Formation of a Company Class 11: Promotion, Incorporation and Capital Subscription

What Formation of a Company is about

Weightage: This chapter is part of Unit 2, Forms of Business Organisations. The syllabus groups Unit 2 with Unit 1, Nature and Purpose of Business: together they carry 16 of the 80 theory marks in the school annual exam.Source: CBSE Business Studies (054) syllabus 2026-27, Class XI course structure, Unit 2 Forms of Business Organisations

Key concepts

Stages of formation and the meaning of promotion

NCERT section 7.2

Stages (NCERT): (i) Promotion, (ii) Incorporation, (iii) Capital subscription. A private company needs only promotion and incorporation, because it cannot invite the public to subscribe to its shares and so does not issue a prospectus.

Promotion is the first stage: it begins with the conception of a business opportunity, followed by analysing its prospects and bringing together people, materials, machinery, managerial ability and finance to set the organisation going.

A promoter (as per section 69 of the Act, broadly) is a person named as such in a prospectus or identified by the company in its annual return, or who has control over the company's affairs directly or indirectly, or on whose advice the board is accustomed to act. A person acting only in a professional capacity (a lawyer or accountant helping with documents) is not a promoter.

Worked example

Suppose a chartered accountant prepares the financial projections for a new company for a fee. Is she a promoter?

Try it first, then show the solutionSolution

1. She acts only in a professional capacity
2. Persons acting merely professionally are excluded from being promoters

Answer: No, she is not a promoter.

Functions of a promoter

NCERT section 7.2.1

1. Identification of business opportunity: a new product or service, or a new way of making a product available, with investment potential.
2. Feasibility studies, with the help of experts:

• Technical feasibility: can it be done with available raw materials and technology?
• Financial feasibility: can the required funds be arranged?
• Economic feasibility: will it be profitable?

3. Name approval: apply to the Registrar of Companies with three names in order of preference; a name is rejected if it is identical or too similar to an existing company's, is misleading, or violates the Emblems and Names (Prevention of Improper Use) Act, 1950.
4. Fixing up signatories to the Memorandum of Association: usually the first directors; their written consent to act as directors and take up qualification shares is needed.
5. Appointment of professionals: bankers, auditors and others to help prepare documents.
6. Preparation of necessary documents: memorandum, articles, consents of directors and others to be filed with the Registrar.

Worked example

Suppose promoters find that a project needs ₹500 crore but they can raise only ₹50 crore. Which feasibility study fails?

Try it first, then show the solutionSolution

1. The question is about arranging funds

Answer: Financial feasibility.

Position of promoters and preliminary contracts

NCERT section 7.2.1

Position of promoters:

• They are neither agents nor trustees of the company: not agents because the company does not yet exist; not trustees in the legal sense.
• They hold a fiduciary position (of trust): they must not misuse it, and may make a profit only if it is disclosed; they must not make secret profits. If they do, the company can rescind the contract, recover the money and claim damages.
• They are personally liable for contracts made for the company before incorporation, unless the company enters into fresh contracts after incorporation.
• They have no legal right to claim promotion expenses, though the company may choose to reimburse them, pay a lump sum or commission, or allot shares or debentures.

Preliminary (pre-incorporation) contracts: contracts made by promoters with third parties on behalf of a company not yet formed. They are not binding on the company, and the company cannot ratify them; after incorporation it may enter into fresh contracts on the same terms. Promoters remain personally liable to third parties.

Worked example

Suppose promoters agree to buy land for a future company. After incorporation, the company refuses the deal. Who is liable to the seller?

Try it first, then show the solutionSolution

1. A preliminary contract does not bind the company
2. The company cannot ratify it, only make a fresh contract
3. Promoters remain personally liable

Answer: The promoters personally.

Incorporation: documents filed and the Certificate of Incorporation

NCERT section 7.2.2

Promoters apply to the Registrar of Companies (ROC) of the state where the registered office will be, with:
1. Memorandum of Association, duly stamped, signed and witnessed (at least 7 signatories for a public company, 2 for a private company), with their addresses, occupations and shares taken.
2. Articles of Association, stamped and witnessed (a company may adopt the model articles in the Act).
3. Written consent of the proposed directors and an undertaking to buy qualification shares.
4. Agreement (where one exists) appointing the managing director, a whole-time director or the manager.
5. Copy of the Registrar's letter approving the name.
6. Statutory declaration that all legal requirements have been complied with (signed by a professional engaged in formation, or a person named as director, manager or secretary).
7. Notice of the address of the registered office (can be given within 30 days of incorporation).
8. Documentary evidence of payment of fees (depending on authorised capital).

