative of the deceased
can claim the instrument as holder by operation of law.
We have observed above that when the instrument is specially crossed, the banker may cross
it further to its agent for collection. Here the indorsee for collection does not become the holder of
the instrument.
It will be of interest to observe that mere right to have possession of the instrument will not
constitute the possessor a holder thereof. He should be also entitled to recover or receive the
amount thereon. From this it follows:
(i) the holder must have obtained the instrument in a lawful manner;
(ii) the holder must have a right to sue in his own name to recover the amount.
Until the contrary is proved, it shall be presumed that a holder is a holder in due course [Sec.
118 (g)].
Holder in Due Course (Sec. 9)
‘Holder in due course’ means any person who for consideration became the possessor of a
promissory note, bill of exchange, or cheque, if payable to bearer, or the payee or indorsee thereof,
if payable to order, before the amount mentioned in it became payable, and without having sufficient
cause to believe that any defect existed in the title of the person from whom he derived his title.
A person is a holder in due course when he proves that —
(i) Consideration : For consideration he became —
(a) “possessor” of a promissory note, bill of exchange or cheque “payable to bearer”, or
(b) the “payee” or “indorsee” thereof when “payable to order.”
In M/s. Madhya Bharat Khadi Sangh v. M/s. Balkishen Kapoor & Ors. (AIR 1979 All. 253),
if the hundi is payable to order then, to be holder in due course it is not necessary for indorsee or
payee to show that they obtained hundi for consideration. But if the hundi is payable to bearer
then the person possessing the bill will be holder in due course only when he has come in possession
of the hundi for consideration.
Consideration must be lawful. It should comply with the essentials of section 2(d) of the Indian
Contract Act. It should not fall under any of the provisions of section 23 of the Indian Contract
Act which makes the consideration unlawful.
(ii) Before maturity: He became the holder of the instrument before the amount mentioned in
it became payable. If a person becomes the holder on the day when the instrument is
payable, he cannot claim to be a holder in due course as instrument is payable at any time on
that day. Similarly, a person who becomes the holder of the instrument after maturity, he
cannot be a holder in due course and he takes it so at his peril.
(iii) Good faith: He had no cause to believe that any defect existed in the title of the person
from whom he derived his title, for example, he became the holder of the instrument in good
faith. Therefore, even if he obtains the instrument from a thief, but without knowledge
thereof he obtains a valid title.
It will be observed that a person is a holder only if he is legally entitled to the possession of the
instrument and to receive money due thereon. On the other hand, a 'holder in due course' is the
holder of an instrument for value or consideration, and who became the holder of the instrument
before maturity and was not aware of the defect in the title of the person from whom he obtained
the instrument. Therefore a person, who obtains the instrument by gift or after maturity is a holder
of the instrument and not a holder in due course.
A holder, to be a holder in due course, must not only have acquired the bill, note or cheque for
a valid consideration but should have acquired the cheque without having sufficient cause to believe
that any defect existed in the title of the person from whom he derived his title. This condition
requires that he should act in good faith and with reasonable caution. However, mere failure to
prove bona fide or absence of negligence on his part would not negative his claim. But in a given
case it is left to the Court to decide whether the negligence on part of the holder is so gross and
extraordinary as to presume that he had sufficient cause to believe that such title was defective [U.
Ponnappa Moothan Sons, Palghat v. Catholic Syrian Bank Ltd. AIR 1991 SC 441].
RIGHTS OR PRIVILEGES OF A HOLDER IN DUE COURSE

Holder in due course acquiring the instrument for consideration and in good faith gets the
following rights under the Act:
1. Holder in due course can file a suit in his own name against the parties liable to pay. He is
deemed prima facie to be a holder in due course (Sec. 118).
2. The holder in due course gets a good title even though the instrument was originally stamped
but was an inchoate instrument (Sec. 20). The person who has signed and delivered an inchoate
instrument cannot plead as against the holder in due course that the instrument has not been filled in
accordance with the authority given by him. However, a holder who himself completes the instrument
is not a holder in due course.
3. Every prior party to the instrument is liable to a holder in due course until the instrument is
duly satisfied (Sec. 36).
4. Acceptor cannot plead against a holder in due course that the bill is drawn in a fictitious name
(Sec. 42). In Bank of England v. Vagliano Bros. (1891 AC 107), it was held that the acceptor
should consider whether the bill was genuine or false before signing his acceptance on it.
5. The other parties liable to pay cannot plead that the delivery of the instrument was conditional
or for a specific purpose only (Sec. 46).
6. He gets a good title to the instrument even though the title of the transferor or any prior party
to the instrument is defective (Sec. 53). He can recover the full amount unless he was a party to
fraud; or if the instrument is negotiated by means of a forged indorsement.
7. Even if the negotiable instrument is made without consideration, if it gets into the hands of
the holder in due course, he can recover the amount on it from any of the prior parties thereto.
8. The person liable cannot plead against the holder in due course that the instrument had been
lost or was obtained by means of an offence or fraud or for an unlawful consideration (Sec. 58).
9. The validity of the instrument as originally made or drawn cannot be denied by the maker or
drawer of a negotiable instrument or by acceptor of a bill of exchange for honour of the drawer
(Sec. 120).
10. The maker of a note or an acceptor of a bill payable to order cannot deny the payee’s
capacity to indorse the same at the date of the note or bill (Sec. 121).
11. Indorser is not permitted as against the holder in due course to deny the signature or
capacity to contract of any prior party to the instrument (Sec. 122).
It will, therefore, be observed that the title of the holder in due course of a negotiable instrument
is free from equities and other defences which could be pleaded against the prior parties.
Liability of prior parties to holder in due course
Every prior party to a negotiable instrument is liable thereon to a holder in due course until the
instrument is duly satisfied (Sec. 36).
The prior parties to an instrument are maker, drawer, acceptor and indorser. The instrument is
duly satisfied when the parties to the instrument are discharged by payment or when the liabilities of
the parties are extinguished. Till then all the prior parties to the instrument continue to remain liable
to the holder in due course.
HOLDER DERIVING TITLE FROM HOLDER IN DUE COURSE (Sec. 53)
A holder of a negotiable instrument who derives title from a holder in due course has the rights
thereon of that holder in due course. The law presumes that every holder is a holder in due course
until the contrary is proved [Sec. 118(g)].
The instrument once reaching the hands of a holder in due course is cleansed of all defects. It
becomes pure and passes also to subsequent parties as an instrument immune from any defect.
However, where holder in due course himself is a party to fraud or illegality, he does not acquire the
rights of a holder in due course.
DRAWER, DRAWEE IN CASE OF NEED (Sec. 7)
The maker of a bill of exchange or cheque is called the ‘drawer.’ The person directed to pay is
called the ‘drawee.’ When in the bill or in any indorsement thereon the name of any person is given
in addition to the drawee to be resorted to in case of need, such person is called a “drawee in case
of need.”
In the event of the bill being dishonoured by the drawer for non-acceptance or for non-payment,
the drawer inserts the name of another person to be resorted to in case of need. This person is
called ‘drawee in case of need.’
Specimen of a Bill with a Drawee in case of need
` 5,000 Mumbai
Three months after date pay to ABC or order the sum of five thousand rupees for value received.
To
PQR, Lentin Road, Mumbai In case of need:
STU, Boulder Street,
Kolkata.
In the above specimen, STU is the ‘drawee in case of need.’ Drawee in case of need can be
mentioned only in bills of exchange. The payee has to approach the drawee in case of need, for
example, STU, if the bill is dishonoured by the drawee, either for acceptance or for payment.
When the drawee in case of need is mentioned, it is obligatory on the part of the holder to present
the bill to such person before it can be treated as dishonoured. The bill can be treated as dishonoured
only when it is dishonoured by drawee in case of need, where such person is mentioned (Sec. 115).
Non-presentment of the bill to drawee in case of need absolves the drawer from liability. A drawee in
case of need may accept and pay the bill of exchange without previous protest (Sec. 116).
PAYEE
The person named in the instrument, to whom or to whose order the money is by the instrument
directed to be paid, is called the ‘payee’ (Sec. 7). The term ‘payee’ does not include the term
indorsee, or the indorser. Payee is, therefore, the person named by the drawer to whom or to whose
order the amount is directed to be paid.
ACCEPTOR (Sec. 7)
After the drawee of a bill has signed his assent upon the bill, or, if there are more parts thereof
than one, upon one of such parts and delivered the same, or given notice of such signing to the
holder, or to some person on his behalf, he is called an “acceptor.”
Who can accept? No person except the drawee of a bill of exchange, or all or some of several
drawees or person named therein as a drawee in case of need, or an acceptor for honour, can bind
himself by an acceptance (Sec. 33). Drawee is not liable on the bill until acceptance. He, therefore,
cannot be sued on the bill till he has accepted the same.
Where there are several drawees of a bill of exchange who are not partners, each of them can
accept it for himself but none of them can accept it for another without his authority (Sec. 34). The
following persons can be acceptors of a bill of exchange:
(i) the drawee of a bill;
(ii) the drawee in case of need;
(iii) when there are more than one drawee, all or some of several drawees;
(iv) an acceptor for honour;
(v) when several drawees are not partners, each drawee has to accept it for himself; and
(vi) a stranger can accept the bill as ‘acceptor for honour’ (discussed below).
If more than one drawee are partners, any of them can accept the bill on behalf of all the other
partners.
Where the bill is addressed to the firm, any partner can accept it on behalf of the firm. However,
where a bill is addressed to the partner personally, he cannot accept it on behalf of the firm. He shall
be personally liable. If they are not partners, each drawee can accept on behalf of himself and not
on behalf of another without his authority. The drawees, who have accepted the bill in case where
there are several drawees, shall be bound by their acceptance notwithstanding that all the drawees
have not accepted. In a bill, there cannot be drawees addressed in the alternative.
Essentials of a valid acceptance: (1) Acceptance must be written on the bill. Any words
may be used to signify acceptance. It may also be on the back of the bill.
(2) It must be signed by the drawee. Mere signature without words ‘accepted’ is sufficient.
However, if the drawee writes the words ‘accepted’ without signing it, it is not acceptance.
(3) The drawee shall deliver the accepted bill to the drawer.
Acceptance may be conditional or qualified. Acceptance cannot be oral. It cannot be on the

copies of the bill or on a separate paper. It must be made in clear and unequivocal terms. Acceptance
is necessary in case of bills of exchange. Promissory notes and cheques do not require any acceptance.
The liability of the drawee arises only when he accepts the bill. What is requisite for fixing the
drawee with liability is the acceptance by him of the instrument and not an acknowledgement of
liability [J.M. Vithlani v. M/s. Ranchhoddas Meghji AIR 1954 SC 554].
Specimens of Acceptance on Bills of Exchange
(1) ` 5,000.00 Mumbai, 1st March, 2007
Three months after date pay to ABC or order the sum of five thousand rupees for value received.
To
PQR, Lentin Road, Mumbai. Accepted
PQR Sd.
XYZ
(2) ` 5,000.00 Mumbai, 1st March, 2007
Thirty days after date pay to ABC, or bearer the sum of five thousand rupees only.
To
PQR, Lentin Road, Mumbai. Accepted Payable at
Bank of India Mumbai
PQR Sd.
XYZ
(3) ` 5,000.00 Mumbai, 1st March, 2007

One month after date pay to my order the sum of five thousand rupees for value received.
To
PQR, Lentin Road, Mumbai. Accepted Payable at
Bank of India only Sd.
and not elsewhere XYZ
PQR
ABSOLUTE AND QUALIFIED OR CONDITIONAL ACCEPTANCE

Acceptance may be absolute or conditional. Acceptance is general or absolute when it is
unconditional and unqualified, for example, the drawee accepts liability on the bill without any
condition. Acceptance is qualified or conditional when the drawee accepts it with some conditions or
reservations or accepts the bill for a lesser amount or at a particular place, etc. Qualified acceptance
changes the effect of the bill as drawn. Acceptance is qualified when —
(i) it is conditional, for example, payment is dependent on the happening of an event; for
example acceptance subject to delivery of shipping documents;
(ii) the drawee accepts payment of the bill in part only;

(iii) payment is accepted at a specified place and not elsewhere, where no place of payment is
specified, or when a place is specified, payment is accepted at some other place and not
elsewhere;
(iv) drawee undertakes payment at a time other than that mentioned in the bill;
(v) acceptance by some of the drawees only when the bill is drawn on several drawees and the
drawees are not partners; and
(vi) payment is to be made in a medium other than money. (Sec. 86)
The holder has an option either to refuse qualified acceptance and treat the bill as dishonoured
or accept the bill with qualified acceptance. The holder can accept qualified acceptance only after
he has obtained consent of all the prior parties to the bill. If he does not obtain their consent, all the
prior parties to the bill are discharged. If some of the parties consent and others do not consent, then
if the holder accepts the qualified acceptance, parties not consenting to qualified acceptance stand
discharged. Thereupon, the drawee’s (acceptor’s) liability is limited to the conditions or qualifications
put by him.
Drawee entitled to 48 hours deliberation: (Secs. 63 & 83) Drawee is entitled to 48 hours,
exclusive of public holidays, to accept or refuse a bill. The holder cannot, if so required by the
drawee, reduce the time and treat the bill as dishonoured without allowing the drawee 48 hours.
After 48 hours, the holder can demand the redelivery of the bill. If the holder of a bill allows more
than 48 hours to the drawee to accept the bill, all the prior parties to the instrument not consenting to
such allowance are discharged. After 48 hours, the holder must treat the bill as dishonoured if on his
demand the drawee does not return the bill duly accepted.
Acceptance in case of bills in sets: (Expln. to Sec. 132)
In case of bills drawn in sets, the acceptance should be put on one part only. If the drawee signs
his acceptance on more than one part, he may become liable on each of them separately, if such
accepted parts get into the hands of different holders in due course, as if each part were a separate bill.
ACCEPTANCE FOR HONOUR (Sec. 7)
When a bill of exchange has been noted or protested for non-acceptance or for better security,
and any person accepts it supra protest for honour of the drawer or of any one of the indorsers,
such person is called the ‘acceptor for honour.’
When the holder of a bill presents it to the drawee for acceptance and he does not accept the
same, i.e., the bill of exchange is dishonoured and the same has been noted or protested for dishonour,
any third person who accepts it for honour of the drawee or indorser, is called an ‘acceptor for
honour.’
When a bill of exchange has been noted or protested for non-acceptance or for better security,
any person not being a party already liable thereon may, with the consent of the holder, by writing on
the bill, accept the same for honour of any party thereto (Sec. 108). A person desiring to accept for
honour must, by writing on the bill under his hand, declare that he accepts under protest the protested
bill for honour of the drawer or of a particular indorser whom he names, or generally for honour
(Sec. 109). Where the acceptance does not express for whose honour it is made, it shall be deemed
to be made for the honour of the drawer (Sec. 110).
As a general rule, the drawee or any person on whom the bill is drawn can accept the bill and
if either of the person refuses to honour the bill, the bill is dishonoured immediately. However, where
the bill is so dishonoured by any of the parties supposed to accept the bill, and the bill has been noted
or protested for non-acceptance or where better security has been demanded by the notary and the
drawee refuses to give security, any person may accept the bill for honour or for supra protest. The
bill on such acceptance remains alive till maturity. It cannot be treated as dishonoured immediately.
The holder gets an additional person, i.e, an acceptor for honour, who also becomes liable on the bill.
ESSENTIALS OF VALID ACCEPTANCE FOR HONOUR

1. The holder must consent to acceptance for honour. The holder cannot be compelled to
assent to acceptance for honour.
2. The bill must have been noted or protested for the non-acceptance or for better security.
3. Acceptance for honour can be made by a person who is not already liable on the bill.
Drawee of the bill when he refuses to accept the bill becomes a stranger. He may, therefore, accept
the bill for honour of any party thereto.
4. It must be made by writing on the bill.
5. It must be for the whole amount due on the bill.
6. Acceptance for honour must be made before the bill is overdue.
7. Acceptance must be for the honour of any party already liable on the bill.
8. Stranger paying for honour must, before payment, declare before a Notary Public the party
for whose honour he pays, and the Notary Public must have recorded such a declaration.
Specimen of ‘Acceptance for Honour’
The acceptor for honour writes as below, across the bill as given under specimens of bills of exchange
above:
“Accepted Supra Protest” or “Accepted for AB.”
RIGHTS AND LIABILITIES OF AN ACCEPTOR FOR HONOUR (Secs. 111 & 112)
1. Acceptor for honour binds himself to all the subsequent parties to pay the amount of the bill
if the drawee does not pay.
2. The party for whose honour he accepts to pay the amount and all prior parties are liable to
compensate the acceptor for honour for all loss or damage sustained by him in consequence of such
acceptance. The liability of an acceptor for honour is conditional. He is liable only if the drawee fails
to pay the bill.
The bill of exchange should be presented at its maturity to the drawee for payment and it must
be dishonoured by the drawee and noted or protested for non-payment to charge an acceptor for
honour (Sec. 112). The bill must be presented or forwarded for presentment to the drawee, not later
than the day next after the day of its maturity.
PAYMENT FOR HONOUR (Sec. 113)
Any person may pay the bill for the honour of any party liable to pay the same, provided —
(i) the bill of exchange has been noted or protested for non-payment;
(ii) the person so paying, or his agent in that behalf declares before a Notary Public the party
for whose honour he pays; and
(iii) such declaration has been recorded by such Notary Public;
(iv) payment for honour may be made by any person whether he is already liable on the bill or
not.
As a person may accept the bill for honour after it has been noted or protested for non-
acceptance by the drawee, similarly any person may pay for honour after the bill was duly accepted,
but has been protested for non-payment. A person paying supra protest or for honour is called
‘payer for honour.’
Rights of a payer for honour: (Sec. 114)
1. Payer for honour is entitled to all the rights of the holder in respect of the bill, at the time of
such payment.
2. He may recover from the party for whose honour he pays all sums so paid with interest
thereon and with all expenses properly incurred in making such payment.
WHO CAN BE A PARTY TO A NOTE, BILL OR CHEQUE? (Secs. 26-29)
Capacity of Parties:
When a person draws or makes a negotiable instrument he thereby contracts to fulfill certain
obligations or liabilities. Making etc., of a negotiable instrument is, therefore, a contract which should
fulfill the essential requirements of a contract.
Every person capable of contracting, according to the law to which he is subject, may bind
himself and be bound by the making, drawing, acceptance, indorsement, delivery and negotiation of
promissory note, bill of exchange or cheque (Sec. 26). Every person who is of the age of majority,
and who is of sound mind and is not disqualified from contracting by any law to which he is subject,
is competent to contract and, therefore, can become a party to the negotiable instrument. It may be
noted that incapacity of any party to the instrument, does not diminish or extinguish the liability of
other competent parties thereto.
Let us examine some cases and extent of their liability:
1. Minor: A minor may draw, indorse, deliver and negotiate such instrument so as to bind all
parties except himself (Sec. 26). A person who accepts a bill when he is of full age is liable on it
though it was drawn when he was a minor. A minor can however, acquire rights on the instrument.
His rights as payee, indorsee or holder are not affected. All parties are liable to the minor. Minor can
sue by his next friend prior parties upon the instrument. A minor, on attaining majority, cannot renew
the instrument executed by him when he was a minor. Minor will not be held liable even if he falsely
represents that he is of full age.
On the same footing, negotiable instruments drawn by lunatics, persons of unsound mind, drunken
persons, at the time when such a person was incapable of understanding it, cannot be enforced
against such a person.
2. Legal representative: A legal representative of a deceased person, who signs his name
to a promissory note, bill of exchange or cheque is liable personally thereon unless he expressly
limits his liability to the extent of the assets received by him (Sec. 29). Legal representative must by
express writing on the instrument exclude or limit his personal liability by adding the words ‘without
recourse’, failing which he will stand personally liable.
3. Corporation: Corporation can make, indorse or accept an instrument, when it is empowered
to do so by its Memorandum of Association. A trading company has an implied power to draw,
accept or negotiate negotiable instruments. A non-trading company has to be given express powers
to this effect. If the Corporation exceeds its powers so given by its Memorandum of Association, the
act is ultra vires and incapable of ratification. The negotiable instrument shall, therefore, be void.
Even a bonafide holder for value cannot hold the Corporation liable in case where the Corporation
exceeds its powers. The Corporation should primarily be empowered by law for the time being in
force to make, indorse or accept the negotiable instrument.
4. Agent: Every person capable of binding himself or of being bound, may so bind himself or
be bound by a duly authorised agent acting in his name. A general authority to transact business and
to receive and discharge debts does not confer upon an agent the power of accepting or endorsing
bills of exchange so as to bind his principal. An authority to draw bills of exchange does not itself
impart an authority to indorse (Sec. 27).
An agent who signs his name to a promissory note, bill of exchange or cheque without indicating
thereon that he signs as agent, or that he does not intend thereby to incur personal responsibility, is
liable personally, on the instrument, except to those who induced him to sign upon the belief that the
principal only would be liable (Sec. 28). Therefore, one who does not disclose the name of the
principal and signs without indicating that he signs as an agent, would be personally liable.
An agent in order that he may not be personally liable on the instrument must have an authority
to so act and he must disclose the name of the principal on the instrument significantly. Principal will
not be liable if the agent exceeds his authority, unless the principal ratified such an act of the agent.
Agent may also exclude his liability by adding the words ‘without recourse’ on the instrument. An
agent will not be relieved of his liability by merely adding the words that he is signing as an agent,
unless he discloses the person for whom he is so signing.
Therefore, a secretary, manager, director or any such person must disclose the name of the
firm or a company on whose behalf they are signing, endorsing or accepting the instrument.
Undisclosed Principal: It will be of interest to note the position of an undisclosed principal

under the Indian Contract Act and under the Negotiable Instruments Act. Under the Contract Act,
an undisclosed principal may be sued if it is discovered that an agent acted for him. An undisclosed
principal, however, cannot be sued on a negotiable instrument. It is a general rule under the Negotiable
Instruments Act, that no person can be sued on an instrument, unless he appears as a party on the
negotiable instrument.
If the agent signs the instrument without authority or in excess of his authority he is personally
liable for damages for deceit and also for breach of warranty of authority.
5. Partner: A partner of a trading firm has an implied authority to draw, sign, make, indorse,
accept, transfer or negotiate bills, notes and cheques on account of the partnership firm. Each
person has a prima facie authority to bind his co-partners. However, a partner of a non-trading firm
has no such implied authority. He must have an express authority to bind his co-partners. A partner
in order to bind the firm must expressly sign in the name of the firm.
6. Hindu Undivided Family: Karta or Manager of a Hindu Undivided Family has implied
authority to execute the negotiable instrument on behalf of the family firm. The debt is binding on all
the members of the family even if they are minors. However, in case of minor members, their share
is only liable.
PARTIES
Now broadly speaking, there are four parties to a negotiable instrument:
(i) Drawer;
(ii) Drawee (he becomes acceptor on signifying his assent);
(iii) Payee;
(iv) Indorser.
Liability of parties:
1. Liability of drawer: (Sec. 30) The drawer of a bill of exchange or a cheque is bound, in
case of dishonour by the drawee or acceptor thereof to compensate the holder provided due notice
of dishonour has been given to, or received by the drawer.
The drawer or maker of a promissory note is personally responsible to the holder thereof. His
liability is, however, conditional, i.e., on the failure of the drawee to accept the bill, the drawer will be
liable to the holder. In a bill of exchange before the acceptance thereof, the drawer is primarily
liable. After acceptance the drawer’s liability is secondary, i.e., he is liable only when the acceptor
fails to pay. On dishonour by the drawee, the drawer becomes immediately liable and the holder
need not wait till maturity of the bill. The liability of a drawer arises only when he has received the
notice of dishonour from the holder. Omission of the notice would discharge the drawer from the
liability on the negotiable instrument. Drawer may exclude his liability by adding the words ‘without
recourse’ on the instrument.
2. Liability of a maker of promissory note and acceptor of a bill: (Sec. 32) In the absence
of a contract to the contrary, the maker of a promissory note and the acceptor before maturity of a
bill of exchange are bound to pay the amount thereof at maturity according to the apparent tenor
of the note or acceptance, respectively.
The acceptor of the bill of exchange at or after maturity is bound to pay the amount thereof to
the holder on demand. In default of such payment as aforesaid, such maker or acceptor is bound to
compensate any party to the note or bill for any loss or damage sustained by him and caused by
such default.
The maker of a promissory note and acceptor of a bill are primarily responsible for the payment
due on the instrument. Their liability is absolute and unconditional. The money must be paid at or
after maturity to the holder on demand. No notice of dishonour is necessary to the maker of a note
and acceptor of a bill. Both the maker of the note and acceptor of the bill should deliver the note or
the bill to the payee or to the holder. The maker of a note cannot make his liability conditional.
Acceptor may however, give a qualified acceptance and to that extent his liability is limited.
Compensation: In default of payment, the maker of the note and the acceptor of the bill are
liable to the holder to pay compensation for loss or damage sustained by the holder in accordance
with the provisions of section 117 of the Act. Where the indorsee has not paid amount of hundi to
indorser, he is not entitled to compensation from the acceptor for loss sustained by default in payment
of hundi since indorsee has not sustained any loss [M/s. Madhya Bharat Khadi Sangh v. Bal
Kishen Kapoor & Ors. AIR 1979 All. 253] (Discussed below under ‘Extent of liability’).
3. Liability of acceptor in case of forged indorsement: (Sec. 41) An acceptor of a bill of
exchange, already indorsed is not relieved from liability by reason that such an indorsement is
forged, if he knew or had reason to believe the indorsement is forged, when he accepted the bill. In
Mercantile Bank of India v. Mascarenhas (1932, BLR 1210), it was held that forging can convey
no title even to the holder in due course.
The effect of this section is that if the drawee has no knowledge of forging while accepting the
bill, he is relieved from liability. However, if he has knowledge that the indorsement is forged and yet
he accepts the bill, he cannot plead forgery after such acceptance. He will be liable to pay the
amount to the holder and also to the real owner.
4. Liability of acceptor for a bill drawn in a fictitious name: (Sec. 42) In a fictitious
instrument, both the drawer and the payee are fictitious persons. In such a case, acceptor is liable to
holder in due course who has taken the instrument without knowledge that the drawer was a fictitious
person. Acceptor is, therefore, not liable to a person who has acquired the instrument with the
knowledge or with reasonable belief that the drawer is a fictitious person.
5. Liability of a drawee of the cheque: (Sec. 31) The drawee of a cheque is always a
banker. The drawee of a cheque having sufficient funds of the drawer in his hands, properly applicable
to the payment of such cheque, must pay the cheque when duly required to do so. In default of such
payment, the banker must compensate the drawer for any loss or damage caused by such default.
(Relation between banker and customer and protection to the bankers is discussed above
in chapter 2).
6. Liability of an indorser: Who is an indorser? (Sec. 15) When the maker or holder of a
negotiable instrument signs the same, otherwise than as such maker for the purpose of negotiation
on the back or face thereof, or on a slip of paper annexed thereto, or so signs for the same purpose
a stamped paper intended to be completed as a negotiable instrument, he is said to indorse the same,
and is called the ‘indorser.’
(Law as to ‘indorsement’ is discussed in Chapter 4).
His liability: (Sec. 35) In the absence of a contract to the contrary, whoever indorses and
delivers a negotiable instrument before maturity, without in such indorsement, expressly excluding
or making conditional his own liability, is bound thereby to every subsequent holder in case of
dishonour by drawee, acceptor or maker, to compensate such holder for any loss or damage
caused to him by such dishonour, provided due notice of dishonour has been given to, or received by
such indorser.
Every indorser after dishonour is liable upon an instrument as payable on demand. The contractual
capacity of the indorser to the holder is like a drawer to the payee.
The indorser is liable only after he indorses and delivers the bill. The indorser’s liability like
that of a drawer is conditional. Only when the drawee or acceptor fails to honour the bill, and due
notice of dishonour has been given to the indorser, he can be held liable. Position of the indorser is,
therefore, that of a surety. Indorser is also liable to pay compensation for loss or damage caused to
the holder by such dishonour.
It must be noted that an indorser can exclude his liability altogether, by adding the words ‘sans
recourse’ or ‘without recourse’ while indorsing the instrument. In such a case, indorser excludes
his liability altogether. Even if the instrument is then dishonoured, indorser cannot be held liable.
The indorser is liable to all subsequent parties in the following cases:
(i) when there is no contract to the contrary, for example, when the indorser has not excluded
or made his liability conditional; and
(ii) due notice of dishonour has been given to or received by him.
When indorser not liable? The indorser will not be liable under the following circumstances:
(a) when notice of dishonour is not received by him;
(b) when there is a contract to the contrary;
(c) when the holder without the consent of the indorser, destroys or impairs indorser’s remedy
against a prior party;
The indorser is discharged from liability to the holder to the same extent as if the instrument had
been paid at maturity.
The indorser shall be liable for the amount of the bill and also for the loss or damage caused to
the holder by such dishonour. Where the holder of a negotiable instrument, without the consent of
the indorser, destroys or impairs the indorser’s remedy against a prior party, the indorser is discharged
from liability to the holder to the same extent as if the instrument had been paid at maturity (Sec. 40).
The object of relieving the indorser from liability in such a case is that the indorser, if held liable,
will not be subrogated to the rights of the holder on payment, as his rights to the previous party have
been destroyed.
Illustration:
A is the holder of a bill of exchange made payable to the order of B which contains the following
indorsements in blank;
First indorsement, “B.”
Second indorsement, “Peter Williams.”
Third indorsement, “Wright & Co.”
Fourth indorsement, “John Rozario.”
This bill A puts in suit against John Rozario, and strikes out, without John Rozario’s consent the
indorsements by Peter Williams and Wright & Co. A is not entitled to recover anything from John
Rozario.
7. Liability of prior parties to holder in due course: (Sec. 36) Every prior party to the
negotiable instrument is liable thereon to a holder in due course until the instrument is duly satisfied.
(This is discussed under the ‘Rights of a holder in due course’ above.)
8. Liability of joint makers or joint drawers: Unless there is a contract to the contrary,
where two or more persons jointly make a note or draw a bill, they are jointly and severally liable to
the holder. Release of one of them does not discharge the other or others.
INSTRUMENT OBTAINED BY UNLAWFUL MEANS OR FOR UNLAWFUL
CONSIDERATION (Sec. 58)
A person who has obtained the instrument by unlawful means cannot claim any amount due on
the instrument, except when such a person claiming is a holder in due course or he is claiming after
having acquired his title from holder in due course. Instrument is deemed to be acquired by unlawful
means, when it is obtained by offence or by fraud or for unlawful consideration. Thus, a thief cannot
claim payment on the instrument. But if a person acquires the instrument from the thief for
consideration and in good faith without any knowledge of the defects in his transferor’s title, he
receives the instrument free from any defects and can claim payment thereon. When such a person,
i.e., holder in due course, further negotiates the bill, the transferee acquires the rights of a holder in
due course.
NATURE OF LIABILITY OF PARTIES TO A BILL (Secs. 37-39)
Relationship of principal and surety: The maker of a promissory note or cheque, the drawer
of a bill of exchange until acceptance, and the acceptor are, in the absence of a contract to the
contrary, respectively liable thereon as sureties for the maker, drawer or acceptor, as the case may
be (Sec. 37). As between the parties so liable as sureties, each prior party is, in the absence of a
contract to the contrary, also liable thereon as a principal debtor in respect of each subsequent party
(Sec. 38). The liabilities of the parties arise by respective contracts. The parties are liable to each
other either as principal debtors or as sureties.
Illustration:
A draws a bill payable to his own order on B, who accepts. A afterwards indorses the bill to C,
C to D and D to E. As between E and B, B is the principal debtor and A, C and D are his sureties.
As between E and C, C is the principal debtor and D is his surety.
The following parties are liable as principal debtor:
(i) the maker of a note or cheque;
(ii) the drawer of a bill until acceptance;
(iii) acceptor of a bill, after acceptance;
All other parties are liable as sureties. The parties by a contract may, however, change the
nature of their liabilities.
According to ordinary contract rules, when the creditor and debtor enter into any contract
without the knowledge or consent of the surety, the surety is discharged (Secs. 134 and 135 of the
Indian Contract Act, 1872). Section 39 of the Negotiable Instruments Act provides that where a
holder and acceptor enter into any contract which would as general rule discharge the other parties
who are as sureties under sections 134 or 135 of the Indian Contract Act, the holder may expressly
reserve his right to charge the other parties. The other parties in such a case are not discharged.
It must be noted that the relationship of holder and acceptor is that of a principal debtor and
principal creditor. All other parties between them are sureties.
EXTENT OF LIABILITY
Rules as to compensation: (Sec. 117)
In case of dishonour of a promisory note, a bill of exchange or a cheque, the holder or an
indorsee of the instrument is entitled to compensation by any party liable, according to the following
rules:
(i) The holder is entitled to the amount due upon the instrument with the expenses properly
incurred in presenting, noting and protesting it.
(ii) When the person-charged resides at a place different from that at which the instrument
was payable, the holder is entitled to such sum at the current rate of exchange between the
two places.
Compensation to holder: Holder is entitled to —
(i) the amount of the instrument;
(ii) interest on the principal sum in accordance with sections 79 or 80 of the Act; (discussed
below under ‘Payment and interest’).
(iii) expenses properly incurred in presenting, noting and protesting the instrument;
(iv) such sum at the current rate of exchange between the two places when the person liable
resides at different place from that at which the instrument was payable.
An indorser who, being liable, has paid the amount due on the instrument, is entitled to the
amount so paid with interest at 18 per cent per annum from the date of payment until tender or
realisation thereof, together with all expenses caused by the dishonour and non-payment. When the
indorser and the person charged reside at different places, the indorser is entitled to receive such
sum at current rate of exchange between the two places.
Compensation to indorser: Indorser on paying the amount is entitled to:
(i) the amount paid by him on the instrument;
(ii) interest at 18 per cent per annum from the date of payment until tender or realisation;
(iii) all expenses caused by the dishonour and non-payment; and
(iv) such sum at the current rate of exchange between the two places, when the person liable
and the indorser reside at different places.
The party entitled to compensation may draw a bill of exchange upon the party liable to
compensate him, payable at sight or on demand, for the amount due to him, together with all expenses
properly incurred by him.
The holder may acquire the negotiable instrument (i) with prior notice of dishonour or (ii) he
may acquire the instrument after maturity. In both cases, he does not acquire the rights of a holder
in due course, i.e., he does not acquire an instrument free from defects. His title to the instrument
against other parties is subject to the rights and equities of the transferor and is no better than that of
his transferor.
In case of instrument acquired after maturity, (that is after the instrument is overdue after the
expiry of the day on which it falls due and after the expiry of last day of grace where days of grace
are allowed), it is apparent that the instrument has either been paid or dishonoured. The transferee,
therefore, takes the instrument at his own risk and gets no better title than the transferor.
Exception: This rule does not apply to an accommodation note and bill. The holder of an
accommodation bill or note may recover the amount from any prior party even after maturity.
Illustration:
The acceptor of a bill of exchange, when he accepted it, deposits with the drawer certain goods
as collateral security for the payment of the bill with power to the drawer to sell the goods and apply
the proceeds in discharge of the bill, if it were not paid at maturity. The bill not having been paid at
maturity, the drawer sold the goods and retained the proceeds but indorsed the bill to A. A’s title is
subjected to the same objection as the drawer’s title.
Holder’s right to duplicate of lost bill: (Sec. 45A)
Where a bill of exchange has been lost before it is overdue, the person who was the holder of
it may apply to the drawer to give him another bill of the same tenor, giving security to the drawer,
if required, to indemnify him against all persons whatever, in case, the bill alleged to have been lost
shall be found again. If the drawer on request as aforesaid refuses to give such duplicate bill, he may
be compelled to do so.
This section applies only to bills and not to notes and cheques. It applies to bills before they are
overdue. The owner of a bill may lose the bill before it is overdue. The person may apply to the
drawer for duplicate of the lost bill. The drawer can demand indemnity against all persons in case
the lost bill is found and the founder claims payment on the same as a lawful owner.
It is only a bearer instrument which can be negotiated by mere delivery. The transferee for
value and in good faith obtains a good title and can claim payment from the parties liable on the
instrument. The owner of a lost bill must give notice of the loss to the parties liable on the bill. It is
advisable to give public advertisement in this respect.
Only the holder of a lost bill can apply to the drawer for a duplicate. The drawer can be
compelled to give duplicate of the lost bill if he refuses to do so. However, he cannot be compelled
to do so, if the holder does not give proper security in the form of indemnity or fails to guarantee the
drawer against any future demand.
PAYMENT AND INTEREST (Secs. 78-81)
Payment: Payment of the amount due on a promissory note, bill of exchange or cheque must
be made to the holder of the instrument in order to discharge the maker or acceptor (Sec. 78).
Payment may also be made to some person authorised by the holder.
If the acceptor pays the amount due on the instrument to a wrong person, he may be called
upon to pay a second time. However, where the promissory note is assigned and the maker receives
notice of the assignment he cannot make payment to the original holder.
Payment in due course discharges the parties to the instrument. However, in case of a forged
instrument, payment to a person who has forged the instrument does not discharge the parties.
Payment may be made by any party liable on the instrument but must be made on behalf of the
maker or acceptor. Payment must be made at or after maturity, other than in case of instruments
payable on demand, to discharge the parties to the instrument. Payment before maturity may operate
as purchase of the instrument by party paying and may be reissued.
Payment must be made in money only, i.e., by legal tender. The holder may, however, agree to
take payment in other mode; for example, he may agree to receive goods or a fresh note or bill in
lieu of money. Such a payment will operate as a discharge. Part payment discharges the parties to
the extent of the sum paid.
Interest: When the rate of interest is specified: When the rate of interest is specified, for
example, when interest at a specified rate is expressly made payable on a promissory note or bill of
exchange, interest shall be calculated at the rate specified on the amount of the principal money due
thereon, from the date of the instrument, until tender or realisation of such amount, or until such date
after the institution of a suit to recover such amount as the Court directs (Sec. 79). When the
instrument is undated, evidence may be given to prove when the instrument came into existence.
The Court is given final discretion to allow interest until such time as it thinks fit after the institution
of the suit. The Court also has powers to grant relief to the debtor on a creditor’s suit against
excessive interest. However, if a debtor in his suit establishes absence of free consent,or that
interest is by way of penalty, the Court may grant him the relief.
When is specified rate of interest not allowed? The rate of interest at the rate specified in
the instrument may not be allowed by the Court in the following cases:
(i) Where the rate specified is excessive and the transaction is substantially unfair;
(ii) Where the instrument has been obtained by coercion, undue influence, fraud or
misrepresentation;
(iii) Where the stipulation for the payment of interest is in the nature of penalty;
(iv) Where the rate of interest in case of secured loan and unsecured loan is higher than that
specified under Money Lending Act, 1946;
(v) Where the amount claimed on account of interest is greater than the principal.
When interest is mentioned but rate is not specified or when interest is not mentioned:
If interest is mentioned but no rate is specified or where instrument is silent regarding payment
of interest, interest at 18 per cent per annum is payable from the date of maturity till actual payment
or till such date after institution of the suit as the Court may direct (Sec. 80).
It will be of interest to note the judgement in Anantacharan v. Daitari (1 L.R. 1969 Cutt. 796),
regarding time from which interest is payable. It was held here that where no demand is made prior
to the institution of the suit, the date of the service of the summons on the defendant will be the date
of demand and interest will be payable from that date.
Payment of interest by indorser: When the party charged is the indorser to an instrument
dishonoured by non-payment, he is liable to pay interest only from the time when he receives notice
of the dishonour (Explanation to Sec. 80).
Delivery of instrument on payment or indemnity in case of loss (Sec. 81)
Any person liable to pay, and called upon by the holder thereof to pay the amount due on a
promissory note, bill of exchange or cheque is before payment entitled to have it shown and is on
payment entitled to have it delivered up to him. If the instrument is lost, or cannot be produced, he is
entitled to be indemnified against any further claim thereon against him. It is the right of the person
liable to pay, to demand the inspection of the instrument and on payment he has a right to receive
back the instrument.
Where the cheque is an electronic image of a truncated cheque, even after the payment, the
banker who received the payment shall be entitled to retain the truncted cheque.
A certificate issued on the foot of the printout of the electronic image of a truncated cheque by
the banker who paid the instrument, shall be prima-facie proof of such payment.
UUU
6. COMPANIES ACT, 1956
COMPANY AND ITS FORMATION

