Monday, June 29, 2015

MCA’s Exemption Notification for Government Companies

[The following guest post is contributed by Vinita Nair of Vinod Kothari & Co. The author may be contacted at vinita@vinodkothari.com.]

By way of a notification dated June 5, 2015 exempted Government companies, private companies, section 8 companies and nidhi companies from complying with certain provisions of the Companies Act, 2013 (“Act, 2013” or “Act” or CA 2013) as mentioned below subject to the condition that the company ensures protection of shareholders’ interests. The exemption notification has been published in Official Gazette.

Section 620 of the Companies Act, 1956 also empowered modification of the Act in relation to Government companies. Several notifications were issued under that for exempting or modifying the applicability of the provisions of that legislation.

I. Exemption to all Government Companies:

1. By way of alterations to section 4(1)(a), the memorandum of a Government company shall state name of the Company with the last expression “Limited”;

2. In case of Government companies the requirement under Section 56 (1) for proper instrument of transfer duly executed and stamped shall not be required with respect to bonds issued by Government company provided that an intimation is given by the transferee specifying his name, address and occupation and delivered to the Company along with the bond certificate, if any or with the letter of allotment of the bond.

Furthe,r the requirement proper instrument of transfer duly executed and stamped shall also not apply in case of transfer of securities held by nominees of the Government.

3. A Government company need not comply with the provisions of Section 89 relating to declaration in respect of beneficial interest in any share. Consequentially, the provisions of Section 90 relating to investigations of beneficial ownership of shares in certain cases by Central Government shall also not apply to Government Company.

4. A Government company shall hold an annual general meeting (AGM) of the company at the registered office or such other place as the Central Government may approve in this behalf, pursuant to provisions of section 96 (2).

5. A Government company need not comply with the provision of section 134(3)(e) relating to specifying the companys policy on directors appointment and remuneration including criteria for determining qualifications, positive attributes, independence of a director and other matters provided under sub-section (3) of section 178.

6. The restriction of having a maximum of 15 directors, unless approved by members by passing special resolution under Section 149 (1) (b) read with first proviso, shall not apply in case of Government companies.

7. The independent directors being appointed should be persons of integrity and possess relevant expertise and experience in the opinion of Ministry or Department of the Central Government which is administratively in charge of the Company, or as the case may, the State Government.

8. The restriction with respect to independent director not having pecuniary relationship with the company, its holding, subsidiary or associate company, or their promoters, or directors, during the two immediately preceding financial years or during the current financial year as specified under section 149(6) (c) shall not apply to a Government company.

9. A Government company need not obtain consent letter from directors and file the same with the Registrar of Companies (RoC) within 30 days of appointment as required under section 152(5) where the appointment of such a director is carried out by the Central Government or State Government, as the case may be.

10. The disqualification specified under section 164 (2) pertaining to ineligibility of a director of following company from being appointed/ re-appointed as a director of the Company shall not apply to a Government company:

- which has not filed financial statements or annual returns for any continuous period of three financial years; or

- which has failed to repay the deposits accepted by it or pay interest thereon or to redeem any debentures on the due date or pay interest due thereon or pay any dividend declared and such failure to pay or redeem continues for one year or more.

11. The Audit Committee of a Government company shall recommend remuneration of auditors. The recommendation for appointment and terms of appointment as required under Section 177 (4) (i) shall not be required to be included in the Terms of Reference of Audit Committee.

12. Provision of Section 163 relating to proportional representation for appointment of directors on the Board shall not apply.

13. The requirement specified under section 178(2), (3) and (4) with respect to identification of directors, senior managerial personnel by the Nomination and Remuneration Committee , framing of criteria for determining qualifications, positive attributes and independence of a director and framing policy thereof, will be applicable only for appointment of ‘senior management’ and other employees.

14. A Government company is not required to comply with provisions of section 196 (2), (4) and (5) dealing with the following:

- Restriction on appointing or re-appointing any person as its managing director, whole-time director or manager for a term exceeding five years at a time;

- Approval of terms and conditions of such appointment approved by the Board of Directors at a meeting, by a resolution at the next general meeting of the company and by the Central Government in case such appointment is at variance to the conditions specified in Schedule V;

15. A Government company is not required to comply with provisions of section 197 which specifies limits for overall maximum managerial remuneration and managerial remuneration in case of absence or inadequacy of profits.

