Home > Regions > Central & South America > Could a company in process of being incorporated enter into an agreement provided there is a clause conditioning the validity of the agreement to the incorporation fulfillment?

Could a company in process of being incorporated enter into an agreement provided there is a clause conditioning the validity of the agreement to the incorporation fulfillment?

A few days ago I was thinking on this next blog entry, trying to find a corporate issue that could be addressed different depending on the jurisdiction and this question came to mind: Could a company in process of being incorporated enter into an agreement provided there is a clause conditioning the validity of the agreement to the incorporation fulfillment?

Before going forward with the post, keep in mind that this is not the case that a company is not incorporated and hold back this information from the other party. This is the case, when everybody knows the company is in process of incorporation and both parties agree to proceed nevertheless.

Under the DR Law, the question is yes. In many cases, incorporating a company in the Dominican Republic could take from 2 weeks to over a month, depending on the company types, the availabilities of the members, filings and registrations. That is a long time. A time, in which anything can happen, either deals could arise or deals could fall apart. That is why, in some circumstances we´ve been forced to enter into certain agreements (or MOU or LOI) with a “company in formation”, to secure the transaction, until the company is fully incorporated and operational.

What we´ve done in exchange is to include in the agreement, a conditional clause, holding the validity of the agreement to the fulfillment of the incorporation process and including a deadline for it. This has worked for us, from the “practical” point of view and fortunately we haven´t had any breach of the agreements made under this circumstances. We even have included a ratification of the agreement by the Board of the Company so the counterparts feel comfortable with the scenario.

From a Government and Courts perspective, the company in formation is not entitled to operate thus such agreements could be considered void in case it turns into a litigation.

I wanted to gather some opinions from colleagues around the globe on this matter, so I went to Linkeding® and posted the question. Here are some of the answers:

Simeon Vance (from North Carolina, US): Your question reminded me of a case from law school: Southern-Gulf Marine Co. No. 9, Inc. v. Camcraft, Inc., 410 So. 2d 1181 (1982). Southern Gulf signed an agreement as a corporation to purchase a vessel from Camcraft, but was not incorporated at the time it signed the agreement. The court held that Souther-Gulf’s failure to have incorporated before signing a contract did not make the contract unenforceable.”

Akintola Olaniyi (Nigeria): “In my country (Nigeria), under the common law, pre-incorporation contracts do not bind a company. Still under the common law, when a company eventually gains legal personality, it cannot also ratify such agreements, except it is incorporated in the Article of Association of the company. However, with the enactment of the Companies and Allied Matters Act, 1990, such contracts can be ratified. But until it is ratified, it the promoter of the company remains liable on the contract.”

Obong Israel (Nigeria): “Before entering into contract with any company, confirm it legal status. If in “process of incorporation” it should be executed with a personal guarantee by the promoters. Under the CAMA in Nigeria pre incorporation activities under Part “C” which regulates non profitable organizations are recognized by law.

LEV MARTYNIUK (Cincinnati, US): “Yes, under the common law of most US states a condition validity clause like you describe is valid, enforceable and would work. But there is at least one caveat that I can think of: There is a duty of good faith in actually forming the entity, and so if the entity were not formed the aggrieved party could claim that the intended shareholders did not act in good faith. I would qualify what actions must or may be taken to form the entity and to excuse non-formation. Also, a deadline as to time should be provided. Lastly, beware of the promissory estoppel issue under Common Law which could apply if there is too much time between the Agreements execution, a reasonable reliance by the aggrieved party (like money spent), and the contingency’s occurrence. You may want to add what we call an “Unwind Clause” with each party returned to their status quo ante to address this.”

So far, it looks that the issue is not as delicate as we can think and indeed is more common than what I thought at the beginning. It seems like the key issue is “good faith” and more important, whether you are counseling the company in formation or the counterpart. So, if you find in this situation anytime, go ahead and present these types of clauses to facilitate the agreement but make sure that the other party knows and accept that your client is not fully incorporated yet.

Thanks for those who replied to the questions and please keep expressing yourselves and get this discussion going.