The Company Legislation in India has developed on the lines almost parallel to the English
Company Law. The Companies Act, passed from time to time in India has been following the
English Companies Act with certain changes to suit Indian requirements. The English Companies
Act of 1844 is considered to be the first enactment on modern system of joint stock enterprises. On
that very line, the first Indian Companies Act providing for the registration of joint stock companies
was passed in the year 1850.
The Companies Act, 1956
The Indian Companies Act, 1913 was repealed by the present Companies Act of 1956 which
came into force on 1st April, 1956. The present Companies Act is based largely on the recommendations
of the Company Law Committee (Bhabha Committee) which submitted its report in March, 1952.
This Act is the largest statute ever passed by our Parliament. It consists of 658 section and 12
schedules. The Act was amended several times since 1956. The latest amendments were effected
in 2000 and 2001.
Definition of Company
According to Section 3(1)(i) of the Companies Act, 1956 a company means, “A company
formed and registered under this Act or an existing company” An existing company means a company
formed and registered under any of the previous Companies Law. This definition does not help us in
understanding the nature of Company. A comprehensive definition is given by Lord Lindley.
According to Lord Justice Lindley a company is, “An association of many persons who contribute
money or money’s worth to a common stock and employed for a common purpose. The common
stock so contributed is denoted in money and is capital of the company. The persons who contribute
it or to whom it belongs are members. The proportion of capital to which each member is entitled, is
his share. Shares are always transferable although the right to transfer them is often more or less
restricted.”
COMPANIES ACT, 1956 173
A company, thus, may be defined as an incorporated association, which is an artificial person,

having an independent legal entity, with perpetual succession, a common seal, a common stock
capital comprised of transferable shares and carrying limited liability in relation to its members.
Corporation or Body Corporate
A corporation sole consists of one corporator or member only at any given time, who enjoys
corporate personality in virtue of his capacity as occupant of some public office for the time being.
A corporation sole is not a “body corporate” for the purposes of the Companies Act 1956. It is still
a legal person and as such can be member of a company. A corporation aggregate consists of a
group of persons contemporaneously associated so that they form a single person, e.g., a limited
company, a municipality, or a municipal corporation.
Characteristics of a company
1. Separate legal entity: A Company formed and registered under the Companies Act is a
distinct legal entity. It is a creation of law and is sometimes called artificial person being invisible and
intangible. It is a fiction of law with legal, but no natural or physical existence. The principle that a
company is a legal entity, separate from the individuals who compose it, is very clearly illustrated in
the leading case of Salomon Vs. Salomon & Co. Ltd. (1897). Salomon had a boot business. He sold
the business to a company named Salomon & Company Ltd., which was formed by him along with
his wife, a daughter and four sons, who took one share each and Salomon himself took 20,000
shares. The price paid by the company to Salomon was 30,000 pounds; but instead of paying him
cash, the company gave him 20,000 fully paid shares of one pound each and 10,000 pounds in
debentures. Owing to strike in the boot trade, the company was wound up. The assets of the
company amounted to 6000 pounds only. Debts amounted to 10,000 due to Salomon and secured by
debentures and a further 7,000 due to unsecured creditors. The unsecured creditors claimed that as
Salomon & Company Ltd. was really the same person as Salomon, he could not owe money to
himself and that they should be paid their 7,000 pounds first. It was held by the House of Lords that
Salomon was entitled to 6,000 pounds as the company was an entirely separate person from Salomon,
the unsecured creditors got nothing.
Thus, Salomon’s case established beyond doubts that, in law, a registered company is an entity
distinct from its members, even if one person holds all the shares in the company. There is no
difference in principle between a company consisting of only two shareholders and a company
consisting of two hundred members. In each case the company is a separate legal entity.
Lee Vs Lee’s Air Farming Co. Ltd. (1960): Of the 3,000 shares in a company L held 2,999. He
voted himself as the governing director and chief pilot at a salary. L was killed in an air crash while
working for the company. His widow claimed compensation for the death to her husband while in
the course of his employment. It was argued that no compensation was due because L and Lee’s
Air Farming Ltd. were the same person. The Privy Council applied Salomon’s case and said that L,
was a separate person from the company he formed and compensation was payable.
2. Perpetual succession: Unlike a natural person a company never dies. It is an entity with a
perpetual succession. Its existence is not affected by the death, lunacy and insolvency of its members.
As Gower L.C.B. illustrated – ‘During the war all the members of one private Company, while in
general meeting, were killed by a hydrogen bomb. But the Company survived, not even a hydrogen
bomb could have destroyed it.’
3. Limited liability: Limited liability of members is another most important characteristic of a
company. Their liability is limited to the face value of shares subscribed to by them. If the shares are
fully paid up, their liability is nil. Where the assets of the company are insufficient to meet the claims
of the creditors of the company, the members cannot be asked to pay anything more than what is
due on the shares of the company held by them.
4. Common seal: As a company is an artificial person it cannot sign its name on a contract.
Common seal is used as a substitute for its signature. Every company must have a seal with its name
engraved on it. Anything done under an agreement between the company and the third party requires
recognition of the company in the form of an official seal.
Every company must have a common seal and the name of the company must be engraved in
legible characters on its seal; the penalty for contravention is Rs. 500 (Section 147 of the Companies
Act). The seal is used for execution of all important documents. “A Company may be bound by a
deed even when it has not affixed its seal if it acted on the deed and taken the benefits of the
covenants therein”. (Mcdonold Vs Johan Twiname Ltd. 1953 (A.E.I.R. 5891).
Though the Companies Act or the model regulation in Table A of Schedule I do not provide for
the form and manner in which the common seal of a company should be kept, i.e., whether a
metallic one or a rubber stamp, the Department of Company Affairs, vide its Circular No. 8/70 (147)
64-P.R., dt. 8.12.64 observed that the working of Section 147(1)(b) suggests that the view that only
a metallic seal should be used is correct. Thus, in view of the above, common seal of the company
should be a metallic seal and not a rubber stamp.
5. Transferability of shares: The shares of a company are freely transferable and can be
sold or purchased in the share market. Section 82 of the Companies Act recognizes the right of
transferability of shares and provides that, “the shares or other interest of any member shall be
movable property transferable in the manner provided for in the articles of the company.”
6. Capacity to sue and be sued: On incorporation, a company acquires a separate and
independent legal personality. As a legal person, it can sue and be sued in its own name.
7. Not a citizen: Though company is a legal person having both nationality and domicile, it is
not a citizen. As such a company cannot, therefore, claim the protection of those fundamental rights
which are explicitly guaranteed to citizens only, namely, the right of franchise.
8. Company’s actions limited: A company cannot go beyond the powers of its charter-the
memorandum of association. Once the powers have been laid down, it cannot go beyond unless the
memorandum of association is itself altered prior to doing so.
9. Separate property: As a legal person, a company can own, enjoy and dispose of any
property in its own name. No member can claim himself to be the owner of the company’s property.
The property of the company is not the property of the shareholders; it is the property of the
company.
Consequences of the principle of separate corporate personality

• The shareholders shall have no insurance interest in the property of the company, (Macaure
Vs. Northern Assurance Co. Ltd.)
• The persons who own its capital may also be its creditors or employees.
• When the shareholder dies, the company continues to exist. His shares, and not the assets
of the company, vest in his personal representatives.
• The nationality of the company does not depend on the nationality of the shareholder. (Janson
Vs. Driefontein Mines Ltd.)
• The property of the company is not the joint property of its shareholders.
• A company can also be prosecuted for wrongs done in its name. Being an artificial person,
it can, however, be only fined, it cannot be imprisoned.
Lifing the corporate veil
The general rule is that a company is a legal person and is distinct from its members. The
principle is regarded as a curtain, a veil, or shield between the company and its members, thus
protecting the latter from the liability of the former. But when the notion of legal entity is used to
defeat public convenience, justify wrong, protect fraud or defend a crime, the law will regard the
company as an association of persons. These cases are exceptions to the principle in Salomon Vs
Salomon & Co. Ltd. In these exceptional cases, the law either goes behind the corporate personality
to the individual members or ignores the separate personality of each company in favour of the
economic reality constituted by a group of associated concerns. When this protection is taken away,
the veil is said to have been lifted or pierced. The corporate veil is lifted in the following cases.
1. Determination of the Character: In times of war the court will lift the veil to see whether a
company is controlled by enemy/aliens. Consequently, a company registered in England
may be alien enemy if its agents or the persons who in fact control its affairs, are alien
enemies. [Daimler Company Ltd Vs. Continental Type & Rubber Ltd. (1962)].
2. Where company is a mere cloak or sham: The court will lift the veil where the company is
a mere cloak or sham i.e. where the device of incorporation is used for some illegal or
improper purpose. [(Jones Vs. Lipman (1962)].
3. Where the company is acting as an agent of the shareholders: Where a company is acting
as an agent for its shareholders, they will be liable for its acts. Whether it is acting as an
agent is a question of fact in each case.
4. Protection of revenue: The courts may disregard the corporate entity of a company where
it is used for tax evasion or to circumvent tax obligation. Further, where it is desired to
establish the residential status/character of a company for tax purpose, the court will lift the
veil and find out where its central management is, and the place that determines its residence.
Statutory exception
1. Number of members below statutory minimum: If, at any time, the number of members of
a company is reduced below two in the case of a private company or below seven in the
case of a public company and it carries on business for more than six months while the
number is so reduced, every member, who knows of this fact, will become liable to an
unlimited extent for the payment of the whole debts of the company contracted during the
time (section 45).
2. Company name not mentioned on a bill of exchange etc: Where an officer of the company
or any person signs on behalf of the company, a bill of exchange, promissory note, a cheque
or order for money or goods, wherein the name of the company is not mentioned, he is
personally liable unless the amount is paid by the company. (Section 147).
3. Group accounts: The principle of separate legal entity may be disregarded where a company
has subsidiaries and group accounts are required to be laid before the company in general
meeting when the company’s own Profit and Loss Account and Balance Sheet is so laid.
(Section 212).
4. Fraudulent trading: If in the course of the winding up of a company it appears that any
business of the company has been carried on with the intent to defraud creditors, the court
may declare that any person(s) who were knowingly parties to the carrying on of such
business are to be personally liable for the debts and other liabilities of the company. (Section
542)
5. Investigation into related companies: An inspector appointed under Section 239 by the Central
Government may lift the veil of incorporation if he thinks it necessary for the purpose of
investigation into the affairs of its subsidiary or holding company.
Kinds of companies
1. Chartered Companies
The Crown, in the exercise of the royal prerogative, has power to create a corporation by a
grant of a charter to persons assenting to be incorporated. Such companies or corporation are
known as Chartered Companies. Example of this type of companies are Bank of England, East
India Company, Peninsular and Oriental Steam Navigation Company (1840) etc. The powers and
the nature of business of a chartered company are defined by the charter which incorporates it.
2. Statutory Companies:
A company may be incorporated by means of a special Act of the Parliament or any State
legislature. Such companies are called Statutory Companies. They are generally formed to carry out
some special public undertaking. For example railway, waterworks, gas, electricity generation ,The
Life Insurance Corporation of India (LIC), The Food Corporation of India (FCI), Unit Trust of India
(UTI), State Trading Corporation (STC) etc.
Statutory companies are governed by the Acts creating them. They are not required to have
any memorandum or articles of association. Changes in their structure are possible only by amendment
in the Acts creating them. The annual report on the working of each statutory company is required
to be placed before the Parliament or the State Legislature as the case may be. A statutory company
though owned by the government has a separate legal entity. It cannot be regarded as a department
of the Government. The provisions of the Companies Act, 1956 apply to the statutory companies
except where the said provisions are inconsistent with the provisions of the Act creating them.
3. Registered Companies
Companies registered under the Companies Act, 1956, or the earlier Companies Act, are called
registered companies. Such companies come into existence when they are registered under the
Companies Act and a certificate of incorporation is granted to them by the Registrar. Section 12(2)
provides that a company registered under the Act may be (a) a company limited by shares, (b) a
company limited by guarantee, and (c) an unlimited company.
(i) Companies limited by Shares: Companies limited by shares are the most common type of
companies. This a company where the liability of its members is limited to the amount fixed by the
memorandum of the company, if any, unpaid on the shares respectively held by them. The liability
can be enforced during the existence of the company as well as during the winding up. Where the
shares are fully paid up, no further liability rests on them.
(ii) Companies limited by Guarantee: This is a company where the liability of its members is
limited to such amounts as they may respectively undertake as fixed by the memorandum to contribute
to the assets of the company in the event of its being wound up. In the case of such companies, as
in the case of companies limited by shares, the liability of its members is limited, but it is limited to the
amount of guarantee undertaken by them. For Example, the Madras Stock Exchange is a company
limited by guarantee. A company limited by guarantee may or may not have a share capital. If it has
a share capital, the liability of the members is twofold; (i) liability to pay the share amount and (ii) the
amount guaranteed. A guarantee company may not be suitable for ordinary business purposes.
Clubs, trade associations, research association and societies for promoting various objects are the
examples of guarantee companies. Many such companies obtain permission of the Central
Government to dispense with the word “limited.”
(iii) Unlimited Companies: It is a company where the liability of its members is not limited at all.
In such a company, the liability of each member extends to the whole amount of the company’s
debts and liabilities, but he will be entitled to claim rateable contribution from other members. The
articles shall state the number of members with which the company is to be registered and if the
company has a share capital, the amount of share capital with which the company is to be registered.
An unlimited company may be converted into a limited company either limited by shares or limited
by guarantee.
Public And Private Companies
Public Company:
A public company means a company which is not a private company. There must be at least
seven persons to form a public company. However, there is no maximum limit as to its number of
shareholders or members. It is the essence of a public company that its articles do not contain
provisions restricting the number of its members or excluding generally the transfer of its shares to
the public or prohibiting any invitation to the public to subscribe for its shares or debentures. Generally
speaking, any member of the public company may acquire shares in a public company on payment
of the share money. The articles of a public company may, however, contain restrictions on the issue
or transfer of shares. The company remains a public company despite such restrictions. Only the
shares of a public company are capable of being dealt in on a stock exchange.
Private Company:
A private company means a company which by its articles (i) restricts the rights to transfer its
shares, (ii) limits the number of its members to fifty (excluding invitation to the public to subscribe
for any shares or debentures of the company. [Section 3(1) (iii)].
Where two or more persons hold one or more shares in a company jointly, they shall be treated
as a single member. There should be at least two persons to form a private company and the
maximum number of members in a private company cannot exceed 50. A private limited company is
required to add the words “Private Limited” at the end of its name. The Companies Act does not
specify in what manner the right to transfer of shares must be restricted in the articles. The restriction
as to transfer of shares must be made applicable in respect of all shareholders. There cannot any
discrimination. If a private company fails to comply with any of the restrictions contained in the
articles, it ceases to be entitled to some of the privileges of a private company.
Sec. 3(1) (iii) of the Amendment Act, 2000 further provided (prohibited) that a private company
should include following restriction in its Articles i.e.,
(d) Prohibit an invitation or acceptance of deposits from persons other than its members, directors
or their relatives.
Note:
Question may arise as to whether the articles of existing companies need be amended to
include this condition.
(i) Even if the articles are not amended, the provisions of section 9 will apply wherein it is stated
that the provisions of the Act will supercede the provisions of the articles. However, it is desirable
and advisable as a good secretarial practice to alter the articles. If these restrictions are not there,
the company will be treated as public company. Therefore, the Articles of Association should be
amended immediately by passing Special Resolution under section 31 to provide for restrictions, in
particular item (d) above.
(ii) It may be noted that after the above amendment no private limited company can take any
loan/ deposit or retain any loan/ deposit taken from any outsider (other than its members, directors
or their relatives.) Therefore, all private limited Companies will have to regularize this matter
immediately.
(iii) Every private company should have a paid up capital of Rs. 1 Lac. Existing companies will
have to issue new shares to ensure paid up capital of Rs. 1 lac within 2 years of commencement of
Amendment Act. Such capital may be Equity or Preference.
(iv) If paid up capital is not increased to Rs. 1 lac within 2 years the company will be deemed
to be a defunct company under section 560, and name of such a company will be struck off by
Register of Companies.
Privileges of Private Company:
The Provisions of the Companies Act apply to public and private companies alike. But certain
provisions of the Companies Act do not apply to a private company but are applicable to public
companies. These may be regarded as the privileges or advantages of a private company which are
as under:
1. A private company may consist of two members only.
2. A private company is entitled to commence business immediately on incorporation.
3. A private company may allot shares without issuing a prospectus or delivering to the Registrar
a statement in lieu of prospects.
4. A private company is not required to hold a statutory meeting or file a statutory report with
the Registrar.
5. A private company can have a minimum of two directors.
6. The provisions of section 81 as regards further issue of capital do not apply to a private
company.
7. A private company may issue not only equity and preference shares but also deferred
shares or any other kind of shares with disproportionate voting rights as it may think fit.
8. A private company can give financial assistance for purchase of its shares or its holding
company’s shares.
9. Copies of Balance Sheet and Profit and Loss Account filed with the Registrar cannot be
inspected by the public.
10. A director of a private company need not hold the shares qualification.
11. Restrictions in regard to overall managerial remuneration imposed by Section 309 do not
apply to a private company.
12. An interested director can participate in the Board proceedings and exercise his vote.
These privileges mentioned above are not available to a private company which is a subsidiary
of a public company or to a private company which becomes a deemed public company by virtue of
Section 43-A. Further, a private company ceases to be entitled to privileges mentioned above, if,
having made provisions required of a private company in its articles, the company makes a default in
complying with any one of those provisions.
Distinction between Public Company and Private Company
1. Minimum number of members: The minimum number of persons required to form a public
company is seven, whereas in private company it is only two.
2. Maximum number of members: There is no limit as to the maximum number of members of
a public company, but a private company cannot have more than fifty members excluding
past and present employees.
3. Commencement of Business: A private company can commence its business as soon as it

is incorporated. But a public company shall not commence its business immediately unless
it has been granted the certificate of commencement of business.
4. Invitation of public: A public company by issuing a prospectus may invite public to subscribe
to its shares/ debentures whereas a private company cannot extend such invitation to the
public.
5. Transferability of shares: There is no restriction on the transfer of shares in case of a public
company whereas a private company by its articles must restrict the right of members to
transfer the shares.
6. Number of directors: A public company must have at least three directors whereas a private
company may have two directors.
7. Statutory Meeting: A public company must hold a statutory meeting and file with the Registrar
a statutory report. But in a private company there are no such obligations.
8. Restrictions on appointment of directors: A director of a public company shall file with the
Registrar a consent to act as such. He shall sign the memorandum and enter into a contract
for qualification of shares. He cannot vote or take part in the discussion on a contract in
which he is interested. Two thirds of the directors of a public company must retire by
rotation. These restrictions do not apply to a private company.
9. Managerial remuneration: Total managerial remuneration in the case of a public company
cannot exceed 11% of the net profits, but in the case of inadequacy of profits, a minimum of
Rs. 50,000 can be paid. These restrictions do not apply to a private company.
10. Further issue of capital: A public company proposing further issue of shares must offer them
to the existing members. A private company is free to allot new issues to outsiders.
Conversion of Private Company into Public Company
Conversion by choice: A private company may deliberately choose to become a public company.
If a private company deletes from its articles the requirements of section 3(i)(iii) by passing a
special resolution, the company will cease to be a private company from date of the alteration of the
articles. When a private company chooses to become a public company, it will have to comply with
all the provisions of the Companies Act, applicable to a public company. Within 30 days of its
becoming a public company, it shall file with the Registrar a prospectus or a statement in lieu of
prospectus.
Conversion by default: A private company is entitled to certain privileges and exemptions. It
can enjoy those privileges as long as it complies with the requirements of its definition as given in
Section 3(i)(iii). Where any default is made in complying with these provisions (viz. restriction on
transfer of shares, limitation on the number of members to 50 and prohibition of invitation to public
to buy shares and debentures), the company loses the privileges and the exemptions and the provisions
of the Act apply to the company as if it was not a private company. However, the company may be
relieved of the consequences on an application made to the court, and if the court is satisfied that the
failure to comply with the conditions is not willful or that it is just and equitable to grant relief. (Sec. 43).
Conversion by the operation of Law: Private Companies are exempted from the operation
of several provisions of the Act and enjoy certain privileges principally on the ground that they are
family concerns in which the public is not directly interested. However, when public money is
invested in such companies, there is no reason for treating such companies as private companies.
The law tries to tackle the problem by creating another type of company viz., Deemed Public
Company. Actually it is a private company which, under certain circumstances, can be treated by
the laws as the public company. Firstly where a private company is subsidiary of a public company,
it is dealt with as a dealt with as a public company for all purposes of the Act.
A private company shall also be deemed as a public company in the following cases : (a)
Where it invites public deposits through an advertisement; (b) it holds 25% or more of the paid up
share capital of a public company; (c) it has public company(ies) or deemed public company(ies) as
its shareholders holding in aggregate 25% or more of its paid up share capital; (d) its average annual
turnover for the last three consecutive financial years is Rs. 25 crores or more. A private company
which has become a public company by virtue of these provisions shall continue to be so until it has,
with the approval of the Central Government and in accordance with the provision of the Act, again
become a private company. Provisions regarding deemed public companies are deleted by the
Companies Amendment Act, 2000.
Conversion of public company into private company: A public company may be converted
into a private company by altering the articles incorporating the three restrictions mentioned in
Section 3(i)(iiii). Such alteration of articles will be made by a special resolution and the approval of
the Central Government is necessary for such alteration. A copy of the special resolution has to be
filed with the Registrar within 30 days and when the approval of the Central Government for conversion
of a public company into private company is obtained, a copy of such approval shall also be filed
within one month. A printed copy of the articles as altered shall be filled by the company with the
Registrar within one month of the date of receipt of the order of approval.
Holding Company and Subsidiary Company
A company which controls another company is known as the ‘holding company’ and the company
so controlled is termed as ‘subsidiary company.’
A holding company is one of it: (i) controls the composition of board of directors of another
company; or (ii) holds more than half of the nominal value of equity share capital of another company;
or (iii) controls more than ½ of the total voting power of the other company. (iv) is a subsidiary of
any company which is in turn a subsidiary of another company.
Illustration: Company B is a subsidiary of company A, and company C is subsidiary of company
B. Company C will be a subsidiary of company A.
Government Company
Section 617 of the Companies Act defines a government company as a company in which not
less than fifty one percent of the paid up share capital is held by the Central Government, or by any
State Government, or Governments, or partly by the Central Government and partly by one or more
State Governments. It is also includes a company which is a subsidiary of a Government company.
Certain special provisions have been laid down in the Act regarding a government company.
They are discussed below:
1. The auditor of a Government company shall be appointed or re-appointed by the Central
Government on the advice of the Comptroller and Auditor General (GAG) of India.
2. The auditor will submit a copy of the audit report to the CAG of India who may comment
upon or supplement the audit report in such manner as he may think fit. Such comments or
supplementary report shall be replaced before the annual general meeting along with the
audit report. (Section 619).
3. Where the Central Government is a member of the Government Company it shall cause an
annual report on the working and affairs of the company to be prepared and laid before both
Houses of Parliament alongwith the audit report and the comments, if any, of the Comptroller
and Auditor General of India. The report shall be prepared within 3 months of the Annual
General Meeting. Where the State Government is also a member, the report shall also be
laid before the State legislature.
Foreign Companies
It means a company incorporated outside India and having a place of business in India. The
Companies Amendment Act, 1974 provides that where not less than 50% of the share capital is held
by Indian citizens and/ or companies incorporated in India it shall have to comply with such of the
provision of the Act as may be prescribed as if it were a company incorporated in India.
DISTINCTION BETWEEN PARTNERSHIP AND COMPANY

1. Registration: Registration of a firm is not compulsory even under the Partnership Act, 1932
whereas incorporation/ registration of a company is compulsory under the Companies Act,
1956.
2. No. of Members: Minimum two persons may constitute a partnership. Maximum membership
in case of partnership doing banking business is ten persons and for other business is twenty
persons, while minimum two and maximum fifty constitute private limited company and
minimum seven and no maximum (unlimited) constitute a public limited company.
3. Legal Status: A firm has no individual legal status while a company has a separate legal
existence of its own, and is considered a separate person from its members.
4. Property: Property of the firm is the property of the partners. On the country, in case of
company property always belongs to the company.
5. Contracts: A partner cannot contract with the firm whereas a shareholder can contract with
the company.
6. Management: Management in case of partnership vests in the hands of the active partners
whereas in case of a company, management vests in the Board of Directors elected by the
shareholders.
7. Life Duration: Partnership unlike company has no perpetual existence.
8. Liability: Partners of the firm are liable to an unlimited extent, i.e. in partnership there is an
unlimited liability whereas the liability of shareholders is usually limited.
9. Creditors: Creditors of the firm are also creditors of the partners individually, whereas in the
case of company, creditors are only the creditors of company and not of the individual
shareholders.
10. Dissolution on Death : Death of partner may mean dissolution of partnership while the death
of a shareholder or even of a director does not affect the existence of a company.
11. Agency Relationship : Every partner is an agent of the other partner, whereas the shareholder
of a company is not an agent of the company.
12. Transfer of interest : A partner cannot transfer his interest in the firm without the consent of
the other partners whereas in case of a company shares are easily transferable and the
transferable of a share becomes a members of the company without any difficulty.
13. Statutory obligations : Partnership has less statutory obligations under the Partnership Act,
1932 whereas a company is regulated strictly under the Companies Act 1956.
Formation of Company
Document to be filed: The application for registration of a company should be presented to the
Registrar of Companies of the State in which the business office of the company is to be situated.
The application shall be accompanied with the following documents.
1. The Memorandum of Association
2. The Articles of Association, if any, duly signed by the subscribers of the Memorandum.
3. A statement of the nominal or authorized capital.
4. A notice of address of the registered office of the company. This may be done within 30
days of registration if it cannot be filed at the time of registration.
5. A list of directors and their consent to act as such, signed by each.
6. An undertaking in writing signed by each such director to take and pay for their qualification
shares.
7. A declaration that all the requirements (provision) of the Companies Act have been complied
with. Such a declaration may be signed by an advocate of the Supreme Court or High
Court, an attorney or pleader entitled to appear before a High Court, or a Chartered
Accountant practicing in India, who is engaged in the formation of the company, or by a
person named in the articles as director, manager or secretary of the company.
Items number 5 and 6 listed above are not required to be filed in the case of a private company.
If the Registrar is satisfied that all the requisite documents delivered to him are in order, he shall
register the Memorandum and the Articles, if any, provided he is satisfied on the following points :
(a) the relevant provisions of the Act have been complied with, (b) the objects of the company are
lawful. (c) the requisite number of persons required under the Act have subscribed and duly signed.
(d) the Memorandum and the Articles comply in all respects with the provisions of the Act, (e) the
name selected by the company is acceptable; and (f) the statutory declaration has been properly
made. If the Registrar of Companies is satisfied that all the aforesaid requirements have been
complied with, he will register the company and place its name on the register of companies. It is
clear that once the statutory requirements have been complied with, the Registrar has no option but
to register it. On refusal to register a company on improper grounds, he may be compelled by a Writ
of Mandamus.
Certificate of Incorporation:
On registration, the Registrar will issue a certificate of incorporation whereby he certifies that
the Company is incorporated. From the date of incorporation mentioned in the certificate, the company
becomes a legal person separate from its shareholders and secures a perpectual succession. Hence
it is the birth certificate of the company. The certificate of incorporation prevents the reopening of
matter prior to the registration and places the existence of the company as a legal person beyond
doubt. Consequently, even if the seven signatures to a memorandum were written by one person or
were all forged, the certificate would be conclusive that the company was duly registered. Similarly,
if the signatories were all infants, the certificate would still be conclusive.
Certificate of Commencement of Business
A private company many commence its business immediately on incorporation but a public
company cannot commences business immediately after incorporation, unless it has obtained a
certificate of commencement of business (also known as Trading Certificate) from the Registrar. If
the company has a share capital and has issued a prospectus inviting the public to subscribe for its
shares or debentures it cannot commence business until (a) shares payable in cash have been
allotted to the extent of the minimum subscription : (b) every director has paid in cash the application
and allotment money on the shares taken by him; (c) no money is liable to be repaid to the applications
for failure to apply or obtain permission for the shares or debentures to be dealt in on any recognized
stock exchange. (d) a statutory declaration duly verified by one of the directors or the secretary in
the prescribed form that the above conditions have been complied with has been filed with the
Registrar [Section 149(1)].
On the above requirements being duly fulfilled, the Registrar shall certify that the company is
entitled to commence business. This certificate is a conclusive evidence that the company is so
entitled. [Section 149(3)]. Contracts made by the company before it has obtained the certificate of
commencement are provisional only and do not become binding on the company until it has become
entitled to commence business [Section 149(4)]. Where a company is wound up before it becomes
entitled to commence business anybody who has supplied goods cannot have any claim against the
company. A company is bound to commence business within a year of its incorporation or else it is
liable to be wound up by the Court. [Section 433©].
PROMOTER
A promoter is one “who undertakes to form a company with reference to a given object and to
set it going and who takes the necessary steps to accomplish that purpose” The promoters of a
company decide the scope of its business activities. They negotiate, if necessary, for the purchase
of an existing business. They instruct the solicitors to prepare the necessary documents and secure
the services of directors. They provide the registration fees and carry out other duties involved in
the formation of a company. They also make arrangements for advertising and circulating the
prospectus and placing the capital.
A promoter is not an agent for the company which he is forming because a company cannot
have an agent before it comes into existence. For the same reason he cannot be the trustee of the
company. However, from the moment he acts with the company in mind, a promoter stands in
fiduciary position towards the company.
Liabilities of promoters: A promoter can be compelled by the company to hand over any
secret profit which he has made without full disclosures to the company. The company can also sue
for the recission of the contract of sale by the promoter where the promoter has not disclosed his
interest therein.
A promoter is liable for any untrue statement in the prospectus to a person who has subscribed
for any shares or debentures on the faith of the prospectus. Such a person may sue the promoter for
compensation for any loss or damage sustained by him.
Remuneration of promoters: The nature of the promoter’s work in the formation of a company
calls for considerable skill for which he should be adequately remunerated. A promoter has no right
against the company for his remuneration unless there is a contract to that effect. In the absence of
such a contract, he cannot even recover from the company payments he has made in connection
with the formation of the company.
Preliminary or Pre-Incorporation Contracts
Preliminary contracts are purported to be made on behalf of a company before its incorporation.
Prior to this, a company has no capacity to contract. A contract entered into by promoters on behalf
of a proposed company is void so far as the company is concerned. The promoters cannot be the
agents for a principal of a which has not yet come into company existence. In such a case the
company cannot sue on it. The company has no legal existence until it is incorporated. The preliminary
contracts made by promoters generally provide that if the company adopts the agreement, the
promoters liability shall cease and if the company does not adopt the agreement within a certain time
either party may rescind the contract. In such a case the promoter’s, liability would cease after the
lapse of the fixed time.
Provisional Contracts: Pre-incorporation contracts must be distinguished from contracts entered
into by a company after incorporation, but before it becomes entitled to commence business. Contracts
entered into by a company after its incorporation and before it is entitled to commence business are
provisional only and are not binding on the company until the trading certificate is issued. Consequently
should the company go into liquidation, without commencing business, such contracts cannot culorced
at all.
MEMORANDUM OF ASSOCIATION
Meaning: Memorandum of Association is one of the core documents which has to be filed with
the Registrar of Companies at the time of incorporation of a company. It is document which sets out
the constitution of the company and is really the foundation on which the structure of the company
is based. It contains the fundamental on which the structure of the company is based. It contains the
fundamental conditions upon which alone the company is allowed to be incorporated. A company
may pursue only such objects and exercise only such power as are conferred expressly in the
memorandum or by implication therefrom i.e. such powers as are incidental to the attainment of the
objects. A company cannot depart from the provisions contained in its memorandum, however, great
the necessity may be. If it does, it would be ultra vires the company, and therefore wholly void. It
defines its relation with the outside world and the scope of its activities. The purpose of the
memorandum is to enable shareholders, creditors and those who deal with the company to know
what is the permitted range of the activities of the enterprise.
Contents of Memorandum
According to Section 13, the Memorandum of Association of every company must contain the
following clauses : 1. The Name of the company with “Limited’ as the last word of the name in the
case of a public limited company and with ‘Private’ Limited’ as the last word in the case of a private
limited company. 2. The State in which the registered office of the company is to be situated. 3. The
objects of the company to be classified as (i) the main objects of the company to be pursued by the
company on its incorporation and objects incidental to the attainment of the main objects, and (ii)
Other objects not included above. 4. The Liability of members is limited if the company is limited by
shares or by guarantee. 5. In the case of a company having a share capital, the amount of share
capital with which the company proposes to be registered and its division into shares of a fixed
amount. An unlimited company need not include items 4 and 5 in its memorandum.
A brief discussion of the various is as follows:
Name clause: A company may be registered with any name it likes. But no company shall be
registered by a name which in the opinion of the Central Government is undersirable and in particular
which is identical or which too nearly resembles the name of an existing company. Every public
company must write the word ‘limited’ after its name and every private limited company must write
‘private limited’ after its name. A company cannot adopt a name which violates the provisions of the
Emblems and Names (Prevention of Improer Use) Act 1950. Every company is required to publish
its name outside its registered office, and outside every place where it carries on business, to have
its name engraved on a seal and to have its name on all business letters, bill heads, notices and other
official publications of the company (Section 147).
Registered office clause: This clause states the name of the State where the registered
office of the company is situated. The registered office clause is important for two reasons. Firstly,
it ascertains the domicile and nationality of a company. This domicile clings to it throughout its
existence. Secondly, it is the place where various registeres relating to the company must be kept
and to which all communication and notice must be sent.
Objects clause: The objects clause is the most important clause in the memorandum of
association of a company. It is not merely a record of what is contemplated by the subscribers, but
it serves a two-fold purpose – (a) It gives an idea to the prospective shareholders about the purposes
for which their money will be utilised. (b) It enables the persons dealing with the company to
ascertain its powers. In case of companies which were in existence immediately before the
commencement of the Companies (Amendment) Act 1965, the objects clause has simply to state
the objects of the company. But in the case of a company to be registered after the amendment, the
objects clause must state separately.
(i) Main objects: This sub-clause has to state the main objects to be pursued by the company
on its incorporation and objects incident or ancillary to the attainment of the main objects.
(ii) Other objects: This sub-clause shall state other objects which are not included in the above
clause.
Liability clause: This clause states that the liability of the members of the company is limited.
In the case of a company limited by shares, a members is liable only to the amount unpaid on the
shares taken by him. In the case of a company limited by guarantee, the members are liable to the
amount undertaken to be contributed by them to the assets of the company in the event of its being
wound up. However, this clause is omitted from the memorandum of association of the unlimited
companies.
Capital clause: The memorandum of a company limited by shares must state the authorized
or nominal share capital, the different kinds of shares, the nominal value of each share etc. The
chief point to consider in regard to this class is what funds are necessary to set the business going or,
if it is proposed to by an existing concern, what sum is needed to pay its price and what, in addition,
is wanted to keep the business going. It is generally advisable to have a reasonable amount of more
capital and have some shares in reserve as unissued so that further capital may be raised as and
when required.
Association or subscription clause: This clause provides that those who have agreed to
subscribe to the memorandum, must signify their willingness to associate and form a company.
According to Section 12 of the Act, atleast seven person are required to sign the memorandum in the
case of public company, and at least two persons in the case of private company. The memorandum
has to be signed by each subscriber in the presence of at least one withness who must attest the
signatures. Each subscriber must write opposite his name the number of shares he shall take. No
subscriber of the memorandum shall take less than one share. This clause need not be numbered.
Alteration of Memorandum
The Memorandum of association of a company being its charter, the right of the company to
alter its contents is rigidly limited by the provisions of the Act. Section 16 of the Act provides that a
company shall not alter the conditions contained in its memorandum except in the cases, in the
manner and to the extent provided in the Act.
Change of Name
A company can change its name. For this purpose it must first pass a special resolution and
then obtain approval of the Central Government in writing. However no such approval is necessary
for merely including or deleting the word ‘Private’ consequent on the conversion of the public
company and vice versa. (Section 21).
The Registrar shall enter the new name the register in place of former name and shall issue a
fresh certificate or incorporation. Necessary alteration shall also be made in the memorandum by
the Registrar. The change of name shall be complete and effective only on the issue of such a
certificate. The rights and obligations of a company will not be affected on the change of its name
(Section 23).
Change of Registered Office
A company can shift its registered office from one place to another within the same city, town
or village, provided a notice of change is given to the Registrar within 30 days of such change. But,
where the registered office is to be changed outside the local limits of any city, town or village in the
same State, special resolution to that effect must be passed. However, the alteration of the change
of the place of the registered office of a company from one state to another shall take effect only on
the confirmation by the Company Law Board on petition. A notice of such change shall also be given
to the Registrar within 30 days of the change. These two changes in the registered office do not
involve alteration of memorandum.
Procedure for shifting Registered office from one state to another
A company can change its registered office from one State to another only for purpose specified
in Section 17(1) of the Companies Act, 1956 and for no other purpose.
1. Resolution of the Board of Directors: The first step in changing registered office is that the
board of directors must adopt a resolution to that effect.
2. Special resolution: A special resolution must be passed by the company in the general body
meeting of share holders/ members (Sec. 17(1)).
3. Confirmation by the CLB: the change shall not take effect unless and until it is confirmed by
the CLB on a petition by the company. [Sec. 17(2)]. Consequent to the Companies
(Amendment) Act 1996, the change of registered office requires no confirmation by CLB.
4. Notice to affected parties: Before confirming the change the CLB shall ensure that sufficient
notice has been given to every person whose interest will be affected by the change and
that the consent of the creditors of the company has been obtained or their debts or claims
have been discharged or secured. (Sec. 17(3).
5. Notice to Registrar: The CLB shall cause notice of the petition for confirmation of the
change to be served on the Registrar. The Registrar shall also be given a reasonable
opportunity to appear before the CLB and state his objections and suggestion, if any, with
respect ot the confirmation of the alteration. [Sec. 17(4)].
6. The CLB as it may think fit impose such terms and conditions.
7. Copy of the order to be filed with ROC’s: A certified copy of the order confirming the
alternation, together with a printed copy of altered memorandum shall be filed by the company
with the registrar of each of the states who shall registrar the same. All the records of the
company shall be transferred.
The aforesaid copy of the order must be filed within three months from the date or the
order. The CLB before confirming a resolution will satisfy itself that sufficient notice has
been given to every creditors and all other persons whose interest are likely to be affected
by the alternation to every creditors and all other persons whose interest are likely to be
affected by the alternation including the Registrar of Companies and the Government of the
State in which registered office is situated. In Orient Paper Mills Ltd. Vs State of Air (1957)
ORI. 232. it was observed that a State whose interests are affected by the change of the
registered office to a different States High Court declined to confirm of the shifting of the
registered office from Orissa to West Bengal on the ground that the State has the right to
protect its revenue and therefore the interest of the State must be taken into account.
But in Minerva Mills Ltd. Vs. Govt of Maharashtra, the Bombay High Court held that the
CLB cannot refuse confirmation of the shifting of the registered office on the ground of loss
of revenue to a state or would adversely affect on the general economy of the State. Similar
view was expressed in Rank Film Distributors of India Ltd Vs. Registrar of Companies,
West Bengal.
Change of Registered Office within a State
1. No company shall change the place of its registered office from one place to another within
a State unless such change is confirmed by the Regional Director.
2. The company shall make an application in the prescribed form to the Regional Director for
confirmation under sub-section.
3. The confirmation referred to in sub-section (1), shall be communicated to the company
within four weeks from the date of receipt of application for such change.
Explanation – For the purpose of this section, it is hereby declared that the provisions of this
section shall apply only to the companies which change the registered office from the
jurisdiction of one Registrar of Companies to the jurisdiction of another Registrar of
Companies within the same state.
4. The company shall file, with the Registrar a certified copy of the confirmation by the Regional
Director for change of its registered office under this section, within two months from the
date of confirmation. Together with a printed copy of th memorandum as altered and the
Registrar shall register the same and certify the registration under his hand within one
month from the date of filing of such document.
5. The certificate shall be conclusive evidence that all the requirements of this Act with respect
to the alteration and confirmation have been complied with and hence forth the memorandum
as altered shall be the memorandum of the company.”
Change of the objects clause

