This article is written by Mrinal Mukul, a student at O.P Jindal Global University, Haryana. This article seeks to elucidate the characteristics of a company and why it is called an artificial person created by law.

It has been published by Rachit Garg.

Introduction 

The establishment of a company as an artificial entity is recognized by law as a legal person with rights and obligations. This means that the company is seen as a separate entity from its participants. It is possessed by at least one shareholder and supervised by at least one director. This separate legal personality means that the company has perpetual succession. A company is not affected by the shareholders’ death, disability, bankruptcy, or dissent. Its existence ended when it is wound up pursuant to the Companies Act, 2013. Shareholders can come and go in the life of the company like an artificial person and are minimally affected by these changes. Shareholders’ liability is limited to the value of the shares they hold. If the company fails to perform its obligations, it shall not sell off the shareholders’ personal property to pay off the debts of the enterprise. 

Furthermore, a company is an artificial person created by law. It is not a human being, but it acts through human beings. Companies are called legal persons because they can enter into a separate contract, or they can possess properties in their own name, sue and get sued by the other parties, etc. So many different features a company possesses in the whole process. However, companies are called artificial persons since they are intangible, invisible, existing in the contemplation of law. Companies can also enjoy rights and are well versed in performing other duties.

A company is considered a separate legal person from its members, but even though the company is deemed as an individual entity, it cannot act on its own because it is an artificial person. Hence, it can act through natural people who form the company, and these people are considered the actual beneficiaries of the profit or loss that the company bears.

What is a company

The word ‘company’ comes from Latin (com = with or together; panis = bread) and originally referred to a group of people who eat together. In the past, businessmen used holiday parties to discuss business affairs. Today, business affairs have become more complex and cannot be discussed at holiday parties. Therefore, the company form of organisation has become more and more important. A company is often referred to as an association of like-minded individuals formed to conduct a business or an enterprise. A company is a corporation and legal entity whose status and personality are distinct and independent from its members. It is called a corporation because the people composing it are made into one body by incorporating it according to the law. The word ‘corporation’ comes from the Latin ‘corpus,’ which means ‘body’.

Therefore, a ‘company’ is a legal entity created by a process other than natural birth. For this reason, it is sometimes referred to as an artificial legal person. As a legal entity, a company can enjoy many of the rights of an individual and assume many liabilities of a natural person. An incorporated company owes its existence to either a Special Act of Parliament or Company Law. Public corporations such as Life Insurance Company of India, SBI, etc., were established under the Special Acts of Parliament. In contrast, companies such as Tata Steel Ltd. and Reliance Industries Ltd. were established under the Company Law, i.e., The Companies Act 1956, which is being replaced by the Companies Act, 2013. Legally, a company is an association of natural and artificial persons established under the laws of a country.

Section 2 (20) of the Companies Act, 2013 defines a company as incorporated under this Act or any previous company law. A company performs its day-to-day activity as per the Companies Act, 2013, which states that a company is a legal entity that an individual or different individuals establish to gain profit through their commercial activities. 

Different kinds of companies can be registered under The Ministry of Corporate Affairs. Some are as follows: – 

  • Public Company: It is defined under Section 2 (71). It is a voluntary association of several members with a separate legal entity whose liability is limited to their shares. Laws, rules, and regulations govern all activities of such companies.
  • Private Company: Section 2 (68) defines a company with a minimum paid-up share capital of one lakh rupees or more, which comes under a private company. Everyone is considered an employee of a company with the benefit of limited liability. Therefore, private companies are those whose Articles of Association restrict the transfer of shares and prevent the public from taking up shares. 
  • One-Person Company: Section 2 (62) of the Companies Act, 2013 defines a One-Person Company. Furthermore, members of a company are nothing more than subscribers to its memorandum of association or its shareholders. Therefore, One Person Company is actually a company with only one shareholder as its member.
  • Limited Liability Partnership: Such companies enjoy the advantages of corporations and partnership firms. It is easy to integrate and manage with limited liability to the owner. 

Nature and characteristics of a company

The most crucial feature of a company is that it is a separate legal entity and, in several cases, limited liability of its members. There are several characteristics of a company that deals with the rights, obligations, duties, and powers as discussed below: 

Corporate personality

A legally established company has a corporate personality, conducts transactions in its own name, has its own seal, and its assets are separate from those of its members. Therefore, it can own property, incur debts, borrow money, have bank accounts, hire people, enter into different contracts, and sue or be sued in the same manner as individuals. Its members are its owners, but they can also be its creditors. Shareholders cannot be liable for the company’s actions even if they hold nearly all of the share capital. Shareholders are not the company’s agents and therefore cannot bind the company by their actions.