16. The provisions of sub-section (1), (2), (3) and (4) of Section 203 with respect to appointment of key managerial personnel, holding of office, period within which appointment to be made in case of vacation of office of key managerial personnel (KMP), will not apply to a managing director or Chief Executive Officer or manager and in their absence, a whole-time director of the Government company.

17. In case of Government company, no court shall take cognizance of any offence under this Act which is alleged to have been committed by any company or any officer thereof, except on the complaint in writing of a person authorised by the Central Government in that behalf. The Court shall not take cognizance of any offence on a complaint made by the Registrar or shareholder of the company as specified under Section 439 (2) of CA, 2013.

II. Exemption to such Government Companies whose entire paid up share capital is held by the Central Government, or by any State Government or Governments or by the Central Government and one or more State Governments:

1. In case of inadequacy of profits, such Government company can declare dividend without complying with the requirements of Rule 3 of Companies (Declaration and Payment of Dividend) Rules, 2014.

2. Such Government company need not deposit amount of dividend, including interim dividend in a separate bank account within 5 days from the date of declaration of such dividend as specified under section 123 (4).

3. The requirement of retirement of directors by rotation under section 152 (6) shall not apply. Consequently, the provision pertaining to vacancy of retiring director not being filled at the meeting as provided under section 152 (7) shall also not apply.

4. The requirement of providing notice of candidature in case of appointing a director other than a retiring director under section 160 shall not apply.

5. A motion can be moved for the appointment of two or more persons as directors of the company by a single resolution. The provisions of section 162 shall not apply to such government company.

6. Provision of section 163 relating to proportional representation for appointment of directors on the Board shall not apply.

7. Provisions of section 170 shall not apply. Such Government company shall not be required to maintain Register of directors and key managerial personnel and their shareholding under section 170. Consequently, the provision pertaining to inspection of the register maintained under section 170 as provided under section 171 shall also not apply. Further, section 170 also mandates filing of return for appointment of director and KMP in DIR-12. This requirement also has been exempted.

III. Exemption to such Government Companies that have obtained approval of the Ministry or Department of the Central Government which is administratively in charge of the Company, or as the case may be, the State Government:


1. A Government company whose directors are evaluated by the Ministry or Department of the Central Government which is administratively in charge of the company, or as the case may be, the State Government, as per its own evaluation methodology need not include statement disclosing the manner in which formal annual evaluation has been made by the Board of its own performance and that of its committees and individual directors as stipulated under section 134 (3)(p).

2. Section 185 prohibiting granting of loans to directors and to any other person in whom director is interested shall not apply to Government companies in case such company obtains approval before making any loan or giving any guarantee or providing any security or making any investment under the section.

3. Provisions of section 186 with respect to loans and investment by company shall not apply to a Government company, other than a listed company in case such company obtains approval before making any loan or giving any guarantee or providing any security or making any investment under the section.

4. A Government company, other than a listed company, is not required to comply with provisions of first and second proviso of section 188 which restricts companies from entering into related party transactions exceeding specified values without obtaining prior approval of shareholder and also restricts related party who is a party to the contract, to abstain from voting in case such company obtains approval before entering into such contract or arrangement.

IV. Exemption to Government Companies engaged in defense production:

1. Section 129 pertaining to financial statement shall not apply to a Government company to the extent of application of Accounting standard 17 (Segment Reporting) to the companies engaged in defense production.

2. Provisions of Section 186 with respect to loans and investment by company shall not apply

V. Exemption to subsidiary whose entire paid up share capital are held by such Government Companies whose entire paid up share capital is held by the Central Government, or by any State Government or Governments or by the Central Government and one or more State Governments:

1. The requirement of retirement of directors by rotation shall not apply. Consequently, the provision pertaining to vacancy of retiring director not being filled at the meeting as provided under section 152 (7) shall also not apply.

2. The requirement of providing notice of candidature in case of appointing a director other than a retiring director under section 160 shall not apply.

3. A motion can be moved for the appointment of two or more persons as directors of the company by a single resolution. The provisions of section 162 shall not apply to such government company.

VI. Exemption to a Government company on entering into contract or arrangement with another Government company:

1. Such government companies are not required to comply with provisions of first and second proviso of section 188 which restricts companies from entering into related party transactions exceeding specified values without obtaining prior approval of shareholder and also restricts related party who is a party to the contract, to abstain from voting.