Section 17 of the Act only gives a limited right to the company to alter its objects clause. This
section provides specific purposes that the objects clause can be altered only if the change enables
the company: (a) to carry on its business more economically or more efficiently; (b) to attain its main
object by new or improved means; (c) to enlarge or change the local area of its operation; (d) to
carry on some business, which under existing circumstances may be conveniently or advantageously
combined with the business of the company; (e) to restrict or to abandon any of the objects specified
in the memorandum; (f) to sell or dispose of the whole or any part of the undertaking of the company;
(g) to amalgamate with any other company or body of persons.
The company can alter its objects clause only to the above named purposes. The Company
Law Board has no jurisdiction to confirm any alteration which is not covered by Section 17(i) The
alteration must leave the business of the company substantially the same what it was before with
only such changes in the mode of conducting it as will enable it to be carried on more economically
or more efficiently. The addition or alterations should be a step in aid to improve efficiency and
generate more resources.
Procedure: Before the company can alter object clause, it shall pass a special resolution,
sanctioning the alteration. A copy of the special resolution shall be filled with the Regisrar within 30
days of its passing. But the alteration shall not take effect unless it is confirmed bythe Company law
Board on petition. Before confirming, the company Law Board (CLB) shall see that sufficient
notice of the petition has been given to all persons whose interests are likely to be affected by the
proposed alteration. It may confirm the alteration either wholly or in part and on such terms and
conditions as it may think fit. A certified copy of the order of the Company Law Board together with
a printed copy of the altered memorandum must be filed with the Registrar with three months of the
order, who shall register the same and issue a certificate of registration within one month. (Section
18). If the copy of the order is not registered within the prescribed period, the proceedings connected
with the order will become void and inoperative. However, the Board may receive the order on an
application made within one month of its lapse. (Section 19).
Change of liability clause
Ordinarily the liability clause cannot be altered so as to make the liability of members unlimited.
Any alteration in the morandum will be void if the effect of the alteration is the enhancement of the
liability of members. This provision, however, will not apply to case where the members agree in
writing to be bound by the alteration. (Section 38). A limited company, if authorized by its articles by
a special resolution, may-alter its memorandum to make the liability of its directors or manager
unlimited. This rule applies to future appointees only. Such alteration will however not affect the
existing directors and mangers unless they have accorded their consent. (Section 323).
Change of the capital clause
A limited company, having a share capital may alter its capital clause subject to the provisions
of its articles by a resolution in the general meeting. The confirmation of the court is not required if
alteration is made for any of the following purposes : (i) to increase its share capital. (ii) to consolidate
and divide its capital into shares of large amount. (iii) to convert its fully paid shares into stock and
reconvert the stock into fully paid up shares. (iv) to sub-divide its shares into shares of smaller
amount, and (v) to cancel its shares. But for reduction of share capital, special resolution and
confirmation by the court are necessary. For detailed discussion on the above, see chapter, “Shares
and debentures.”
Doctrine of Ultra-Vires
A company has power to carry out the objects set out in the memorandum and also everything
which is reasonably necessary to enable it to carry out those objects. Any activities not expressly or
impliedly authorized by the memorandum are ultra-vires to the company. An act is said to be ultra-
vires (beyond the powers) when it is performed which, though legal in itself, is not authorized by the
objects clause in the memorandum of association or the statue. Such an act is void and cannot be
ratified even by an unaniminous resolution of all the shareholders.
The doctrine of ultra vires was put in its modern form in the famous case of Ashbury Railway
Carriage and Iron Co. Ltd. Vs. Riche. There may be certain acts which are ultra-vires the directors
or ultra-vires the articles but which are intra-vires the company. If an act is ultra-vires the directors
only and the shareholders have ratified it, the company would be bound by it. Where an act is ultra-
vires the articles, it can be ratified by altering the articles through a special resolution. Further, it an
act is within the power of the company, any irregularities seen can be cured by the consent of all the
shareholders.
Effect of ultra-vires Acts : An act which is ultra-vires the company is absolutely void. A
company is not bound by and cannot enforce an ultra-vires contract. The effects of an ultra-vires
are as follows.
1. As such a company may be restrained by an injunction to do an act if it is ultra-vires of its
objects.
2. If the money borrowed has been used to pay-off which could have been enforced against
the company, the lender may sue the company being subrogated to the right of the creditors
who were paid-off.
3. If the lender can identify his money, or other property purchased with it, he is entitled to
what is known as a tracing order and can recover.
4. The lender may hold the directors personally liable for contracting an ultra-vires loan of the
company. The directors are liable for damages to the lender for the breach of the implied
warranty of authority.
5. If any money is unlawfully disbursed, the directors shall be personally liable to make good
the amount.
6. Where the officers of a company persuade a third party to enter into a transaction which is
ultra-vires the company, an action may lie against them in breach of warranty of authority.
7. An ultra-vires contract cannot become intra-vires by reason of estopped, lapse of time,
ratification or delay.
8. A company can protect its property acquired by an ultra-vires expenditure.

9. A company will be liable for torts or crimes committed in the pursuit of its stated objects.
Articles of Association
Meaning: The word ‘Articles’ means the Articles of association of a company as originally
framed or as altered from time to time in pursuance of any previous companies law or of this Act.
The Articles of association are the rules and regulations of a company framed for the purpose of
internal management of its affairs. It deals with the rights of the members of the company inter-se.
The articles are framed for carrying out the aims and objects of the Memorandum of Association.
The articles of association of a company are subordinate to and are controlled by the Memorandum
of Association.
It is not obligatory to register Artciles in the case of a public company limited by shares. In such
a case, model articles contained in ‘Table A’ of Schedule I of the Act will apply. However, a private
company, a company limited by guarantee and an unlimited company must register their articles
alongwith the Memorandum. (Section 26). In the case of an unlimited company is to be registered,
and if it has a share capital, the amount of share capital with which it is to be registered. [Section
27(1)]. In the case of a company limited by guarantee, the Articles shall state the number of members
with which the company is to be registered. [Section 27(2)].
In the case of a private company, the Artciles must contain provision which (a) restrict the right
to transfer its shares; (b) limit the number of its members to fifty excluding past and the present
employees of the company; (c) prohibit any invitation to the public to subscribe for any shares in or
debentures of the company [Section 27(3)].
The Articles must be printed and divided into paragraphs, numbered consecutively. The articles
must be signed by each subscriber of the memorandum in the presence of at least one withness who
whill atleast the signature and likewise add his address, description and occupation, if any, [Section
30].
Contents of Articles
1. Exclusion wholly or in part of Table A. 2. Adoption of preliminary contracts. 3. Number and
value of shares. 4. Allotment of shares. 5. Calls on shares. 6. Lien on shares. 7. Transfer and
transmission of shares. 8. Forfeiture of shares. 9. Alteration of share capital. 10. Share certificates.
11. Conversion of shares into stock. 12. Voting rights and proxies. 13. Rules of conducting Meeting.
14. Directors, their appointment etc. 15. Borrowing powers . 16. Accounts and audit. 17. Dividents
and reserves. 18. Winding up.
Alteration of Articles
Companies have wide powers to alter their Articles. Any restriction on the exercise of their
powers will be invalid. Articles of Association may be altered by a company by passing a special
resolution to that effect. The altered Articles will bind the members in the same way as did the
original Articles. The company must file with the Registrar a copy of the special resolution within
one month from the date of its passing.
Section 31 of the Companies Act, 1956 vests companies with powers to alter or add to its
Articles. A company cannot divest itself of these powers (Andrews Vs. Gas Meter Co. (1897) I Ch.
361}. Matters as to which the Memorandum is silent can be dealt with by the alteration of Articles
(Section 31(1)}. The alteration must be effect subject to the following limitations :
(i) the alteration must not exceed the powers given by Memorandum or conflict with the
provisions thereof.
(ii) It must not be inconsistent with any provisions of the Companies Act or any other statute.
(iii) It must not be illegal.
(iv) It should not be in fraud of a minority or inflict a hardship on a minority subject to an
important provision that whatever is done in the interest of the company can never be
regarded as oppressive to the minority, however, hurtful it may be to the minority. (Brown
British Abrasive Wheel Co. (1919) I ch. 290 : Side bottom Vs. Kershaw Least and Co. Ltd.
1 Ch. 154).
(v) The alteration must not be inconsistent with an order of the Court. Where a company is
compelled by a Court’s order to change its Articles in cases of oppression or mismanagement
any subsequent alteration thereof which is inconsistent with such an order can be made by
the company only with the leave of the Court.
(vi) It may be regard as having a retrospective effect so long as it does not affect the things
already done by the company (Allen Vs. Gulf Line (1909) S. C. 732).
(vii) An alteration that has the effect of increasing the liability of a member to contribute to the
company is not binding on a present member unless he has agreed there to in writing
(Section 38.)
(viii) A reserve liability once created cannot be undone but may be cancelled on a reduction of
capital (Midland Railway Carriage Wagon Co. (1907) W.N. 175; (Section 99)
(ix) Any irregular alternations which have been made and acted upon for many years are binding.
Distinction Between Memorandum and Articles
1. Contents and scope: Memorandum of Association is the charter of the company and
defines the scope of its activites. Articles of Association of the company is a document
which regulates the internal management of the company. These are rules made by the
company for carrying out the objects of the company as set out in the Memorandum.
2. Relationship between company, members and outsiders: Memorandum of Association
defines the relation of the company with the outside world, whereas Articles of Association
deals with the rights of the members of the company interse and also establishes the relationship
of the company with the members.
3. Alteration: Memorandum of Association cannot be altered except in the manner and to the
extent provided by the Act, whereas the Articles being only the byelaws of the company,
can be altered by a special resolution.
4. Supremacy: Memorandum is a supreme document of the company, whereas Articles are
subordinate to the Memorandum. They cannot alter or control the Memorandum.
5. Adoption: Every company must have its own Memornandum. But a company limited by
shares need not register its Articles. In such a case Table ‘A’ applies.
6. Ultra-vires Acts: A company cannot depart from the provision contained in its Memorandum,
and if it does, it would be ultra-vires the company, Anything done against the provisions of
Articles, but which is intra-vires the Memorandum, can be ratified.
Legal of Memorandum and Articles
The Memorandum and the Articles shall, when registered, bind the company and the members
thereof to the same extent as if they respectively had been signed by the company and by each
member and contained convenants by the company and each member to observe all the provisions
of the Memorandum and the Articles [Section 36(1)].
The effect of these provisions is to constitute through the Memorandum and the Artciles of
Association of a company a contract between each member and the company. The effect and the
implications of this section may be appreciated by considering, how far the memorandum and the
articles bind. (i) The mebers to the company, (ii) the company to the members. (iii) the members
inter-se and (iv) and company to the outsiders.
Memebers to the company: As between the members and the company, each member of
the company is bound to observe the various provisions of the Memorandum and Articles of association
as if he had actually signed the same.
Company to the members: The company is bound to the members by the various provisions
contained in the Memorandum and the Articles of association in the same way as the members are
bound to the company. The company can therefore, exercise its rights as against any members only
in pursurance of and in accordance with the Articles and the Memorandum. Any member is entitled
to sue the company to prevent any breach of the Articles which would affect his right as a member
of the company. Thus, where a right is conferred by the Articles on a shareholder to record his vote
at a company meeting, the chairman of the meeting cannot deprive him on this right.
Members inter-se: The articles and the Memorandum do not constitute express agreement
between the members of the company. Yet each member of the company is bound by the
Memorandum and Articles on the basis of an implied contract to the other members. The articles
regulate the rights of the members inter-se but such rights can be enforced only through the company.
Company to the outsiders: Articles do not constitute any contract between the company
and an outsider. This is because the outsider is not a party to the contract, and therefore, cannot sue
on it. An outside is not entitled to enforce the Articles against the company for any breach of right
that is conferred on him by the Articles. Thus, a provision in the Articles to pay remuneration to the
promoters constitutes no contract between them and the company on which they can sue the company
for damages, if the remuneration is not paid to them. The term ‘outsider’ means a person who is not
a member of the company. Even a member will be regarded as an outsider and he will not be a
position to enforce a right against the company if the enjoys the right in the capacity of a solicitor or
a director and not in the capacity of a member.
Constructive Notice of Memorandum and Articles of Association

The Memorandum and Articles of association of every company are required to be registered
with the Registrar of Companies. On registration they become public documents, and are open for
public inspection on payment. Everyone dealing with company. Whether a shareholder or an outsider,
is presumed to have read the two documents. He will be presumed to know the contents of these
documents. This deemed knowledge of the two documents and their contents is known as the
constructive notice of Memorandum and Articles. Accordingly, where a person deals with a company
in a manner which is inconsistent with the provisions of the Memorandum or Articles, he must take
the consequences in respect of such dealing.
Moreover, the parties dealing with the company must be taken not only to have read these
documents but also to have understood according to their proper meaning.
Doctrine of Indoor Management (Rule in Turquand Case)
The Doctrine of Indoor Management is an exception to the rule of constructive notice. A
person dealing with a company is deemed to hae knowledge of the Memorandum and the Articles of
Association of the company. So, if he enters into a transaction with the company which is ultra-
vires of the Memorandum or Articles, he cannot treat the transaction as binding on the company. On
the other hand, if the transaction appears to be proper one, when compared with the Memorandum
and Articles, it would be grossly unfair if the company could escape liability under it by showing that
there was some irregularity in the conduct of the company’s affairs leading upto the transaction,
when the other party did not know of the irregularity and had no means of discovering it.
The doctrine of indoor management is eminently practical and is based on business convenience,
for business could not be carried on smoothly if a person dealing with the company was compelled
to call for evidence that all internal regulations have been duly observed. The doctrine is not only
convenient, it is also just. The lot of creditors of a company is not a particular happy one; it would be
unhappier still if the company could escape liability by denying the authority of the officials to act on
its behalf. The Memorandum and the Articles of a company are public documents and accessible to
all who are the consult them; but the details of the internal procedures are not registered and not
accessible to all.
The doctrine is however, subject to the following exceptions:
1. Knowledge of irregularity: A person, who deals with the company and who has knowledge
in its internal management in connection with the subject-matter of his dealings, cannot
claim the benefit of the rule in Turquand’s case.
2. Negligence: A person cannot claim the benefit of the rule in Turquand’s case in
circumstances under which he would have discovered the irregularity if he had made proper
inquiries.
3. Forgery: The rule of Turquand’s case will not apply where a document on which the
person seeks to rely is a forgery.
4. Acts outside the apparent authority: The rule in Turquand’s case does not apply where
a person acting on behalf of the company exceeds any actual or ostensible authority given
to him.
5. No knowledge of the contents of the articles: A person who has not actually read the
Memorandum and Articles of a company and who was not at the time, he entered into the
contract, aware of their contents, cannot seek to rely on statement contained therein. The
doctrine of indoor management is based on the principle of estopped, and therefore, it
cannot be invoked in favour of a person who has not consulted the company’s Memorandum
and Articles of association.
Review Questions
1. Define the term company. What are its characteristics?
2. “The company is a legal entity distinct from its members”. In what cases do the courts
disregard this principle?
3. Define a Private company. Distinguish it from a Public Company.
4. Discuss the privileges enjoyed by a private company over a public company. How can a
private company be converted into a public company and vice versa?
5. Define a Government company. How far it is governed by the companies act 1956.
6. What is a Foreign Company? Discuss the various provisions of Companies Act, 1956 relating
to foreign companies.
7. Write notes on : (a) Holding company, (b) One man company; (c) Statutory companies (d)
Licensed Companies; (e) Illegal Association; (f) Deemed Public Company.
8. State the differences between a partnership firm and a company.
9. Describe the procedure relating to the formation of companies under the Companies Act
1956. Enumerate the various documents to be filed with the Registrar in connection with it.
10. What is the effect of issuing a certificate of incorporation? Can a court annual a certificate
of incorporation which has been improperly issued?
11. Explain the term promoter and describe his legal status vis-à-vis the company.
12. Discuss the duties and liabilities of a promoter. How can he realize the remuneration for the
services which he renders to the company?
13. “The Memorandum of Association is the charter of the company”. Comment.
14. Discuss the contents of the Memorandum of Association.
15. By what method and to what extent may a company alter its Memorandum of Association?
16. Explain fully the doctrine of ultra-vires in relation to companies? What are the liabilities of
a company and its agents for ultra-vires acts?
17. Define Articles of Association and give its contents
18. Distinguish between Memorandum and Articles of Association.
19. What do you understand by the doctrine of indoor management? State the exceptions to it.
20. Explain the legal effects of Memorandum and Articles of Association of a company.
21. Write short notes on

(a) Alteration of object clause in a Memorandum (b) Constructive Notice (c) Doctrine of
Indoor Management.
PROSPECTUS
A public company may raise its capital by issuing shares or debentures. The public is invited to
subscribe for its shares or debentures. The invitation containing the offer states the prospectus of
the company and the purposes for which the capital is required. The document inviting the public to
purchase the shares or debentures of the company is called a Prospectus.
Definition of Prospectus: Section 2(36) defines a prospectus as “any document described or
issued as a prospectus and includes any notice, circular, advertisement or other document inviting
deposits from the public or inviting offer from the public for the subscription or purchase of any
shares in, or debentures of a body corporate.”
A prospectus is usually a circular or newspaper advertisement published by the promoters
after the formation of the company to induce the public to take up shares in the company. The
invitation must be sent to the public if the document is to be a prospectus.
Formalities in Issing Prospectus
1. Every prospectus issued or on behalf of a company must be dated and that date shall unless
the contrary is proved, be regarded as the date of its publication.
2. A copy of the prospectus signed by every director or proposed director or by his agent must
be delivered to the Registrar on or before the date of publication. The prospectus issued to
the public should mention that a copy of the prospectus along with the specified documents
have been filed with the Registrar.
3. SEBI’s Consent or authorization i.e. acknowledgement from Securities Exchange Board of
India.
4. Every form of application for subscribing the shares or debentures of a company shall not
be issued, unless it is accompanied by a copy of the prospectus.
5. A prospectus must contain the necessary information to enable the public to decide whether
or not to subscribe for its shares or debentures. Every prospectus shall state the particulars
specified in part I and II and Schedule II.
CONTENTS OF A PROSPECTUS
The Governments has revised the format of prospectus given in Schedule II of the Companies
Act, 1956 w.e.f. 1-11-99. This has been done to provide for greater disclosure of information regarding
the company, its management, the project prosposed to be undertaken by the company, the financial
performance of the company for the last five years and management perception of risk factors so
as to enable the investors to take an informed decision regarding investment in shares or debentures
offered through public issue. The company will also be required to furnish particulars in regard to
other listed companies under the same management withinthe meaning of section 370(1B) of the
Companies Act, which have made any capital issue during the last three years. The company will
inform whether they have obtained credit rating for debenture / preference share issue. A declaration
will also have to be furnished to the effect that all the relevant provisions of the Companies Act,
1956 and the guidelines issued by the government have been complied with and no statement made
in prospectus is contrary to the provisions of Companies Act, 1956 and rules made thereafter.
The Government has also prescribed rules on similar lines regarding salient features of the
prospectus for the purpose of Sub-section (3) of Section 56 (abridged prospectus) of the Companies
Act, 1956 and has prescribed new Forma 2A in this regard.
Keeping in view the requirement of Schedule II of the Companies Act, 1956 and the SEBI
guidelines for disclosure and investor protection, the prospectus to be issued by companies should
provide for the following matters:
1. General Informations :
(a) Name and address of registered office of the company.
(b) Details of letter of intent/ industrial licence obtained and disclaimer clause of SEBI
about non-responsibility for financial soundness or correctness of statements.
(c) Names of stock exchanges where listed (if applicable) and where listing applications
have been made for the issue;
(d) Provisions of Section 68A(1) of Companies Act, 1956 regarding fictions applications.
(e) Declaration regarding minimum subscription and refund of application money in terms
of Schedule II of Companies Act, 1956 and SEBI guidelines.
(f) Dates of opening, closing and earliest closing of the issue;
(g) Names and address of lead managers, co-managers, trustees- (if applicable), legal
advisors to the company, auditors, bankers to the issue, brokers to the issue and the
secretary.
(h) Whether or not credit rating from any other recognized agency has been obtained for
the proposed debenture issue should be mentioned. If rating is obtained, it should be
indicated, preferably with implications of the rating symbol. In terms of SEBI guidelines,
rating of a credit agency is mandatory for debentures with maturity period of more
than 18 months.
(i) Understanding arrangements made for the issue, names of underwriters, amount
underwritten and declaration by Board of directors and the lead managers that in their
opinion the resources of the underwritten are sufficient to discharge their underwriting
obligations.
2. Capital Structure of the company and issue details
(a) Authorised, issued, subscribed and paid-up capital of the company.
(b) Size of the issue with break up of reservation for preferential allotment to promoters,
shareholders of group/ associate companies, financial institutions, mutual funds. NRI,
permanent employees, etc. The lock-in-period in respect of shares/ debentures to be

allotted to promoters and shareholders of group and associate companies/ employees/
financial institutions should be mentioned. The maximum number of shares/ debentures
that can be allotted to each employee and the number of permanent employees in the
company should be mentioned.
(c) Paid up capital after the present issue and after conversion of debentures, if applicable.
3. Details of the issue
(a) Authority for the issue and details of resolutions passed for the issue.
(b) Terms of payment : The amount payable on application, allotment and on calls should
be stated. Further, in case premium issues, the appropriation of application, allotment
and call money towards capital and premimum should be indicated. For debenture
issues with each debenture having several parts, the appropriation of application.
Allotment and call money towards each part of the debenture should be stated with
further split between capital and premium.
(c) Right of the instrument holders.
(d) Objects of the issue
(e) Tax benefits available to the company and its shareholders.
(f) Justification for the premium on the issue, if any, disclosure of net asset value on the
basis of the last audited results.
4. Details about the company management
(a) History, main objects and present business of the company.
(b) Subsidiaries of the company.
(c) Promoters and their background.
(d) Names, addresses and occupation of manager, managing director and other directors
including nominee directors, whole-time directors and their directorships in other
companies.
5. Details about the project
(a) Cost of the project and means of financing
(b) Location of the project
(c) Plant and machinery for the project, technology adopted and process of manufacture
(d) Collaboration, performance guarantee or assistance in marketing by the collaborators.
(e) Infrastructure facilities for raw materials.
(f) Utitlities like water, power etc.
(g) Schedule of implements of the project, with separate details of land acquisition, civil
work, installation of plant and machinery and the progress till the date of the prospectus.
(h) Expected date of trial production and commercial production.
(i) Nature of the products, consumer/ industrial and end users and approach to marketing
and proposed marketing set up.
(j) Export prospectus and export obligation
(k) Expected capacity utilization during the first 3 years from the date of commencement
of production for each of the major product groups.
(l) Expected year when the company would be able to earn cash profits and net profits
and the expected cash profits and net profits for the next 3 years.
(m) High/ Low equity prices of the shares/ debentures of the company for each of the last
3 years and monthly high/ low prives for the last 6 months (applicable to existing listed
companies)
6. Other Information
(a) In respect of any issue made by the company and other listed companies under the
same management, the following details
(i) Name of the company
(ii) Year of issue;
(iii) Type of issue
(iv) Amount of issue;
(v) Date of completion of delivery of share/ debentures certificates/ letters of
allotment;
(vi) Date of completion of the project where the object of the issue was for
financing a project;
(b) Declaration about the issue of allotment letter, refunds within a period of 10 weeks
and liability to pay interests in case of delay in refund under Section 73 of companies
Act, 1956.
(c) Outstanding litigation pertaining to :
(i) Matters likely to affect operation and finances of the company including disputed
tax liabilities;
(ii) Criminal prosecution launched against the company and directors for alleged
offences under the following statures :
The Indian Stamp Act, 1899
The Central Excises and salt Act, 1944
The Imports and Exports (Control) Act, 1951
The Industries Development and Regulation Act, 1951
The Prevention of Food Adulteration Act, 1954
The Essential Commodities Act, 1955
The Companies Act, 1956
The Wealth-tax Act, 1957

The Income-tax Act, 1961
The Customs Act, 1962
The Monopolies and Restrictive Trade Practices Act, 1969
The Foreign Exchange Management Act, 1999.
(d) Particulars of default in meeting statutory dues, institutional dues, due to holders of
instruments like debentures, fixed deposits and arrears of cumulative preference shares,
pertaining to the company and/ or other companies promoted by the same promoters,
which are listed on stock exchanges.
(e) Any material development after the date of the last Balance Sheet and its impact on
the performance and prospectus of the company.
(f) Management’s perception of risk factors relating to the project like exchange rate
fluctuations, difficulty in availability of raw materials, or on marketing of products, cost
and time overrun, etc.
(g) Consent of directors, auditors, solicitors, managers to issue, registrar to issue, bankers,
brokers to the issue to the company, bankers to the issue and experts.
(h) Changes in directors and auditors in the last three years, if any, and reasons therefore.
(i) Procedure for making applications and availability of forms, prospectus and mode of
payment.
(j) Procedure and time schedule for allotment and issue of certificates.
7. Financial Information
A report from the auditors on
(a) Profits and losses of the company (where there is no subsidiary company) and the combined
profits and losses of the subsidiaries or individual profits and losses of each subsidiary for
each of the five financial years preceding the issue of prospectus (where there are
subsidiaries)
(b) Assets and liabilities of the company (where there is no subsidiary company) at the last date
to which the accounts are made up and the combined assets and liabilities of each subsidiary
(where there are subsidiaries)
(c) Rates of the dividends paid by the company in respect of each class of shares for each of
the five financial years preceding the issue of prospectus.
If no accounts have been made up in respect of any part of the period of five years ending
three months before the date of issue of prospectus, the report should contain a statement of the
fact. Further, a statement of accounts of the company should be made in respect of apart of the said
period upto a date not earlier than six months of the date of issue of prospectus and the assets and
liabilities position as at the end of that period. There should be a certificate from the auditors that
such accounts have been examined and found correct by them.
The report should distinguish items of a non-recurring nature and indicate the nature of provisions
or adjustments made or are yet to be made.
8. Statutory and other information
(a) Minimum subscription, as laid down in the SEBI guidelines.
(b) Expenses of the issue giving separately fees payable to advisers, registrars to the
issue, managers to the issue and trustees for debenture holders.
(c) Underwriting commission and brokerage.
(d) Previous issue for cash or consideration otherwise than for cash.
(e) Details of public or right issue during the last five years.
(i) Date of allotment and refund.
(ii) Date of listing on the stock exchange.
(iii) Amount of premium or discount, if applicable.
(f) Details of premium received in respect of any issue of shares made in the two years
preceding the date of issue of prospectus or to be made stating the proposed date of
the issue, the reaons for differentiation of premium for different categories, if applicable
and the disposal of premia received or to be received.
(g) Commission or brokerage paid on previous issue.
(h) Debentures and redeemable preference shares and other instruments outstanding on
the date of prospectus and the terms of their issue.
(i) Option to subscribe
(j) Particulars of property purchased or proposed to be purchased from vendors to be
paid for wholly or partly out of the proceeds of the issue and the interest of the
promoters or directors in any transaction relating to the property within the last two
years.
(k) Details of directors, proposed directors, whole-time directors, their remuneration,
appointment and remuneration of the managing director(s).
(l) Interests of directors, their borrowing powers and qualification shares.
(m) Any Amount or benefit paid or given within the two preceding years or intended to be
paid or given to any promoter or officers and consideration for the payment or giving
of the benfit.
(n) The dates of parties to, and general nature of (i) every contract of appointment or
remuneration of a managing director or manager (ii) every other material contract, not
being a contract entered into in the ordinary course of businesss of the company or
entered into more than two years prior to the date of prospectus; Reasonable time and
place for inspection of the contract should be provided for.
(o) Full particulars of the nature and extent of interest of every director or promoter (i) in
the promotion of the company, or (ii) in any property acquired by the company within
two years of the date of the prospectus or proposed to be acquired by it.
(p) Rights of members regarding voting, dividend, lien on shares, modification of rights
and forfeiture of shares/ debentures.
(q) Restriction on transfer and transmission of shares / debentures and on consolidation/
splitting.
(r) Revaluation of assets, if any, during the last 5 years.
Additional disclosures to be made in prospectus
SEBI has directed that lead managers should ensure proper disclosures to the investors, keeping
in mind their increased responsibilities consequent upon the notification of the Merchant Bankers
Rules and regulations. The lead managers should, therefore not only furnish adequate disclosures
but also ensure due compliance with the Guidelines for Disclosure and investor Protection issued by
SEBI, both in letter and in spirit.
Lead Manager should ensure inclusion of the following information in the offer documents:
(i) Disclaimer clause: (To be printed in both in the offere document in Part I after Issue
Details under the head “General Information”) “It is to be distinctly understood that
the vetting of the draft prospectus/ letter of offer by SEBI should not in any way be
deemed/ construed as approval from SEBI for the proposed Issue. SEBI does not
take any responsibility for the financial soundness of any scheme or project of for the
statements made or opinions expressed in the offer document. SEBI merely ensures,
on the basis of information furnished to it, that adequate disclosures have been made
in the offer document to enable the investors to take informed investment decisions”
(ii) Reservation for Non-Resident (NRIs) Overseas Corporate Bodies (OCBs) in Public
Issues:
(a) “Name and address of at least one source in India from where individual NRI
applicants can obtain the application forms” – at the appropriate place.
(b) “NRI applicants may please note that only such applicants as are accompanied
by payment in free foreign exchange will be considered for allotment under the
reserved category. Such NRIs who wish to make payment through Non-Resident
Ordinary (NRO) accounts shall not use the forms meant for reserved category
but must use the form meant for Resident Indians” – at the appropriate place.
(iii) Stockinvest : Manner of obtaining Stockinvest and disposal of applicants accompanied
by Stockinvest as also a paragraph, on the following lines, at the appropriate place.
“Registrars to the issue have been authorized by the Company (through Resolution of
the Board passed on….) to sign on behalf of the Company a realize the proceeds of
the Stockinvest from the issuing bank or to affix non-allotment advice on the instrument
or cancel the stockinvest of the non-allotees or partially successful allottees who have
enclosed more than one stockinvest. Such cancelled stockinvest shall be sent back by
the Registrars directly to the investors.”
(iv) Buy-back arrangement for purchase of non-convertible portion (Khokha) of party