The company does not hold its assets as an agent or fiduciary for its members, and they cannot exercise their rights or be sued for accountability. Therefore, ‘incorporation’ is the act of establishing a legal entity as a juristic person. Juristic persons are defined by law; they have obligations and other actions under the law. In other words, a company is like a natural person but can only carry out its actions within the law through a designated person.

Based on Salomon v. Salomon and Co. Ltd (1897), the Court held that a company has its own independent character and is distinctive from its members, so investors cannot be held responsible for the organization’s demonstrations, even though he holds the whole offer capital. The company has its own corporate personality and is separate from its members. 

Voluntary association

A company is characterized as a voluntary association because it can be formed by individuals or groups of people. Mainly in all cases, companies are formed for profit-making purposes except Section 8 of the Companies Act, 2013 (NGO). Profits are generally divided between the shareholders or saved for the future purpose of expansion of a company.  

A company as an artificial person 

A company is called an artificial person by the law. It is called a legal person because it can enter into a contract, own property in its own name, sue and be sued by others, etc. In essence, it is not human, but it acts through human beings. It is called an artificial person because it is invisible, intangible, and exists only in the vision of the law. It can have rights as well as obligations.

In the case of Union Bank of India v. Khader International Constructions and Others (2001), the question before the Court was whether the company has the right to sue as an indigent person (poor) under Order 33, Rule 1 of the Civil Procedure Code 1908. The Order permits those in need can file a suit under the Code if they cannot afford legal fees. In this case, the appellant refuted the company’s assertion, which sought permission to sue as an indigent person. The point of contention is that the appellant being a public limited company, is not a “person” within the meaning of Order 33, Rule 1, which refers only to a natural person and not to any juristic person. 

The Supreme Court ruled that the term “person” referred to in Order 33, Rule 1, Code of Civil Procedure, 1908 includes any company, association, or corporation as an individual, whether incorporated or not. The Court held that the word “person” must be given its meaning in the context in which it was used, and being a benevolent provision, it was to be given an extended meaning. In essence, a company can file a suit as an indigene or poor person. 

A company is not a citizen

Section 2(1)(f) of the Citizenship Act, 1955 defines that a legal person is not a citizen and does not include a company or association, whether incorporated or not. So, from the Act, it is clear that a company cannot be a citizen. In the case of The State Trading Corporation v. Commercial Tax Officer (1963), the Court held that the word “citizen” can only refer to a natural person and none other than that. Therefore, a company cannot claim citizenship to invoke fundamental rights under the Constitution of India

In the case of Rustom Cavasjee Cooper v. Union of India (1970), the Supreme Court ruled that if legislative measures directly affect companies of which the petitioner is a shareholder, he may apply on behalf of the company if any impugned action has violated their rights. In this case, the Court dealt with the application under Article 32 of the Indian Constitution. Circumstances in which the director is a shareholder of the company and has been granted relief. Therefore, it should be noted that an individual’s rights are not lost because he is a shareholder of the company.

In another case Bennet Coleman Co. v. Union of India (1973), the Supreme Court stated that “it is now clear that the fundamental rights of shareholders as citizens will not be lost when they associate to start a company. If their fundamental rights as shareholders are affected by government measures, their rights as shareholders will be protected. The reason is that shareholder rights are equally and necessarily affected if the rights of the company are affected.”

Separate legal entity

A company is treated as a separate legal entity from its member under the Companies Act, 2013. Therefore, the company will only be liable for the acts of a company except for any unlawful act done by the shareholders or directors of the company. 

The famous case of Salomon v. Salomon and Co. Ltd (1897), recognized the principle of a separate legal entity of a company which states that a company has its own separate existence from its members. Thus, this concept protects the shareholders from being personally liable for the company’s wrongs and its obligations. In other words, unlike the partnership, the liability of its members of the company is limited, which means that if a company commits any wrong, then the members of the company cannot be held liable for those wrongs.

The Supreme Court held in the case of Tata Engineering Locomotive Co. Ltd. v. State of Bihar and others (1964), that the corporation is a natural person and has its own existence. The entity of a member is entirely distinct from its members as it has its own seal and name, and the liability of shareholders is limited to the amount of capital invested by them. However, the reality is that being an artificial person, the company cannot do its act itself, which means individuals always carry on the business. In such a scenario, the courts lift the company’s corporate veil to identify the individuals who have done the fraudulent activity.