Directors must have a Director Identification Number (DIN).

When satisfied, the Registrar issues the Certificate of Incorporation: the company's birth certificate, with a Corporate Identity Number (CIN). Effect: the company is born on the date printed on it, becomes a legal entity with perpetual succession, and can enter into valid contracts. It is conclusive evidence of the regularity of incorporation: even if there were flaws (a forged signature), the company's existence cannot be questioned; the only remedy is winding up.

NCERT adds that companies must obtain the certificate for commencement of business within 180 days of incorporation before starting operations.

Worked example

Suppose documents were filed on 6th January, the certificate was issued on 8th January but dated 6th January, and a contract was signed on 6th January. Is the contract valid?

Try it first, then show the solutionSolution

1. The company is born on the date printed on the certificate
2. The certificate is conclusive evidence

Answer: Yes: the company existed on 6th January.

Memorandum of Association and Articles of Association

NCERT section 7.2.2

Memorandum of Association (MoA): the most important document; the charter of the company that defines its objects and its relationship with the outside world. A company cannot act beyond the objects in its memorandum (ultra vires acts are void).

Clauses of the memorandum:
1. Name clause: the company's name (ending with "Limited" or "Private Limited").
2. Registered office clause: the state in which the registered office is located.
3. Objects clause: the purpose for which the company is formed.
4. Liability clause: members' liability limited to the unpaid amount on their shares.
5. Capital clause: the maximum (authorised) capital and its division into shares.
6. Association (subscription) clause: signatories' declaration that they wish to form a company and agree to take shares.

Articles of Association (AoA): the rules for the internal management of the company (subordinate to the memorandum and the Act): share issue and transfer, calls, forfeiture, meetings, voting, directors' appointment and powers, dividends, accounts and audit, borrowing powers, winding up.

Basis	Memorandum	Articles
Objective	Defines objects and relationship with outsiders	Rules for internal management
Position	Main document, subordinate only to the Act	Subordinate to the memorandum
Relationship	Defines company's relation with outsiders	Defines relation between company and members
Validity	Acts beyond it are void (ultra vires)	Acts beyond it can be ratified by shareholders
Necessity	Every company must file it	Can adopt model articles

Worked example

Suppose a company formed to make shoes starts running a hotel, which is not in its objects. What is the legal position?

Try it first, then show the solutionSolution

1. Acts beyond the objects clause of the memorandum are ultra vires
2. They are void and cannot be ratified even by all shareholders

Answer: The act is ultra vires and void; the memorandum would have to be altered first.

Capital subscription (public companies)

NCERT section 7.2.3

A public company that wants funds from the public follows these steps:
1. SEBI approval: SEBI's guidelines require full disclosure for investor protection; prior approval is needed.
2. Filing of prospectus (or statement in lieu of prospectus) with the Registrar. A prospectus is any document inviting the public to subscribe to securities or make deposits; it must be truthful and disclose all material facts.
3. Appointment of bankers, brokers and underwriters: bankers receive application money; brokers market the issue; underwriters agree to buy shares not taken up by the public, for a commission (optional).
4. Minimum subscription: the company must receive applications for at least 90% of the issue size (SEBI guidelines); otherwise no allotment, and application money is returned.
5. Application to stock exchange: to at least one stock exchange for permission to deal in its shares; if not granted within ten weeks of closing the subscription list, allotment is void and money must be refunded within eight days.
6. Allotment of shares: shares are allotted, letters of allotment issued, and a return of allotment is filed with the Registrar.

Worked example

Suppose a company issues 10,00,000 shares and receives applications for 8,70,000 shares. Can it allot shares?

Try it first, then show the solutionSolution

1. Minimum subscription = 90% of 10,00,000 = 9,00,000
2. Applications fall short by 30,000

Answer: No: minimum subscription is not received, so application money must be returned (unless underwriters make up the shortfall).