convertible debentures :
(a) Full information relating to the terms of offer or purchase including the name(s)
of the party offering to purchase the Khokhas, the discount at which such offer
is made and the ultimate price that would work out to the investor including the
discount portion
(b) Where no such arrangement has been disclosed in the offer document, the
Lead Manager may not allow such offer being made during the period he is
associated with the issue.
(v) Performance vis-à-vis promises relating to previous issues : In case of issue has come
out with a public or rights issue within the previous 3 years of the proposed issue,
details relating to the objects of the previous issues, schedule of implementation thereof
and the status against the same should be disclosed under the head.
(vi) Deployment of proceeds of the issue : The offer document shall give details of avenues
of investment in which the management proposes to deploy issue proceeds pending
utilization in the proposed project.
(vii) Stock market data : Along with high/ low and average prices of shares of the Company,
during preceding 3 years details relating to volumes of business transacted should also
be stated for respective periods.
(viii) Statements relating to allotment and refund : Lead manager shall ensure that the offer
document does not contain statements ot the effect that “…. Or in the event of
unforeseen circumstances within such further times as may be allowed by the Stock
Exchange Extension, if any, granted by the Stock Exchange would be without prejudice
to the Company’s liability to pay interest under Section 73 of the Companies Act,
1956.”
The SEBI has also in its recent guidelines for disclosure and investor protection stated that
every prospectus submitted to it shall, in addition to the requirements of Scheduled II of the Companies
Act, contain/specify the followings information. Some of them to mention are:
An index of the contents of the prospectus, details of actual project expenditure, and its financing,
details of bridge-load, bifurcated details of turnover (separately) into products manufactured traded,
not normally traded in, statement of asses and liabilities after providing for revaluation, a statement
by directors regarding last financial statements affecting materially the profitability of the company
if any, details of shareholding by the promoter group, stock market data, management perception of
internal and external risk factors, discussion of the financial condition and results of the operations,
details regarding major shareholders etc.
Legal significance : It was stated in earlier pages of this book that a company cannot normally
vary at any time the terms of a contract in the prospectus and that it can do so only with the approval
and authority obtained from its general meeting [Section 61]. Suppose, there is a condition in the
prospectus, which requires or binds an applicant for shares or debentures to waive compliance with
any of the requirements relating to statutory matters and reports. In such a case it will be void.
Similarly, if there is a condition which has the effect of affecting him with the notice of any contract,
document or a matter nor specifically referred to in the prospectus, then such a condition shall be
void [Section 56(2)].
Suppose, the requirement of Section 56 have not been complied with but the application for
shres has been accepted by the company. Can the applicant ask for the rescission of the contract or
rectification of the register? The anser is “no”. But he can sue the person responsible for the issue
of the prospectus for any damages he may have suffered [South of England Natural Gas and
Petroleum Co. (1911)].
Statement in Lieu of Prospectus (Section 70)
In some cases, companies are able to raise the original capital without inviting the public to
subscribe. In such cases, the company need not issue a prospectus. Where a public company, which
has a share capital does not issue a prospectus on its formation, it cannot allot any shares without
first filing with the Registrar a document called ‘Statement in lieu of Prospectus’. This document
must be in the form set out in Schedule III and must contain practically the same information as is
required in the prospectus.
The document shall be delivered to the Registrar at least three days before the first allotment of
shares. The statement must be signed by every director or proposed director or his agent. If a
company fails to deliver a statement in lieu of prospectus, it cannot allot any shares or debentures.
An allotment, if made, is voidable if the allottee notifies the company within 2 months after the
statutory meeting or in case where there is not such meeting within two months after allotment.
If a company fails to fulfill the above conditions, the company and every director who has been
knowingly a party to this contravention shall be liable for fine upto Rs. 1,000. If a statement in lieu of
prospectus delivered to the registrar contains an untrue i.e., a misleading statement, every person
who authorized the delivery of the statement shall be liable to imprisonment for two years and fine
of Rs. 5,000.
Liability for Mis-Statements or Omission in a Prospectus
Where an untrue or fraudulent statement occurs in a prospectus there may be-(a) civil liability,
and (b) criminal liability. The liability for fraudulent or misstatement in a Statement in lieu of Prospectus
is the same as in the case of prospectus.
Civil Liability
A person who has been induced to subscribe for shares in a company on the strength of
misstatement or omission in the prospectus may have a remedy either against the company or
against the promoters or directors or experts.
Remedies against the company: A person who has been induced to subscribe for shares may
(a) rescind the contract to take the shares; (b) claim damages.
(a) Rescission of contract: Where a person has purchased the shares of a company on the
faith of a prospectus which contained an untrue or misleading, but not necessarily fraudulent
statement, he can seek rescission of the contract i.e., return the shares allotted to him, get
back his purchase money with interest and get his name removed from the register of
members. This remedy is available only to those persons who subscribed for any shares on
the faith of the prospectus.
(b) Damages: Any person induced by fraud to take up shares is entitled to sue the company for
damages provided he has rescinded his contract in time. The Company is liable in damages
where the misrepresentation is an innocent one, unless it proves that it had reasonable
grounds to believe.
Remedies against the directors, promoters and experts: Any person who has purchased
shares or debentures on the faith of the prospectus containing the untrue statement may sue
(a) every director; (b)every person whose name appeared in the prospectus as a proposed director;
(c) every promoter; and (d) every person who authorized the issue of the prospectus; The aggrieved
person may claim (1) compensation under Section 62; (2) damages for non-compliance with the
requirements of Section 56; (3) damages under the general law.
Defences available to a director: A director may escape liability if he proves; (i) that the
prospectus was issued without his knowledge or consent and that on becoming aware of its issue, he
gave reasonable public notice to that effect; (ii) that after the issue of prospectus and before allotment,
he on becoming aware of the untrue statement in it, withdrew his consent and gave reasonable
public notice of the withdrawal and the reasons for it; (iii) that he had reasonable grounds to believe
and did believe upto the time of allotment of shares or debentures that the statement was true;
(iv) that he made the statement upon the authority of an expert whom he had reasonable ground to
believe; (v) that the statement was a correct and true copy of an official document.
Criminal liability of directors: Every person who authorized the issue of a prospectus containing
an untrue statement shall be punishable with imprisonment which may extend to two years or with
the fine which may extend to rs. 5,000 or with both. The accused person, however, may not be liable
if he proves; (a) that the statement was immaterial, or (b) he had reasonable ground to believe and
did believe upto the time of the issue of the prospectus that the statement was true. (Section 63).
The punishement for issuing an application for shares or debentures which is not accompanied by a
prospectus is a fine upto Rs. 5,000.
Where the public company for the first time invites the public to subscribe for its shares, it
cannot allot those shares until the minimum amount stated in the prospectus has been subscribed.
This amount stated in the prospectus is known as the ‘minimum subscription.’
The minimum subscription is not a sum fixed by the articles or calculated as a percentage of the
shares issued under the prospectus. It is the minimum amount stated in the prospectus which in the
opinion of the directors must be raised in order to provide for : (a) the purchase price of any property
purchased or to be purchased; (b) the preliminary expenses and any underwriting commission payable
by the company; (c) repayment of money borrowed by the company in respect of any of the
foregoing matters; (d) working capital; and (e) any other expenditure stating the nature and purpose
thereof and the estimated amount in each case.
The object of the minimum subscription provision is to prevent the company getting underway
until it has raised the capital needed to carryout the objects in which it has invited the public to
participate. This also affords protection to the creditors by ensuring that a limited company is not
able to incur commitments if it is grossly under-captialised.
All moneys received from applicant shall be deposited and keep deposited in a scheduled bank
until minimum subscription has been received by the company. An allotment made in contravention
of the restriction of the minimum subscription is not void but only voidable and the applicant may
avoid the allotment within the time specified in Section 71(1)
Where such minimum subscription is not received by the company within 120 days from the
first issue of the prospectus, all money received from applicants shall be returned within 130 days of
the issue of the prospectus. On failure to pay, the directors shall be jointly and severally liable to
repay that money with interest at the rate of 12 percent per annum. [Sec. 69(5)].
As per the guideline the promoters should make their subscription in advance before the public
issue opens and give a certificate to this effect to the regional stock exchange concerned. The
SEBI’s guidelines provides in this regard that companies will undertake in the prospectus, letters of
offer, advertisement or publicity literature etc., to refund the amount at the end of 90 days from the
date from the closure of the issue, if not subscribed up to 90% and to pay interest @ 15% p.a. if
refunds are delayed by more than 10 days after this period.
The minimum subscription stated in the prospectus must be reckoned exclusively of any amount
payable otherwise than in cash. The amount payable on application on each share must not be less
than five percent of the nominal amount of the shares. All moneys received from applicants for
shares are required to be deposited in a scheduled bank until the certificate to commence business
is obtained.
Underwriting Commission (Section 76)
The Board of Directors enters into underwriting contracts with underwriters. When a company
offers its shares to the public, it often wants that the whole issue should be taken up. Consequently
a company is usually willing to pay a small commission on all the shares offered to the public to any
one who undertakes to take up all the shares, that the public do not take. This known as ‘underwriting’.
It consists of an undertaking by some person or persons that if the public fails to take up the issue,
he or they will do so. In return for this undertaking, the company agrees to pay the underwriters a
commission on all shares, whether taken by the public or by the underwriters. It is thus, in the nature
of an insurance against the possibility in inadequate subscription.
Sec. 76 prescribes certain conditions subject to which underwriting may be paid. A company
may pay a commission (called an underwriting commission) to any person in consideration of his
subscribing or agreeing to subscribe for shares or procuring or agreeing to procure subscription for
any shares in the company. Underwriting commission may be paid only if the following conditions
are satisfied.
1. The payment of the commission must be authorized by the articles of association. The
authority in memorandum is not sufficient . [Republic of Bolivia Exploration Syndicate Ltd.
(1914).
2. The commission can be paid only on shares issued to the public.
3. The payment of commission must be strictly by way of ‘Commission’ and not merely a
device to issue shares at a discount.
4. The rate of commission must not exceed 5% of the price of the shares and 21/2% of the
price of the debentures at which they are issued or the rate authorized by the articles
whichever is less.
5. The amount paid or agreed to be paid must be – (a) disclosed in the prospectus if shares are
offered to the public, or (b) in other cases, disclosed in the statement in lieu of prospectus
delivered to the Registrar.
6. The number of shares or debentures which persons have agreed for a commission to subscribe
for absolutely or conditionally is disclosed in the prospectus or statement in lieu of prospectus.
7. A copy of the contract for the payment of the commission must be delivered to the Registrar
along with the prospectus or statement in lieu of the prospectus.
SHARES AND DEBENTURES

Members and Shareholders: The words members and shareholders, are inter-changeable
in the case of company having a share capital. The word ‘shareholder’ is used in relation to a
company having a share capital and there can be no membership except through the medium of
shareholding. But the term ‘member’ is wider in scope and may be used in relation to all types of
company. A person may become a member of a company without holding any shares. Companies
limited by guarantee or unlimited companies which may not have share capital and can, therefore,
have no shareholders but they do have members.
Termination of Membership: A person will cease to be a member of the company when his
name is removed from the register of members. It may take place in any of the following ways : 1.
When a person transfers his shares. In such a case, the transferor ceases to be a member as soon
as the name of the transferee is registered but not before. 2. When his shares are validly forfeited
by the company 3. When a person makes a valid surrender of his shares to the company. 4. When
a company sells the shares in exercise of its right of lien over them. 5. When he dies. 6. When he is
declared insolvent and the Official Assignee either disclaims or transfers the shares. 7. When he
repudiates the contract on the ground of false or misleading statement in the prospectus of the
company. 8. When he is holding redeemable preference shares and such shares are redeemed. 9.
When share warrants are issued in exchange of fully paid-up shares and the articles do not recognize
holders of shares warrants as members. 10. When the company is wound-up, but he remains liable
as a contributory.
Rights of a Member:
(i) To have the certificate of shares held or the certificate of stock issued to him within the
prescribed time (Section 113).
(ii) To have his name entered in the register of members as well as to have the register rectified,
and in the case of refusal by the company, to apply to the Court for necessary relief (Section
155).
(iii) To transfer shares subject to any restricitions imposed by the articles (Section 82).
(iv) To attend meetings of shareholders, receive proper notice and to vote at the meetings.
(v) To associate in the declaration of dividends and to apply to the Court for an injunction
restraining the directors from paying dividends on an ultra vires declaration or out of capital.
(vi) To inspect the registers, indexes, returns and copies of certificates, etc. kept by the company
and to obtain extracts or copy thereof (Section 16).
(vii) To obtain copies of Memorandum and Articles on request and payment of the prescribed
fees (Section 39).
(viii) To have the first option in case of issue of new shares or a further issue of shares (ie. The
right of pre-emption) by the company (Section 81).
(ix) To receive a copy of the statutory report [Section 165(1) & (2)].
(x) To apply to the Court to have any variation or abrogation to his rights set aside by the Court
(Section 107).
(xi) To have notice of any resolution requiring special notice [Section 196(2)].
(xii) To obtain on request minutes of proceedings at general meetings [Section 196(2)].
(xiii) To remove directors by joining with others (Section 284).
(xiv) To obtain a copy of the Profit and Loss Account and the Balance Sheet with the auditors
report (Sections 210, 219).
(xv) To apply for the appointment of one or more competent inspectors by the Government to
investigate into the affairs of the company as well as for reporting thereon (Section 235,
237)
(xvi) To participate in the appointment of an auditor or auditors at the Annual General Meeting
(Section 224).
(xvii) To receive the auditors report at the Annual General Meeting of the company (Section 230).
(xviii) To receive a share in the capital of the company and in the surplus assets, if any, on the
company’s liquidation;
(xix) To participate in appointment and in fixation of remuneration of one or more liquidators in
the case of a Member’s Voluntary Winding up and to fill any vacancy in the office of a
liquidator so appointed by him (Section 490, 492).
Liabilities and Duties of a Member

(i) To take up shares, when they are allotted in due time and in compliance with provisions of
the Act, unless the refusal to accept the shares has been sent on the ground of non-compliance
with the provisions of the Act as regards the issue of the prospectus or as regards allotment.
(ii) To pay for the shares allotted to him when the allotment is made and when calls have been
made validly and in conformity with the provisions of the articles.
(iii) To abide by the doing of the majority of members unless the majority acts vindictively,
oppressively, malfide or fraudulently.
(iv) To contribute to the assets of the company in the case of winding up when the shares held
are partly paid-up
(v) Members are severally liable for debts of the company contracted, where its business is
carried on beyond the expiry of six months from the date at which its membership is reduced
below the legal minimum (i.e. seven members in the case of a public company and two
members in the case of a private company). However, such members are not liable for
debts contracted before the expiry of six months. No liability will accrue to those members
who are not cognizant of the fact that the business of the company is being carried on with
members fewer than the legal minimum (Section 45).
Share Capital
The world ‘Capital’ used in connection with a company has a different meaning. It may mean
the nominal, issued, called-up, paid-up, or reserve share capital of the company. Section 86 provides
that the share capital of a company limited by shares shall be of two kinds only; namely (a) Preference
Share Capital; (b) equity Share Capital. It Performance Share Capital is that part of paid-up share
capital which carries a preferential rights as to the payment of dividend at a fixed rate and also a
preferential right to the repayment of the paid up capital. It means all the share capital which is not
preference share capital is equity share capital.
Alteration of capital: Under Section 94, a company limited by shares may in general meeting,
if so authorized by its articles, alter the conditions of its memorandum relating to share capital in
order to : (a) increase its share capital by issuing new shares; (b) consolidate and divide all or any of
its share capital into shares of larger amount than its existing shares; (c) convert all or any of its fully
paid-up shares into stock or reconvert that stock into fully paid-up shares of any denomination; (d)
sub-divide its shares into shares of smaller amount than is fixed by the memorandum, provided the
paid-up amount will remain at the same proportion of its share capital; (e) by canceling shares which
have not been taken up and diminishing the amount of its share capital by the amount of the shares
so cancelled. The power conferred by Section 94 shall be exercised by passing an ordinary resolution
of the company in a general meeting and shall not require to be confirmed by the Court.
Reduction of capital: A company may wish to reduce its capital for a number of reasons;
namely : 1. The capital of the company may be more than enough for its needs, and so, it may return
the surplus capital to the shareholders. 2. The paid-up capital of the company is sufficient and it may
refrain from calling up the unpaid portion of share money. 3. Some of the capital may in fact have
been lost or diminished e.g. Rs. 100 shares may represent assets worth Rs. 50. The company may
wish to write off the lost capital. Reduction of share capital under items (3) affects the right of
different classes of shareholders as well as the interest of the members of the public who may be
induced to take shares in the company.
The question of reducing the capital is a domestic affair to be decided by the majority, but this
power must be exercised in a fair and equitable manner. Reduction of capital may be effected in
several ways which may be classified under two heads:
1. Reduction without the Consent of the Court: There are a number of cases where a
company may reduce its capital without the sanction of the court : (a) Where redeemable
preference shares are redeemed in accordance with the provisions of Section 80.
(b) Where any shares are forfeited for non-payment of calls. (c) Where there is a
surrender of shares or a gift is made to the company of its own shares. (d) Where
unissued shares are cancelled and (e) where ‘buy back scheme’ of shares. (d) Where
unissued shares are cancelled and (e) where ‘buy back scheme’ of shares is in operation.
In all these cases, the procedure laid down under Section 100 of the Companies Act is
not required to be followed.
2. Reduction with the Consent of the Court : Section 100 gives a company limited by
shares or a company limited by guarantee and having a share capital the power to
reduce its share capital in any way. The Act has not prescribed the manner in which
the reduction is to be carried out, nor has it prohibited any methods of effecting that
object. A company, if so authorized by its articles, may, by special resolution, reduce
its share capital subject to the confirmation of the court in any one of the following
ways (a) Extinguish or reduce the liability on any of its shares in respect of share
capital not paid-up (b) Cancel any paid-up share capital which is lost or is unrepresented
by the unavailable assets. (c) Pay-off any paid-up share capital which is in excess of
the requirements of the company.
After having passed the special resolution for reducing the share capital, sanction of the court
shall be obtained by the company. The object of requiring this sanction is two fold : (1) To protect
persons dealing with the company so that the fund available for satisfying their claim shall not be
diminished except by ordinary business risks. (2) To ensure that the reduction is equitable as between
the shareholders of the company.
Where the court is satisfied that the interests of the creditors have been secucred, it may
confirm the reduction on such terms and conditions as it may think fit. The court may, at the time of
confirmation, direct the company to add to its name the words “and reduced” for a specified period
and these words will be deemed to be part of the company’s name for such specified time. The
court may also make an order requiring the company to publish the reasons for such reduction for
the information of the public. (Section 102).
The company shall deliver to the Registrar a certified copy of the courts order and a minute
approved by the Court showing the following details for registration: (a) the amount of the share
capital; (b) the number of shares into which it is to be divided; (c) the amount of each share; and
(d) the amount, if any, at the date of registration deemed to be paid-up on each share.
The Registrar will, thereupon register the order and the minute. On such registration, the resolution
for reducing the share capital takes effect. Notice of the registration shall be published in such
manner as may be directed by the Court.
Reduction of Capital and Diminution of Capital: (Section 94(1) © and Section 100].
Reduction of capital involves writing off past losses against capital cancellation of the uncalled
capital or repayment of surplus capital. It may involve reduction of issued capital, subscribed or
paid-up share capital. Diminution of capital does not constitute a reduction of capital within the
meaning of the Companies Act.
Distinuction between Reduction of capital and Diminution of capital
1. Nature: Reduction may involve reduction inter alia of issued capital, whereas diminution
may be a respect of authorized capital but not of issued capital.
2. Resolution: If the articles authorize, diminution can be effected by an ordinary resolution,
while reduction can be effected only by special resolution.
3. Confirmation by Court : Diminution needs no confirmation by the Court, but reduction
needs such confirmation.
4. And Reduced: Where a company is ordered to add to its name the words ‘And Reduced’
these words shall until the expiry of the period specified in the order, be deemed to be
part of the company’s name; but such a provision does not exist in the case of diminution
of share capital.
5. Time Limit: In the case of diminution, notice is to be given to the registrar within 30
days from the date of cancellation where upon the registrar shall record the notice and
make the necessary alternation in the Memorandum of Association and Articles of
Association. In case of reduction of capital, however, more detailed procedure has
been prescribed, though there is no such time limit as aforesaid.
Shares
A share is the interest of a shareholder in a definite portion of the capital. It expresses a
proprietary relationship between the company and the shareholder. A share is a personal estate
capable of being transferred in the manner laid down in the articles of association. A certificate of
shares issued by a company under its common seal specifies the shares held by any member. The
share certificate is the prima facie evidence of the title of the member to such shares. [Section
84(i)]. The share certificate is not a negotiable instrument. According to Section 86 of the Companies
Act, a company can issue only two types of shares – (a) Preference shares and (b) Equity shares.
Preference Shares: A preference share must satisfy the following two conditions : (i) It shall
carry a preferential right as to the payment of dividend at a fixed rate; and (ii) In the event of
winding up, there must be a preferential right to the repayment of the paid up capital. These are two
dominant characteristics of preference shares. A preference share may or may not carry such other
rights as (a) a preferential right to any arrears of dividend; (b) a right to share in surplus profits by
way of additional dividend; (c) a right to be paid a fixed premium specified in the memorandum, and
(d) a right to share in surplus assets in the vent of a winding up, after all kinds of capital have been
repaid.
Issue of Preference Shares: No company limited by shares shall, after the commencement
of the Companies (Amendment) Act, 1996, issue any preference share which is irredeemable or is
redeemable after the expiry of a period of 20 years from the date of its issue.
Equity Shares: All shares which are not preference shares are equity shares. Equity
shareholders have the residual rights of the company. They may get higher dividend than preference
shareholders if the company in prosperous or get nothing if the business of the company flops. In the
winding up, the equity shares are entitled to the entire surplus assets remaining after the payment of
the liabilities and the capital of the company, unless the articles confer right on the preference shares
a right to participate in the distribution of surplus assets.
Stock: Stock is the aggregate of fully paid up shares legally consolidated. The aggregate can
be split up into fractions of any amount without regard to the original nominal amount of shares.
When shares are fully paid up they may be converted into stock. The issue of partly paid up stock is
invalid. The use of the term ‘stock’ merely denotes that a company has recognized the fact of the
complete payment of the shares and that the time has come when these shares may be assigned in
fragments, which, for obvious reasons, could not be permitted before.
A company limited by shares, may, if so authorized by its articles, convert all or some of the
fully paid-up shares into stock or re-convert its stock into fully paid up shares of any denomination.
The company shall give notice to the Registrar of such conversion within 30 days of this doing so.
When shares are converted into stock, the Register of members must show the amount of stock
held by each member. Further, the annual return must state the amount of stock held by each
member. Stock certificates, similar to share certificates must be issued.
Stock is transferable like share. The Board may, however, fix the minimum amount of stock
transferable. The holders of the stock have according to the amount of stock held by them the same
right, privilege and advantages as regards dividends, voting at the meeting of the company and other
matters as if they held the shares from which the stocks arose. But no such privilege or advantage
(except participation in the dividends and profits of the company and in the assets on winding up)
shall be conferred by an amount of stock which would not, if existing in shares, have conferred that
privilege or advantage.
Application and Allotment of Shares
A prospectus issued by a company inviting the public to subscribe to the shares of a company
is a mere invitation. An application for shares is an offer by a prospective shareholder to take
shares. When an application is accepted it is an ‘allotment’. Allotment creates a binding contract
between the parties.
Shares to be dealt in on Stock Exchange: [Section 73]: Where a prospectus states that application
has been or will be made for permission for shares to be dealt in on one or more recognized stock
exchanges, such prospectus shall state the names of the stock exchanges. Any allotment made on
an application under the prospectus shall be void – (i) if permission has not been applied for before
tha tenth day of the issue of the prospectus; or (ii) if permission is refused before tha expiry of 10
weeks from the closing date of the subscription list. Such permission has to be granted by each of
the stock exchanges in which application for permission has been made. A company can appeal both
against the decision of the stock exchange refusing permission and its failure to dispose of the
application for permission within 10 weeks from the date of the closing of the subscription list. Such
allotment shall not be void until the disposal of the appeal. [Section 73(1)].
If a prospectus states that application has been or will be made for permission to deal in the
shares on a recognized stock exchange, the money received from applicants must be paid in a
separate bank account maintained with a scheduled bank. On failure to apply for permission or
where permission has not been granted, the company has to return all moneys received from the
applicants within 8 days after the company becomes liable to pay. If the application money is not
repaid within 8 days, the directors are jointly and severally liable to repay the money with interest not
less than 4% and not exceeding 15% percent per annum from the expiry of the 8th day. A director
will not be liable if he proves that the default was not due to any misconduct or negligence on his part
[Section 72(2). For failure to return the money within the time, the company and every officer who
is in default shall be liable upto a fine to Rs. 5,000 [Section 73(5)].
Retention of over subscription: In case the issue is over subscribed then shares etc. are
allotted as per the scheme of allotment framed in consultation with the Stock Exchange(s) and
passed by a Board Resolution.
As per the guidelines of SEBI, a company raising equity capital, (not being bonus shares) may
retain over subscribed equity to the extent of 15% of the amount sanction.
Essential of Valid Allotment:
For an allotment to be called valid, some provisions of the Contract Act as well as Companies
Act are to be complied with.
A. Provision of Contract Act say that allotment must be made by proper authority, within
reasonable time, communicated, absolute and unconditional. The Companies Act does not
prescribe any restrictions regarding the allotment of shares in case of private companies.
But in case of the public Company.
(i) When no public offer is made : As per Section 70, Company has to file a Statement in
Lieu of Prospectus with the Registrar at least three days before the first allotment.
(ii) When public offer is made : In case of first allotment following statutory restrictions
must be complied with :
1. A copy of the prospectus must be duly filed with the Registrar for registration (Section 60).
2. The minimum subscription amount as disclosed in the prospectus must be received within
120 days of the issue of prospectus (Section 69).
3. The company must receive at least 5 per cent cash of nominal value of shares as application
money (Section 69(3).
4. Application money must be deposited in a scheduled bank and it can not be withdrawn till
the company secures the ‘Certificate to Commence Business’ or until the entire amount
payable on applications for shares in respect of minimum subscription has been received by
the company (Section 69)®.
5. The company shall not proceed to allot shares until the beginning of the fifth day from the
date of issue of prospectus or such a later date as may be specified in the prospectus.
6. Before the issue, the company must make an application to one or more recognized stock
exchange for permission for the shares so offered to be dealt with in the stock exchange.
A minor, lunatic, being incompetent to enter into a contract, cannot be allotted shares of a
company (Mohri Bibi, Vs. Dharmadas Chose (1930). If directors, in ignorance of the fact of minority,
allot shares to a minor, and enter his name on the register of members, the company can repudiate
the allotment and remove his name on the register of members, when the fact of applicant’s minority
comes to its knowledge. The minor can also repudiate the allotment at any time during his minority.
In either case, the company must repay to minor all money received from his in respect of the
allotted shares, and whether or not the minor should resotre to the company the benfits he might has
derived from the shares would be for the court to decide in view of the facts and circumstances of
each case.
Irregular allotment: An allotment made by a company before the minimum subscription is
received or the filing of the statement in lieu of the prospectus is voidable at the option of the
applicant. Such an option must be exercised within two months of the statutory meeting and where
the company is not required to hold a statutory meeting or where the allotment is made after the
statutory meeting within two months after the date of allotment and not later. The allotment may be
avoided although the company is being wound up. A member entitled to avoid an irregular allotment
of shares will lose his right if, after becoming aware of the irregularity he exercises any rights of a
member. Such an allotment though irregular, is nonetheless an allotment and the applicant may retain
the shares notwithstanding the irregularities to allotment. Where the directors knowingly contravene
the provisions as to allotment, they are liable to compensate the company and the allottee for any
loss or damage suffered thereby. Proceeding against the directors must be commenced within two
years of allotment.
Calls on Shares
When shares are issued, the full amount of each share is not generally payable at once. A part
is payable on application, a part on allotment and the remainder by installments when called for. A
call may be defined as a demand by the company on its shareholders to pay whole or part of the
balance remaining unpaid on each share. It is thus, an intimation to the shareholder to discharge his
obligation by paying the whole or part of the amount which remains unpaid on the shares. All money
payable by any member to the company under the memorandum or articles is a debt due from him
to the company. But he is not bound to pay unless a call has been made.
A call can be made by the directors during its lifetime and by the liquidator during its winding
up.
Conditions of a valid call : The conditions of a valid call are as follows:

• Resolution of the Board.
• For the benefit of the company.
• On uniform basis
• Amount, place and time of payment are clearly specified.
• In accordance with Articles of Association.
Share Certificate
Every person whose name is entered as a member in the register of members shall be entitled
to receive one certificate for all his shares without payment. The share certificate must be issued
under the common seal of the company and specify the shares to which it relates and the amount
paid thereon. A share certificate under the common seal of the company, specifying any shares held
by any members shall be prima facie evidence of the title of the member to such shares.
The issue of a share certificate by the company creates an estopped as to title and also as to
payment.
(a) Estoppel as to title : The company cannot deny the truth of the certificate as against a
person who has relied upon it and who, in consequence, has changed his position. But
if an officer of the company, who has no authority to issue certificates, issues a forged
one; [South London Greyhound Resources Ltd Vs Wake 1931 Ch. 496].
(b) Estoppel as to payment : where a company states that shares are fully paid up, it
cannot later contend that the were not, unless the person relying upon the certificate
knew that the shares were not in fact fully paid up [Bloomenthal Vs. Ford (1890) A.C.
156]. It has also been held that the shares were not actually paid up fully. Could sell
those shares away as fully paid to a person who knew that they were not fully paid so
as to give the latter a good title to shares as fully paid because the latter derived title
from transferor who had a good title [Gulabdas’s (1982) 17 Bom 672].
A certificate, however, does not confirm the existence of an equitable interest in the share and
as such, the company owes no obligation to a person who holds such an interest.
Share Warrant
A share warrant is a document issued under the common seal of the company stating that the
bearer is entitled to the shares specified therein. A share warrant is a bearer document and is
transferable by mere delivery. Such share warrants are negotiable instruments. A public company
limited by shares may issue share warrants. When shares are fully paid, the company may, if
authorized by its articles and subject to the consent of the Central Government, issue share warrants.
Share warrants should contain the number of shares in respect of which they have been issued.
Such a warrant must state that the bearer of it is entitled to the shares specified therein. The
company may provide by coupons or otherwise, for the payment of future dividends on the shares
specified in the warrant. [Section 114].
Transfer of Shares
The shares in a company are movable property and they can be transferred in the manner
provided by the articles of the company. [Section 82]. Shares are the personal property of the
shareholder and he has power to transfer his shares. It is an absolute right which cannot be taken
away by any provision in the articles. In the absence of any restriction in the articles of association,
the shareholder can transfer his shares to any person even to a pauper or even if the transfer is
made to escape liability provided that the transfer is real and bonafide in the sense that it is an out
and out disposal of the property without retaining any interest in the shares.
Power to refuse registration of shares in the name of the transferee is covered under Section
111 of the Companies Act. It permits the Company to empower itself through its articles to refuse to
register the transfer, or the transmission by operation of law, the right to any shares or interest of a
member in, or debentures of the company. Under this section, the company may empower the
Board of Directors to refuse registration of a transfer even without assigning any reason besides
providing for certain specific ground. Section 22A if the Securities Contracts (Regulation) Act, 1956
provides that notwithstanding anything contained in its articles or in Section 82 or Section 111 of the
Companies Act, 1956, a company whose securities are listed on a recognized stock exchange, may
refuse to register the transfer of any of its securities in the name of the transferee on any one or
more of the following grounds, namely:
1. That the instrument of transfer is not proper or has not been duly stamped and executed
or that the certificate relating to the security has not been delivered to the company or
that any other requirement under the law relating to registration of such transfer has
not been complied with.
2. That the transfer of security is in contravention of any law.
3. That the transfer of security is likely to result in such change in the composition of
Board of Directors as would be prejudicial to the interests of the company or to the
public interest.
4. That the transfer of the security is prohibited by any order of any court, tribunal or
other authority under any law for the time being in force.
Effect of a company’s refusal to transfer : If the company refuses to register the transfer of
shares for no fault or in default of the transferee, the transferor shall be treated as trustee for the
transferee and would be bound to act in accordance with the directions of the transferee and for his
benefit in respect of the shares unless the transferee has rescinded the contract. Until the transferee’s
name is placed on the register of members, the position is as follows:
1. The transferor continues to be the legal owner of the shres.
2. Thr transferee cannot exercise the rights of shareholder vis-à-vis the company
[Commissioner of 1. Tax Vs. M. Ramaswamy].
3. The transferee has an equitable claim to the shares.
4. If calls are made, the transferor must pay them, but he can recover the amount from
the transferee (Hardoon Vs. Belilios).
5. The transferor must vote as the transferee directs him, since the voting rights attached
to the shares have passed to the transferee. (Musselwhite Vs. Musselwhite & Sons).
The company, after refusal to transfer the shares, whether in pursuance of any power under its
articles or otherwise, is required to send notice of refusal to the transferee and the transferor within
two months from the date of receipt of request for the registration. The remedy against such refusal
of the company is available under Section 1111 of the Companies Act to the aggrieved parties to
appeal to CLB.
Steps that investors can take in the case of delay or refusal of registration of transfers.
(i) The buyers or the seller can make an appeal to the Company Law Board against any
refusal of the company to register the transfer. But the appeal has to be made within
two months of the receipt of the notice by the company, or where no notice has been
sent by the company for refusal of registration of transfer, within four months from the
date on which the Transfer Form was delivered to the company. The appeal to the
CLB has to be preferred ina Form prescribed by the CLB Bench Rules.
(ii) For listed companies, if the shares are fully paid-up the investor can also avail of the
remedy under Section 22A of the Securities Contracts (Regulation) Act by writing to
the stock Exhcnages and the Stock Exchange Division, Ministry of Finance, Deptt. Of
Economic Affairs, New Delhi.
(iii) Under Section 62 of the Companies Act, the shareholder is authorized to file criminal
proceeding against the company and its officer in default.
Power of the Company Law Board
(i) The company and every officer in default of the company are liable to be punished with fine
which may extend to Rs. 500 per day in case of non-compliance with Section 113.
The CLB has the powers under Section 111 of the Companies Act to-
(a) direct the company to register the transfers
(b) direct rectification of the register
(c) pass interim orders including orders as to injunction or stay ;
Certification of Transfer: Some times, a shareholder who is a holder of a large number of
shares, desires to sell only a part of them. In such a case he hands over to the company the original
share certificates for the whole amount thereof as he desires to sell. The company then stamps the
transfer, (which is for desired lesser amount), with the original amount of the transferrer’s holding.
This is called “certification of transfer” and the transfer is called “certified transfer” e.g. 500 shares
have been lodged in the company’s office, the sale desired being 100 shares thereof. The company,
then prepares two new share certificates, one for 400 shares which is handed over to the transfer
and one for 100 shares which is handed over to the transferee, the original share certificate for 500
shares being kept by the Company with itself for cancellation.
Section 112 of the Act makes the following provisions with regard to the subject (i) the certificate
of transfer by a company only amounts to a representation by the Company to persons acting on the
faith thereof, that documents have been produced before the Company which on their face show a
prima facie title to those shares (or debentures) in the transferred (ii) it is not a representation that
the transferee has any title to the shares (or debentures) in question, (iii) If such certificate is made
by the Company negligently, the company shall be liable to the person acting on the faith thee of as
if it and been made fraudulently. (vi) “Certification” shall be demed to be made by the Company if
(a) the person issuing the certificated instrument is authorized by the Company in that behalf and
(b) if the certification is “signed” by an officer or servant of the Company authorized in that behalf.
Transmission of shares: The transmission of shares means transfer of title in shares by
‘operation of law’. In other words, the transmission of shares signifies involuntary assignment of
shares because in this case the property in shares passes ‘not by the act of the parties’, but by
‘operation of law’. For instance: (i) on the insolvency of shareholder, property in shares passes to
Official Receiver who shall become entitled to the shares owned by the insolvent, (ii) on the death of
a shareholder, the property in shares passes to his legal representatives who shall become entitled to
shares owned by the deceased; (iii) on the lunacy of a shareholder, the property in shares passes to
the administrator appointment by the court.
Forged Transfer
A forged transfer is a nullity. It does not give the transferee concerned any title to the shares.
If the company acts on a forged transfer and removes the name of the real owner from the register
of Members then the company is bound to restore the name of the real owners on the register as the
holder of the shares and to pay him any dividends which he ought to have received [Barton Vs.
North Straffordshire Railway Co. People Insurance Co. Ltd. Vs. Wook ^ Co. Ltd. (1961)]. Thus, if
by forgery, A obtain a certificate of transfer of shares from a company and transfers the shares to
a purchaser does not get a good titile to the shares so transferred. But the company shall be liable to
compensate the purchaser in so far as the company had issued a certificate issued by the company
could validly and reasonably assume that the person named in the certificate as the owner of shares
was really the owner of the shares represented by the certificate [Balkis Consolidated Co. Vs.
Tamkinson (1982) A.C. 1961]. If as a result of the forged transfer, the name of the true owner of
shares is taken off the Register of members he can compel the company to restore his name to the
register. He can also claim any dividend which may not have been paid to him during the intervening
period (Barton Vs. North Staffordhire Supra).
Lien on Shares
A lien is the right to retain possession of a thing until a claim is satisfied. In the case of a
company, lien on a share means that a member would not be permitted to transfer his shares unless
he pays his debt to the company. The articles generally provide that the company shall have a first
and paramount lien on the shares of each member for the debts and liabilities to the company. The
right of lien is not inherent but must be clearly provided for in the articles. The articles may give the
right of lien over shares either for unpaid calls or for any other debt due by the member to the
company. The company may have lien on fully paid up shares. The lien also extends to the dividends
payable on the shares.
Surrender of Shares
The Companies Act does not provide for surrender of shares. Shares are said to be surrendered
when they are voluntarily given up. The Articles of a company may authorize the directors to accept
surrender of shares. Surrender of shares is valid where it is done to relieve the company from going
through the formality of forfeiture of shares and the shareholder is willing to surrender the shares. A
surrender and a forfeiture have practically the same effect, the only difference being that the former
is done with the assent of the shareholder while the latter is done at the instance of the company.
Forfeiture of Shares
A company has not inherent power to forfeit shares. The power to forfeit shares must be
contained in the articles. Where as the shareholder fails to pay the amount due on any call, the
directors may, if so authorized by the articles, forfeit his shares. Shares can only be forfeited for
non-payment of calls. An attempt to forfeit shares for any other reasons is illegal. Thus, where the
shares are declared forfeited for the purpose of relieving a friend from liability, the forfeiture may be
set aside.
Condition to be satisfied before a company may forfeit shares : A company may forfeit the
shares of a shareholder if the following conditions are satisfied.
1. In accordance with Articles: A forfeiture must be authorized by the Articles of the
Company. It must be strictly in accordance with the grounds specified in the Articles.
Any irregularity in the procedure or any departure from the rules laid down invalidate
the forfeiture. Forfeiture is in the nature of penal proceedings. It is valid only if the
provisions of Articles are strictly complied with (Karachi Oil Products Ltd. Vs. K.s.
Narender Singhiji).
2. Bonafide: Forfeiture must be bonafide and in the interest of the company. The right to
forfeit shares, like the powers to make calls, is in the nature of a trust and must be
exercised for the benefit of the company. For instance, if the shares are forfeited for
the purpose of relieving a friend from liability, the forfeiture may be set aside (Re
Mirza Ahmed Nizami).
3. Valid Call: When forfeiture is for non-payment of call, the call must have been properly
made i.e. by passing a proper resolution confirming to the provisions of articles on a
uniform basis and bonafide in the interest of the company.
4. Notice prior ot forfeiture: A proper notice must be served requiring a defaulting member
to pay outstanding amount of call. The notice must give at least 14 days time from the
date of its service for payment of the amount due and must inform the member that in
the even of non payment his share amount will be forfeited. Any defected in the
notice, even though slight, invalidates it and is fatal to the forfeiture.
5. Resoultion of the Board : If the defaulting shareholder does not pay the amount within
the specified time as required by the notice, the directors must pass a resolution forfeiting
the shares. If this resolution is not passed, the forfeiture as well, e.g. when it states
that in the event of default, the shares shall be deemed to have been forfeited, no
further resolution is necessary.
Legal Effects of Valid Forfeiture

