Liabilities for Mis-statements in Prospectus

Liabilities for Mis-statements in Prospectus

Sec. 2(36) of the Companies Act defines a prospectus as, “any document described or issued as a prospectus and includes a notice, circular, advertisement or other document inviting deposits from the public or inviting offers from the public for the subscription or purchase of any shares in or debentures of a body corporate”. Thus any document inviting the public to buy its shares or debentures comes under the definition of prospectus. It also applies to advertisements inviting deposits from the public.

Under Sec.65 of the Companies Act, a prospectus will be deemed to contain an untrue statement, if:

1.     The statement included in the prospectus is misleading in the form or in the context in which it is included; and

2.     There is an omission from the prospectus of any matter which is calculated to misled [Sec.65(1)].

Civil Liability for Mis-Statement

Civil liability arises when there is a mis-statement or misrepresentation of fact in a prospectus or an omission of material fact calculated to misled, and such a statement or omission has induced a shareholder to buy shares on the faith of such statement. Every director or promoter of a company, and all other persons including an expert who has authorized the issue of such prospectus are liable for such misstatement or misrepresentation to the allottee of shares. The shareholder who has purchased shares on the faith of such mis-statement has remedy in a civil action against the company, as well as directors, promoters, experts etc. for any loss or damage suffered by him.

Remedies against the Company

For mis-statement or misrepresentation in a prospectus, the remedies available to a shareholder against the company are: (i) rescission of the contract, and (ii) damages for deceit. Any person who takes shares on the faith of statements contained in a prospectus, can apply to the Court for rescinding or setting aside the contract on the ground that the statements are false or fraudulent or that some material information has been withheld.

Remedies against Directors, Promoters etc.

Against the directors, promoters, experts and other persons, the remedies available are: (i) damages for fraudulent misrepresentation under the general law; (ii) compensation for loss or damage under Sec.62 of the Act; and (iii) damages or loss suffered due to omission of statement under Sec.56 of the Act.

1.     Under the General Law, a shareholder can hold persons responsible for the issue of a prospectus (directors, promoters etc.) liable for damages for any fraudulent misrepresentation or misstatement in the prospectus, if he was deceived by reason of acting on the faith of such prospectus. But the directors (or promoters etc.) will not be held liable for such mis-statement, if they honestly believed what they said in the prospectus to be true.

2.     Compensation under Sec.62. If a person purchases shares or debentures of a company on the faith of statements made in the prospectus and thereby suffers any damage or incurs loss, he is entitled to claim compensation for the loss or damage in a civil action against the directors, promoters, and all other persons who have authorized the issue of the prospectus [Sec.62(1)].

3.     Damages under Sec.56. If there is an omission from the prospectus of any matter required to be included by Sec.56, any subscriber for shares who has suffered loss due to the omission can bring action for damages, even if such omission does not make the prospectus false or misleading.

Criminal Liability for Mis-statement

Knowingly including an untrue statement in the prospectus or fraudulently inducing a person to invest money in shares, gives rise to criminal liability on the part of the persons authorizing the issue of such a prospectus. Section 63 and 68 of the Companies Act provide for heavy punishment for such criminal liability.

If a prospectus contains any untrue statement, every person who has authorized the issue of the prospectus is punishable with imprisonment for a term which may extend to two years, or with fine which may extend to five thousand rupees, or with both.

The Act has also laid down that if a person knowingly or recklessly makes any statement, promise or forecast which is false, deceptive or misleading, or dishonestly conceals material facts, and thereby induces or attempts to induce another person to subscribe to the shares of a company, he shall be punishable with imprisonment for a term which may extend to five years, or with fine which may extend to ten thousand rupees, or with both (Sec.68