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The Law Governing Promoters.

BY H. EDGAR BARNES. Instructor in Commercial Law in the University of Pennsylvania,

and Member of the Pennsylvania Bar. The promoter has earned for himself a distinctive place in the industrial world of the present time. Fifty years ago he was little known, to-day he is recognized as indispensable. He acts as the intermediary between the man with money to invest and the man with undeveloped property to sell. The general investor will not search out for himself investment opportunities, hence the function of the promoter is to discover, formulate and assemble the business proposition, and then present it to the investor. Courts of law were early called upon to rule on questions appertaining to the work of promoters and many important decisions in the English courts are to be found establishing precedents for the later cases which have arisen in the Federal and State courts of this country with respect to the rights and liabilities of promoters to the company promoted, and of the company on contracts entered into by promoters before its organization.

Mr. Justice Brown of the United States Supreme Court, in the case of Dickerman against the Trust Company, 176 U. S. 204, adopting the definition given by Cook in “Stock and Stockholders,” says that the promoter is one who brings together the persons interested in an enterprise, aids in procuring subscriptions and sets in motion the machinery which leads to the formation of the corporation itself. In a well known case decided in the Supreme Court of Kansas, the St. Louis, Fort Scott and Wichita R. R. Co. against Tiernan,* speaking of promoters of railroads, Judge Simpson declares the word had its origin in the methods by which joint-stock companies were formed in England. “When the era of railroad building began in that country," he says, "the business of promoting the organization of such companies assumed definite form and the promoters were the ones who introduced the enterprise to the notice of persons of wealth, solicited their influence and subscriptions, estimated the cost of the road, the amount of capital required, the number and price of * 37 Kan. 606.

shares, and, finally, applied to Parliament for a bill of incorporation.” Although as stated in Printing Company against Green,t an English Queen's Bench Case, the term “promoters ” is one not of law, but of business, usefully summing up in a single word a number of operations familiar to the commercial world by which a company is brought into existence, yet the expression has acquired a fixed legal meaning and has reference to the persons who undertake to form and set going a company with reference to a given project.

It is of some importance that we bear in mind the thought that the promoters' work is preliminary to the organization of the corporation, for it is on this basis that the legal status of promoters has been worked out. For example, the attempt was made to hold the company when formed liable upon contracts of promoters on the theory of agency. It was said that promoters are the agents for the corporation to be formed and as such bind it by their contracts. The question was argued at length in the New York Court of Appeals in the case of Munson against the Syracuse, Geneva and Corning Railroad Company, reported in 103 N Y., page 58. The appellants there claimed that contracts preliminary to the formation of a corporation by persons acting in its behalf, if legitimate, are binding on the corporation when formed, since such persons are the agents to bring the corporation into existence, the contracts are the means by which this is done, and the formation of the corporation is in itself a ratification of the contracts. But the court ruled that promoters are in no sense identical with the corporation, nor represent it in any relation of agency and their contracts are binding only to the extent to which they may be subsequently adopted the corporation being at liberty to sanction or to refuse to sanction them. The reason for the ruling is found in the principle of law that in order to constitute the relation of agency there must be a principal in existence at the time the services are performed whereas the corporation for which the promoters act does not come into existence until many if not all of such services have been rendered. The promoters are those who discover, formulate and assemble a proposition and set in motion the machinery which leads to the formation, not the operation and development of the corporate entity.

Therefore, since a promoter has no existing principal, and since one who contracts for and in the name of a non-existing L. P. D. 109.

principal renders himself liable upon the contract, it must follow, as a matter of law, that a promoter is personally liable upon contracts made by him in furtherance of the corporate enterprise. Of course, it is always competent for the promoter to stipulate that in no event shall he incur any personal liability, or that the contract shall not be binding unless the subsequently formed corporation expressly adopts it, in which case the promoter will not be personally liable. In the absence of such stipulations, the recent American doctrine holds the promoter personally liable, and this is the other party's only remedy if the corporation, after its organization, does nothing to bind itself on the promoter's contracts. In the case of Publishing Company against Richardson, 13 New York Supplement, 665, the Supreme Court of New York said that persons who act as promoters of a company not yet formed are personally liable on contracts entered into at their instance and request, on the ground of the non-disclosure of an existing principal capable of being made liable on the contract. In the highest Courts of Colorado, Kansas and Massachusetts, in the English case of Melhado against the Railroad Company,* the same principle has been applied. Other cases on this point take the position that whether the promoter is to be personally bound on the contract is always a question of the intention and understanding of the parties. Where the contract has been made in the name and behalf of an intended corporation, the liability of the promoter will depend upon the question of fact as to whether credit was given to him or to the inchoate corporation. This is particularly true where the contract is oral and parol, the question then being for the jury to pass upon. If, however, the contract is in writing, and is unambiguous in its terms, the question is one of interpretation for the court, and the promoters will stand bound or discharged according to the terms they have employed in the contract. No parol evidence can exclude personal liability in the promoters if the written document makes them liable.

