After obtaining the certificate of incorporation, the promoters will take steps to raise the necessary capital for the company. A public company may invite the general public to subscribe to the capital of the company and for this purpose a prospectus has to be issued. The basic objective of issuing a prospectus is to arouse public interest in the proposed company and induce the general public to buy its shares and debentures. However, it is not essential for a public company to issue a prospectus. If the promoters are confident of raising the required capital privately from their relatives and friends, they need not issue a prospectus. In such a case, a statement in lieu of prospectus must be filed with the Registrar of companies.
A private company, its articles, prohibits any invitation to the public to subscribe for any shares in, or debentures of the company.
Definition of Prospectus
The term prospectus means:
“Any prospectus, notice, circular, advertisement or other invitation offering to the public for subscription or purchase any shares of debentures of a company”.
Any invitation intended to avail company securities for subscription for the public qualifies as a prospectus. Its distinguishing characteristics are the contents and intentions of the issuer.
In Re: South of England Natural Gas Co Ltd, a newly formed company issued 3000 copies of a document stamped “for private circulation only”. The document invited subscription for the company shares and the copies were distributed to members of several gas companies. Question was whether the document was a prospectus. It was held to be.
The term “offering” used in the definition is used in a non-technical sense as a prospectus invites offers.
Meaning of public
The term public in the definition isn’t restricted to the public at large as it includes a section thereof. In Re: South of England Natural Gas Co. Ltd it was held that a document inviting applications for shares in certain gas companies was an offer to the public even though it was
marked “for private circulation only.” However, a “circular” which a company offered to acquire the shares of another company in exchange for its own shares was held not to be a “prospectus” within the statutory definition:
Government Stock and other Securities Investment Co. Ltd v Christopher Circumstances in which a company may issue a prospectus
a. A newly formed company may issue a prospectus inviting prospectus investors to subscribe for securities.
b. An existing public company wishing to raise additional capital from the public may issue a prospectus in relation to the issue.
c. If a private company passes a special resolution converting itself into a public company, it ceases to be a private company from the resolution date and must within 14 days thereof deliver to the Registrar for registration either a prospectus or a statement in lieu of prospectus.
Rules applying to prospects
A prospectus must be in writing
A prospectus must also be in the English language.
An oral invitation to subscribe shares in, or debentures of, a company, or deposit is not a prospectus.
Likewise, an advertisement in television or a film is not treated to be a prospectus.
The word “subscription” in the definition of a prospectus means “taking” or agreeing to take shares for cash. It means that the person agreeing to take the shares puts himself under a liability to pay the nominal amount thereof in cash.
Why regulate prospectus?
A company’s shares are legally regarded as goods. Consequently, the common law rule known as “caveat emptor” applied to their sale. In particular, the company as a seller was not bound to say anything to potential buyers which would enable them to assess the risks involved. Buyers were therefore left without a legal remedy if they bought shares which they would not have bought if the relevant material facts had been disclosed the company’s agents. In an attempt to remedy this situation the Companies Act incorporated a number of statutory provisions which must be complied with.
Persons Responsible for preparing the Prospectus
a) The issuer of the securities;
b) Each person who is a director at the time of publishing the prospectus
c) Each person who has given his consent to be named as a director or as having agreed to become a director immediately or at a future time;
d) Each person who accepts, and is stated in the prospectus as accepting, responsibility for, or for any part contained in the prospectus; and
e) Each person not falling within any of the foregoing paragraphs who has authorized the publication of the prospectus
Contents of a prospectus
Every prospectus issued or on behalf of a company or or on behalf of any person who has been engaged or interested in the formation of the company must contain the particulars as provided under the Companies Act.
Identity of directors, senior management and advisers i.e. persons responsible for the information disclosed;
Offer statistics and expected timetable;
Information on the Issuer;
Operating and financial review and prospectus (the recent development and Prospects of the group);
Directors and senior management;
Major shareholders and related party transactions;
The offer and listing;
The contents of the Prospectus with the particulars of signatories and number of shares subscribed them
The number and value of shares
Description of business to be undertaken and its prospects
Any provision in the articles relating to remuneration of Directors and Chief Executive
Particulars of the present and proposed directors, chief Executive and Company Secretary
The amount of minimum subscription;
The date and time of the opening and closing of the
The amount payable on application for each share;
The number, description and amount of share capital issued within the two preceding years along with the amount of premium or discount, if any;
Name of the underwriters, if any along with opinion of Directors as to financial soundness of the company;
The name and address of Auditors and Legal
The amount of preliminary expenses;
The right of voting at meetings of the company;
Particulars of capitalization of any reserves or profits if any;
Particulars of surplus on revaluation of the assets and the manner, in which such surplus has been applied, adjusted or treated.
