Misstatement in prospectus
Prospectus is the sole of any company. On the basis of the contents of the prospectus, the general public makes up their mind whether to invest in that company or not. Hence the statements in the prospectus hold a great gravity of being absolutely true. But what if there is any wrong information given in the prospectus and there is a loss suffered by the public because of relying on it. The article gives an insight to the persons who can be held liable for the misstatement in the prospectus and various defences that are at their disposal to escape from the liability.
When prospectus is issued by any company, it is mainly to invite public to take shares or debentures of the company or to deposit money with the company. It is the duty of the company to see that the statements made in the prospectus are of true nature. But if there is any false information given in the prospectus and the public acts upon that, the Companies Act provides for provisions for the persons that who would be held liable for misleading the public.
The definition of prospectus in the Indian Companies Act 1956 was based on the definition found in the English Companies Act and after undergoing an amendment in 1960, it is read as
“ A prospectus means any document described or issued as prospectus and includes any 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. "
Hence any advertisement that intends to offer to the public shares or debentures of the company for sale is a prospectus. According to the general clauses Act 1956,
“Document shall include any matter written, expressed or described upon any substance by means of letters, figures or marks, or by more than one of those means which is intended to be used, or which may be used, for the purpose or recording that matter."
In Pramatha Nath Sanyal v Kali Kumar Dutt  an advertisement in a newspaper read as “ Some shares are still available for sale according to the terms of the prospectus of the company which can be obtained on application." It was held to be a prospectus as it invited public to purchase shares.
The question whether a television or film advertisement can be considered as prospectus is still not clear.
CONTENTS OF PROSPECTUS:
Prospectus is one of the means by which he is informed of the soundness of the company’s venture  . This is the basic function of the prospectus. It is the duty of the company to see that information given in the prospectus is true. Some of the essentials in the making of the prospectus are:
Prospectus should be dated. This gives prima facie knowledge about the date of its publication.
Prospectus to be registered. The registration of the prospectus has to be done with the Registrar of Companies and the copy sent for the registration must be signed every person who is named in the prospectus as a director or a proposed director of the company. It serves as a record of the terms and conditions of the capital issue.
Expert’s Consent: Consent of the expert in writing must be obtained and it should be stated in the prospectus if there is any statement in the prospectus purported to be made by the expert.
Disclosures in the prospectus: According to the sec – 56 every prospectus is required to disclose the matters specified in Schedule II of the Act.
Self Prospectus is discussed in Sec-60(A) of the Companies Act. It is made compulsory for any public financial institution, public sector bank whose main object is financing to file a shelf prospectus. Shelf prospectus means a prospectus issued by any financial institution or bank for one or more issues of the securities or class of securities specified in that prospectus. For the purpose of this section “financing" means making loans to, or subscribing in the capital of, a private industrial enterprise engaged in infrastructural financing or such other company as the central government may notify in this behalf.
The advantage of filing is that the company who has filed the self prospectus with the Registrar shall not be required to file prospectus afresh at every stage of offer of securities within a period of validity of such self prospectus.
INFORMATION MEMORANDUM AND RED – HERRING PROSPECTUS:
A public company making an issue of securities may circulate information memorandum to the public prior to filing of a prospectus. Information Memorandum has been defined in sec 2 (19-B) by the Amendment Act 2000 which is as follows:
“Information memorandum means a process undertaken prior to the filing of a prospectus by which a demand for the securities proposed to be issued by a company is elicited, and the price and the terms of issue for such securities are assessed by means of a notice, circular, advertisement or document. "
According to the sec 60B(2), a company inviting subscription by an information memorandum shall be bound to file a prospectus prior to the opening of the subscription lists and the offer as red- herring prospectus, at least three days before the opening of the offer.
For the purpose of this section “red – herring" prospectus means a prospectus which does not have complete particulars on the price of the securities offered and the quantum of securities offered.
