Tuesday, January 26, 2016

What is a Foreign Company Under the Companies Act?

[This guest post is contributed by Ananya Banerjee, who is a Fifth year B.A.LLB(H) Student, Department of Law, University of Calcutta.

The post relates to an interpretation of certain provisions of the Companies Act, 2013, and represents the view of the author, which have been backed up by arguments and reasoning. The possibility of alternative views and interpretation cannot be ruled out]

This post deals with some issues arising out of Chapter 22 of the Companies Act, 2013 (“Act” or “New Act”) and examines the same in the light of the provisions of the Companies Act, 1956 (“Old Act”).

Definition of Foreign Companies

Definition of Foreign Companies under the Old Act: The definition Section of the Old Act does not define foreign companies. However, Section 591 lays down that, all foreign companies mentioned therein shall have to comply with the provisions of Sections 592 to 602. Subsection 1 clarifies that foreign companies shall mean the following two classes of companies:

a)   companies incorporated outside India which, after the commencement of the Old Act, establish a place of business within India; and

b)   companies incorporated outside India which have, before the commencement of the Old Act, established a place of business within India and continue to have an established place of business within India at the commencement of the Old Act.

Hence, Section 591(1) was held to be the definition section for the purpose of foreign companies under the Old Act. Hence, under the Old Act a foreign company is:

i.    a company incorporated outside India;

and

ii.   having a place of business in India, whether established before the commencement of the statute, or afterwards.

Definition of Foreign Companies under the Act: The Act clearly defines a foreign company under Section 2(42). A foreign company is any company or body corporate incorporated outside India which—

a)   has a place of business in India whether by itself or through an agent, physically or through electronic mode;

and

b)   conducts any business activity in India in any other manner.

Hence, a foreign entity to be considered as a foreign company, has to fulfill both the criteria mentioned above, i.e., having a place of business in any manner specified above, and conducting any business activity in India.

Scope of the Two Definitions: The scope of definition of the foreign company has been expanded to a great extent under the Act. While the Old Act only referred to a company, the New Act refers to a company or any body corporate incorporated outside India. Hence, other foreign entities can also be treated as a foreign company under the New Act, subject to the other conditions. Moreover, the old definition mentioned only about a place of business. A place of business could traditionally mean place of business like a branch office, liaison office or a project office or similar place of business. The New Act is drafted during a time when electronic modes of business have achieved tremendous popularity and it is possible for entities incorporated outside India to carry out business activities without having any physical presence in India. In order to monitor all such foreign entities, the Act defines a foreign company as a foreign body corporate (or company) which has a place of business by itself or through its agents. In addition to that, it also includes a place of business kept through electronic mode. The Companies (Registration of Foreign Companies) Rules, 2014 has further explained the term electronic mode as any of the transactions mentioned below, carried through an electronic mode:

- business to business and business to consumer transactions, data interchange and other digital supply transactions;

- offering to accept deposits or inviting deposits or accepting deposits or subscriptions in securities, in India or from citizens of India;

- financial settlements, web based marketing, advisory and transactional services, database services and products, supply chain management;

- online services such as telemarketing, telecommuting, telemedicine, education and information research; and

- all related data communication services,

Such transactions would be considered as having a place of business in electronic mode, irrespective of whether they are conducted by e-mail, mobile devices, social media, cloud computing, document management, voice or data transmission or otherwise. Further, the scope of keeping a place of business through electronic mode is not restricted within the definition given above. The definition of electronic mode lays down that it shall include the abovementioned transactions but shall not be restricted to such transactions. Thus, the provisions of the New Act, read with the rules made thereunder have included all those foreign entities which (i) maintain a place of business in India, either through themselves or through their agents, either physically or through various electronic modes; and (ii) which carry out any business activity in any manner in India.

Foreign Companies having 50% Indian Ownership

Position under the Old Act: As provided under Section 591(2) of the Old Act, the foreign companies where “not less than fifty per cent, of the paid-up share capital (whether equity or preference or partly equity and partly preference) of a company incorporated outside India and having an established place of business in India, is held by one or more citizens of India or by one or more bodies corporate incorporated in India, or by one or more citizens of India and one or more bodies corporate incorporated in India, whether singly or in the aggregate”, such companies were treated as companies incorporated in India with respect to the business conducted by them in India. If we analyse the provisions of this sub-section, we see that foreign companies where 50% of the total paid-up share capital (calculated on a fully diluted basis) is owned by Indian entities or Indian citizens, whether in aggregate or by one such person or entity, were treated as Indian companies with respect to the business conducted by them in India. The rights and liabilities of such companies were similar to that of Indian companies and they did not have to comply with the provisions of Sections 592 to 602 of the Old Act.

The Old Act was operative during a time period where Indian entrepreneurs hardly owned or controlled foreign entities and so, this privilege was available to those few entities which fulfilled the abovementioned conditions. However, with the growth of Indian economy, Indian entities and individuals started establishing and controlling foreign entities. In addition to that, due to the privilege of being treated as an Indian company within the purview of the Old Act, some Indian individuals (also, entities) established business in tax saving countries just to evade Indian taxation regime, although they made India their principal place of business.

