Business Scenario 39-2 Preincorpation

Facts:

Three freshly graduated people want to enter a corporation that specializes in manufacturing and
distributing digital tablets (Clarkson, 2015). Another party, Peterson, starts the terms of a
contract with Owens in order to procure land valued at $20,000 (Clarkson, 2015). However, this
new party Owens does not know anything about the nascent corporation (Clarkson, 2015).

Moreover, Peterson is in the middle of forming another contract with Babcock in order to
construct a manufacturing plant on the aforementioned land (Clarkson, 2015). Babcock will only
start construction if the corporation is formed. Peterson then files for the articles of incorporation
(Clarkson, 2015).

Issue:

It is necessary to identify the parties who are liable in the two contracts with Owens and Babcock
(Clarkson, 2015). Also, its necessary to see if the new corporation is liable to Babcock because
of the conditional contract (Clarkson, 2015).

Rule:

There are several pieces of legislation that are pertinent to this case; in particular, 15 USC
80a-2 addresses the formation of corporations (US House, 2010).

Corporations are usually formed with shareholders in place (The Free Dictionary, 2017).
Depending on terms of agreement and amount of contributed equity, shares are distributed
amongst the shareholders once bylaws are agreed upon (The Free Dictionary, 2017). Then
articles of incorporation are submitted for review. Moreover, per 15 USC 80a-2, a promoter is
a party who has, within one year of the formation of the corporation, has been involved in the
organization of said corporation either alone or with its founders (The Free Dictionary, 2017).

Per legislation 15 USC 77aa, the registration information of a corporation must include
not only the contact information of all executives, financial officers, and underwriters involved,
but also that of the promoter (US House, 2010). Moreover, if the promoter engages in any
contracts before the formation of a corporation, the promoter holds all liability (US House,
2010). This notion hinges on the theory that promoters are acting on behalf of nascent
corporations (US House, 2010). Additionally, if the other parties in the contracts do not know of
the corporation, the promoter is not absolved of any liability (US House, 2010). Also, once the
articles of incorporation are submitted, the promoter may still hold some liability. However, there
are some exceptions in regards to the liability held by promoters (US House, 2010). First, the
contract that the promoter engages in can specifically address that the emerging corporation be
held for liability (US House, 2010). Second, the contract party can release the promoter from all
liability obligations on their own accord. Lastly, a corporation can be formed on the premises
of novation (US House, 2010). A novation occurs when a new party assumes all rights,
responsibilities, and obligations in regards to contractual agreements; in this case, the promoter is
not held liable for anything (The Free Dictionary, 2017). If, however, the company engages in an
adoption clause, then the promoter would still be held liable for all debt obligations; in this case,
both the company and the promoters are held liable for everything concerning the corporation
(The Free Dictionary, 2017).

Analysis:

Per contract and corporation law, Peterson is considered the promoter for this digital
tablet company. Per the facts of the case, both Owens and Babcock did not specify release from
liability for the promoter. Moreover, both Owens and Babcock did not specify
any novationstipulations in terms of having the company take over all fiscal responsibilities.
Also, when engaging in the organization of the corporation, the promoter did not stipulate that
only the company would be fiscally responsible in terms as Babcock did not differentiate
between the company and its promoter. Babcock only held that the company had to be properly
formed in order to start and fulfill the contractual work.

Also, the articles of incorporation did not specify that once the corporation is formed,
all pre-incorporation contractual obligations would change. Because the company in and of itself
did not engage in the contract with Babcock, the company is not contractually obligated to hold
any liabilities.

Conclusion:

In terms of the first contract with Owens, only Peterson is held responsible for all
liabilities and not the company. There is no release from liability, no assumed contractual
responsibility via novation, and no added stipulation about the companys responsibility.
This aforementioned conclusion holds true in regards to the terms of agreement with Babcock.
Only Peterson is held liable for the contract with Babcock as Babcock cannot force the company
to undertake any financial liabilities as novation, release, and an extra stipulation were not
specified.

Peterson should have made the terms of agreement much clearer in terms of financial
responsibility. Three college graduates entering a highly competitive digital tablet market may
face high risk and incredible financial loss, especially in the beginning stages of the corporation.
Peterson should have specified through novation or another stipulation that the three college
graduates should be held financially responsible for all liabilities once the corporation took place.
Petersons promoter responsibilities should only be limited to organization and the nascent stages
of the corporation and not in undertaking financial obligations, especially when a single contract
runs in the tens of thousands of dollars.
References

Clarkson, K. W., Miller, R. L., & Cross, F. B. (2015). Partnerships and Limited Liability
Partnerships. In Business Law Text and Cases (13th ed., pp. 776). Cengage Learning.

The Free Dictionary. Novation legal definition. Retrieved February 14, 2017, from http://legal-
dictionary.thefreedictionary.com/novation

U.S. House of Representatives. 80a2. Definitions; applicability; rulemaking considerations.

Retrieved August 1, 2010, from http://uscode.house.gov/view.xhtml?req=corporation
promoter&f=treesort&fq=true&num=2&hl=true&edition=prelim&granuleId=USC-prelim-
title15-section80a-2