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Pankaj Tyagi
| Updated: 08 Mar, 2021 | Category: Compliances

Potential Liabilities Related to Misstatements in Prospectus

Liabilities Related to Misstatements in Prospectus

A Prospectus is an essential component of an organization. In general, the prospectus is accessible to the general public and helps them depict the current financial status of the company for investment purposes. The legitimacy of the information enclosed in the prospectus is vital from the legal context. Generally, people look for the prospectus to decide whether investing in that company would be profitable or not. The reason why organizations rolled out prospectus is that they wish the public to come and take debenture or to credit money through the organization. The information included in the prospectus must be authentic to its core. Any false or misleading information in the prospectus would attract civil or criminal liabilities for the company. In this write-up, we shall explore this topic in detail and explains the civil and criminal liabilities for misstatements in prospectus.

Legal Connotations for the Misstatements in Prospectus

The information includes in the prospectus helps the public to identify the growth prospect of the company. As of now, the prospectus is the only legitimate source through which the public can decide whether to go for the investment or not.

Legally, the inclusion of any information in the prospectus that is potentially misleading in nature is termed as Misstatements in the prospectus. Similarly, the omission of any legitimate information from the prospectus that has the potential to mislead the public, the prospectus will be considered as a prospectus with a misstatement. 

There are instances when matter associated with the representation for the upcoming events has been questioned. A demonstration of the misleading information that promises that something will happen in future will invoke the liability for misstatement.

Read our article:How to Avail a Company Registration Certificate?

Liabilities for Misstatements in the prospectus

The liabilities related to Misstatements in prospectus can be encompassed under the given heads:-

Liabilities for Misstatements in the prospectus

Civil Liabilities for the Misstatement in Prospectus

Civil liability for misstatements will come into existence when an individual has encountered any loss or damage by subscribing company’s securities based on a misleading prospectus (Sec. 35). In such scenarios, the given individuals shall stand liable under sec. 447 and will have to furnish compensation to individuals who have encountered such loss or damage:  

  • Company’s director at the time of the issuance of the prospectus;
  • Individual who has given his/her consent to be named as a director in the company’s prospectus and is named as a director, or has to agreed to hold such position; 
  • Is a company’s promoter; 
  • Has rendered his/her approval for the issuance of the prospectus; and 
  • And, is an expert who has been involved or interested in the promotion, formation, or company’s management. 

Exemption from Liability for Misstatement in Prospectus

  • An individual cannot be held liable under sec 34 if he proves that: the statement or omission stands irreverent or  
  • He had strong reason to believe that the statement was not misleading or the omission or inclusion was essential and believed in it until the issuance of a prospectus. 
  • Similarly, an individual shall not stand liable under sub-section (1) of Sec. 35 (civil liability), if he/she proves that:
    • he/she withdrew this consent to hold a position of directorship in a company before the issuance of the prospectus, and that it was made publically available without his/her consent; or
    • The prospectus was made publically accessible without his/her consent, and
    • After getting familiar with its issues, he/she gave a public notice reflecting his/her innocence regarding the said matter.  
  • A person may not stand liable for a misstatement made by an expert if:
    • The report is a legit and valid representation of the statement. or
    • A legit copy or a correct & fair extract of the valuation or report; and 
    • He had viable ground to believe that such an individual was competent to make the statement and had furnished the consent required by subsection (5) of section 26 for the issuance of the prospectus & had not withdrawn that consent before the delivery of prospectus’s copy for registration (Sec. 35(2)(c)).

Issuance of Prospectus to Deceive or any other Unlawful Purposes

If it has been uncovered that issuance of the prospectus has been done to defraud the applicants for the securities of the organization or any other individual for that matter or any other unlawful purpose, each individual mentioned above shall be held personally accountable for all the damages incurred by any subscriber of the securities based on such prospectus.  

Criminal Liability for the Misstatement in Prospectus

An individual who stamps his/her approval for the issuance of prospectus with invalid or misleading statements will face penalties under Sec. 34. Such a penalty is for fraud as defines under Sec 447. As per the said section, the term “fraud” defines as an act, concealment, omission of any fact with an aim to trick, gain undue advantage, or disrupt the interest of the organization or its shareholders or its creditors, or any other individual.

A person who authorizes the issue of a prospectus that has untrue or misleading statements is liable for punishment under Sec. 34. Such a punishment is for fraud. It is not necessary that the said action involve any wrongful loss or wrongful gain. Mistreatment of position by an individual is also deemed fraud as per this section. Sec. 447 further laid down the penalties for fraud: 

  • If the fraud entails a sum of ten lakh rupees or more or 1% of the company’s turnover (whichever is lower), the individual who is found guilty of such crime shall be punishable with imprisonment of six months which may extend to 10 years. Such an individual shall stands liable to a fine of a sum not less than an amount equivalent to fraud amount and the fine may extend to 3 times of such amount. 
  • If the fraud entails a sum less than ten lakhs rupees or 1% of the company’s turnover (whichever is lower) & does not involve an interest of the general public, the imprisonment tenure may extend to 5 years or with a fine which may extend to 50 lakhs rupees or with both. 
  • If the prevailing fraud involves public interest, the imprisonment shall not be less than three years, 

Conclusion

The organization should pay extra attention while drafting the prospectus for the general public. The prospectus should undergo reoccurring scrutiny for any misstatements or anomalies before making it publically accessible. The Companies Act[1] has provisions in place to penalize the unlawful act in this regard.

Therefore, the organization needs to maintain the integrity of the information that goes into the prospectus. The general public takes prospectus into account to make investment decisions. Remember Misstatements in prospectus can be detrimental to a company’s reputation or its presence in the given market.

Read our article:What is Cost of Company Registration in India?

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Pankaj Tyagi

Pankaj has a diverse experience of writing research papers, blog, and articles during his college time. Earlier, he was working as a tax consultant in a financial firm, but his interest in writing drives him to pursue a career in the writing field.

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