The Act according to the sec 64 deals with the concept of deemed prospectus. This is an exception to the issue of prospectus. As provisions relating to prospectus are most stringent and the duty of preparing and filing it is very onerous, a company can evade this by allotting the whole capital to an intermediary known as an “Issuing House". The shares are then offered to the public by the “House" by means of an advertisement of their own which cannot be called as the prospectus of that company but since the advertisement is an “offer for sale" it is deemed to be the prospectus of that company.
Even after allotting the shares and debentures to an issuing house there might not be any intention on the part of the company to make available the shares and debentures to the public unless any contrary intention is shown and the following conditions are proved:
(a) that an offer of the shares or debentures or of any of them for sale to the public was made within six months after the allotment or agreement to allot; or
(b) that at the date when the offer was made, the whole consideration to be received by the company in respect of the shares or debentures had not been received by it.
FRAMING OF PROSPECTUS:
The golden rule while framing the prospectus that must be observed was laid down by KINDERSELY VC in New Brunswick and Canada Rly and Land Co v Muggeridge. In brief the rule says that since the public is invited to take shares on the faith of the representations made in the prospectus, everything must be stated with strict and scrupulous accuracy. The public is at the mercy of the company promoters, hence nothing should be stated as fact which is not so, and no fact should be omitted the existence of which might in any degree affect the nature or quality of the privileges and advantages which acted as an inducement to take shares. Thus the true nature of the company’s venture should be disclosed.
As per Sec-65, a statement included in a prospectus shall be deemed to be untrue if the statement is misleading in the form and context in which it is included. Where there is any omission of a matter from the prospectus and this is made to mislead, the prospectus is deemed to be called as a prospectus in which an untrue statement is included. Not only in prospectus, but a statement can be said to mislead even if it is present in any report or memorandum by reference incorporated therein or issued therewith. The liability accrues where any person subscribes for any shares or debentures on the faith of the prospectus for any loss or damage he may have sustained by reason of untrue statement included therein.
CASE: DERRY vs. PEEK
The directors of a tramway company issued a prospectus stating that they had the right to run tram cars with steam power instead of with horses as before. The Act incorporating the company provided that such power might be used with the sanction of the Board of Trade. But, the Board of Trade refused to give permission and the company had to be wound up. One of the shareholders sued the directors for damages for fraud. Now, the House of Lords held that the directors were not liable in fraud because they honestly believed what they said in the prospectus to be true. Lord Herschel in this case observed that “Fraud is proved when it is shown that false representation has been made (a) knowingly, (b) without belief in its truth, or, (c) recklessly, carelessly whether it be false or true.
CIVIL LIABILITY FOR MISSTATEMENT:
Section 62 of the Companies Act, 1956 makes certain person liable to pay compensation to every person who subscribes for any shares of debentures on the faith of the prospectus for any loss or damage he may have suffered due to any untrue statement made in the prospectus. These would include Directors of the company, Promoters, or even the company. Thus, this section deals with the cases of misstatements of facts in a prospectus. It is immaterial for the purpose of this section whether the Director sees the prospectus or not; it is enough that he authorizes its issue.
The provision of the section is to protect the rights of the deceived shareholders who acted upon the wrong statement given in the prospectus. This tightens up the duties of the directors and others who are related to the issue of the prospectus. So this section provides for the statutory civil liability for untrue statement.
Conditions for invoking Section 62:
1) The company had issued a prospectus inviting persons to subscribe for its shares or debentures.
2) An untrue statement was included in the prospectus.
3) The person who is claiming for the compensation had subscribed for the shares or debentures offered by the prospectus.
4) Such person has subscribed for the shares or debentures relying upon the untrue statement contained in the prospectus.
5) Such person has sustained a loss or damage after having subscribed for the shares or debentures.