Formation of a Company in real life

Each concept, met in an everyday situation. Read the situation, answer the question in your own words, then compare with the model answer. The one-line hook is what to remember.

Topics in this chapter

• Incorporation: Documents, Memorandum and Articles, Certificate and Capital Subscription (CBSE 11)
• Promotion of a Company: Promoter, Functions, Position and Preliminary Contracts (CBSE 11)

Formation of a Company: key facts

Stages

1. 1.Promotion
2. 2.Incorporation
3. 3.Capital subscription

Private company: first two only.

Feasibility studies

Technical, Financial, Economic

Part of promotion.

Functions of promoters (6)

Identify opportunity, Feasibility, Name approval, Signatories, Professionals, Documents

Memorandum clauses (6)

Name, Registered office, Objects, Liability, Capital, Association

Charter; ultra vires acts void.

Incorporation documents

MoA, AoA, Directors' consent, Agreement with MD, Name approval letter, Statutory declaration, Office address, Fee receipt

Signatories to MoA

Public company: 7; Private: 2; OPC: 1

Minimum subscription

Applications ≥ 90% of issue size (SEBI)

Else refund.

Capital subscription steps

SEBI approval, Prospectus, Bankers/brokers/underwriters, Minimum subscription, Stock exchange, Allotment

How the school exam asks Formation of a Company

The question patterns to expect, and the method that works for each.

Tricks to remember Formation of a Company

Short memory aids. Say each one aloud once, then use it on a question the same day.

• Stages: "P-I-C"

  Promotion, Incorporation, Capital subscription.

  Use it when: Stages of formation.

• MoA clauses: "No Rich Old Lady Climbs Alone"

  Name, Registered office, Objects, Liability, Capital, Association.

  Use it when: Memorandum clauses.

• Feasibility: "TFE"

  Technical, Financial, Economic.

  Use it when: Feasibility studies.

Formation of a Company: exam-level solved questions

Ordered from exam level to HOTS. Cover the solution, write your own, then compare step by step.

Case-study practice (Section E style)

Read the situation, then answer every part. In a school exam set on the board pattern this is a 4-mark question split into 1 + 1 + 2 marks.

Where the marks are

How a typical answer is split into step marks. Show every step: a right final answer alone rarely earns full marks.

Where students lose marks in Formation of a Company

The slips examiners see most often, and what to write instead.

• ✗Mistake: Saying a company can ratify preliminary contracts

  Ratification sounds natural.

  ✓Do this: It cannot ratify; it may only enter into a fresh contract on the same terms.

  Usually costs: 1 mark.

• ✗Mistake: Calling promoters agents or trustees of the company

  They act for the future company.

  ✓Do this: They are neither; they hold a fiduciary position.

  Usually costs: 1 mark.

• ✗Mistake: Mixing up the number of signatories

  Many numbers.

  ✓Do this: Public: 7; private: 2; OPC: 1.

  Usually costs: ½-1 mark.

• ✗Mistake: Treating acts beyond the articles as void like ultra vires acts

  Both are "beyond" a document.

  ✓Do this: Acts beyond the memorandum are void; acts beyond the articles can be ratified by shareholders.

  Usually costs: 1 mark.

NCERT exercise guide: Formation of a Company

What each exercise in the NCERT chapter tests, how to approach it, and a question of the same kind solved step by step. Questions here are written in our own words.

Practice questions on Formation of a Company

Write each answer on paper first. Open the hint only if you are stuck, and the answer only when you have finished.

1. Q1 · 1 mark · MCQExam level

   Which clause of the memorandum states the purpose of the company?
   (a) Name clause
   (b) Objects clause
   (c) Capital clause
   (d) Liability clause

   Hint

   Purpose.

   Answer

   (b) Objects clause

2. Q2 · 1 mark · MCQExam level

   Under SEBI guidelines, minimum subscription is:
   (a) 50% of the issue
   (b) 75% of the issue
   (c) 90% of the issue
   (d) 100% of the issue

   Hint

   High threshold.

   Answer

   (c) 90%

3. Q3 · 1 mark · Very short answerExam level

   Who is a promoter?

   Hint

   Conceives and floats.

   Answer

   A person who conceives the business idea and takes the steps to form the company (named in the prospectus or controlling its affairs), not merely a professional adviser.