Perpetual succession 

A company can end by winding up, and other factors like the death of a person or retirement will not affect the company’s existence. Perpetual Succession means that the membership of the company may change from time to time, but this does not affect its continuity. A company’s membership may change because a shareholder has sold/transferred his shares to another person, or his shares are transferred to his legal representative after his death, or because he has lost his ceases to be a member under some other provisions of the Companies Act. Thus, perpetual succession refers to the ability of a company to maintain its existence through the succession of new individuals who step into the shoes of those who cease to be members of the company. An example could be that, during the war, all members of a private company were bombed at a shareholder’s meeting, but the company survived. All this will not affect the company’s existence. 

Limited liability 

The liability of a company can be limited by its guarantee or shares. The liability of the shareholders is limited to a certain guaranteed amount mentioned in the memorandum, payable only in the event of liquidation and losses suffered by the company. Whereas on the other hand, a company limited by shares is when members’ liability is limited to the unpaid amounts or shares they hold. 

Having limited liability for business debts is one of the main advantages of doing business under the corporate form of organization. The company owns its assets as a separate entity and is bound by its liabilities. Members’ responsibilities as shareholders extend to their contributions to the company’s capital up to the nominal value of the shares they hold but are not paid up. Members, even as a whole, neither are the owners of the company’s undertakings nor are they responsible for their debts. In other words, shareholders are obliged to pay the balance due on their holdings when called upon (if any), even if the company’s liabilities far exceed its assets. This means that the liability of the member is limited.

A simple example is when a company employee is caught engaging in illegal environmental activities. Damage claims can threaten the company. The court can go after the company’s assets, but not the owners, for damages. The exception is when the owner becomes aware of illegal activity and allows it to continue.

Transfer of shares

A public company is completely free to transfer its shares, whereas there are certain restrictions in a private company. In a one-person company, the transfer of shares is not allowed.

Section 56(4) of the Companies Act 2013 requires a company to notify the depositary of the details of the distribution of securities in a timely manner when securities are transferred through the depositary. A depository participant will be liable under Section 447 if the shares are fraudulently transferred. The capital of a company is divided into parts called shares. Shares are movable and freely transferable under certain conditions, so no shareholder is permanently or necessarily associated with the company. Members can sell their shares on the open market and cash out their invested funds. This provides liquidity to members (as they are free to sell their shares) and ensures the stability of the company (as members do not withdraw funds from the company). Stock exchanges provide reasonable opportunities to buy and sell stocks. Currently, in most of the listed companies, the shares can also be transferable via Electronic mode, i.e., through Depository Participants in dematerialized form instead of doing as a physical transfer.

Separate property of a company

As we already know, a company is a separate legal entity established by law, and a company is distinct from its members. Therefore, the company has independent ownership and can own, enjoy and dispose of real estate on its behalf. 

Just like ordinary people, a company can own real estate and assets in its own name without having to acquire assets on behalf of shareholders. Therefore, it is said that a company can own separate property, so the company does not require shareholders to own property. Unlike a partnership firm and a proprietorship firm, the assets that a company owns are considered different from those owned by the shareholder, a member of such a company. For example, if a company owns a factory, it does not mean that the person who is the controlling shareholder owns the factory. Ownership of that particular factory is solely with the company, and the factory can only be used, pledged, sold, leased, transferred, and disposed of by the company itself. The shareholder has no rights over the factory as he may have rights over property owned by a partnership, Proprietorship Concern.

In the case of R.T. Perumal v. John Deavin And Anr. (1958), it was stated that no member should claim ownership of any company’s property during the association’s existence or dissolution. A company cannot even have an insurable interest in the company’s property.

Piercing the corporate veil  

The Companies Act 2013 contains provisions in Sections 7(7), 251(1), and 339 that lift the corporate veil and reveal the real forces of action. Section 7(7) deals with penalties for incorporation by providing false information, Section 251(1) deals with punishment for making a fraudulent application for removal of a company name from the register of companies, and Section 339 deals with punishment for fraudulent conduct of business during winding up. 

The assets and liabilities of the company remain entirely its own, and it is not the assets and liabilities of its members because of the corporate veil between the two. Moreover, the corporate veil comes down when the companies get incorporated, and their existence cannot be denied the minute the corporations come into existence. So, it is not a question that the corporate veil never existed because if we say this, then it means that the company never existed. The court only pierces the corporate veil if somebody is trying to evade the law.