Conclusion

The exemptions will making it easier for Government companies to comply with certain provisions of Act, 2013.

It is pertinent to note that in case of Government Companies these provisions were also formerly exempted by ways of notifications issued under Section 620 of Act, 1956. Most of the exemptions are the same as those provided under the erstwhile notifications. The new provisions exempted for a Government company include exemptions under Sections 134 (3) (e) & (p), 149, 177, 178 and 203 of Act, 2013.

- Vinita Nair


Saturday, June 27, 2015

Analysis of the New SEBI Promoter Re-classification Norms

[The following guest post is contributed by Shashank Prabhakar, a Senior Associate with Finsec Law Advisors. These are the author’s personal views]

Shareholders in a listed company are classified under two broad categories, i.e., those that belong to the promoter / promoter group and those shareholders who are members of the public with no familial or formal business ties with the promoter / promoter group. The Securities and Exchange Board of India (SEBI), in its last concluded Board Meeting on June 23, 2015, has announced its intention to put in place a regulatory mechanism for re-classification of promoters of listed companies as public shareholders. Till date, there were no specific rules in place which allow a promoter or a member of a promoter group to exit this so called “group” and become a “public shareholder”.

Regulation 2(za) of the SEBI (Issue of Capital and Disclosure Requirements) Regulations, 2009 (ICDR Regulations) defines a “promoter” to include (a) person or persons who are in control of the issuer; or (b) person or persons who are instrumental in the formulation of a plan or programme pursuant to which specified securities are offered to public; or (c) the person or persons named in the offer document as promoters. “Promoter group” inter alia includes promoters, their immediate relatives (spouse, parents, siblings, children of the person or that of spouse) and any body corporate in which 10% or more of the equity share capital is held by the promoter or an immediate relative of the promoter or a firm or Hindu Undivided Family (HUF) in which the promoter or any one or more of his immediate relative is a member. Those shareholders falling outside the scope of promoter / promoter group definitions are considered to be public shareholders.  

According to the SEBI press release, a promoter’s shareholding may be reclassified and can become public shareholding in three situations, i.e., when (a) there is a change in the promoter; or (b) death of the person named as promoter; or (c) when a company becomes professionally managed. I shall now analyze all the three situations and the conditions thereunder that need to be satisfied for successful reclassification.

Change in promoter

A change in the promoter of a company may occur when a new promoter replaces the existing promoter through an acquisition of shares or control that results in an open offer being made under SEBI’s Takeover Regulations or in any other manner, subject to two more conditions: (a) that the outgoing promoter’s shareholding is less than 10% and (b) the outgoing promoter will have to obtain the approval of the shareholders of the company in a general meeting for de-classification as a promoter (which seems to be an ordinary resolution).

These two conditions appear confounding. As is clear from the definition of promoter, no shareholder approval is necessary for one to be named as promoter. There are no barriers to entry into this club of “promotership”. As per the definition, the promoter does not even have to hold 10% of the target’s equity to call such shareholder a promoter. But once a person been named as a promoter, such person cannot become a public shareholder until he or she hold less than 10% and obtain shareholders’ approval! What if the existing promoter holds more than 10% but obtains the approval of the shareholders to continue as a public shareholder? Or consider a situation where the existing promoter never held more than 10% and a new promoter replaces such person by making an open offer to acquire shares and control under the Takeover Code. Will the existing promoter still have to take the shareholders’ approval in a general meeting to be re-classified as a public shareholder if such person decided to hold on to the stake (which was less than 10% to begin with) for mere investment purposes with no role to play in the management of the company? From that perspective, the imposition of a 10% threshold in order to be eligible for re-classification appears to be wholly arbitrary. The rationale for obtaining shareholders’ approval is also unclear and it may prove to be onerous not only for the existing promoter but also for the new promoter and the company, as they will now have to expend considerable resources in calling for a general meeting and putting this item up for vote. It is also unclear as to how it may benefit the company or the public shareholders, if at all.  

It also seems that SEBI wants the outgoing promoters to have very little, if not nothing, to do with the target company after they have been re-classified as public shareholders. The Press Release specifies that the outgoing promoter will have to obtain prior approval of the shareholders of the target if he or she wants to continue as a key managerial employee (KMP) in the target and in any case their appointment cannot exceed 3 years from the date of the shareholders’ approval. I find this condition very perplexing. What is the specific market failure or lacunae in corporate governance norms, if any, that SEBI is trying to address? It is obvious that SEBI is trying to prevent a Diageo vs. Dr. Vijay Mallya type of situation, in the future, by not only making it more difficult to retain erstwhile promoters in a professional capacity but also by imposing an absolute ban on them from continuing in the company for more than three years.