4. Q4 · 3 marks · Short answerExam level

   State three functions of a promoter.

   Hint

   Opportunity, feasibility, name.

   Answer

   Identification of business opportunity; feasibility studies; name approval (also fixing signatories, appointing professionals, preparing documents).

5. Q5 · 3 marks · Short answerHarder exam level

   Explain the three types of feasibility studies.

   Hint

   Technical, financial, economic.

   Answer

   Technical: whether raw materials and technology are available. Financial: whether the funds can be arranged. Economic: whether the project will be profitable.

6. Q6 · 3 marks · Short answerHarder exam level

   List any six documents filed with the Registrar for incorporation.

   Hint

   MoA, AoA...

   Answer

   Memorandum of Association; Articles of Association; written consent of directors; agreement with the MD, if any; copy of the name approval letter; statutory declaration (also notice of registered office address, proof of fee payment).

7. Q7 · 3 marks · Short answerHarder exam level

   Explain the effect of the Certificate of Incorporation.

   Hint

   Birth, entity, conclusive.

   Answer

   The company is born on the date printed on it; it becomes a legal entity with perpetual succession and can make valid contracts; the certificate is conclusive evidence of regular incorporation even if there were flaws.

8. Q8 · 3 marks · Short answerHarder exam level

   Why does a private company not need the capital subscription stage?

   Hint

   Public invitation.

   Answer

   A private company cannot invite the public to subscribe to its shares, so it does not issue a prospectus, seek SEBI approval, or meet minimum subscription; it raises capital privately from its members.

9. Q9 · 6 marks · Long answerHarder exam level

   Explain the six clauses of the Memorandum of Association.

   Hint

   Name to association.

   Answer

   Name (company's name with Limited); registered office (state of the office); objects (purpose; acts beyond are ultra vires); liability (limited to unpaid amount on shares); capital (authorised capital and its division); association (signatories' wish to form the company and shares taken).

10. Q10 · 4 marks · Short answerHarder exam level

    State four matters usually contained in the Articles of Association.

    Hint

    Internal rules.

    Answer

    Issue and transfer of shares; meetings and voting; appointment and powers of directors; dividends and reserves (also accounts and audit, borrowing powers, forfeiture, winding up).

11. Q11 · 3 marks · Short answerHarder exam level

    Explain the role of underwriters and stock exchange permission in capital subscription.

    Hint

    Guarantee; listing.

    Answer

    Underwriters agree to buy shares not taken up by the public, for a commission, helping reach minimum subscription. The company must apply to at least one stock exchange; if permission is not granted within ten weeks of closing the list, allotment is void and money refunded within eight days.

12. Q12 · 4 marks · Long answerHOTS / competency

    Suppose promoters want the new company to pay their expenses of ₹8 lakh for feasibility studies and legal work. Explain their rights and how the company may compensate them.

    Hint

    No legal right.

    Answer

    Promoters have no legal right to claim pre-incorporation expenses, because the company did not exist when they were incurred. The company may still choose to reimburse them, pay a lump sum or commission, allot them shares or debentures, or give options to buy securities later, usually as provided in the articles.

Test your recall

Answer in your head or on paper first, then open the card. Pulling an answer out of memory makes it stick far better than re-reading.

1. 1.How many names are given for approval?Show answer

   Three, in order of preference.

2. 2.What is ultra vires?Show answer

   An act beyond the objects of the memorandum; it is void.

3. 3.Who issues the Certificate of Incorporation?Show answer

   The Registrar of Companies.

4. 4.What is a prospectus?Show answer

   A document inviting the public to subscribe to a company's securities or make deposits.

5. 5.Within how many days must the certificate for commencement of business be obtained (as per NCERT)?Show answer

   180 days of incorporation.

6. 6.What is DIN?Show answer

   Director Identification Number, required by every director.

Quick revision checklist

The night before the exam: can you do each of these without looking?

• ☐Can you name the three stages of formation?
• ☐Can you list six functions of promoters?
• ☐Can you explain the three feasibility studies?
• ☐Can you state the position of promoters?
• ☐Can you list documents filed for incorporation?
• ☐Can you explain the six memorandum clauses?
• ☐Can you distinguish memorandum and articles?
• ☐Can you list the steps in capital subscription and apply the 90% rule?

Formation of a Company: frequently asked questions