1. The defaulting share holder ceases to be a member of the company and his name is removed
from the register of members.
2. He loses his claim to the paid-up amount on his shares.
3. He remains a contributory as a past member if liquidation commences within one year of
forfeiture.
4. If the articles provide so, he will remain liable for unpaid calls as an ordinary debtor for a
period of 3 years from forfeiture.
5. Forfeited shares become property of the company which may re-issue them or otherwise
dispose off.
6. The title of the purchaser of re-issued forfeited shares is not affected by any irregularity in
the forfeiture.
DIFFERENCE BETWEEN FORFEITURE AND SURRENDER OF SHARES

Both forfeiture and surrender of shares result in termination of membership of a person. However,
the two differ from each other in the following respects.
1. Initiative : In case of forfeiture, initative is taken by the company whereas in surrender of
shares it is the member who takes the initiative.
2. He loses his claim to the paid-up amount on his shares.
3. He remains a contributory as a past member if liquidation commences within one year of
forfeiture.
4. If the articles provide so, he will remain liable for unpaid calls as an ordinary debtor for a
period of 3 years from forfeiture.
5. Forfeited shares become property of the company which may re-issue them or otherwise
dispose off.
6. The title of the purchaser of re-issued forfeited shares is not affected by any irregularity in
the forfeiture.
Difference Between forfeiture and Surrender of Shares
Both forfeiture and surrender of shares result in termination of membership of a person. However,
the two differ from each other in the following respects.
1. Initiative: In case of forfeiture, initative is taken by the company whereas in surrender of
shares it is the member who takes the initiative.
2. Reason: Shares can be forfeited for non-payment of call only, but surrender of shares may
be accepted for other reason also, for example, for exchange of new shares.
3. Object: The object of forfeiture of shares is to penalize a member for non-payment of call
whereas the object the surrender of shares for the member is different. The member
surrenders his shares either because he cannot make payments of calls due on it or because
he wants to get it exchanged into new shares of the same nominal value.
4. Legal Technicalities: In case of forfeiture of share, the rules and regulations are to be
followed exactly and carefully as a slight irregularity will invalidate the forfeiture made.
However, it is not so in case of surrender of shares. In certain cases, the sanction of court
is necessary.
Dividend
Dividend is the portion of the profits of company which is allocated to the shareholders in
proportion to their shares and in accordance with their rights as shareholders. A dividend can be
declared by the shareholders at the annual general meeting, but no dividend shall exceed the amount
recommended by the Board of Directors. If the directors feel that a dividend should not be declared,
the shareholders in general meeting cannot themselves declare it. Apart from these, the articles may
empower the directors to declare interin dividend.
The articles usually provide that the dividends shall be paid to the shareholders in proportion to
the amounts paid on the shares held by tjem respectively. If not dividends are paid on cash share in
proportion to the nominal value of that share without reference to the amount paid upon it.
A company may declare and pay dividends out of current or previous years, profit or out of
both or out of money provided by the Central or State Government for payment of the dividend in
pursuance of a guarantee given by such Government. In the public interest the Central Government
may allow a company to declare dividend out of profits of the current year without requiring the
company to provide for depreciation. [Section 20(1)].
Interim dividend: The Articles of a company may empower the directors to declare interim
dividend, i.e., dividend in between its two annual general meetings. The Board may from time to
time pay to the members such interim dividend as appears to it to be justified by the profits of the
company (Articles 86 of Table A). But before declaring an interim dividend, the directors must
satisfy themselves that the financial position of the company warrants the payments of such dividend
out of profits available for distribution.
Dividend Warrant: A dividend warrant is an instrument containing an order on a company’s
banker directing it to pay the stated amount to or to the order of the shareholder named therein who
is entitled to claim dividend. It is in two parts-one part is a notice of the dividend to the shareholder
as well as the certificate of deduction of income-tax, and the other part is the dividend warrant.
Payment of interest out of capital (Section 208): When any shares are issued for the
purpose of raising money to defray the expenses of the construction of any work or building or the
provision of any plant, which cannot be made profitable for a lengthy period, the company may pay
interest on paid-up share capital under certain conditions provided such payment is bonafide and in
the interests of the company. The conditions are: (i) Such payment is authorized by the articles or a
special resolution. (ii) Previous approval of the Central Government is obtained. (iii) Before sanctioning
any such payment, the Central Government may, at the expense of the company, hold an inquiry and
require the company to give security for the cost of the inquiry. (iv) The interest shall be payable
only for such period as may be determined by the Central Government and such period will, in no
case, extend beyond the close of the half year following the half year during which the work or
building has been actually completed, or the plant provided. (v) The rate of interest shall not exceed
four percent or such other rates as may be sanctioned by the Central Government.
The payment of interest shall be charged to capital account and included in the cost of construction
of the work or building or the provision of a plant. Such payment of interest out of capital does not
amount to a reduction of capital.
Debentures
The term ‘debenture’ is defined in the Companies Act as, “Debenture includes debenture
stock, bonds, any other securities of a company whether constituting a charge on the assets of the
company or not.” A debenture is a document given by a company as evidence of a debt to the holder
usually out of loan and most commonly secured by a charge.
Characteristics of debentures : 1. It is an instrument in writing. 2. It is an acknowledgement of
the indebtedness of the company to its holder for the amount stated in it. 3. It is usually under the
common seal of the company. 4. It provides for the payment of a fixed sum with interest of a
specified rate for a specified time. 5. It is generally secured by a charge, fixed or floating on any part
of the company’s property or undertaking. 6. Debentures can be issued on right basis to the existing
shareholders of the company. 7. They are entitled to redemption of their capital as per the agreed
terms. 8. They can enforce the sale of security in case of default. 9. They have no voting rights
(Sec. 117 of the Companies Act, 1956)
Kinds of debentures: Debentures are classified into four classes : (a) Debentures payable to
a registered holder, and debentures payable to a bearer, (b) secured and unsecured dbentures,
(c) Redeemable and perpetual debentures, (d) Fully or partly convertible and Non-convertible
debentures.
Fully Convertible Debentures (FCD): Fully convertible debentures are those debentures
that are converted into equity shares of the company on the expiry of a specified period or periods
where the conversion is to be made at or after 18 months from the date of allotment but before 36
months. The conversion is optional on the part of the debenture holders in terms of SEBI guidelines.
Convertible debentures may or may not carry any interest.
Partly Convertible Debentures (PCD): PCD consist of two parts- convertible and non-
convertible. The convertible portion(s) is/are convertible into equity shares at the expiry of specified
period(s) whereas the non-convertible portion is redeemed at the expiry of a certain period(s).
Where the conversion takes place at or after 18 months, the conversion is optional at the discretion
of debtenture holder.
Remedies of debentures-holders : In case of unsecured debentures, the holder is an ordinary
unsecured creditor. If the company defaults in the payment of principal or interest he may- (i) sue
for the principal or interest and after judgement, levy execution against the company; or (ii) petition
for the winding up of the company by the court. If the company is already in the course of winding
up, he may prove for the amount due to him. A secured debenture holder stands in a stronger
position as compared to unsecured debtenture holder.
Charges and Mortgages on the Assets of the Company

Where however the debenture is secured by a mortgage or a charge, the holder thereof who
wishes to realize his security and recover the money due to him, may resort to all or any of the
following remedies;
(i) He may sue on his behalf and on behalf of other debenture holders of the same class to
obtain payment or enforce his security by sale.
(ii) He may appoint a reciver if the conditions of the issue of so permit;
(iii) He may apply to the Court forclosure of the company’s right to redeem the debentures. But,
in such an action, all debenture holders of the company, in contradistinction to those of class,
as well as the company should be joined as parties;
(iv) He may, in the capacity of a creditor, present an application for winding up for the principal
and interest theron;
(v) He may have the property sold by the trustee if the debtenture – trust-deed permits the sale;
Fixed Charges Vs. Floating Charges
The charge on the assets of a company, given by a debenture or a trust deed, may be either
(1) specific or fixed charge; or (2) floating charge.
Specific or Fixed charge: A fixed or specific charge is created in respect of a definite and
ascertained property and this prevents the company from dealing with that property without the
consent of the debenture-holders. In case of winding up of a company a debenture – holder secured
by a specific charge is in the highest ranking class of creditors. Where there are a number of
specific charges on the same property, their priority is determined by the general rules relating to
priority of charges.
Floating charge: A ‘floating charge’ is an equitable charge which does not fasten on any
ascertained or definite property and as such the company can deal with any of its assets in the
ordinary course of business. The consent of the debenture holders Is not necessary for the company
to deal with its assets. Whether a particular charge is a floating charge or not depends upon the
construction of the words used in the document creating the charge. The nature of charge cannot be
altered to become a floating charge merely because inspite of the charge, the business of the
company continues to be carred on.
Registered Charges: Where a company creates a charge over its property, Section 125
requires that charge to be registered with the Registrar of Companies. The particulars of every
charge and mortgage created on a movable or immovable property must be filed by the company
with the Registrar within 30 days of their creation. The Registrar may extend the time for filling of
the particulars and instrument creating the charge by seven days provided the company had sufficient
cause for not filing the particulars within the specified. The charges which are required to be
compulsorily registered are given below:
1. A charge to secure any issue of debentures
2. A charge on uncalled share capital.
3. A charge on any immovable property wherever situated or any interest therin.

4. A charge on any book debts of the company
5. A charge not being a pledge on any movable property of the company.
6. A floating charge on the undertaking or any property of the company including stock in
trade.
7. A charge on calls made but not paid.
8. A charge on a ship or any share in a ship.
9. A charge on goodwill, or a patent or licence under a patent, on a trade mark or copy right.
Particulars to be filled with the Registrar
(a) If the charge is in connection with the secured debentures, then (i) total amount secured by
the debentures, (ii) the date of resolution authorizing the issue of debentures and the date of
the instrument by which the security is created; (iii) general description of the properly
charged; 9v) name of the trustees for the debenture holders. If any commission has been
paid to any person for subscribing to the debentures, the amount and the rate of commission
so paid also to be indicated.
(b) In the case of anyother charge:
(i) the date of creation of charge, (ii) the amount secured, (iii) short particulars of the
properly charged; (iv) the person entitled to the charge.
Consequences of Non-registration of Registrable charge
(i) the charge will be void as an against the Liquidator (if the company) goes into liquidation)
and against creditors, but against them only;
(ii) the charge is good against the company and the amount becomes payable immediately;
(iii) until liquidation of the company, the person seeking to enforce such a charge, has available
to him all remedies of a mortgage against the company, though not against other creditors;
(iv) the company may give a subsequent valid charge to secure the same debt. If that subsequent
creditors even with the notice of the first charge takes a registered charge before the first
said charge has been registered, the second creditors obtains priority;
(v) during liquidation the charge-holder (creditor) assumes the status of an unsecured creditor
as the charge is void against the liquidator and creditors;
(vi) the holders of an equitable charge whose charge is void for failure to registere has no lien on
the title deeds or documents deposited with him.
(vii) Although the security becomes void by non-registration, it does not affect the contract or
obligation of the company to repay the money;
(viii) Omission to register particulars of charge is punishable with fine; the company or every
office of the company or other person who is in default shall be liable to be fined.
Crystrallisation of a floating charge: Floating charge crystallizes or becomes fixed under
any of the following circumstances:
• When the company goes into liquidation;

• When the company ceases to carry on business;
• When the debentures holders takes steps to enforce their security, e.g. by appointing
a receiver, on default by the company to pay principal and interest.
Difference between Fixed charge and Floating charge
Debenture Trust Deed
A trust deed for securing any issue of debentures shall be in such form and shall be executed
within such period as may be prescribed. A copy of the trust deed shall be open to inspection to any
member or debenture holder of the company and he shall also be entitled to obtain copies of such
trust deed on payment of such sum as may be prescribed. If a copy of the trust deed is not made
available for inspection or is not given to any member or debenture holder, the company and every
officer of the company who is in a default, shall be punishable, for each offence, with fine which
may extend to five hundred rupees for every day during which of the offence continues.
Review Questions
1. Distinguish between a shareholder and a member of the company. Is every shareholder a
member of the company?
2. In what ways may a person become and cease to be a member of the company?
3. How can the share capital of a company be reduced? What is the liability of the members
in respect of reduction in share capital?
4. Define Share. What are the different kinds of shares which a company may issue?
5. What is meant by allotment of shares? Discuss the rules relating to the allotment of shares.
Point out the consequences of irregular allotment.
6. Discuss the restriction on the allotment of shares under the Companies Act. What is the
effect of an irregular allotment?
7. How is the transfer of shares effected? Can the Board of Directors refuse to register a
transfer of shares? What is the remedy open to a transferee in such a case?
8. What do you understand by the forfeiture of shares? If so, when and under what conditions?
9. Has the company power to issue shares at a discount? If so, when and under what conditions?
10. Can a company purchase its own shares? If so, under what circumstances?
11. Define debenture. Discuss the different kinds of debentures.
12. Discuss the remedies available to debentures.
13. Enumerate the charges on properties of the company that require registration. Discuss the
consequences of non-registration.
14. Write short notes on:
(a) Share Warrant (b) Surrender of Shares
(c) Floating Charge (d) Interim dividend
(e) Lien on shares (f) Calls on shares

(g) Transmission of shares (h) Preference shares
(i) Payment of interest out of capital (j) Stock certificate
(k) Buyback Scheme of Shares
MANAGERAL PERSONNEL – BOARD OF DIRECTORS MANAGERS

According to Section 2(13) of the Companies Act 1956, “director” includes any person occupying
the position of director by whatever name called. Only an individual can be appointed a director
[Section 253].
Number of directors: Every public company must have atleast 3 directors and every private
company must have atleast 2 directors. Subject to the minimum number of directors a company
should have, the articles of a company may prescribed the maximum and the minimum number of
directors for its Board of directors. A company in a general meeting may be ordinary resolution
increase or reduce the number of its directors within the limits fixed in that behalf by its articles
(section 258). A public company or a private company which is s subsidiary of a public company
cannot increase the number of directors beyond the permissible maximum under its articles without
the approval of the Central Government. However, no approval of the Central Government is required
if such permissible maximum is twelve or less than twelve, and the increase in the number of its
directors does not exceed twelve. (Section 259).
Appointment of directors: Directors may be appointed in the following ways:
1. By the articles as regards first directors (Section 254).
2. By the company in general meeting (Sections 255 to 263,264).
3. By the directors (Section 260, 262,313)
4. By third parties (Section 255).
5. By the principle of proportional representation (Section 265).
6. By the Central Government (Section 408)
Legal position of directors: The directors are not servants of the company or members of its
staff. They cannot be treated as the employees of the company. For certain matters under the
Companies Act, the directors are treated as officers of the Company. As such, they are liable to
certain penalties if the provisions of the Act are not strictly complies with. Directors are Trustees of
(a) the company’s money and property; and (b) the powers entrusted to them. They are trustees of
a the company’s money and property in the sense that they must account for all the company’s
money over which they exercise control and must refund to the company any of its money which
they have improperly paid away. Directors are trustees of their powers and they must exercise their
powers honestly and in good faith and in the interest of the company. Company being an artificial
person, is governed by the human agency. Directors control the affairs of the company as its Agents.
Acts of the directors for and on behalf of the company exclude directors. Form personal liability,
provided they are within the scope of their authority.
The liabilities of directors follow mostly from their duties, they are also accountable to the
company for damage suffered as a result of negligence in performance of their duties. They are also
liable to the company when they commit a breach of trust reposed in them by the shareholders, and
misuse or avail of misappropriate profits or assets of the company. If the directors fail in the
performance of their statutory functions of accounts etc. , they render themselves liable to prosecution
and penalties prescribed by the Statue.
The directors of a company are usually protected by an Indemnity Clause contained in the
Articles of Association in order to provide recompensation and protection for bonafide acts of the
directors in discharge of their functions as directors. Such indemnity, however, is not available
where director has not acted in good faith and where he is charged with gross negligence, bad faith
and disregard of his duties in the conduct of his office as a director.
Penalties imposable on directors for the contravention or defaults are of two types : (a) those
imposable on them directly as “directors“ and (b) those imposable on them directly as “officers who
are in default“. Under each category, there is a long list of offences dealt with in different sections
of the Companies Act with specific penalties prescribed thereunder.
Share qualification : The Act does not make it obligatory on any director to hold shares in the
company. The articles of association generally requires that the qualification of a director shall be
the holding of a specified number of shares known as qualification shares. The nominal value of
these shares must not exceed Rs. 5,000 or the nominal value of one share where it exceeds
Rs. 5,000.
A Person who can not be appointed as a Director (Disqualification of directors): The
circumstances in which a person can not be appointed as a director of a company are enumerated
in Section 274. According to this section, a person cannot be appinted as a director of a company, if.
(i) he has been found to be of unsound mind by a competent court and the finding is in force;
(ii) he is an undischarged insolvent;
(iii) he has applied to be adjudicated as an insolvent and his application is pending
(iv) he has been convicted of an offence involving moral turpitude and sentenced to imprisonment
for not less than 6 months and a period of 5 years had not elapsed since the expiry of his
sentence;
(v) he has not paid any call in respect of shares of the company held by him for a period of six
months from the last day fixed for the payment.
(vi) he has been disqualified by an order of the Court under Section 203, of an offence in relation
to promotion, formation or management of the company or fraud or misfeasance in relation
to the company.
(vii) It may be noted that section 274(1) (g) now provides that a person who is a director of a
public company which has defaulted in filing its annual accounts and returns for a continuous
period of 3 years from 1.2.1999 or has failed to repay its deposits or interest on due date or
redeem its debentures on due date or pay dividend and such failure continues for one year
or more, is disqualified from appointment as director of any company. Such disqualification

will continue for a period of 5 years from such default.
Restriction or Ceiling on number of directorships : No person can be a director in more than
twenty companies. The following companies shall be excluded in calculating the number of companies
of which a person may be a director;
(a) a private company which is neither a subsidiary nor a holding company ;
(b) an unlimited company;
(c) an association not carrying on business for profit or which profits the payment of a dividend;
(d) a company in which such person is only an alternate director.
At present a person can be a director of 20 companies. This number has now been reduced to
15 companies. If a person is director of more than 15 companies, he has to regularize the position
within 2 months of commencement of the Amendment Act of 2000 (i.e. within 2 months from
14.12.2000)
In calculating the above number, directorship in a private company, which is not a subsidiary or
holding company of a public company should be excluded. If a person in an alternate director of a
company, the same should not be counted for this purpose. (Refer Section 287 which has not been
amended.)
Vacation of Office by directors (Section 283) : The office of a director shall become vancant if
(a) he fails to obtain or ceases to hold the share qualification required of him by the articles of
the company;
(b) he is found to be of unsound mind by a competent court;
(c) he applies to be adjudicated an insolvent;
(d) he is adjudged an insolvent;
(e) he is convicted by a Court of an offence involving moral turpitude and sentenced to
imprisonment for not less than 6 months;
(f) he fails to pay any calls on the shares held by him within six months from the date fixed for
payment; unless the Central Government has by notification in the Official Gazette removed
his disqualification.
(g) He absents himself from three consecutive meetings of the Board of directors or from all
the meetings of Board for a continuous period of 3 months whichever is longer without
obtaining leave of absence from the Board.
Minimum Number of Directors in the Board of Directors of a Company
Under this section every public company should have atleast 3 directors. It is now provided
that a public company with (a) paid-up capital of Rs. 5 crores or more and (b) 1000 or more small
share holders shall have atleast shall have atleast one director elected by small shareholders to be
elected in the prescribed manner. For this purpose small shareholders means a shareholder holding
shares of the nominal value of Rs. 20,000 or less in the company.
Removal of directors: A director of a company can be removed by (a) shareholders, (b) Central
Government ; or (c) the court.
Remuneration of directors: The remuneration payable to directors is usually determined by the

Articles of Association or a resolution passed by the company in its general meeting. However, this
will be subject to the provisions of Sections 198 and 309 of the Act. According to Section 198, total
managerial remuneration payable to directors, managing director(s), or manager and whole-time
director, in respect of any financial year should not exceed 11% of the net profits of the company for
the financial year. In years of inadequate profits, a sum not exceeding Rs. 50,000 per annum may be
paid to all managerial personnel with the prior approval of the Central Government.
Managerial remuneration raised in 2001
The Department of Company Affairs (DCA) has issued a notification cnhancing the managerial
remuneration in the corporate sector from the existing Rs. 75,000 to Rs. 1.50 lakhs per month for
companies with effective capital of less than Rs.1 crore and a maximum of Rs. 4 lakhs for companies
with effective capital of Rs. 100 crores or more from the existing Rs. 2 lakhs per month.
According to an official release, the managerial remuneration, which has been doubled, will be
Rs. 2 lakhs for companies, whose effective capital is over Rs. 1 crore but less than Rs. 5 crores;
between Rs. 5 crores and Rs. 25 crores, the maximum remuneration per month will be Rs. 3 lakhs
and between Rs. 25 crores and Rs. 50 crores, it will be Rs. 3.50 lakhs per month. The last revision
was made in March 2000.
The enhanced managerial remuneration will be subject to approval by a resolution of the
Remuneration Committee of a company provided the company has not defaulted to repayment of
any of its debts including public deposits or debentures or interest payable thereon for a continuous
period of 30 days in the preceding financial year before the date of appointement of such managerial
person.
Besides, the company should mention disclosures regarding managerial remuneration in the
board of directors‘ report under the heading “Corporate Governance“ attached to the annual report,
adds the release.
Directors Responsibility Statement
A new sub-section (2AA) has not been inserted to provide that the Report of Board of Directors
shall also include a Directors‘ Responsibility Statement as under:
(i) That the applicable accounting standards have been followed in preparing the annual
accounts. If there is material departure, explanation for the same should be given.
(ii) That the directors have selected such accounting policies and applied the consistently
and made judgements and estimates that are reasonable and prudent so as to give to
true and fair view of the state of affairs of the company while preparing the annual
accounts.
(iii) That the Directors have taken proper and sufficient care (a) for maintenance of adequate
accounting records as required by the Act. (b) for safeguarding the assets of the
company and (c) for preventing and detecting fraud and other irregulations.
(iv) That the Directors have prepared the annual accounts on a going concern basis.
Meetings of the Board

The directors of a company exercise most of their powers in a joint meeting called the
Meetings of the Board. In the Board. In the case of every company, a meeting of the Board of
directors must be held at least once in every three months and atleast four such meetings shall be
held in every year. However, the Central Government is empowered to relax the rule with regard to
any class of companies (Section 285).
Notice of every meeting of the Board of directors must be given in writing to every director
for the time being in India and at the usual address in India to every other director. The quorum for
a meeting of the Boad shall be one-third of its total strength (any fraction contained in that one-third
being rounded off as one) or two directors whichever is higher. When the meeting of the Board
could not be hold for want of quorum, then unless otherwise provided by the articles, the meeting
shall automatically stand adjourned till the same day in the next week. (Section 288).
Powers of the Board
As the company is an artificial person, it acts through its directors. The directors enjoy such
powers as are given to them by the Act, Memorandum or Articles, Sections 291 to 293-A contain the
powers of the Board and the restrictions thereon. The powers of directors are discussed under the
following heads:
General Powers: Section 291 empowers the Board to exercise all such powers and do all
such acts and things, as the company is authorized to exercise and do. But the Board cannot do any
act which is to be done by the company in general meeting. In exercising any power, the Board will
be subject to the provisions of this or any other Act, the Memorandum or the Articles.
Powers to be exercised by Board only at meeting: Under Section 292, the following powers
can be exercised by the Board, only by resolutions passed at the Board meeting : (i) the power to
make calls; (ii) the power to issue debentures; (iii) the power to borrow money otherwise than on
debentures; (iv) the power to invest the funds of the company; (v) the power to make loans. Powers
specified in points (iii), (iv) and (v) the above can be delegated by the Board, at a meeting by means
of a resolution to a committee of directors, to the managing director, to the manager or to other
principal officer of the company.
Duties of Directors
1. In discharging the duties of his position, a director must exercise some degree of skill and
diligence.
2. a director must act honestly in the performance of his duties.
3. A director is not bound to give continuous attention to the affairs of his company.
4. Though all books of account and other books and papers of the company are open to
inspection by the director, he is not bound to examine individual entries in the books.
5. The directors must perform their duties personally. The maxim “delegates non-potest delegate”
(a delegate cannot delegate further) applies to them like all agents. Hence, unless permitted
by the articles specifically, the directors must not delegate any of their powers to some other
person.
6. A director or his relative or any firm in which he or his relative has any interest or any
private company of which he is a member or a director shall not enter into any contract with
the company for the sale, purchase or supply of goods, materials or services or for
underwriting the subscription of any shares or debentures.
Liabilities of directors: The liabilities of directors may be discussed under three heads; (a)
Liability to outsiders, (b) Liability to company and (c) Criminal liability.
A. Liability to outsiders: The directors are not personally liable to outsiders if they act within the
scope of powers vested in them. The directors are personally liable to third parties of contract in the
following cases:
(a) They contract with outsiders in their personal capacity.
(b) The contract as agents of an undisclosed principal.
(c) The enter into a contract on behalf of a prospective company.
(d) When the contract is ultra0vires the company.
In default of statutory duties, the directors shall be personally liable to third parties in the
following cases. (i) misstatement in prospectus. (ii) irregular allotment. (iii) failure to repay application
money if allotment of shares and debentures is not dealt in on the stock exchange as provided in the
prospectus.
B. Liability to company: The directors shall be liable to the company for the following :
(h) Where they have acted ultra vires the company.
(i) When they have acted negligently.
(j) Where there is a breach of trust.
(k) Directors are liable t the company for misfeasance.
C. Criminal liabilities of directors: For acts of fraud, default in discharging their duties and
misdemeanour, the Act penalties by way of fine or imprisonment. Sections
75,93,113,115,143,162,168,303, etc. impose penalty upon the directors for omitting to comply with or
contravening certain provision of the Act.
MANAGING DIRECTOR [SEC.2(26)]
Managing Director means a director who is entrusted with substantial powers of management
which would not otherwise be exercisable by him. It includes a director occupying the position of a
managing director by whatever name called. The ‘substantial powers of management‘ may be
conferred upon him by virtue of an agreement with the company, or of a resolution passed by the
company in its general meeting or by its Board of Directors, or by virtue of its memorandum or
articles of association.
The appointment of a managing director can be made by any one of the following modes:
1. By an agreement with the company; or
2. By a resolution passed by the company in its general meeting; or
3. By a resolution of the Board of Directors; or

4. By a clause in the Memorandum of Association or Articles of Association of the Company.
Remember that, the managing director of a company shall exercise his powers subject to
superintendence, control and direction of its Board of Directors. Since the managing director must
be a director, he has also the duties, responsibilities and liabilities of an ordinary director.
Articles of a company generally authorize the directors to appoint one of them as managing
director. A public company or a private company being subsidiary of a public company must get the
approval of the Central Government before appointing the managing director for the first time or
within 3 months of doing so.
It is to be noted that the Government shall not grant approval unless it is satisfied that:
(i) it is in the interest of the company to have a managing director or whole-time director;
(ii) the proposed person is a fit and proper person and the appointment is not against
public interest; and
(iii) the terms and conditions of appointment are fair and reasonable.
The Central Government is empowered to reduce the period of appointment proposed by the
company. Further, Section 269(5) provides that in case the appointment is not approved, then the
proposed name (person) would vacate office from the date on which the decision of the Government
is communicated to the company.
Disqualifications of Managing Director (Sec.267): Following persons cannot be appointed as a
managing director.
1. A person who is an undischarged insolvent or who has at any time been adjudged an insolvent;
2. A person who suspends or has at any time suspended to his creditor or who makes or has at
any time made a composition with them.
3. A person who is or has at any time been convicted by a Court of an offence involving moral
turpitude.
Term of Office and Re-appointment of Managing Director (Sec 269 and 317) : There-
appointment of a person as managing director shall also be approved by Central Government. Note
that, a company cannot appoint a managing director for more than 5 years at a stretch but under the
Act, the re-appointment is not forbidden and such re-appointment cannot be sanctioned earlier than
2 years from the date on whichit si to come into force. Such provision does not apply to private
company unless it is a subsidiary of a public company.
Again, a person cannot be a managing director of more than 2 companies where at least one of
the two companies is a public company. But the Central Government may allow a person to be
managing director of more than two companies provided it is of the view that the companies should
have for their proper working functions as a single unit and have a common managing director
(Sec.316).
The managing director works in a two fold capacity. As a director he has a seat on the board
and can take part in the board meeting proceedings. As a manager, he is responsible for routine
management of the company. He may be given a fixed salary and a certain rate of commission on
the net profits of the company, so that he may have extra incentives to work hard and take more
personal interest in securing efficiency and economy in the administrative machinery of the company.
A managing director of a public company cannot vote in the matter of his appointment or of fixing
his remuneration.
The managing director is also exempted from the normal rule of a retirement by rotation. So he
need not retire at the end of every three years as long as he is acting as managing director. Thus he
may be termed as a non-retiring director. But if he ceases to act as a director on account of any
disqualification, eg. Nonpayment of a call within six months thereof, his managing directorship is
automatically terminated.
Whole-time director: A ‘Whole-time Director‘ includes‘ a director in the whole-time employment
of the company‘. The provisions applicable to the appointment of a Managing Director are also
applicable to the appointment of a whole-time director.
Manager
According to Section 2(24), ‘Manager’ means an individual who, subject to the superintendence,
control and direction of the Board of Directors, has the management of the whole, or substantially
the whole, of the affairs of a company. It includes a director or any other person occupying the
position of a manager, by whatever name called, and whether under a contract of service or not. It
is to be noted that the provisions applicable to a managing director regarding his appointment, term
of office and the number of companies which can be managed are also applicable to a ‘Manager’.
Disqualification of a ‘Manager’ : A firm, body corporate (company) or association cannot be
appointed as a ‘Manager’ of a company. Besides, the following persons cannot be appointed as
manager of a company.
(1) A person who is an undischarged insolvent or who has at any time within the preceding 5
years been adjudged an insolvent.
(2) A person who suspends or who has at any time within the preceding 5 years suspended
payment to his creditors or who has at any time within the preceding 5 years composition
with them.
(3) A person who is or who has at any time within the preceding 5 years been convicted by a
court in India of an offence involving moral turpitude.
The Central Government may, be notification in the Official Gazette, remove the above
disqualifications, either generally or in relation to any company or companies specified in the notification.
Appointment of ‘Manager’ (Section 386): No company can appoint any person as ‘manager’,
if the either the manager or managing director of any other company. Even then, if the company
wants to employ him, then: (a) it must be approved by a resolution passed at the meeting. (b)
specific notice of such appointment must be given to every director present in India. (c) It is approved
by Central Government who will approve only if a common manager is necessary for the proper
working of more than two companies.
Remuneration: The manager of a company may, subject to the provisions of Section 198 as
applicable to the managing director, receive remuneration either by way of a monthly payment, or by
way of a specific percentage of the net profits of the company or partly by one way partly by the
other. Except with the approval of the Central Government such remuneration shall not exceed in
the aggregate 5% of the net profits (Sec. 387)
Meeting and Resolutions
It is at the meeting of the company that directors, members, creditors, etc. of a company
express their will by passing resolutions. Such meeting are (i) Board of Directors Meeting (explained
in the previous chapter) (ii) Statutory, (iii) Annual General, (iv) Extra-ordinary, (v) Class of shareholders
and (vi) Creditors.
MEETINGS
Members Directors Creditors
Statuory Annual General Extra Class Debenture

Meeting Ordinary Meetings Creditors and
Meeting Holders
Contributories
Board Committee in Winding up
Every company limited by shares and every company limited by guaranter and having a share
capital shall within a period of not less than one month and not more than six months from the date
at which the company is entitled to commence business, hold a general meeting of the members of
the company. Such a meeting shall be called the ‘Statutory Meeting”. [Section 165(1)]. This meeting
is held once during the life time of the company. A private company, an unlimited company or a
company limited by guarantee and not having a share capital is not required to hold a statutory
meeting. The notice for calling the meeting must be given at least 21 days before the meeting. The
notice convening the statutory meeting must specifically state that the meeting is the statutory
meeting.
The object of such a meeting is to ensure that at an early date, the members may have an
opportunity of ascertaining the precise position and prospect of the company. According to Palmer,
“The object of the statutory meeting is to put the shareholders of the company at as early a date as
possible in possession of all the important facts relating to the new company.”
Annual General Meeting
Every company must in each year hold in addition to any other meeting an annual general
meeting. The notice convening the meeting must specify that it is a notice of the annual general
meeting.
The first annual general meeting must be held within 18 months from the date of incorporation.
In that case, the company is not required to hold an annual general meeting in the year of incorporation
or in the following year. Thereafter, it must be held in each year and there shall not be a gap of more
than fifteen months between two annual general meetings. However, the Registrar has the power to
extend the time for holding the annual general meeting (except the first annual general meeting) by
a period not exceeding three months.
Extraordinary General Meeting

Every general meeting of the company which is not statutory or the annual general meeting is
an ‘extraordinary general meeting’. This meeting is generally held for the purpose of dealing with
any extraordinary matter which cannot be postponed till the next annual general meeting. The
extraordinary general meeting can be convened either by the directors whenever they think fit or on
the requisition of the members of the company. Where the directors think fit to convee a meeting
they do so by resolution passed at a duly convened and constituted meeting of the Board. If it any
time sufficient number of directors to form a quorum are not present in India , any director or any
two members of the company may call an extraordinary general meeting.
Class Meetings
Class meetings are generally held for obtaining the consent of a particular class of shareholders
for altering their rights and privileges or for the conversion of one class into another. For instance,
there may be a meeting of preference share holders for paying their rate of dividend or investing
them into equity shares.
Requisites of a Valid Meeting
Proper authority: A meeting to be valid must be called by a proper authority. It is the Board who
can normally convene a meeting. But under certain circumstances meetings can also be convened
by the members, Company Law Board or the Central Government.
Notice: The second requirement of a valid meeting is that all those who are concerned with the
business of the meeting and are entitled to attend it, are communicated of the date, time, place and
business of the meeting. Such a communication is called Notice of the Meeting. ‘Not less than 21
days’ means that both the date of the meeting and the date on which it is served are to be excluded.
i.e. 21 clear days notice. Where the notice is sent by post, it shall be deemed to have been received
at the expiration of forty-eight hours after the posting.
The requirement of 21 days notice of the meeting overrides any provision in the articles for a
shorter period. But the articles can validly provide for longer notice than the statutory minimum
period.
Ordinary and Special business: Notice of meeting must contain a statement of nature of the
business to be transacted in the meeting. Section 173 classifies the business into ordinary business
and special business.
Ordinary business: The following business which is transacted at every annual general meeting
is considered as ordinary business : (i) The consideration of accounts, balance sheet and the report
of the Board of directors and auditors. (ii) The declaration of dividend. (iii) The appointment of
directors in place of those of retiring. (iv) The appointment of and fixing the remuneration of auditors.
Special business: Any business other than ordinary business transacted at an annual general
meeting and all business transacted at the statutory meeting and at any extraordinary general meeting
is deemed as special business. In case of any items of special business to be transacted in the
general meeting, an explanatory statement shall be annexed to the notice of the meeting. The statement
must set out all material facts concerning each such item of the business including, in particular the
nature of the concern or the interest if any, therein of any director and the manager.
Quorum [Section 174]: Five members personally present in the case of public companies and
two persons personally present in the case of private company will be the quorum for a meeting of
the company. No proxy is counted in forming the quorum.
Minutes of the meeting: It is incumbent on the company to maintain minutes of proceedings of
general meetings, moral obligation of the Board of Directors meeting and other meetings. Every
company shall cause entries in the minutes of proceedings of every meeting within 30 days of the
conclusion of every such meeting concern.
Resolutions
Decisions of the company are made by resolution of its members, passed at meetings of members.
A proposal when passed and accepted by the members becomes resolution. Three kinds of resolutions
are recognized by the Companies Act. 1. Ordinary resolution 2. Special resolution 3. Resolution
requiring a Special notice.
An ordinary resolution is one which is passed at general meeting by a simple majority of members
entitled to vote therein.
A resolution shall be a special resolution when – (a) intention to propose the resolutions as a
special resolution has been duly specified in the notice (b) the notice required under the Act (21
clear days) has been duly given; and (c) the votes casted in favour of the resolution.
A special resolution is required for the following purposes:
1. To To alter the provisions of the memorandum for changing the place of registered office
from one State to another or objects of the company. [Section 17]. 2. To change the name of the
company. [Section 21]. 3. To alter the articles of the company [Section 31]. 4. To offer further issue
of subscribed capital when shares are offered to outsiders. [ section 81]. 5. To create reserve
capital. [section 99]. 6. To are offered to outsiders. [Section 81]. 5. To create reserve capital.
[Section 99]. 6. To reduce the share capital of the company. [Section 100]. 7. To authorize payment
of interest out of capital. [ Section 208]. 8. To request the Central Government to appoint inspectors
for investigation of the affairs of the company. [Section 237]. 9. To authorize payment of remuneration
to directors who are not in the whole time employment of the company. [Section 309]. 10. To make
the liability of directors unlimited. [Section 323]. 11. To have the company wound up by the Court.
[Section 433]. 12. To wind up the company voluntarily [Section 484].
In the above cases, the notice of intention to move the resolution shall be given to the company
not less than 14 days before the meeting. Incomputing 14 days the day on which the notice is served
and the day of the meeting are excluded. The company must, immediately after receiving the notice,
give its members notice of the proposed resolution in the same manner as it gives notice of any
meeting. If that is not practicable, the company must give notice either by advertisement in a local
newspaper or in any other mode allowed by the articles at least 7 days before the meeting. [Section
190].
Resolution requiring Special Notice: In addition to the above two types of resolution, there is
another class of resolution provided under the Companies Act which require a special notice to be
given in respect of them. Special notice is required in the following cases.
1. For the appointment of an auditor other than the retiring auditor. (Section 225).
2. For express resolution that the retiring auditor shall not be re-appointed. (Section 225)
3. For removing a director before the expiry of his term. (Section 284)
4. For appointing another person as director in place of the director removed. (Section 284).
In the above cases, the notice of intention to move the resolution shall be given to the company
not less than 14 days before the meeting. In computing 14 days the day on which the notice is served
and the day of the meeting are excluded. The company must immediately after reciving the notice,
give its member notice of the proposed resolution in the same manner as it gives notice of any
meeting. If that is not practicable, the company must give notice either by advertisement in a local
newspaper or in any other mode allowed by the articles at least 7 days before the meeting (Section
190)
ACCOUNTS AND AUDIT