Position under the New Act: The position of the foreign companies, under the Act, where Indian entities or individuals or both own at least 50% of the paid-up share capital, calculated on a fully diluted basis, is radically different than under the Old Act. As per the provisions of Section 379 of the Act, such companies will have to comply with the provisions of Chapter XXII of the Act, as well as such other provisions as may be prescribed with regard to the business carried out by those companies in India, as if they were incorporated in India. Hence, these foreign companies not only have to follow the provisions applicable to the foreign companies, they would also have to follow the provisions applicable to the Indian companies, as prescribed under the Act. So, evidently, the compliance requirements have been increased for this type of foreign companies and thus, the Indian citizens or individuals would have to keep these issues in my while structuring their foreign operations.

Dealing with the Confusion

The heading of Section 379 says ‘Application of Act to Foreign Companies’, which has considerably created a confusion in many minds whether the provisions of Chapter 22 of the Act would be applicable to only those companies mentioned under that Section or to all foreign companies coming under the purview of the definition. Several articles have adopted the position that the provisions of that Chapter are applicable only to the companies mentioned under Section 379. However, I beg to differ. One cannot interpret a full chapter reading the heading of one Section. The heading may only be interpreted for the purpose of that Section and not for other sections. Moreover, the Chapter heading does not specify foreign companies having 50% Indian ownership. It says ‘Companies Incorporated outside India’. The subsequent Sections also do not specify that only those foreign companies mentioned under Section 379 of the Act would have to follow the provisions of Chapter 22. It says foreign companies and it would naturally mean the foreign entities defined to be foreign companies under the definition section.

If, for the sake of argument, we say that the Chapter is applicable only to such companies where Indian citizens and entities have at least 50% ownership, then what happens to those foreign entities which do not have such ownership and yet operates within India? Does the Act exempt all such foreign companies? Wouldn’t such companies have any liability under the Act? Even the Old Act provided enough provisions to control the activities of foreign companies operating in India. Then why would the New Act not provide the necessary provisions? Is it a feasible conclusion that foreign entities having a place of business in India and conducting business in India would not be accounted for their activities conducted in India? The answer is ‘NO’. It is not a feasible conclusion.

The provisions of the New Act are more extensive than the Old Act and so is the case for foreign companies. Chapter 22 of the Act, thus, would be applicable to all the foreign entities coming under the purview of the definition of foreign companies as given in the New Act, including those foreign companies where at least 50% ownership belongs to Indian citizens and/or entities.

Example 1: Now, let me try to further explain this through some examples. Suppose A is a foreign company, i.e. a foreign entity having a place of business in India and conducting business in India. Mr. X, Ms. Y and M/s. Z are the shareholders of A where Mr. X holds 50%, Ms. Y holds 30% and M/s. Z owns the rest, i.e. 20%. Now, suppose Mr. Y is an Indian citizen and M/s. Z is an Indian company. So, total 50% of the ownership of A belongs to Indian individuals and Indian entities in aggregate.

Under the provisions of Section 591 of the Old Act, A would be treated as a foreign company. Yet, it would be treated as a company incorporated in India for the purpose of the business conducted by A in India, as provided under Sub-section 2 of Section 591 and would not have to comply with the provisions laid down in Sections 592 to 602 of the Old Act.

Under the provisions of Section 379 of the New Act, however, A would have to comply with the provisions of Chapter 22 of the New Act in addition to such other provisions as prescribed for the companies incorporated in India (only with regards to the business conducted in India). So, A would not be exempted from the provisions of Sections 380 to 393 of the Act, unlike the Old Act.

Example 2: If however, there is still any confusion, then let us consider one more example. Suppose Company A, Company B, Company C and Company D are all incorporated outside India. In Company A, Indian entities and citizens hold 50% of the total paid-up share capital. In Company B, an Indian individual owns 40% of the total paid-up share capital. In Company C, Indian entities own 70% of the paid-up shareholding capital and in Company D, no Indian entities or individuals own any securities. Now, while Company A, Company B and Company D – all of them conduct business activities in India and have places of business in India, through electronic mode or otherwise, Company C does not carry out any business activity in India. As per the provisions of the New Act, each of the companies shall have the following responsibilities:

Company A: It has a place of business in India and conducts business activity in India. So, it is a foreign company which also complies with the provisions of Section 379 of the Act. Hence, it would not only have to comply with the provisions of Chapter XXII, it’d also have to comply with such other prescribed provisions as are applicable to Indian companies with regards to its business conducted in India.

Company B: It has a place of business in India and conducts business in India. However, it does not fulfill the conditions of Section 379. So, it would not have to comply with the provisions applicable to Indian companies, as prescribed, although, it would still have to comply with the provisions of Chapter 22 of the Act.

Company C: It does not carry out any business activity in India. Hence, even though more than 50% of the paid-up share capital belongs to Indians, it would not be a foreign company within the meaning of the New Act.

Company D: Company D has a place of business in India and conducts business activities in this country. But it does not fulfill the conditions of Section 379. However, it would still have to comply with the provisions of Chapter 22 applicable to foreign companies.

Conclusion

This post does not delve into the details as to what are the duties and responsibilities of foreign companies under the New Act as the other provisions of Chapter 22 of the Act are pretty clear. Every foreign company or body corporate which is conducting business in India and has a place of business (in any manner discussed in this post) shall now have to comply with the provisions of the Chapter which would necessarily include the foreign entities owned or controlled (at least 50% of the paid-up share capital should belong to Indian citizens and/or entities) by Indian entities or individuals or both.

- Ananya Banerjee


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