The Supreme Court, in Subhra Mukherjee v. Bharat Cooking Co. Ltd (2000), where the Government acquired the Coal mines of a Company under the Coal Mines (Nationalization) Act, 1973, it was later found that the Company sold a coal mine to the wife of one of the Directors. The Supreme Court lifted the corporate veil from the Company, found the deal bogus, and ruled that the mine remained the Company’s property.

In Premlata Bhatia v. Union of India (2004), it was stated by the Court that the shareholders could not ask for the veil to be lifted for their own purposes. In this case, the premises of the store are assigned to individual licensees by license. She set up a completely private company to which she transferred the premises without government approval. She cannot eliminate the illegality by saying she and her Company are virtually the same person.

Capacity to sue as a company and get sued  

A company can sue and be sued on its behalf and even sue its members. It also has the right to seek damages if publishing a defamatory incident about the company affects its operations. 

To sue means to bring legal action against (someone) or to bring a suit in court. All legal proceedings against the company shall be brought in its name. Likewise, a company can bring action against anyone in its own name. When the company is harmed, the company has the right to sue such a person. Therefore, the company has the right to sue for damages in libel or slander on a case-by-case basis. 

In the case of Abdul Haq v. Das Mal (1910), Das Mal was an employee of the company and was not paid for several months, so he sued the director. The Court ruled that the appeal was against the company, not its directors or members. 

In the case of Floating Services Ltd. v. MV San Fransceco Dipaloa (2004), the Court held that a company, as an entity distinct from its members, could even sue one of its own members.

Contractual rights of a company  

new legal draft

A company can enter into a contract to conduct business on its behalf. Since the company is not the trustee of its shareholders, the shareholders cannot enforce the contracts entered into by the company because he is neither a party to the contract nor entitled to any benefit from it.

All of this means that a company that is a legal entity separate from its members can contract to conduct business in its own name. A shareholder cannot enforce an agreement made by his company; he is not a party and has no right to benefit from it because the company is not a trustee of its shareholders. Likewise, shareholders cannot be sued on contracts made by his company. The distinction between a company and its members is not limited to the rules of privity but pervades all contract law. Therefore, if a director fails to disclose a breach of his duties towards his company, and as a result, a shareholder enters into an agreement with the director on behalf of the company, the shareholder would not enter into the agreement if he disclosed it. The shareholder cannot rescind the contract. 

Limitation 

A company cannot exceed the powers set out in its Memorandum of Association. The Memorandum of Association defines the powers of the company and defines the purpose of the company. In order to perform its operations without these limitations and constraints, the Memorandum of Association confers sufficient powers in most cases. However, once powers are established, it cannot override those powers without first amending the Memorandum of Association. Actions beyond the powers conferred by the company’s Memorandum of Association are ultra vires and are therefore deemed invalid. 

Termination of existence  

A company is legally established within its life cycle, continues to operate in accordance with the law, and is ultimately dissolved in accordance with the law. A company as an artificial juridical person does not die naturally. It is created by the law, conducts affairs under it, and is finally eliminated by the law. The existence of a company usually ends as a result of winding up. However, in order to avoid winding up, companies sometimes resort to strategies such as restructuring, reorganization, and mergers. In essence, a company is a voluntary association with limited liability capital divided into transferable shares, a separate legal entity, and a common seal of perpetual succession.

Conclusion

When the law treats a company as a separate person who is independent of its members and runs its business, there are many benefits. First, the company’s obligations and responsibilities are its own, not those of its participants. Second, companies can sue and be sued in their own name. In addition, the article clarifies why a company is considered an artificial person established by law. It has no hands, legs, or heart. A company’s existence arises when it is formed and registered under the Companies Act. After appearing, it can complete all business tasks as a human merchant. It can open his bank account. A company can buy and sell any asset in its own name. The company obtains the loan in its own name. It can sell its own stock in the market. There are several advantages to why companies are considered an artificial person.

Frequently Asked Questions (FAQs)

How does a company acquire the status of legal personality? 

Ans. The company has the status of a legal person from the date of performing all the formalities prescribed by law. For example, as per the law, they can carry out acts of individuals and can be associated with a legal relationship.

What shows that a company has a legal personality? 

Ans. If your company is a legal entity, it has legal capacity. This means a company can make decisions, take on debt, and strike deals. A company may also own assets and property—for example, company assets such as trucks and equipment.

What is a Memorandum of Association? 

Ans. The (MOA) defines the relationship between a company and its shareholders. It is an essential document of the company because it sets the goals of the company. It also contains the powers within which a company can act.

References 


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