Promoter by way of inheritance

SEBI has clarified that in cases of transmission / succession / inheritance, the inheritor shall be classified as a promoter. The press release can be treated as a mere clarification of the existing legal position. Regulation 10 of the Takeover Regulations provides an exemption from making an open offer in cases of transmission / succession / inheritance.

Re-classification when no identifiable promoter

SEBI has allowed existing promoters to be re-classified as public shareholders where the company becomes professionally managed and does not have any identifiable promoter provided that no person or group along with persons acting in concert with them can collectively hold more than 1% of the company’s shares. However, mutual funds / banks / insurance companies / financial institutions / FPIs can each hold up to 10% of the shares of the company. Most listed companies in India are family run and professionally managed firms are few and far between.

As far as the first condition is concerned, I feel that the threshold of 1% is extremely low. There could be situations where the existing promoters may cease to exercise control or manage the affairs of the company, directly or indirectly, but may want to retain their shares for purely investment purpose and continue in the company as a public shareholder. By setting the threshold so low it also appears that SEBI is not comfortable with a promoter-less company.

It is also crystal clear that SEBI is not in favour of a situation where the erstwhile promoter holds an important position in the company. He / she is required to obtain the shareholders’ approval to continue as a KMP and in any case the appointment cannot exceed more than 3 years from the date of approval.

Additional Conditions

SEBI has also imposed certain additional conditions which are required to be satisfied for completion of reclassification, the most important of which are: (a) The existing promoter shall not have any special rights through any formal or informal arrangements; (b) even after the existing promoter’s shares have been reclassified as public, his / her shareholding cannot be counted towards achieving minimum public shareholding norms under the listing agreement read with Section 19A of the SCRA.

The draft paper on promoter reclassification that was released by SEBI for public comments specified that “post-reclassification, no shareholding agreement shall exist and all past agreements between (i) outgoing promoter / promoter group entities and the continuing promoter / promoter group entities and (ii) outgoing entities and the company, shall be made null and void.” The SEBI Notification of October 3, 2013, has allowed promoters of listed companies to enter into shareholders’ agreement with certain special rights between such shareholders. For example, put and call options, tag along rights, drag along rights, etc. under shareholders’ agreements are now valid. The existence of put and call options between two shareholders does not threaten either the company or other shareholders who are not party to the shareholders’ agreements. Further, the very concept of “special rights” is vague and will need to be clarified by SEBI. The existence of such rights between shareholders does not create any confusion as far as deciding the issue of control of the target company is concerned. It would have been acceptable for SEBI to bar the existing promoter from entering into any agreement which would confer voting rights on him / her disproportionate to his / her shareholding, but to ban all “special rights” seems a little excessive.

The second condition, interestingly, creates a third category of shareholders who are neither promoters nor public shareholders! Post re-classification, for the limited purpose of calculating the company’s total public shareholding for the purpose of compliance with Section 19A of the SCRA read with clause 40A of the listing agreement, the erstwhile promoter’s shareholding will not be considered even though for all other purposes the erstwhile promoter is actually a public shareholder!

Conclusion

In light of the arguments presented above, I feel that SEBI has been over cautious and has needlessly complicated the process of re-classification and made it onerous on the outgoing promoter. A simpler approach would have been to subject the issue re-classification of promoters to the test of “control” under the Takeover Code, given that the definition of control takes into account both de facto and de jure control and also given that it has been extensively tested in courts / tribunals. Additional protections that SEBI may feel necessary can be built on this basic premise. In such a scenario, if the outgoing promoter is not found to be in “control” of the company, then he / she should not be classified as a promoter. Those who seek re-classification of their shareholding may apply to SEBI with reasons stating why they are not in “control” of the company and SEBI may apply its mind and decide whether the applicant’s shareholding is eligible for reclassification. It has been my experience that SEBI has always insisted that those acquiring shares or control under the Takeover Code have been asked to classify themselves as promoters of the target company. Under this approach, once the open offer has been completed and a new promoter has been formally announced, the outgoing promoter can be classified as a public shareholder, as has been done in many instances in the past.   
 

 - Shashank Prabhakar