Annexures to the Prospectus
With respect to initial offers to the public, the shall include-
An Accountant’s report confirming compliance the Issuer of the financial disclosures prescribed under Regulation10 (1); and
The scope of the engagement is governed the Intentional Standards on Related Services- Engagements to Compile Financial Statements
A legal opinion which shall include but not be limited to the following-
Whether all licences and consents required to perform the business or proposed business of the issuer have been duly obtained;
The validity of evidence of ownership of land, plant and equipment and other important and relevant assets of the issuer;
Any agreements or contracts with respect to the proposed issue of securities
Any material litigation, prosecution or other civil or criminal legal action in which the issuer or any of its directors is involved
Whether the existing capital of the issuer and any proposed changes thereto is in conformity with applicable laws and has received all necessary authorizations; and
Any other material items with regard to the legal status of the Issuer and the proposed issue
Other contents of a prospectus:
A prospectus issued or on behalf of a company or in relation to an intended company must be dated and unless otherwise provided, this is taken to be the date of publication.
i. A prospectus must state on its face, any documents annexed thereto or endorsed there on.
ii. Under Capital Markets (Public Offer Listing and Disclosure), Regulations of 2002, the prospectus of a company quoted on the main segment must state:
• The particulars of directors and service managers.
• The bankers and legal advisors of the company.
• The date of incorporation.
• The country of incorporation.
• Whether or not listing has been approved the CMA
• The cautionary statement from the CMA
• The summary of the memorandum and Articles.
• The principal objects of the company.
In case of a listed company approval of the CMA must be obtained within sixty days before the date of issue of the Prospectus
A copy of the Prospectus must be sent to the Registrar of companies for registration before the issue of the Prospectus
The copy delivered must be signed every person who is named or proposed as a director either in person or an agent authorized in writing.
The Registrar of companies shall not register the Prospectus Unless the above requirements have been complied with
The Registrar may reject the prospectus if:
i) It is undated
ii) If it is not signed as required the Act.
iii) If it does not have the necessary annexures or endorsements
Liability in respect of the prospectus
These are crimes created the provisions of the Companies Act to compel companies to observe the provisions relating to prospectus namely the preparation, the contents and the registration.
1) It is a criminal offence to issue any form of application for shares or debentures unaccompanied a prospectus of the company. The person in default is liable to a fine not.
However an application form need not be accompanied a prospectus if it is issued:
i) In relation to shares or debentures not offered to the public;
ii) In relation to shares or debentures similar to those previously issued the company; or
iii) In relation to a bonafide invitation to a person to enter into an underwriting agreement on the issue
2) It is a criminal offence to issue a prospectus containing a statement purported to have been made an expert without his written consent.
The company and every person who was knowingly party to the issue is liable to a fine.
3) It is a criminal offence to Issue a prospectus before a copy thereof is delivered to the Registrar for registration.
4) Deliver to the Registrar for registration a copy of a prospectus without the necessary annexure or endorsements.
5) It is a criminal offence to authorize the issue of a prospectus containing any untrue statement. The person in default is liable to imprisonment for a term not exceeding 2 years or a fine or both.
However the accused escapes liability proving either that:
a. The statement was immaterial; or
b. He had reasonable ground to believe and did believe up to the date of issue that the statement was true.
In R.V Kylsant , the accused, who was a chairman of the BOD of the company, was being prosecuted under the provision of the Larceny Act of 1861 for having authorized the issue of a prospectus containing untrue statements. The prospectus had stated between 1911 and 1927, the company had paid an annual dividend of between 5% and 8% except in 1914 where no dividend was paid and 1926, when a dividend of 4% was paid. In actual fact, the company had been paying dividend out of capital and between 1921 and 1926 it had made losses. The accused was found guilty and was sentenced to imprisonment for 12 months.
a. Statutory liability
A third party who has suffered loss or damage reason of subscribing for the shares or debentures of a company on the faith of a prospectus containing an untrue statement is entitled to compensation for the loss or damage by:
a. Every person who was a director of the company at the time of issue.
b. Every person who was a promoter of the company.
c. Every person who had authorized him to be named in the prospectus as a director and was so named.
d. Every person who had agreed to become a director of the company either immediately or after an interval of time.
e. Every person who authorized the issue of the prospectus.
A director sued for compensation may escape liability relying on the defenses prescribed the sub section that:
• He withdrew his consent to act as a director before the issue of the prospectus.
• The prospectus was issued without his knowledge or consent and on becoming aware of the issue, he gave reasonable public notice that it was so issued.
• On becoming aware of the untrue statement, after the issue of the prospectus, but before the allotment of the securities, he withdrew his consent and gave reasonable public notice of the withdrawal and the reasons thereof.
An expert sued for compensation may escape liability relying on the defenses prescribed the sub section that:
• Withdrawal of consent: He withdrew his consent in writing before the prospectus was delivered to the register for registration.
• On becoming aware of the untrue statement, after the prospectus was delivered to the register for registration, but before allotment of the securities, he withdrew his consent in writing and gave reasonable public notice of the withdrawal and the reasons therefore.