Books of Account: Section 209 of the Companies Act requires every company to keep at its
registered office proper books of account with or financial books respect to – (a) all sums of money
received and expended by the company and the matter in respect of which the receipt and expenditure
take place; (b) all sales and purchase of goods by the company; (c) the assets and liabilities of the
company; and (d) in the case of a company engaged in production, processing, manufacturing or
mining activities, such particulars relating to utilization of material or labour or to other items of cost
as may be prescribed, if such class of companies is required by the Central Government to include
such particulars in the books of account.
Statutory Books: In addition to the books of account or financial books to be maintained by
every company under Section 209, every limited company must maintain the following statutory
books: (1) Register of members, (2) Index of members, (3) Annual Return to be made by a company
having a share capital, (4) minute books-directors meetings and of general meetings, (5) Register of
directors and managers, (6) Register of contracts in which directors are interested (7) Register of
charges, (8) Register of debenture-holders with index, (9) Register of directors shareholding, (10)
Register of investments not held in companys name, (11) Directors attendance book, (12) Register
of loans to companies under the same management. (13) Register of investments in the shares of
other companies.
Statistical Books: In addition to statutory books, there are many other books which are required
to be mainted for the proper and efficient running of a company. These books are not only found to
be desirable but often indispendable in practice. Some of the important statistical or non-statutory
books are as follows: 1. Share application and allotment book. 2. Share call book. 3. Register of
share warrants. 4. Register of share certificates. 5. Register of share transfers. 6. Register of lost
share certificates. 7. Register of balance tickets issued. 8. Register of transfers certified. 9. Agenda
book. 10. Register of lists of dividends. 11. Dividend mandate register. 12. Register of debenture
interest. 13. Register of documents sealed. 14. Register of powers of attorney. 15. Register of
probates. 16. Register of directors attendance.
Annual Accounts and Balance Sheet
The annual accounts of a company consist of two statements, namely the profit and loss account
and the balance sheet. In the case of a non-trading company, an income and expenditure account is
prepared instead of a profit and loss account. A balance sheet is a formal arrgement of facts and
figures showing the total value of assets owned and the total amount of liabilities owned by a
business on a particular date or at the end of a particular period. It is also known as a Statement of
Assets and Liabilities.
Authentication of Balance Sheet and Profit and Loss Account : Every balance sheet and profit
and loss account of a company shall be signed on behalf of the Board by the manager or secretary,
if any, and not less than two directors of the company. One of the directors, who signs, must be a
managing director where there is one. (Section 215).
Profit and Loss A/c and Auditors Report to be attached to Balance Sheet : The profit and loss
account shall be annexed to the balance sheet. The auditors report including the auditors separate,
special or supplementary report, if any is also to be attached to the balance sheet. (Section 216).
Board’s Report. (Section 217): There must be attached with every balance sheet a report by its
Board of directors. The report shall deal with the following:
(a) The state of the company’s affairs.
(b) The amounts, if any, which it proposes to carry to any reserves in the balance sheet.
(c) The amount which it recommends for payment as dividend.
(d) Material changes and commitments if any, affecting the financial position of the company
which have occurred between the end of the financial year to which the balance-sheet
relates and the date of the report. [Section 217(1)].
(e) The Board’s report shall also deal with any changes which have occurred during the financial
year; (a) in the nature of the company’s business; (b) in the company’s subsidiaries or in the
nature of the business carried on by them; and (c) generally in the classes of business in
which the company has interest, [Section 21792)]
Auditors
A person shall not be qualified for appointment as auditor of a company unless he is a Chartered
Accountant within the meaning of the Chartered Accountants Act, 1949. A Firm of chartered
accountants can also be appointed as an auditor of the company in its firm’s name. In such a case
any partner so practicing may act in the name of the firm.
The following persons shall not be qualified for appointment as the auditor of a company: (1) A
body corporate. (2) An officer or employee of company. (3) A person who is a partner or who is in
the employment of an officer or employee of the company. (4) A person who is indebted to the
company for an amount exceeding Rs. 1000. (5) A person who has given any guarantee or security
in connection with the indebtedness of any third person to the company for an amount exceeding Rs.
1,000. [Section 226(3)].
Appointment of Auditors: The first auditor(s) of a company shall be appointed by the Board
of directors within one month of the incorporation of the company. The auditors so appointed shall
hold office until the conclusion of the first annual general meeting of the company. Subsequent
auditor(s) must be appointed at each annual general meeting of the company, and the auditor so
appointed shall hold office from the conclusion of that meeting until the conclusion of next annual
general meeting. Every company shall, within seven days of the appointment of an auditor at its
annual general meeting, give intimation thereof to the auditor so appointed. Every auditor so appointed
shall inform the Registrar within 30 days of the receipt of the intimation of his appointment, whether
he has accepted the appointment or not.
Removal of an Auditor: The company may at a general meeting remove the first auditors
appointed by the Board by an ordinary resolution. The company may appoint in their place any other
persons who have been nominated for appointment by any member of the company and of whose
nomination notice has been given to the members of the company not less than 14 days before the
date of the meeting. Subsequent auditors may be removed from Office before expiry of their term
by an ordinary resolution in the general meeting and with the previous approval of the Central
Government [Section 224(7)]. A Special notice is required for a resolution at an annual meeting to
appoint a person other than the retiring auditor or to provide that the retiring auditor shall not be
reappointed [Section 224(1)].
Special Audit: The Central Government under Section 23-A may direct a special audit of the
company’s accounts for a specified period. It may do so where it is of the opinion –
(a) that the affairs of the company are not being managed in accordance with sound business
principles or prudent commercial practices; or
(b) that the company is being managed in a manner likely to cause serious injury or damage to
the interests of the trade, industry or business to which it pertains; or
(c) that the financial position of the company is such as to endanger its solvency.
Audit of Cost Accounts: The Central Government may issue necessary direction under
section 233-B for conducting cost audit of companies engaged in production, processing,
manufacturing or mining activities. The companies shall maintain books according to rules framed
by the Central Government and must include particulars relating to utilization of material, labour or
other items of cost.
The Central Government may, by order, direct that an audit of the cost accounts of these
companies shall be conducted by an auditor who shall be a cost accountant within the meaning of
the Cost and Works Accounts Act 1959. But where the Central Government is of the opinion that
sufficient number of cost accountants are not available for conducting the audit of cost accounts of
companies, the Central Government may be, in notification in the Official Gazette, direct that for a
specified period the chartered accountants possessing the prescribed qualifications may also conduct
such audit of cost accounts. The cost auditor shall be appointed by the Board of directors with the
previous approval of the Central Government. An audit, conducted under this Section, will be addition
to an audit conducted under Section 224.
Audit Committee
Every public company having paid-up capital of not less than five crores of rupees shall constitute
a committee of the Board known as “Audit Committee” which shall consist of not less than three
directors and such number of other directors as the Board may determine of which two- thirds of
the total number of members shall be directors, other than managing or whole-time directors.
Every Audit Committee – constituted under sub-section (1) shall act in accordance with terms
of reference to be specified in writing by the Board. The members of the Audit Committee shall
elect a chairman from amongst themselves. The annual report of the company shall disclose the
composition of the Audit Committee. The auditors, the internal auditors, if any, and the director-in-
charge of finance shall attend and participate at meeting of the Audit Committee but shall not have
the right to vote. The Audit Committee should have discussion with the auditor periodically about
internal control system, the scope of audit including the observations of the auditors and review the
half-yearly and annual financial statements before submission to the Board and also ensure compliance
of internal control systems.
The Audit Committee shall have authority to investigate into any matter in relation to the items
specified in this section or referred to it by the Board and for this purpose, shall have full access to
information contained in the records of the company and external professional advice, if necessary.
The commendations of the Audit Committee on any matter relating to financial management, including
the audit report, shall be binding on the Board. If the Board does not accept the recommendations of
the Audit Committee, it shall record the reasons therefor and communicate such reasons to the
shareholders. The chairman of the Audit Committee shall attend the annual general meetings of the
company to provide any clarification on matters relating to audit, If a default is made in complying
with the provisions of this section, the company, and every officer who is in default shall be punishable
with imprisonment for a term which may extend to one year, or with fine which may extend to fifty
thousand rupees, or with both.’
Review Questions
1. Briefly state the provisions of the Companies Act regarding the appointment of the directors
of a company.
2. “Directors of a company are not only its agents, but they are also in some sense trustees of
the company”, Discuss.
3. How can the directors of a company be removed from office before the expiry of their
terms? Explain the procedure for filling the vacancy caused by the removal of a director.
4. What are the qualifications of a directors? When is a person disqualified for appointment as
a director of the company?
5. State the power of the Board of Directors of a company and the restrictions on them.
6. Who is a managing director? How is managing director is appointed? Discuss disqualifications
of managing director.
7. Write Short notes on (a) whole time director; (b) Manager.

8. What are the various kinds of company meeting ? State provision of the Companies Act in
relation to such meetings.
9. What do you understand by a statutory meeting?
10. What are the objects of holding an annual general meeting of a company?
11. What are the different classes of resolutions which may be passed in a company meeting?
Give the instances of the business for which each class of resolution is required?
12. Mention the various resolution and agreements which are required to be registered with the
Registrar of Companies.
13. Write short notes on (a) Special Resolution (b) Minutes of the meeting; (c) Resolution
requiring special notice.
14. Name the books of accounts a company is bounded to maintain.
15. State the provision of the Companies Act relating to the preparation, authentication, circulation,
adoption and filling of the annual accounts of a company.
16. How an auditor of a company is appointed? What are his qualification?
17. Discuss briefly the provision of the Act regarding the investigation of the affairs of the
company by the Central government.
18. Write short notes on (a) Financial books; (b) Statutory books; (c) Statistical books; (d) Audit
Committee.
INVESTIGATION, MAJORITY RULE AND MINORITY INTEREST

Investigation
The Central Government has been vested with wide powers to investigate into the affairs of
a company. The investigation may be done on the request of the members or the Registrar or at the
initiative of the Government.
Investigation on application by members or report by Register. (Section 235) : According to
section 235, the Central Government may appointed one or more inspectors to investigate into the
affairs of a company on an application made by –
(a) In the case of a company having a share capital, not less than 200 members or members
holding not less than one-tenth of the total voting power.
(b) In the case of a company not having a share capital not less than one fifth of the members
of the company.
(c) In the case of any company on the report of the Registrar under Section 234.
The application of members must be supported by evidence showing that the applicants have
good reason for requiring the investigation. In addition, the applicants must furnish security for a
sum not exceeding Rs.1,000 for payment of cost of investigation. [Section 236].
Further powers have been given to the Central Government under Section 237 to order
investigation by competent inspectors and to report to the Central Government thereon. The Central
Government is bound to appoint inspectors to investigate the affairs of the company if the company
by special resolution or the court by order defaults that the affairs of the company ought to be
investigated. [Section 237(a)].
Investigation as its own initiative: The Central Government under Section 237(a) may on its
own initiative appoint at inspector to investigate into the affairs of a company where in its opinion
there are circumstances suggesting the following-
(a) that the business of the company is being conducted with intent to defraud creditors, members
or any other person, or for a fraudulent or unlawful purpose or in a manner oppressive to
certain members or that the company was formed for any fraudulent or unlawful purpose.
(b) That the persons concerned with the formation of the company or management of its affairs
have been guilty of fraud, misfeasance or other misconduct towards the company or any of
its members.
(c) That the members of the company have not been given all the information which they might
reasonably expect as to the company’s affairs. [Section 237(a)].
Inspector’s Report: on the conclusion of his investigation, the inspector shall make a written or
printed report to the Central Government. He may also make interim report is so directed by the
Government. Copies of the final report shall be sent by the Central Government to the company and
also to any body corporate to which the report relates. A copy of the report may also be made
available to a member of the company or a creditor of the company on request and on payment of
the prescribed fee.
Powers of the Government on the basis of Inspectors Report : The Central Government on the
reports of the inspectors takes any one or more of the following actions:
1. The Central Government may launch criminal prosecution against any person who is guilty
of any criminal offence in relation to the company on the basis of the inspectors report.
2. The Central Government may, on the basis of the inspectors report apply to the court for
winding up of the company or make an application to the court for prevention of oppression
and mismanagement or may do both. [Section 243].
3. The Central Government may institute proceedings (i) for the recovery of damages from
any person guilty of fraud, misconduct or misfeasance in connection with the promotion or
formation or management of the company, or (ii) for the recovery of any property of the
company which has been misapplied or wrongfully retained. The Central Government shall
exercise its power in the public interest.
In the first instance the expenses of investigation are borne by the Central Government. But in
certain circumstances the Government can recover the same from the person convicted.
Investigation of Ownership of Company : Sometimes it becomes necessary to determine the
true persons who are financially interested in the success or failure of the company and who are
controlling or influencing materially the policy of the company.
Majority Rule and Minority Interest

The general principle of a company law is that questions relating to management are decided
either by a simple majority or by a special majority of the votes of the shareholders. Members of a
company are deemed to agree to submit to the will of the majority provided that will its expressed in
accordance with the law and the articles. IT is the will of the majority that always prevails. The
Courts will not interfere in matters which are within the powers of the rule in Foss v. Harbottle. In
this case two members of a company brought an action against the directors to compel them to
make good losses sustained by the company as a result of the fraudulent acts of the directors. It was
held that the action could not be brought by the minority shareholders. The wrong done to the
company was one which could be ratified by the majority of the members. The company was proper
plaintiff. The majority of the members should be left to decide whether to commence proceedings
against the directors.
The reasons for this rule are (i) litigation at the suit of a minority of the members is futile if the
majority do not wish it, and (ii) to avoid multiplicity of suits.
Exceptions to the Rule in Foss Vs. Harbottle (Majority Supremacy): The rule in Foss Vs.
Harbottle is not an inflexible or universal rule. The majority supremacy does not prevail in all situations.
1. Where the act is illegal or ultra-vires the company any individual member may use because
the act cannot be confirmed by the majority.
2. Where the matter is one which must be decided by a special resolution, it cannot be validly
done or sanctioned by a simple majority.
3. The supremacy of majority rule cannot be invoked where the act done amounts to a fraud
on the minority and the wrong-doers are in control of the company.
4. Minority shareholder can bring an action to restrain an alteration of the Articles or
Memorandum which is not made for the benefit of the company as a whole.
5. Where the action represents an infringement of the personal rights of the shareholders, any
individual shareholder affected by it may sue.
6. The minority shareholders are empowered to bring action with a view to preventing the
majority from oppression and mismanagement.
Proper balance of the rights of majority and minority shareholders is essential for the smooth
functioning of the company. But sometimes a group of persons or a particular person gains control
of the majority of the shares and run the company to serve their own property to the detriment of the
minority shareholders. In such cases, the minority shareholders can adopt the following measures.
1. Apply to the courts for the winding up of the company.
2. Apply to the court for appropriate order giving relief without directing winding up .
3. Apply to the Central Government for relief.
The last two measures are discussed below.
Powers of the Court to grant relief in cases of Oppressions: When the affairs of a company are
being conducted in a manner prejudicial to public interest or in a manner oppressive to any member
or members, an application may be made to the Court by the requisite number of members for
appropriate relief. The Court may, on being satisfied that the company’s affairs are being conducted
in the manner alleged and that to wind up the company, thought justified on the facts, would unfairly
prejudice such members, make such orders as it things fit with a view to bringing to an end the
matters complained of.
Prevention of Mismanagement: Any member of a company may apply to the court for appropriate
relief on the ground : (a) that the affairs of the company are being conducted in a manner prejudicial
to public inters, or in a manner prejudicial to the interests of the company; or (b) that by reason of a
material change in the management or control of the company it is likely that the affairs of the
company it is likely that the affairs of the company will be conducted in a manner prejudicial to
public interest or to the interest of the company.
The Court may, if it is satisfied with the truth of the complaint, make such orders as it thinks fit
in order to bring an end or preventing the matters complained of or apprehended.
Who may apply for Relief? The following members of a company have the right to apply to the
court for relief.
(a) In the case of a company having a share capital (i) not less than 100 members of the
company, or (ii) not less than one-tenth of the total member of its members, whichever
is less or (iii) any member or members holding not less than one-tenth of the issued
capital on which all calls and other sums due have been paid.
(b) In the case of a company not having a share capital, not less than one-fifth of the total
number of its members.
Powers of Court: The Court can pass any order which in its opinion is just and equitable. The
court may provide for –
1 the regulation of the conduct of the company’s affairs in future;
2 the purchase of the shares or interests of any members of the company by other members
thereof or by the company.
3 In the case of purchase of its shares by the company, the consequent reduction of its share
capital;
4 The termination, setting aside or modification of any agreement between the company and
its managing director, or any other director and the manager upon such terms and conditions
as may in the opinion of the court, be just and equitable in all circumstances of the case;
5 The termination, setting aside or modification of any agreement between the company and
any persons not referred to above provided due notice has been given to the person concerned
and his consent obtained;
6 The setting aside of any transfer, delivery of goods, payment, execution or other act relating
to property of the company made within three months before the date of the application, it
would make such order only if the circumstances are such that the transaction would have
been deemed to be a fraudulent preference in an insolvency proceeding against an individual;
7 Any other matter for which, in the opinion of the Court, it is just and equitable that provision
should be made.
Powers of the Central Government

Power to appoint directors: Where there is oppression or mismanagement, the shareholders
can apply to the Central government for relief. This the Central Government can do of its own or on
the application of 100 or more members of the company or by members holding 10% or more of the
total voting powers of the company. On receipt of the application, the Central Government may
make such inquiry as it thinks fit. If the Central Government is satisfied that the affairs of the
company are being conducted in a manner oppressive to any members of the company, or which is
prejudicial to the interests of the company or of public interest, it may appoint may number of
directors to prevent oppression and mismanagement.
Power to prevent change in Board of directors .(Section 409): Power is vested iwht the
Central government to prevent any change in the Board of directors which is likely to affect the
company in a prejudical manner. When a compliant is made to the Central Government by the
managing director or any other director or the manager of a company that as a result of a change
which has taken place or is likely to take place in the ownership of any shares held in the company,
a change in the Board of directors is likely to take place which would prejudicially affect the affairs of
the company, the Central Government may, after making such inquiry as it thinks fit, direct that no
change in the Board for directors after the date of complaint shall have effect, unless confirmed by it.
Compromises, Arrangement and Reconstruction
Compromises and Arrangements: The term ‘compromise‘ means a settlement of dispute or
controversy by the method of making mutual concessions. Compromise implies the existence of a
dispute which it seeks to settle. In a compromise the parties agree not to try it out but to settle it
between themselves by a give and take arrangement. As in the case of individuals, companies also
enter into compromise with their creditors or members by way of a mutual decision.
The term ‘arrangement‘ is wider in scope than the word ‘compromise‘. It is not limited to
compromise alone, and includes re-organisation of share capital by the consolidation of share of
different classes, including modification of preferential and other special rights attached to share.
Arrangement may be made in anticipation of a dispute, whereas compromise is arrived at the
conclusion of the dispute.
Power to Compromise or make Arrangements: Section 391 empowers a company to
compromise and settle disputes with its creditors and members without going to any arbitration for
the purpose. A company firm either as a going concern or in a winding up may compromise or enter
into an arrangement with its creditors or shareholders or any class of them. To make such compromise
or arrangement with its creditors or shareholders or any class of them. To make such compromise
or arrangement effective, an application shall be made to the court by the company or by the
creditors or by the member of the company and by the liquidator if the company is being wound up.
On such an application, the court may order that a meeting of the creditors, class of creditors,
or of the members or class of members, as the case may be, called, held, and conducted in such
manner as the court directs. Where a majority in number representing three-fourths in value of the
creditors, or of class of creditors, or members or class of members, as the case may be, assent to
any compromise or arrangement, will be sanctioned by the Court. Those present at the meeting may
vote in person or by proxy. Such a compromise or arrangement will be binding on all the parties thereto.
Power of the High Court to enforce Compromise and Arrangement: Where a High Court
makes an order under section 391, sanctioning a compromise or arrangement in respect of a company,
it is empowered to supervise the carrying out of the compromise or arrangement and issue directions
or make modifications in the compromise or arrangement necessary for the proper working of the
scheme. [Section 392(1)].
Where the court is satisfied that the scheme cannot be worked satisfactorily with or without
modification, it may either on its own motion or on the application of any person interested in the
affairs of the company, make an order for compulsory winding up of the company. [Section 392(2)].
Reconstruction and Amalgamation: Reconstruction occurs when a company transfers the whole
of its undertaking and property to a new company consisting substantially of the same shareholders.
The object of reconstruction is usually to reorganize capital, or to compound with creditors or to
effect economies. Amalgamation is a blending of two or more existing companies so as to form a
third entity or one company is absorbed into and blended with another company. The effect is to
wipe put the merging companies and to fuse them all into the newly created one.
Takeover and Acquisition of Minority Interest: Section 395 provides for compulsory acquisition
of shares of dissenting shareholders. The term ‘dissenting shareholder‘, according to clause 5(a) of
the section includes (i) one who has not assented to the scheme or contract for transfer, and
(ii) shareholder who has failed or refused to transfer his shares to the transferee company in terms
of the compromise or arrangement.
Amalgamation in National Interest: Section 396 provides for compulsory amalgamation at the
instance of the Central Government. Where the Central Government is satisfied that an amalgamation
of two or more companies is essential in the public interest, then it may, by order notified in the
official Gazette, provide for the amalgamation of those companies into a single company. The
amalgamated company shall have such constitution, property, power, rights, interests, authorities
and privileges together with its liabilities, duties and obligations as may be specified in the Government’s
order. [Section 396(1)]. The order may also contain such consequential and supplemental provisions
as may be necessary to give effect to amalgamation [Section 396(2)].
Review Questions
1. Explain the rule in Foss Vs. Harbottle. What are the exceptions to it?
2. Explain the rule of supremacy of the majority of shareholders with all its exceptions.
3. Critically examine the provisions of Companies Act 1956 regarding oppression and
mismanagement.
4. Discuss the powers of the Court and the Central Government regarding the prevention of
oppression and mismanagement.
5. What remedies are available to the minority shareholders of a company against oppression
and mismanagement?
6. Explain the terms (a) Take-over and Acquisition (b) Merger and Amalgamation.
UUU
7. OTHER LAWS
INTRODUCTION
Unfettered exploitation of consumers by the traders and manufacturers has been a regular
feature of our mercantile system. It is true that survival and growth of industries rest on the support
of consumers as a segment, but individually every consumer is so weak that he is virtually disregarded
in every sphere of business transactions. The reason for the helplessness of consumers can be
attributed to the lack of ability on the part of consumers to organise themselves to protect and
promote their collective interests. We notice that consumer movements in India have always failed.
There is a variety of reasons for such failure. Chief among them are lack of consumer education
and consumer solidarity. One more important reason for failure of consumer movement is that
consumers, though large in number, are not geographically together nor do they share a common
aim.
Technically speaking, it was never the case that consumers were ever truly without remedy
against the malpractices of traders and manufacturers. Supply of goods of inferior quality, charging
of excessive price, non-compliance of the assurances and promises by the sellers were essentially a
breach of contract on the part of the sellers, for which the doors of judiciary were always open to
consumers. In certain cases, albeit very few, consumers have successfully made the sellers pay for
their wrongs through Courts by filing suits for damages and compensation. But such remedial measure
of approaching the Courts and fighting a legal battle against the sellers required a lot of patience, and
consumers needed to spend more for obtaining a decree of court for compensation than the amount
of compensation itself. The amount of time, money and energy that an ordinary consumer has to
expend to proceed against sellers was a major deterrent and, as such, he had to be content blaming
his fate rather than resorting to judicial means of redressal. Further, the number of years the judicial
system took to dispose a complaint of consumer was so dismaying that an ordinary consumer
thought it wise to stay away from the Courts. In short, the remedy was worse than the disease.
The primary object of the Consumer Protection Act was to provide a cheap and speedy remedy
to the consumers who are aggrieved by the malpractices of sellers. Separate judicial forums are
OTHER LAWS 249
established under the Act, at the district, State and Central level, to exclusively entertain and try
consumer disputes. These judicial authorities are empowered to give appropriate relief, including
awarding compensation, to consumers. The Court fee for filing a complaint in the consumer court is
very meager. Engagement of advocate is neither necessary nor permitted. The courts are under
obligation to dispose the cases before them within a prescribed time limit. All this was to encourage
the common consumers to come forward and seek redressal of their grievances against the traders
and manufactures.
The Act extends to the whole of India and is applicable to all goods and services as defined
under the Act.
Important definitions
Appropriate laboratory means a laboratory or organisation –
1. recognised by the Central Government;
2. recognised by a State Government, subject to such guidelines as may be prescribed by the
Central Government in this behalf;
3. any such laboratory or organisation established by or under any law for the time being in
force, which is maintained, financed or aided by the Central Government or a State
Government for carrying out analysis or test of any goods with a view to determining
whether such goods suffer from any defect.
Explanation
A consumer dispute is often relating to impure, inferior or defective goods sold to him. While
deciding such disputes, it may become necessary to analyse, test or inspect the goods. For the
purpose of carrying out this task, the Government may establish laboratories having sufficient facilities,
or give sanction to any existing and well equipped laboratory or organisation. Such laboratory is
called appropriate laboratory and the consumer courts under the Act, when in need of conducting
any tests with respect to the goods (relating to which any complaint is being adjudicated), may refer
them to such laboratory.
Complainant means –
1. a consumer;
2. any voluntary consumer-association registered under the Companies Act or under any other
law for the time being in force;
3. the Central Government or any State Government;
4. one or more consumers, where there are numerous consumers having the same interest;
5. in the case of death of a consumer, his legal heir or representative.
Explanation
The definition of the term complainant is important because it tells us who can file a complaint
before any of the judicial authorities under the Act. A person can file a complaint provided he is
covered under this definition. Accordingly, a consumer is obviously can be a complainant and similarly,
a registered consumers’ association can also be a complainant. Where there are several consumers
having a similar grievance, one or more of them can file a complaint on behalf of all of them and it
is not necessary that all should join in contesting the dispute. It is sufficient if one or more of them
appear before the court and represent the others. Additionally, the Central or any State Government
can also be a complainant and hence a consumer dispute can be filed by the Central or State
Government also. The cause of action to proceed against trader or seller of goods or any provider of
services does not abate with the death of consumer. In the event of his death, the right to file
complaint passes to his heir or legal representative.
Complaint means any allegation in writing made by a complainant that –
1. an unfair trade practice or a restrictive trade practice has been adopted by any trader or
service provider;
2. the goods bought by him or agreed to be bought by him suffer from one or more defects;
3. the services hired or agreed to be hired or availed of by him suffer from deficiency in any
respect;
4. a trader or the service provider has charged for the goods or for the services mentioned in
the complaint, a price in excess of the price –
(a) fixed by or under any law for the time being in force,
(b) displayed on the goods or any package containing such goods,
(c) displayed on the price list exhibited by him by or under any law for the time being in
force,
(d) agreed between the parties.
5. goods which will be hazardous to life and safety when used are being offered for sale to the
public, -
(a) in contravention of any standard relating to safety of such goods as required to be
complied with, by or under any law for the time being in force,
(b) in the trader could have known with due diligence that the goods so offered are unsafe
to the public,
6. services which are hazardous or likely to be hazardous to life and safety of the public when
used, are being offered by the service provider which such person could have known with
due diligence to be injurious to life and safety.
With a view to obtaining any relief provided
Consumer dispute means a dispute where the person against whom a complaint has been
made, denies or disputes the allegations contained in the complaint.
Defect means any fault, imperfection or shortcoming in the quality, quantity, potency, purity, or
standard which is required to be maintained by or under any law for the time being in force or under
any contract, express or implied, or as is claimed by the trader in any manner whatsoever in relation
to any goods.
OTHER LAWS 251
Deficiency means any fault, imperfection, shortcoming, or inadequacy in the quality, nature
and manner of performance which is required to be maintained by or under any law for the time
being in force or has been undertaken to be performed by a person in pursuance of a contract or
otherwise in relation to any service.
Goods means the goods as defined in the Sale of Goods Act, 1930.
Manufacturer means a person who –
1. makes or manufactures any goods or part thereof, or
2. does not make or manufacture any goods but assembles parts thereof made or manufactured
by others, or
3. puts or causes to be put in own mark on any goods made or manufactured by any other
manufacturer.
Restrictive Trade Practice means a trade practice which tends to bring about manipulation
of price or its conditions of delivery or to affect flow of supplies in the market relating to goods or
services in such a manner as to impose on the consumers unjustified costs or restrictions and shall
include –
1. delay beyond the period agreed to by a trader in supply of such goods or in providing the
services which has led or is likely to lead to rise in the price;
2. any trade practice which requires a consumer to buy, hire or avail of any goods or services
as condition precedent to buying, hiring or availing of other goods or services.
Explanation
The provision relating to restrictive trade practices owe their origin in the Monopolies and
Restrictive Trade Practices Act. These are the practices adopted by traders to artificially increase
the prices of goods and services or to impose unfair conditions on the consumers. These practices
are normally resorted to by the traders when there is shortage of goods or services. For example, a
dealer of LPG cylinders may insist that consumer must purchase a set of burners from his shop in
order to get a quick delivery of gas. It is a restrictive trade practice and is prohibited under the Act.
Service means service of any description which is made available to potential users and includes,
but is not limited to, the provision of facilities in connection with banking, financing, insurance,
transport, processing, supply of electrical or other energy, board or lodging or both, housing
construction, entertainment, amusement or the purveying of news or other information, but does not
include the rendering of any service free of charge or under the contract of personal service.
Explanation
The words, ‘but not limited to’ occurring in the definition are important. In the absence of these
words, the list of services mentioned in the definition would be exhaustive and complete, and no
other service could fall within the meaning of the term ‘service’ under the Act. However, by using
these words, the legislatures have made it clear that all kinds of services are intended to be covered,
and it is only by way of illustrations that certain services are named in the definition. For example,
medical services are the services covered under the Act, though they are not specifically named in
the definition of ‘Services’.
Service rendered under any contract of personal service is not the ‘service’ as contemplated
under the Act and hence will be outside the scope of the Act. In other words, where services are
rendered under the relationship of master and servant, the master is not a consumer within the
meaning of the Act.
WHO IS A CONSUMER?
As we know, the primary object of the Act is protection of consumers. Therefore, the definition
of the term ‘consumer’ is most important, because unless a person is a consumer within the meaning
of the Act, he cannot avail himself of any remedies provided under the Act. A buyer of goods or
hirer of services can approach consumer court and file his complaint only when he is a consumer,
and not otherwise.
Every buyer of goods or hirer of services cannot be termed as consumer. The Act extends
protection to a common citizen who, because of time and money constraint, cannot seek relief
against the organised and well-placed traders and manufacturers. As such, the inexpensive and
cheap remedy under the Act must not be allowed to be used by the commercial organisations whose
purpose of buying and selling is not the same as that of a common man. Therefore, the legislatures
intended to exclude the traders and commercial organisations from the definition of consumer.
The definition of consumer is as follows:
Consumer means any person who –
1. buys any goods for a consideration which has been paid or promised or partly paid and
partly promised, or under any system of deferred payment and includes any user of such
goods other than the person who buys such goods for consideration paid or promised or
partly paid or partly promised or under any system of deferred payment when such use is
made with the approval of such person, but does not include a person who obtains such
goods for resale or for any commercial purpose; or
2. hires or avails of any services for a consideration which has been paid Respondent promised
or partly paid and partly promised, or under any system of deferred payment and includes
any beneficiary of such services other than the person who hires or avails of the services
for consideration paid or promised , or partly paid and partly promised, or under any system
of deferred payment, when such services are availed of with the approval of the first
mentioned person but does not include a person who avails of such services for any
commercial purpose.
Explanation: For the purposes of this clause, ‘commercial purpose’ does not include use
by a person of goods bought and used by him and services availed by him exclusively for the
purposes of earning his livelihood by means of self-employment.
OTHER LAWS 253
Explanation
The following points would make the definition easy to understand:
1. Consideration. Consumer is a person who buys goods or hires services for consideration.
In other words, he is a person who pays the price of what he purchases. If goods are given free of
charge, the receiver of good is not a consumer. Such consideration i.e. price may be paid or promised
(i.e. bought on credit) or it may be partly paid and partly promised. Further, the consumer may agree
to pay the price in instalments. A person who registers himself for LPG gas connection with the
distributor is a consumer though at that time he pays nothing and the payment is deferred till the time
of release of gas connection. Mode of payment of consideration is not important. What is important
is that such person must be receiving the goods or services for some price.
If the goods are given as gift or distributed free of charge as sample in any promotion campaign
of a new product, the recipient of such goods is not a consumer and therefore cannot file any
complaint in consumer courts against any defects in the goods.
A patient who receives treatment in a private hospital and pays for the same is a consumer
within the meaning of this definition. However, if he receives medical treatment in any charitable
hospital free of charge, he is not a consumer. Similarly, a patient receiving medical treatment free of
charge from any government hospital is also not a consumer. During early years after the passing of
this Act, this point was heavily debated. It was argued that so far as government hospitals are
concerned, it cannot be said that medical treatment is given free of charge because such hospitals
are run with the money collected from people by way of taxes and therefore consideration is indirectly
paid by the person who receives medical treatment at government hospitals. This contention has
been rejected on the ground that payment of taxes is under a statutory obligation without reference
to any special benefit to the tax-payer. Liability of a person to pay tax is on the basis of his capacity
to pay and not on the basis of his likelihood of using any government services. Hence, even a tax-
payer who uses government services free of charge is not a consumer as payment of taxes by him
cannot be treated as consideration.
2. User of goods/services with approval. In addition to buyer of goods or hirer of services,
as discussed above, any person who actually uses the goods or services with the approval of such
buyer or hirer is also a consumer under the Act and hence is entitled to all the reliefs which are
available to the buyer or hirer. The fact that there is no privity of contract between the seller of
goods and its user is no bar against the user of goods to claim relief against the seller under the Act.
For example, if a father buys certain cosmetics which are used by his son, the son is the user of
goods with approval of father and is a consumer just like his father. Hence, if the son suffers from
any injury to skin by use of such cosmetics, he is entitled to proceed against the dealer of cosmetics
under this Act. The fact that he has not paid the consideration or that there is no contract between
the son and the dealer shall not deprive the son of any remedies which are available to the father.
What is necessary is that the use of goods or services by such person must be with the approval of
the buyer of goods or hirer of services. Again, the approval may be express or implied.
3. Commercial purpose. A person who obtains goods for resale or commercial purpose is
not a consumer. Such person himself is a trader and therefore he cannot be equated with ‘consumer’
as contemplated under the Act. Thus, a person buying a note-book for using it for himself is a
consumer, but he cannot be called a consumer if he buys a large quantity of note-books in wholesale
for the purpose of selling them in retail to other individual users. Such other individual buyers would,
of course, be consumers.
Going by this definition, therefore, a purchaser of a telephone instrument for his residential use
would be a consumer, but if he is running a telephone booth and is buying the instrument so that
people can use the same by paying requisite charges for the same, he would not be a consumer, as
he is making use of the instrument for commercial purpose. Similarly, a person buying a car would
not be a consumer with respect to the car, if he is using it as taxi, as in such a case, he would be using
the car for commercial purpose.
However, the explanation appended to the definition further clarifies what is not commercial
purpose. Accordingly, commercial purpose does not include use by a person of goods bought and
used by him and services availed by him exclusively for the purposes of earning his livelihood by
means of self-employment.
This explanation has been subsequently added to the definition so as to bring within the purview
of the definition all those persons who would not have been considered consumers by virtue of the
earlier part of the definition. For example, a person who is running a business of travel agency
cannot be called a consumer under the Act in respect of any car he buys for his business, because
he is using the car for commercial purpose. Similarly, a person buying a car and using it as taxi also
cannot be called consumer on the same principle of ‘use for commercial purpose’. Although both
the cases have a common element of use of goods for commercial purpose, there is a noticeable
difference between the two. A taxi driver cannot be compared with the owner of a travel agency.
Let us take another example where a tailoring firm buys a sewing machine for its business.
Obviously, the firm cannot be called a ‘consumer’ within the meaning of this Act because it is
making use of the sewing machine for commercial purpose. Now consider the example of a poor
widow. Having no other source of income and having no skills for better employment, she buys a
sewing machine so that she can stitch clothes of people in the neighborhood, and earn some money
for her survival. Going by the principle of ‘use of goods for commercial purpose’, she would also not
be a consumer within the meaning of the Act. Placing the widow and the tailoring firm on the same
footing would be unjust and contrary to the objects of the Act as the avowed purpose of the Act is
to protect the interest of common consumers.
The Act therefore lays down that commercial purpose does not include use of goods for earning
livelihood by means of self-employment. Thus, in our examples discussed above, the taxi driver, who
drives the car himself for earning his livelihood would be a consumer with respect to the car.
However, if he employs another person as driver, he would no be a consumer since he is not using
the goods by means of self-employment. A tailoring firm is not a consumer with respect to the
sewing machines bought by it because the machines are used by the tailors engaged by the firm.
The widow stands on the difference footing since she is herself using the sewing machine, i.e. using
OTHER LAWS 255
the goods by means of self-employment. She is, therefore, consumer under the Act with respect to
the sewing machine, and as such, she can approach the consumer court if the machine is defective.
Unfair Trade Practices
Let us first go through the definition of unfair trade practices as given under the Act. It is
reproduced below.
‘Unfair trade practice’ means a trade practice which, for the purpose of promoting the sale,
use or supply of any goods or for the provision of any service, adopts any unfair method or unfair or
deceptive practice including any of the following practices, namely –
1. the practice of making any statement, whether orally or in writing or by visible representation
which, -
(a) falsely represents that the goods are of a particular standard, quality, quantity, grade,
composition, style or model;
(b) falsely represents that the services are of a particular standard, quality or grade;
(c) falsely represents any re-built, second-hand, renovated, reconditioned or old goods as new
goods;
(d) represents that the goods or services have sponsorship, approval, performance, characteristics,
accessories, uses or benefits which such goods do not have;
(e) represents that the seller or the supplier has a sponsorship or approval or affiliation which
such seller or supplier does not have;
(f) makes a false or misleading representation concerning the need for, or the usefulness of,
any goods or services;
(g) gives to the public any warranty or guarantee of the performance, efficacy or length of life
of a product or of any goods that is not based on an adequate or proper test thereof;
provided that where a defence is raised to the effect that such warranty or guarantee
is based on adequate or proper test, the burden of proof of such defence shall lie on
the person raising such defence.
(h) Makes to the public a representation in a form that purports to be-
(i) a warranty or guarantee of a product or of any goods or services; or
(ii) a promise to replace, maintain or repair an article or any part thereof or to repeat or
continue a service until it has achieved a specified result,
if such purported warranty or guarantee or promise is materially misleading or if there
is no reasonable prospect that such warranty, guarantee or promise will be carried out;
(i) Materially misleads the public concerning the price at which a product or like products or
goods or services, have been or are, ordinarily sold or provided, and, for this purpose, a
representation as to price shall be deemed to refer to the price at which the product or
goods or services has or have been sold by sellers or provided by suppliers generally in the
relevant market unless it is clearly specified to be the price at which the product has been
sold or services have been provided by the person by whom or on whose behalf the
representation is made.
(j) Gives false or misleading facts disparaging the goods, services or trade of another person.
Explanation: For the purposes of this clause, a statement which is-
(i) expressed on an article offered or displayed for sale, or on its wrapper or container, or
(ii) expressed on anything attached to, inserted in, or accompanying an article offered or
displayed for sale, or on anything on which the article is mounted for display or sale, or
(iii) contained in or on anything that is sold, sent, delivered, transmitted or in any other
manner whatsoever made available to a member of the public, shall be deemed to be
a statement made to the public by, and only by, the person who had caused the statement
to be so expressed, made or contained.
2. permits the publication of any advertisement, whether in any newspaper or otherwise, for
the sale or supply at a bargain price, of goods or services that are not intended to be offered
for sale or supply at the bargain price, or for a period that is, and in quantities that are,
reasonable, having regard to the nature of the market in which the business is carried on, the
nature and size of business, and the nature of the advertisement.
Explanation: For the purpose of this clause, ‘bargaining price’ means
(a) a price that is stated in any advertisement to be a bargain price, by reference to an
ordinary price or otherwise; or
(b) a price that a person who reads, hears or sees the advertisement, would reasonably
understand to be a bargain price having regard to the prices at which the product
advertised or like products are ordinarily sold.
3. permits –
(a) the offering of gifts, prizes or other items with the intention of not providing them as
offered or creating impression that something is being given or offered free of charge
when it is fully or partly covered by the amount charged in the transaction as a whole;
(b) the conduct of any contest, lottery, game of chance or skill, for the purpose of promoting,
directly or indirectly, the sale, use or supply of any product or any business interest.
4. withholding from the participants of any scheme offering gifts, prizes or other items free of
charge, on its closure, the information about final results of the scheme.
Explanation: for the purposes of this sub-clause, the participants of a scheme shall deemed
to have been informed of the final results of the scheme where such results are within a
reasonable time published, prominently in the same newspapers in which the scheme was
originally advertised.
5. permits the sale or supply of goods intended to be used, or are of a kind likely to be used by
consumers, knowing or having reason to believe that the goods do not comply with the
standards prescribed by competent authority relating to performance, composition, contents,
design, constructions, finishing or packaging as are necessary to prevent or reduce the risk
of injury to the person using the goods;
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6. permits the hoarding or destruction of goods or refuses to sell the goods or to make them
available for sale or to provide any service, if such hoarding or destruction or refusal raises
or tends to raise or is intended to raise the cost of those or other similar goods or services.
7. Manufacture of spurious goods or offering such goods for sale or adopting deceptive practices
in the provision of services.
Explanation
Truly speaking, the term ‘unfair’ cannot ever be defined. At the most, one can give illustrations
of unfair practices indicating the intention of the legislatures as to what should be included within the
sweep of the term unfair practices. Again, the list of such unfair practices cannot be a complete and
exhaustive list because with the passage of time, business people may invent newer and different
methods of deception to defraud common consumers. Hence, the list of illustrations of unfair practices
is always open to additions.
The Act however makes an attempt to define the term ‘unfair trade practices’ by bringing out
the broad meaning of it and providing the illustrations of unfair trade practices. Inevitably, the definition
of unfair trade practice is quite lengthy. For the purpose of convenience, we shall group these unfair
trade practices in seven categories corresponding to the seven sub-sections of section 2 (r) which
defines the term unfair trade practices.
Thus, the unfair trade practices can be grouped as follows:
1. Making false statements and representations.
2. Publication of bargain price
3. Gifts and prizes
4. Withholding information about results of any scheme
5. Non-conformity to standards
6. Hoarding or destruction of goods
7. Spurious goods
We shall now discuss each of them briefly.
1. Making false statements and representations.
It is unfair trade practice on the part of a trader if he makes any false representation regarding
the quality, quantity or grade of goods or services or represents old or second hand goods as new
goods. False representation as regards any sponsorship, approval or performance of any goods or
their usefulness is also unfair trade practice. Further, making any false and baseless representation
as regards the life of any product without proper test and giving any warranty or guarantee of
repairs or replacement of product without intending to do so is also an unfair trade practice.
2. Publication of bargain price.
It is an unfair trade practice on the part of a trader to publish an advertisement for the sale of
any goods at a bargain price when he does not intend to sell the product at that price. Similarly it is
also unfair trade practice to publish any statement promising supply of goods for a period or in
quantity at the bargain price without any intention to do so.
3. Gifts and prizes.
Offering any gifts, prizes or other items with the intention of not providing them is an unfair
trade practice. Similarly, offering some product as free on the purchase of another product, when
the price of the product purportedly given free is already included in the price of the product sold is
also unfair trade practice.
Though the definition of unfair trade practice includes the practices of conducting lottery, contest
or other game of chance for the purpose of promoting the sale of any product, the Supreme Court
has, in many cases, ruled that such practices by themselves are not unfair trade practices. Conducting
a lottery or a game of chance would be unfair trade practice if the purchasers are charged separately
for their participation in the scheme. For example, where TV sets are sold along with coupons and
the lucky coupon-holder is to be awarded any prize in a subsequent lucky-draw of coupons, it cannot
be called lottery in the accepted sense of the word and there would be no unfair trade practice. The
purchaser of a TV set would get his money’s worth in the form of TV set itself. He does not have
to pay any separate price for participating in the scheme of lucky-draw. Participation in the scheme
and standing to gain the prize is an additional benefit given to the buyer.
4. Withholding information about results of any scheme
Many traders introduce a scheme offering gifts, prizes etc. in order to induce people to buy
their products. We have already seen above that offering such gifts is not an unfair trade practice.
However, it is obligatory on the traders to declare the final results of such scheme for the information
of the buyers. Withholding such information is an unfair trade practice.
However, it is not necessary that the trader should inform the buyers individually about the final
results of the scheme. If they are published in the same newspaper in which the original scheme
was published, it shall be sufficient compliance of the requirement.
5. Non-conformity to standards
Certain statutory and competent authorities such as ISI or the ones created under standards of
weights and measures Act etc. prescribe standards in relation to goods which are sold or supplied to
buyers. These standards may be with respect of performance of goods, their design, construction,
packaging etc. to prevent or reduce the risk of injury to the person using the goods.
Selling or supplying the goods which do not comply with these requirements is an unfair trade
practice.
6. Hoarding or destruction of goods
In order to artificially increase the prices of goods or services, the traders sometimes resort to
the practice of hoarding or even destroying the goods or refuse to provide any service. It is an unfair
trade practice under the Act.
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7. Spurious goods
Spurious goods means fake or counterfeit goods or which are not genuine goods. It is an unfair
trade practice to offer such goods for sale or to adopt any deceptive practice in providing any
service.
CONSUMER DISPUTES REDRESSAL AGENCIES