Although the promoters of a corporation are not its agents for the purpose of binding it by their acts and engagements, yet the law recognizes that some relation must exist between them. Lord Justice Lindley in Iron Ore Company against Bird † says: “The relation is difficult to define, it is in truth sui generis and the term by which accurately to describe it has not yet been dis

*L. R. 9 C. P. 503. † 31 Ch. Div. 328.

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covered." But the idea repeated with emphasis in nearly all the cases is that the relation is one of trust and confidence. Promoters are the fiduciaries of the body which they are calling into existence and the familiar principles of the law of trusteeship have been extended to meet the case. The Supreme Court of Connecticut in an authoritative case,* quoting the words of Lord Jessel, said: “ Promoters stand in a fiduciary relation to that company which is their creation.” In the case of Brewster against Hatch † in the New York Court of Appeals, the question arose as to whether the relation between the litigants therein was that of vendors and vendees of stock in a mining company, or whether the defendants were promoters. “ If they were promoters,” the court said, “then they occupied a position of trust and confidence." Judge Sharswood, one of the greatest of Pennsylvania jurists, in Densmore Oil Company against Densmore, I says that where persons project an association they stand in a confidential relation to it. The case of a promoter seems an exceptionally strong case of fiduciary relationship, inasmuch as the trustee, far from being selected by his cestui or principal, absolutely creates the principal in whose interests and affairs he acts. Having established that the relation is fiduciary, a question as to its legal consequence is suggested. Promoters are held to the duty of a full and fair disclosure of every transaction entered into by them on behalf of the body which they are calling into existence, or more properly speaking, toward those whom they invite to join them in the intended enterprise. They are trustees in the sense which disables them from taking a secret profit out of their trust, to the detriment of the future corporation or its members, and they will be required to account for such profits to the corporation, to its shareholders, to its receivers or other representative in insolvency proceedings. A promoter, for instance, cannot purchase property acting for the corporation and then sell it to the corporation when it is formed at an advanced price, nor can he negotiate a sale of property to the corporation and secretly receive from the vendor a commission or bonus. In addition, it is immaterial that the company gets the property at a good bargain. Such a fact would not relieve the promoter from the liability stated, for the company has a right to the best bargain which

* 64 Conn. 102. † 122 N. Y. 361. 164 Penna. St. 43.

those acting in its interest as fiduciaries can give it. It has been held that where an accounting to ascertain the exact amount of the profits taken by the promoter is unnecessary, the corporation is not restricted to a remedy in equity only, but may sue at law in an action of assumpsit for so much money had and received by the promoters to the use of the intended corporation. But the action taken must be brought within a reasonable time, and where in a particular case an action for secret profits was not brought until four and a half years after knowledge of the facts, the court refused relief upon the ground of laches and unreasonable delay.* It must be remembered that this restriction as to secret profits holds only while the promoters are acting for the corporation. There is no rule of law which prevents a person from selling to the corporation, after it is formed, either his own property, previously owned or purchased by him for that purpose, at any profit which he may be able to obtain, or the property of another at any commission the vendor is willing to allow him, provided all facts and figures be communicated to those interested and acquiesced in by them. All that is demanded is a full disclosure of interest and open dealing so that the parties may be advised of the relation the promoter bears to the property which he proposés to sell.

In the New York Court of Appeals a case is reported where four persons owning certain oil lands which had cost them about $30,000 agreed to combine their interests to organize a company and transfer such interests to the company at a figure far above the cost and divide the profits. To carry out this purpose they drew up a subscription paper by which the subscriber agreed to pay the sums subscribed for the purchase of the property, specifying the oil lands at a price of $125,000. This was represented by the promoters as the original cost of the land. The court held that such a profit was illegal. Where persons are engaged in a joint enterprise for mutual benefit each has a right to the utmost good faith on the part of the others and secret profits cannot be made by any one not disclosing the same to the others.

A case, almost identical in its facts, was decided in the Supreme Court of Pennsylvania in 1869. An action was brought by a corporation to recover the difference between the price paid for certain property by promoters and the figure at which it was

* 8: Pa. 278. † 26 Misc. N. Y. 26.

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