• True Statement: He was competent to make the statement and had reasonable grounds to believe and did believe up to the date of allotment that it was true.
b. Common law liability (Mainly deals with misrepresentation)
A person who has suffered loss or damage reason of subscribing for shares or debentures on the faith of a prospectus containing any untrue statements has a common law action in damages for misrepresentation.
Misrepresentation renders a contract voidable at the option of the innocent party. However for misrepresentation to give rise to liability it must be proved that:
i) The statement was false in a material particular.
ii) The statement was more than mere sales talk, whether a statement amounts to misrepresentation or mere sales talk depends on what a reasonable person will deem it to be.
iii) The statement was one of fact and not opinion. As a general rule opinion does not amount to misrepresentation unless:
The maker does not honestly hold such opinion.
The opinion purports to be based on certain facts within the maker’s knowledge whose truthfulness he does not verify.
iv) The statement was intended to be acted upon the person or persons to whom it was made.
v) The statement was in fact made the other party. As a general rule, silence, non-disclosure or does not amount to misrepresentation unless it renders the prospectus misleading. However silence may amount to misrepresentation:
In contracts of utmost good faith.
In confidential relationships.
Where the statement made is half true
Where disclosure is a statutory requirement.
Where the statement was true when made, but turns false due to a change in circumstances before the contract was concluded but the maker fails to disclose it falsity.
vi) The false statement influenced the party’s decision to contract. The statement must have been made before or when the contract was being concluded. At common law, the ordinary purpose of a prospectus is to invite persons to subscribe to a company’s shares or debentures. Once the purpose is accomplished, the prospectus becomes exhausted and cannot be relied upon persons who purchased the securities at the stock exchange.
It was so held in Peek V Gurney where the company’s shares were allotted between July and October and the plaintiff purchased the shares at the stock exchange in December and purported to rescind the contract as well as sue in damages for fraudulent misrepresentation of the prospectus. It was held that he could not base his action in the prospectus as it had become exhausted the time he purchased the shares.
N.B: This case is authority for the proposition that directors are not liable for misrepresentation in a prospectus, after all the shares have been allotted, in respect of transaction concerning them thereafter.
However if it evidenced that the prospectus was intended to influence original and other subscribers, it is not deemed to have been exhausted.
This was the case in Andrews V Mockford where the plaintiff sued the defendant in damages for conspiracy to defraud him. The defendant had formed a company ostensibly to mine gold in Transvaal South Africa. However, very few persons applied for the company shares. The plaintiff, who had a copy of the prospectus, did not subscribe to them. After 8 months, the defendant sent a telegram to the UK that the company had struck gold and the information was printed in the financial news. The plaintiff applied and was allotted 50 shares. The company collapsed thereafter. It was held that the defendant were liable in damages for fraudulent misrepresentation as the prospectus had not become exhausted.
vii) The statement was innocently, fraudulently or negligently made.
a. Innocent misrepresentation: It arises where the make honestly believes in the truth of the statement and has no capacity to ascertain its falsity. The innocent party may apply for rescission of the contract or sue for indemnity for any financial loss occasioned the statement.
b. Fraudulent misrepresentation: This is a situation where the maker of the statement has knowledge that it is false, makes it carelessly and recklessly and without belief in its truth. This test for fraud was formulated in
Derry V Peek: In a company prospectus the defendant stated the company had the right to use steam powered trams as opposed to horse powered trams. However, at the time the right to use steam powered trams was subject to approval of the Board of Trade, which was later refused. The claimant purchased shares in the company in reliance of the statement made and brought a claim based on the alleged fraudulent representation of the defendant. Held: The statement was not fraudulent but made in the honest belief that approval was forthcoming.
The innocent party may either:
Apply for rescission of contract; or
Sue in damages for the tort of deceit as was the case in Andrews V Mockford.
c. Negligent misrepresentation: It exists where the maker of the statement has both the means and capacity of ascertaining its falsity but fails to do so and is thus negligent.
For a party to rely on negligent misrepresentation it must be proved that:
1. The maker of the statement owed the recipient a legal duty of care. When a company issues a prospectus asking the public to subscribe for shares it owes a duty of care to the public to tell them the whole truth about itself and its operations.
2. That there was a breach of the duty of care. This is established when the prospectus contains false and misleading statement.
3. There must have a special relationship between the parties as held in Hedley Byrne Co Ltd v Heller and Partners Co Ltd.
The plaintiff an advertising agent inquired as to the credit worthiness of their client’s bank. The bank replied that without accepting any responsibility on its part the client was good
For business up to 100,000 pounds. This was not the case the plaintiff invested in the client and suffered financial loss.
Held: the bank was liable to the plaintiff for negligent misstatement which was a breach of its duty of care. However the plaintiff would not be entitled to any damages because of the disclaimer that the bank had included in the letter.
4. The loss suffered was of a financial nature. He would not have invested in the company had he known the truth.
The innocent party may either:
Apply for rescission of the contract. In recession the allotee gives back his shares and receives the money he paid on application.
Sue for damages for the tort of negligence.