The Consumer disputes redressal agencies are the consumer courts established under the Act
for the purpose of settling the disputes of consumers. There are three such agencies operating at
District, State and National level. The composition and functions of these agencies are as follows:
District Forum
Establishment of District Forum
1. Every State Government shall establish a ‘Consumer Disputes Redressal Forum’ to be
known as ‘District Forum’ in each district of the State.
2. The State Government may establish more than one District Forum in a district if necessary.
Composition of District Forum
1. Each District Forum shall consist of –
(a) A person who is, or has been, or is qualified to be a District Judge, who shall be its
President;
(b) Two other members, one of whom shall be a woman, who shall be not less than thirty-
five years of age and shall possess a bachelor’s degree from a recognised university.
They shall be the persons of ability, integrity and standing, and have adequate knowledge
and experience of at least ten years in dealing with problems relating to economics,
law, commerce, accountancy, industry, public affairs or administration.
2. A person shall be disqualified for appointment as member, if-
(a) he has been convicted and sentenced to imprisonment for an offence involving moral
turpitude; or
(b) he is an undischarged insolvent; or
(c) he is of unsound mind and stands so declared by a competent Court; or
(d) he has been removed or dismissed from the service of the Government or a body
corporate owned or controlled by the Government; or
(e) he has such other disqualifications as may be prescribed by the State Government.
2. Every member shall hold office for a period of five years from the date of appointment. A
member can be re-appointed for another term if he is not otherwise disqualified. The age of
retirement for the members is sixty-five years.
Jurisdiction of District Forum
1. The District Forum has jurisdiction to decide the complaints where the value of the goods or
services and the compensation claimed does not exceed rupees twenty lakhs.
2. A complaint shall be instituted in District Forum within the local limits of whose jurisdiction-
(a) the opposite party, or each of the opposite parties, where there are more than one,
actually and voluntarily resides or carries on business or personally works for gain at
the time of filing the complaint; or
(b) any of the opposite parties, where there are more than one, actually or voluntarily
resides or carries on business or personally works for gain. However, in such case
either the permission of District Forum has to be obtained or the opposite parties who
do not reside or carry on any business or personally work for gain, have to give their
consent; or
(c) the cause of action, wholly or in part, arises.
STATE COMMISSION
Establishment of State Commission
Every State Government shall establish for the State a ‘Consumer Disputes Redressal
Commission’ to be known as ‘State Commission’ for the State by issuing a notification in that behalf.
Composition of State Commission
1. Each State Commission shall consist of –
(a) A person who is or has been a Judge of High Court who shall be its President;
(b) Not less than two members one of whom shall be a woman who shall not be less than
thirty-five years of age and shall possess a bachelor’s degree from a recognised
University. They shall be persons of ability, integrity and standing, and have adequate
knowledge and experience of at least ten years in dealing with problems relating to
economics, commerce, law, accountancy, industry, public affairs or administration.
Not more than half of the members shall be from judicial background i.e. not having
experience of more than ten years of working as presiding officer of any district level
court.
2. A person shall be disqualified for appointment as a member, if-
turpitude; or
(c) he is of unsound mind and stands so declared by a competent Court; or
(d) he has removed or dismissed from the service of the Government or a body corporate
owned or controlled by the Government; or
(e) he has such financial or other interest, as is likely to affect prejudicially the discharge
by him of his functions as a member; or
(f) he has such other disqualifications as may be prescribed by the State Government.
3. Every member shall hold office for a period of five years from the date of appointment. A
member can be re-appointed for another term if he is not otherwise disqualified. The age of
retirement for the members is sixty-seven years.
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Jurisdiction of State Commission

1. State Commission has jurisdiction to entertain complaints where the value of the goods or
services and compensation claimed exceeds rupees twenty lakhs but does not exceed rupees
one crore.
2. It can entertain and decide appeals against the orders of any District Forum within the
State.
3. When it appears that any District Forum has made any error of law or jurisdiction in any
case pending before it, the State Commission can call for the records of the case and pass
appropriate orders.
4. A complaint shall be instituted in a State Commission within the limits of whose jurisdiction.-
(a) The opposite party or each of the opposite parties, where there are more than one, at
the time of the institution of the complaint, actually and voluntarily resides or carries on
business or has branch office or personally works for gain; or
(b) Any of the opposite parties, where there are more than one, at the time of the institution
of the complaint, actually and voluntarily resides, or carries on business or has a branch
office or personally works for gain. However, in such case either the permission of the
State Commission has to be obtained or the parties who do not reside or carry on
business or personally work for gain have to give their consent; or
(c) The cause of action, wholly or in part, arises.
NATIONAL COMMISSION
Establishment of National Commission
The Central Government shall establish a ‘National Consumer Disputes Redressal Commission’
to be known as ‘National Commission by issuing a notification in that behalf.
Composition of the National Commission
1. The National Commission shall consist of-
(a) a person who is or has been a Judge of the Supreme Court, to be appointed by the
Central Government, who shall be its President;
(b) not less than four members, one of whom shall be a woman, who shall not be less than
thirty-five years of age and shall possess a bachelor’s degree of any recognised
University. They shall be the persons of ability, integrity and standing and have adequate
knowledge and experience of at least ten years in dealing with problems relating to
economics, law, commerce, accountancy, industry, public affairs or administration.
Not more than half of the members shall be from judicial background i.e. not having
more than ten years experience as Presiding Officer of any district level court.
2. A person shall be disqualified for appointment as a member, if-
turpitude; or

(c) he is of unsound mind and stands so declared by a competent court; or
(d) he has been removed or dismissed from the service of the Government or a body
corporate owned or controlled by the Government; or
(e) he has such financial or other interest as is likely to affect prejudicially the discharge
by him of his functions as a member; or
(f) he has such other disqualifications as may prescribed by the Central Government.
3. Every member shall hold office for a period of five years from the date of his appointment.
A member can be re-appointed if he is not otherwise disqualified. The age of retirement for
a member is seventy years.
Jurisdiction of the National Commission
1. The National Commission shall have the jurisdiction to entertain the complaints where the
value of goods or services and compensation claimed exceeds rupees one crore.
2. It shall decide the appeals against the orders of any State Commission.
3. Where any State Commission has made any error of law or jurisdiction in any case, the
National Commission can call for the records and pass appropriate orders.
4. The National Commission may, in the interest of justice, transfer any complaint pending
before the District Forum of one State to a District Forum of another State, and similarly,
from one State Commission to another State Commission.
PROCEDURE ON ADMISSION OF COMPLAINT

We have already seen above that a complaint can be filed by either a consumer or any voluntary
agency or even by any Government. Complaint means an allegation about defect in goods or deficiency
in service, or about restrictive trade practice or unfair trade practice etc. A complaint can be filed in
any of the Consumer Disputes Redressal Agencies (Consumer Courts) according to its jurisdiction.
The procedure to be followed by these agencies is the same and can be summarized as follows.
For the purpose of convenience we shall refer to these Consumer Courts, i.e. Consumer disputes
redressal agencies (District forum, State commission and National commission) as Court:
1. On admission of complaint, a copy of the complaint is forwarded to the opposite party with
a direction to submit his version of the case, within thirty days or within such time as may be
extended.
2. The opposite party may either deny the allegations or admit the same. If the allegations are
admitted there is no question of following the procedure any further and appropriate orders
will be passed. If the opposite party denies the allegations or does not respond at all, the
case shall be taken up for hearing.
3. If the complaint is about defect in goods which needs proper analysis or test of goods, the
Court shall obtain a sample of goods from the complainant and after proper seal, shall send
it to the appropriate laboratory for the analysis. The laboratory shall conduct the test as per
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the direction of the court in order to find out whether the goods suffer from any defect as
complained. It shall submit its report and findings to the court within 45 days or within such
time as extended by the court.
4. Before sending the sample of goods to the laboratory for analysis, the court may direct the
complainant to deposit the necessary fees towards the cost of such analysis. The court shall
remit the fees to the laboratory.
5. The Court shall remit the amount of deposited by the complainant to the credit of the
Appropriate laboratory to enable it to carry out the analysis. On receiving the report from
the laboratory, the court shall forward its copy to the Opposite party with its remarks.
6. If the correctness of the findings of the appropriate laboratory or the methods of analysis
adopted by it are disputed by either of the parties, the court shall require the disputing party
to submit its objections in writing and then shall give an opportunity of being heard to both
the parties as regards the correctness or otherwise of the report of the appropriate laboratory.
It shall then issue an appropriate order.
7. Alternatively, the court shall settle the dispute on the basis of evidence brought before it by
the parties. If the opponent does not present his case, the court shall ex-parte settle the
dispute on the basis of evidence brought to its notice by the complainant. If the complainant
fails to remain present on the day of hearing the dispute, the court may either dismiss the
complaint for default or decide it on merits.
8. Every complaint shall be heard as expeditiously as possible and no adjournments shall be
ordinarily granted unless sufficient cause is shown by the party seeking adjournment. Normally
a complaint shall be settled within a period of five months from the date the opposite party
receives the notice, where it requires analysis or testing the goods. In other cases, i.e.
where such analysis of goods is not necessary, the complaint shall be settled within a period
of three months. If any complaint cannot be settled within the time as mentioned earlier, the
court has to specify the reasons in writing for such delay.
9. Where a complaint instituted before the District Forum, the State Commission or, as the
case may be, the National Commission is found to be frivolous or vexatious, it shall, for
reasons to e recorded in writing, dismiss the complaint and make an order that the complainant
shall pay to the opposite party such cost, not exceeding ten thousand rupees, as may be
specified in the order.
10. The District forum shall be deemed to be a Civil Court while deciding any complaint and
shall have the same powers as are vested in a Civil Court, in respect of the following
matters, namely-
(a) the summoning and enforcing the attendance of any defendant or witness and examining
the witness on oath;
(b) the discovery and production of any document or other material object producible as
evidence;
(c) the requisitioning of the report of the concerned analysis or test from the appropriate
laboratory Respondent from any other relevant source;
(d) issuing of any commission for the examination of any witness, and
(e) any other matter which may be prescribed.
It may be noted that the procedure on admission of complaint is the same for all the three
forums, i.e. District Forum, State Commission and the National Commission.
CONSUMER PROTECTION COUNCILS

For the purpose of promoting the interests of consumers throughout the country and for protection
of their rights, the Act provides for the establishment of Consumer Protection Councils. These
councils are at three levels; Central, State and District. These councils are not judicial authorities
like Consumer disputes redressal forums. They do not decide the consumer disputes. They are
established rather for the purpose creating awareness among the consumers and for protecting their
rights.
The objects and functions of the councils at all the three levels are the same, i.e. protection of
rights of consumers. Before we discuss their constitution, let us understand the rights of consumers,
as recognised under the Act, for the protection of which these councils are brought into force.
Rights of Consumers
The objects of the councils shall be to promote and protect the rights of the consumers such as –
1. the right to be protected against the marketing of goods and services which are hazardous
to life and property;
2. the right to be informed about the quality, quantity, potency, purity, standard and price of
goods or services, as the case may be, so as to protect the consumer against unfair trade
practices;
3. the right to be assured, wherever possible, access to a variety of goods and services at
competitive prices;
4. the right to be heard and to be assured that consumer’s interests will receive due consideration
at appropriate Forums;
5. the right to seek redressal against unfair trade practices or restrictive trade practices or
unscrupulous exploitation of consumers; and
6. the right to consumer education.
Central Council
1. The Central Government shall establish by issuing notification a Council to be known as
Central Consumer Protection Council, referred to as Central Council.
2. The Central Council shall consist of Minister of the Consumer Affairs in the Central
Government, who shall be its Chairman, and such number of other members representing
such interests as may be prescribed.
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3. The objects of the Central Council shall be to promote and protect the rights of the consumers.
(As stated earlier)
4. The Central Council shall meet as and when necessary, but at least one meeting shall be
held every year. The meetings shall be conducted at such place and time as thought fit by
the Chairman and as per the procedure prescribed.
State Council
1. The State Government shall, by issuing notification, establish a Council to be known as
“Consumer Protection Council for …(name of the State)....”, referred to as State Council.
2. The State council shall consist of –
(a) The Minister of Consumer Affairs in the State Government who shall be its Chairman;
(b) Such number of other official or non-official members representing such interests as
may be prescribed by the State Government;
(c) Wuch number of other official or non-official members, not exceeding ten, as may be
nominated by the Central Government;
3. The objects of every State Council shall be to promote and protect, within the State, the
rights of consumers as laid down earlier.
4. The State Council shall meet as and when necessary, but at least two meetings shall be held
every year. The meetings shall be conducted at such time and place as thought fit by the
Chairman and as per the procedure prescribed.
District Council
1. The State Government shall establish for every district, by notification, a council to be
known as the District Consumer Protection Council, referred to as ‘District Council’.
2. District Council shall consist of –
(a) The Collector of the district, by whatever name called, who shall be its Chairman;
(b) Such number of other official and non-official members representing such interests as
may be prescribed by the State Government;
3. The objects of every District Council shall be to promote and protect the interests of consumers
within the district, as laid down earlier.
4. The District Council shall meet as and when necessary, but at least two meeting shall be
held every year. The meetings shall be conducted at the place and time as thought fit by the
Chairman and shall be as per the prescribed procedure.
We are all familiar with the transactions involving sale and purchase of property. In the sale of
property the interests in such property are transferred from one person to another person called
buyer who, after such purchase, becomes entitled to enjoy the property. We understand the term
‘property’ to mean various commodities, products, medicines and so on. We also know about immovable
property such as land and buildings. Thus, whether movable or immovable, property is the creation
of wealth by an individual which he can use and enjoy to the exclusion of the others. The right of an
individual to enjoy his property excluding the others at his wish is the greatest incentive for him to
work and create wealth. If the fruits of hard work of an individual are to be shared by all, he would
be reluctant to put in his efforts and would hardly be inclined to create wealth.
The assurance given to an individual by the society that he can enjoy the benefits of his work to
the exclusion of the others is therefore an important right not only for the richness of that individual
but also for the progress of the society as a whole.
What is true for the movable and immovable property is also true for the intellectual property.
Intellectual property is not a tangible thing like other property. It is the creation of human intellect
and is in an abstract form such as ideas, designs, poems and music. When used and applied, it can
create tangible things of great value. For example, a person may purchase a vacuum flask and, in his
capacity of its owner, use it exclusively for himself. It is his property. Such flask, at present, can
keep the liquid stored in it hot or cold for about 12 hours. Another person may work hard on improving
the technology of manufacturing such vacuum flask and invent a kind of vacuum flask which can
keep the liquid stored in it hot or cold for one week. This improvement or invention is the result of
intellectual exercise of that person. If such person uses the technology invented by him only for
making the flasks for himself, the society will be deprived of the benefits of his invention. On the
other hand, if such technology is copied by others in making flasks, the efforts of the inventor prove
worthless for him. Therefore, if the law of the land permits the inventor go in for mass-scale production
of flasks with the new technology and prohibits others from using the new method of flask-making
without the permission of the inventor, the inventor would be certainly benefited. This way, more
and more persons would be motivated to work hard to invent new product or new methods of
making the products. This right of an individual not to have his new product or process of making a
product copied by others is known as intellectual property right as his invention is treated as his
intellectual property.
Intellectual property can be classified into different categories and the respective property
rights are governed under different Acts. Different classes of intellectual property are as follows:
Patent: A person may invent a new product, machine or substance. Similarly, he may invent a
new process or technology for making the existing products. It is an inventive step which is capable
of industrial application and therefore of great value. Such invention is his intellectual property. The
inventor may apply to the specified Government Authority for grant of patent rights with respect to
his invention. Upon enquiry, the Government Authority issues a document called ‘patent’ to him
prohibiting others from making use of the invention without the consent of the inventor. These rights
are protected under the Patents Act.
Copyright: This kind of intellectual property includes literary and artistic work. Persons who
write novels or poems can claim similar rights for their creations. A person may write a play or
compose a song which is the result of his intellectual efforts. His rights with respect to such work of
art, literature, music etc. are known as copyrights. No one can use, copy or reproduce such artistic
work without the permission of the originator. Such rights are protected under the Copyrights Act.
OTHER LAWS 267
Trade mark: It is a different type of intellectual property. It is a peculiar sign used to distinguish
the goods of one enterprise from those of other enterprises. There cannot be any value attached to
a trade mark itself though it is designed with intellectual efforts. The value of a trade mark is in the
fact that consumers recognise the goods to be of a particular enterprise on the basis of the trade
mark. Thus, for consumers, a trademark is an identity of the enterprise. Any enterprise which
misuses the trade mark of another enterprise is, in effect, misappropriating the goodwill of that
enterprise. Trade marks are governed under the Trade Marks Act.
Design: External features of a product or its internal configuration may be newly designed by
a manufacturer so as to have the effect of cost cutting or better utility. Such new shape or design is
the result of intellectual efforts of the person who has, for the first time, thought of and applied the
new design. It is therefore a form of intellectual property. The rights to exclusively use the new
design are protected under the Design Act.
Let us now briefly discuss the important provisions of these legislations one by one.
THE PATENTS ACT, 2002

Patent is a right conferred upon a person with respect to his invention. An invention means
inventing a new product or process involving an inventive step and capable of industrial application.
Inventive step means a feature of an invention that involves technical advance as compared to the
existing knowledge or having economic significance or both and that makes the invention not obvious
to a person skilled in the art.
Invention needs to be distinguished from discovery. Discovery adds to the amount of human
knowledge, but it does so only by lifting the veil and disclosing something which before had been
unseen or dimly seen. Invention also adds to human knowledge, but not merely by disclosing something.
Invention necessarily involves also the suggestion of an act to be done and it must be an act which
results in a new product, or a new result, or a new process, or a new combination for producing an
old product or an old result.
Application for patent
The following points may be noted with respect to procedure for making an application for
patent.
1. It is in the interest of the inventor to get his invention patented because only after getting
such patent that protection by way of monopoly is available to him for a certain period. The
inventor has to make an application in this behalf to the authority called ‘Controller of
Patents’ which is created under the Patents Act.
2. Any person who claims to be true and first owner of the invention can make such application.
In the event of death of such person before patent is granted, his legal representative can
make the application. Similarly, if such inventor has assigned his rights, such assignee can
apply for patent. For example, if an engineer employed in any institute has assigned his
interests in the invention to the employer, then such employer becomes the assignee and
may apply for patent.
3. Every application for a patent shall be for one invention only and it has to be made in the
prescribed form along with necessary fees. If any person, other than the inventor is making
the application, he has to submit evidence to show that he has right to such invention.
4. The application must completely describe all the aspects of invention such as its operation
or use and the method by which it is to be performed. It must be accompanied by a statement
giving technical information about the invention.
Grant of patent
On receiving the application for patent, the Controller refers it to the examiner for further
examination. It is the duty of the examiner to ascertain whether the application is in compliance with
the requirements and whether a similar patent right is already held by another person.
The application for patent is published in the official gazette for the information of public so that
any person may raise an objection, if any, to the grant of patent.
If there are any objections to the application, the same are notified to the applicant and he is
called upon to satisfactorily answer those objections within stipulated time. If the applicant is unable
to satisfactorily answer the objections within the specified period, the Controller refuses to grant
patent and the application is deemed to be withdrawn by the applicant.
If the applicant satisfies the Controller, patent is granted.
The term of every patent is twenty years from the date of filing of the application for the
patent.
General principles applicable to working of patented inventions
The Act lays down the following general principles which shall be taken into account in
implementing the provisions of the Act:
1. that patents are granted to encourage inventions and to secure that the inventions are worked
in India on a commercial scale and to the fullest extent that is reasonably practicable without
undue delay;
2. that they are not granted merely to enable patentees to enjoy a monopoly for the importation
of the patented product;
3. that the protection and enforcement of patent rights contribute to the promotion of technological
innovation and to the transfer and dissemination of technology, to the mutual advantage of
producers and users of technological knowledge and in a manner conducive to social and
economic welfare, and to a balance of rights and obligations;
4. that patents granted do not impede protection of public health and nutrition and should act as
instrument to promote public interest specially in sectors of vital importance for socio-
economic and technological development of India;
5. that patents granted do not in any way prohibit Central Government in taking measures to
protect public health;
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6. that the patent right is not abused by the patentee or person deriving title or interest on
patent from the patentee, and the patentee does not resort to practices which unreasonably
restrain trade and adversely affect the international transfer of technology; and
7. that patents are granted to make the benefit of the patented invention available at reasonably
affordable prices to the public.
Rights of patentee
The person who has been granted a patent is called patentee. He is entitled to deal with the
patent right just like any other property.
1. When the patent is for a product, the patentee can prevent third parties from making, using,
or selling that product in India, without his consent;
2. When the patent is for a process, the patentee can prevent third parties from using or selling
that process in India, without his consent.
3. If any person is guilty of infringement of any of the rights of patentee, he shall be liable to
pay compensation to patentee.
What inventions are not patentable?
Invention has been defined as a ‘new product or process involving an inventive step and
capable of industrial application’. Inventive step has been defined as an ‘invention not obvious to
a person skilled in the art’. Therefore, for an invention to qualify for patent, three conditions must be
satisfied, namely –
(a) the product or process has to be new;
(b) it has to be non-obvious; and
(c) it has to be useful, i.e., capable of industrial application.
An invention which does not satisfy the above three conditions cannot be patented. Further,
certain inventions of an individual need to be made available to the society as a whole in the larger
interests and the individual must not be allowed to enjoy the fruits of his inventions to the prejudice
of the society. For example, a doctor may invent a new method of brain surgery without causing any
pain to the patient and without any possibility of causing damage to the nervous system. The doctor
shall not be able to get patent for his invention for the simple reason that such patent would act to the
prejudice of the society and shall be against the larger interest. The invention of the doctor cannot be
the outcome of doctor’s intellectual efforts alone, without any contribution from the society.
The following inventions, therefore, are not patentable:
(a) an invention which is frivolous or which claims anything obviously contrary to well established
natural laws;
(b) an invention, the primary or intended use or commercial exploitation of which could be
contrary to public order or morality or which causes serious prejudice to human, animal or
plant life or health or to the environment;
(c) the mere discovery of a scientific principle or the formulation of an abstract theory, or
discovery of any living thing or non-living substance occurring in nature;
(d) the mere discovery of any new property or new use for a known substance or of the mere
use of a known process, machine or apparatus, unless such known process results in a new
product or employs at least one new reactant;
(e) a substance obtained by a mere admixture resulting only in the aggregation of the properties
of the components thereof or a process for producing such substance;
(f) the mere arrangement or re-arrangement or duplication of known devices, each functioning
independently of one another, in a known way;
(g) a method of agriculture or horticulture;
(h) any process for the medicinal, surgical, curative, prophylactic diagnostic, therapeutic or
other treatment of human beings or to increase their economic value or that of their products;
(i) plants or animals in whole or any part thereof other than micro-organisms but including
seeds, varieties and species and essentially biological processes for production or propagation
of plants and animals;
(j) a mathematical or business method or a computer programme per se or algorithms;
(k) a literary, dramatic, musical or artistic work or any other aesthetic creation whatsoever
including cinematographic works and television productions;
(l) a mere scheme or rule or method of performing mental act or method of playing game;
(m) a presentation of information;
(n) topography of integrated circuits;
(o) an invention which, in effect, is traditional knowledge or which is an aggregation or duplication
of known properties of traditionally known component or components; and
(p) an invention relating to atomic energy.
Compulsory Licenses
An important feature of the Patents Act is compulsory licence. It is a licence issued to any
person other than the patent holder to make use of the invention for which the patent was granted.
A person who has been issued such licence can put the invention to industrial use even without the
consent of the patentee. Let us first understand the rationale behind the provisions relating to such
compulsory licence.
A foreign Company may obtain a patent in India for its product and in spite of the patent, may
not produce the goods in India. It may instead choose to produce the product elsewhere and compel
the prospective Indian buyers to import the goods. At the same time, no Indian Company would be
authorised to produce the product in India owing to the fact that the product has been patented. This
would adversely affect not only the industrial development in India but also consume large amount
of foreign exchange.
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The Act therefore gives a period of three years to the patentee to put the invention into use.
After three years, any interested person can make an application to the Controller for compulsory
licence to use the patented invention. Such licence shall be granted to the applicant, if the following
conditions are satisfied:
1. the reasonable requirements of the public with respect to the patented invention have not
been satisfied; or
2. the patented invention is not available to the public at a reasonably affordable price; or
3. the patented invention is not worked in the territory of India.
Revocation of Patents
A patent granted to any patentee may be revoked by the Controller on various grounds. Some
of them are listed below. Upon such revocation, the rights of the patentee are terminated.
1. If the patentee himself makes an application to the Controller for the surrender of his
patent; (it is called surrender of patent, however it does not operate until the Controller
formally orders revocation)
2. If the patent was granted on the application of a person who was not entitled to make such
application;
3. If the patent was obtained wrongfully in contravention of the rights of any person:
4. If the subject of patent was not an invention as defined under the Act;
5. If, having regard to what was publicly known or publicly used in India, it did not involve any
inventive step;
6. if the invention was not useful;
7. If the patent was obtained on a false suggestion or representation;
COPYRIGHT ACT, 1957

The other form of intellectual property is the copyright which is a right granted to the producers
of creative and artistic works. When any work of art such as literature, music or drama is copyrighted,
it acts as a prohibition to others from copying or reproducing the copyrighted material. For such
infringement, the copyright holder can sue the person making unauthorised use of copyrighted work
and claim compensation.
Like Patent Act, the Copyright Act is also based on the principle that one who is the originator
of a new idea or work of art shall be the sole beneficiary of its fruits. Others are prevented from
copying his work and gaining a fraudulent benefit.
It is necessary to understand the difference between copying an idea and copying a work.
The Copyright Act protects the rights of the creator as regards the form, in which his work is put or
presented, and not the idea or concept behind such work. Thus, it is the mode and manner in which
an idea is presented which is the subject matter of copyright. Copyright cannot be with respect to
the idea itself, for the simple reason that there can never be any original idea under the Sun. Every
idea builds and develops on some other idea already known to people. To put it in different words,
Copyright does not protect theme as theme does not sell. It is the expression of theme that is
protected under the Act.
Let us take an illustration to understand the point. An author writes a story on the theme of two
brothers separated in their early childhood; one becoming a highly placed police official and the
other a dacoit. The story further develops and presents to us a re-union of two brothers where the
police officer is constrained by law to arrest his brother. The commitment to duty prevails over
personal feelings and the police officer puts the hand-cuffs on his brother notwithstanding his own
emotional agony. If a movie is based on this theme, what can be copyrighted is the mode of presentation
of this theme; various scenes from the movie, the songs etc., but the theme itself cannot get the
protection of copyright.
It is common knowledge that there are at least one dozen Hindi films based on such themes.
However, there is no violation of copyright because the subsequent film maker has merely copied
the idea and not the form in which the idea is expressed.
Having thus understood the principle of copyright protection, it would be enlightening to read
the guidelines of the Supreme Court on this point. The Supreme Court has summarised the law on
this point as follows:
1. There can be no copyright in an idea, principle, subject-matter, themes, plots or historical or
legendary facts and violation of copyright in such cases is confined to the form, manner and
arrangement and expression of idea by the author of the copyright work.
2. Where the same idea is being developed in a different manner, it is manifest that the source
being common, similarities are bound to occur. In such a case, courts should not determine
whether or not the similarities are on the fundamental or substantial aspects of the mode of
expression adopted in the copyrighted work. If the defendant’s work is nothing but a literal
imitation of copyrighted work with some variations here and there, it would amount to
copyright violation.
3. The surest and safest test to determine whether or not there has been a violation of copyright
is to see if the reader, spectator or viewer after having read or seen both the works is clearly
of the opinion and gets an unmistakable impression that the substantial work appears to be
a copy of the original.
4. Where the theme is the same but is presented and treated differently so that the subsequent
work becomes a completely new work, no question of copyright arises.
5. Where, however, apart from the similarities appearing in the two works, there are also
material and broad dissimilarities which negative the intention to copy the original and the
coincidence appearing in the two works are clearly incidental, no infringement of the copyright
comes into existence.
6. As violation of copyright amounts to an act of piracy, it must be proved by clear and cogent
evidence after applying the various tests laid down by the case law.
OTHER LAWS 273
7. Where, however, the question is of violation of the copyright of stage-play by a film producer
or a director, the task of the plaintiff becomes more difficult to prove piracy. If the viewer,
after seeing the film, gets a totality of impression that the film is by and large a copy of the
original play, violation of copyright may be said to be proved.
These erudite observations by the Supreme Court would help us in understanding the meaning
of copyright and when infringement arises.
As regards what can be copyrighted, we have a very wide range of artistic works. It includes
literary work such as novels, newspaper articles, poems and similar artistic works. With the recent
amendment to the Act, computer programmes are also included in the list. Computer programme is
a set of instructions expressed in words, codes, schemes or in any other form, including machine-
readable medium, capable of causing a computer to perform a particular task or achieve a particular
result. Dramatic work includes performances of literary work in a particular method or manner,
dumb shows and even choreographic rendition. Musical work includes any original musical
composition or melody and any set musical rendition. Films include motion pictures, television
programmes and even television recording of certain events or series of events. Artistic works
refer to painting, sculpture, photographs etc.
Duration of copyright protection
A creator must enjoy the benefits of the creative work he has produced. Thus, an author who
has written a novel on some brilliant new idea must be entitled to monetary benefits out of the
publication of novel. Yet, such work should ultimately be available to the society as a whole because
the work adds to artistic progress of the society. The Copyright Act, therefore, while recognizing the
contribution of the creator, grants the protection only for a limited number of years. The duration is
as follows:
1. In the case of literary, dramatic, musical or artistic work (other than a photograph), when
published during the lifetime of the author, copyright subsists first during the lifetime of the
author. Further, it subsists for the next sixty years from the death of the author. If the work
is by two or more authors, the sixty years period is counted after the death of the author
who dies last.
2. In the case of literary, dramatic, musical or artistic work (other than a photograph) which is
anonymous or pseudonymous, copyright is for sixty years from the date of publication.
3. For photographs and films, the copyright is available for a period of sixty years from the
year of its publication.
Registration of copyright
It is not necessary for every author or creator of any creative work to get his work registered
under the Act. However, if he desires to prosecute another for reproducing or copying his work in
future, such registration becomes helpful. The procedure for registration is very simple and is
summarised as follows:
1. Copyright office is established under the Act which is under the immediate control of the
Registrar of Copyrights. The Registrar is appointed by and works under the superintendence
and direction of the Central Government.
2. The Central Government may also appoint one or more Deputy Registrar of Copyrights and
they shall discharge such functions as are assigned to them from time to time by the Registrar.
3. A Register of copyrights is maintained at the office of the Registrar in which are entered the
names or titles of works and the names and addresses of the authors, publishers and owners
of copyright and such other particulars as may be prescribed.
4. Any person desirous of obtaining copyright with respect to any work may make an application
in the prescribed form accompanied by the prescribed fee to the Registrar of Copyrights for
entering particulars of the work in the Registrar of Copyrights.
5. After receiving an application as above, the Registrar may hold such inquiry as he deems fit
and if satisfied, shall enter the particulars of the work in the Register of Copyrights. Every
entry made in the Registrar of Copyrights shall be published by the Registrar in the Official
Gazette or in such other manner as he deems fit.
6. The Register of Copyrights shall be open to inspection at all reasonable times and any
person shall be entitled to take copies of or make extracts from such register on payment of
prescribed fees.
Infringement of copyright
Copyright infringement can be simply explained as use of copyrighted material by any person
without the consent of the copyright owner. Any person guilty of infringement of copyright may be
punished with imprisonment upto six months and a fine upto rupees fifty thousand. (However, if it is
established that such copyright infringement was not made in the course of any trade or business,
Court may grant a lesser punishment.) Any person who, in any manner, uses the copyrighted material
in contravention of the rights of the copyright owner commits infringement of copyright.
In addition to such person, any other person who knowingly allows such unauthorised use of
copyrighted material is also guilty of copyright infringement. For example, a person unauthorisedly
organising a show of a copyrighted film is guilty of copyright infringement. Additionally, the owner of
the theatre who, with the knowledge of such infringement, allows the screening of such film in his
theatre is also guilty of infringement and hence liable for punishment.
Certain acts which are not copyright infringement
The idea of granting copyright protection is to ensure that the author or creator of the work
should be its sole beneficiary and no other person should be allowed to gain from that work without
the consent of the creator. However, it must be borne in mind that every such work created is
ultimately for the benefit of the people. If any person uses or deals with such copyrighted work
without any wrongful loss to the creator, there cannot any copyright infringement.
The Act, therefore, lists various acts which do not amount to infringement. Some of them are
reproduced below:
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1. A fair dealing with a literary, dramatic, musical or artistic work for private use, research,
criticism or review;
2. Making of copies of computer programme from a personally legally obtained copy for non-
commercial personal use;
3. A fair dealing with a literary, dramatic, musical or artistic work for the purpose of reporting
current events in a newspaper or magazine;
4. The reproduction of a literary, dramatic, musical or artistic work for the purpose of a judicial
proceeding or for the purpose of a report of a judicial proceeding;
5. The reading or recitation in public of any reasonable extract from a published literary or
dramatic work;
6. The reproduction of a literary, dramatic, musical or artistic work by a teacher or student in
the course of teaching or in the examination;
7. The performance of a literary, dramatic or musical work by an amateur club or society, if
the performance is given to a non-paying audience, or for the benefit of a religious institution;
8. If any recording is heard in an enclosed room or hall, meant for for the common use of
residents in any residential premises (not being a hotel or similar commercial establishment)
as part of the amenities provided exclusively for residents.
The above list of activities which do not amount copyright infringement is not exhaustive or
complete. There are many other similar acts which are specified in the Act. However, the ones
mentioned above should give a fair idea about and insight into what is not infringement.
THE TRADE MARKS ACT, 1999