Persons liable under Sec- 62:
Every person who is a director of the company at the time of the issue of the prospectus;
every person who has authorised himself to be named and is named in the prospectus as the director or agreed to become a director, either immediately or after an interval of time;
every person who is a promoter of the company;
every person who has authorised the issue of the prospectus
CASE: Edington vs. Fitzmaurice
A company issued a prospectus inviting subscriptions for debentures. The prospectus contained a statement that “the objects of the issue of debentures are (a) to complete alterations in the buildings of the co., (b) to purchase horses and vans and, (c) to develop the trade of the co." However, the real object raised by debenture was to payoff the liabilities. Relying upon the statement in the prospectus, a person advanced money to the co. and purchased its debentures. The co. became insolvent, and that person filed a suit against the directors for fraud . It was held that the directors were liable for fraud. Here, the statement made was of existing fact as the director has misrepresented their state of mind and the statement made in the prospectus was material to the contract of purchasing debentures.
Here, the Court is right in judging the case as the object of the debentures mentioned in the prospectus is totally contradictory to the actual purpose. The company is rightly liable for fraud.
Sec-63 incorporates the provision for the criminal liability for misstatement in the prospectus. According to this section every person who has authorised the issue of the prospectus shall be punishable with imprisonment for a term which may extend to two years, or with fine which may extend to fifty thousand rupees, or with both. The offence is compoundable under sec 621A. It has to be noted that under such cases, once the prosecution establishes the falsity of statement in a prospectus signed by a director, etc., the onus is shifted to the defendant of proving either that the statement was immaterial or that he believed it to be true. An expert who has given the consent will not be deemed to be ipso facto a person who authorized the issue of prospectus.
DEFENCE IN CASE OF GENERAL LIABILITY:
A director or other person responsible for the prospectus shall not incur any liability for non compliance with any of the requirements of the prospectus if
he proves that he had no knowledge of the matter not disclosed in the prospectus
he proves that the non-compliance or contravention arose from an honest mistake of fact on his part; or
the non-compliance or contravention was in respect of matters which, in the opinion of the Court dealing with the case were immaterial or was otherwise such as ought, in the opinion of that court, having regard to all the circumstances of the case, reasonably to be excused, provided that no director or other person shall incur any liability in respect of the failure to include in a prospectus a statement with respect to the matters specified in clause 18 of Schedule II unless it is proved that he had knowledge of the matters not disclosed
DEFENCE AVAILABLE TO ANY PERSON OTHER THAN EXPERT IN CIVIL LIABILITY:
Withdrawal of consent: A director will not be liable if he withdraws his consent to be the director and the prospectus is issued without his consent and authority.
Issue without knowledge: Even where the name of the director appears in the prospectus he can escape from the liability by stating that it was issued without his knowledge and after becoming aware of it he gave a public notice to that effect.
Ignorance of untrue statement: A director may be ignorant of a statement made in the prospectus as false. In such case the director can use a defence that after becoming aware of the untrue statement, he withdrew his consent by a reasonable public notice. But this must be done before allotment.
Reasonable ground for belief: A director will also be protected if he shows that he had reasonable ground to believe and the time of allotment he believed it to be true.
DEFENCE AVAILABLE TO AN EXPERT:
An expert who has given his consent under sec – 58 of the act would not be liable if he proves :
after giving his consent to the issue of the prospectus, he withdrew it in writing before delivery of a copy of the prospectus for registration ;
On becoming aware of the untrue statement after delivery of a copy for registration and before allotment, he withdraws his consent in writing and gives reasonable public notice to the public and reasons for the same;
that he was competent to make the statement and that he had reasonable ground to believe, and did up to the time of the allotment of the shares or debentures, believe that the statement was true.
DEFENCE IN CASE OF CRIMINAL LIABILITY:
Any person who could he held criminally liable shall not be deemed to be so if he proves either that the statement was immaterial or that he had reasonable ground to believe, and did up to the time of the issue of the prospectus believe, that the statement was true.
Every person authorizing the issue of prospectus has a primary responsibility to see that the prospectus contains the true state of affairs of the company and does not give any fraudulent picture the public. The section 62 makes certain person liable to pay compensation to every person who subscribes for any loss incurred who subscribes the shares or debentures on the faith of the prospectus. But there are also some defences available to the persons held liable for the misstatement and they can evade the consequences if the conditions are satisfied. Hence it is clear that ever one is held liable to the shareholders if any wrong is committed by the company or any person working on behalf of the company. Law leaves no one if the wrong is proved against them.