It is a long established business-custom under which the manufactures and traders of goods
use certain marks for their products in order to distinguish them from the goods of others. A
manufacturer of goods who has acquired reputation for distinctive features of his goods would
obviously desire to derive benefits from such goodwill. The most common and sure way of doing this
is to urge the buyers to purchase products of a particular mark only. The buyers are also equally
benefited because they can safely assume the presence of certain distinctive features in a product,
if the product is offered by a particular manufacturer. The easy way to identify the goods as belonging
to a particular manufacturer is to go by the trade mark put by the manufacturer on his goods.
Therefore, such manufacturer would need to distinguish his products from other products in the
market by using some distinguishing signs or marks on his products. Such signs or marks, which may
be in the form of picture, slogan, words, a graphical sign etc., are known as Trade Marks.
A trade mark is a non-tangible asset. It has the potential of guaranteeing sale of the product
with which it is associated. It is therefore necessary to protect the trade marks and ensure that the
trade marks created by one must not be used by another in order to sell his goods or services. It
would be not only misappropriating the goodwill of another, but also deceiving the buyers. The Trade
Marks Act, 1999 provides for the registration of Trade Marks and protection of rights associated
with such registered Trade Marks.
Before we discuss the provisions relating to machinery under the Act for registration of trade
marks and the procedure for the same, it is necessary to understand ‘classification of goods and
services’ with respect to which a Trade Mark is registered.
Classification of Goods and Services
There are 34 classes of goods and 8 classes of services specified under the Act. Each class
covers a range of related products. A Trade Mark is registered with respect to goods mentioned in
a particular class. Some of the classes and the goods included in them are reproduced below for
reference.
Class 1: Chemicals used in industry, science, photography, agriculture, horticulture and forestry;
unprocessed artificial resins, unprocessed plastics…… etc.
Class 10: Surgical, medical, dental and veterinary apparatus and instruments, artificial limbs,
eyes and teeth; orthopaedic articles; suture materials.
Class 15: Musical instruments.
Class 25: Clothing, footwear, headgear.
Class 29: Meat, fish, poultry, and game; meat extracts; preserved, dried and cooked fruits and
vegetables; jellies, jams, fruit sauces; eggs, milk and milk products; edible oils and fats.
Class 34: Tobacco, smokers’ articles, matches.
While making an application for registration of Trade Mark, the applicant has to specify the
goods in respect of which the Trade Mark is to be used and the class to which such goods belong.
Such Trade Mark, upon registration, shall be protected only with respect to the specific goods and
the class of goods. There cannot be any infringement of trade mark if another person uses the same
trade mark but for different class of goods. Let us take an example to understand the point.
If a person ‘X’ has his trade mark ‘A3’ registered for milk products produced by him (class 29),
there cannot be infringement if person ‘Y’ uses the same trade mark for his tobacco products,
which are the goods covered in class 34. Thus, a person selling his tobacco products under the trade
mark ‘A3’ is committing no offence under the Act.
Procedure for registration of Trade Marks
The provisions of the Act pertaining to registration of Trade Marks are summarised as follows:
1. The Central Government appoints Controller-General of Patents, Designs and Trade Marks
who is the Registrar of Trade Marks for the purposes of this Act. Other officers are also
appointed by the Central Government who shall discharge their functions under the
superintendence of the Registrar.
2. In addition to the head office, various branches are also established by the Central
Government, with specified territorial limits, for facilitating registration of trade marks. A
Register of Trade marks shall be kept at the head office containing all the particulars of
registered trade marks.
3. Any person claiming to be the proprietor of a trade mark used or proposed to be used by him
and intending to get the same registered, shall apply in writing to the Registrar in prescribed
OTHER LAWS 277
manner with necessary fees. A single application may be made for registration of trade
mark for different classes of goods and services.
4. The Registrar may accept the application absolutely or conditionally or may refuse to accept
the same. In the case of conditional acceptance or refusal of acceptance, he shall state in
writing the grounds for such refusal or conditional acceptance.
5. Even after the acceptance of application, but before the registration, if the Registrar is
satisfied that the application has been accepted in error or under the circumstances of the
case, the trade mark should not be registered, he may withdraw his acceptance and proceed
as if the application had not been accepted.
6. After accepting the application for registration, the Registrar shall publish the same in the
Trade Marks Journal, ordinarily within six months from the receipt of the application, inviting
opposition from interested persons. Any person who desires to oppose the application on
any ground has to file his opposition within a period of three months.
7. Where the application for registration of trade mark has not been opposed, or where it is
opposed but the dispute has been decided in favour of the applicant, the Registrar shall
register the trade mark and shall issue a certificate of registration to the applicant with the
Seal of the Trade Marks Registry.
8. The registration of a trade mark shall be valid for a period of ten years, but it may be
renewed from time to time on payment of prescribed fees. If a trade mark is removed from
the register on account of non-payment of renewal fees, the Registrar may restore the
same if the applicant pays the prescribed fees with surcharge within six months from the
date of such removal.
Grounds for refusal of registration
The Act specifies certain grounds for refusal of registration of trade mark. These grounds are
mentioned in two different sections; one under which the Registrar is bound to refuse registration,
and the other where the Registrar may refuse registration. In other words, there are certain grounds
for which the Registrar must refuse registration whereas on other grounds, the Registrar uses his
discretion whether or not to grant registration. These grounds are called the ‘absolute grounds for
refusal of registration’ and ‘relative grounds for refusal of registration’.
Absolute grounds for refusal of registration
A trade mark shall not be registered by the Registrar,
1. if it is devoid of any distinctive character, that is to say, not capable of distinguishing the
goods or services of one person from those of another person;
2. if it consists exclusively of marks or indications which may serve in trade to designate the
kind, quality, quantity, intended purpose, values, geographical origin or the time or production
of the goods or rendering of the service or other characteristics of the goods or service;
3. if it consists exclusively of marks or indications which have become customary in the current
language or in the bona fide and established practices of the trade.
(However, registration shall not be refused on the above grounds, if the trade mark has
already acquired a distinctive character or is a well-known trade mark.)
4. if it is of such nature as to deceive the public or cause confusion, or consists of any matter
which is likely to hurt the religious feelings of any section, or contains any scandalous or
obscene matter, or where its use is prohibited under the Emblems and Names (prevention of
improper use) Act.
5. if it consists exclusively of the shape of goods which results from the nature of the goods
themselves, or the shape of goods which is necessary to obtain a technical result, or the
shape which gives substantial vale to the goods.
Relative grounds for refusal of registration
As already stated above, there are other grounds for refusal of registration of trade mark in
addition to the absolute grounds. A trade mark shall not be registered if, because of its identity with
an earlier trade mark and similarity of goods or services covered by the trade mark, there is likelihood
of confusion on the part of public. Earlier trades marks include both registered trade marks as well
as well-known trade marks.
INFORMATION TECHNOLOGY ACT, 2000

Introduction
Communication through electronic means has acquired a significant place in our life today.
Computers and computer technology have greatly influenced our social and commercial living.
However, in the absence of any law on electronic communications and transactions, the practice of
carrying out transactions by means of electronic data interchange could not be regulated and controlled.
As such, people were reluctant to make use of computer technology for carrying on their businesses
though the technology was speedy and cheap. Further, in the absence of any such law, there was no
legal recognition to such transactions and as a consequence, concluding any transactions through
electronic means was considered unreliable and risky.
For example, a documented contract bearing signatures of the parties could be used as evidence
in the court of law to settle any future dispute between the parties. However, this was not true with
respect to contracts which were entered into through electronic means. The parties would have to
adduce other circumstantial evidence to support their contentions. Thus, the concept of e-commerce,
though heartily welcome by all, could not be a substitute to the traditional methods of carrying out
business deals and transactions with the help of physical documents.
It is precisely to remove this difficulty that the Information Technology Act was passed in the
year 2000. The chief object of the Act was to grant legal recognition to transactions carried out
through electronic means and to protect the interests of those involved in such transactions.
The preamble to the Act states that the Act is passed for the purposes as follows:
“An Act to provide legal recognition for transactions carried out by means of electronic data
interchange and other means of electronic communication, commonly referred to as “electronic
OTHER LAWS 279
commerce”, which involve the use of alternatives to paper-based methods of communication and
storage of information, to facilitate electronic filing of documents with the Government agencies and
further to amend the Indian Penal Code, the Indian Evidence Act, the Banker’s Books Evidence Act
and the Reserve Bank of India Act and for matter connected therewith or incidental thereto”.
The Statement of Objects and Reasons, reproduced below, clearly indicates the objects of the
Act.
New communication systems and digital technology have made dramatic changes in the way
we live. A revolution is occurring in the way people transact business. Businesses and consumers
are increasingly using computers to create, transmit and store information in the electronic form
instead of traditional paper documents. Information stored in electronic form has many advantages.
It is cheaper, easier to store, retrieve and speedier to communicate. Although people are aware of
these advantages, they are reluctant to conduct business or to conclude any transaction in the
electronic form due to lack of appropriate legal framework. The two principal hurdles which stand
in the way of facilitating electronic commerce and electronic governance are the requirements as to
writing and signature for legal recognition. At present, many legal provisions assume the existence
of paper based records and documents and records which should bear signatures. The law of
evidence is traditionally based upon paper based records and oral testimony. Since electronic
commerce eliminates the need for paper based transactions, hence to facilitate e-commerce, the
need for legal changes has become an urgent necessity. International trade through the medium of
e-commerce is growing rapidly in the past few years and many countries have switched over from
traditional paper based commerce to e-commerce.
The United Nations Commission on International Trade Law (UNCITRAL) adopted the Model
Law on Electronic Commerce in 1996. The General Assembly of United Nations by its Resolutions
No. 51/162 dated 30th January 1997, recommended that all States should give favourable considerations
to the said Model Law whey enact or revise their laws. The Model Law provides for equal legal
treatment of users of electronic communication and paper based communication. Pursuant to a
recent declaration by member countries, the World Trade Organisation is likely to form a work
programme to handle its work in this area including the possible creation of multilateral trade deals
through the medium of electronic commerce.
There is need for bringing in suitable amendments in the existing laws in our country to facilitate
e-commerce. It is, therefore, proposed to provide for legal recognition of electronic records and
digital signatures. This will enable the conclusion of contracts and the creation of rights and obligations
through the electronic medium. It is also proposed to provide for a regulatory regime to supervise
the Certifying Authorities issuing Digital Signature Certificates. To prevent the possible misuse
arising out of transactions and other dealings concluded over the electronic medium, it is also proposed
to create civil and criminal liabilities for contraventions of the provisions of the proposed legislations.
With a view to facilitate Electronic Governance, it is proposed to provide for the use and
acceptance of electronic records and digital signatures in the Government offices and its agencies.
This will make the citizens interaction with the Governmental offices hassle free.”
The part of the Statement of Objects and Reasons reproduced above, it can be seen that the
primary objects of the Information Technology Act, 2000 are as follows:
1. To give legal recognition to digital signature;
2. To constitute Certifying Authority for issuing digital signature certificates and to provide for
rules for grant and revocation of such certificates;
3. To facilitate alternatives to paper-based methods of communication and data storage through
electronic governance and electronic records;
4. To declare certain acts as offences and to constitute judicial authorities to try the same;
5. To provide for the matter connected with or incidental to the above objects.
Digital Signature and Certificate
We all are familiar with the practice and purposes of making a signature. Signature means the
putting of a mark by a person under his hand. This can be by means of writing the name of the
person or putting the thumb impression with ink. The purpose of signature is to demonstrate a
particular commitment by the signature maker. It can be for the purpose of authenticating the
contents of a documents or it could be for acknowledging the receipt of something which is mentioned
in the document. At any rate, the purpose of a signature is to declare that the person putting the
signature on a document has read the contents of the document or admits the contents of the said
document.
With the advent of information technology, the substance or the contents, which used to be
documented, can now be stored in electronic form without being documented. The contents can be
communicated by one person to another without using the conventional form of document and
transferring the document. The difficulty faced under the electronic communication system is in the
authentication of the contents of this electronic document with the help of signature. The traditional
method of making signature is not of any use in the electronic communication system. This drawback
was removed with the introduction of digital signature under the Act.
The important points to be noted from various sections of the Act dealing with digital signature
are mentioned below:
1. Digital signature is defined as – “digital signature means authentication of any electronic
record by a subscriber by means of an electronic method or procedure in accordance
with the provisions of section 3.” (Section 3 provides that authentication of the electronic
record shall be effected by the use of asymmetric crypto system and hash function which
envelop and transform the initial electronic record into another electronic record.)
2. The digital signature is required for the purpose of authenticating any electronic records. It
can be used only with respect to electronic records and no other documents or record.
3. Any person can make an application in the prescribed form to the Certifying Authority for
the issue of Digital Signature Certificate.
4. The application has to be accompanied by the prescribed fees not exceeding Rs. Twenty
five thousand and other supporting documents such as practice statement of the applicant.
Different fees may be charged for different classes of applicants.
OTHER LAWS 281
5. The digital signature certificate shall be granted by the Certifying Authority if it is satisfied
that the applicant has a private key which is capable of creating a digital signature and that
it corresponds to the public key to be listed in the digital signature certificate.
6. The digital signature certificate may be suspended by the Certifying Authority—
(a) On receiving a request in this behalf by the subscriber; or
(b) If it is necessary to do so in the public interest.
However, a digital signature certificate shall not be suspended for more than 15 days unless the
subscriber has been given an opportunity of being heard in the matter.
7. The digital signature certificate may be revoked by the Certifying Authority—
(a) On receiving a request in this behalf by the subscriber; or
(b) On the death of the subscriber; or
(c) Where the subscriber is a firm or a Company, on dissolution of the firm or winding
up of the Company; or
(d) If a material fact represented in the digital signature certificate is subsequently
found to be false; or
(e) If a requirement for issuance of the digital signature certificate is not satisfied; or
(f) If the Certifying Authority’s private key or security system is compromised in a
manner materially affecting the digital Signature certificate’s reliability; or
(g) If the subscriber has been declared insolvent or dead; or where the subscriber is a
firm or a Company, on dissolution of the firm or winding up of the Company.
The Certifying Authority shall not revoke the digital signature certificate unless the subscriber
has been given an opportunity of being heard in the matter. The Certifying Authority shall also
publish a notice of such suspension or revocation in the repository specified in the digital signature
certificate.
Secure Digital Signature
If, by application of a security procedure agreed to by the parties concerned, it can be verified
that a digital signature, at the time it was affixed, was —
(a) unique to the subscriber affixing it;
(b) capable of identifying such subscriber;
(c) created in a manner or using a means under the exclusive control of the subscriber and is
linked to the electronic record to which it relates in such a manner that if the electronic
record was altered the digital signature would be invalidated, then such digital signature
shall be deemed to be a secure digital signature.
Duties of subscriber
Subscriber means the person who has been issued a Digital Signature Certificate and who is
now authorised to use the same. When the subscriber transacts with other people by electronic
means and by using the Digital Signature, the persons receiving such communications from the
subscriber are entitled to assume that they are authentic.
The Act therefore lays down certain duties for the subscriber and holds him liable for all
electronic communications made by him after having accepted the Digital Signature Certificate.
The points relating to duties of subscriber are summarised below.
1. Generating key pair. Where any Digital Signature Certificate, the public key of which
corresponds to the private key of that subscriber which is to be listed in the Digital Signature Certificate,
has been accepted by a subscriber, the subscriber shall generate that key pair by applying the
security procedure.
2. Acceptance of Digital Signature Certificate. A subscriber shall be deemed to have
accepted a Digital Signature Certificate if he publishes or authorises the publication of a Digital
Signature Certificate – (a) to one or more persons; (b) in a repository; or otherwise demonstrates
his approval of the Digital Signature Certificate in any manner.
By accepting a Digital Signature Certificate, the subscriber certifies to all who reasonably rely
on the information contained in the Digital Signature Certificate that—
(a) the subscriber holds the private key corresponding to the public key listed in the Digital
Signature Certificate and is entitled to hold the same;
(b) all representations made by the subscriber to the Certifying Authority and all material relevant
to the information contained in the Digital Signature Certificate are true;
(c) all information in the Digital Signature Certificate that is within the knowledge of the subscriber
is true.
3. Control of private key. Every subscriber shall exercise reasonable care to retain control
of the private key corresponding to the public key listed in his Digital Signature Certificate and take
all steps to prevent its disclosure.
If the private key corresponding to the public key listed in the Digital Signature Certificate has
been compromised, then, the subscriber shall communicate the same without any delay to the Certifying
Authority in such manner as may be specified by the regulations.
Explanation
For the removal of doubts, the Act declares that the subscriber shall be liable till he has informed
the Certifying Authority that the private key has been compromised.
Controller and Certifying Authority
Controller means the Controller of Certifying Authorities, appointed by the Central Government.
Certifying Authority is a person who has been granted a licence to issue a Digital Signature
Certificate.
Chapter VI of the Information Technology Act lays down the provisions relating to appointment
and functions of Certifying Authority. Such Certifying Authorities are appointed by the Controller of
Certifying Authorities. The controller is appointed by the Central Government. Therefore, before
OTHER LAWS 283
discussing the provisions relating to Certifying Authority, let us understand the role of Controller of
Certifying Authorities.
Controller
1. The Central Government appoints the Controller of Certifying Authorities and it may also
appoint as many Deputy Controllers and Assistant Controllers as may be necessary.
2. The most important duty of Controller is to receive applications from persons, who are
desirous of acting as Certifying Authority, and to grant or reject such applications. He has
the power to investigate the contraventions of the provisions of the Act. He may suspend or
revoke the Licenses issued to Certifying Authorities. He enjoys all the powers which are
available to Income-tax authorities under the Income-tax Act.
3. The Deputy Controllers and Assistant Controllers shall discharge the functions assigned to
them under the general superintendence and control of the Controller and the functions of
the Controller shall be subject to the general control and directions of the Central Government.
4. The qualifications, experience and terms and conditions of service of Controller, Deputy
Controllers and Assistance Controllers shall be prescribed by the Central Government.
There shall be a Seal of the Office of the Controller.
5. The Controller, Deputy Controllers and Assistant Controllers shall be deemed to be public
servants within the meaning of Indian Penal Code.
6. The functions of Controller are:
(a) exercising supervision over the activities of the Certifying Authorities;
(b) certifying public keys of the Certifying Authorities;
(c) laying down the standards to be maintained by the Certifying Authorities;
(d) specifying the qualifications and experience for the employees of Certifying Authorities;
(e) specifying the conditions subject to which the Certifying Authorities shall conduct their
business;
(f) specifying the contents of written, printed or visual materials and advertisements that
may be distributed or used in respect of a Digital Signature Certificate and the public
key;
(g) specifying the form and contents of a Digital Signature Certificate and the key;
(h) specifying the form and manner in which accounts shall be maintained by the Certifying
Authorities;
(i) specifying the terms and conditions subject to which auditors may be appointed and
the remuneration to be paid to them;
(j) facilitating the establishment of any electronic system by a Certifying Authority either
solely or jointly with other Certifying Authorities and regulation of such systems;
(k) specifying the manner in which the Certifying Authorities shall conduct their dealings
with the subscribers;
(l) resolving any conflict of interests between the Certifying Authorities and the subscribers;
(m) laying down the duties of the Certifying Authorities;
(n) maintaining a database containing the disclosure record of every Certifying Authority
containing such particulars as may be specified by regulation, which shall be accessible
to public.
Certifying Authority
We have already seen that any person with requisite eligibility can make an application to
Controller for a licence to issue Digital Signature Certificate and act as Certifying Authority. The
provisions relating to Certifying Authority are summerised as follows:
1. Any person can make an application to the Controller for licence to act as Certifying Authority.
The application has to be in the prescribed form and accompanied by fees of ` Twenty five
thousand rupees. The person making application must satisfy the following conditions:
(a) If the applicant is an individual, he must be a citizen of India having a capital of five
crores of rupees or more in his business or profession;
(b) If the applicant is a Company, it must have a paid-up capital of not less than five crores
of rupees and net worth of not less than fifty crores of rupees;
(c) If the applicant is a firm, its capital subscribed by all partners must not be less than five
crores of rupees and having net worth of not less than fifty crores of rupees;
(d) If the applicant is Central Government or a State Government or any of the Ministries
or Departments, Agencies or Authorities of such Governments, no conditions are laid
down.
2. Every such application must be submitted along with –
(1) a certification practice statement, (2) a statement including the procedures with respect
to identification of the applicant and (3) such other documents as prescribed by the Central
Government.
3. Within four weeks from the date of receipt of the application, the Controller shall either
grant the licence or reject the application. While doing so, he has to take into consideration
the documents supporting the application and such other factors as he may think relevant.
However, no application shall be rejected unless the applicant has been given a reasonable
opportunity of presenting his case.
4. The licence issued to a Certifying Authority shall be valid for a period of five years from the
date of issue and it is not transferable or heritable. The licence has to be displayed at a
conspicuous place of the premises in which the Certifying Authority carries on its business.
5. The licence issued to any Certifying Authority may be revoked by the Controller, if he is
satisfied after inquiry that the Certifying Authority —
(a) has made a statement in his application which is incorrect or false in material particulars;
(b) has failed to comply with the terms and conditions subject to which the licence was
granted;
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(c) has failed to maintain the procedures and standards specified under the Act;
(d) has contravened any provisions of this Act, rule or regulation or order made thereunder.
6. If the Controller is satisfied that there is reasonable cause to believe that there is any ground
for revoking the licence issued to Certifying Authority, he may temporarily suspend the
licence till the completion of the enquiry into the charges against the Certifying Authority.
Such suspension shall not be for more than ten days unless the Certifying Authority has
been given a reasonable opportunity of showing cause against the proposed suspension.
7. The licence issued to any Certifying Authority shall not be revoked or suspended unless the
Certifying Authority has been given a reasonable opportunity to show cause against the
proposed revocation or suspension.
8. An application may be made by a Certifying Authority for renewal of licence in the prescribed
form along with fees of not more than ` Five thousand. Such application has to be made to
the Central government and at least forty-five days before the expiry of the validity period
of the current licence.
Electronic Governance
Electronic Governance means introduction and regulation of a system by which any information
is furnished or communication is made, particularly under any law, through and with the help of
electronic device such as computers, instead of the traditional method of handwriting or typewriting
the information on paper and physical delivery of papers from one person to another.
Previously, the communications were made by using handwritten or typewritten documents
and the said documents were stored for further references in various agencies including Government
agencies. Now the computers have made revolutionary changes in the area of information exchange
and it is possible to send applications, file various forms and returns etc., in a very short time and
inexpensive manner. However, the benefits of such information system cannot be availed of, unless
the law gives sanctity to such communication system. The Information Technology Act provides for
the recognition of the electronic medium of information exchange.
Chapter III of the Act states the provisions relating to electronic governance. They are summed
up as follows:
(a) Section 4 provides for the legal recognition of electronic records. It lays down that where
there is any requirement under any law for submission of handwritten, typewritten or printed
information, such requirement shall be deemed to be satisfied if the information is (a) rendered
or made available in an electronic form, and (b) it is accessible so as to be useful for
subsequent reference.
(b) Section 5 provides for legal recognition of digital signatures. Accordingly, if any information
or any other matter is required by law to be authenticated by affixing the signature, such
requirement shall be deemed to be satisfied if such information or matter is authenticated by
means of digital signature in the prescribed manner.
(c) Section 6 is about the use of electronic records and digital signatures in Government office
or agency. It provides that where any law requires the filing of any form, application or any
other document with any Government office, or the issue of any licence, permit, sanction or
approval in a particular manner, such requirement shall be deemed to be satisfied if the filing
of such document is effected by means of electronic form as prescribed by the Central
Government. The section further authorises the Appropriate Government to prescribe for
the manner in which the electronic records shall be filed or created and the manner of
payment of fees for filing or creating any electronic record.
(d) Section 7 provides for retention of electronic records. Various legislations require that the
records created and maintained under the various Acts shall be preserved and retained for
further reference for a specified number of years. Different time-periods have been prescribed
under different Acts for which such records are to be retained. Now this section provides
that such requirement shall be deemed to be satisfied if such records are preserved in the
electronic form, if —
(i) the information in the record remains accessible so as to be usable for subsequent
reference;
(ii) the records accurately represent the information originally generated;
(iii) the details are available as to the origin, date and time of dispatch (or receipt) of such
electronic records.
(e) Section 8 provides for publication of rule, regulation etc. in Electronic Gazette. This section
empowers the Government agencies to make use of electronic medium. The various rules
and regulations framed by the Government agencies under different Acts are required to be
published in Official Gazette for the information of all concerned. This section provides that
such requirement shall be deemed to be satisfied if the said rule, regulation, bye-law,
notification etc. is published in the Electronic Gazette. (Electronic Gazette is a new and
electronic form of Official Gazette which is at present published in the printed form.)
(f) Section 9 declares that no person can insist on any Government agency to deal in electronic
form only. This section in a way protects and recognises the validity of the traditional methods
of communications and provides that the Act does not confer upon any person any right to
insist on dealing through electronic records. In other words, though the electronic
governance is made statutory, it is not yet mandatory.
The object of this section is simple to understand. The computer technology, though widely
used, has not penetrated all the parts of our country. Many Government offices work without
computers even today. As we have noted above, any application, document etc., which is
required to be submitted to any office under any law, such requirement is deemed to be
satisfied if the same is submitted in electronic form. If a village Panchayat office is presented
with an application for permission to erect a building along with the construction plan and if
this communication is in electronic form, the village panchayat office may not have the
necessary computer-infrastructure to consider such application. The office, therefore, would
be justified in demanding the application in the traditional form of physical document.
OTHER LAWS 287
(g) Section 10 empowers the Central Government to make rules in respect of digital signature,
with reference to the type of digital signature, the manner in which it shall be affixed,
identification of such signatures and procedures for security and confidentiality.
OFFENCES UNDER THE ACT

Certain acts are declared to be offences under the Act and hence made punishable. These
offences are listed below.
1. Tampering with computer source documents. Whoever, intentionally or knowingly
conceals, destroys or alters any computer source code used for a computer, computer
programme, computer system or computer network when it is required to be kept or
maintained by law for the time being in force, shall be punishable with imprisonment up to
three years, or with fine which extend up to two lakh rupees or both.
2. Hacking with computer system. Whoever, with the intent to cause or knowing that he is
likely to cause wrongful loss or damage to the public or any person, destroys or deletes or
alters any information residing in a computer resource or diminishes its value or utility or
affects it injuriously by any means, commits hacking.
Whoever commits hacking shall be punished with imprisonment upto three years, or with
fine which may extend upto two lakh rupees, or with both.
3. Publishing of information which is obscene in electronic form. Whoever publishes or
transmits or causes to be published in the electronic form, any material which is lascivious
or appeals to the prurient interest or if its effect is such as to tend to deprave and corrupt
persons who are likely, having regard to all relevant circumstances, to read, see or hear the
matter contained or embodied in it, shall be punished on first conviction with imprisonment
of either description for a term which may extend to five years and with fine which may
extend to one lakh rupees, and in the event of a second or subsequent conviction with
imprisonment of either description for a term which may extend to ten years and also with
fine which may extend to two lakh rupees.
4. Failure to comply with Controller’s orders. The Controller has powers to order any
Certifying Authority or any employee of such Certifying Authority to take certain measures,
or to stop certain activities in order to ensure the compliance of the provisions of this Act.
Any person who fails to comply with such orders or directions shall be punished with
imprisonment for a term upto three years or with fine upto two lakh rupees or with both.
5. Failure to extend facilities to decrypt information. If the Controller is satisfied that in
the interest of sovereignty or integrity of India or security of State or friendly relations with
foreign States or public order or for preventing incitement to the commission of any cognizable
offence, it is necessary to direct any agency of the Government to intercept any information
transmitted through any computer resource, he may do so by a written order. It is the duty
of subscriber or any other person to extend all facilities and technical assistance to decrypt
the information.
If the subscriber or any other person fails to extend facilities and render assistance as
ordered, he shall be punished with imprisonment for a term which may extend to seven
years.
6. Unauthorised access to any protected system. Appropriate Government may, by
notification, declare that any computer, computer system or computer network to be a
protected system and only those persons authorised by that Government can access such
protected system.
If any person, who is not so authorised, secures or attempts to secure access to a protected
system in contravention of this provisions, he shall be punished with imprisonment of either
description for a term which may extend to ten years and shall also be liable to fine.
7. Misrepresentation. Whoever makes any misrepresentation to the Controller for obtaining
Licence or any misrepresentation to the Certifying Authority for obtaining Digital Signature
Certificate or suppresses any material fact in this behalf shall be punished with imprisonment
for a term which may extend to two years, or with fine which extend to one lakh rupees, or
with both.
8. Breach of confidentiality and privacy. While enjoying the powers available under this
Act and while discharging the functions under this Act, a person may acquire secured
access to any electronic record, book, register, correspondence, information, documents or
other material. If such person discloses such electronic record or information or documents
etc. to any other person, he shall be committing breach of confidentiality and privacy. As
such, he shall be punished with imprisonment for a term which may extend to two years, or
with fine which extend to one lakh rupees, or with both.
9. Publishing false Digital Signature Certificate. No person shall publish a Digital Signature
Certificate or otherwise make it available to any other person with knowledge that –
(a) the Certifying Authority listed in the certificate has not issued it; or
(b) the subscriber listed in the certificate has not accepted it; or
(c) the certificate has been revoked or suspended.
unless such publication is for the purpose of verifying a Digital Signature created prior
to such suspension or revocation.
Any person who contravenes this provision shall be punished with imprisonment for a
term which may extend to two years, or with fine which may extend to one lakh
rupees, or with both.
10. Publication for fraudulent purpose. Whoever knowingly creates, publishes or otherwise
makes available a Digital Signature Certificate for any fraudulent or unlawful purpose shall
be punished with imprisonment for a term which may extend to two yeas, or with fine which
may extend to one lakh rupees, or with both.
11. Offences committed outside India. The various acts which are declared to be offences
under this Act do not have territorial limitation. If such offence is committed outside India
OTHER LAWS 289
but involves a computer, computer system or computer network located in India, the provisions
of this Act shall apply.
12. Confiscation. Any computer, computer system, floppies, compact discs, tape rives or any
other accessories related thereto, in respect of which any provision of this Act, rules, orders
or regulations made thereunder has or is being contravened, shall be liable to confiscation.
A person who is punished for any act which is an offence under this Act shall be liable for
punishment under any other Act, if the act committed by him is an offence under that Act also.
Investigation of any offence under this Act shall be carried out by a police officer not below the rank
Deputy Superintendent of Police.
UUU

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LEGAL ASPECTS

ADV. R.R. RAMTIRTHKAR

First Edition : 2013

NATURE OF AGREEMENT AND CONTRACT

10. Possibility of Performance

Consequences of Rescission of Contract

OFFER AND ACCEPTANCE

Lapse and Revocation of Offer

An offer comes to end under the following circumstances:

1. An offer lapses by rejection by the offeree

2. An offer lapses after the time stipulated or after reasonable time.

1 A says to B Will you buy my scooter for Rs. This is offer by A to B

Communication of offer, Acceptance and their Revocation

As against the person to whom it is made, when it comes to his knowledge.

When B is making a promise to A, there is no consideration moving from A to B, and as such in

7. Other points to be noted

(b) Persons of unsound mind

Coercion Undue Influence

3. Agreement in restraint of legal proceedings

PERFORMANCE AND DISCHARGE OF CONTRACT

2. Reimbursement of person paying money due by another, in payment of

5. Liability of person to whom money is paid or thing delivered by mistake or

REMEDIES FOR BREACH OF CONTRACT

4. Suit for specific performance

INDEMNITY AND GUARANTEE

be enforceable by law. Therefore, a guarantee given for a non-enforceable obligation such as a

For example, A gives a guarantee to C for goods to be supplied by C to B. C supplies goods to

Agent and servant

1. Agency by Express Agreement

NATURE AND EXTENT OF AGENT’S AUTHORITY

Effect of appointment of sub-agent

DIFFERENCE BETWEEN SUB-AGENT AND SUBSTITUTED AGENT

Rights and duties of Principal

By act of Parties By Operation of Law

1) Revocation by Principal 1) Completion of Business

WHAT IS NOT BAILMENT?

DIFFERENCE BETWEEN BAILMENT AND LICENCE

DEFINITION AND NATURE OF PARTNERSHIP

‘PARTNERS’, ‘FIRM’ AND ‘FIRM NAME’

DIFFERENCE BETWEEN PARTNERSHIP AND COMPANY

RELATIONS OF PARTNERS TO ONE ANOTHER

RELATIONS OF PARTNERS TO THIRD PARTIES

4. SALE OF GOODS ACT, 1930

DISTINCTION BETWEEN SALE AND AGREEMENT TO SELL

CONDITIONS AND WARRANTIES

Transfer of title by non-owners

PERFORMANCE OF CONTRACT OF SALE

UNPAID SELLER AND HIS RIGHTS

BUYER’S RIGHTS AGAINST SELLER

WHAT IS A NEGOTIABLE INSTRUMENT?

CHARACTERISTICS OF A NEGOTIABLE INSTRUMENT

ESSENTIAL ELEMENTS OF A PROMISSORY NOTE

Valid conditional promissory notes:

ESSENTIAL ELEMENTS OF A BILL OF EXCHANGE

‘PROMISSORY NOTE’ AND ‘BILL OF EXCHANGE’ DISTINGUISHED

When a promissory note becomes a bill of exchange?

‘CHEQUE’ AND ‘BILL OF EXCHANGE’ DISTINGUISHED

(i) (ii) (iii)

(i) (ii) (iii)

Cheque bearing ‘Not Negotiable’: (Sec. 130)

CLASSIFICATION OF NEGOTIABLE INSTRUMENTS

PAYMENT IN DUE COURSE (Sec. 10)

PARTIES TO NEGOTIABLE INSTRUMENTS

RIGHTS OR PRIVILEGES OF A HOLDER IN DUE COURSE